(EDGAR Online via COMTEX) -- ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion of our financial condition and results of operations should be read together with our consolidated financial statements and the accompanying notes thereto included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2019, filed with the SEC. This discussion contains forward-looking statements. Forward-looking statements are based on current expectations and assumptions that involve risks and uncertainties. Our actual results may differ materially from those anticipated in our forward-looking statements. The tables and information in this "Management's Discussion and Analysis of Financial Condition and Results of Operations" section were derived from exact numbers and may have immaterial rounding differences.
We believe we are the world's leading provider of portable storage solutions, maintaining a strong leadership position in virtually all markets served. Our mission is to be the leader in portable storage solutions to customers throughout North America and the U.K. and tank and pump solutions in the U.S. We are committed to providing our customers with superior service and access to a high-quality and diverse fleet. In managing our business, we focus on renting rather than selling our units, with rental revenues representing approximately 94% of our total revenues for the three months ended March 31, 2020. We believe this strategy is highly attractive and provides predictable, recurring revenue. Additionally, our assets have long useful lives and relatively low maintenance costs. We also sell new and used units and provide delivery, and other ancillary products and value-added services.
We operate our portable storage business in North America as "Mobile Mini Storage Solutions" and our tank and pump business as "Mobile Mini Tank + Pump Solutions". As of March 31, 2020, our network of locations included 117 Storage Solutions locations, 20 Tank & Pump Solutions locations and 18 combined locations. Our Storage Solutions fleet consisted of approximately 200,500 units and our Tank & Pump Solutions fleet consisted of approximately 12,800 units. During the quarter, we completed the acquisition of a portable storage business which further strengthened our business in Dallas, Texas.
Merger. In March 2020, Mobile Mini entered into a definitive merger agreement (the "Merger Agreement") with WillScot Corporation ("WillScot"). The Merger Agreement provides for the merger of Mobile Mini with and into a newly formed subsidiary of WillScot, with Mobile Mini surviving as a wholly owned subsidiary of WillScot (the "Merger"). At the effective time of the Merger, and subject to the terms and conditions set forth in the Merger Agreement, each outstanding share of the common stock of Mobile Mini shall be converted into the right to receive 2.4050 shares of WillScot Class A common stock. The board of directors of both Mobile Mini and WillScot unanimously approved the Merger and the Merger Agreement and have recommended that their stockholders vote in favor of the adoption of the Merger Agreement. The Merger is subject to customary closing conditions, including receipt of regulatory and stockholder approvals by the Mobile Mini and WillScot stockholders, and is expected to close in the third quarter of 2020.
Business Environment and Outlook, including COVID-19 Considerations. On January 30, 2020 the World Health Organization declared an outbreak of a highly contagious form of an upper respiratory infection caused by COVID-19, a novel coronavirus strain commonly referred to as "coronavirus". In March 2020, the outbreak of COVID-19 was recognized as a pandemic by the World Health Organization, and the outbreak has become increasingly widespread, including in the markets in which we operate. The COVID-19 outbreak has had a notable impact on general economic conditions, including but not limited to the temporary closures of many businesses; "shelter in place" and other governmental regulations; and reduced consumer spending due to both job losses and other effects attributable to COVID-19. Mobile Mini has been deemed an essential infrastructure business, which means we continue to supply our products and services. Our business results for the three months ended March 31, 2020 were minimally impacted by the pandemic; however, our business is subject to the general health of the economy and federal and local guidelines and restrictions have significantly curtailed the level of economic activity in affected areas, which include the areas in which we conduct our business. Please see additional information in "Item 1a. Risk Factors".
As an essential business during this pandemic our operations have not been significantly disrupted by the effects of the pandemic and we expect to be able to continue to meet demand. In North America we have implemented work from home policies for many of our employees and introduced practices for our drivers and yard workers to protect their safety and health. We have an adequate near-term supply of parts and supplies to maintain our fleet and do not anticipate any material supply gaps. Further, we anticipate that our significant business partners will continue to provide the services and materials, including software-related services, necessary to manage and operate our business.
Our pipeline of new orders has decreased, and we expect fewer new rentals for the near term. While our level of deactivations has also decreased compared to the prior year, we anticipate the decreased demand for new rentals will result in lower year-over-year and sequential rental revenues across the Company for the near-term, most notably in delivery, pickup and similar revenue, which comprised 24% of our rental revenues for the twelve months ended March 31, 2020.
Our customer end markets are experiencing varying degrees of impact related to COVID-19. Entering 2020, non-residential construction projects for local and national account customers were healthy. Units on rent for projects that were in progress prior to the pandemic, largely remain on rent. However, some projects that were scheduled for commencement in the second and third quarters of 2020 have been delayed and some may be cancelled. Similarly, within our retail end market, projects in progress have continued, however, certain national customers have temporarily postponed remodels. The duration of postponements is uncertain.
