Clean Harbors, Inc. — Q1 2013 Form 10-Q Summary
Business Context and Reporting Period
Clean Harbors is a North American provider of environmental, energy and industrial services. This unaudited Form 10-Q covers the three months ended March 31, 2013, compared with the three months ended March 31, 2012.
The quarter reflects the December 28, 2012 acquisition of Safety-Kleen for approximately $1.3 billion. Safety-Kleen’s results are included beginning in the first quarter of 2013. The company reorganized its reporting structure into five segments: Technical Services, Oil Re-refining and Recycling, SK Environmental Services, Industrial and Field Services, and Oil and Gas Field Services. Prior-period segment information was recast.
Financial Performance and Key Metrics
| Metric | Q1 2013 | Q1 2012 | Change |
|---|---|---|---|
| Total revenue | $862.2 million | $572.0 million | Up 50.7% |
| Service revenue | $672.6 million | $534.3 million | Up 25.9% |
| Product revenue | $189.5 million | $37.7 million | Up 402.9% |
| Gross profit | $226.1 million | $171.7 million | Up 31.7% |
| Gross margin | 26.2% | 30.0% | Down 380 basis points |
| Income from operations | $34.8 million | $61.7 million | Down 43.5% |
| Adjusted EBITDA | $111.2 million | $100.9 million | Up 10.2% |
| Net income | $10.5 million | $32.0 million | Down 67.2% |
| Diluted EPS | $0.17 | $0.60 | Down $0.43 |
| Cash flow from operations | $39.6 million | $29.6 million | Up 34.0% |
Lower operating income and net income primarily reflected the Safety-Kleen acquisition, which added lower-margin businesses, higher depreciation and amortization, higher corporate expenses, acquisition-accounting adjustments and increased interest expense. The company recorded $13.6 million of pre-tax, non-cash acquisition-accounting adjustments and approximately $1.2 million of Safety-Kleen acquisition costs in selling, general and administrative expense.
Adjusted EBITDA increased despite weaker GAAP earnings. Corporate Items Adjusted EBITDA declined to negative $55.1 million from negative $25.2 million, while Oil and Gas Field Services Adjusted EBITDA declined 31.5% to $27.6 million. Technical Services Adjusted EBITDA increased 15.7% to $60.0 million, and Industrial and Field Services increased 6.7% to $36.3 million.
Cash Flow, Liquidity, Debt and Balance Sheet
- Cash and cash equivalents were $222.1 million at March 31, 2013, compared with $229.8 million at December 31, 2012.
- Operating cash flow was $39.6 million. Capital expenditures were $72.2 million, resulting in substantial investment-driven cash usage.
- Net cash used in investing activities was $72.3 million, compared with $35.8 million in the prior-year quarter.
- Net cash from financing activities was $25.6 million, primarily reflecting a $26.4 million increase in uncashed checks.
- Total long-term obligations were $1.4 billion, consisting of $800 million of 5.25% senior unsecured notes due 2020 and $600 million of 5.125% senior unsecured notes due 2021.
- The amended revolving credit facility provides up to $400 million of borrowings. No loans were outstanding at quarter-end; $262.3 million was available, with $137.7 million of letters of credit outstanding.
- Management stated that the company was in compliance with debt covenants and believed it was reasonably likely to remain compliant.
- Environmental liabilities totaled approximately $219.9 million and are expected to be paid over many years.
- Total assets were $3.80 billion and stockholders’ equity was $1.42 billion at March 31, 2013.
Material Changes Versus the Prior Comparable Period
- Revenue growth was primarily acquisition-driven, with new Oil Re-refining and Recycling and SK Environmental Services operations contributing materially.
- Technical Services direct revenue increased 12.1%, supported by projects, higher drum volumes, wastewater treatment volumes and Safety-Kleen integration. Incinerator utilization declined modestly to 88.9% from 89.7%, and landfill volumes decreased approximately 12%.
