MRC Global Q4 2022 Earnings Call Transcript

Quartr
Provided by Quartr
February 14, 2023

Key Takeaways

  • 2022 revenue grew 26% to $3.4 billion with adjusted EBITDA up 79% to $261 million, delivering a 7.8% margin.
  • For 2023, the company forecasts double-digit sales growth and adjusted EBITDA margins above 8% across all four business sectors.
  • MRC Global is targeting at least $120 million in operating cash flow for 2023 and has initiatives underway to improve inventory productivity and working capital efficiency.
  • Two-thirds of revenue is generated outside the traditional oilfield via gas utilities and industrial sectors, which are less cyclical and poised for continued growth.
  • Leverage ended the year at a record low 1.2x net debt/EBITDA with $638 million in liquidity, and management plans to refinance its term loan in 2023.
AI Generated. May Contain Errors.
Earnings Conference Call
MRC Global Q4 2022
00:00 / 00:00

There are 8 speakers on the call.

Operator

Greetings, and welcome to the MRC Global's 4th Quarter 2022 Earnings Conference Call. At this time, all participants are in a listen only mode. A brief question and answer session will follow the formal presentation. Will be recorded. It is now my pleasure to introduce your host, Monica Broughton, Investor relations.

Operator

Thank you, Monica. You may begin.

Speaker 1

Thank you, and good morning. Welcome to the MRC Global 4th will be recorded in the Q2 earnings conference call and webcast. We appreciate you joining us. On the call today, we have Rob Saltiel, President and CEO will be available on the call and answer session. And Kelly Youngblood, Executive Vice President and CFO.

Speaker 1

There will be a replay of today's call available by webcast on our website, mrcglobal.com as well as by phone until February 28, 2023. The dial in information is in yesterday's release. We expect to file our annual report on Form 10 ks later today will also be available on our website. Please note that the information reported on this call only speaks as of today, February 14, 2023,

Speaker 2

will be recorded. And therefore,

Speaker 1

you are advised that information may no longer be accurate as of the time of replay. In our call today, we will discuss various non GAAP measures. Will be available on the call. You are encouraged to read our earnings release and securities filings to learn more about our use of these non GAAP measures and to see a reconciliation of these measures to the related GAAP items, will be available on our website. Unless we specifically state otherwise, references in this call to EBITDA refer to adjusted EBITDA.

Speaker 1

In addition, will be recorded. The comments made by the management of MRC Global during this call may contain forward looking statements within the meaning of the United States federal securities laws. Will be recorded. These forward looking statements reflect the current views of the management of MRC Global. However, actual results could differ materially from those expressed today.

Speaker 1

Will be recorded. You are encouraged to read the company's SEC filings for a more in-depth review of the risk factors concerning these forward looking statements. Will be recorded. And now, I'd like to turn the call over to our CEO, Mr.

Speaker 2

Rob

Speaker 3

Saltiel. Thank you, Monica. Good morning, and welcome to everyone joining today's call. I will begin with a discussion of notable achievements for 2022, review our 4th quarter results at a high level and address some of the key business drivers underpinning our 20 will be recorded for Q3 outlook. I will then turn over the call to Kelly to provide a detailed review of the quarter and 2023 guidance before I deliver a brief recap.

Speaker 3

Will be recorded. 2022 was an excellent year for MRC Global with several significant financial achievements. Our top line performance was impressive, ending the year at $3,400,000,000 with 26% year over year revenue growth. Each of our 4 business sectors saw Sales jumped by double digits and 2 of our sectors gas utilities and diet each exceeded $1,000,000,000 in revenue. We realized full year EBITDA of $261,000,000 79 percent higher than 2021 on EBITDA margins of 7.8%, will be at 230 basis point increase.

Speaker 3

The last time MRC Global exceeded this EBITDA margin percentage was in 2012 when revenue was over $2,000,000,000 higher. We generated $43,000,000 of operating cash flow in the second half of the year, will be recorded even as second half revenue exceeded first half revenue by 11.5% and we continue to grow our inventory balance. Our upstream production business benefited greatly from improving fundamentals and our increased focus on Permian Basin opportunities. This was our highest growth business in 2022 with 30% revenue improvement over 2021. Our increased focus on the chemical space yielded impressive results with a 20% revenue increase in 2022 versus 2021 and a 65% rise in sales over the same period from our targeted customer accounts, proof that our strategy is working.

