Ecolab Inc. (NYSE:ECL)
Credit Suisse 15th Annual Global Services Conference
March 12, 2013 2:30 pm ET
Douglas M. Baker - Chairman of the Board and Chief Executive Officer
John P. McNulty - Crédit Suisse AG, Research Division
John P. McNulty - Crédit Suisse AG, Research Division
Okay. I think we're going to kick this one off. And for our next presentation today, we're very happy to have Ecolab. I'm sure a lot of you know Ecolab is not only the leader in cleaning and sanitizing in the chemical industry/services industry but also recently has really expanded their platform into an interesting area which is on the water treatment side. They're also bundling into that, at least pending right now, is the Champion acquisition which will move them more into the Energy Services side of the equation as well. So they're definitely broadening out their platform for what it's worth. Hopefully, you saw we actually upgraded the -- upgraded Ecolab when they made the Champion acquisition, because we do think it makes a lot of sense. So to talk about the opportunities that Ecolab has right now, we're very happy to have Doug Baker, he's the Chairman and CEO of the company. We also have Mike Monahan, who I'm sure a lot of you if you know Ecolab, you know Mike. He's running and has been heading up their IR program for quite a while. So with that, let me turn it over to Doug.
Douglas M. Baker
Well good morning. Good to be with you. So cautionary statement. Look, our company is positioned to deliver against what we consider key issues: safe food, clean water, abundant energy and healthy environments. And we're in a number of industries delivering against these promises. So Food services, hospitality, on the left, food and beverage processing, health care, throughout industry, heavy industry, light industry and also Energy Services, where we provide a variety of offerings: food safety, anti-microbial control, water technologies and water technologies extends into energy, and then we also have some specialty programs as well. We have had a strong history of driving top line growth, successfully translating this into earnings per share. On the last 10 years, we've outperformed the S&P 500, as we have in the last 5 -- the last 5 years we've had 12% EPS growth. And obviously, it's been a challenged period. We expect our next 5 to be much better than the last 5. We're also a company that does a good job delivering against our number. So this is our ability to hit our quarterly guidance, not consensus. So this is against our guidance, and we've hit 83 out of 84 quarters. We have a big advantage over most. We're not a cyclical business. We're a consumable business. Over 90% of what we sell is consumed. We can predict it. We understand how may customers we have. We understand their trends. We understand seasonality. As a result, we can predict our business fairly closely, and that's the reason you see 20-plus years of being able to deliver against our commitments.
We've got a very balanced business, and we also have a large opportunity. So this chart depicts the opportunity -- or excuse me, the business, geographically and also by segment. So on the left is geographic, and we have nearly half the business in the U.S. You can see EMEA comprises about 1/4 of our business, and we have then Asia Pacific and Latin America being the next largest geographic markets. In end markets, food service and energy -- energy, this is after including -- or before Champion, around 18%, 19%, both post-champion to be about 1/4 of our business, and then you can see the balance. So this has been one of our strengths as well. We are in businesses that are not particularly cyclical, and as a result, they're predictable which enables us to continue to invest and invest forward with confidence, which makes somewhat this business easier to manage than, I think, a highly cyclical business.
The value. This is how we drive value and we do this in every one of our markets, in every one of our businesses. So we offer a bundled service. It's marrying technology and end-unit service. The end-unit service is designed to maximize the value and the benefit that the technology brings for our customers. So it's this marriage which really gives us our power. So if you're in technology only, you often have margin erosion. As people pick off your IP over time. If you're service only, it's hard to have great returns and great leverage because you run out of time in a day. It's this marriage which is really the power behind our ability to have sustainable growth and, simultaneously, margin enhancement, while we're in a unit. So this hotel will be a customer. So we would provide laundry programs here, the products to clean the towels and linens. We would provide the dispenser, the dispensing machine. They control the machine. We would be in the Food & Beverage area providing the products to clean the kitchen, all the dishes. We would also be on the maid carts which we are moving up and down the halls. And we would have kitchen equipment repair, pest elimination and other services. We will provide the technology, we will also be in here, it's a large property, probably weekly, making sure that the technology is working, training their staff, tweaking the dispensing and then also collecting information which we will then bring back to them and show trends. Here's what's working, here's what not, here's some of your food safety issues, here's additional things for us to sell. So we'll talk about that in a moment.
