Target Hospitality Corp.

Good morning, ladies and gentlemen, and welcome to the Target Hospitality Second Quarter 2024 Earnings Call. At this time, all lines are in listen-only mode. Following the presentation, we will conduct a question-and-answer session. If at any time during this call you require immediate assistance, please press star zero for the operator. This call is being recorded on August 7, 2024. I would now like to turn the conference over to Mr. Mark Shook, Senior Vice President of Investor Relations. Please go ahead.

Thank you. Good morning, everyone, and welcome to Target Hospitality's second quarter 2024 earnings call. The press release we issued this morning outlining our second quarter results can be found in the investor section of our website. In addition, a replay of this call will be archived on our website for a limited time. Please note the cautionary language regarding forward-looking statements contained in the press release. This same language applies to statements made on today's conference call. This call will contain time-sensitive information as well as forward-looking statements which are only accurate as of today, August 7, 2024. Target Hospitality expressly disclaims any obligation to update or amend the information contained in this conference call to reflect events or circumstances that may arise after today's date. except as required by applicable law. For a complete list of risks and uncertainties that may affect future performance, please refer to Target Hospitality's periodic filings with the SEC. We will discuss non-GAAP financial measures on today's call. Please refer to the tables in our earnings release posted in the investor section of our website to find a reconciliation of non-GAAP financial measures referenced in today's call and their corresponding GAAP measures. Finally, as previously announced, On March 25, 2024, Arrow Holdings, an affiliate of TDR Capital, proposed to acquire all outstanding shares of common stock of Target Hospitality it or affiliates do not already own. The Board of Directors of Target Hospitality has established a special committee of independent directors to evaluate this proposal. The special committee has retained their own independent outside financial and legal advisors and collectively they are continuing their review and evaluation of the proposal, as well as evaluating alternative proposals and other strategic alternatives. At this time, the Special Committee has made no decision with respect to the proposal. As a result, management will be unable to comment on the proposal or the evaluation process during today's call. Leading the call today will be Brad Archer, President and Chief Executive Officer, followed by Jason Vlasic, Chief Financial Officer and Chief Accounting Officer. After their prepared remarks, we will open the call for questions. I'll now turn the call over to our Chief Executive Officer, Brad Archer. Thanks, Mark.

Good morning, everyone, and thank you for joining us on the call today. Our second quarter performance continues to illustrate the benefits of our efficient operating structure and network capabilities. These elements support our ability to deliver strong financial results while remaining focused on delivering the premium hospitality solutions our customers demand. The scale and flexibility of our network has established a highly durable operating model that supports the consistent achievement of our financial goals and has established a materially enhanced financial position centered on the strength of our balance sheet. We are confident these fundamentals will continue to support strong operating margins through cycles, enabling us to support our world-class customers while continuing to pursue diversifying growth opportunities. Turning to our segment, In the government segment, our PCC community has entered its fourth year of service and is the longest serving influx care facility in the United States. Our operational commitment has solidified PCC as a cornerstone in supporting the government's critical domestic humanitarian aid mission, and we anticipate a normal course renewal of this contract in November of this year. Further, This established presence and consistent operational performance supports targets continued engagement with the U.S. government and other strategic partners to jointly pursue the creation of a third ICS site, not currently in the government's portfolio. We are pleased with continued dialogue regarding this opportunity. And as we have previously stated, we anticipate additional details regarding the third ICS site later in 2024. Regarding our HSS segment, we continue to benefit from consistent customer demand as our world-class customers find added value in our network flexibility and the range of premium solutions we provide. As an example, our unmatched capabilities support the expansion of existing customer relationships during the quarter, further illustrating the broad reach of our service offerings to meet a variety of customer needs. Additionally, we continue to take steps to realize incremental operational efficiencies across this segment and evaluate opportunities to strengthen margin contribution through enhanced network optimization. Our existing contract portfolio and commitment to network optimization continues to support impressive operating income and industry-leading cash conversion. Target's enhanced financial profile establishes the ideal position to continue evaluating a pipeline of attractive growth initiatives. We believe these naturally adjacent opportunities will complement our existing service offerings while establishing multiple avenues to expand Target's long-term growth opportunity set. Within the government end market, we remain engaged with multiple federal agencies on a variety of solutions they are seeking to implement along the U.S. southern border. As Target continues to evaluate these opportunities, we are actively seeking to utilize Target's existing strategically located South Texas assets to support these solutions. Further, we continue to pursue a growing pipeline of non-government growth initiatives. As we have previously discussed, these opportunities include large industrial projects throughout the U.S., including technology infrastructure, energy transition, and the increase in domestic rare earth development. Importantly, these opportunities remain centered on Target's full turnkey hospitality solutions, as well as expanding our value chain participation through individual elements of existing core competencies. As a reminder, the size of these growth opportunities inherently leads to longer sales cycles. While we are pleased with the continued dialogue on many of these opportunities, the timing and final outcomes are uncertain and can be difficult to predict. As we evaluate these initiatives, we remain committed to achieving defined objectives of our growth strategy. Our primary objective remains focused on diversifying our contract portfolio and broadening our customer reach while continuing to generate strong operating income and industry-leading cash conversion. In summary, we have established an enhanced financial position centered on the strength of our balance sheet and strong cash flow generation. These elements support our ability to provide a premier service offering to our customers while simultaneously delivering strong financial results and pursuing attractive growth opportunities. I'll now turn the call over to Jason to discuss our second quarter financial results in more detail. Thank you, Brad.

