WillScot Holdings Corp Q4 FY2020 Earnings Call

Welcome to the Fourth Quarter 2020 WillScot Mobile Mini Earnings Conference Call. My name is Thiya and I will be the operator for today's call. At this time, all participants are in a listen-only mode. Later we will conduct the question-and-answer session. Please note that this conference is being recorded. I will now turn the call over to Nick Girardi, Director of Treasury and Investor Relations. Nick, you may begin.

Good morning, and welcome to the WillScot Mobile Mini fourth quarter earnings call. Participants on today's call include Brad Soultz, Chief Executive Officer; Kelly Williams, President and Chief Operating Officer; and Tim Boswell, Chief Financial Officer. Today's presentation material may be found on the Investor Relations section of the WillScot Mobile Mini website. Slide two contains our Safe Harbor statement. We will be making forward-looking statements during the presentation and our Q&A session. Our business and operations are subject to a variety of risks and uncertainties, many of which are beyond our control. As a result, our actual results may differ materially from today's comments. For a more complete description of factors that could cause actual results to differ and other possible risks, please refer to the Safe Harbor statement in our presentation and our filings with the SEC. With that, I'll turn the call over to Brad Soultz.

Thanks, Nick. Good morning, everyone and thank you for joining us today. As you saw in our press release yesterday, WillScot Mobile Mini had a tremendous and transformational 2020. Our team rose to a set of challenges unlike any we've tackled before and I'm proud of and grateful for their efforts. From our safe and rapid response to the COVID-19 pandemic to our transformational merger between WillScot and Mobile Mini, our business, portfolio and team demonstrated their resilience and ability to create value for all stakeholders, most importantly our customers. Now, before discussing earnings, on behalf of the entire WillScot Mobile Mini Board, I'd like to start by thanking Kelly Williams for the many contributions he has made as Mobile Mini's CEO and WillScot Mobile Mini COO. Kelly has decided to transition from our company in July. Kelly built an incredible enterprise in Mobile Mini and he was instrumental in planning and executing our integration. His impact will be felt for many years to come. I speak for everyone at WillScot Mobile Mini when I express our gratitude for his leadership and partnership. I wish him the best of luck as he pursues the next phase of his personal and professional journey. Now, turning to page five of our presentation. As you know, we are a leading business services provider, specializing in innovative flexible workspace and portable storage solutions. We serve diverse end markets across all sectors of the economy from a network of over 275 branch locations and additional drop lots in North America and the UK. The business attributes listed here constitute a formula for sustained growth and returns and we see clear evidence of each one in our fourth quarter results, which were outstanding.

Thank you, Brad, and good morning, everyone. Turning to page 19. Our 2020 results were exceptional, showing yet again the resilience and accelerating earnings potential in our business. I'll touch on a few key highlights from the fourth quarter results. Leasing revenues for the North American Modular and Storage segments increased 4% year-over-year versus 2019 on a pro forma basis, driven by price increases, increased VAPS penetration, storage volume growth and stabilizing volumes in Modular. Amidst a pandemic and an unprecedented GDP contraction, this is a remarkable validation of the durability of our lease portfolio. This organic growth translated into 8% adjusted EBITDA growth with $180 million of adjusted EBITDA in the quarter. Our adjusted EBITDA margin of 41.1% set a new company record, expanding 580 basis points versus 2019 on a pro forma basis.

Thanks, Tim. I'll turn to slide 27. Our scale, technological sophistication, and commercial position all support the powerful levers we have to create value for years to come at any point in the cycle. Exiting 2020, our pricing momentum has continued with a large portfolio of opportunities that we're excited to execute. VAPS in both Modular and Storage represent significant further growth opportunities. Our sales team is already working together to cross-sell, a natural result of the end-market and customer overlap between our segments in North America. The complementary nature of our business and the culture and values alignment of our team are important. We have about $60 million of synergies remaining to execute from this merger and prior acquisitions and our strong track record makes us confident we can deliver on this expectation. We are thoughtful as we consider our capital allocation and we will continue to prioritize growth, deleveraging and share repurchases. Now, moving to slide 28. Our management team is in place to drive our long-term goals and harness the combined expertise of the legacy WillScot and Mobile Mini organizations. We are aligned on our core values and prepared to continue to deliver excellence in 2021 and beyond. As always, thank you to our team for supporting our company and our customers. I also wish all of you listening today continued safety and good health. This concludes our prepared remarks. Operator, would you please open the line for questions?

And our first question will come from Ross Gilardi with Bank of America. Please go ahead.

