Rocky Mountain Dealerships' (RCKXF) CEO Garrett Ganden on Q1 2020 Results - Earnings Call Transcript

Rocky Mountain Dealerships Inc. (OTCPK:RCKXF) Q1 2020 Earnings Conference Call April 29, 2020 11:00 AM ET

Company Participants

Garrett Ganden – President and Chief Executive Officer

Jim Wood – Chief Sales and Operations Officer

Conference Call Participants

Cherilyn Radbourne – TD Securities

Jacob Bout – CIBC

Ben Cherniavsky – Raymond James

Operator

Good morning, ladies and gentlemen, and welcome to Rocky Mountain Dealerships’ First Quarter 2020 Financial Results Conference Call. After the presentation, we will conduct a question-and-answer session, instructions will be provided at that time. Please note that this call is being recorded today, April 29, 2020, at 9:00 AM Mountain time.

I would now like to turn the meeting over to your host for today’s call, Mr. Garrett Ganden, President and Chief Executive Officer of Rocky Mountain Dealerships. Please go ahead, Mr. Ganden.

Garrett Ganden

Thank you, operator. And thank you to everyone for participating in our call today. Sitting with me today is our Chief Sales and Operations Officer, Jim Wood; and Chief Financial Officer, Jerry Schiefelbein.

Please note that while talking about our results and answering questions, we may make forward-looking statements. These statements are subject to known and unknown risks, and future results may differ materially. We will also be discussing non-IFRS financial measures in today’s call, including adjusted diluted earnings per share, adjusted EBITDA and operating SG&A. For more information about these topics, please review the sections of RME’s management discussion and analysis for this quarter entitled Caution Regarding Forward-Looking Information and Statements, risks and uncertainties and non-IFRS measures.

Listeners should also review the Risk Factors section of our most recent annual information form. These documents can be found on our website as well as the SEDAR website. Dollar amounts discussed in today’s call are expressed in Canadian dollars and are generally rounded.

Turning now to the quarter and the response to the COVID-19 pandemic. We have taken several additional steps to improve the company’s cash position and strengthen our balance sheet. We expect these direct actions will result in an approximate $10 million improvement to cash flow on an annualized basis.

Specifically, the actions we have taken include: Renegotiating RME’s lending agreements, which reduces cash principal payments by approximately $5 million on an annual basis; reduced the quarterly dividend amount to an anticipated $0.06 per share from $0.1225 per share, generating an additional $4.8 million in annual cash savings; negotiated a $50 million floor plan financing arrangement with Farm Credit Corporation; and secured an additional $10 million lending facility with CNH Capital. These proactive changes, along with the cost-containment activities put into place in Q3 of 2019, significantly improve RME’s resilience and defensive position.

The cyclical nature of RME’s business makes year-over-year comparison the most informative analysis in many cases. However, when comparing Q1 2020 to Q1 2019, it is important to remember there are several significant macroeconomic differences between these two periods. Specifically, the first quarter of 2020 was Canada’s fourth under China’s canola embargo, which did not come into effect until late in the first quarter of 2019. Beginning in early February 2020 and ending in mid-March, protester-organized rail blockades disrupted our customers’ ability to get products to market.

This created uncertainty and resulted in reduced cash flows late in the quarter, causing them to defer new equipment purchasing decisions. Though the impacts during the rail blockade were significant to the quarter, it is not expected that they will persist on an annualized basis. We are experiencing a late start to seeding in many areas this year when compared to last year at this time. Seeding was essentially complete by the end of April last year. And finally, COVID-19 has had an extraordinary impact, not only on this quarter, but in our communities, our industry and the broader economy.

Operationally, equipment sales were down in the quarter, as would be expected with the headwinds just discussed. But our product support activities held steady, even increasing a little despite a later start to seeding this year relative to 2019. Our notable achievements in the quarter include a $52 million decrease in equipment inventories from the first quarter of 2019 as a result of continued focus on inventory reduction efforts. We reported an 18.4% reduction or $3.8 million reduction to operating SG&A costs compared to the first quarter of 2019, which helped to significantly offset the reduction in gross profit.

