Finning International Inc

TSX:FTT

Earnings Call Transcript 2021-Q1

[Operator]

Thank you for standing by. This is the conference operator. Welcome to the Finning International Inc. First Quarter 2021 Investor Call and Webcast. [Operator Instructions] The conference is being recorded. [Operator Instructions]I would now like to turn the conference over to Greg Palaschuk, Executive Vice President and Chief Financial Officer. Please go ahead.

[Greg Palaschuk, Executive VP & CFO]

Thank you, operator. Good morning, everyone, and welcome to Finning's first call, first quarter earnings call. Joining me today is Scott Thomson, President and CEO. Following our remarks today, we will open the line to questions. This call is being webcast on finning.com. We've also provided a set of slides, which we'll reference during the prepared remarks. The slides are posted on the Events and Presentation page of the Investor Relations section of our website. You can also view the slides on our Webcast page. An audio file of this call and accompanying presentation will be archived on our website.Before I turn the call over to Scott, I want to remind everyone that some of the statements provided during this call are forward-looking. Please refer to Slides 10 and 11 for important disclosures about forward-looking information as well as currency and non-GAAP financial measures.Please note that forward-looking information is subject to risks, uncertainties, and other factors as discussed in our annual information form under key business risks and in our MD&A under risk factors and management and forward-looking information disclaimer. Please treat this information with caution as Finning's actual results could differ materially from current expectations.Scott, over to you.

[L. Scott Thomson, President, CEO & Non]

Thank you, Greg, and good morning, everyone. On today's call, I will focus on the first quarter highlights and our expectations for the remainder of the year. Greg will then provide more details on our regional performance and outlook as well as our free cash flow and balance sheet.Please turn to Slide 2. We are encouraged by the broad-based recovery in our markets and the growth momentum heading into the second quarter despite continued challenges related to COVID-19. Importantly, we have improved our operating efficiency, strengthened our balance sheet, and are executing well to capture growth and deliver results during this recovery. We are capitalizing on growing demand for equipment across all markets and regions. Our equipment backlog increased by 57% from Dec 31, 2020, to $1.2 billion at the end of March, the highest backlog since Q4, 2018.Quoting activity remains robust. Our order intake was up by 33% from Q4, 2020, the highest intake of the last 3 years, reflecting a significant increase in all regions. In the U.K. and Ireland, our backlog reached record levels at the end of March, driven by strong order intake in construction and a significant backlog of power system projects for data center customers. We have secured additional equipment orders for HS2 with GBP83 million currently in our backlog. We expect to start delivering equipment to this project in the second quarter.In South America, we recently announced contract wins with Chilean state-owned copper mining company, Codelco, the world's largest copper miner by production. We will supply 22 Caterpillar ultra-class trucks to the Radomiro Tomic copper mine and support the fleet under a 5-year maintenance and repair contract. This order is not currently in our backlog given it was confirmed post quarter end. We expect to start delivering the equipment in the second half of 2021.In addition, we have secured a 5-year extension of our existing product support contract with Codelco's Ministro Hales copper mine, which operates 39 Caterpillar ultra-class trucks, 6 Caterpillar shovels, and a large fleet of Caterpillar support equipment. Encouragingly, we will also work closely with Codelco to pilot Caterpillar's autonomous technology at the Ministro Hales operations. We are now working with both Codelco and Teck to implement autonomous solutions for their operations in Chile.As we continue to navigate through the pandemic-related challenges, I'm very pleased with how our global teams are executing on the growth and profitability drivers we outlined during our Q4 Investor Call. South America delivered a strong first quarter, reflecting improved execution to capture growth opportunities and increased operating efficiencies. Our large mining customers in Chile faced a challenging operating environment in Q1 as they work to mitigate the impact of the second wave of COVID-19.Copper production in the first quarter was down 2% year-over-year and down 7% from Q4 2020. After a slow start to the year in product support, customer activity started to improve midway through the first quarter and continues to ramp up. Our return on capital of 14.4% in South America was the highest since Q3 2018 driven by improved working capital performance. The first quarter results highlight the great potential for our South American business once we get through the pandemic and product support gets back on a growth trajectory.In Canada, construction markets continue to improve. We have been leveraging extensive connected assets in our