Good morning, guys. I just wanted to ask about the $500 million free cash flow target and, thinking longer term, how to think about a conversion rate. If I take your EBITDA guidance for 2021 and add a little growth in 2022, it would seem to imply EBITDA to free cash conversion of somewhere in the neighborhood of 65% to 70%. Is that a fair way to look at it going forward? I think you said $500 million run rate by the middle of 2022, but I'm just trying to think a bit more on a conversion rate on a long-term basis.

Hey, Ross. This is Tim. As the portfolio stabilizes, we'll be able to dial that in. I think you're heading in the right direction. Take Q4 as an example. We did call out $180 million of EBITDA and $87 million of free cash flow. That's almost 50% conversion that is burdened with about $12 million of integration-related expenses, so you can take that conversion rate a little bit higher. Q4 is also typically a higher margin quarter. But it's illustrative of where the business is going. As we roll the business and the portfolio forward with some organic growth driven by pricing and value-added products, those items are going to flow through to EBITDA and then flow to cash at north of 80%. The only other variable is to what extent we are reinvesting in the business in CapEx. That can fluctuate quarter-to-quarter. Typically, Q4 and Q1 are a little lighter. If we're in a normal seasonal pattern, we would dial that up with some fleet refurbishment in Q2 and Q3. I'll pause there. I think you've got evidence of what's possible in Q4 and some logical reasons to believe that can go higher.

What are the one-timers, Tim, on free cash flow that go away from 2020 to go away in 2021?

So we've called out the integration expenses. In the last quarter's call, I said that would be between $10 million and $15 million per quarter. We definitely realized that in Q4. A portion of that, about $5 million, is being capitalized in our IT expenses. But that is still a cash headwind that we incurred and will continue to incur through Q2. I'd expect that to begin to taper down as we get to the end of 2021.

Okay. So you'll have $10 million to $20 million per quarter of integration for two quarters next year. So you'll have sort of $20 million to $40 million of integration expense that drops off on a full-year basis in 2021, is that what you're saying?

Yes. On a full-year basis, yes, that's right.

Okay. And then just the last one. On your bridge, you show net synergies of $5 million to $15 million in 2021 for EBITDA, but you talk about on one of your first few slides about $60 million of cost synergies left to execute. I'm just wondering what's the gross synergy number baked into the 2021 outlook? And can you give a little better sense of the buckets for the $60 million longer-term and the timing for achieving that?

We've had about $10 million of ModSpace synergies that we'll build through the course of the year, so call it $5 million of full-year contribution in the P&L. Based on the WillScot Mobile Mini merger, we always said that about 30% of the $50 million of cost synergies would begin building 12 months post-closing. Thirty percent of $50 million is $15 million. So $3.75 million of incremental uplift in Q3, then growing thereafter to about 80% contribution or synergy realization by Q3 of 2022. Those are the synergy components. Like any business, we do have some other inflationary factors in the business—occupancy expenses, some employee comp and benefits are items to note. For simplicity's sake, we present it net for purposes of the bridge.

Okay. We can take it offline if the math has too many puts and takes, but on an absolute dollar basis, is it possible just to say what the gross synergy number baked into the 2021 outlook is, the gross number not the net number?

Yes, call it a $20 million zip code.

Okay. All right. Thank you very much.

The next question is from Scott Schneeberger with Oppenheimer. Please go ahead.

Thanks very much. Good morning. I would like to ask about the sustainability of the double-digit rental rate growth in North American Modular, as well as the high single-digit plus rental rate for ground-level offices and storage, which are clearly driving the business nicely. Is this sustainable throughout 2021, particularly in North American Modular and potentially beyond? Thanks.

Yes, the double-digit rate growth we've discussed is sustainable certainly next year and I think for years to come. If you look under the hood of the composition, about 40% of that is coming from VAPS growth. VAPS rates were up again on new deliveries 13% year-over-year; we were at $311. We've always talked about $400 as our internal target and we continue to make progress in that direction on the Modular side. The balance is that same spread on the core pricing. If rates were ever going to be stressed, it would have been after a shock such as the pandemic, and you've seen the platform continue to perform through that. It's a similar story on Storage: 32 consecutive quarters of positive rate growth. Under the hood, that is outstanding growth on ground-level offices and stable rates on the Storage side. As we implement the commercial practices used in Modular and that are effective in ground-level offices and in the UK, we think there is further upside on the Storage side.

If you want to think about a normalized flow through to EBITDA, by the end of the year we'll have margins up easily 100 basis points. I called out the variable cost headwind in the business of approximately $20 million—that's over 100 basis points of margin headwind. So if you take the midpoint of the guidance—round numbers, $100 million of revenue growth and $50 million of EBITDA growth—you've got $20 million of headwind there. It's easy to get to 60-plus percent flow through on the portfolio in a stabilized environment.

