Cleanliness is incredibly important. This is true not only for individuals but for the environments we inhabit and the things we use on a daily basis. And of course, in order to achieve cleanliness it can require many different processes depending on what in question you are planning to clean. One company dedicated to providing niche cleaning activities is Heritage-Crystal Clean (NASDAQ:HCCI). Over the years, financial performance for this enterprise has significantly improved, with revenue rising and profits following suit. On top of this, shares of the business do look rather cheap on a forward basis. But at the same time, there is some risk, given the state of the broader economy, that financial performance could weaken back to what it was like in prior years. Although from a price-to-earnings perspective, this would make the company rather expensive, from all other angles the business would be no worse than fairly valued. So because of this favorable risk to reward prospect, I have decided to rate the enterprise a soft ‘buy’ at this time.
I already mentioned that Heritage-Crystal Clean operates in the cleaning business. But so far, this description is rather vague. To best understand the full scope of what the company offers, we should break its operations up into the two segments that it has. First and foremost, we have the Environmental Services segment. This unit consists of the company's full-service parts cleaning, containerized waste management, wastewater vacuum, antifreeze, and field services. On the parts cleaning side, the company retrieves parts cleaning solvents and other hazardous and non-hazardous wastes from its customers and disposes of them.
Though this may not seem like a difficult task, management asserts that many of these substances are subject to extensive and complex regulations. Poor management of them can lead to citations, penalties, and other related costs. Under the containerized waste and wastewater vacuum programs, the company assists its customers in identifying and characterizing regulated wastes and it provides proper labeling and shipping documentation to its customers for their regulated materials. In some areas, the company also offers customers with in-house treatment of their regulated wastewater as part of its wastewater vacuum services and oily water collection programs. And when it comes to the field services portion of the enterprise, its focus is on cleaning tanks and cleaning up spills on behalf of its clients. During the company's 2021 fiscal year, this segment accounted for 61.7% of the firm's revenue but for only 52% of its profits.
The other segment that management has is its Oil Business segment. Through this unit, the company offers bulk used oil collection services across 85 of its branch locations. In short, the company manages used oil by transferring a majority of it to its re-refinery to be refined into lubricating base oil. The rest of the oil is recycled into RFO (recycled fuel oil) that is sold to industrial burners and used oil processors, and it can also be sold as a blend or cutter stock. Last year, this segment was responsible for 38.3% of the company's revenue and for an impressive 48% of profits.
Over the past few years, the management team at Heritage-Crystal Clean has done a pretty good job of growing the company's top line. Revenue rose from $366 million in 2017 to $444.4 million in 2019. Due to the COVID-19 pandemic, revenue fell in 2020, dropping to $406 million. However, this decline was short-term in nature. I say that because, in 2021, revenue jumped again, this time hitting $515.3 million. This 26.9% rise in revenue year-over-year was driven almost entirely by the Oil Business portion of the enterprise. Revenue there jumped by 70.9% year-over-year due to increased base oil prices and, to a lesser extent, due to an increase in base oil sales volume. The volume increase was just 9%, while the average selling price for the company's base oil product rose by 94%. Meanwhile, the Environmental Services portion of the company saw revenue rise by only 9.5%.
Historically speaking, profitability for the company has been rather volatile. Consider net income. Between 2017 and 2019, this metric fell year-after-year, dropping from $28.1 million to $8.4 million. In 2020, profits ticked up modestly to $11.9 million before skyrocketing to $60.9 million last year. Not surprisingly, the vast majority of this improvement was driven by the Oil Business. Profits there went from a negative $45 million to a positive $69.3 million in just one year. Management attributed this rise to an increase in the spread between the netback. What this means is that the sales price net of freight impact on the company's oil sales and the price paid or charged to its customers for the removal of their oil rose. Some of this improvement was also driven by the absence of a re-refinery shutdown last year compared to the prior year during the pandemic. Due to these factors, other profitability metrics also followed suit. Operating cash flow, which had been in a narrow range of between $30.1 million and $53.3 million in the prior four years, jumped to $91 million last year. On an adjusted basis, the metric was even higher at $101.7 million. A similar relationship can be seen when looking at EBITDA.
For the 2022 fiscal year, the picture for the business continues to improve. Revenue in the first quarter of the year came in at $139.4 million. That compares favorably to the $105.4 million generated just one year earlier. Net income during this timeframe rose from $9.2 million to $12.9 million. Operating cash flow went from $16.2 million to $24.6 million, while the adjusted equivalent of this rose from $18.4 million to $21.5 million. Meanwhile, EBITDA also improved, jumping from $17.7 million to $25.6 million. Management has not provided any guidance for the entirety of the 2020 fiscal year. But if we annualize results experienced so far, we should anticipate net profits of $85.4 million, adjusted operating cash flow of $118.8 million, and EBITDA of $164.3 million.
If we take these estimates, shares of the company look rather cheap. The forward price-to-earnings multiple comes in at 7.1. This compares to the 9.9 reading that we get if we use 2021 figures and is down further from the 50.7 reading if we were to rely on 2020 results. Using the price-to-adjusted operating cash flow approach, the reading we get for 2022 is 5.1. This is down from the 5.9 we get if we rely on 2021 figures, while the 2020 figures would push the multiple up to a still respectable 14.8. And using the EV to EBITDA approach, the multiple comes in at 3.2. The 2021 reading for this would be 4.7, while the 2020 reading would be 12.7. As part of my analysis, I also decided to compare the company to five similar firms. On a price-to-earnings basis, these companies ranged from a low of 15.2 to a high of 93.7. Using the price-to-operating cash flow approach, the range is from 7.5 to 63.6. And finally, we have the EV to EBITDA which ranges from 7.9 to 25. In all three cases, using our 2021 results, Heritage-Crystal Clean was the cheapest of the group.
|Company||Price / Earnings||Price / Operating Cash Flow||EV / EBITDA|
|SP Plus (SP)||15.2||7.5||9.3|
|Montrose Environmental Group (MEG)||N/A||16.5||15.1|
|CECO Environmental Corp. (CECE)||71.5||63.6||13.5|
|BrightView Holdings (BV)||30.0||11.1||10.4|
The data right now shows a company that is currently benefiting from favorable industry conditions when it comes to oil. Outside of that, the business still looks to be solid. Shares are definitely attractive on an absolute basis, as well as relative to similar firms. I like seeing revenue rising year after year. But at the same time, I don't like how volatile profits have been. But with the exception of the price-to-earnings approach, shares still look cheap even if we rely on 2020 results. Because of this favorable risk-to-reward payoff, I have elected to rate the enterprise a soft ‘buy’ for right now. But if fundamental performance continues to improve, I could see that rating rise.
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This article was written by
Daniel is currently the manager of Avaring Capital Advisors, LLC, a registered investment advisor that oversees one hedge fund, and he runs Crude Value Insights, a value-oriented newsletter aimed at analyzing the cash flows and assessing the value of companies in the oil and gas space. His primary focus is on finding businesses that are trading at a significant discount to their intrinsic value by employing a combination of Benjamin Graham's investment philosophy and a contrarian approach to the market and the securities therein.
Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.