territory and Caterpillar's proprietary algorithms called Prioritized Service Events to generate product support leads, specifically focusing on customer-side value agreements or CVAs. CVAs make it easier for our customers to manage their preventive maintenance activities. In Western Canada, the number of construction machines under CVAs has increased by almost 50% since 2019. So far this year, more than 90% of all of our construction equipment sales included CVAs.We are also targeting rebuild opportunities in construction markets. In the first quarter alone, we rebuilt 34 construction machines compared to 21 total certified rebuilds during all of 2020. We are on track to nearly triple the number of construction rebuilds this year compared to 2019. We are encouraged by the early success of our strategy to accelerate product support revenue and market share in the Construction segment and we are well-positioned to further build on this momentum. We will have much more to say on this topic and our growth expectations at our Investor Day next month.We also continue to work with our mining customers in Canada to improve fleet performance and lower cost by extending component life through our Integrated Knowledge Center. 4Refuel delivered strong performance in the first quarter with a 21% increase in EBITDA on 3% higher revenue compared to Q1 2020. We are accelerating revenue synergies between Finning and 4Refuel. As part of 4Refuel's growing relationship with AECON, we will be supplying fuel over the next 3 years for highway upgrades to the Kicking Horse Canyon in British Columbia.The U.K. had a great start to the year marked by additional HS2 wins, record equipment backlog, and healthy growth in product support revenue. Execution in the U.K. has been exceptional and we have strong momentum coming out of Q1. The U.K. has been leading our other regions in vaccinations, which is reflected in the stronger pace of recovery compared to Canada and South America. Encouragingly, product support growth in the U.K. was 7% which is directly correlated to return of more normal operating conditions.The cost savings from our global initiatives are tracking to exceed $100 million per year and we expect to further improve our earnings capacity in the coming quarters. Despite the slower than anticipated vaccine rollout in Canada and continued challenges related to COVID-19, we expect our 2021 earnings to exceed 2019. Our Q1 2021 adjusted EPS of $0.35 was up 16% from Q1 2019 on 15% lower revenue. We have also lowered our finance costs and significantly strengthened our balance sheet with $900 million in free cash flow over the last 12 months.As we increased our inventory orders beginning last fall to deliver on growing demand, we expect our EBITDA to free cash flow conversion to be modestly below 50% this year. Our data-driven approach to inventory ordering allows us to be more proactive which benefited us greatly leading up to COVID last year and now gives us good visibility into the recovery.Our focus on sustainability is increasingly appreciated by all of our stakeholders. We are minimizing our environmental footprint and delivering on our commitment to reduce GHG emissions by 20% between 2017 and 2027. We have made significant progress towards this goal with Q1 2021 emission reductions in all of our operations down 11% from Q1 2020 on a consolidated basis. We are supporting our customers in reaching their emission reduction targets by providing alternative fuel engines to reduce CO2 emissions, for example, we recently delivered 12 new Caterpillar Tier 4 Dynamic Gas Blending or DGB engines to Trican Well Services. As part of its plan for an ESG-focused fleet upgrade, Trican announced that it will upgrade 1 fleet to 2 Tier 4 DGB engines. This fleet will realize diesel-natural gas substitution rates of up to 85% resulting in significant cost savings and CO2 emission reductions.The Cat Dynamic Gas Blending engine is an appealing alternative for frac operators and drilling contractors looking to reduce diesel consumption, providing a great alternative in the transition toward clean energy. Our outlook for the remainder of the year remains unchanged. We are optimistic about market recovery gaining momentum in the second half of 2021 as the vaccine rollout ramps up in each of our regions. However, we expect 2021 revenue to remain below 2019 levels. In the near term, we expect COVID-19 mitigation measures to continue impacting our business. In Chile, we're monitoring the mining industries' response to a second wave and in Canada, there is continued risk of restrictions, particularly in Alberta.I'm confident that we have positioned the business for strong performance going forward as we continue to execute on our profitability drivers. Specifically, we expect to benefit from operating leverage in a recovering market which will improve our profitability and return on invested capital. We are driving product support growth in all regions by leveraging our digital capabilities to win customer business. We are progressing toward our mid-cycle target of 17% SG&A as a percentage of net revenue and we will be deploying the significant free cash flow we have generated in a balanced fashion to grow our business and return capital to shareholders.And on that note, I'll pass it over to Greg.

