Element Fleet Management Corp.

Good morning, ladies and gentlemen, and welcome to Element Fleet Management's third quarter 2023 earnings call. At this time, all participants are in listen-only mode, and you are reminded that this call is being recorded. Following the prepared remarks, the company will invite questions from analysts. In the event you need assistance during the call, you may signal an operator by pressing the star key followed by zero. Element wishes to caution listeners that today's information contains forward-looking statements. The assumptions on which they are based and the material risks and uncertainties that could cause them to differ are outlined in the company's year-end and most recent MD&A, as well as its most recent AIF. Although management believes that the expectations expressed in the statements are reasonable, actual results could differ materially. The company also reminds listeners that today's call references certain non-GAAP and supplemental financial measures. Management measures performance on a reported and adjusted basis and considers both to be useful in providing readers with a better understanding of how it assesses results. Reconciliation of these non-GAAP financial measures to IFRS measures can be found in the company's most recent MD&A. I would now like to turn the conference over to Laura Dottori-Atanasio, President and Chief Executive Officer of Element. Please go ahead.

Thank you, Operator. Good morning, everyone, and thank you for joining us. I am really proud of our Element team for delivering another outstanding quarter, demonstrating the strength of our strategy and the momentum we continue to enjoy and regenerate. We have delivered record revenue growth at over 15% on a year-over-year basis, a rapidly expanding client base with yet another record by welcoming 55 new clients, of which 22 were self-managed fleets, and we're increasing our common dividend by 20%. This is a result of our resilient business model, which speaks to the quality of our clients and the hard work and focus of our team. In addition to delivering strong financial and operating results, we continued to deliver a superior client experience. We maintained our strong global net promoter score above 40 with a continued 99% client retention rate. We outperformed on our targeted EV acceptance rate. And we had $1.9 billion of new vehicle orders from our clients, representing a 29% year-over-year increase. Our confidence in our growth trajectory is further bolstered by the recent prioritization of opportunities to scale our business and make targeted investments that will drive our future performance. We announced three strategic initiatives that we have underway. They are centralizing accountability for our U.S. and Canadian leasing operations, establishing a strategic sourcing presence in Asia, and advancing digitization and automation, all of which will unlock future growth for us. The first to centralizing accountability for our U.S. and Canadian leasing function at a new element office in Dublin, Ireland, a recognized global leasing center of excellence. This new office will be operational beginning in mid-2024. A number of long-term benefits to both clients and our business support this decision. So let me elaborate. Our experience has been that assigning accountability for the performance of each of our service products to individual senior leaders has driven focus that resulted in accelerated growth. In each of the last seven quarters, services revenue has grown as a result of this approach. Our intention is to replicate this proven model of centralized accountability and apply it to our leasing function. It will be led by Chris Gittins, one of our very seasoned executives, who in his past has successfully run Element's Canadian business as a whole, and he built our strategic relationship business for Megasleeves, including Armada. Most recently, Chris has served as our Chief Information Officer. Chris and approximately 70 employees will be based in Dublin. The centralized accountability for this function will elevate our clients' leasing experience, optimize related operations, and improve pricing discipline, all to maximize the value of our portfolio. Now, secondly, we will establish a small yet strategic sourcing and relationship management presence in Singapore next year. This decision will further enhance our global procurement capabilities. This move is crucial for us to further strengthen our existing ties with Asian OEMs and foster valuable new sourcing relationships. This will provide us with an opportunity to expand and improve our clients' access to new vehicles, and provides our business with the economic benefits of strategic sourcing at scale. And given Asia's global leadership position in the development and production of EVs, it's also aligned with our clients' commitment to sustainability and decarbonization. Chris Tulloch, the leader of our businesses in Australia and New Zealand, will drive this strategic initiative. He is another one of our very talented and seasoned executives within our company. We expect these two strategic initiatives to contribute profitable revenue growth and operational efficiencies that Frank will speak to. Now our third strategic initiative is prioritizing and investing in increased digitization and automation in order to further optimize and scale our business. For now, this comes in the form of having recruited two important new executives to Element. Joining our leadership team, are David Attard in the role of Chief Digital Officer and Yu Jin as our new Chief Information Officer. David will accelerate efforts to scale our business and deliver consistent, superior client experiences through digital solutions, while Yu Jin will be responsible for ensuring we build the right technology infrastructure necessary to ensure that Element can compete and create great client and employee experiences. The time I've spent with our team members, our clients and our suppliers over the past nine months has made clear the importance of enhanced digitization and automation to build the growth momentum our investors have come to expect from Element. Our people are motivated and excited about our future. That energy is translated into the exciting strategic initiatives we're implementing to enhance our value proposition and grow our earnings and free cash flow per share. Moving forward, you can expect us to continue working hard to generate strong results by delivering for our clients. I want to thank our Element team members for your commitment to our clients and the exciting work ahead to build a strong and sustainable future for our business and for our shareholders. With that, I'll hand it over to Frank and look forward to your questions.