So 2 key components here for value, innovation. We work and have a vitality index which is measuring what percentage of our sales are comprised of products and programs introduced in the prior 5 years, 35% is our goal. We also measure the value of our pipeline, and it continues to build, and this is a very important part. And then we talk about a few of the innovations below, but I'll touch on that later. And then the most significant advantage is our sales and service team. These are hard to build. We have 2, 3 and 4x advantages versus key competition in feet on the street. And so it's not only hard to hire and train, it's hard to develop a culture in these teams that's really service-oriented. So they have to understand the customers' operations. They have to understand our technology. They have to be able to deliver and they have to be willing to do it at all hours of the day, that's our commitment. So if you buy from us, we will keep you running. We will make sure you do it sustainably. We will work to reduce water and electricity footprints, but you can count on us being there when you need. And so our coverage is now 24,000-strong, nearly around the globe and all the areas.
Competitively, this is a pareto chart below which depicts our competitive position, so we're just shy of $12 billion. And so in any given market, we're roughly 2x in the institutional business, our next nearest competitor globally, over 2x in food and beverage or about 2x in water. In energy, we're going to be a little larger, but we have better technology, and we believe in much better, let me just say, performance metrics right now than our next largest competitor. So we have good competitive position in all. And typically, if you look at our competitive environment, it's very fragmented. Yet we still have big upside. And if you take the upside opportunity, this is looking at it by market segment that we compete in. The green depicts the total opportunity and the blue depicts what we've gotten today -- or our share today. And so on every instance, we have huge, significant growth opportunities in each of the businesses we're in.
The heart of our strategy is going after the largest customers. We'll talk about why in a little bit. But fundamentally, they perform better. And they tend to acquire smaller customers, so if you have the business at one of these customers, you tend to grow share automatically. We like it, they weather storms better. So I can go after a lot of pages here, but that's the heart of our share. Then we drive a strategy based on that. The strategy is Circle the Customer, i.e., sell them more and follow them, Circle the Globe as they globalize. And that's been a very effective strategy. So let me talk about Circle the Customer first. Circle the Globe is more obvious.
So this is a restaurant depiction and what we do in a restaurant. So we tend to enter a business with a core or anchor technology. In a restaurant it will be commercial dishwashing. So we will go in and provide the products to clean the plates that run through a commercial dishwasher. The reason that it happens to be an anchor technology is accounts have one dishwasher, they may have 2 fryers, 3 ovens. And when the dishwasher goes down, they have to shut down because they can't wash dishes fast enough to meet the needs of the coming patrons. I mean, it is the most critical piece of equipment in a kitchen, commercial kitchen, nobody will get that. So it's a very important part of what they do. It's also the largest energy user and largest water user, so it's important, it's a big spend area. Once we have that business, we will then start building an array of other products. All the other cleaning products they need to clean the kitchen, including antimicrobials for food-surface contact areas, but we will then get into water filtration, kitchen equipment repair. We'll get into audit services, pest elimination and on and on. And building out this array of services is what we talk about when we talk about Circle the Customer. It's a very same -- similar program in Food & Beverage, where CIP, cleaning in place, will be the anchor, and that's where we put antimicrobials and cleaning agents which are computer-controlled. We build them into the cleaning -- into the plant, so that if Nestlé is making a run, they don't have to stop the plant, dismantle the plant and clean the plant when they go from one foodstuff to another. They can automatically clean this through cleaning-in-place technology. So we are the inventors of this technology. That will be the anchor and then after that, we will start building out the array of services that are depicted on this slide. Similar story in a hospital and in a refinery. So the Circle the Customer strategy is a strategy that is similar across all of our businesses.
Our business had been marked by strong financial performance. I would say it's also core to our culture. We set high targets, we have a culture where people are rewarded for doing what they say, and if anything, people ask me what are we look for in an M&A opportunity, often, we'll make sure it's a strategic fit, we'll want to like the financials. But most importantly, we want to understand the culture. Is it a business that can execute, that can deliver for customers, deliver for each other, and ultimately, deliver for its investors or owners? And so our financials are 15% EPS growth, returns -- we want to improve our returns, 100 basis points a year. We believe we'll be back around 20% return on invested capital by 2020. We want our leverage and looking to get our leverage metrics down to a tight metrics which means a little south of 2x EBITDA and debt, that will take a couple of years. And then cash priorities, as a result of these, are increased dividends in line with earnings, that's going to be a constant. Repay debt, that's really a priority for the next 2 years. Limited bolt-on acquisitions, even during this 2-year period, we'll continue to do what I'll call our traditional bolt-on acquisitions. And then share repurchase will come back-end mode probably in about 2 years time once we've paid our debt and get to the 2x EBITDA that I talked about.