[Greg Palaschuk, Executive VP & CFO]

Thank you, Scott. I'm going to provide more detail on our Q 1 and 2021 outlook by region and discuss our free cash flow, balance sheet, and capital allocation priorities.Our consolidated first quarter results are summarized on Slide 3. Net revenue was up 2% from Q1 2020 with all operations reporting improved customer demand for equipment. Adjusted EBITDA was in line with Q1 2020, reported EPS of $0.43 and included $0.05 of Canada Emergency Wage Subsidy and $0.03 final return on investment in Energyst. Adjusted EPS of $0.35 was up 6% year-over-year driven by higher EBIT in South America and the U.K. and Ireland as well as lower financing costs.Slide 4 shows our revenue growth drivers for the first quarter. We saw higher equipment sales compared to the first quarter of last year driven by an increase in new equipment deliveries in South America and strong used equipment sales particularly in mining in Canada. Underpinned by our increasing backlog, we expect the trend of higher proportion of new and used equipment in the revenue mix to continue going forward. Product support was down 5% year-over-year due to impacts of COVID-19 restrictions on our mining customers in Chile as well as continued capital discipline in the oil sands.In terms of the shape of the quarter, it's important to note that the start of the year was slow, particularly in South America related to summer holidays and COVID management. Despite some continued challenges associated with COVID wave 2 for mid-February on, activity levels have picked up significantly and accelerated through the end of the quarter which is really encouraging for us. Our rental revenue in the first quarter was negatively affected by COVID-19-related work restrictions, particularly in our heavy rents business in Northern British Columbia related to pipeline projects and Site C.Turning to Slide 5. Gross profit year-over-year was lower year-over-year due to lower proportion of product support in the revenue mix. SG&A was down 3% compared to Q1 2020, reflecting savings from global cost initiatives Excluding LTIP movements, first quarter SG&A was down $35 million or 10% year-over-year. Our LTIP expense was elevated in Q1 2021 driven by strong share price and key KPI performance while in Q1 2020, we recorded an LTIP benefit due to a decline in share price at the beginning of the pandemic. We expect significant progress towards our 17% SG&A target in the coming quarters driven by revenue recovery which is increasingly underpinned by our strong backlog combined with our ongoing initiatives to reduce fixed cost and improve operating and process efficiencies.Our Canadian results and outlook are summarized on Slide 6. Net revenue increased by 2% driven by strong used equipment sales, particularly in mining. New equipment sales were up 2% from Q1 2020. Product support revenue declined by 4% year-over-year largely due to continued cost focus in the oil sands compared to Q1 of 2020, however, sequentially, the run rate continued to improve. Compared to Q4 2020, product support revenue increased by 4% driven by improved demand and stronger rebuild activity in both construction and mining sectors.SG&A in Canada decreased by 7% in Q1 driven by cost savings from productivity initiatives and improved operating efficiencies, reflecting the benefits -- increasing benefits of our Triple R network operating model. We continue to qualify for CEWS and recognize $10 million of this wage subsidy in Q1 which is included in other income and excluded from our adjusted earnings. Support from the CEWS program has enabled us to preserve jobs as well as rehire and retrain our workforce to capture opportunities in the post-pandemic recovery. The program continues to protect approximately 250 jobs in areas of lower or shifting activities and we are investing in retraining and relocating employees for jobs of the future in regions of increasing activity. Since June 2020, we have hired close to 150 mechanics, we continue to hire technical talent in strategic locations to meet recovering demand.Our OEM remanufacturing facility in Edmonton was able to maintain its 3-shift operating model throughout the pandemic due to the support of the program. OEM has now approaching optimal utilization levels and has a new 3-year labor agreement. This should enable us to effectively respond to the increasing demand. Additionally, the CEWS program has allowed us to maintain continuity of our apprenticeship training program throughout the pandemic, which has benefited over 50 apprentices across Western Canada.Our outlook for Canada remains positive despite continued risks related to COVID-19. We are seeing improved market activity across all sectors including an increase in oil sands production, robust quoting activity for multiple mining projects, and strong order intake in construction. We're also starting to see an improved utilization of our heavy rent equipment fleet at pipeline construction sites as COVID-19 restrictions ease. In the oil sands, we expect product support activity to ramp up, particularly in the second half of the year driven by increased production and pent-up demand for part service and rebuilds. We're also driving a significant increase in rebuild activity in the construction sector.Moving to South America and I'm on Slide 7. Net revenue was up 7% from Q1 2020 driven by a 58% increase in new equipment sales. Improved market activity and deliveries to Teck's QB2 project were the key revenue drivers. Product support revenue was down 3% impacted by continued COVID-19 restrictions in Chilean mining operations and lower copper production in the quarter.As noted before, after a slow start to 2021, product -- mining product support revenue has increased significantly from mid-February on and we expect continued momentum, particularly in the second half of 2021 as customers are finally able to resume full maintenance work. Q1 EBIT margin of 8.6% was up 80 basis points from 2020. Despite the second wave of COVID, our South America team continued to demonstrate strong execution and improved earnings capacity of the business.We are optimistic about the market recovery in Chile in both mining and construction. We are actively quoting on multiple opportunities for new mining equipment and autonomy solutions for both brownfield expansion and greenfield projects. According to the most recent report by Codelco, Chile's portfolio of mining projects includes $20 billion of investment in brownfield projects over the next 2 to 3 years. The construction activity in Chile is improving as well supported by government public investment in infrastructure. We continue to monitor the political and economic reform process leading up to the general elections in Chile, in November 2021. In Argentina, we are seeing recovery in construction activity and expect stability in gold mining and oil and gas sectors in 2021.Turning to the U.K. and Ireland on Slide 8. Net revenue was up 2% from Q1 2020 driven by higher product support revenue which was up 7% year-over-year, power system project deliveries in the data center market are robust. EBIT margin was 3.2% compared to 0.5% in 2020, reflecting a shift in revenue mix to product support and improved operating efficiencies. The outlook for our U.K. business is strong, supported by a record backlog, growing equipment market, HS2 construction, and upcoming deliveries in the data center market.I will now turn to Slide 9 to discuss our balance sheet and capital allocation priorities. Our Q1 free cash flow was a use of $20 million compared to a use of $50 million in Q1 2020. As Scott mentioned, beginning last fall, we proactively increased our inventory orders to deliver on the growing backlog to meet expected improvements in customer demand. As a result, we are expecting cash usage through to the middle of the year.We are benefiting from improved management of the inventory and other working capital, especially in South America. Our inventory churns increased 26% from Q1 of 2020 to the highest level since 2012. Working capital to net revenue ratio of 26% was down 300 basis points from Q1 2020 and was led by South America. We continue to monitor increasing challenges in the global supply chain and logistics and we're taking appropriate mitigation steps where we're seeing potential new equipment supply challenges. We are looking for opportunities to provide rental, rebuild, and used equipment solutions for customers.Our balance sheet is in excellent shape. As at March 31, our net debt to adjusted EBITDA ratio was 1.5, we canceled the $500 million committed revolving credit facility we had secured last April, and in the quarter S&P revised our outlook to stable based on our strong working capital, balance sheet, and the overall resilience of our business model.Our top capital allocation priority remains investment in organic growth to capture the market recovery which includes inventory purchases and strategic investments in our facility network and digital capabilities. We will also review our dividend in the second half of the year in lockstep with our improving earnings capacity. We're also increasingly looking at M&A opportunities relative to share repurchases.All our operations demonstrated strong execution in the first quarter. We're continuing to navigate the challenges of the global pandemic. We are winning equipment deals, growing our product support market share, and maintaining our focus on cost and operational efficiencies. We will be hosting our virtual Investor Day on June 14 which will feature presentations by all members of the leadership team. At this event, we'll provide an overview of our strategy to drive sustainable product support growth, further reduce costs, and reinvest to compound growth. We hope you can join us for this event.With that, operator, I'll turn the call back over to you for questions.

