Star Equity Holdings, Inc. Q1 FY2022 Earnings Call

Greetings, ladies and gentlemen, and welcome to the Star Equity Holdings Inc. First Quarter 2022 Results Conference Call. Please be advised that discussions on today's call may include forward-looking statements. Such forward-looking statements involve certain risks and uncertainties that may cause actual results to differ materially from those contained in the forward-looking statements. Please refer to Star Equity's most recent 10-K and 10-Q filings for a more complete description of risk factors that could affect those projections and assumptions. The company assumes no obligations to update forward-looking statements as a result of new information, future events, or otherwise. Please also note that on this call, management will reference non-GAAP financial measures, including EBITDA, adjusted EBITDA, adjusted net income, and adjusted earnings per share, which are all financial measures not recognized under US GAAP. As required by SEC rules and regulations, these non-GAAP financial measures are reconciled to their most comparable GAAP financial measures in our earnings release issued this morning. If you did not receive a copy of the earnings release and would like one after the call, please contact Star Equity, at 203-489-9500 or its Investor Relations representative, Lena Cati at the Equity Group, at 212-836-9611. Also, this call is being broadcast live over the Internet and may be accessed at Star Equity's website via www.starequity.com. Shortly after the call, a replay will also be available on the company's website. It is now my pleasure to introduce Jeff Eberwein, Executive Chairman of Star Equity.

Thank you, Operator. Good morning, and thank you all for joining us today for our first quarter 2022 results conference call. On the call with me today are Chief Executive Officer, Rick Coleman; and Chief Financial Officer, David Noble. In the first quarter of 2022, we recorded improved financial and operating performance, with a 12% increase in revenues and an improvement in our margins. Our Healthcare division grew revenue by 0.8% versus the prior year quarter, and gross margin improved by four percentage points to 23.7%. Our Construction division grew revenue by 28.6% due to large commercial projects at EdgeBuilder, and pricing increases that we implemented to mitigate the impact of higher raw material costs. Gross margin improved substantially due to increased pricing, improved operations, and commodity price mitigation. We continue to make progress toward our goal of achieving and maintaining a gross margin over 20% for our Construction division. With the completion of our January 2022 equity offering for gross proceeds of $14.3 million, we're now well-positioned to fund our high-return internal growth investments and to pursue acquisitions which could be either bolt-ons for our Healthcare or Construction divisions, or entry into new business sectors. With that, I'll turn it over to our CEO, Rick Coleman. Rick, please go ahead.

Thanks, Jeff. In the first quarter, our Healthcare division revenue increased by 0.8% over the same period last year, to $13.4 million. The increase was driven primarily by the mix of products sold in the quarter, including higher radiopharmaceutical contracts' revenue, and a more favorable mix of higher processed cameras. Customer, patient, and employee availability were also positive contributing factors as our business continues to recover from the COVID-19 pandemic. These positive drivers were partially offset by a decrease in total cameras sold, as well as fewer total scanning days. Gross profit for the quarter increased by 22.2%, and gross profit margin increased by 4.2 percentage points over the same period last year, also due to an increased percentage of higher-margin products sold. Now, I will turn the call over to Dave Noble, our CFO, who will review the results of our Construction division and provide additional first quarter financial highlights. Dave, please go ahead.

Thanks, Rick. Let me first touch upon the Construction division. First quarter 2022 Construction revenue and gross margin percentage were $11.6 million and 13.6%, respectively. This compares to $9.0 million and 6.0% in the prior-year first quarter. The increase in revenues for the Construction division was driven by large commercial projects at our EdgeBuilder business, which more than offset a small $600,000 decrease in revenues for our KBS business, really based on revenue timing. The KBS miss, as I mentioned, was due to revenue timing, but we're in the midst of executing a very large contract for $9 million to build dormitories during the second quarter. Together, Construction revenue accounted for 46.6% of Star Equity's consolidated revenues in the first quarter. The increase in gross margin percentage was due to an increase in revenue during the period, as well as better mitigation of materials price risk. We have also significantly increased pricing levels on our projects to offset higher input costs in both the residential and commercial projects. Our backlog and sales pipeline remain at record levels. Now, let's turn to Star Equity Holdings. On a consolidated basis, SG&A increased by 34.3% in Q1 2022 versus Q1 last year. While this was due in part to increased headcount and outside services, one-time litigation costs on the healthcare side were also a big factor. SG&A as a percentage of revenue increased in Q1 to 27.1% versus 22.6% in Q1 2021. Moving on to bottom line results for Star Equity for the first quarter of 2022, we had a net loss from continuing operations of $3.7 million compared to a net loss from continuing operations of $0.6 million in the first quarter of 2021. Non-GAAP adjusted net loss from continuing operations in the first quarter of 2022 was $0.7 million. This compares to an adjusted net loss of $1.7 million in the first quarter of 2021. Non-GAAP adjusted EBITDA increased to a positive $0.1 million for the first quarter of 2022 compared to a negative $0.9 million in the first quarter of 2021. This improvement was due to improvements across the company's operations leading to increasing gross profit at both the company's healthcare and construction divisions. For the first quarter of 2022, we registered an operating cash outflow of $0.6 million compared to an operating cash outflow of $2.2 million in the first quarter of 2021. As of March 31, 2022, our balance sheet and liquidity were strong. The outstanding balance on our credit facilities was $13.3 million with $15 million in cash and cash equivalents. Our overall net debt position was negative $1.7 million at the end of the first quarter. Now, I would like to turn the call over to the operator for questions.