So our plan for growth. When we did a number of strategic exercises 10 years ago which we refresh every 3, we really identified 8 key trends which are depicted on the chart. As a result of this, we really knew that we had ultimately be leaders in water technology in our area as well. The population growth, economic, energy and water shortages are key issues in the world that are affecting our customer base. So our objectives, as we look at the world, are these: one, continue to build share with the largest players. We believe they are going to be the share aggregators over time, they will weather the storms, and if you have a disproportionate share there, you are going to grow faster than the market automatically. We will continue to use innovation to help our customers meet their challenges in water, energy costs, which are going up, and meeting whatever promise they're looking for us to help them deliver, be it food safety, be it water technology, shrinking footprints or energy efficiency. We also want to strengthen our Global Energy services position, i.e., this really falls under the heading of, position our business where growth is going to be. So one is energy, two is in health care, and then it's in the fast-growing regions of China, India and Brazil. Brazil and China are probably our most important. And then deliver committed synergies in Europe margin expansion, which is another program we introduced. There is a lot of money and leverage in our business. And then finally, make sure that our business continues to perform and we continue to execute.
So let me touch on these. So build share with largest players is as I stated. The chart below breaks out our $100 billion opportunity in a different way. Says we have $12 billion today, but we serve customers that consume $43 billion of the services that we provide. So we can nearly quadruple our business within our existing customer base. There is still huge upside in entering new businesses. That's the $44 billion on the left, i.e., customers where we do not have a relationship, and there's still opportunity to expand geographically as we take services that aren't global today and globalize them, like pests, like health care, et cetera. Innovation is key to both driving improved penetration and securing new business. We believe we have, by far, the best technology in the industries we serve. So here is one, which is 3D TRASAR, which came over as part of the merger with Nalco. This is technology which allows us to read real-time, in industrial applications, what's in the water, how much of our antimicrobials or how much of our agents are in the water because we add foss fluorescence to our products and it can measure the light refraction. It can also tell us how dirty the water is and how much we need to add. This real-time monitoring on big scale is a unique capability, and also leveragable not only in water technologies, but in Food & Beverage, cleaning and sanitation, also increasingly in Textile Care and other places. This is great state-of-the-art technology. We've already figured out how to do it with antimicrobials, and we will start developing this capability in a broader portfolio and leveraging this technology. So this has been quite important in broad industry applications because it reduces customers' footprints in water and energy usage because typically water is a carrier of energy. So this has been an important technology. Others, on a smaller scale, would be Aquanomics, this is new laundry technology that we're introducing for hospitality. Fundamentally, what this does is allow people to clean towels and sheets using fewer cycles. So most washing machines work under a dump and fill -- they fill it up with clean water, you add soap, they wash, they dump, they fill up with clean water to rinse, they dump, they fill up with water with bleach, they dump, they fill up with clean water. If you can reduce those cycles, you'll reduce water consumption, materially and energy because you're heating the water every time, which is exactly what this technology does. Improved chemistry allows fewer cycles, 50% fewer, and as a result, you reduce water anywhere from 60% to 40%, and you have about the same reduction in energy. It's a huge deal to people doing on-premise laundry.
So this is the type of technology we use. We command anywhere from a 15% to 20% premium for this -- but our customers see 3 to 4x reduction in cost as a result of reduction in water and energy, versus the premium we charge, so it is the cheapest in-use program, though it enhances our margins. And this is exactly the trade we make throughout our programs. We have a similar story in Apex, which is a program we've introduced in warewashing for restaurants, but we have a number. We also have great opportunities to leverage the technology across the platform. So we've taken 3D, as I mentioned before, historically, water technology, and now playing in Food & Beverage, increasingly in Institutional and Textile Care. We have solids franchise which started in Institutional, which we're going to leverage in the water area, allow water to go through smaller customers. And we also have antimicrobial solutions which is a first launch and we had taken F&B technology into the energy business. So bacteria is a big, big issue in oil wells. Frac water, post-frac, sitting on retention ponds, there's a lot of bacteria in it. So the antimicrobials is a very important part of the Energy Services business, and we have far superior antimicrobials that we have now launched into that market. They're greener, more efficacious, and as a result, improve our competitiveness there.
