Clean Harbors Inc Q4 FY2020 Earnings Call

Greetings, and welcome to the Clean Harbors Fourth Quarter 2020 Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Michael McDonald, General Counsel for Clean Harbors. Thank you, sir. You may begin.

Thank you, Christine, and good morning, everyone. With me on today's call are Chairman, President and Chief Executive Officer, Alan S. McKim; EVP and Chief Financial Officer, Mike Battles; and SVP of Investor Relations, Jim Buckley. Slides for today's call are posted on our website, and we invite you to follow along. Matters we are discussing today that are not historical facts are considered forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Participants are cautioned not to place undue reliance on these statements, which reflect management's opinions only as of today, February 24, 2021. Information on potential factors and risks that could affect our actual results of operations is included in our SEC filings. The company undertakes no obligation to revise or publicly release the results of any revision to the statements made in today's call other than through filings made concerning this reporting period. In addition, today's discussion will include references to non-GAAP measures. Clean Harbors believes that such information provides an additional measurement and consistent historical comparison of its performance. Reconciliations of non-GAAP measures to the most directly comparable GAAP measures are available in today's news release on our website and in the appendix of today's presentation. Now, I'd like to turn the call over to our CEO, Alan McKim. Alan?

Thanks, Michael. Good morning, everyone, and thank you for joining us. Starting on Slide 3. We concluded 2020 with a strong fourth quarter. Our Environmental Service segment outperformed our expectations, driven by a combination of factors, including the level of high-value waste in our disposal network, greater-than-expected COVID decontamination work and ongoing cost controls. Total fourth quarter revenues were in line with expectations as our Safety-Kleen business remained constrained by the effects of the pandemic. Adjusted EBITDA in Q4 increased to $136.1 million, which included $5.6 million in benefits from government programs, primarily from Canada. For the full year, adjusted EBITDA grew by 3% to $555.3 million, with annual margins growing to 17.7%. We generated record adjusted free cash flow of $265 million, a noteworthy accomplishment considering the economic disruption caused by the pandemic. Without question, the success we achieved in 2020 is a direct result of the dedication, flexibility and perseverance of our exceptional team. 2020 was a challenging year on many levels. And I'd like to publicly acknowledge all the employees across our organization, particularly those on the front lines for their outstanding work this past year. Thanks to you, we delivered essential products and services to our customers, despite facing many obstacles as the pandemic disrupted how we normally conduct business, and we did so safely all year. Turning to our segment results, beginning with Environmental Services on Slide 4. Revenue, while down year-over-year due to market conditions, was up on a sequential basis. Typically, Q4 is a seasonally weaker quarter for us, but the $18 million increase from Q3 is evidence that many of our markets are on the road to recovery. We also saw strong disposal and recycling volumes to close out the year. Adjusted EBITDA grew by 13% from a year ago, with margins up nearly 400 basis points. This was driven by a combination of business mix, cost savings and $3.9 million in benefits from government assistance programs in Q4. Revenue from our COVID-19 decontamination work totaled $31 million in Q4. For the full year, our team completed nearly 14,000 responses and was an essential resource in protecting our customers' people and facilities. In Q4, we benefited from a record level of drums collected as well as some high-value complex waste streams we received into our network. This resulted in an average price per pound increase of 16% from the year earlier period when we saw more bulk streams. Incineration utilization in the quarter was 84% due to a higher-than-expected number of maintenance days. Landfill volumes were down 37% in the quarter as the lack of remediation and waste project opportunities intensified with the resurgence of the pandemic. However, our strong base landfill business largely offset that decline with a 42% increase in our average price per ton. Moving to Slide 5. Safety-Kleen revenue was down 15% from a year ago, but was flat sequentially as the ongoing recovery offset normal year-end seasonality. Vehicle miles driven had been on a nice upward trajectory throughout the summer, but plateaued a bit in Q4, with the COVID-19 surge resulting in some new local restrictions in areas such as California, and all across Canada. Most of our core services in the SK branch business were down year-over-year as a result, but flat from Q3. Safety-Kleen's adjusted EBITDA declined 21% mostly due to the lower revenue and business mix. This decline was partly offset by our cost reduction initiatives as well as the government assistance programs that provided $1.4 million of benefits in Q4. Waste oil collections were 49 million gallons in Q4 with a healthy average charge for oil, given the lack of available outlets for generators. On the SK oil side, we saw typical seasonal softening of the demand for base oil and lube products. However, due to lower production levels in the traditional refinery space, available base oil and lubricant supply shrank in the quarter, resulting in a rising price environment that should benefit us here in 2021. Percentages of the blended products and direct volumes came as expected and consistent with the prior year. Turning to Slide 6. Looking back at 2020 from a capital allocation standpoint, our strategy due to the pandemic was focused on capital preservation, which served us well. CapEx in Q4 was slightly higher than the prior year, but our full year spend was down from 2019. Moving forward, we expect to focus on internal growth capital on our plants and other assets that we believe generate the best returns. From an M&A standpoint, our opportunity pipeline is healthy, as businesses emerge from the pandemic, and we gain a clear line of sight on our end markets. We prudently increased our level of share repurchases in Q4 and had an active repurchase program for the year, and Mike will provide the detail on our buyback shortly. Looking ahead, we're beginning 2021 in excellent shape, both operationally and financially. The markets we serve are on an upward trajectory. For our lines of business that have been held back by the pandemic, such as waste projects and remediation, we expect a measurable recovery this year. In 2021, we expect to pursue growth opportunities through our core suite of service offerings and by capitalizing on market conditions. And Mike is going to talk about our new sustainability report in a moment. But let me say that we expect to take full advantage of the growing market acceptance of our sustainable offerings in 2021 and beyond. We provide a broad array of green solutions that go well beyond our role as the largest collector and recycler of waste oil. Within Environmental Services, we entered the year with higher deferred revenue. And given the availability of waste in the marketplace, we expect strong incineration performance in 2021. We anticipate our offerings within Industrial Services and Tech Services to grow from last year. We expect Field Services to generate $25 million to $35 million of COVID-related revenues in 2021. Within Safety-Kleen, we remain below normal demand levels as we kick-off 2021. However, later this year, we anticipate a steady recovery in the SK branch business. For Safety-Kleen Oil, our re-refineries are producing well. And as I mentioned, pricing for both base oil and blended products is favorable to start the year. We will continue to actively manage our charge for oil rates while focusing on growing collection volumes to supply our re-refinery network and take advantage of market conditions for recycled fuel oil. In summary, while 2020 did not go as we originally envisioned for our 40th anniversary due to the pandemic, we did achieve record adjusted EBITDA and adjusted free cash flow, thanks to our amazing team. As I look at 2021, the underlying dynamics in both our operating segments remain positive, and we expect a strong sales growth year with healthy free cash flow as a result. I anticipate another great year for the company in 2021. So with that, let me turn it over to Mike Battles. Mike?