While we are encouraged by the performance of the business in the quarter, I’ll admit, the global economic downturn caused by the COVID-19 virus makes it difficult to predict the duration and to what degree we will continue to face such challenges. This uncertainty further reinforces the direct measures we have taken to preserve cash and improve our balance sheet position. We’ll continue to focus on levers in our control to ensure we continue to be the dependable partner our customers expect us to be.

Walking now through our Q1 waterfall chart. Gross margin percentage was comparable to the same period in 2019 at 14.4%, as negative pricing pressure and decreased OEM incentives on equipment sales were offset by stability in our product support offerings. As mentioned earlier, operating SG&A decreased by $3.8 million to $16.9 million, offsetting more than half of the reduction in gross profit.

Year-over-year, the change in adjusted EBITDA was due to a $6.2 million decrease in gross profit on lower sales volumes, a $0.7 million decrease on price – on sales price variance, a $2 million increase on sales mix, a $1.3 million decrease in OEM incentives on lower sales volumes and a $3.8 million decrease from operating SG&A due to cost reduction measures taken in the second half of 2019 and finally, a $0.7 million increase in short-term finance costs due to increased average borrowings and average interest rate changes.

The outlook for agriculture equipment deliveries reported by the Association of Equipment Manufacturers for all of Canada continues to depict the contraction in all categories. Both four-wheel-drive tractors and self-propelled combines declined by 37.1% as we compare the first three-month data for 2020 to 2019. The trailing 12-month figure as of March 31 is now at 5,245 units delivered into Canada. This is now approximately 8.5% lower than the previous low set in 2004 and 4.5% below levels at year-end 2019.

Looking more closely at our equipment inventory. We reported a $52 million decrease in equipment inventories from the first quarter of 2019 as a result of the continued focus on inventory reduction efforts despite the lower sales year-over-year. This decrease was driven primarily by a reduction in new equipment inventory this quarter versus Q1 2019 and was a deliberate effort to reduce presales activity beginning in the second half of 2019. We are encouraged with the equipment inventory reduction to date, and we’ll continue to focus on realigning total equipment inventory levels back in line with market activity.

I began the call today speaking about the additional measures we have taken to fortify the business. Several of these measures focused on the balance sheet, and I reiterate these proactive changes, along with the cost-containment activities put into place in the second half of 2019, significantly improve RME’s resilience and defensive position as we face the challenges that lay ahead. The capital market effects from the COVID-19 pandemic reminded RME a lot of the liquidity crisis in the 2008-2009 period. Recognizing this, we moved quickly to shore up our access to capital.

Over the past six weeks, we have been actively renegotiating with our syndicate of lenders. And as announced earlier today, we approved changes to various facilities that is anticipated to provide RME $30 million in net new borrowing capacity. This net $30 million new capacity comes from a reduction in our syndicated facility of $30 million and its associated standby fees. We offset this reduction with the addition of $10 million from CNH Capital and $50 million from FCC, all without standby fees.

I believe the measures we have announced today underpin RME’s ability to serve its customers. We remain open and stand ready to help our customers through these uncertain times. I would also like to let everybody know that we published my letter to shareholders, which can be found on the RME investor website.

Thank you for listening. And operator, we are now ready to open the call for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from Cherilyn Radbourne with TD Securities. Your line is open.

Cherilyn Radbourne

Thanks very much and good morning.

Garrett Ganden

Good morning, Cherilyn.

Cherilyn Radbourne

Wondered if we could start with a little bit more discussion on the dividend cut. The MD&A is very careful in stating that the anticipated future dividend has been reduced, but that no future dividends have been declared at this point. So should we interpret that to mean that a suspension is likely or is contemplated?

Garrett Ganden

So Cherilyn, this is going to probably be a fairly lengthy answer. So within the Board meeting – obviously dividends are at the discretion of the Board. And as we were going through the Board meeting, we had lots of discussions over the past number of weeks and months. What we’ve gone through and looked at is from the information that we know today within the marketplace, we’re comfortable with the discussion around the $0.06 dividend. But in a normal scenario and a normal course, we wouldn’t actually declare that dividend out until June. And as can be imagined, there are a lot of things that have changed over the last four to six weeks. And we’re unsure as to what’s going to happen over the next four to six weeks with COVID-19, the economy reopening up, all of those different dynamics. And we wanted to be – to make sure that we had the discretion if it was going to be required.