Thanks, Tim. In the high end of the guidance range, what would be factors that could tip you above that? What would push you to the high end in 2021? Would it require an infrastructure bill? What are some things you look at that would be big drivers up or down in that range?

Scott, we'd need to see strong demand in the first half of the year to push to the top side of the range. We've been offsetting the non-residential headwind with outperformance in other markets and new opportunities. As those headwinds ease in the first half, that will push us to the top side of the range. We think infrastructure is a great medium- and long-term stimulus, but even if it were announced today, it's not going to drive much new construction this year.

A widespread pricing improvement broadly across the portfolio is another lever that takes you higher more quickly. The irony with infrastructure is if that materializes late in the year and we invest to support that volume, it could depress margin and EBITDA in the year because of the timing of investments. That would be fantastic for building the portfolio for 2022 and 2023, but the portfolio doesn't move that quickly. We are comfortable with the range we've put forth.

All right. Thanks. I appreciate it. I'll turn it over.

The next question is from Kevin McVeigh with Credit Suisse. Please go ahead.

Great, thanks so much. Brad or Tim, in the slides it looks like you framed $125 million of VAPS and then another $35 million in ground-level offices. Is the ground-level office amount part of that $125 million or would that be in addition to that?

It's in addition to that.

So it would be about $160 million all-in, is that right?

Yes. Keep in mind, we're really just getting started implementing the VAPS in ground-level offices. If you think about the three-year trajectory on that, it will be modest in the next couple of quarters and then begin to build.

Got it. It's helpful. And then, this $350 million of free cash flow in 2021, which puts $500 million in focus, Tim, is there upside to that number? Obviously, the gating factor would be investments in CapEx and things like that, but are there puts and takes you think about for that $500 million, because it seems like you're closing in on that faster than we would have thought?

In terms of the $350 million, it's a good midpoint to center on. The same responses I made regarding EBITDA upside apply to the free cash flow number. Any fluctuation in capital expenditures will affect it. It's easy to make that number go up because our CapEx is largely discretionary over the medium term. But based on the growth profile we see and the investment levels we expect, that's a good point to center on. Anything that takes EBITDA to the top end of the range or any moderate short-term CapEx would cause that to flex up.

Awesome. Thank you. Really, really nice job.

The next question is from Courtney Yakavonis with Morgan Stanley. Please go ahead.

Hi. Just wanted to follow up a little bit on that comment about infrastructure potentially depressing EBITDA when you build out the portfolio. Can you help me understand that comment a little more? Is that sales force, CapEx on building out the fleet? Would that be impacting more 2022 versus 2021? And can you give us a sense of what types of infrastructure projects would be most impactful for your portfolio? Historically you've said ground-level offices were not necessarily a huge exposure; is that still the case?

Courtney, I'll start and Brad will come back to your infrastructure exposure question. My comment around infrastructure's impact on the P&L applies to any volume shock, whether it's infrastructure or something else. If you get a demand shock going down, given the flexibility and the variable cost structure in the business, we pull out a lot of direct labor and maintenance expenses across both the Modular and Storage platforms. If you get a shock going the other direction, you incur some of those maintenance expenses to make more deliveries. Those maintenance expenses are recognized when the work is performed; that investment then builds your lease revenue which grows over time. So whenever there's a big volume movement one way or the other, it can have a short-term impact on margins as there is more maintenance cost in the branch network. Brad, do you want to talk about the specific infrastructure sectors?

The short answer is all infrastructure helps us. From a legacy Modular perspective, roads and bridges historically were less consumers of large modular offices, but storage and ground-level offices are present on many road construction projects. So we're excited for all types of infrastructure.

Okay. Great, thanks. You've historically talked about offsets from declines in non-residential due to COVID. Can you quantify how much of the demand in 2020 was offset by temporary COVID projects? And do you have any sense about the longevity or when some of those projects could come off?

It's hard to be precise, but think in two veins. Any incremental demand for COVID testing or vaccine distribution is a volume offset to event business we've historically done, and both are relatively small in the grand scheme. If you look at Modular, fourth quarter new deliveries were up over the prior year despite non-residential headwinds. That's what excites us—the resilience in the portfolio. Whether it's customers needing additional space per person, screening on job sites, or new buildings, we have a vast sales team across large MSAs in North America and the UK mining for opportunities. That resilience puts us in a place to offset the non-residential headwind. I can't predict when it will come back, but when it does, it creates a significant volume opportunity.