[Operator]

[Operator Instructions] The first question comes from Yuri Lynk with Canaccord Genuity.

[Yuri Lynk]

Noticeable shift in Canada to used equipment and rental. Wondering if you can comment on equipment availability and update us on your rental fleet CapEx plans for the year.

[Greg Palaschuk, Executive VP & CFO]

Sure. Thanks, Yuri. Yes. Used was robust in the quarter. As highlighted, we are looking to shift towards rebuilds where that makes sense but also we're just seeing good demand on the used space and we've had inventory and certainly put focus in that area. And so it's a strong market, I think we've got a lot of customers who have broad line of sight or projects for later in the year, financing is available and they're very confident, and so they're purchasing equipment. And in some cases, they're trading in equipment to place orders for the projects they're seeing. So we're seeing very robust demand and we're certainly looking to meet that demand. And then on the rental, I think there is a bit of a dichotomy there where people have line of sights to projects and are confident. But at the same time, on the ground, particularly in Q1 with COVID restrictions have meant lower activity. So you saw that lower activity on the rental side but we do expect that to pick up here in the spring.

[Yuri Lynk]

Okay. So no major rental fleet additions, you're just looking to better -- get better utilization on the fleet that you've got in place?

[Greg Palaschuk, Executive VP & CFO]

Yes. Same CapEx that we guided to in Q4 which had -- does have net rental fleet additions this year. A solid refresh of the fleet but I think no big step up and certainly higher than the kind of net neutral we were in 2020.

[Yuri Lynk]

Okay. And just shifting to South America, what are your early thoughts on the potential impact of the proposed -- progressive royalty tax on copper sales in Chile?

[L. Scott Thomson, President, CEO & Non]

Yuri, it's Scott. So I mean, obviously it's a complex situation right now in Chile both for the pandemic coming out of the social unrest and looking at the government trying to address some of the income inequality issues. So we're obviously watching it closely. The mining royalty build did pass the lower house and now goes to the Senate. I think the majority view is there will probably be some increase in royalties but not to the extent that is currently proposed by the opposition. So something to keep an eye on for sure but it doesn't seem to be at least from what we're seeing as it goes through the Senate, it will probably be less dramatic as currently proposed.

[Operator]

The next question comes from Jacob Bout with CIBC.

[Jacob Jonathan Bout]

Trying to square your revenue guidance and the build in backlog. You're still guiding to revenue being lower than 2019 levels but substantial build in backlog and you also have that Codelco contract, is this -- are you just being conservative or is it just heavily weighted to 2022?

[Greg Palaschuk, Executive VP & CFO]

Yes, I think the guidance that we gave is the right guidance. We've definitely seen an uptick in committed orders which is great and underpins our revenue views and we've seen some momentum for sure which is great. But 2019 was a very high revenue year record in Canada and we think it's going to take some time to get back to that pace. And so we feel increasingly encouraged but 2019 was a really large revenue year and we're not thinking that we'll get back to that level in this calendar year.

[Jacob Jonathan Bout]

Okay. And then you talked a little bit about your margins. Your ability to maintain these margins, like this backlog and this Codelco win. Is this margin accretive or will the next year lead to lower margins going forward?

[Greg Palaschuk, Executive VP & CFO]

Yes, we discussed the same last quarter and no doubt that there is going to be some shift to new and used as the market picks back up. And so that puts a little bit of pressure on margins. But we think with our cost and pricing initiatives that we can manage to continue to yield up even with that more new equipment in the mix. On the mining side, the upfront is usually a lower margin and the product support is where we make the money full-cycle. And so that's no different here and we're really pleased to sign up to a 5-year maintenance and repair contract, which is a great way for us to provide that service.

[L. Scott Thomson, President, CEO & Non]

And Jacob, it's Scott. Just one thing to add to as you think about the South American results for this quarter, I mean we are really pleased with the 8.5% and that's in an environment where product support was down because copper production was down and Chile was dealing with COVID. As you get back to normal levels of growth for product support, which is our expectation, you can see the potential of that South American business and that potential comes because the hard work that team's done over the last 2 years to improve the technology and reduce the cost base. And so I think it's a good sign of things to come in that South America business.

[Jacob Jonathan Bout]

One quick last one. Scott, how would you characterize this bidding pipeline currently? If you look back historically, are we getting anywhere close to say, 2007 or 2011 levels?

[L. Scott Thomson, President, CEO & Non]

Sorry, from the backlog?

[Jacob Jonathan Bout]

No, from your bidding pipeline.

[L. Scott Thomson, President, CEO & Non]

But when you say bidding pipeline you're mean...

[Greg Palaschuk, Executive VP & CFO]

Quoting.

