Greetings. Welcome to the Hudson Technologies' Second Quarter 2023 Earnings Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. Please note this conference is being recorded. I will now turn the conference over to your host, John Nesbett of IMS Investor Relations. You may begin.

Thank you. Good evening and welcome to our conference call to discuss Hudson Technologies' financial results for the second quarter 2023. On the call today are Brian Coleman, President and Chief Executive Officer; and Nat Krishnamurti, Chief Financial Officer. I'll now take a moment to read the Safe Harbor statement. During the course of this conference call, we will make certain forward-looking statements. All statements that address expectations, opinions or predictions about the future are forward-looking statements. Although they reflect our current expectations and are based on our best view of the industry and our business as we see them today, they are not guarantees of future performance. Please understand that these statements involve a number of risks and assumptions and since those elements can change, in certain cases, are not within our control, we would ask that you consider and interpret them in that light. We urge you to review Hudson's most recent Form 10-K and other subsequent SEC filings for a discussion of the principal risks and uncertainties that affect our business and our performance and of the factors that could cause actual results to differ materially. With that, I will now turn the call over to Brian Coleman. Go ahead, Brian.

Good evening and thank you for joining us. As many of you know, the close of the second quarter brings us two-thirds of the way through our nine-month selling season. We view the cooling season as a nine-month season, because from year to year, the start of warmer weather can vary throughout the country. So a quarter-to-quarter comparison won't always provide an accurate view of how the full season will play out. For example, this year, the start of the cooling season was a bit delayed in some parts of the country. However, warmer weather did eventually arrive, bringing with it opportunities for increased service calls and refrigerant sales. Another quick point about the current cooling season. There have been a lot of headlines about the current heat wave taking place in certain areas of the U.S. And it's important to understand that while the surge in high temperatures is certainly not bad for Hudson, our business actually sees the most positive impact when refrigerant systems are turned on for the first time in a given season. As you know, the 2022 selling season was exceptional due to sale prices rising at a much faster pace than inventory costs. So as we move through the 2023 season, we are facing a difficult set of quarter-to-quarter comparisons. While our second quarter 2023 results were solid on a comparative basis, they reflect a decline in both revenue and gross margin from the prior year. As expected, we saw a narrowing in the gap between inventory cost and sale price to more historical levels. And as a result, gross margins moderated to 40% in the quarter. We did benefit from higher margins on carbon sales and from the DLA when compared to historical levels. Without those additional contributions, gross margins would have been closer to 38%. It should be noted that we are on track to have our greatest annual revenue with our DLA contract compared to all the prior years. With our visibility today, we remain comfortable with our long-range gross margin target of approximately 35%. For the quarter, we reported strong profitability and operating cash flow and reduced our total debt by $11.1 million. Looking at the regulatory landscape, in July, the EPA issued its final rule for allowances for the 2024 to 2028 period, mandating a 40% baseline reduction in the virgin HFC production and consumption allowances. As we previously discussed, we believe the current phasedown schedule represents a tremendous opportunity for our business as the supply of virgin HFCs becomes limited and our reclaimed refrigerants will be needed to meet the demand for the large installed base of more than 125 million HFC units. Moving forward, we are seeing increased focus around proposed regulations through both federal as well as state legislation, promoting the use of more environmentally friendly cooling technology and refrigerants. Heightened regulatory reporting initiatives could drive consolidation in our industry and provide acquisition opportunities as certain of our competitors may struggle with these new requirements. We believe Hudson is ideally positioned with our reclamation technology, conversion and servicing capabilities, and our EMERALD line of reclaimed refrigerants to capitalize on this shift to a more sustainable circular economy for refrigerants and the systems they support. Longer term, we believe the use of reclaimed refrigerants will be broadly adopted, not just as a result of the anticipated legislation around their use, but also as industry stakeholders embrace the environmental benefits of using reclaimed refrigerants, which is nearly a zero-to-p gas. But you cannot have reclaimed refrigerants without recovery. So as the virgin HFC supply is limited, the commitment to recovery and reclaiming refrigerants becomes even more important, so we will continue to see customers who share our vision for the adoption of sustainable and responsible refrigerant management. In a noteworthy development, we were pleased during the quarter to have achieved carbon neutrality at our reclamation facilities, as you may have seen in our July 6 press release. Additionally, we continue to introduce our sustainable products, services, and consultation capabilities to industry partners and our efforts have gained favorable recognition. Most recently, Hudson's Emerald refrigerants, our reclaimed refrigerants brand was named the top product of 2023 by Environment Plus Energy Leader, an awards program that recognizes excellence in products and projects that deliver significant energy and environmental benefits. And in its July 10 edition, the ACHR News published a featured article entitled 'Reclaim is the name of the game' highlighting Hudson's recent participation at the National HVAC/R Education Conference. At the conference, Kate Horton, Hudson's Vice President of Sales and Marketing, engaged attendees on the importance of recovery and reclamation of HFCs. With our field service capabilities and expertise, Hudson is ideally positioned for growth as the industry transitions to more environmentally friendly cooling systems and refrigerants. HFC equipment has an anticipated lifespan of 20-plus years, so our ability to provide reclaim HFCs to maintain these systems as virgin supply declines will strongly position us at two strategic points in the supply chain, as both a producer through reclamation and as a distributor. Additionally, our ability to convert systems to run our next-generation refrigerants is also a competitive advantage. It's important to note that our reclamation technology is refrigerant-agnostic, so we can recover and reclaim any type of refrigerate. As the industry evolves, we will not only support the end-user transition, but our business model evolves as well. As we move through the balance of the selling season and beyond, we remain focused on meeting the end-to-end needs of our customers by providing sustainable and responsible refrigerant management support. With our industry-leading reclamation technology, distribution network, and service offerings, we look forward to growing our leadership role as our industry embraces greener alternatives for refrigerant and cooling equipment. We are excited about the opportunities we're seeing in the marketplace to extend the reach of our products and services and expand our customer base. Now I'll turn the call over to Nat to review the financials. Go ahead, Nat.