Cherilyn Radbourne

Okay. That makes sense. And then, I think the other obvious and important question is just how are you thinking about covenant compliance when the fixed-charge threshold reverts back at the end of Q2?

Garrett Ganden

So we’ve got a bunch of conversation in there on Page 12 in the MD&A. But realistically, that was also part of the discussions that we were working through with the different lenders that we were just talking about. So with the changes that we’ve made, the reality of it is the reduction of our principal payments as well as change in regards to the dividend, all of those items do help the FCCR covenant because that’s the covenant that we’ve had the most conversations out over the last year. We think that we’re pretty good with what the changes that we’ve made right now. And that’s really – we tried to give that explanation as best we could on Page 12 of the MD&A, Cherilyn.

Cherilyn Radbourne

Okay. No, I appreciate that extra color. And maybe before I pass it off to somebody else, in fairness. If we set aside sales commissions, do you think that the Q1 level of operating SG&A could be sustained for the balance of the year?

Garrett Ganden

Again, this is going to be a long answer. So when you start – when we look at Q1, in the first couple of months of the year, so January and February, we saw those levels of SG&A reduction. And we were actually seeing a positive benefit from those on our earnings. Revenue was still down compared to where it was in the previous year, but profitability wasn’t.

When March came, there were a lot of different impacts that came into play as a result of the COVID-19. So from everything that we’ve seen and from everything that we’re looking at, we believe that those SG&A costs should hold, barring something coming out of the woodwork with – in regards to the COVID-19 or some other type of macro condition. But it has been trending that way, consistent with what we had kind of talked about in Q4 as well.

Cherilyn Radbourne

Okay, thank you. I will get back in queue.

Garrett Ganden

Thanks, Cherilyn.

Operator

Your next question comes from Jacob Bout with CIBC. Your line is open.

Jacob Bout

Good morning.

Garrett Ganden

Good morning, Jacob.

Jacob Bout

So these supply chain issues that you’ve had, have things improved? And for the missed $11 million of sales, do you have that equipment now?

Garrett Ganden

So I’ll start with the second part of that question. So we’ve received some of the $11 million, probably about half is – is the safest assumption. We are expecting to receive all of that within Q2. So there’s not an issue with that. And the vast majority of that equipment, we had presold and are expecting to continue to have those presold sales.

Jacob Bout

Okay – sorry. And just the supply chain issues overall, how is does that progressing?

Garrett Ganden

Yes, yes. So the supply chain overall, it really hasn’t seen a lot of change. We’ve been able to access parts to be able to meet the needs as well as we had increased our parts inventory a little bit from where we were at the end of the year to make sure we were going to have that. But we haven’t seen any real disruptions there.

In regards to the factories, the ports, the stuff that’s manufactured in the U.S., things like that, a lot of the factories have either reopened or are on the verge of reopening according to some CNH announcements in the last couple of days. And we’re expecting that to clear up that queue within the quarter. Jacob? Lost him.

Operator

Your next question comes from Ben Cherniavsky with Raymond James. Your line is open.

Ben Cherniavsky

Good morning, guys.

Garrett Ganden

Good morning, Ben.

Ben Cherniavsky

A lot of moving parts to the quarter. How would you rank the – I guess, you identified four variables impacting sales. How would you rank them in order of magnitude? Is the way that you presented them in the discussion, is that sort of how it fell out for impact?

Garrett Ganden

Yes. That’s how we tried to sort them out that way as well and trying to quantify each one is like, is tough, right, just with all the different pieces in it. But yes, because we’re in Q4 of the China embargo, that’s something that we’ve seen for the last two, three quarters. Now we’ve got actually a year of it behind, whether or not the embargo actually starts to lighten will be a question we’ll continue to ask over the coming months.

The rail blockades, we started seeing an impact in Q2 once it actually happened. It was just the ability for the farmers to be able to get their grains to the market and get it into cash. And then COVID-19 and the late start to seeding really are – happened at the same time, right?

Ben Cherniavsky

And in getting the various concessions you managed to negotiate with your banks, what did you give up? Is that a higher rate, highest...

Garrett Ganden

Marginally.

Ben Cherniavsky

Higher interest rates or...