Thank you, Alan, and good morning, everyone. Before I take you through the financials, let me comment briefly on our first-ever sustainability report, which is available on the IR section of our website. We're proud of this document, which we created based on the sustainability accounting standard board framework. The document highlights the integral role that sustainability plays in our business decisions, as well as our environmental, social and governance goals and benchmarks for 2030. The At a Glance page of the report shown on Slide 8 is an overview of some of our ESG benchmarks. I want to reiterate the point that Alan made about ESG and sustainability as foundational to our business. For many customers, we are their sustainability solution. When companies generate potentially harmful byproducts, they call Clean Harbors to safely remove and dispose of them. When they accidentally release chemicals into the environment, they call Clean Harbors to help clean it up. When they have waste oil, solvents, pressure metals or paint, they call Clean Harbors to recycle. The new report also highlights the vital role our employees play in our performance. We strive to create a diverse and inclusive culture, one that values the unique background, perspectives, and experiences of our people. We are committed to building a sustainable culture through training programs that enable our employees to enjoy long and successful careers at Clean Harbors. I encourage everyone to take a look through the report. It provides the detailed picture of how closely intertwined sustainability is with our entire organization, culture, and business model. Now, let's turn to Slide 9 and our income statement. We ended 2020 on a high note with another strong financial performance. If you asked me back in April, when the pandemic began, what level of revenue, adjusted EBITDA and adjusted free cash flow we would have delivered this year, these would not have been the numbers. Our Q4 adjusted EBITDA results exceeded the guidance we provided in November. Revenue declined 9% year-over-year, but was up in the third quarter despite Q4 typically being a sequentially lower quarter due to seasonality. Our efforts to control costs and grow our highest margin businesses, combined with some further government program assistance, resulted in a 180 basis point improvement in gross margin. Adjusted EBITDA grew 3% to $136.1 million. Our Q4 adjusted EBITDA margin rising 190 basis points from last year speaks to the effectiveness of the actions we have taken this year. We have improved our adjusted EBITDA margins on a year-over-year basis for 12 consecutive quarters. For the full year, our adjusted EBITDA margins grew to 17.7%. If you excluded the $42.3 million of government assistance, those margins would have been 16.3% or a 50 basis point improvement from 2019. SG&A total costs were down in the quarter based on our lower revenue and cost controls, but on a margin basis, were essentially flat. For the full year, SG&A as a percentage of revenue was 14.3%, which beat our target of 14.5%. For 2021, using the midpoint of our guidance range, we would expect SG&A to be up in absolute dollars from the prior year and essentially flat on a percentage basis. Depreciation and amortization in Q4 was down to $71.4 million. For the full year, our depreciation and amortization was $292.9 million, which was within our expected range. For 2021, we expect depreciation and amortization in the range of $280 million to $290 million. Income from operations in Q4 increased by 18%, reflecting a higher gross profit, cost controls, and mix of revenue. For the full year, our income from operations rose 10% to $251.3 million. Turning to Slide 10. We concluded the year with our balance sheet in terrific shape. Cash and short-term marketable securities at December 31 were $571 million, up nearly $40 million from the end of Q3. Our debt was at $1.56 billion at year-end, with leverage on a net debt basis at 1.8 times, our lowest level in a decade. Our weighted average cost of debt is 4.2%, with a healthy mix of fixed and variable debt. With the recent revolver we put in place, we have no debt maturities until 2024. Turning to cash flows on Slide 11. Cash from operations in Q4 was $113.2 million. CapEx net of disposals was up slightly to $43.6 million. That combination resulted in adjusted free cash flow in Q4 of $69.6 million. For the year, we hit our net CapEx target, excluding the purchase of our headquarters, with $165.6 