Speaker 3

Our Energy Transition business generated over $100,000,000 in revenue in 2022, led by robust development of renewable fuels projects in the U. S. Energy transition opportunities are plentiful and growing and MRC Global is well positioned to capitalize with our customer relationships, will be subject to technical expertise and project experience. And finally, our focus on capital efficiency and bottom line results will be translated into significantly higher returns on capital in 2022. Return on invested capital or ROIC is a widely used measure of capital stewardship and an important driver of shareholder value.

Speaker 3

After adjusting for the impact of LIFO, Our ROIC was 11% in 2022, above our cost of capital and a significant improvement over the prior year. Turning now to the Q4. We finished the year strong with 4th quarter revenue of $869,000,000 in line with our guidance. Seasonal slowdowns in our gas utilities and diet sectors contributed to the sequential decline. However, will be subject to the impact of the impact of the impact of the impact of the impact of the impact of the impact of the impact of the impact of the respectively.

Speaker 3

Profitability in the 4th quarter was also excellent as we achieved an adjusted EBITDA margin of 7.6%, will be a 70 basis point improvement over the Q4 of 2021. This performance was aided by increases in customer pricing to counter inflation, consistent focus on cost discipline and excellent work by our supply chain and operations teams in meeting customer demands. Will be recorded. Turning now to 2023, we expect this to be another successful year for MRC Global with double digit sales growth and EBITDA margins exceeding 8%. The top line increase should be enabled by revenue gains across all four business sectors and across all three geographic segments.

Speaker 3

Will be recorded. From a sector perspective, we expect outsized revenue growth in our upstream production and midstream pipeline sectors in 2023 will be recorded to support increasing production of oil and gas both in North America and internationally. IOCs and larger independents are expected to comprise an increased share of the CapEx this year in the North America oilfield and we are certainly experiencing that with our business. Recent budget surveys by industry analysts project an average of approximately 15% to 20% increase in U. S.

Speaker 3

Up stream capital spend and a mid teens percentage increase globally. We expect the Permian Basin to be very busy for will be at MRC Global in 2023 due to our strong market positions with leading producers there coupled with a well timed opening of our Midland service center last fall. Internationally, investment in the North Sea is expected to fuel upstream production growth there as well. Our gas utilities sector, our largest revenue contributor should also experience healthy sales growth this year even after this business expanded by more than 20% in each of the past 2 years. Recently published research on gas utility capital spending indicates a 17% increase in the 2022 through 2024 timeframe versus the previous 3 year period, with the bulk of this spend being allocated to safety and integrity projects.

Speaker 3

The same research report anticipates an upper single digit capital spending increase in 2023 over 2022 consistent with what our gas utility customers are communicating to us. As we have said on previous earnings calls, our gas utility sector should be a growth engine for years to come as as we expand our market share to new utility customers and improve our share of wallet with existing customers. Finally, Our diet sector is expected to experience upper single digit revenue growth in 2023 even after a nearly 30% uptick in 2022. Within diet, the outlook for the chemical subsector remains positive, especially in the North America market, which benefits from low feedstock costs. We continue to gain market share with new customers and we have grown our North American Chemicals backlog by 79% at the end of 2022 as compared to year end 2021.

Speaker 3

Also in diet, we remain involved in multiple LNG projects, both in the U. S. And internationally. We expect multiple additional LNG projects to gain approval in the U. S.

Speaker 3

This decade as the U. S. Remains the world's leading LNG producer and increases its supplies to European markets. And finally, our thriving energy transition business delivered more than $100,000,000 of revenue in 2022 and will continue to be a long term growth driver. Will be recorded.

Speaker 3

In 2023, we expect our energy transition activity to be weighted more heavily toward international projects after Substantial operating cash flow this year as we improve working capital efficiency and convert more EBITDA into cash. Currently, we are targeting at least $120,000,000 in operating cash flow, an increase from our previous guidance. This will be enabled in part through accelerated progress on managing our working capital more efficiently. For example, We have initiatives underway with our supply chain and operations teams to improve the absolute levels, the locations and the productivity of our inventory and we are also targeting improved efficiency of our financial working capital. Achieving an attractive return on will be available.

Speaker 3

Invested capital is vital to our value creation narrative and we will continue to improve this metric in 2023. Will be recorded. And with

Speaker 2

that, I'll now turn the call over to Kelly.

Speaker 4

Thanks, Rob, and good morning, everyone. My comments today will be focused on Sequential comparisons, so unless stated otherwise, we are comparing the Q4 of 2022 to the Q3 of 2022. Will be recorded. Total sales for the Q4 were $869,000,000 a 4% sequential decrease, outperforming our historical seasonal trends and in line with our previous guidance. Will be available.