Energy, as a market, is a big growth engine for us. Post Champion, Energy will represent roughly 1/4 of our portfolio. And the real story here is forget natural gas for a minute, if you just stay in oil, oil grows at about -- demand 2% to 3% a year and about 4% of all the wells come off line a year, I mean if you want to think about it simply. So you got to replace -- you got to have about 6% new oil every year, and the new oil that they're finding needs much more of our chemistry and our services than the old oil it replaces, anywhere from 3 to 5 to 10x. Not small, not 5%, like 3x, 5x, 10x depended on it. It has much higher water content. It's much more corrosive. So what we do often in oil wells is we will treat the well, but we will treat the fluid coming up the pipe so that it doesn't corrode the infrastructure. We will then separate water and oil. We will then treat oil and we will clean water. And that process when there's higher concentration of corrosive elements, when we have more water than oil, all those things start driving additional technology use. When you are trading at $100 a barrel, virtually every known oil source is economically a goal. I don't care if it's sands up in Canada, if it's shale, if it's conventional, all of it is a goal financially. And as a result, they're replacing it with these types of find which command much more of our stuff. So we have huge growth in this business naturally. Then you couple it with the new area of natural gas frac-ing, which is really in front of us, not really built materially in our existing business. And I believe the question isn't if we're going to frac, it's how we're going to frac. And mostly regulations are going to benefit us not harm us in terms of our ability to meet customer needs. And so this area is going to be a very, very important growth market. And we see double digits for a long period of time in this business from top line growth. And if it's 1/4 of your business, you already have a very, very strong start in a growth profile as a business.
We announced previously that we are going to acquire Champion. In the last call, we said we expected to close it before the end of this quarter, which means the end of this month, that remains our view. And Champion, we believe, is going to be a very, very smart addition to our business. It's a very similar -- it's similar in a way but with a different footprint than our current Nalco Energy Services business. It's got a larger footprint in North America, so it gives us increased scale in the fastest growth market for energy in the world. It also has technology which we can leverage on a very, very strong international footprint which Nalco Energy Services has built over time. So this, we believe, makes us even more stronger in a very, very important business and a very fast growth business.
Health care remains a priority for us as well. It's a business today which is $600 million. I would just say about 13 years ago, it was about $70 million. People ask how is health care doing, it's doing quite well. It's a business that has attractive margins now, didn't early. We have a strong portfolio. We have a very good team. We concentrate in -- North America and Europe are the 2 big positions, and our plan here is to continue to drive and build a strategic beachhead around environmental hygiene. I think we're making good strides there, and we expect this business to continue to be a upper-single digit organic growth business. We will continue to add to this business through strategic acquisitions, so we still foresee this business as $1 billion-plus business in our portfolio long term. So this is an area we're going to continue to emphasize.
And then building business in emerging markets has always been a strategy, it's not unique to us, it's not lost on us if there's higher growth. I guess if we have a nuance to view it's this: we like China in all facets of our business, we like Brazil particularly in energy and in food production, we like India for reinvesting Indian profits, and Russia is really an energy play for us principally. That's how we view BRIC.
Middle East/Africa, we also think, really on a broad basis, represents a great opportunity. As a result, we separated Middle East/Africa from our European business and have it is a stand-alone region so that it gets the focus and the growth energy it deserves. Europe has got enough challenges, as we all know, it doesn't need -- I'm afraid that Middle East/Africa is going to be lost in the shuffle as Europe manages Europe. Now we're doing pretty well in Europe considering, but I want Middle East/Africa to have its own focus.
Synergies is an important part of what we've committed. Nalco merger, we've talked about $250 million of synergies, cost synergies. We committed $75 million in first year which in 2012 we delivered it. I'd say, we believe we have the $250 million in hand, we understand it and we'll deliver it. We also talked about growth synergies of $500 million that we foresaw by 2016. We're ahead of pace there and expect to deliver at least $500 million in growth synergies, and that comes from 2 things: cross-selling programs into existing customer bases, but it also is leveraging the technology across the platform. Both of those things will drive. And then European margin improvement, we announced this pre-merger, January of 2011, and talked about 1,000 points of benefit, ultimately in EBIT margin. We thought it would be 200 basis points first year, 200 next year and then 100, 100, 100. In fact, what it has been is after 2 years, we're up about 165 basis points. We expect to be up another 100 next year, so we are still on a trajectory to get to 1,000, but it's at a slower pace. We did not predict the crisis in Europe. But, last year, our Europe business is up 2% on the top line and 30% on the bottom line. So we're making good progress in spite of all the bad news coming out of Europe. So the Europe team, I think, is doing a great job and we're seeing a benefit of our efforts there.
Segment reporting will change, this is more Ecolab trivia, as a result of our merger. This is a better depiction of how we manage a business. So we'll have Global Institutional, Global Industrial, Global Energy and our other services, if you will, Global Pest and Equipment Care, versus how we had managed before. We think this is more representative of how we manage a business and a better way to depict it. We will work to make sure that people understand how the businesses are doing quarter-on-quarter versus prior year.