Our second quarter results continue to reflect the benefits of our efficient operating model and network flexibility. Second quarter 2024 total revenue was approximately $101 million, and adjusted EBITDA was approximately $52 million. Our government segment produced quarterly revenue of approximately $60 million. The decrease in revenue from the prior period was driven by non-cash, non-recurring infrastructure enhancement revenue associated with the significant expansion that occurred at our PCC community in 2022, which was fully amortized as of November 2023. Our HFS and other segments delivered quarterly revenue of $41 million. These segments continue to benefit from the consistent customer demand illustrating the value our customers find in our premier hospitality solutions. Recurring corporate expenses for the quarter were approximately $9 million. We anticipate these will remain around $9 to $10 million per quarter for the remainder of the year. Total capital spending for the quarter was approximately $9 million, primarily focused on enhancing and maintaining Target's asset base across our expansive network. The strength in our core service offering continues to support strong cash generation and an enhanced financial profile. We ended the quarter with $154 million in cash and $329 million of liquidity with zero borrowings under the company's $175 million revolving credit facility and a network leverage ratio of 0.1 times. These impressive financial results, coupled with a high degree of revenue visibility, and strong cash conversion support our 2024 financial outlook, which consists of total revenue of between $375 and $385 million, and adjustment of between $184 and $190 million, with anticipated 2024 capital expenditures of between $25 million and $30 million. We continue to progress towards achieving zero net debt and anticipate ending the year with over $350 million in total liquidity. As a reminder, given the dynamic fluctuations in the PCC community population, we believe it is prudent to exclude any incremental PCC occupancy-based variable revenue from our 2024 financial outlook. Regarding our outstanding 2025 senior notes, we continue to evaluate a range of possible liability management initiatives focused on further strengthening our financial position, while balancing and expanding pipeline of strategic growth opportunities. This approach is centered on maximizing financial flexibility, enabling us to quickly react to value-enhancing growth opportunities as they arise. The strength of our balance sheet, high degree of revenue visibility, and continued strong cash conversion provides the ability to continue to actively evaluate and pursue a strong pipeline of growth initiatives. These opportunities are designed to leverage targets operating expertise and existing core competencies to establish a robust service offering across various U.S. government agencies and commercial applications. Importantly, as we evaluate these initiatives, we will remain focused on maintaining the enhanced financial profile we have achieved through disciplined capital allocation and strong discretionary cash flow conversions. With that, I will turn the call back over to Brad for closing comments.

Thanks, Jason. Our second quarter performance reflects the flexibility of our operating model and our ability to consistently deliver strong financial results. This execution is reflected in the strength of our balance sheet, strong liquidity profile, and enhanced financial positions. These fundamentals provide tremendous confidence in our ability to continue delivering impressive financial results while simultaneously pursuing a growth pipeline focused on expanding and diversifying our contract portfolio and customer reach. I appreciate everyone joining us on the call today, and thank you again for your interest in Target Hospitality.

Thank you. Ladies and gentlemen, we will now begin the question and answer session. Should you have a question, please press the star followed by the number one on your touchtone phone. You will hear a prompt that your hand has been raised. Should you wish to decline from the polling process, please press the star followed by the number two. If you are using a speakerphone, please lift the handset before pressing any keys. One moment, please, for your first question. Our first question is from Steven Gendero from Stiefel.