Speaker 4

From a sector perspective, I will begin with our gas utility and diet sectors, which make up approximately 2 thirds of our revenue and represent our less cyclical business Gas utility sales were $319,000,000 in the 4th quarter, a $40,000,000 or 11% decrease due to a seasonal reduction will be subject to the calls as our customers remain focused on safety related modernization and emission reduction programs along with continued infrastructure improvement projects. The Diet Sector 4th quarter revenue was $248,000,000 a $28,000,000 or 10% decrease due to the timing of several energy transition Biofuel projects and turnarounds winding down in the Q4. This sector delivered 29% year over year growth, exceeding the $1,000,000,000 mark, making it our 2nd largest sector behind gas utilities and our 2nd highest growing sector in 2022. The upstream production sector revenue for the Q4 was $195,000,000 an increase of $19,000,000 or 11%, will be found in the Q4 of fiscal 2020. Canada led the increase with higher activity.

Speaker 4

International upstream sales benefited from increased activity in the North Sea and the lack of foreign currency headwinds compared to the 3rd quarter. In the U. S, we saw improving customer activity levels, which has continued into January for a good start to the year. We are expecting the larger public E and P operators to drive a higher percentage of the activity increases in 2023, Which bodes well for us as our revenue in the upstream market is driven predominantly from this customer base. Midstream pipeline sales were $107,000,000 in the 4th quarter, up $14,000,000 or 15% as several customers took delivery of valve and actuation assemblies and line pipe in the 4th quarter related to higher activity levels in the Permian Basin.

Speaker 4

The outlook for our midstream pipeline business is expected to be strong as increases in production volumes from oil and natural gas drive the need for more gathering, processing and takeaway infrastructure. From a geographic segment perspective, U. S. Revenue was $720,000,000 for the Q4, a $48,000,000 or 6% decrease as the gas utilities and diet sectors experienced seasonal declines, will be partially offset by increases in the upstream production and midstream pipeline sectors. Canada revenue was $46,000,000 in the 4th quarter, will be recorded for the Q4 of 2019.

Speaker 4

International revenue was $103,000,000 in the 4th quarter, a $4,000,000 or 4% increase driven by the upstream production sector on increased activity in the North Sea. Adjusted gross profit for the Q4 was $184,000,000 21.2 percent of revenue, a 70 basis point decline from the 3rd quarter, will be in line with our expectations. The full year 2022 adjusted gross profit was 21.3%, will be a 120 basis point improvement over 2021 driven primarily by improved pricing, product mix and our preferred supplier position. We are targeting to maintain average gross margins for this year of at least 21%, which is a notable improvement over historical averages. Adjusted SG and A for the 4th quarter was 122,000,000 or 14 percent of sales.

Speaker 4

The 70 basis point increase this quarter over last was a function of lower quarterly revenue will be recorded and slightly elevated costs from headcount increases to support our growth projections. The full year adjusted SG and A as a percentage of revenue was 14 an improvement of 130 basis points compared to a year ago. In 2023, we expect the full year average percentage of sales to trend lower in the mid-thirteen percent range despite the full restoration of benefits and wage inflation. Also this percentage is expected to be higher in the Q1 but improve each quarter thereafter in line with the cadence of our anticipated revenue growth that I will discuss later. EBITDA for the quarter was $66,000,000 or 7.6 percent of sales, a 70 basis point improvement over the same quarter a year ago.

Speaker 4

For the year, EBITDA was $261,000,000 or 7.8%, a 230 basis point improvement. And then as Rod mentioned, this is our highest margin since 2012 when our revenue base was $2,000,000,000 higher, which is evidence of actions we have taken over the last few years to run the company more efficiently, driving more incremental revenue to the bottom line. Tax expense in the 4th quarter was $12,000,000 with an effective tax rate of 36% as compared to $10,000,000 of expense in the 3rd quarter. The difference in the effective rate and the statutory rate is due to state income taxes, non deductible expenses and differing foreign income tax rates. Will be recorded.

Speaker 4

For the quarter, we had net income attributable to common stockholders of $15,000,000 or $0.18 per diluted share. Our adjusted net income attributable to common stockholders on an average cost basis normalizing for LIFO expense was $27,000,000 or $0.32 per diluted share. Over the last two quarters, we have generated $43,000,000 in cash from operations comes with $10,000,000 generated in the Q4. For the full year, we used $20,000,000 of operating cash, primarily due to the timing of year end will be recorded in the second half of twenty nineteen. Specifically, inventory receipts and the timing of certain cash inflows and outflows.