So summary. We like this business, we think we've got a very strong position. We chase $100 billion, we're only $12 billion. We're leaders. We have the best technology. We have big advantages in sales and service. We believe we can continue the track record of double-digit EPS growth. I think the next 5 years are going to be better than the last 5 years. We have made significant change in the business as a result of the mergers and the acquisitions. We are now 18 months into one, it's going well. I think that's recognized externally as well as internally. Our customers recognize it. So we feel we are in a very strong position to continue to leverage the opportunity, the team and the growth. There is not only top line, there's leverage in the bottom line, so we have proved pretty resilient even when the economies aren't doing well because we have margin leverage opportunities. So with that, we expect to have more good news going forward, which is I guess what you expect out of us, and we believe we'll continue to deliver. Thank you.
John P. McNulty - Crédit Suisse AG, Research Division
[indiscernible] 3x -- excuse me, 3x the opportunity even from your existing customer base. How should we think about that on the Energy side, when your roll in Champion? Is it still that kind of a multiple? Or is it just because of the technology breadth of what you've got, is it small? Like how should we gauge that in terms of the opportunities there?
Douglas M. Baker
Yes. I don't think the Champion acquisition and the -- putting it together with our Energy Services business, I don't think you will have a material change in that because there's really relatively little overlap competitively. I mean, in total. There's some, but it's not sizable. So that's not going to change, if you will, the opportunity, either on the historic Nalco Energy Services side or the Champion side, meaning what the upside is. I think the energy market, certainly, you have Circle the Customer, and they've done a very good job there and there's a number of areas to go play, in the near term, the real opportunity is to make sure that we get an unfair share of the new wells that are coming on, and of the frac opportunity. That alone drives very, very good growth. And so we want to make sure that we continue to position ourselves, and that is the primary focus in that business, and that's what they're geared to. You do that well, you're going to have a very happy outcome, right? If you go through a period where, say, that slows down, it won't slow down -- it won't knock sales down, but you might change your opportunity to selling additional services in existing wells. But that's not where we're at right now.
John P. McNulty - Crédit Suisse AG, Research Division
And then on the frac-ing opportunities, just because it's not exactly an energy crowd, necessarily, here. So are there any major frac-ing regulations that are proposed right now that are kind of game changers for you that we should know about and be kind of keeping track of?
Douglas M. Baker
Well, I wouldn't -- I would say, the emphasis, probably, we hope will be, all right, at the end of the day. Are you digging the -- are you sinking the pipe the right way? Right? I mean, that's where a leak can occur. What do you do? What do you add to the frac? And then what do you do with the water, post frac? And so there's big opportunities. Frac-ing in a neighborhood becomes problematic as much for the trucks driving up and down the street with water, as for anything else. So if you're going to reduce the need for water, i.e., if you can come up with programs and products that reduce the amount of water that needs to go in, and then how do you recycle the water so that you can you reuse it in a frac without having to bring in new fresh water? Those are the technologies for regulation centering and those are the technologies that are going to make the biggest difference. And those are areas that we think we're well-equipped help customers with. If that answers your question. To call it -- and I think that's where the emphasis needs to be. Right? Ground water is never contaminated from the frac 1 mile down, it's contaminated from surface water. Post-frac water sits on top and sinks down 200 feet. I mean, that's where there's been problems in the past. But even though those problems are pretty few and what they need to do is tighten the regulation, make sure we understand how we're going to treat post-frac water and get on with it.
Douglas M. Baker
Yes. I guess, if we look at the competitive landscape, I don't know that it's -- there's a material difference between what we see now versus what we've seen in the past. I would say it's somewhat cyclical in terms of what the energy is at a given competitor, what they feel they're emphasis is going to be. And so certainly, I mean, you brought up -- Diversey is owned by Sealed Air. Diversey has gone through some challenges and certainly, they're going to come out and try to reestablish momentum. It's what you expect all competitors to do. And we expect them to try to do it, and we expect our team to work to prevent it. I don't know what else to say, that's what we all do. And our main focus is on taking care of customers, you do that, usually good things happen. But we have traditionally been a tough company to compete against and we don't plan to become an easy company to compete against anytime soon.
John P. McNulty - Crédit Suisse AG, Research Division
Douglas M. Baker
Great. Thank you, John.
Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.
THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.
If you have any additional questions about our online transcripts, please contact us at: email@example.com. Thank you!