- Industrial and Field Services direct revenue increased 8.7%, driven by Canadian oil sands activity, field services and turnaround work.
- Oil and Gas Field Services direct revenue decreased 18.9% because of lower Western Canadian rig counts, reduced surface rental activity, lower seismic activity and weaker energy services demand.
- Gross margin declined because Safety-Kleen carries lower margins and Oil and Gas Field Services experienced lower revenue.
- SG&A increased 81.6% to $128.5 million, mainly from Safety-Kleen-related compensation, computer, travel, professional fee and rent costs, as well as higher severance and acquisition-related professional fees.
- Depreciation and amortization increased 62.9% to $60.0 million due to acquisitions and recent capital expenditures.
- Net interest expense increased to $19.9 million from $11.3 million because of the $800 million 2020 notes and $600 million 2021 notes, partly offset by the redemption or repurchase of $520 million of older 7.625% senior secured notes.
- The effective tax rate declined to 32.2% from 36.1%, primarily because of the geographic mix of earnings and the release of an unrecognized tax benefit.
Outlook, Commentary, Risks and Unusual Items
Management stated that existing cash, marketable securities, operating cash flow and revolving-credit availability were expected to provide adequate liquidity for working capital, capital expenditures, interest payments and potential acquisitions. The filing does not provide specific quantitative revenue, earnings or Adjusted EBITDA guidance.
- Oil Re-refining and Recycling faced a negative Group 2 base-oil pricing environment during the quarter: pricing declined $0.38 per gallon in January and recovered $0.15 per gallon in March.
- Commodity derivatives acquired or entered into by Safety-Kleen are intended to reduce, but not eliminate, exposure to oil-price declines. They also limit upside above specified price caps and expire in 2013 and 2014.
- The company held $4.4 million of illiquid auction-rate securities. These securities retained AAA underlying ratings and continued to pay interest, but may not be readily saleable without a potential loss of principal.
- Environmental, Superfund, permitting, remediation and regulatory matters are recurring risks. The company had $39.0 million of reserves for legal and administrative proceedings and believed reasonably possible additional exposure could be as much as $3.5 million.
- The company or its predecessors were identified as potentially responsible parties at 120 Superfund sites. Certain Safety-Kleen product-liability and customer fee class-action matters had no recorded reserve because the ultimate exposure could not be reasonably estimated.
- The company could not estimate potential additional liability for the Devil’s Swamp cleanup pending selection of a final remedy.
- Safety-Kleen acquisition accounting remained provisional and could result in further adjustments. A one-time, non-cash reduction of approximately $10.2 million to corporate revenue and a $3.4 million increase to corporate cost of revenue reflected acquisition-accounting adjustments to deferred revenue, inventory and deferred costs.
- Foreign-currency translation produced a $23.3 million after-tax reduction in other comprehensive income, resulting in a $13.4 million comprehensive loss for the quarter despite positive net income.
- Management reported effective disclosure controls as of March 31, 2013. Internal-control procedures were being extended to Safety-Kleen, with combined operations to be assessed at December 31, 2013.
Important Facts for Investors to Verify
- Whether Safety-Kleen integration produces the expected revenue and cost synergies without further margin dilution or elevated corporate expenses.
- The sustainability of Adjusted EBITDA growth relative to GAAP operating income, net income and cash generation.
- Capital-expenditure requirements and whether operating cash flow can fund ongoing investment, environmental obligations and interest payments.
- Leverage, refinancing requirements and covenant headroom under the $1.4 billion senior unsecured debt structure.
- Oil-price and base-oil pricing sensitivity, including the economic impact and maturity profile of Safety-Kleen’s commodity derivatives.
- The collectability and liquidity risk associated with auction-rate securities.
- Final purchase-price allocation and any resulting changes to goodwill, intangible assets, amortization or reported earnings.
- Developments in Superfund, environmental, product-liability and class-action matters, including exposures not currently reserved.
- Operating trends in Western Canadian oil and gas markets, landfill volumes and incinerator utilization.