thank you Laura and good morning everyone we posted another strong set of results for the third quarter including several new record highs we continue to benefit from our commercial capabilities and investments and strengthening those as well as robust client demand and improve originations drive driven by improving OEM production our performance underscores the trust and confidence our clients have an element and the value that we deliver in addition our This strong performance and solid outlook provides us the opportunity to continue returning capital to shareholders. In this regard, we are pleased to have announced an increase in our annual common dividend by 20% to 48 cents per share annually. In addition, we anticipate redeeming our remaining outstanding preferred shares as they come due this year and next. Finally, we have reauthorized our NCIB to be able to utilize additional excess capital to repurchase common shares over the next 12 months. Before I get into our third quarter results, let me elaborate on the strategic initiatives that Laura spoke to. Echoing her comments, we expect our leasing, strategic sourcing, and digitization and automation initiatives to yield significant intermediate to long-term benefits. We anticipate the leasing and strategic sourcing initiatives to contribute profitable revenue growth and operational efficiencies beginning in 2025 which will conservatively scale to between 40 and 60 million of run rate net revenue and 30 to 50 million of run rate AOI by full year 2028, with the leasing initiative representing the significantly larger portion of these benefits. We will incur approximately 25 to 30 million in aggregate of non-recurring setup costs related to these strategic initiatives. These setup costs will be recorded in operating expenses through Q2 2024 with $3.9 million incurred and accounted for in our G&A this quarter. We will continue to call out these non-recurring setup costs in our disclosure materials so that you can more accurately measure and model our business and the true run rate performance of Element without them. And next quarter, when we report our full year 2023 results, we will provide you more detail as to the expected quarterly amounts and cadence of this SPED. These non-recurring setup costs are related to recruiting, relocation, office setup, IT, severance, and professional fees associated with the leasing and sourcing strategic initiatives. The setup costs have an estimated two and a half year payback period based on conservative estimates of the quantum and timing of run rate benefits we're creating. These are exciting times at Element, and we are investing to benefit our clients, our business, our people, and ultimately our investors. Lastly, before I move on from this topic, I want to be clear that our full year 2023 and 2024 results guidance do not include these non-recurring setup costs related to both the leasing and sourcing strategic initiatives because the setup costs are short-term and temporal in nature and do not increase elements run rate expense base. Turning to our 2024 results guidance, we expect continued strength in Originations growth client demand for element services and financing, and enviable levels of commercial success to drive solid performance again next year. As you saw in our disclosure materials, we expect full year 2024 to deliver the following financial results. Net revenue of between $1.365 and $1.390 billion. Adjusted operating margins of 55% to 55.5%. adjusted operating income of $750 to $770 million, adjusted EPS of between $1.41 and $1.46, and free cash flow of $1.75 to $1.80 per share. Our per share metrics are based on a full year weighted average share count of approximately 397 million common shares for 2024, reflecting the conversion of our convertible securities into common shares upon their maturity mid-year 2024. Regarding 2023 guidance, before the non-recurring setup costs associated with the strategic initiatives, we expect to report full-year results on our key financial metrics that are near, at, or above the high end of the various guidance ranges we've provided previously. Before I walk through our third quarter results, let me level set by highlighting the following. First, as previously discussed, we benefited from $17 million of non-recurring net revenue in Q3 of last year. Excluding that $17 million from year-over-year comparisons represents what we call organic growth, so I'll be citing growth on that basis. Second, the growth measures I cite are in constant currency because the strengthening of both the U.S. dollar and the Mexican peso benefited our Q3 results as reported. Our third quarter results were very strong. We grew net revenue at 15.6% year over year to a record $333.8 million for the quarter. Adjusted operating income, also a record, grew 16.1% on the same year over year basis, despite increased investment in our commercial capabilities. Adjusted operating margin was 55.4% for the quarter. Adjusted EPS for 35 cents, which is a 20.7% improvement year over year. and free cash flow per share was 42 cents, which is a 7.7% improvement year over year. Looking more closely at our net revenue growth, it was driven by services revenue and net financing revenue. Service revenue growth is the first pillar of our capital lighter business model, and services revenue was up 18.2% year over year, driven by share of wallet growth, namely increased penetration and utilization in the US and Canada, as well as double digit growth in Mexico and modest growth in ANC services revenue streams. Net financing revenue grew 11.7% driven by net earning asset growth, with gain on sale growth also contributing. Now I'll briefly turn to the second pillar of our capital lighter financial strategy, which is syndication. We syndicated a record $1 billion of lease assets in the third quarter, and generated $17.3 million of revenue, as well as freeing up excess equity, which we can invest in the business and return to shareholders through dividends and buybacks. Turning now to adjusted operating expenses, the year-over-year increase was largely driven by inflation, capacity needs in our commercial capabilities and client-facing functions, and strategic investment decisions. As I mentioned earlier, Q3 adjusted operating expenses included 3.9 million of non-recurring setup costs related to the strategic emissions. A larger portion of the increases are ongoing investments in commercial capabilities. These are paying off handsomely with resulting net revenue contributions outpacing the adjusted operating expense growth that these investments represent. This has given us positive operating leverage and a 55.4% adjusted operating margin for the third quarter before the non-recurring expenses. The combination of common share buybacks and dividends saw us return $188 million in cash to our investors in 2023 year to date. That return of capital will remain generous going forward, given yesterday's announcement of our 20% common dividend increase to 48 cents per share annually. This dividend is at the midpoint of our 25% to 35% payout range based on last 12 months' free cash flow per share. Before we take your questions, let me highlight two housekeeping items. In 2024, we anticipate $100 million to $110 million of total capital investments required, with approximately $75 million of sustaining capital and the remainder to fund our digitization and automation and other growth initiatives. This is roughly consistent with our 2023 forecasted spend of $100 million, with a modestly heavier weighting to growth initiatives. Second, we anticipate a cash tax rate of approximately 10% this year, 2023, growing to an estimated 12% to 13% for 2024, which remains well below our adjusted effective tax rate of about 25%. In closing, let me say it's great to see the hard work of our people continuing to pay off for our clients. our business, and our investors. Our collective efforts have brought us to this point, and we're incredibly optimistic about what lies ahead. That concludes our prepared remarks for this morning, so I'll turn this call over to the operator for your questions.