[L. Scott Thomson, President, CEO & Non]

Quoting, sorry. Sorry, yes, quoting. Listen, I think, honestly, I see a lot of potential going forward. I mean if you look at the Canadian business, we see our customers still pretty constrained in terms of how they're thinking about capital, and what's really interesting here is given all of the cost work they've done in the capital discipline and now WTI at pretty constructive pricing. If that continues, this will be the third -- second or third strongest year in history from a free cash flow perspective for the Western Canadian oil and gas producers. And so they're obviously using that capital right now to repair balance sheets and get that in good shape. But our expectation given the hesitancy to spend on rebuilds and capital, that will flow through, it has to flow through. And so I feel really good about that potential.And then in Chile, you've got obviously the QB2 project, which is a big capital investment that is going on and we're supporting that. And that's really important for us. You can see us starting to deliver but you've also got the copper price where it is and you've got to have greenfield investments to meet that copper demand. And so subject to the political machinations that Yuri had highlighted, our expectation is that there will be a lot more capital going into Chile as well. So from a quoting perspective, this was a great quarter but my expectation over the next couple of years is going to continue to improve, frankly.

[Operator]

The next question comes from Ross Gilardi with Bank of America.

[Ross Paul Gilardi, Director]

I just want to ask you about the guide in 2021 being higher than 2019, I mean there you say the first half of '21 will also be better than the first half of '19 overall from an EPS perspective.

[Greg Palaschuk, Executive VP & CFO]

Yes. We are pleased to certainly exceed Q1 of '19 this quarter. So there'll obviously be the Q2 and we see some good momentum but ultimately I think it's a little early to call that. But we're pleased with the momentum and pleased with Q1.

[Ross Paul Gilardi, Director]

Sorry, Greg, you cut out there. But you're not commenting on whether or not the first half will be hard than the first half of '19?

[Greg Palaschuk, Executive VP & CFO]

Right. We'll just say we're happy with Q1, we're happy with the run rate coming out as mentioned but I think it's a little early to talk Q2.

[Ross Paul Gilardi, Director]

Okay. And then just could you talk a little bit about the shape of recovery we should expect for product support and all the regions as the year unfolds? I mean your easiest comp's obviously going to be in the second quarter. So should we expect kind of like a spike in growth and then a deceleration throughout the year or are we going to see like a steady and gradual acceleration do you think for the rest of 2021, assuming we don't get any resurgence of the pandemic or crazy geopolitical events, which is always a pretty difficult assumption these days? But just can you talk about that a little bit how you think, I'm trying to get to kind of what the exit rate as you're seeing it today might look like towards the end of 2021 on product support?

[Greg Palaschuk, Executive VP & CFO]

Yes, absolutely. I mean the shapes haven't been seasonal or typical for the last 6 quarters or so but we have seen gradual sequential improvement throughout the last 3 quarters and we're going to see that shape continuing. We see a step-up in Q2 and then in Q3 is where we'd hope to see some of the normalization in South America and some of the increased demand Scott talked about coming from the oil sector. So I think we've got solid sequential into Q2 and then just back half of the year, we're looking for a step-up.

[L. Scott Thomson, President, CEO & Non]

Ross, just one thing to look at. It's interesting because the U.K. has been such an important indicator for us both going down into COVID and now coming out of COVID and you see product support there up 7% year-over-year and I think everyone's struggling with this recovery. You're seeing product support down in South America and in Canada yet equipment backlog still quipping up. And I think it's just is a sign of COVID. The operating conditions, the on the ground conditions are very difficult in Fort McMurray and in Antofagasta. And as we have made progress on the vaccine and allowed those operating conditions normalize, I think you're going to see pretty significant improvement similar to what we've seen in the U.K. I mean the U.K. is now essentially operating at kind of pre-COVID type operating conditions which is helpful for us.

[Ross Paul Gilardi, Director]

And then I just wanted to ask you lastly about pricing for new equipment. I mean I think even before the COVID, you guys over the years would have characterized the pricing environment for new equipment as still very, very competitive and I'm just wondering is it firming up just given that may be used equipment availability the parked fleet isn't this time to pull as it once was, demands picking up, commodities have obviously soared? And then can you talk a little bit more about Komatsu's relationship with Codelco and how that's evolved over time? Our assent -- I don't know if this is incorrect, was that historically Komatsu was a bigger supplier at Codelco and I'm just wondering if that's gradually changing?

[Greg Palaschuk, Executive VP & CFO]

Yes, so let me take the second question first, and then I'll come back to the pricing question. So on the Codelco question, I think you're right. I mean Komatsu has had a significant share of the market there Codelco. I think for us and Caterpillar, a great site has been the Ministro Hales site, which we've had for the last 6 or 7 years, and frankly, that's probably from a fleet performance perspective, one of our best sites globally. I mean the team has just done a great job in terms of uptime and keeping that fleet up and running. And I think that has positioned us well for this opportunity.I think the second piece here is the autonomous solution and you know well the advantages of Cat autonomous solution relative to some of the competitors and I think that is also positioned us quite well. So we're feeling really good about the Codelco relationship and expanding that relationship for both Finning and Caterpillar. On your pricing question. Obviously, it's been a difficult 7 years with commodity prices where they've been. And particularly in Western Canada our customers have been under pressure and obviously that's meant we've been under pressure. I think it's very competitive that, that market will always remain competitive. But I do think there is a dynamic here as you think about inflation, as you think about lead times, extending and they are extending, right? We heard Cat talk about that on their call. I think that ultimately we'll result in from changing dynamics that we'll obviously work with and through -- work through with our customers. But obviously a little bit more favorable environment today than over the last 6 or 7 years.