In the Tank & Pump Solutions business, industrial softening in the second half of 2019 was exacerbated in the first quarter of 2020 by an oversupply of oil leading to lower oil prices and reduced average refinery capacity utilization. Further, heading into the second quarter, the effects of COVID-19 have resulted in decreased demand for oil. In the near-term we expect continued decreased demand for our products from certain of our customers in this business segment. When supply and demand dynamics normalize, we are well positioned to respond to increased demand.
To mitigate decreased near-term revenues, we have begun to reduce variable costs and overhead where appropriate, including minimizing use of third-party vendors. Depending on levels of demand, management will further enact contingency plans to minimize the impact of reduced revenue on adjusted EBITDA. As we decrease capital expenditures in line with our demand-driven business model, we expect to continue to generate healthy levels of free cash flow.
Mobile Mini's leverage ratio at March 31, 2020 is our lowest leverage ratio since September 30, 2014 and we believe we have ample liquidity to meet foreseeable needs. Access to our line of credit has not been affected by recent events and we have $438 million of available borrowings with no significant debt maturities until 2024. We have also elected to suspend both small acquisitions and share repurchases in the near-term.
Approximately 68% of our consolidated rental revenue during the twelve-month period ended March 31, 2020 was derived from our North America Storage Solutions business, 13% was derived from our U.K. Storage Solutions business and 19% was derived from the Tank & Pump Solutions business. Based on rental revenue for the twelve months ended March 31, 2020, the construction industry represents approximately 36% of our consolidated rental revenue, industrial and commercial customers comprise approximately 26% of our rental revenue and generally operate in industries such as: large processing plants for organic and inorganic chemicals, refineries, distributors and trucking and utility companies. Retail and consumer service customers comprise approximately 22% of our rental revenue and include department, drug, grocery and strip mall stores as well as hotels, restaurants, service stations and dry cleaners. Upstream oil and gas customers comprise less than 2% of our rental revenue and include companies performing such activities as exploratory well drilling, operation of producing wells and bringing crude oil and/or raw natural gas to the surface using alternative methods.
On January 31, 2020 the U.K. ceased to be a member of the European Union (the "E.U.") (commonly known as "Brexit"), on terms set out in a withdrawal agreement concluded and ratified by the E.U. and U.K. ("Withdrawal Agreement"). The Withdrawal Agreement provides for a transition period until December 31, 2020 ("Transition Period"), during which time the U.K. will continue to be treated as a member of the E.U., in effect, for legal and regulatory purposes. The U.K. and E.U. continue to negotiate the terms of a future trading relationship to come into effect at the end of the Transition Period. The terms of any future trade deal between the U.K. and the E.U. remain highly uncertain and the chances of the U.K. and E.U. failing to reach agreement before the end of the Transition Period cannot be ruled out. In tandem with its negotiations with the E.U., the U.K. is commencing future trade deal negotiations with other key countries, including the U.S. As the future trade deal terms and their impact become clear, we may adjust our U.K. strategy and operations accordingly.
Accounting and Operating Overview
Our principal operating revenues and expenses are:
Rental revenues include all rent and ancillary revenues we receive for our rental fleet.
Sales revenues consist primarily of sales of new and used fleet and, to a lesser extent, parts and supplies sold to customers.
Costs and expenses:
Rental, selling and general expenses include, among other expenses, payroll and payroll-related costs (including share-based compensation and commissions for our sales team), fleet transportation and fuel costs, repair and maintenance costs for our rental fleet and transportation equipment, real estate lease expense, insurance costs, and general corporate expenses.
Cost of sales is the net book value of the units that were sold during the reported period and includes both our cost to buy, transport, remanufacture and modify used containers and our cost to manufacture Storage Solutions units and other structures.
Depreciation and amortization includes depreciation on our rental fleet, our property, plant and equipment, and amortization of definite-lived intangible assets.
Our principal asset is our rental fleet, which is capitalized at cost and depreciated over the estimated useful life of the unit using the straight-line method. Rental fleet is depreciated whether or not it is out on rent. Capitalized cost of rental fleet includes the price paid to acquire the unit and freight charges to the location when the unit is first placed in service and, when applicable, the cost of manufacturing or remanufacturing, which includes the cost of customizing units. Ordinary repair and maintenance costs are charged to operations as incurred.
