Quaker Houghton

Greetings. Welcome to Quaker Houghton Third Quarter 2020 Investor Call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. Please note this conference is being recorded. I will now turn the conference over to Michael Barry, Chairman, CEO, and President. Thank you. You may begin.

Good morning, everyone. Joining me today are Mary Hall, our CFO, Robert Kropp, our general counsel, and Shane Hostetter, our head of finance and chief accounting officer. We have slides for our conference call. You can find them in the investor relations section of our website at www.quakerhoughton.com. A great deal has changed in the world in 2020 with the COVID-19 pandemic. For us, our top priority is and has been to protect the health and safety of our employees and their customers, while ensuring our business continuity to meet our customers' requirements. All of our 34 plants around the world are operating, and we are satisfying all of our customer needs. I am very proud of what the Quaker Houghton team has done to continuing to service our customers, as well as to continue our integration efforts, which are going well. We are pleased with our results for the third quarter, when considering we were coming from such a weak second quarter. Overall, our sales were up sequentially 28% from the second quarter, and down 5% from the third quarter of last year on a pro forma basis. Let me now give you a little more flavor on what we experienced by segment or region. First, as we look sequentially, the Americas saw the largest quarterly net sales improvement as sales grew 48%, sequentially driven primarily by stronger volumes. A similar story occurred in Asia Pacific, EMEA, and our global specialty businesses, where volume improvement drove net sales increases of 24%, 21%, and 16%, respectively, compared to the second quarter. So we saw good sequential improvement in all business segments. Another way to indicate this sequentially quarterly sales trend is to look at what happened in our three main customer industry groups on a global basis. Metalworking increased the most and grew 39% sequentially from the second quarter, due primarily to automotive OEM and related suppliers coming back from the prolonged shutdowns or significantly reduced production rates in the second quarter due to COVID. Our other industry groups of metals and global specialty businesses also increased and showed growth of 21% and 16% respectively. I hope these different cuts of our significant sequential sales increases helped provide insight to what was happening in the quarter. So overall, our sequential volumes were up 27%, but our pro forma volumes were still down versus last year by approximately 10% when excluding the positive impact of Norman Hay, which we acquired last October. This approximate 10% decline was felt in all regions and segments However, Asia-Pacific was less impacted since China actually showed modest year-over-year growth. I also want to point out that we did continue to take market share despite the weakness in our end markets, as our continued analysis shows that we have total organic sales growth due to net share gains of approximately 2% in this quarter versus the third quarter of last year. I am very pleased to see the strong rebound from last quarter, but we're certainly not all the way back. As we said previously, we estimate it will take at least two more years for our markets to fully return, and some markets like aerospace, which makes up about 3% of our sales, will take more time than that. However, we expect our sales to rebound more quickly due to our projected continued market share gains, as well as our potential smaller bulk on acquisitions in the future that we may make. Concerning gross margins, for the third quarter, they were up significantly compared to both the second quarter and to last year. The sequential increase is primarily due to higher volumes and its impact on the fixed portion of our manufacturing costs. The increase from last year was primarily due to the realization of our manufacturing and raw material cost synergy savings. This pandemic and its impact have been similar in many ways to what we went through in late 2008. Just like then, we took fast action to save costs in numerous ways. Essentially, all discretionary expenses have been eliminated, we stopped new hires where possible, some positions were furloughed, and our planned capital expenditures have been cut by over 30%. And very importantly, we reviewed our integration synergy plans in light of this situation and took additional actions as well as accelerated other synergies where possible. This has led to additional cost synergies as we have increased our guidance on synergy achievement again this quarter. For 2020, our current estimate is $58 million of cost synergies achieved versus our earlier estimate of $53 million. Also, the total synergies we estimate that we will achieve in 2021 have been raised from $65 million to $75 million with 22 reaching 80 million. In this quarter, we achieved 17 million in synergies, and we expect sequential improvement during our future quarters. So overall, we are pleased with the quarter, given the environment in which we were operating, and we did see significant sequential improvement in our sales, gross margins, and adjusted EBITDA. Also, our cash flow is very strong, and our net debt decreased by 7% or 58 million. The positive cash flow nature of our business during severe downturns is something we have discussed with investors in the past, and we're now seeing its positive impacts again in these tough times. Looking ahead, we anticipate that throughout the next year or two, our markets will show gradual, sequential improvement. However, it's hard to predict that improvement by quarter given the continued uncertainty in our operating environment. For the fourth quarter, we expect our adjusted EBITDA to be in the ballpark of the third quarter. And for the full year, we expect our adjusted EBITDA to exceed $215 million. Overall, our higher expected synergies, additional cost saving actions, and improvement in our product margins and our cash flow management are expected to continue to help us during this period of time when our markets are down versus pre-COVID levels. As we look forward to 2021, We expect our adjusted EBITDA to increase by 20 plus percent as we continue our integration savings, take market share in the marketplace, and benefit from an expected gradual rebound in demand. In closing, I want to thank all of our colleagues at Quaker Houghton whose dedication and expertise helps to create the value for our customers and shareholders and differentiate us in the marketplace. I am so proud of how our team has performed in servicing our customers, meeting their needs, and successfully continuing with our integration execution, which is both critical and difficult for us this year. People are everything in our business, and by far our most valuable asset, and ensuring their safety and well-being is and will continue to be a top priority for us. I am proud of and very happy with our Quaker Health team, and what we have and will be able to accomplish for our customers and investors both now and going forward. And that concludes my prepared remarks. I'll now hand it over to Mary so that she can review some of the key financials for you for the quarter. Mary?