million of spend. That helped us deliver record annual adjusted free cash flow of $265 million, which is towards the high end of our guidance range. For 2021, we expect net CapEx in the range of $185 million to $205 million, which is higher than the prior year. Our net CapEx as a percentage of revenue ranks as one of the lowest amongst our specialty waste peers. During the quarter, we increased the level of our share repurchases as we bought back 500,000 shares at an average price just under $71 for a total buyback of $35 million. In 2020, we repurchased slightly over 1.2 million shares. Of our authorized $600 million share repurchase program, we have just under $210 million remaining. Moving to guidance on Slide 12. Based on our 2020 results and current market conditions, we expect 2021 adjusted EBITDA in the range of $545 million to $585 million. As we noted in this morning's release, we are revising our calculation of adjusted EBITDA to exclude stock-based compensation, to be consistent with all of our company's loan agreements and facilitate comparison with industry peers. That amount in 2021 should be about $16 million to $18 million compared with $18.5 million in 2020. Looking at our guidance from a quarterly perspective, we expect Q1 adjusted EBITDA using our revised definition to be 5% to 10% below prior year levels given the record Q1 results we posted in 2020 prior to the pandemic taking hold and the deep freeze we are experiencing in the Midwest and the Gulf here in February. Here is how our full year 2021 guidance translates from a segment perspective. In Environmental Services, we expect adjusted EBITDA to decline in the mid-single digits on a percentage basis from 2020. We expect to benefit from growth and profitability within incineration, a rebound in the majority of our service businesses, along with our comprehensive cost measures. But not enough to fully offset the decline in high-margin decontamination work as well as the large contribution from government assistance programs in 2020 that totaled $27.1 million in this segment. For Safety-Kleen, we anticipate adjusted EBITDA to increase in the mid- to high single digits on a percentage basis from 2020 despite the fact this segment received $12.2 million in government assistance last year. We expect a mild rebound in the branch business weighted towards the second half of the year post-vaccination. At the same time, we expect SK Oil to deliver a vastly improved performance in 2021, given the current base of industry supply dynamics as well as our ability to aggressively manage our re-refining spread and collect more gallons of waste oil. In our Corporate segment, we expect negative adjusted EBITDA to be flat with 2020, which includes $3 million of government assistance. For 2021, our EBITDA guidance assumes receiving $2 million to $3 million of Canadian government assistance. We are not assuming any additional CARES money in 2021 at this time, but we are reviewing the new program. Based on our EBITDA guidance and working capital assumptions, we now expect 2021 adjusted free cash flow in the range of $215 million to $255 million. We believe this puts us in a great position to execute on our capital allocation strategy. In summary, although the pandemic is still with us, we entered the new year with strong momentum in multiple service businesses and most importantly, across our facilities network. Industrial production in the U.S. is back on the rise by all indications, particularly in the chemical space. The chemical activity parameter, published by the American Energy Council, show that industry levels have been climbing sequentially from May to January, and January was the first time in 10 months that the activity levels were above the prior year, which is a great sign for us. In addition, our re-refinery business is off to a great start, given the current market conditions. We expect some of the project and turnaround work that was pushed out in 2020 to benefit us this year and the overall sales pipeline remains strong. While we are seeing COVID cases decline sharply in recent weeks, we anticipate continued opportunities for near-term decontamination work and disposal of vaccination waste volumes. Overall, the number of favorable industry and regulatory trends should support our business moving forward. And while we don't give specific revenue guidance, we certainly expect a return to top-line growth in 2021. With that, Christine, please open up the call for questions.