Thank you, Brian. For the second quarter ended June 30, 2023, Hudson recorded revenues of $90.5 million, a decrease of 13% compared to revenues of $103.9 million in the comparable 2022 period. The decrease is primarily related to decreased selling prices of certain refrigerants during the period as compared to the second quarter of 2022. Gross margin was 40% in the second quarter of 2023 compared to 55% in the first quarter of 2022. As expected, and previously communicated, gross margin has begun to moderate as the gap between inventory cost and sales price narrows to more historical levels. As Brian mentioned, second quarter gross margin was favorably impacted by increased DLA and carbon credit revenue, and we remain comfortable with our long-range gross margin target of 35%. SG&A for the second quarter of 2023 was $8.3 million compared to SG&A of $7 million recorded in the second quarter of 2022, mainly due to increased payroll and stock compensation expense. We recorded operating income of $27.7 million in the second quarter of 2023 compared to operating income of $49.8 million in the second quarter of 2022. The company recorded net income of $19.2 million or $0.42 per basic and $0.41 per diluted share in the second quarter of 2023, compared to net income of $39.8 million or $0.89 per basic and $0.84 per diluted share in the same period of 2022. 2023 and future periods will reflect a statutory tax rate of approximately 26%, excluding certain temporary and permanent tax adjustments, while the 2022 period reflects a 16% tax rate due to the release of the company's remaining valuation allowance at the time. During the three months ended June 30, 2023, the company generated $10.6 million of cash flow from operations compared to $28.8 million during the three months ended June 30, 2022. During the second quarter of 2023, the company paid down an incremental $10 million of term loan debt resulting from improved performance and increased cash flow, reducing its leverage ratio from 0.32 to 1 for the trailing 12 months ended June 30, 2023. This represents a significant decline from a leverage ratio of 0.73 to 1 for the trailing 12 months ended June 30, 2022. The company reduced total outstanding debt by 31% from $46.8 million at December 31, 2022, to $32.5 million at June 30, 2023. As you know, interest rates have risen almost 500 basis points over the last year. So this debt reduction has provided significant savings for the company. In fact, since the refinancing in March 2022, the company has paid down approximately $67.5 million of term loan debt, resulting in $6.8 million of savings on interest, inclusive of any prepayment fees. Throughout this time, we have not needed to borrow against our revolver loan, which allows us even greater financial and operational flexibility. Stockholders' equity improved to $211 million at June 30, 2023, as compared to $175 million at December 31, 2022. The company's availability, consisting of cash and revolver availability at June 30, 2023, was $83 million. As we continue to generate additional cash flow in 2023, we expect to: one, further delever our balance sheet; two, ensure we have adequate inventory on hand; and three, consider other opportunities as they arise. We have strong liquidity, and our term loan and revolving loan credit facilities provide us with a solid financial platform and flexibility as we look forward. I will now turn the call back over to Brian.