I would add that we haven't seen any change in our average lease duration. We monitor average contractual duration, the duration of units returning to branches, and overall portfolio duration in several ways, and we haven't seen any material change.

Okay, great. Thanks. Lastly on the guidance bridge for 2021, you called out synergies and pricing—are you starting to see any benefit from cross-sell opportunities yet? Can you quantify it? You've talked about customer overlap historically, but has cross-sell been a needle mover?

It's starting to be. Right after closing, it's most apparent on big projects. We teamed up for support of the Super Bowl in ways we couldn't have done before. Large vaccination rollout efforts have leveraged both teams and sales forces. It's happening naturally and quickly at the top of the stack—larger projects. As we complete system integration and automation, making transactional cross-selling easier, we'll see more of it. Think of cross-sell as a key driver to lift Storage market share, which is around 25% now but more in line with our office share, which is around 45%. We have an internal engine of leads; we need to marry them up and capture both storage and office opportunities.

Great, thank you.

The next question is from Phil Ng with Jefferies. Please go ahead.

Hey, good morning, everyone. Regarding best practices you're implementing in the VAPS rollout for Storage, how are you thinking about AMR growth in 2021? Is it more in line with the roughly 3% cadence we've seen in the last few years? And how should we think about the longer-term opportunity?

I think for next year that roughly 3% rate on the Storage side is a good bogey. As you start to deliver new products at higher rates, it takes a while for that to roll through the portfolio.

Any longer-term targets we should think about? Is this mid-single-digit growth going forward with some of the improvements you're implementing?

We've quantified the VAPS opportunity in ground-level offices. Let us do our work and we'll come back with more specifics, probably in the second half of the year, as we understand and quantify it. We will roll this out methodically; supply chain and execution are complex so we want to be thoughtful.

Got it. We're hearing tight container market conditions. Has that had an impact on pricing for you and is that an opportunity to pick up share, given your scale?

Phil, it's a net benefit in the short term. We're active in that market every day. We are making some targeted new fleet investments, some of which are containers, and we are able to land fleet in Q2 and Q3. There are short-term constraints, but it's not an impediment to our growth in the relatively short term. We are probably the largest marginal supplier of inland containers in the U.S., and there is some modest benefit to that, but I wouldn't overstate it.

On a similar vein, we're hearing higher logistics and transportation costs and certain bottlenecks. Do you pass that through, and given your branch density and scale, how are you positioned in that backdrop?

The logistics side is an opportunity for the company to leverage best practices as well as truck fleet to drive both top-line growth in logistics and bottom-line improvements through in-sourcing, particularly on the Modular side. It's another unique lever in this portfolio.

Okay. Great. Thanks a lot, guys.

The next question is from Stanley Elliott with Stifel. Please go ahead.

Hey, good morning, everyone and thank you for taking the question. When we think about the VAPS piece and so much has changed over the past year, have you introduced new products within the portfolio to the point where the initial target for VAPS might actually be a bigger opportunity on a go-forward basis?

We've always qualified the $400 million target of VAPS value delivered per month as supportable with the existing VAPS fleet. Our first endeavor is to get everyone to that $400 million level; a significant portion of our reps are already at that level. We do implement new products all the time; most notably this year we've been rolling out a more cubicle-focused solution suited for large complexes. We'll keep the team focused on getting to $400 million with what we have and continue to implement new VAPS not just in office but in Storage as well.

In the guidance, you mentioned that it was organic and you're tracking well against your free cash flow targets and leverage goals. Is M&A a realistic opportunity here or any portfolio shifting given how 2021 might unfold?

Yes, M&A is absolutely realistic now.

Great. Thank you.

It's always been part of the growth strategy for both companies. Mobile Mini was a steady acquirer over the last two years with tuck-in acquisitions and WillScot has seen M&A be highly accretive. There are no financial or operational constraints today; we tend to be opportunistic.

The beauty is we don't have to do anything to deliver an outstanding trajectory.

Great, guys. Thank you.

The next question is from Brent Thielman with DA Davidson. Please go ahead.

Thank you. Good morning. And congrats on a great quarter and year. I want to follow up on Storage, supply constraints in the industry and cost of materials and whether that's a constraint for smaller participants and another lever for rate over the near term?

Yes, Brent. We monitor domestic manufacturers and have a good pulse for how busy they are. We're sitting around 70% Modular utilization. One of our competitive advantages is our refurbishment capability—we manage units over a long life cycle, 20 to 30 years, not 10 to 15. We have a lot of inventory to grow the business for several years before we need large-scale domestic Modular fleet purchases. We also have international sources of supply for our FLEX product, which we bring in flat-pack and containers. That's an innovative Modular solution in the marketplace right now. So I think the supply-demand balance is a net positive and we're happy to see it.