The table below outlines the composition of our Storage Solutions rental fleet at March 31, 2020:
Percentage of Number of Gross Fleet Percentage of Rental Fleet Units in Dollars Units (In thousands) Steel storage containers $ 624,731 170,899 63 % 85 % Steel ground level offices 364,429 28,957 36 14 Other 6,122 648 1 1 Storage Solutions rental fleet 995,282 200,504 100 % 100 % Accumulated depreciation (168,564 ) Storage Solutions rental fleet, net $ 826,718
The table below outlines the composition of our Tank & Pump Solutions rental fleet at March 31, 2020:
Percentage of Number of Gross Fleet Percentage of Rental Fleet Units in Dollars Units (In thousands) Steel tanks $ 82,264 3,251 41 % 26 % Roll-off boxes 35,576 5,660 18 44 Stainless steel tank trailers 31,292 661 15 5 Vacuum boxes 17,242 1,553 9 12 Dewatering boxes 10,233 913 5 7 Pumps and filtration equipment 15,031 743 7 6 Other 9,896 n/a 5 Tank & Pump Solutions rental fleet 201,534 12,781 100 % 100 % Accumulated depreciation (68,075 ) Tank & Pump Solutions rental fleet, net $ 133,459
We are a capital-intensive business. Therefore, in addition to focusing on measurements calculated in accordance with GAAP, we focus on EBITDA, adjusted EBITDA and free cash flow to measure our operating results. EBITDA, adjusted EBITDA and the resultant margins, and free cash flow are non-GAAP financial measures. As such, we include in this Quarterly Report on Form 10-Q reconciliations to their most directly comparable GAAP financial measures. We also evaluate our operations on a constant currency basis. These reconciliations and a description of the limitations of these measures are included below.
Non-GAAP Data and Reconciliations
EBITDA and Adjusted EBITDA. EBITDA is defined as net income before discontinued operations, net of tax (if applicable), interest expense, income taxes, depreciation and amortization, and debt restructuring or extinguishment expense (if applicable), including any write-off of deferred financing costs. Adjusted EBITDA further excludes certain non-cash expenses, as well as transactions that management believes are not indicative of our ongoing business. Because EBITDA and adjusted EBITDA, as defined, exclude some but not all items that affect our cash flow from operating activities, they may not be comparable to similarly titled performance measures presented by other companies.
We present EBITDA and adjusted EBITDA because we believe they provide an overall evaluation of our financial condition and useful information regarding our ability to meet our future debt payment requirements, capital expenditures and working capital requirements. EBITDA and adjusted EBITDA have certain limitations as analytical tools and should not be used as substitutes for net income, cash flows, or other consolidated income or cash flow data prepared in accordance with GAAP. EBITDA and adjusted EBITDA margins are calculated as EBITDA and adjusted EBITDA divided by total revenues expressed as a percentage.
Reconciliation of net income, the most directly comparable GAAP measure, to EBITDA and adjusted EBITDA is as follows:
Three Months Ended March 31, 2020 2019 (In thousands, except percentages) Net income $ 8,301 $ 18,085 Interest expense 9,257 10,760 Income tax provision 6,639 6,523 Depreciation and amortization 17,492 17,335 Deferred financing costs write-off - 123 EBITDA 41,689 52,826 Share-based compensation expense (1) 2,682 3,404 Merger-related expenses (2) 15,505 - Adjusted EBITDA $ 59,876 $ 56,230 EBITDA margin 28.0 % 35.3 % Adjusted EBITDA margin 40.2 37.6
Reconciliation of net cash provided by operating activities to EBITDA is as follows:
Three Months Ended March 31, 2020 2019 (In thousands) Net cash provided by operating activities $ 33,223 $ 38,783 Interest paid 12,608 14,276 Income and franchise taxes paid 1,913 2,020 Share-based compensation expense (1) (2,682 ) (3,404 ) Gain on sale of rental fleet 1,444 1,425 Loss on disposal of property, plant and equipment (26 ) (18 ) Change in certain assets and liabilities, net of effect of businesses acquired: Receivables (4,320 ) (17,392 ) Inventories 154 (76 ) Other assets (1,381 ) 1,394 Accounts payable and accrued liabilities 756 15,818 EBITDA $ 41,689 $ 52,826
(1) Share-based compensation represents non-cash compensation expense associated with the granting of equity instruments. See additional information in Note
(2) For the three months ended March 31, 2020, this amount represents incremental costs related to our proposed merger with WillScot. See additional information in Note 1 "Mobile Mini, Inc. - Organization and Description of Business" to the accompanying condensed consolidated financial statements.