Speaker 4

As a matter of fact, If we would have closed the year 1 week later, we would have netted positive cash generation for the year. Historically, in a year with 26% revenue growth, We would have had significant negative cash flow, so we consider this a significant inflection point for our company will be recorded and our cash generation capabilities going forward. For 2023, we are targeting cash flow from operations of $120,000,000 or better. Will be available. And as we previously mentioned, generating cash consistently going forward in both years of growth and decline is a key initiative for the company, and we are committed to delivering Yes.

Speaker 4

Working capital as a percent of sales was 16.2% in the 4th quarter. And for 20 We expect this metric to remain at similar levels, which is about 300 to 400 basis points of improvement over historical averages. Our total debt outstanding at the end of the quarter was $340,000,000 consistent with the Q3. Our leverage ratio based on net debt of $308,000,000 was 1.2x, which is a new MRC global record and considerable improvement over the prior year will be when our leverage ratio was 1.7x. We expect to make further progress on our leverage ratio in 2023, reducing it below 1x as Our EBITDA continues to grow and we lower our net debt position.

Speaker 4

In addition, we anticipate refinancing our term loan this year and we are monitoring the debt markets closely to determine the appropriate time to take action, and we believe our positive business outlook and improved leverage will translate into better terms and conditions as we approach the refinancing date. We ended the year with availability under our ABL of $606,032,000,000 of cash for a total liquidity position of $638,000,000 will be recorded. This is more than a $100,000,000 increase in liquidity compared to 2021. Now to finish off our 2023 outlook. As Rob mentioned earlier, for the total company, we are targeting a double digit percentage revenue increase will be answered and surpassing the 8% hurdle for EBITDA margins.

Speaker 4

We are starting off 2023 strong and the December backlog was 43% higher than the prior year and the January 2023 backlog is 3% higher than December, will be given us confidence in our outlook for the year. From a sector revenue perspective, this translates to a high teens percentage improvement in up stream production and a low teens percentage improvement for midstream pipeline. Both gas utilities and diet are expected to be an upper single digit From a geographic view, we expect each segment to increase in the low double digit percentages. Our normalized effective tax rate for the year is projected to be 26% to 28%, but could fluctuate from quarter to quarter due to discrete items. As activity levels continue to improve, inventory levels will again increase but more modestly than in 2022, supporting our full year 2023 target to generate $120,000,000 or more in cash flow from operations.

Speaker 4

Excess cash will continue to be prioritized will be in the near term towards further strengthening the balance sheet and growth of the business. Regarding our capital expenditures, we expect those to be in line with historical averages in the $10,000,000 to $15,000,000 range. And finally, as we look at The cadence of revenue throughout the year, we expect the Q1 to decline slightly in the low single digits with growth in the second and third quarters before our normal seasonal decline in the Q4. And with that, I would like to turn it back over to Rob for closing comments.

Speaker 3

Thanks, Kelly. There is no question that 2022 was an excellent year for MRC Global. Our outstanding financial results reflect a significantly more efficient company with increased profitability, strong cost discipline and an improving solid balance sheet. In addition, our continuous focus on customer service supported by reliable operations and capable supply chain management enabled impressive growth across our entire business. With this successful backdrop, we are optimistic about further raising the bar for MRC Global in 2023.

Speaker 3

These are some of the performance highlights that we will be emphasizing. We expect double digit revenue growth and EBITDA margins in excess of 8% in 2023. All 4 of our business sectors are expected to achieve solid growth rates even after the strong performance in 2022. Cash generation from operations through the business cycle remains a priority and we are targeting in excess of $120,000,000 in operating cash flow in 2023 even with double digit revenue growth. Our diversification strategy is paying off with approximately 2 thirds of our revenue generated outside the traditional oilfield.

Speaker 3

Our gas utilities and diet sectors thrive largely independent of commodity prices and they each offer attractive growth prospects over the longer term. And finally, we understand that improving our return on invested capital is critical for attracting and retaining investors. We are pursuing specific initiatives to improve our capital productivity that will manifest in 2023 beyond. And with that, we will now take your questions. Operator?

Operator

Thank you. We will now be conducting a question and answer session. One moment please while we poll for questions. Our first question is from Nathan Jones with Stifel. Please proceed with your question.

Speaker 2

Good morning, everyone.

Speaker 3

Good morning, Nathan. Good morning, Nathan.

