Ladies and gentlemen, thank you for standing by, and welcome to the DXP Enterprises, Inc. 2020 Second Quarter Earnings Call. [Operator Instructions]. I would now like to hand the conference over to your speaker today, Kent Yee, Chief Financial Officer. Thank you. Please go ahead.

Thank you, Mariyama. This is Kent Yee, and welcome to DXP's Q2 2020 conference call to discuss our results for the second quarter ending June 30, 2020. Joining me today is our Chairman and CEO, David Little. Before we get started, I want to remind you that today's call is being webcast and recorded and includes forward-looking statements. Actual results may differ materially from those contemplated by these forward-looking statements. A detailed discussion of the many factors that we believe may have a material effect on our business, on an ongoing basis, are contained in our SEC filings. However, DXP assumes no obligation to update that information as a result of new information or future events. During this call, we may present both GAAP and non-GAAP financial measures. A reconciliation of GAAP to non-GAAP measures is included in our earnings press release. The press release and an accompanying investor presentation are now available on our website at ir.dxpe.com. I will now turn the call over to David to provide his thoughts and a summary of our second quarter. David?

Good morning, and thank you, Kent, and thanks to everyone for joining us today on our 2020 second quarter conference call. Given these unprecedented times, we are pleased with our results for the second quarter and year-to-date as we hit the halfway point. I am proud of our tremendous DXPeople as they have continued to find ways to deliver financial results for all our stakeholders in the face of extraordinary challenges related to COVID-19. Accordingly, we remain well positioned to deliver strong long-term financial performance. We will position ourselves to drive sales growth, and achieve our vision of excellence for our DXPeople, customers, suppliers, stakeholders and communities. I will start this call by updating you on developments since our first quarter call, and discuss some of the actions we are taking to successfully navigate the rest of the year and beyond. Kent will then take you through the key financial details after my remarks. After his prepared comments, we will open for Q&A. Before I update you on developments since the first quarter, similar to our last call, I want to reiterate that our thoughts and prayers go out to all those affected by COVID-19. With the recent surge in positive cases, which we have experienced firsthand here in Texas, we are all aware that this pandemic is far from over, and it is still resulting in tragic loss of life, social isolation, significant economic hardship. As DXP, we have not escaped these many challenges, and yet, we feel very fortunate to be here and a part of DXP. We are a financially strong industrial leader, and we are finding ways to work through and remain successful today, while putting us in a position to be successful tomorrow. We also believe that we must be opportunistic and find ways to…

Thank you, David, and thank you to everyone for joining us for our review of our second quarter financial results. Overall, DXP's second quarter results were good to see, and they reflect the following: sales demand pressures from COVID-19 and the resulting impact of various end markets, consistent gross margin performance and particularly within IPS and Supply Chain Services, SG&A reductions and record quarterly free cash flow generation. Our second quarter financial results do reflect, as I mentioned, the full impacts of the COVID-19-related sales demand pressures as well as the effect of an unfavorable year-over-year comparison. Last year, at this time, we experienced our strongest sales quarter since Q1 of 2015, which coincidentally was the last time we experienced an economic contraction. For the 6-month period ended June 30, 2020, total sales were $552.4 million and operating income was $17.7 million. Diluted earnings per share was $0.42 per share. Adjusting for onetime items, which I will review later on, diluted earnings per share for the 6-month period was $0.49 per share. Turning to our quarterly income statement highlights. Total sales for the second quarter were $251.4 million compared to $333.3 million for the same period in fiscal 2019. Sequentially, this is a 16.5% decline versus Q1 and a 24.6% decline compared to the second quarter of 2019. This primarily reflects the full impacts of COVID-19, as I have mentioned, and all 3 business segments being impacted by a minimum full month of shelter-in-place orders and the subsequent attempts at going back to work. Acquisitions contributed $4.5 million in sales during the quarter, a sequential decline of 14.2% versus the first quarter. Average daily sales for the second quarter were $4.0 million per day versus $5.3 million per day in Q2 2019 and $4.7 million per day in the first…

[Operator Instructions]. Your first question comes from Joseph Mondillo with Sidoti & Co.

I was wondering, Ken, can we start with the monthly sales per day just to get a sense of how this weird quarter has progressed?

Yes, sure, absolutely. And I'll - what I'll do, Joe, is I'll just really go back to March and then kind of pull it forward and give you a flash, even for July. Sales per business day, starting into March, were $5,152,000. April was $4,128,000. May was $3,942,000. June was $3,903,000 and then July, flash is $3,234,000. So $5.2 million, $4.1 million...

Can you say July again? I'm Sorry.

$3.2 million.