Our first question comes from Tyler Brown with Raymond James.

Hey, Mike, appreciate all the guidance, but I do want to come back to the Q1 guide real quickly. So you mentioned that Q1 was a really good quarter if I actually go back and look at my notes. But you also talked about these winter storms. Is there any way that you could quantify maybe cost downtime? How much of a drag that's going to be?

Yes, Tyler, we are currently experiencing the same challenges as our competitors, particularly in the Gulf and Texas. These plants have been offline for a while, but I believe they will start coming back online today and tomorrow. I don't expect the impact to be significant. Additionally, as you might have seen in the news, there are issues with pipes cracking, which will present cleanup opportunities for Clean Harbors. Overall, while the effect will be noticeable, I don't think it will be anything major, just a factor for Q1.

Okay. Interesting. So Alan, this is a bigger picture question. So I'm curious what you mean by when you say that you're seeing customers shifting towards greater environmental responsibility that aligns with your offering. That was something that you guys put in the press release. So is that a comment about captive incinerators maybe shutting down or plants being more stringent on their cleaning? I guess my big picture question here is, in a clearly more ESG-focused world, do you think that that translates into a better growth algorithm for Clean Harbors than maybe it has in the past?

I believe that people are increasingly aware of environmental issues, particularly regarding climate change and emissions. Our ESG report demonstrates that we are positive contributors in terms of greenhouse gases. I think customers will recognize the value of our services, whether it's outsourcing waste management or using us for recycling solvents, oils, and other materials like paint waste. As awareness grows, I expect more customers will prioritize or choose our environmentally friendly offerings.

Yes, that's very helpful. My last question is about CapEx. I believe you're projecting a gross CapEx of $200 million. Looking back over the past few years and excluding the headquarter buyout, it has been around that figure. As we consider the future, is that a reasonable estimate? Also, Alan, you mentioned some internal growth opportunities and associated spending. How should we think about CapEx in the future while balancing those investments?

Tyler, I'll start with the first one, and Alan can talk about growth CapEx. So as we mentioned, our CapEx as a percentage of revenue is one of the lowest amongst the industry, and that stays there, 6%, 6.5%. I think there's a pretty low answer. I think as revenue grows, I think that will continue to make those CapEx investments. That excludes any type of large incinerator or any other types of big CapEx that's out there. If that were to happen, we certainly would call that out.

Our next question comes from the line of Noah Kaye with Oppenheimer.

I want to press a little bit on the capital allocation question here. I think clearly, you're extremely cash-rich, following Tyler's point, there's a big CapEx spend envisioned for '21. Can you just give us a little bit more insight on how you stack everything up in terms of priorities here, repurchase, some color on the M&A pipeline? I mean, clearly, this isn't an optimal leverage position for the company at this point, looking at growth. So what do you want investors to expect that you're going to do over the next 12 months to address that?

Yes. I think our priority really is acquisitions. So I think the company has shown that it has done some really fantastic deals to be able to acquire companies, move them to our platform, and really take advantage of the scale that we have. And I think that would be at the top of our list. I think over the past year, clearly, we have been impacted our ability to go through a normal process of due diligence and integration. And any the way that we typically would go about in M&A, it's really been disrupted because of the pandemic. And we really think that with this pandemic now getting behind us, as many people feel like it is over the next few months, that we can be more aggressive. And I think that would be the key thing that you should be looking for with use of capital this year.

Okay. That's very helpful. And then can I push a little bit more on the question around ESG and related tailwinds. With respect to the closed-loop offering, looking at where Performance Plus and EcoPower are now and the opportunity for a recycled oil, a greener product to get more penetration in the market. How big of a priority is that for you in this next 1 year or 2 to really push that direct sales percentage upwards? Do you see any traction happening because of some of these sustainability considerations? And again, what do you think investors should be expecting in terms of the trajectory for that direct sales to grow?

Yes. I think you'll continue to see us improve in that area. I think the Department of Energy finally came out with a study that we have been waiting for to be updated from 2006 or 2008, which was very favorable to the use of waste oil into recycled lubricants and base oil. There were about 18 recommendations that came out of that DOE study that just came out last month. And our hope is that this administration will take a number of those recommendations and implement change, whether it be on incentives or getting the government to be a larger buyer of these re-refined products. The government today is a large customer of ours, but predominantly the Army. And so many of the other agencies would be strong buyers of our re-refined products. So I think you're going to see a real favorable movement with this administration, taking some of those DOE suggestions and moving forward with them.