Speaker 2

I wanted to start off talking a bit about free cash flow here. Obviously, a little bit lower than you'd anticipated in 2022 with some 4th quarter timing there. And the business still did consume $234,000,000 of primary working capital in 2022. Maybe you can talk a little bit more about what we should expect From cash generation from the business with all of the transformation that it's undergone over the last few years across our business cycle, Even with in 2023, I would think we're looking at below kind of an average level of cash generation, given that you're still supporting a fairly significant amount of growth in 2023. And you look at $120,000,000 of CFO, more than $100,000,000 of free cash flow.

Speaker 2

Even if I take out the dividends on the preferred stock, you're still looking at a free cash flow to equity that's In 2023, 7.5%, 8% kind of free cash flow yield on the stock. Will be. Maybe talk a little bit more about what we can expect from free cash flow across the cycle here given the pretty healthy yield we're looking at the moment.

Speaker 4

Yes, Nathan, this is Kelly. I'll start off with this one. Yes, no, listen, and I want to hit real quick on 2022. You mentioned Shins, you know that we fell maybe a little bit short of our goal. We did talk about that in the prepared remarks that if we would have closed the books 1 week later, we would have had Positive cash generation for the full year, just the timing of inventory receipts and inflows and outflows of cash there at At the very end, just barely or just made us barely miss that target.

Speaker 4

So that was very But still very positive, as we mentioned, kind of an inflection point for the company that with a 26% level of growth last year, We were able to get that close with cash generation. And in the second half of the year, we generated $43,000,000 of cash, which we're very proud of that. But you mentioned you were exactly right, Nathan. We added a lot of inventory in 2022, significant build there. That was most of that working capital consumption that you're talking about.

Speaker 4

We came out of the pandemic Very minimal inventory levels, really had to do some investment in both 202120 to replenish those inventory levels, really to kind of get out of the hole that we had kind of put ourselves into as we were trying to cut cost will reduce working capital during the pandemic, but then also with the 26% level of growth we had, just a much stronger business having to build inventory into that market as well. And we'll continue to build inventory here in 2023 as well, Not near to the same level, not that $200,000,000 plus level that we had in 2022, but something much lower than that, I think actually probably, gosh, we're thinking maybe $40,000,000 to $80,000,000 of inventory versus the $200,000,000 of inventory build. That will obviously depend on how things kind of shape up as the year goes on, but that's kind of our thinking coming into the year. The cash flow yield that you mentioned, So, an unlevered is kind of we're thinking kind of that 9%, 10% range, but you're right on a levered basis, will be slightly less than that. But still, that's a very positive metric that we think that we can maintain not just in 2023, but even will be recorded.

Speaker 4

So and we said in our prepared remarks as well, just to reiterate it, No matter what the cycle is, if we're in a growth market or a down market, we are fully committed to making sure that we generate cash in any environment that we have ahead of us. Yes. And if I

Speaker 3

could just add to that, Kelly, thanks for that summary. Obviously, generating cash is a priority for this management team. As we said in Our press release, you can see we finished the year at the lowest leverage in MRC Global's history at 1.2x. We are in a The year where our term loan is likely to be refinanced as it comes due in September of 2024. So having Strong cash flow generation and low leverage on the balance sheet just gives us more flexibility and will be more attractive terms as we go to refinance our term loan.

Speaker 3

And then longer term, obviously, if we continue to generate cash as we intend to do so, It will give us more strategic flexibility to think about other opportunities and give us a broader Set of options as we think about capital allocation more broadly. So as Kelly said, we're in a really good position here. It's It's an inflection point really that we hit last year and going forward cash generation is a big part of the MRC Global story.

Speaker 2

Is it fair to assume that you probably don't do anything else with cash other than pay down debt until you've refinanced that timeline?

Speaker 3

I think that's a pretty safe bet. We I think we've all seen the uncertainty and some volatility in the debt markets. And Obviously, getting the term loan refinance will be a priority for the company. Again, being in a strong position in terms of cash generation and having the business be good will certainly help us there. But thinking broader about capital allocation, that's probably post the refinancing of the term loan.

Speaker 2

You do have a much better balance sheet now than you've had over the last few years, having paid down a lot of debt over the last few years. Can you maybe talk about those priorities a little bit Host of the refinance of the debt here. I mean, I guess what I'm angling at here is with this kind of free cash flow yield, Maybe a consideration to a share repurchase or what the other priorities could be?

Speaker 3

Well, look, we don't want to get too far ahead of ourselves here. I think, as we said, we've just passed the inflection point. I think what we need to do is we need to will prove that we can follow through on the cash generation to the numbers that we outlined today, which we are confident we will do, but that's certainly the first port of call. And then beyond that, I would just say all options are on the table, Nathan.