Free Cash Flow. Free cash flow is defined as net cash provided by operating activities, minus or plus, net cash used in or provided by investing activities, excluding acquisitions and certain transactions. Free cash flow is a non-GAAP financial measure and is not intended to replace net cash provided by operating activities, the most directly comparable financial measure prepared in accordance with GAAP. We present free cash flow because we believe it provides useful information regarding our liquidity and ability to meet our short-term obligations. In particular, free cash flow indicates the amount of cash available after capital expenditures for, among other things, investments in our existing business, debt service obligations, payment of authorized quarterly dividends, repurchase of our common stock and strategic acquisitions.
Reconciliation of net cash provided by operating activities to free cash flow is as follows:
Three Months Ended March 31, 2020 2019 (In thousands) Net cash provided by operating activities $ 33,223 $ 38,783 Additions to rental fleet, excluding acquisitions (10,051 ) (23,016 ) Proceeds from sale of rental fleet 3,474 3,338 Additions to property, plant and equipment, excluding acquisitions (4,174 ) (2,919 ) Proceeds from sale of property, plant and equipment 15 49 Net capital expenditures, excluding acquisitions (10,736 ) (22,548 ) Free cash flow $ 22,487 $ 16,235
Constant Currency. We calculate the effect of currency fluctuations on current periods by translating the results for our business in the U.K. during the current period using the average exchange rates from the same period in the prior year. We present constant currency information to provide useful information to assess our underlying business excluding the effect of material foreign currency rate fluctuations. The table below shows certain financial information as calculated on a constant currency basis:
Three Months Ended March 31, 2020 Calculated in Constant Currency As Reported Difference (In thousands) Rental revenues $ 140,958 $ 140,656 $ 302 Rental, selling and general expenses 102,457 102,258 199 Adjusted EBITDA 59,986 59,876 110
RESULTS OF OPERATIONS Three Months Ended March 31, 2020, Compared to Three Months Ended March 31, 2019 Percentage of Revenue Three Months Three Months Ended Ended March 31, March 31, Increase (Decrease) 2020 2019 2020 2019 2020 versus 2019 (In thousands, except percentages) Revenues: Rental $ 140,656 $ 142,172 94.4 % 95.0 % $ (1,516 ) (1.1 ) % Sales 8,316 7,223 5.6 4.8 1,093 15.1 Other 68 266 0.0 0.2 (198 ) (74.4 ) Total revenues 149,040 149,661 100.0 100.0 (621 ) (0.4 ) Costs and expenses: Rental, selling and general expenses 102,258 92,234 68.6 61.6 10,024 10.9 Cost of sales 5,102 4,602 3.4 3.1 500 10.9 Depreciation and amortization 17,492 17,335 11.7 11.6 157 0.9 Total costs and expenses 124,852 114,171 83.8 76.3 10,681 9.4 Income from operations 24,188 35,490 16.2 23.7 (11,302 ) (31.8 ) Other income (expense): Interest income 12 - - - 12 n/a Interest expense (9,257 ) (10,760 ) (6.2 ) (7.2 ) 1,503 (14.0 ) Deferred financing costs write-off - (123 ) - (0.1 ) 123 n/a Foreign currency exchange (3 ) 1 - - (4 ) n/a Income before income tax provision 14,940 24,608 10.0 16.4 (9,668 ) Income tax provision 6,639 6,523 4.5 4.4 116 Net income $ 8,301 $ 18,085 5.6 % 12.1 % $ (9,784 ) Three Months Ended Percentage of Revenue Three Months Ended March 31, March 31, Increase (Decrease) 2020 2019 2020 2019 2020 versus 2019 (In thousands, except percentages) EBITDA $ 41,689 $ 52,826 28.0 % 35.3 % $ (11,137 ) (21.1 ) % Adjusted EBITDA 59,876 56,230 40.2 37.6 3,646 6.5 Free Cash Flow 22,487 16,235 15.1 10.8 6,252 38.5
Total Revenues. The following table depicts revenues by type of business for the three-month periods ended March 31:
Increase (Decrease) 2020 2019 2020 versus 2019 (In thousands, except percentages) Rental Revenues: North America Storage Solutions $ 96,469 $ 93,516 $ 2,953 3.2 % U.K. Storage Solutions 18,275 19,209 (934 ) (4.9 ) Total Storage Solutions 114,744 112,725 2,019 1.8 Tank & Pump Solutions 25,912 29,447 (3,535 ) (12.0 ) Total Rental Revenues $ 140,656 $ 142,172 $ (1,516 ) (1.1 ) U.K. Storage Solutions in Constant Currency $ 18,577 $ 19,209 $ (632 ) (3.3 ) Total Storage Solutions in Constant Currency 115,046 112,725 2,321 2.1 Sales Revenues: . . .
May 06, 2020
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