Thanks. Good morning, everybody. Good morning. Good morning. So two things for me. The first, trying to think about exactly what I asked, but when we think about the HFS South business and you think about the capacity that you have that's dedicated to, you know, sort of the traditional core oil field businesses, how is that capacity versus capacity sort of demand and contract commitments. And I think what I'm trying to get to is, A, how do we think about that business in general going forward? And I know that there's been kind of a drop-off in activity here near term. And, B, are you kind of a critical mass where you can't reallocate any of those assets if something was to pop up? Or just trying to kind of gauge the capacity versus utilization and demand in the oil patch.

Yeah, look, I think we're pretty appropriately optimized throughout the network. I would tell you, you know, there's shifts in our customer spend. And just recently we relocated some assets, you know, from one location to another. So we still have the ability to do that, Steve, and we'll continue to look at that. The business has been good there. It's been steady. We look for that to continue. As we said, we're optimizing, you know, just some of the efficiencies. But overall, the business has been good and strong for us there. Optimization, I think, is probably the best we've seen it in a long time. It's kind of been that way for about a year. And we're starting to see a few customers ask for more. So that's nice. I'm not going to guarantee that comes, but it's nice to see some of these larger folks that have now entered the Permian over the past few years. looking at doing more on their own. They're kind of getting into some more remote areas and talking to us about doing some things. So we look, you know, that business to continue.

And we did add capacity last year. We purchased some assets in Q1 of last year. And then we also redeployed some assets from the government segment as well. So we feel like the capacity is in a pretty good spot, but we still have the ability to move things around if we need to.

And then just as a follow-up to that, I'm glad you mentioned kind of the larger customer base. Does the M&A activity and there being kind of fewer larger players and the bigger players getting bigger. Does that help in certain negotiations, maybe not on price, but on sort of contract duration and kind of visible demand from your customers?

Look, as you know, you've been in this a long time as well as me on some of the energy side. When you get a more mature company in there, the Exxons, the Chevrons, the Oxys that are spending They look longer term. So, you know, our ability to do that is helped as well. Right. So so we like that. We think that's a positive. They also look at the HR side a little differently than some of your smaller firms. They want to take care of. It's not that the others don't, but they put a priority on making sure their workforce is taken care of. So, you know, as they ramp up, we think that that helps us in that.

Great. And then just one final follow-up to that, and just kind of given what Exxon's doing and their sort of expectations on the DLE, on the lithium side, does your relationship historically with companies like Exxon is one that comes to mind in the oil patch give you a leg up when you start talking about potential contractual agreements around alternative places?

Yeah, I would just say in general, right, if you're doing business with one of the larger companies, the door is open. You don't have to beat on it a lot to get in and talk to them about an Arkansas or wherever they might be looking at doing some different work that's not so much oil and gas. So, yeah, it definitely helps.

Okay, great.

Thank you for the details. You bet.

Our next question will be coming from Scott Schneeberger from Oppenheimer.

Thanks very much. Good morning. Good morning. I want to start out in discussing PECOS. That's on a one-year review of extension, and it'll be around the time of the third quarter call where that's around renewal time, that's around election time. I'm just curious, I know you probably can't say too much, Brad, right now, but What type of conversations are you having with the government? Do you have a sense of if that will be renewed or not? Or does that start much closer to that time?

Yep. Yep. I knew somebody would ask that question, right? But, yeah, so, look, we anticipate uninterrupted service, you know, operating through the November election and a normal course PCC renewal. uh there has been some discussions already about that and that's what kind of frames my statement to you scott on the normal course pcc renewal i won't get into too much detail uh we do expect that uh look in november right up at the time they're not going to do it early just kind of how these idiqs work but there's nothing that has been discussed that would tell us any differently And, in fact, it's quite the opposite, right? So we feel good about that going into November.

All right, thanks. Appreciate that. And then this third potential contract for ICF, I think I heard you say anticipating something to happen before the end of the year. So this is a similar question. What type of timeline is that on, and what's the level of certainty you're feeling about Obviously, there's a change at Dilley. So, you know, the government's considering things in a lot of different ways these days. Just curious, your feel there. Thanks.

Yeah, I think the difference, you know, for everybody, and we've talked about this a lot, is when you look at the, you know, the laws that protect the children, you know, the unaccompanied minors, it's different than what was going on in Dilley. So they had some flexibility and some reasons they did that. But on the ICF, they still need this emergency influx capacity. Look, as of recent of last week, we were told this is moving forward. We have actually submitted our design, as did some other competitors that they requested. We expect this to become more formalized, if you will, in the fourth quarter towards the end of the year. But today, we fully expect this to move forward and then to award that project. And we're in the middle of that.