Speaker 2

Okay. Thanks very much for taking my questions.

Speaker 3

You're welcome. Thanks.

Operator

Thank you. Our next question is from Cole Kuznets with Stephens Inc. Please proceed with your question.

Speaker 5

Hey guys, thanks for taking my questions.

Speaker 3

You're welcome.

Speaker 5

Can you guys help provide can you guys provide any insight into why revenue will be down sequentially in 1Q? And any drivers for the recovery in the Q2 and beyond?

Speaker 3

Yes, I'll take that one. This is really typical seasonal decline for our business that we've seen almost every year, which is that Coming out of the Q4, where budgets are exhausted, people come into the New Year, customers do, typically taking a while to ramp up their spending And the project activity as well, keep in mind that a lot of our business is involved with field projects, which In some cases, depend on the weather. So our biggest sector is gas utilities here in the U. S. And a lot of the projects that take place will be in the Northeast or Midwest, places where The weather is not as conducive to project activity as it will be in the spring and the summer beyond.

Speaker 3

So those are really The key drivers that lead to that slight seasonal decline. Again, as you think about the year cadence, 1st quarter will be down versus 4th quarter, but then the second and third quarters are typically up, peaking in the And then again, we see somewhat of a seasonal decline in the 4th quarter around the holidays and the degradation of the weather in that quarter. So this is really nothing unusual. It's the same cadence that we had in 2022. Again, we're projecting a double digit improvement in our revenue across all four quarters.

Speaker 3

And that this Q1 guidance is really consistent with The seasonal efforts seasonal activities more than anything else. Kelly, you want to add to that?

Speaker 4

Yes. Just one other data point to add to that. If you look at Q4, Typically, we're down 5% to 10% sequentially from Q3 to Q4. We were only down 4% This quarter, so much stronger 4th quarter than we normally have. And that also contributes to the decline that you're seeing in Q1 because normally Q4 would be at a lower level.

Speaker 5

Yes, that's helpful. Next question, we really appreciate the new insight on ROIC and the focus to drive that higher over time. What was your thinking around rolling that out now? And what are some of the levers for improvement in 2023 beyond?

Speaker 3

Well, I've been here at MRC Global for a couple of years now and we've really gone through a couple of iterations of things to focus on with our investor base, really starting with our focus on the bottom line, which is our EBITDA margins. And what you've seen is that Over the last couple of years, we've really improved that bottom line profitability to where we're now guiding to exceed 8% this year, which would be a near record for the company over its multiyear history. Now I think that you've also heard us talk a lot on the call about cash generation, which is obviously something that's really important to our investors This management team, we just addressed the question on that. And then I think the thing that I think the best companies do in this industry in industrial distribution is they do focus on those capital returns. And we have to be good stewards of capital.

Speaker 3

Our capital is primarily in the form of inventory And financial working capital. We don't have a lot of large assets, big expensive assets that we base our business on. It's really that inventory and that financial working capital that we have to get good returns on. And we really feel that making that measure more public and more visible, both internally and externally will help guide our actions and our focus. And we think it is a driver of shareholder value.

Speaker 3

Again, the larger industrial distributors have been talking about it for years. I think MRC Global needs will spend more time focusing on that and we will certainly do that. Now, as I mentioned, the 2 big components there are inventory and the financial working capital. On the inventory front, as I mentioned in the prepared comments, we're looking at a number of ways to improve the productivity of that inventory. Having the right inventory at the right place in the right quantity is how you are successful in the distribution business.

Speaker 3

And in some cases, We haven't had as productive an inventory as we could. We like to have the inventory turn more frequently. We'd like to make more gross margin on that inventory. We'd like to not handle that inventory more times than we need to. So we have initiatives underway to address All of those sorts of things in 2023 and beyond to improve the productivity of the inventory.

Speaker 3

And then on the working capital side, We've got to make sure that we are very diligent in terms of managing Both our payables and our receivables and make sure that those are in a proper balance because there's a significant amount of cash tied Working capital, especially as we're growing our business. So we want to make sure that that's more efficient. And again, we can get those numbers was down, that networking capital number down even as we grow our business. That's a better return for our investors on the capital that we've been entrusted with. So those are some of the things to be thinking about for 2023 and beyond, but this is a measure that we want to continue to talk about with our investors and again, internally here at the company.

Speaker 5

Great. Thanks guys. I'll turn it back.

Speaker 3

You're welcome.

Operator

Thank you. Our next question is from Doug Becker with Capital One. Please proceed with your question.