Our next question comes from the line of David Manthey with Baird.

So incinerator utilization used to hit the 90% range at higher periodically. But really, over the past 2 or more years, it's only done so in one quarter. And I'm wondering, is there any structural reason why this is? Or should we expect that to continue? Just any help on that? It seems like it used to be 90% pretty regularly. And now it's rarely so.

Mike responds to David, noting that over the past couple of years, higher-margin streams have entered the network. These streams hold greater value because they are more resilient and require more time in the kiln, which has limited the ability to take on lower-margin soil jobs. Overall, this is a positive development. Mike believes that maintaining margins in the mid to high 80s is favorable, and beyond that, it depends on the business mix. He points out that there are no structural issues and they are fully aware of where profits are generated and how to manage the incinerators effectively.

Okay. Yes. It sounds like a high-class problem. That's good. And second, in the release, you said with fewer waste oil outlets available, market rates charged for used motor oil remained high. Can you outline any near-term cyclical issues, but also the longer-term secular factors that are at play behind that statement?

Yes, there has been a significant oversupply of re-refined products. The major refineries have considerably reduced their operations, leading to a decrease in fuel, gasoline, and consequently base oil. This has positively impacted our base oil business. However, in terms of jet fuel, which is essentially kerosene, we have observed that much of the surplus has been directed towards the fuels market and the bunker market, especially with the IMO regulations moving to a 0.5% sulfur limit. It seems that those surplus gallons are going to the fuels market instead of the aviation market. As a result, the outlook for recycled fuel oils, including the surplus of industrial oils we see, has diminished. Some of this change may be linked to pandemic-related issues, but more so, it reflects a shift in market dynamics due to IMO regulations. Looking ahead, as the airline industry recovers—although the timeline and pace of this recovery are uncertain—we believe we are well-positioned to see our base oil and re-refined oil becoming an increasingly appealing option for waste oil.

Our next question comes from the line of Hamzah Mazari with Jefferies.

This is Mario Cortellacci filling in for Hamza. Just question on PFAS with the new Head of the EPA. Could you just talk about whether you think legislation gets done quickly or a timeline you think that that could happen in regarding PFAS? And then any updated views or your best guess on what will happen there? Just wondering if you have any high-level thoughts on potential revenue opportunities? Or at least how much of the pie you think you guys can capture if that becomes an opportunity? And then alternatively, do you view PFAS legislation as a negative or neutral or positive for solid waste companies?

I'm not going to comment on the solid waste companies; I'll leave that to them. However, I believe that with a Democratic majority in the House, Senate, and the White House, PFAS legislation will progress much more quickly than it might under other circumstances. We recognize that PFAS is hazardous and will eventually receive some type of hazardous designation. The challenge is that PFAS is not currently classified as hazardous, and we need to navigate that situation. While this issue isn't factored into our budget or guidance right now, I do think it will have a long-term impact on the industry. Regardless of the disposal method—whether through landfills, closed landfills, incineration, or water treatment—we have solutions in place. So, I believe we are well-positioned to tackle the PFAS challenge as it continues to evolve.

Yes. I think from a legislative standpoint, it would be positive for our business.

Absolutely. Absolutely.

Great. And then just following up on the M&A question. I mean, could you give us a little more detail on where you're particularly focused in 2021? And then maybe you can comment on what valuations are looking like right now?

Yes, the Waste Disposal segment of our business, including our Tech Services division and Safety-Kleen Environmental, presents significant growth opportunities. We believe we can increase volume across our network by leveraging our recycling assets. Last year, we made considerable capital investments in our incinerators to enhance capacity, including improvements in shredding and feed systems. We will continue to invest in our end disposal and recycling capabilities, expanding our collection network and increasing volume, which we have successfully accomplished, as evidenced by around 50,000 additional drums in the fourth quarter. Our deferred revenue of approximately $70 million reflects the waste volume within our network, and we aim to focus our mergers and acquisitions efforts on further developing this aspect of our business.

Got it. And then just one more, and I'll turn it over. And then just some clarification. I might have missed it earlier in the call or in the prepared remarks, but could you just remind us what you're thinking on COVID-19 cleanup? Or how much is baked into 2021? And then can you also just remind us what the margin profile is for that business?

Sure. So it's about $120 million for 2020, and we said $25 million to $35 million in revenue in 2021. I think that's a reasonable estimate. The margin profile is a high-margin business. It's in the mid to high, upper 30s.

Our next question comes from the line of Michael Hoffman with Stifel.

Can we break down your revised EBITDA of $573 million on a like-for-like basis to the guidance EBITDA and identify the components that do not repeat? There is a decrease in decontamination, followed by a recovery phase. What are the factors to bridge, for instance, the midpoint of 2021?