Thanks. And just one more for me on the topic of Dilley. It feels like that's an interesting asset that could be certainly repurposed, and there's a lot that's going to happen over the coming few months with election and other things, and particularly kind of in the context of how you were answering the prior two questions. But just, Brett, what's, you know... So HFS could be repurposed for an option there, probably still government considerations. Just what's the future of Dilley Hold, do you think?

Yeah, absolutely. And good question. Look, for one, let me just high level. The assets are in great shape. They've been used for 10 years, but they've been kept up just like all of our facilities. So great shape to go to use again immediately, right? the location of this facility being close to the southern border is a major positive, where it's at as it sits, right? We feel strongly the use case for this facility is very high as well. And I just leave you with this. We've already started remarketing this facility as soon as we found out about this, right? To government agencies, as well as multiple prime contractors that do business with the government, as well as an HFS. But we think this facility, where it sits, how it's designed, really has a lot of capabilities to be put back to use and not be moved. I would tell you we're already in the early innings. We've had a formal request come through for a proposal. And so we'll get that in here over the next few weeks. We'll see where it goes. But the marketing and just the availability of this is already piquing folks' interest within the government prime contractors that lease to the government as well and provide services there. And look, it's an election year. I don't care which side of the aisle gets in on that. I think this has a lot of legs. And I feel good about remarketing where it sits. If we don't, we've shown over the past through North Dakota and in Texas that we are very good at reutilizing our assets. So I have no doubt we'll get this back out on lease. Timing, I'm not going to give you, but I like what's happening kind of in the early innings today in the ballgame. All right, thanks for taking the questions. Yep.

Ladies and gentlemen, if you have any questions, please press star followed by the number one on your touchtone phone, and you will hear a prompt that your hand has been raised. Again, if you have any questions, please press the star followed by the number one on your touchtone phone. and you will hear a prompt that your hand has been raised. Last question on the line will be coming from Greg Dubas from Northland Security.

Hey, good morning, Brad and Jason. Thanks for taking the questions. Good morning. You know, nice to hear anticipating, you know, normal course renewal with the PECOS facility. Curious if you just had any visibility or hearing anything on kind of utilization trends going forward and, you know, when you would expect maybe that to pick up and what maybe you think needs to happen for increased usage of that facility?

You mean with respect to the PCC facility, right? Correct? Utilization. Yes. Yeah. So as a reminder, we did have some utilization in Q1, some variable services revenue generated by that. It is possible that the utilization trends the way it did last year, where it picked up in, you know, September Q4 timeframe. And so that is, that's a possibility. You know, right now, obviously, there's little to no utilization in it. But it's trending exactly as it trended last year. So that's certainly within our expectations based on what we experienced last year in terms of utilization trends.

If the trend repeated itself, you'd actually see something towards the end of the year, right? Not saying that's happening. But there's definitely the possibility.

We just thought it was prudent to note there's none in our revised guidance for the rest of the year, just given the dynamic nature of that, you know, occupancy trends and utilization trends. That said, I mean, again, the occupancy is trending exactly in line as it did last year, you know, Q2 to Q2 year over year. The trend is exactly the same. And so, that being said, last year we did experience utilization pickup in early September through the rest of the year.

Great. And it makes sense from a forecasting perspective, but appreciate the color there. You know, in terms of, I guess, outlook on HFS South, what is your guidance maybe assumed there from, you know, either, you know, kind of an occupancy perspective?

Yeah, we expect the utilization trends to be somewhat comparable to the way they trended in the first half of this year with some moderate seasonality in Q4 consistent with prior year trends. So pretty stable in terms of the utilization trending in HFS South for the rest of the year. Okay, great.

And I guess last one, just more broad about your kind of pipeline of opportunities, just regarding, you know, your evaluation of those organic growth opportunities that you've discussed. You know, any change, I guess, in your pipeline or the outlook or the timing of those potential opportunities? Or, you know, would you just say we're kind of in a similar position as last quarter as you evaluate those opportunities? Yeah.

Yeah, Greg, I would tell you we're still in the same position. I would tell you our pipeline project continues to build, so we've added some quality prospects there. As we've described in the past, the reality is most, if not all, of these are really large projects, so the sales cycle is really long. So for all of us, the the timing is difficult to predict. But our focus continues to be, you know, the diversification of our contract portfolio and expanding our customer reach. And look, we have a good track record over the years of closing large projects. We're going to do that, right? We will get some of these closed. We have a lot of paths to value creation ahead of us, and we'll execute on some of these over time. Got it. Thank you.

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating and ask that you please disconnect your line.