Business Breakdowns
· Rob Hansen
We need to fix this or else our plant's going to have less throughput." So they've been able to basically run the plants less hours, generate more tons, and so you have better throughput. And it's this enterprise-wide performance tracking where you can pull this up. Or if there's an issue, instead of having to call somebody, an expert, and have them come on a plane in a week later and fix it, and so there's all this downtime, they can actually just do it over the phone and tell the person, "Go into this location, find that, fix this," whatever. And they like to talk about how the number of Sundays they worked has gone down from 20 to 2 or something like that. Working on Sunday is expensive because it's all overtime. So if you can reduce that and incorporate technology into there, super important.
· Matt Reustle
[00:00:00] S0: Very interesting to see dashboards in other industries outside of finance. Finance, it's usually just the green and red, like you mentioned. You have refineries seeing where their oil is coming from, Nigeria and North Dakota here and crack spreads. The example you just described, which is excellent, it seems like it actually has a meaningful impact on cost. I love that where technology is really coming into play and impacting operations. When they talk about actual profitability of the business, it's profit on a per ton basis. We explained a little bit just in terms of what's driving the revenue. When you split out cost per ton, you talked a lot about the transportation side of things. What other big buckets are there? And how have you thought about that trend line over time, just in terms of the cost of what they're producing and whether that's inching upwards or downwards and how they control that?
· Rob Hansen
[00:00:00] S1: So I'm going to attack this from a little bit different of a perspective. In the aggregates industry, these guys were very much at least a pioneer in talking about it more publicly, which is cash gross profit per ton. So you're excluding the depreciation, amortization and the depletion, which comes with your quarry. So this is just the pure cash basis. And Barclays has done some good work there. Companies whose cash gross profit per ton has risen the most over the years, the stock has done better. So it's been a good predictor of performance. But these guys were first at least talking about that more publicly. And the goal there is really to keep costs down and raise price. Price obviously helps a lot, but there are some input costs like diesel is about 10%. You got labor at 30%. You've got supplies and fixing the machines, that's another 20%. Those are the big cost buckets. But as I mentioned, the biggest piece of that is that they call it the Vulcan way of operating. That was what I talked about before with the technology piece is really honing in on all those costs, becoming way more efficient and running those crushers with much better throughput and operating with less man-hours and really trying to hone in on that. That's where they've been focused on for a very, very long time, and it's been hugely important and hugely helpful. One of the things that they've mentioned is they were originally talking about $9 per ton of cash gross profit when they were, I think, around 220,000 or 225,000 tons or something like that. They revised that up to $11 to $12 per ton around 250,000 or 260,000 tons. So they've actually outperformed their expectations. And my guess is the inflation has helped them a little bit because they've been able to raise prices by 19% this year. It's been good for these guys. It's funny, there was a customer, and one of the things he talked about was -- he was like, "They're world-class at raising prices." So part of that is price, but they really do have this tremendous focus on cost. And it's been a really big driver.
· Matt Reustle, Rob Hansen
[00:00:00] S0: Has that historically ever come back to bite them where pricing has lost some business or there's been any snapback in terms of how far they can go on the pricing side? [00:00:00] S1: To my knowledge, not really because everybody is doing it at the same time. One of their competitors, Martin, talks about a value over volume strategy. And they've raised prices over 20% this past year, so a little bit higher. The other aspect is aggregates are 5% to maybe 10% of the cost of the job. So if it's up 10%, it's not going to have a humongous impact on your overall cost. In this day and age, with the inflation last year, everything was rising a pretty significant amount. So it was really the one thing on the long list of everything that's rising. [00:00:00] S0: When you think about that cash gross profit per ton, that number trending upwards, how much of that actually trickles down through the earnings, through the income statement all the way down to the earnings line and potentially bringing it all the way into free cash flow? Is there anything unique about the business and how it's able to convert revenue and gross earnings into actual cash flow?
· Matt Reustle, Rob Hansen
[00:00:00] S0: When you think about that cash gross profit per ton, that number trending upwards, how much of that actually trickles down through the earnings, through the income statement all the way down to the earnings line and potentially bringing it all the way into free cash flow? Is there anything unique about the business and how it's able to convert revenue and gross earnings into actual cash flow? [00:00:00] S1: They convert about 75% to 100% of net income into free cash flow. It's a very good business in that respect. In terms of the cash flowing down through the income statement, too, incremental EBITDA margins when things are normal, absent a big M&A transaction, et cetera, they're really around 60% on each incremental ton of volume. So it falls down very fast. The problem is sometimes you end up doing M&A transactions or little deals. And so all of a sudden, you'll see in their income statement, there are years where you're like, "Why did gross margins just go down by 4%?" But it's really because maybe they did a big transaction, a bunch of costs they have to maneuver. And we can talk more about M&A later, but it's just one of those things where there's a lot of different factors involved. [00:00:00] S0: And that 60% EBITDA incremental is absolutely wild. What's the baseline EBITDA margin for the business?
· Matt Reustle, Rob Hansen
[00:00:00] S0: And that 60% EBITDA incremental is absolutely wild. What's the baseline EBITDA margin for the business? [00:00:00] S1: Yes. So baseline is about 30%. As I mentioned earlier, it's about a 30% gross margin and then you have 10% sales, you have a 20% EBIT margin. And then you have a depreciation, depletion and amortization, which is another, call it, 10%. So that's how you get your 30% EBITDA margin, which is why they use that cash gross profit per ton metric because it's very similar to your gross profit. [00:00:00] S0: Yes, absolutely. I think with some of these businesses, especially anything that there's a production of, whether we call it a commodity or not something like that, it's tricky, but something along those lines helps you understand at the base level what it's costing and what they're profiting for production of each incremental thing. I want to get into capital allocation a little bit before we jump to M&A, just on that earnings conversion into cash flow. I assume that's the CapEx line that's swinging it. Are there large capital outlays related to new quarries? When you think about capital expenses, what do those typically look like? And how much is their volatility, just in terms of spending and big spending programs, anything along those lines?