Thank you, Nat. We delivered solid results to date, and we are focused on continuing to grow our portfolio of sustainable products and services to facilitate the transition to greener alternatives while also ensuring that we are well positioned to address market demand for refrigerants and for the services that enable efficient cooling system operations. Operator, we'll now open the call to questions.

The first question is from Gerry Sweeney with ROTH Capital.

So Brian, my channel checks do these constantly but they show gas prices, HFC prices stubbornly around the $10 range. And I believe this was due to some circumvention activities, maybe by some technical difficulties and distributors. I was just curious, one, if it's an accurate assessment on the price level, and two, as far as you can tell, is this a rational reason for some of the pricing headwinds.

So it's difficult to ascertain the precise reasons for pricing, but your channel checks have always been very good, and HFC pricing right now is around that $10 range. We started to see the softening of HFC prices in the very tail end of the 2022 season. For the most part, it's continued throughout this season thus far. We initially attributed some of the softness to the possibility that larger allowance holders may not have properly estimated quarter-to-quarter demand. What we believe may have happened was that those larger allowance holders were trying to balance out their overall total quota within the quarterly confines since all the allowances are done on a calendar basis. So meaning, they likely this year were selling more quota in Q1 than they might have in the 2022 season. So we think at the end of the day, prices reflect the availability of product compared to demand, and since the demand started slower this year or later this year, if you will, and if you think about the North and the Northeast, it really didn't get warm until late May into the latter part of June even, probably folks were trying to move inventory when the demand really wasn't there. At the end of the day, we've seen this cycle before. We still think with the significant reduction in the calendar allocation for next year, which is 40% off for the 2019 period, for all intents and purposes of 2019 demand which we expect should be growing at a rate of about 3% to 5% since that time. We think there'll be a significant tightening in inventory and availability of product relative to the overall demand and that we would expect to see price increases as a result.

Got it. Yes, without a doubt, right, next year, the 40%, the step down to 60% from 90%. Does that step down play any role in your sales strategy, maybe being less aggressive with prices a little bit lower and seeing that step down come next year in terms of sales strategies, aggressiveness, etc. In other words, purposely saw a little bit less gas this year versus next year, is it due to pricing or other dynamics?

I'd say that our sales strategy has remained unchanged. Likely, it's about two years ago, we really started to evaluate our customer base. We did walk away from some customers that were simply looking for cheap gas. We try to support those customers that in some fashion would support the growth in recovery, which then leads to growth in reclamation. So having those more strategic customers is extremely important to us. And as we seek to grow customers, we typically will seek to grow that type of customer and not necessarily be associated with customers that are just looking for cheap gas. So that strategy will likely not change and will continue throughout this HFC phasedown, which, again, this 40% reduction is only the beginning. There will be another very large reduction that will start at a minimum in 2029. It will be important that we've built these relationships throughout this period. Hopefully, our customers will value our ability to acquire and reuse and reclaim refrigerants.

Final question, it's a follow-up to what you just said. Obviously, taking the strategy really relationship driven, not price driven. As you talk to your customers and as we see this step down coming later next year, what is maybe the tone and tenor? What are they saying? Are they looking to potentially pre-buy into next year or develop some other programs where they get guaranteed levels of gas, etc.? Just curious how if there's any opportunity from that perspective.