Garrett Ganden

Yes. Yes, it’s pretty consistent with what we saw back in the 2008-2009 period with liquidity from the bank’s perspective. It was pretty consistent with what we saw then as what we’ve seen now.

Ben Cherniavsky

How do you mean, in terms of their behavior and willingness to work with you? Or...

Garrett Ganden

Yes, and pricing that’s expected to creep up a little bit on it, just – they have different costs with a higher cost than what they’ve had before, and part of that’s passed on.

Ben Cherniavsky

Right. Okay. And then as, like, as we come out of this, whenever that happens, what are you assuming is going to be different, if anything? And is there anything that you or the industry, your discussions with Case, whomever your stakeholders might be, are you talking about doing things in any different way? Like in particular, I’m just thinking about the way the inventory cycle has worked up and down all the time, too much inventory, too little inventory. And over the years that you’ve been public, it’s just been the sort of carousel of ups and downs. Is there a way, at a high level, to address those issues that maybe, if you believe you never let a good crisis go to waste, this allows you to address that in some respect?

Garrett Ganden

We think that there’s an opportunity to have a bunch of discussions on it. We have started having those conversations. From the most part, I’m going to say that, that’s internal, Ben, than it has been external. We’re trying to make sure that we look at how do we want to see this business run over the next two, three, five years and so we don’t get into the situation, exactly what you’re talking about, where you go through a period where you’re doing everything you can to bring down your used inventory, then go to the cycle where you’ve got lots of new equipment, where you take in those used again to be able to get back in the same spot you were three years before or four years before. So there are a number of different things that we are changing internally to try and control that as much as possible. But we really haven’t started having conversations outside of RME on that yet.

Ben Cherniavsky

Do you think it’s going to come up? Or is it just – this is just the way it is and always will be?

Garrett Ganden

We’re sure it’s going to come up because we’re going to make sure it does.

Ben Cherniavsky

Okay. Thanks very much.

Garrett Ganden

Thanks, Ben.

Operator

Your next question comes from Jacob Bout with CIBC. Your line is open.

Jacob Bout

Yes. Sorry about that. I got kicked off the line there.

Garrett Ganden

Yes. We lost you. Well, it was – even a lot of the discussions we had were real staticky so it was tough to hear, too.

Jacob Bout

Okay. Sorry about that. The question that I had was just when you look at the Canadian farm right now, like when you – the forecast right now are – the planted forecast actually looked pretty good for this year. I mean I think it’s going to be marginally up year-on-year. What adjustments are the farmers making? And do you think we could see two to three years of new equipment sales being down 30%?

Garrett Ganden

Yes. Jacob, I’m going to let Jim go through and answer that. He’s had lots of conversations with the farmers and branches over the last number of weeks and months. And so Jim?

Jim Wood

Yes, Jacob, good question. So I think the big thing is, is that the farmers, they update their equipment when they have the cash flow. And they’re always trying to balance their service and parts, repair costs versus replacement. And I think when grain prices are high and yields are high, then they feel flush, and that’s when you see the accelerated replacement, and that’s where you see the new industry comes up.

What we’ve experienced over the last couple of years, especially like May of last year, everything kind of came to a grinding halt because with the low canola shipments and losing one of your major customers, all of a sudden, canola, which was probably one of the largest crops grown in Western Canada and one of the most profitable, became not so profitable. So I think they just took a second look.

Since that time, though, they’ve replaced 30% of the canola shipments to other countries. But there’s still that, I would say – the previous question was about one of the major factors. And I think one of the major factors coming out of the Q1 was the rail blockades. The ships were backed up in the ports. Even if you have grain booked to sell, if you can’t ship it, you’re not going to get any cash for it. So I think that played the – its part in the industry.

And I just think that the other thing we have to deal with in Canada is exchange. And right now, at the low dollar, it makes our new equipment just that much more expensive. So with – until the farmers – and we’ve had some tough harvests. We’ve had – which is good and solid for our parts and service business, but it doesn’t really breed an optimistic outlook. Like right now in Western Canada, we have customers still combining. So we’re experiencing two seasons right now, harvest and seeding. That’s in our Yorkton area, pretty much all the way Highway 2 from Calgary to Edmonton. And so I know it’s a long answer to your question. I don’t see the industry rebounding anytime soon, which will give us a chance to work through our used equipment.