Speaker 6

Thanks. I wanted to touch base on chemicals. The early returns from the focus there seems to be very favorable. Just wanted to get a sense for what type of growth to expect in that subsector this year and are the margins on a relative basis going to be higher or lower than the diet overall average?

Speaker 3

Yes, I would say consistent with how we're thinking about the diet sector generally, the revenue growth in the chemical sector should be in that high Single digit range. A lot of what we do in the chemical sector is valves and some of that is Special alloys and corrosion resistant And so those things tend to garner a higher gross margin on average than typically what we make as a company. So in general, I think it's a very positive story on chemicals. We're really happy with the market penetration that we've made In 2022, we've got more opportunities in 2023, and we see significant projects coming down the line that should be attractive for us. And then kind of in a bigger picture, when you think about the chemicals industry in the U.

Speaker 3

S. And what's happening in Europe and elsewhere, we really think the chemicals industry is positioned well in the U. S. Market with the feedstock costs generally being lower here. And for all those reasons, we're very bullish on the Chemicals business In this year and beyond.

Speaker 6

Is there anything in particular that would keep it from growing a little bit more than diet? Just thinking that You're really in a position to take some share here as you expand your focus.

Speaker 3

Well, that's Certainly going to be the goal of the team that's advancing our strategy there. And we'll just have to see how that plays out. Obviously, this is a it's a competitive space that we compete in, but we have some real experts on some of the chemical processes and the products That we were supplying into that space. So we feel very good about our position and we'll continue to kind of report back through our earnings calls how we're doing there. But I think it's a fair comment to say that we could see outsized growth in the chemical space.

Speaker 3

And I I think at this point, we're saying that it's going to be in line with diet overall. Keep in mind, the diet sector also includes energy transition, which is going to be a really fast growth pace business for us. But overall, we think the chemical space certainly can grow at the rate of diet and as you point out, perhaps better if we're More successful in share penetration.

Speaker 6

That's a fair point on the energy transition. Just thinking about margins this year, pipe pricing has been a tailwind. Just wanted to get a sense for if there was a tailwind, headwind in the Q4 and what's your expectation is for this year?

Speaker 3

Yes. I mean, we've talked a lot about the fact that there was a real strong inflation on pipe that was probably not going to be sustainable. And we're already seeing some flattening and deflation in line pipe. So as we look from 2022 to 2023, The gross margins that we expect on line pipe should come down from the levels that we had in 2022. However, We believe that the line pipe margins gross margins are likely to stay higher than our historical average, which is very positive for us.

Speaker 3

We've replaced a lot of the high priced inventory that we would have bought earlier in the year last year. So we don't feel that we're saddled with A lot of ballast in terms of having high priced inventory that we're trying to sell into a flat or lower priced market. So overall, we feel good about our position with Line Pipe in terms of the inventory we have and the outlook for 2023. It's going to be a lot slower growth this year though. I mean last year line pipe sales grew over 50% Year on year, this year it's going to be single digit growth in terms of sales.

Speaker 3

And But in terms of the margins, the margins will be better than what we've seen historically, but not at the levels that we saw in 2022.

Speaker 6

One last one just on maybe the optimal leverage level of debt or leverage really clearly reposition the company. The debt's been coming down. What do you think the right level is of debt or leverage

Speaker 3

Well, this is something we ask ourselves every day. I think the thing we're most confident about is lower is better right now. This company has, for many years, carried too much debt Relative to the volatility of the earnings and the cash flow that it generated. And obviously, we think that In some cases, that may have had us traded at a discount to where we should trade because of the lack of strategic flexibility and some exposure to some cycles. But look, we're certainly getting into a much more comfortable range of debt and leverage than we've ever been before.

Speaker 3

Again, as I mentioned in a previous question, we are in a year where we will be refinancing our term loan in all likelihood before the end of this year. And so this is a really good time to lower our leverage level and to demonstrate our cash flow generation capability. I think going forward, the answer to your question really is a function of what we do as a company, what businesses we're in, The volatility of those businesses in terms of cash generation and earnings and those sorts of things. And I think that's something that could certainly evolve for MRC Global as we go forward. But right now, we like where we are.

Speaker 3

We're going to like even better where we're going to be a year from now with the cash generation. And then longer term similar to the earlier question on capital allocation, we'll take a look at what's the right leverage level for the company given the businesses that we're in.

Speaker 6

Makes sense. Rob, thank you very much.

Speaker 3

You're welcome.

Operator

Thank you. Our next question is from Ken Newman with KeyBanc Capital Markets. Please proceed with your question.

Speaker 7

Hi, everyone. This is Katie Fleisher on for Ken today.