[Operator]

The next question comes from Cherilyn Radbourne with TD Securities.

[Cherilyn Radbourne, Analyst]

Wanted to start with one on sort of the supply chain situation and specifically how you plan to adapt the run strategy to this environment and balance strong demand for used equipment against the need to maintain a certain breadth and depth in the rental fleet.

[L. Scott Thomson, President, CEO & Non]

So why don't I start on just general supply chain and then, Greg, maybe you could talk about the used and rental. So obviously on supply chain with this kind of backlog build and it's not unique to Finning. I think that just another world economy reflating commodity prices higher. We're going to have to be very -- it's going to be a complex situation and we're going have to stay very close to Cat on this and you heard Cat's comments around making sure that they do everything they can to meet that supply. And this isn't unusual, we've been through these types of situations before but nevertheless requires close coordination.I think for us, in general, it's some good news and that a lot of the underpinning of the revenue that we have is already kind of in delivery; you think about QB2, you think about HS2, you think about actually Codelco that we just signed, those have been in the works for a while and we have the equipment. And then the second piece is this has been a long investment around data and capabilities here on the supply chain side. And we -- it served us well going into the downturn in terms of reducing our inventory and my expectation is this will serve us well coming out of the downturn. So we've been ordering inventory now since October, November, I think we've been highlighting that to all of you in terms of your expectations for the first half of this year on free cash flow. So I'm feeling pretty good about our ability to meet demand. That being said, I think it's going to be a complex situation. As it relates to the run strategy, maybe, Greg, you can add a few comments on that.

[Greg Palaschuk, Executive VP & CFO]

Absolutely. So I mean the run strategy has matured and we do have a fairly steady source of used equipment that comes both from our rental fleet as well as some customer arrangements. But the real win there has been product standardization and how we order inventory, how we load the rental fleet, and what we call our kind of runners, repeaters, strangers model which really segments our inventory. So that's pretty well-worn path now. And so we did pause on some of the rental adds last year due to COVID but ultimately, we've had some good cycle through. And what we're doing this year is we're adding some more sourcing to the equation, whether that be trade-ins or some pure sourcing as well as really focusing on certified rebuilds to hit some of those run price points that we've built in and we've had some really good success there. As Scott highlighted, we've really ramped up that activity. And so we think it's still a well-worn path, there'll be some supply challenges but I think we're in a mature position to fill that with some used and some dealer trades and the like. So we're feeling pretty solid about the equation.

[Cherilyn Radbourne, Analyst]

Okay. And then in terms of some of the opportunities that the company is quoting on currently, just sort of setting aside supply chain for a second and focusing on the timing of some of those projects, has those quotes turn into bookings, is that building backlog, is that effectively for 2022 and 2023 or for the second half?

[Greg Palaschuk, Executive VP & CFO]

Yes, it's always dependent on the nature of the tenders. I mean the backlog built up we've got today, the good healthy component of construction and power systems which typically we'll deliver within the calendar year and that about 2/3. Now on the mining side, it can range from 1/4 to multiple years. The nature of the backlog built we've got including Codelco tend to be within the next 12 months. And so a lot of the other tenders we've got going on, some of them are multi-year but the backlog builds we've got today tend to deliver within the next 12 months.

[Cherilyn Radbourne, Analyst]

And then, I apologize if I missed this but was just hoping you could address producer and contractor fleet utilization in the oil sands.

[Greg Palaschuk, Executive VP & CFO]

Absolutely, very high. As you'll see most producers are hitting record production levels and we monitor a vast majority of the assets and they're being very heavily utilized. They've now gone into kind of turnaround maintenance seasons of their processing facilities and so we're seeing them take the time to maintain some of their equipment as we speak. But heavy, heavy utilization for sure and an uptick the contractors.

[Cherilyn Radbourne, Analyst]

So all of that to say that the slower than expected start to product support to start the year is not linked to utilization, it's really linked to COVID and the CapEx controls to your point?

[Greg Palaschuk, Executive VP & CFO]

And timing of maintenance, yes.

[Operator]

Your next question comes from Michael Doumet with Scotiabank.

[Michael Doumet, Analyst]

In typical mining recovery, product support tends to rebound before new equipment spend. So in your view, do the increased bookings reflect some re-fleeting potentially at the expense of rebuilds, dealer-site restrictions or does the increase in mining orders mostly reflect expand production?

[Greg Palaschuk, Executive VP & CFO]

Yes. The mining orders that we've got today tend to be fleet refresh in the case of Codelco and in some of the Canadian miners. But where we're seeing some growth in the mining sector is in the contractor space where they'll receive a multi-year contract and then purchase through us. We're seeing that both in the oil sands and increasingly in the copper mining in Chile. And so there is an optimism, there is a lot of contracts being awarded by miners to contractors at the moment and so that's where we're seeing a lot of that activity. And that again goes to the offense and the expectation in the recovery.

[Michael Doumet, Analyst]

Okay. And can you comment to the size of the mining business in Canada excluding the oil sands and just maybe give us a sense for how large the opportunity is in the Golden Triangle of BC in relation to that?