Thank you, Mike, and good morning, all. Before I begin, let me remind you that comments made during this call include forward-looking statements, which are based on current expectations, estimates, projections, and assumptions, that are subject to risks and uncertainties, which may cause actual results to differ materially. For a discussion of these risks, please review the cautionary statements regarding forward-looking statements included in our earnings release and in our 2019 Form 10-K filed with the SEC. These are available on our website. Please also note that we've continued to update our risk factors in our Form 10-Q to address the evolving COVID-19 related issues. and these risk factors should be reviewed along with those in our 2019 Form 10-K. In our press release and in this presentation, we provided certain information, including non-GAAP earnings per diluted share, non-GAAP operating income, and adjusted EBITDA, as well as certain pro forma items in an effort to provide shareholders with better visibility into the company's core operations. excluding certain items which we believe do not reflect our core operating performance. Reconciliations are provided in the appendix of this investor deck. In this review, our comparison periods show actual and non-GAAP results, as well as pro forma sales and pro forma adjusted EBITDA, as if we've been combined with Houghton throughout the periods presented. Remember that we closed the combination on August 1st, 2019. So our actual reported and non-GAAP Q3 2019 results include only two months of Houghton. Please see slides six through 10 now while I review some highlights. As Mike noted, we saw sales rebound to 367 million in the third quarter, up 28% from 286 million in Q2, but still down 5% from pro forma Q3 2019 sales of 386 million. due primarily to lower volumes as a result of COVID-19. Our gross margin of 38.2% is up significantly from our gross margin of 34% in Q2 and 32.3% in Q3 of last year, which we estimate would have been about 35.5%, excluding a purchase accounting adjustment. We also saw a benefit to our gross margin this quarter, that we estimated approximately 0.5%, which we attribute to price mix that we believe was unique to the quarter. You might remember on our last call that I commented that we expected the benefits of our procurement synergies and manufacturing optimization to be more visible as volumes pick up. And this is what you see coming through as part of our sequential improvement. In addition, our cost synergies in these areas continue to increase as reflected in our updated cost synergy estimates. Our non-GAAP operating income of $43.2 million rebounded significantly from Q2's $11.2 million and is also up 25% from $34.5 million in Q3 of last year, primarily due to the addition of Houghton and Norman Hay and the benefits of realized cost synergies. partially offset by the negative impact of COVID-19. Similarly, our non-GAAP EPS of $1.56 is up significantly from Q2's 21 cents, while it is flat to last year as a result of the additional shares issued at close of the combination. Our effective tax rate in the current quarter was an expense of 8.1 percent versus a benefit of 27.6 percent in Q3 of last year. We've seen significant volatility in our quarterly effective tax rates due to COVID-19 related changes in profitability, as well as continued updates to the 2017 tax law. Excluding the impact of all unusual items, we estimate that our Q3 effective tax rates would have been approximately 24% and 20% for 2020 and 2019, respectively. For the full year, we expect our effective tax rate, excluding all unusual items, will be in the range of 23 to 25 percent. As Mike mentioned earlier, we're pleased to see our adjusted EBITDA almost double to approximately 64 million in Q3 from the Q2 low of approximately 32 million and increase approximately 5 percent compared to our pro-form adjusted EBITDA of 61 million in Q3 of last year. This is due primarily to the benefits of our realized cost synergies in the quarter and the inclusion of Norman Hay, more than offsetting the negative impact of COVID-19. Another bright spot in the quarter was our cash flow. As we discussed in our last call, because our business is so asset light with most of our investment in working capital versus property, plant, and equipment, When we experience a major downturn in volumes, we expect to see significant positive cash flow from releases in working capital. Indeed, we saw this in both Q2 and Q3 and are pleased to report that our year-to-date operating cash flow more than tripled versus last year to 112 million. In addition, our low capital intensity allows us flexibility with our capital spending. and consistent with our Q2 call, we're on pace to reduce our CapEx by more than 30% versus our original pre-COVID estimates. As a result of our strong cash flow, we're able to reduce net debt by 58 million, a 7% reduction from Q2. This improves our leverage ratio to 3.4 times from 3.7 times at the end of June. And our bank calculated leverage at the end of Q3 was about 2.9 times versus our covenant maximum of 4.25. In short, our liquidity and leverage showed good improvement from already solid levels. In addition, as Mike noted, we further increased our estimates of expected combination cost synergies from 53 million to 58 million in 2020, from 65 to 75 million in 2021, and from 75 to 80 million in 2022. In summary, our track record of navigating successfully through tough economic environments by gaining share, disciplined cost management, and generating good cash flow during major downturns all give us confidence in our ability to weather the current challenges. This strong core operating performance is further enhanced by the cost synergies we're realizing from the combination, and we're seeing the meaningful impact the synergies have on our financial performance. In 2021, as Mike mentioned, we expect to see a greater than 20% increase in adjusted EBITDA. Finally, we believe the company's well-positioned to leverage the expected upswing in business activity. Thank you all for your interest in Quaker Houghton. And now I'll turn it back over to you, Mike.