I might add that scale is a huge differentiator. When you're talking about a smaller competitor, our ability to reposition assets and leverage scale is a significant advantage.

The second question: On Slide 15, Modular deliveries were up 3% versus down mid-teens in the preceding quarter. Can you help me understand that given Storage trends?

One caveat is the exclusion of seasonal units. We're trying to zero in on the core. I wouldn't read too much into the relative percentages. Storage had a fantastic Q4; actual units on rent were up year-over-year with over a 15% sequential increase from Q3 into Q4 when you include seasonal units. The punch line is both businesses are seeing improvements. Coming out of Q4, we've seen sequential improvements and are more optimistic about the market backdrop than we were 90 days ago.

On the Storage side there's a lot of prior-year business around retail remodels—high-volume, short-duration rentals. Although activations declined, units on rent improved because many units didn't come back. The duration in Storage is similar to Modular; excluding seasonal, it's very much in line with expectations.

Okay, thank you. Appreciate it.

I would add we expect the remodel business to come back; it's a deferral. We're active with our large customers and supportive whenever they're ready to proceed.

The next question is from Sam England with Berenberg. Please go ahead.

Hi, guys. Thanks for taking the questions. First, can you give a sense for the delta between the current pricing you are achieving and the pricing on legacy units coming back on the Modular side if you exclude VAPS? I'm trying to get an idea of the pricing opportunity.

High level, it's similar to the convergence opportunity highlighted on the VAPS slide. VAPS growth is driving 40% to 50% of the double-digit rate growth; core pricing is driving the balance. There's portfolio on-rent pricing optimization that's playing as well, but the biggest driver will be core rates on new units delivered.

Got it. And progress with national accounts—have you had early success on cross-selling with national accounts where there was overlap between you and Mobile Mini?

Yes, examples include the Super Bowl and large retailer responses; those leveraged both teams. We're getting organized to do more: investing in voice of the customer surveys and spending time with large agencies to understand how to provide turnkey solutions for jobs that last multiple years. We're not missing opportunities; this is longer-term upside.

Okay, great. One more—have you seen any impacts from adverse weather recently over the course of Q1?

Yes, we've seen impacts. Think of hurricanes and similar events: they don't move the needle at the top, but they cause short-term volume disruptions followed by periods of increased volume and supportive rates. First and foremost, I'm satisfied our employees are safe and we haven't lost fleet or branches.

Okay, great. Thanks very much, guys. I'll pass it over.

The next question is from Andy Wittmann with Baird. Please go ahead.

Thanks, guys. The delivery information was helpful. Since we didn't have order data this quarter, can you talk about the status of the order book in Modular and Storage and the experience in the quarter on returns? In Q3 you mentioned return activity was down 19%; what was return activity in Q4?

In Q4, the year-over-year decline in return activity moderated significantly. Return activity was down mid single-digits across the business, normalizing as we head into 2021. Those big return declines in Q2 and Q3 helped mitigate some unit-on-rent impact from the delivery shock in Q2. Regarding orders, we didn't include order data because there's more noise than in deliveries. A delivery is a unit on rent and is a cleaner metric. We're seeing strong year-over-year increases starting the year and that informs our 3% to 5% delivery growth assumption for 2021. Sitting here today, think low to mid single-digit year-over-year order growth heading into the year, and we're using that to inform our outlook.

Cool. That's all I had. Have a good day and weekend.

You as well.

Thanks, Andy.

The final question is from Sean Wondrack with Deutsche Bank. Please go ahead.

Hey, Brad and Tim. Great job operationally and on the M&A side in a difficult year. Regarding M&A, are you seeing any larger scale opportunities out there, on Storage or Modular, where you would contemplate a transaction that might cause a short-term increase in net leverage before trending back to your target, given accelerating free cash flow?

We don't comment on specific competitor strategies. As we've said, we have the capacity and capability to pursue accretive M&A. Given our scale on the Storage side, the largest targets would be a fraction of our size; nothing on the magnitude of WillScot and Mobile Mini coming together to transform the industry. We have capability and capacity and a busy pipeline as we integrate these two companies and start unlocking value drivers.

That's helpful. Thank you very much.

We have now reached the end of today's call. I will turn the call back over to Nick.

Thank you, Thiya. Thank you all for your interest in WillScot Mobile Mini. If you have additional questions after today's call, please contact me. Thank you.

Thank you. Ladies and gentlemen, this concludes today's conference. You may now disconnect.