Jacob Bout

We used to historically talk about the duration of the equipment cycle and how far can we spread that accordion out as we think about this equipment cycle, i.e., not replacing equipment?

Jim Wood

Yes. Well, you’re seeing a – I would say, in the U.S. market, it’s been – because they had their downturn in 2013, 2014, so much sooner than we had and that was our whole point of putting a store in the U.S. and there’s a shortage of late-model used equipment in the U.S., but unfortunately, the producers are struggling just with commodity prices, corn is down. And so in Western Canada, you’re probably seeing some hesitation. We still have a group of customers that they believe their cost per acre is sticking with flipping new equipment every year. And we’ve managed through that by some of the discounts that we get through CNH, we can pass on to the customers and provide the larger-fleet customers with the cost per year. And then the smaller fleets, that’s – they’re the ones that buy the one-year old trades because with the low hours and the depreciation – previous customer, it’s more attractive than trying to come in and buy a brand-new combine with lesser discounts because they’re a smaller fleet so...

Garrett Ganden

I think the key thing, Jacob, is at the end of the day, it comes down to what’s the cash flow that the farmers have as to really drive their decisions. So if we go through a good season and we’re starting off with good moisture levels, although like Jim’s talking about, we’ve got harvest and seeding going on in some of the areas right now. But we go through some good growing season, there’s a good opportunity for the farmers to get some good cash, especially when you consider how much their input costs are going to be down, just even when you consider the price of oil and as that equates into diesel, for example.

Jim Wood

Yes. Like a lot of our producers across Western Canada have locked in their diesel fuel for under $0.60, which we haven’t seen that in numerous years, and that is one of their biggest expenses. So there’s some positives to this for the…

Garrett Ganden

There’s a real long answer, Jacob.

Jacob Bout

All right. Thank you very much, guys.

Garrett Ganden

Thanks, Jacob.

Operator

Your next question comes from Cherilyn Radbourne with TD Securities. Your line is open.

Cherilyn Radbourne

Just a couple of last ones for me. Any commentary that you can provide qualitatively on just how much of the overwintered crop is still in the field and what you think seeding progress is across your served territory?

Garrett Ganden

Well, seeding progress has really only got going in the last, I’m going to say, 10 to 12 days. So it is quite a bit delayed from where it was in the previous year. Pretty typical for an average year, but it is quite delayed compared to the last year. It just got going. So that’s the piece on seeding.

In regards to the harvesting, the weather has only really started cooperating for those farmers here in the last few days. So there’s still – I think at the end of the year, there was about 7% or 8% of the crop was…

Jim Wood

Yes, I think the last one article I read was 3 million acres left so...

Garrett Ganden

So they’re working through that. I know you’ve seen combines running in the field over the last, call it, week. So they’re working through it.

Cherilyn Radbourne

And so I suppose that push could be good for the product support business in Q2?

Garrett Ganden

Sure, it could. Yes.

Cherilyn Radbourne

Okay. And then just last one. Anything you can do to trim CapEx this year? I think we’ve talked in the past about maintenance CapEx being $6.5 million to $8.5 million.

Garrett Ganden

That’s right. I would strongly suspect that, that would be down quite a bit from that. Even if you look at Q1, I think we were at about just under $400,000 compared to last year at about $1.7 million. So yes, CapEx for us, we would think is going to be lower than the low end of that scale, Cherilyn.

Cherilyn Radbourne

So that’s another lever?

Garrett Ganden

Yes. And then also, don’t forget last year and the year before that we were building that building in Kindersley. So we did have elevated capital additions as well.

Cherilyn Radbourne

Right. And so you own that facility. So I suppose a sale leaseback could be another lever, if you needed one, but it doesn’t sound like you want to do that?

Garrett Ganden

Correct.

Cherilyn Radbourne

Okay. That is all my questions. Thank you.

Garrett Ganden

Thanks, Cherilyn.

Operator

There are no further questions at this time. I will now turn the call back over to the presenters for closing remarks.

Garrett Ganden

I just want to thank everybody for taking the time on the call today, and stay safe.

Operator

Ladies and gentlemen, this concludes today’s conference call. Thank you for participating. You may now disconnect.