Yes, Michael, I'll take a shot at that. So the 2 big kind of headwinds we have going into 2021 are assuming that the decontamination work drops kind of precipitously from the $120 million we did in 2020 to, let's say, a midpoint of $30 million in 2021. So that $90 million drop of revenue is going to take a number of 30% or 35%, it's going to have a big impact on our earnings. And then also, we did get $42 million of government funding, both in the U.S. and with the majority in Canada. That drops also from, let's say, $42 million to $2 million or $2.5 million. And so those are, let's say, the 2 kind of monster headwinds that we're going to have to address here in 2021, and that's a good thing. I'm really bullish on, as I said in my prepared remarks about our end markets and the growth in our end markets, whether it be in the waste projects and remediation, whether it be household hazardous waste days and, let's say, in the ES side. And of course, on the SK side, the re-refineries were down for months. Last year, we shut them down because of lack of demand. And so those come back on, and we should have a really good year. And so I think when you look at the numbers on an apples-to-apples basis, it's down a little bit, and you're like, well, that's interesting, but really, it's due to kind of the one-off unique things and the overall business growing again, which is really what we needed to do.

So if I follow that math and it's a baseline starting at $500 million goes to midpoint at $545 million, so you're up 8% on a like-for-like basis.

That's right. About that, yes.

Am I understanding this correctly? If I take the $120 million from 2020 and compare year-over-year revenues, it shows a decrease of almost $390 million?

That's right.

Would you consider that $390 million to be entirely due to pandemic-related disruptions, delays, or deferrals?

Absolutely.

Therefore, is there any assumption in your outlook of some of that already being recovered in the guidance? And how much are you assuming? And therefore, that's the potential upside surprise, the pace of which you resume that same $390 million of activity?

You got it right. That is the organic growth number, excluding the decontamination work, and the key factor is how quickly people get back on the road and resume activities like changing their motor oil. The Environmental Services business performed well. While we will lose the decontamination work, we expect to gain from household hazardous waste management, which had been on hold for months. I think this suggests modest growth in that area.

And I think we should also mention that we gave away quite a number of price concessions to a lot of our top accounts. And when crude oil crashed in the second quarter, a number of our customers came to us looking for concessions. And certainly, we gave those, and we've been working with our customers. But our goal this year is to normalize our pricing again. And we've recently raised prices on our incineration business, particularly because of just to share demand and volume. So I think there's some price improvements in there, both on concessions, getting back to normal and the price increases.

Absolutely the case. You're right.

And so how would you want us to think about that $390 million? How much of that $390 million, and let's just apply the corporate average margin at, call it, 7.5% of that. How much of that's in below the high of guidance?

The high end of the guidance, we get all the way back there. On the low end, we're obviously well short of that.

Okay. So that's the way to think about what that opportunity is. And then can we talk about some of your metrics. You all have done a really good job of moving the free cash flow as a conversion of your EBITDA out of the 30s into the 40s. You're in the sort of low 40% of EBITDA now, 43%, 45%. Is that sort of where it is and now it's all about the sustainable growth of it, doing the asset utilization and pricing? Or is there still improvement in the actual ratio?

Michael, I'm here with my CEO, and he'll never admit we're finished. He would never say that, especially when rate shapes keep changing. I believe there are opportunities ahead. The team is doing a great job; for instance, we have five refurbishment projects, and we build our own trucks. We plan to continue that and possibly expand. There are chances to enhance our free cash flow, improve working capital management, and better control our inventory and receivables. I truly believe there is potential for improvement in cash conversion.

So if you thought about that, that was a setup. I knew, Alan was sitting there going, of course, it's going up. Where can it go? What's practical?

Our goal is to achieve $300 million in free cash flow, and I believe we can do this without relying solely on earnings. Our incentive plans include targets for reducing receivables, lowering inventory, and improving our working capital management. I see potential in using systems and processes to facilitate these improvements.

And if I thought about that $300 million as a percentage of your EBITDA, what do you think that is?

The time will tell how fast, but I do think that we've had great trajectory. As you know, we've had an 8%, 9% CAGR on free cash flow over the past few years, and that should continue.

Okay. And then lastly for me, on Safety-Kleen Oil, what was the plant production volume in '20? And are we back to $150 million as what should be produced in '21, so I can compare those 2 numbers?

I don't have the historical number, but all plants are kind of fully operational here in 2021.

So in 2021, assuming everything remains constant, you should produce 150 million gallons of base oil?

Expect slightly lower levels than in 2019 due to ongoing weak oil demand affecting overall miles driven. However, we did shut down four of our plants for several weeks and some for months due to insufficient oil collection and sales caused by those shutdowns. I believe we will see a significant recovery this year.