[Greg Palaschuk, Executive VP & CFO]

Yes, but it's a significant opportunity. So I mean any gold mines going to have a large package of equipment. And so from public markets, there's about 10 players who are looking for capital, about 5 who are moving towards development. And so each of those will require a significant package. And so we continue to quote and that's certainly gone from indicative quote for feasibility studies now through to getting towards final awards in the coming quarters. So we feel strong about that opportunity and they are chunky -- each one is a chunky opportunity.

[Michael Doumet, Analyst]

Okay. And then maybe just one last one. You highlighted that you've grown the aftermarket market share in construction in Canada. Can you talk about where those opportunities are coming from as in, is incremental business coming from existing customers or different, mostly new customers? There is still quite a little bit left to go in terms of market share gain opportunities.

[Greg Palaschuk, Executive VP & CFO]

Yes, we think it's a really big opportunity and going through the history, I mean obviously, we've had a huge mining opportunity in Western Canada, 6, 7 years ago, we really shifted to make sure we got our market share on the construction site to the right spot and now we're shifting to the aftermarket. Huge opportunity within rebuilds and certified rebuilds and making sure we have the right alternative and price points there and we've made big early progress. But also just using the data, these prioritize service events where our sales force get automated leads from connectivity just helps a lot. It helps our sales force point in the right direction and more calls about data-driven events as opposed to lunches and fact-finding. So those are 2 examples but really it's a full-court press on the top 1,000 lost opportunity accounts and really going after every piece of business that we can and having the right proposition for those customers.

[Operator]

The next question comes from Sabahat Khan with RBC Capital Markets.

[Sabahat Khan, Analyst]

Just a comment earlier around the mix of sort of revenue going more towards new equipment versus product support and that impacting margins. Was that more just a near-term comment regarding just a shift that's taking place for the rest of this year and as people are cautious on product support or is that something that could last a little bit longer.

[Greg Palaschuk, Executive VP & CFO]

No, it's really just a reversion to mid-cycle. There has been -- there wasn't a lot of new equipment in the next in 2020 and so some of that is recovering and we think the new equipment recovery to mid-cycle is going to be faster and stronger. And so that's a big part of the dynamic, but we think product support is going to pivot back to growth here in the middle of the year.

[Sabahat Khan, Analyst]

Okay. And then there's quite a bit of discussion on just the supply chain and the outlook there. But I guess based on your current visibility, do you see a quarter or at some point late this year or early next year, where there is a bottleneck or is it more of a, keep an eye on the situation and things could work out just fine with supply and demand?

[Greg Palaschuk, Executive VP & CFO]

Yes, I think it's something we'll watch. We don't see any major disruptions. I mean you'll have to go listen to Cat's call, they're certainly on the lookout but they're really good at working behind the scenes to reallocate demand and work their supply chain. So we think the flow will be steady and it will just be a question of what the growth rate is and maybe that growth rate gets a bit slowed for a quarter or 2. But we're feeling fine about that equation and have a healthy amount of equipment on order.

[Sabahat Khan, Analyst]

Okay. And then, the comment earlier around prioritizing M&A over share buybacks. I guess now, do you have things in the pipeline that you're looking at or is this just more of a preference for M&A and if nothing comes up, you'll go towards share buyback? Just how active should we expect li ore?

[Greg Palaschuk, Executive VP & CFO]

Yes, we're certainly increasingly looking. There are certain themes in areas where we think that there is good opportunities for us. And so there is nothing imminent but we are spending time on it and I guess the comment was more around as we do that, it's a very high threshold of rate of return and will contrast that versus the returns of buying back our stock. So nothing imminent, but we're certainly spending more time there.

[Sabahat Khan, Analyst]

Okay. And then just last one for me. On those comment in the release around you negotiated with your unions in Chile and I think we've seen some headlines around some of the other sites that are in negotiation with just other large miner and I guess what's your general view on how those situations are progressing, is there anything you're keeping a closer eye on?

[Greg Palaschuk, Executive VP & CFO]

Yes. So from a union perspective, I think during the quarter, actually we had 2 updates. So one, we came to an agreement with our OEM union here in Canada, and then we also came to an agreement with our union in South America. So from a union perspective, we feel really good and I think those were win-win outcomes for our employees and for us, so good on that. I think in Chile, there are a number of union agreements for our customers that are coming up through the year, and that's obviously something that we need to keep a close eye on, particularly in an environment where copper is $4.50 and there's a lot of obviously uncertainty in Chile around royalty taxes -- royalty and taxes. So nothing -- I have nothing to share other than what you read in the press, but it is something to keep an eye on as we go through the year in Chile.

[Operator]

The next question comes from Bryan Fast with Raymond James.

[Bryan Fast, Research Analyst]

Just on South America. I just wanted to get more clarity on margins down there. I mean you saw an uptick year-over-year despite the decline in product support. Is this just reflective of the investments you've made into that business or is there something else that we should read into?

[Greg Palaschuk, Executive VP & CFO]

I think it's a solid market, we're spending time on all categories; winning deals, looking at margin management, and certainly the cost equation. And so with the system functioning really effectively, almost every metric is improved versus the prior system now. And that really helps on making sure we're not leaking any margin on the gross profit side and it helps us run a really tight ship on the SG&A side. So I think it's in all areas but certainly the cost leverage is providing a lot of help. And so we're excited about what that business can do in product support if it's back to growth.