Speaker 4

Hey, Katie.

Speaker 3

Hi, Katie.

Speaker 7

I was wondering if you could talk a little bit about what you've been hearing from your customers so far. I know you said that the preliminary January backlog is indicating up versus December. So just wanted to hear like are you still confident On the level of demand visibility going into 2023 as you speak with your customers?

Speaker 3

Yes, it's a good question. And Obviously, we're about halfway through the month of February. So we're a month and a half into the year. And I would say that our Discussions with customers and what we're seeing in terms of spending habits are very supportive of the outlook that we anticipated kind of late last We are reaffirming today. Customer spending levels seem to be unaffected by any talk of weakening of the economy or any sort of fluctuation in oil and gas prices.

Speaker 3

We feel very good about our market position. And to give you an example, if you look at our upstream business, our upstream business is heavily levered toward large IOCs and large public producers as opposed to private and smaller independent And everything that is written about the space is talking about how they're going to assume a bigger Percentage of the activity in the oilfield. So that gives us confidence in our 2 sectors that are expected to grow the most this year on a percentage basis, which is our upstream and midstream business. And I talked about what customers are telling us and what industry analysts are predicting for Gas utility CapEx spend and that's very supportive. And a lot of that again is independent of economic conditions These are commodity prices.

Speaker 3

A lot of these are safety and integrity projects or modernization projects. They're going to go through largely inelastic from what is happening in a broader economy, especially if there's a slight move one way or the other. And then the diet space, As we talked about, we're seeing strong activity on projects, some turnarounds, but some larger projects as well in chemicals and refining and then we continue to be bullish on the energy transition space coming into the year with A significant backlog and a good line of sight for projects in 2023 and beyond. So long way of answering your question, Katie. We feel good about where we are today and everything that we've seen in the market and what we've talked about with customers is supportive of our outlook.

Speaker 7

Okay, great. That's helpful. Thank you. And then just for my follow-up, you talked about price already, but in terms of driving Your margins, for this year, can you just talk about some of the puts and takes going into that 21% number, is it really coming from product mix or SG and A leverage, or something else?

Speaker 3

Yes. On the gross margin number, a couple of things really come to mind. The first is that we saw a lot of inflation Across our business in 2022. And as we talked about on a number of previous earnings calls, We have pricing in our contracts that allows us to reset those pricing those prices to match inflation. There's always a little bit of a lag in that.

Speaker 3

So last year as we were seeing inflation, we traditionally were Together with our customers and talking about the impacts and then having to adjust pricing typically upwards to account for that inflation. But a lot of that price adjustment took place over the course of the year and really 2023 will be the first time that we've really seen a full impact On that of that pricing on our margins. So obviously that's a positive for us. Another positive for us as we think about this year is, we really do feel like we'll see a nice pickup in our valve business and our international activity, Higher growth rates than the average for the company and our valves and actuation business and our international business, they tend to be Higher gross margin businesses. So those tend to be accretive to that adjusted gross profit percentage that we're guiding at around the 21% range.

Speaker 3

And then, obviously, on the potential downside is just the catch up of the average cost To the replacement cost, as we continue to buy more and more expensive inventory and sell inventory through the year, our average cost has crept up and obviously that's going to will work against the growing gross margin. But when we looked at all of those puts and takes together, We came to the view that they're largely in balance. So last year, we finished the year at 21.3%. And as we look at this year, we think we're in that 21% range or better as well. And so those are really some of the puts and takes, but the The net on it is that we think we're roughly flat on adjusted gross profit percentage for 2023 over 20 22.

Speaker 7

Okay. Okay, thanks. And then just one really quick modeling question. Where are you guys assuming for LIFO reserve for this year?

Speaker 4

It will certainly be less than last year. 22, I think we finished with $66,000,000 of LIFO expense. Still believe we will have LIFO expense because there's going to be some continued inflationary pressures. But I I would plug into your model now maybe $40,000,000 to $50,000,000 range. It's hard to predict.

Speaker 4

It depends on a lot of different variables, but somewhere in that ballpark.

Speaker 3

Will be answered.

Speaker 2

Okay. All right. Thank you. Okay.

Operator

You're welcome. Thank you. There are no further questions at this time. I'd like to turn the floor back over to Monica Broughton for any closing comments.

Speaker 1

Thank you for joining us today and for your interest in MRC Global. We look forward to having will be on our Q1 conference call in May. Have a great day. Thanks.

Operator

This concludes today's conference. You may disconnect your lines at this time. Thank you for

Powered by Quartr