Thank you. Our first question comes from Theodore O'Neill with Litchfield Hills Research. Please proceed with your questions.

Thanks very much. On the KBS business being down in the quarter, you are saying this is just a timing issue that should rebound in Q2? Is that what you were saying?

Yes. We recognized certain revenues on our project late last year that continued into this year, but as I mentioned, in the second quarter we are executing a $9 million project. So, there is lumpiness in revenues, but it's not due to any slowdown in business. Our pipeline is strong, and our production schedule is full.

Okay. And on the SG&A, since there is almost $900,000 of litigation costs in the quarter. If I pull that out, are we going to see Q2 SG&A drop by that amount?

Yes, sure, I'll take that. Yes, that will not repeat itself in the second quarter. I mean there are some other increases in costs around some audit costs, etc., but yes, that's a fair statement.

Thanks very much.

Thank you. Our next question comes from the line of Tate Sullivan with Maxim Group. Please proceed with your questions.

Hi, thank you. Good morning. Rick, you have been COO since the beginning of the year and CEO starting last month, but can you talk about your near-term strategic goal for Star versus long-term and what you've seen so far?

Sure, happy to do that. Since I joined, my first month has been spent getting up to speed with what the team has been doing. We are making great progress at KBS. Dave and the team positioned the business for future success during the latter half of 2021. Our healthcare business has been strong and continues to grow. We are now making some minor adjustments to prepare for even greater growth. The EdgeBuilder segment of our construction business is also performing well, and we are seeking growth opportunities there.

Thank you, Rick. On the KBS side, regarding the $9 million university project, as Dave mentioned, we have a record backlog and sales pipeline. Are you aiming to replicate that size of project, or is that expected to remain an above-average project for you? Would it be more advantageous to have several smaller projects instead? Could you discuss your future focus on the types of projects?

Sure. That's clearly the largest single project that we've done in that business ever. And I would say we evaluate projects based on the fundamentals in the ASP. So, it's not that we would shy away from doing anything that size, but realistically, that's a large project. And we've got a number of other commercial scale multifamily projects in the $2 million, $3 million, and $4 million range, which is probably more typical. But if it makes sense for us, we will do projects of that size as well. I would state that in the last 18 months, we have really focused on trying to win some of these multifamily projects; they do bring a little bit more standardization and hopefully higher margins, and secure more production slots in our factory. So, I would say that's a big one, but we would not shy away from doing others of that size, but typically, they're going to be more in the half that size sort of range.

Hey, Tate. This is Jeff. Really good question. One of the things about that $9 million is the total project size, but it's four dorms. And so, in a way, it's kind of four subsets of that project. I think an important thing with that is it gets us into a new vertical. It's a prestigious, well-known university that we're working with. And it's just a great case study for working with other colleges and universities on their student housing needs. We all know that construction can be cyclical. We're a very small player in a big market. And our thought is to have a lot of different end markets, a lot of different things we can do. There's a lot of different things that can be modular. And so, the more diversity we have of projects, clients, and end markets, the better.

Thank you, Jeff. And one more for me, I mean, with everything going on in the general market and interest rates, and we always hear about higher costs, and you addressed higher lumber costs, but with your customer conversations on the KBS side, have any projects been delayed, or has funding come through slower than you expected, and any fundamental concerns in that end market or none at this point?

We haven't observed that so far. While it might be expected under extreme circumstances, our pipeline remains very robust and as strong as it has ever been. The university project we are working on is funded by their significant endowment, so there is no real financing aspect involved. We just completed a $2 million workforce housing project on Martha's Vineyard, funded by a 501c3 organization with some assistance from the Massachusetts government. Therefore, I really don't anticipate any issues—we have not encountered them yet. Even with private projects, we've seen no slowdown. Financing appears to be secure, and demand is still present. While it’s possible to see changes in the future, we simply have not experienced that at this time.

And I would say too, it's a good question, over a long period of time, we've transformed this business. It used to do a lot more lower-end residential, and we've gone higher-end, higher price point, and more complicated projects. And like what Dave was saying, it's a less price-sensitive client much more focused on quality and time to deliver. So, I think that that business transition we've done over the period of years is helpful.

Thank you. I have one more question about healthcare. With the gross profit margins now at 24%, up from 21% in the previous quarter, are we still considering this to be a business with a 20% gross profit margin? Were there any one-time factors that contributed to this margin increase this quarter? Could you provide more details on that margin?

Yes, this is Jeff. There were no one-time benefits. I would say that the highest gross margin thing we do is selling cameras; the services business doesn't have the same margins as selling cameras does. Usually camera sales are highest in the fourth quarter and often very low in Q1, but we had a pretty good Q1 in that department. And so, that was helpful. So, I wouldn't be disappointed if the gross margin of this business is only 20%. We'd like it to be higher than that over time. So, call it low 20s.

Thank you. There are no further questions at this time. I would like to turn the call back over to Jeff Eberwein for any closing comments.

Thank you, Operator. Before concluding this call, I'd like to note we're always available to take your call, and discuss any additional questions you might have. So, please don't hesitate to contact us. We will continue to share our story with existing and potential investors in the coming weeks and months. As always, we appreciate all our shareholders and your continued feedback and support. Thank you.

Thank you. This does conclude today's teleconference. We appreciate your participation. You may disconnect your lines at this time. Enjoy the rest of your day.