Yes. I don't know that anyone in our industry that has access to refrigerants and allowances would be guaranteeing particular volumes. There may be, but I wouldn't think that that's a common practice. I do think that there will be some inquiries from our customers in Q4 that we normally would not see because of the reduction for next year. The other thing that folks need to be mindful of is many of the customers have limited access to storage capacity. Many of our customers are in the heating business as well as the cooling business. So as they exit in the August-September timeframe, they're trying to reduce their inventory levels, supporting cooling and building inventory as it relates to heating. So there's always that particular limitation both on working capital and just actual storage space. So at the end of the day, there's probably going to be some additional activity in Q4, but it's likely that most of the buying will occur during the 2024 cooling season.

The next question comes from Ryan Sigdahl with Craig-Hallum Capital Group.

Curious if you've seen with those relationships you're expanding, any change in reclamation activity and/or the ability to find feedstock?

Yes. I'd say for the public announcement we made regarding Lennox last year. That relationship is going very well. We're very pleased with Lennox as an organization and very pleased to serve their authorized dealers and installers. So we're really happy with that. We seek to make more of those types of relationships. Those are the sustainable relationships that are important to us and the types of customers that we want to serve, particularly for those that support the residential light commercial contractor because that's the area that we expect to see significant growth in recovery and reclamation.

And then, I guess, switching over to the Court of Appeals for the District of Columbia, they struck down the EPA's rule that would have banned nonrefillable cylinders in the U.S. that would have required QR code tracking. I guess any thoughts around that ruling?

Yes. So the court, from our reading, made it clear that the EPA has broad authority within the AIM Act, but maybe not specifically that broad authority as it related to the allowance rules system, which is where they constructed these two newer requirements. It appears that the court indicated Section H of the AIM Act, which is the section that deals with refrigerant management and specifically EPA seeking to promote regulations to propagate the growth of reclamation, is an area for the EPA that they could consider. So that particular proposed rule is likely going to come out in September. We do not know if the EPA will attempt to readdress these two points there. But there will be other rule makings in the future to the extent the EPA feels that it has the authority to do so. So this particular proposed rule is certainly not going to be the last rule within the requirements of the AIM Act. I don't think the result has a particular negative impact on our business because these two new proposed approaches would be new to the entire industry. So by striking the sections, we're sort of reverting to business as usual, if you will, that we've been operating under for quite a number of years.

Maybe just a broad follow-up. How do you feel the EPA stands today relative to 5, 6 years ago with HCFCs on their ability to enforce either bad actors, track gas, etc.?

As an industry, we have been very proactive in supporting all initiatives aimed at preventing illegal activities, especially regarding illegal imports. The EPA has implemented significant reporting requirements under the AIM Act that are helpful in deterring bad actors and unlawful actions. I believe that through a combination of efforts from the EPA, the industry, and customs and border protection, we can hopefully reduce, if not completely eliminate, the volume of potential illegal activities.

Good. Maybe one more for me. Just mentioned kind of the heat picking up later in the season. I guess, have you seen an increase in volume or anything to comment on trends in July thus far?

What we were trying to describe is that once systems are turned on, that's the real surge in demand. It may sound crazy, and this number I will throw out is not an exact statistic, but there could be about 50 million units in the north and Northeast that could get turned on within a week of each other. So that's where the real surge occurs. But certainly, warm temperature is good, and warmer temperatures like you're seeing in different parts of the country right now will likely create more stress failures, but it's not that significant compared to turning the systems on. So we should have a good season this year.

We have reached the end of the question-and-answer session. I will now turn the call over to management for closing remarks.

Thank you, operator. I'd like to thank our employees for their continued support and dedication to our business. I want to again thank our long-time shareholders and those that recently joined us for their support. We look forward to speaking with you after the third quarter results. Have a good night, everybody.

This concludes today's conference, and you may disconnect your lines at this time. Thank you for your participation.