Okay. And I'd say one last one. I just want to clarify on PFAS you don't actually need legislation. If the EPA puts out an MCL and then enforces to the MCL, that in itself will drive the part of the market that's most important to you, which is remediation. And legislation would be more about what might happen on the drinking water side. Would you agree with that?

Yes. I think that's true. And we're certainly seeing opportunities. We have a pipeline of PFAS opportunities for sure. And then we see customers realizing that they need to get ahead of that. And again, most of this that we see is a lot of it is foam fire-related and bio foam related, I should say. And I think those are the natural locations where they're trying to quantify and understand what the remedy is going to be. But the legislation or EPA mandating certain changes, I think, will be helpful to have a framework to work around.

Our next question comes from the line of Jeff Silber with BMO Capital Markets.

I was looking over the transcript from last year's call at this time. Obviously, it was before the pandemic really had an impact, but there was a lot of conversation about IMO 2020. You talked a little bit about this, and I know it may be tough to quantify, but is there any positive impact that you're building into your guidance for 2021 from that?

Not yet. No, it's really been such a disruption, as you know, particularly with just the jet fuel market, particularly the glut in that fuel. So I think until that works itself out, it's really difficult to quantify right now.

Okay. That's fair enough. And then one kind of housekeeping note. Mike, you talked a little bit about the change in the adjusted EBITDA calculation for next year. I do understand it. But why now? I mean the peers have been doing it for a long time. It's been in your leverage agreements for a long time. What precipitated this change?

Yes, Jeff, that’s a good question. There are two main points. First, we updated all of our debt agreements, with the last change being to the revolver in November. We believed that was the right time to make these adjustments, and starting at the beginning of the year was ideal to set appropriate expectations. These were the main reasons behind the changes.

Our next question comes from the line of Larry Solow with SGS Securities.

Congratulations on a strong year despite the challenging environment. I have a few questions regarding the mix and pricing. Alan, you mentioned potentially solidifying some pricing on the incinerator in the disposal business. I'm trying to understand this, considering the mix has contributed to significant improvements over the last few years and in this quarter as well. Specifically for this quarter, was there anything atypical about the 16% increase in price per pound for the incinerator and over 40% for the landfill? Were there any unique waste streams involved? I believe there was something that came in late in the third quarter; is that benefit reflected in this quarter? The second part of my question is, looking ahead over the next few years, do you anticipate some of these gains in mix slowing down? Can you sustain this pricing or possibly enhance it over time?

Yes, I'll start, and Alan can join in. This is really just a continuation of what has been happening all last year, where we are aggressively marketing high-margin waste streams and successfully integrating them into our network. Alan mentioned drum volumes, which is a highly profitable segment for us. We expect strong drum volumes in the fourth quarter, and I don't think this is unique to Q4. The price per pound is quite favorable, possibly a bit higher than usual, and we have experienced double-digit pricing throughout the year, which continues into Q4. I don't anticipate any changes. Our team reports a strong pipeline for these high-margin streams, and I don't expect that to change in the near term.

I would like to add that we are seeing the emergence of new generators. There is a chemical renaissance occurring due to low natural gas prices, which has led to a revival of several plants and manufacturing in the U.S. We are beginning to see new plants starting operations and new waste streams entering the market, some of which are quite challenging to manage. Additionally, we are observing a decrease in captive operations, which have been affected by the pandemic, causing some to outsource more material than usual. These factors are beneficial for our mix and the average price per pound.

And on the captive, as they start to outsource more, does this inevitably lead them towards a full closure of their captive? I would think if they outsource more, maybe that's even less efficient for them, sort of double paying, if you will?

Most captives have been built as sort of an end of the pipe of their production facility. And many times, it's because of the difficult type of waste streams that they are that they actually put that kind of capital investment in. And with all the changes that have gone on in the chemical industry, the acquisitions, the divestitures, and the impact of regulations on those plants has certainly driven some of them to look at outsourcing as well as a reduction, in some cases, volumes being handled at those captive sites, making it economical to now look at outsourcing it rather than continue to run a captive plant maybe at 30% or 40% utilization. So I would say those are the things that are driving that change, Larry.

Right. Okay. And just switching gears. On the Safety-Kleen side, you mentioned collection prices remain high. As the price of oil starts to come back up or at least in the beginning of '21, it's certainly rebounding. Does this face more challenges maybe oil don't want to necessarily give you their oil at a high price, if the underlying value is increasing?

No, Larry, we manage the spread, which has put some pressure on our charge-for-oil program. However, what we really need is demand to return, and we anticipate that happening in 2021.