[L. Scott Thomson, President, CEO & Non]

I guess, Bryan, the other thing to look at to is the return on invested capital. And so as you look at the return on invested capital this quarter, 14.4%. We're getting back to 2018 levels and there is upside from there given we're just through this pandemic. And I do believe the working capital performance has been superb in South America and part of that is capabilities, part of that is system. But the working capital sales come down -- has come down 300 basis points across the whole company and a large part of that has been driven by our South America business. I do think there's significantly more upside when you get back to product support growing from both a margin perspective and also return on capital perspective.

[Bryan Fast, Research Analyst]

Okay. And then can you talk about the phasing of costs back in -- I know last year, you expected a portion of cost to be phased back. Are those costs now being reflected in current results?

[Greg Palaschuk, Executive VP & CFO]

Yes. So certainly our goal is to match fixed cost reductions with the variable cost that we see increasing from volumes, that's the objective. And there are some discretionary costs that are low now but we include that in that equation. And so we're looking to maintain that level of run rate to the extent that we can and that's the goal. And we've got structural areas of continued improvement. We've been really happy with what we call the Triple R network implementation in Canada. It's providing a lot of leverage across the system, makes service more efficient, customer turnaround times better, and ultimately it's going to allow us to take even more square footage out of the network in a very efficient way and that provides another step in our cost journey. So we'll continue to work on those and we'll provide a little more detail on the building blocks at Investor Day. We feel good that we've got enough fixed cost initiatives to offset the variable as we go here.

[Operator]

The next question comes from Maxim Sytchev with National Bank Financial.

[Maxim Sytchev, MD & AEC]

I just wanted to circle back if it's possible to M&A. I think on the last call, you discussed potentially looking at some lithium support opportunities. I'm just curious if there is any progress on that side and if there is other potential adjacencies, which potentially excite you guys.

[L. Scott Thomson, President, CEO & Non]

Yes. So why don't I start on just M&A in general and then, Greg, maybe you can add on lithium. So on the M&A piece, as Greg said, it's obviously got to be a high hurdle rate and has to -- we have synergies across the business and obviously have to compete against the share repurchase. I think one of the reason that we're continuing to spend time on this is success of 4Refuel. And 4Refuel, we just looked at the results, it's up 23% EBITDA through a pandemic, and a lot of that is the cost synergies and now we're starting to see revenue synergies. And this AECON deal is the perfect example of what we're envisioning. And so that to us has been a home run. And so as we look forward complementary type opportunities that can help the core business to help increase intimacy with customers and just become more relevant to that customer is something that we'll consider doing. As it pertains to lithium, we have spent quite a bit of time looking at both the renewable opportunity in Chile and also the lithium opportunity in Chile where 85% of the world's lithium is located. So Greg, maybe you want to give a couple comments on that.

[Greg Palaschuk, Executive VP & CFO]

Yes. So it's an area we're spending quite a bit of time and just even in the base business, there's a lot of activity. And so within the quarter, we've got quoting packages of $10 million to $20 million in both Chile and in Argentina. And so that's chunky for our business but won't compete with copper at that scale. And so we're encouraged by the general business but also we're looking at other areas of the value chain, and there is a few concentrated key customers we have great relationships with. And so we're looking at opportunities to play a broader role in the process, in the maintenance, as well as some of the logistics. So we're spending time looking at, it's a big opportunity, a great CAGR over the next 10 years, and just want to make sure that we play in the right place and that the returns stack up versus other alternatives.

[Maxim Sytchev, MD & AEC]

Okay. And one last question. So thinking about the copper pricing dynamic and kind of long-term operational elaboration in LATAM's business model, does it change anything for you guys given the fact that I mean there are some pretty bullish forecast right now around copper situation and operating leverage in that business model or how should we think about it from a structural perspective, I guess that's the question?

[Greg Palaschuk, Executive VP & CFO]

Well, I guess from a copper prices perspective, I mean we're all watching the tape and we're seeing $4.70 copper. I think part of the copper dynamics here is driven by supply as well. So our expectation isn't that copper stays that $4.40, our expectation is once the supply and demand gets a little bit more normalized, maybe in that $4-type range, that's still a very good place to be. And I think it will drive a lot of investment into the copper-producing regions of which Chile is one of the most secure. Obviously, there is the political machinations that we have to get through in Chile. But I believe that rationality will prevail and probably be some increases in royalties but nevertheless, at a rate that will still attract investment. And for us, I think we're positioned really well there's just been a lot of hard work over the last few years, a lot of heavy lifting by the team to get the infrastructure in place, get the costs in place, and we've got an extremely capable leadership team down there with a great facility infrastructure that will allow us to capitalize on the copper opportunity, the lithium opportunity, and potentially other growth opportunities in Chile.So I think we're really well-placed and I think we're the second-biggest Canadian investor in Chile from an employee perspective. And so we've got a great infrastructure to capitalize on that opportunity that I think will inevitably come down there. And it's been a long time coming, we've been preparing for this for the last 7 years and I think now the stars are aligning here for us to be able to capitalize on it. So we're really encouraged about the opportunity.

[Operator]

This concludes the question-and-answer session. I would like to turn the conference back over to Greg Palaschuk for any closing remarks.

[Greg Palaschuk, Executive VP & CFO]

Great. Thank you, operator. Thanks for joining today. Appreciate your time and have a safe day.

[Operator]

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