Okay. Lastly, regarding the cost reductions, in 2020, you managed to keep costs down despite declining revenue mid-year. This could make it challenging to compare as revenues recover, but it seems like some of this has been balanced by productivity improvements and potentially fewer third-party expenses with a return to full staffing. Could you provide more insight on this?

I think a little bit of both, right? Certainly, we have learned to operate with a lot less people and a lot of people working from home. And so we have certainly been able to reduce cost in many areas of the business, and we think that those costs could continue to be at those reduced levels. And that's, I think, why you're looking at SG&A and some of the benefits we see grow through there this year. Mike, do you want to add anything?

Yes, Larry, as you consider 2021, aspects like healthcare, travel, and commissions have provided a natural advantage. We are optimistic that as the economy recovers, people will resume traveling and meet their incentive targets, leading to commission payments. However, this is contingent on the economy bouncing back. If it doesn't, we may remain at these lower levels. Additionally, I want to mention that Alan and the team effectively utilized the pandemic to optimize operations, looking at third-party expenditures and enhancing internal processes with third-party subcontractors, labor, and trucking. I believe these costs will not return, as we have successfully eliminated many of these expenses during the pandemic.

Our next question comes from Jim Ricchiuti with Needham.

The question about the COVID-related work you expect, let's refer to it as the $30 million at the midpoint, assumes that it is more front-end loaded. Are you experiencing that activity at a higher level in Q1 due to current circumstances?

Yes, Jim, we definitely saw a strong performance in the first half of the year. With the new calendar year, we maintained that solid momentum from the decon level, which remained steady in January. However, as I noted in my opening comments, we are observing signs of a slowdown, which is actually a positive development. Therefore, that midpoint estimate of $30 million reflects a trend primarily in the first half.

We have a backlog in our Field Services business, and our plan is to redirect many of our people and resources back to the core Field Services area, which was significantly affected by COVID. However, the response work helped mitigate that impact. We currently have a substantial backlog across our business, and we believe that as capacity becomes available, it will be applied to other areas of our business.

Alan, is there any way to maybe size that Field Services backlog that might have been deferred a bit just because of you dealing with some of the COVID-related emergency work?

Yes. It's hard to quantify. But the pipeline is really good in that business. It's strong with the consolidation of Safety-Kleen Environmental with Clean Harbors Tech Services, we're seeing a lot more project opportunities coming across. And quite frankly, those are smaller jobs, but a lot more of them. And honestly, we weren't as responsive probably to that cross-sell as we could have been last year due to just the demand we had from COVID. And so I think we're going to be more responsive. We're going to convert more of those opportunities into Field Services moving forward.

It seems you have seen some improvement in the ES business, especially from the lows. Could you share which areas have shown recovery, like chemicals, and which areas are still lagging that might start to improve as you look toward 2021?

Certainly, the refining side of our Refining business, which is about a $500 million business for us, has really been hit hard, particularly in the Gulf area, as you know. And so I would say that's going to lag. The oil and gas industries, particularly in Western Canada, some of the work that we do out in the oil and gas drilling side, the waste disposal we get off the drilling rigs and what have you, that's obviously just starting to come back. So those are some of the parts of the industries or the verticals that we're seeing lag behind. But our manufacturing is really strong. Chemical is really strong. Pharmaceutical, Biotech, those industries are really strong. We're winning some really nice business in that area. So I think all in all, we feel pretty good that our customers are coming back.

Regarding the SK branch business, could you remind us about the seasonality in Q1? I'm asking if you are seeing any indications of increased activity following a relatively flat Q4 compared to Q3, or if it's still too early in the year to draw any conclusions based on what you're observing.

The Safety-Kleen branch business, which operates 200 locations, has certainly been affected by the recent weather-related shutdowns over the past couple of weeks. In addition, as we entered 2021, many markets were still struggling due to COVID and shutdowns, especially in regions like Ontario, Quebec, Alberta, and California where there were significant reductions in activities. This situation has negatively impacted the Safety-Kleen branch operations. However, we are optimistic that as conditions improve and the government lifts more restrictions in both the U.S. and Canada, we will witness a significant increase in activity for the branch. This is why Mike mentioned that the recovery is likely to be more weighted towards the latter part of the year.

I didn't, but it should be in the kind of mid- to high 20s.

We have no further questions at this time. I would now like to turn the floor back over to management for closing comments.

Okay. Thanks for joining us today. We continue to maintain a busy IR calendar with many upcoming virtual events, including JPMorgan, Raymond James, Bank of America, and Stifel, and we look forward to connecting with many of you there. And I hope that all of you and your families stay safe. Thank you.

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation, and have a wonderful day.