And so I'm just trying to do the math really quickly...

Down 17% from June.

Yes. So it looks like your - I mean I have - if I have the correct historical data, it looks like you're down 25% to 35% in June and July?

From a year-over-year perspective?

On a year-over-year perspective, yes?

Yes.

And so maybe we can dive into that a little deeper. Where is the weakness coming from relative to, I guess, the main 2 segments, which are Service Center and IPS, down - it looks like the year-over-year declines are the worst thus far in July. Could you just talk about how you're seeing things regarding those trends?

Sure, Joe. I'd like to answer that question. The - there's really 3 data points that are important and we've got them all grafted out, et cetera. And one of them is the backlog, the other ones what are shipments and invoicing. And then the other one, often not looked at much, is bookings. So our - what Kent just gave you was the shipments and invoicing in the sales for each of those periods, and that's still declining. The bookings story is a little different. For the service center segment, bookings hit what appears hopefully be a bottom in June, and July actually went up, even though invoicing went down. And therefore - and backlog is kind of level. So on Service Centers, we're looking at Service Centers and really everything is for the year, this year, not compared to last year, last year was obviously, a much better year, and we - I'll hope that this year would have been a better year. But for this year, just looking at it, things are trending down a little, but they're not big numbers. And so in my opinion, sales will continue to trend down just slightly as we go through the third quarter. But hopefully, our bookings continue to trend up, which will mean that our backlog will start to level out and climb a little bit. So Service Centers looks good. And of course, that is just the MRO piece, assume maintenance, repair and operating and OEM piece of our business and by far the largest. You mentioned supply - IPS. IPS is the capital project side of the business. The backlog is trending down. Invoicing is trending down and bookings has - seems to have found a bottom, but it's found the bottom at a very low point. So that's to give you an idea, our backlog is around $84 million. And our bookings actually had an uptick also in July, but that went from $4 million bookings in June to $6 million bookings in July. And then of course, both of those numbers are way down.

Okay. Good color. I really appreciate that. It gives us a good viewpoint into the back half of the year. I guess, relative to the backlog comments, and maybe we can sort of focus on IPS. You mentioned in your prepared remarks that backlog is, I guess, comparable, you said 6% below 2015 and about 60% above 2016. So it looks like your sales, especially IPS, are looking more like - as far as the outlook for the back half of the year anyways, are looking more like 2016. So could you maybe sort of help us understand how bad IPS could get maybe in the back half of the year? However you want to compare it relative to 2016. Or however you want to talk about it.

Yes. So that's right. And just a refresher, I think everybody knows this, so '15 was the start of a down cycle and '16 got worse. And then '17, was a bit of a recovery and '18 was a much bigger recovery and '19 was up some more. And so - and then now we're back on a down cycle. So when we look at IPS, compared to '16, as you pointed out, I somewhat agree that it's going to be like '16. And if I'm correct, and I think I am, if it wasn't - if we took impairments and other things out of there that are noncash transactions, IPS can stay profitable all through the cycle. It has to downsize, and it does produce less CapEx projects, but they haven't gone away. We still have a healthy backlog, and so IPS will have declining sales for some period of time until things turn around, but it will be able to manage to stay profitable.

Okay. Great. So I guess, last question, and I'll let someone else have a shot at it. Regarding sort of just your cost management, just broadly speaking, how much - first off, how much temporary cost did you take out in the second quarter? Or maybe, I don't know, government benefits or anything like that that you saw in the second quarter that are not going to reoccur in the third quarter? And then I guess, secondly, just broadly, can you talk about what you're doing with costs management? Should we expect more in a broad level in the second half? Are you taking out anything permanent? Maybe you can just address all of those topics on cost.

Sure. First of all, I would like to say that I didn't know the government was giving money away to public companies. So if I've missed the boat there, please, I'd like for you to point me in the right direction.

I heard a couple of companies have some benefits - certain benefits. I don't know if there are tax benefits or what. But...

Well, we have over 500 employees, and we're public. So we - anyway, we haven't gotten any. Yes, Congress hadn't seen fit to give us any money. But we would like to take some. The only thing we're really struggling with that's a loss, and is our Supply Chain - no, I'm sorry, is Safety Services. And Safety Services is tied to drilling and turnarounds. And so the turnarounds have been put off. And so they hadn't any turnarounds. And the drilling activity is way down. So that business has just had declines in revenues that are beyond its ability to cut expenses or not. So that said, the rest of the business is performing pretty good considering the losses that, that is generating. That's - so I guess we don't - Ken, I don't know if you want to address the specifics? I don't know if you have those kinds of numbers? I don't think in terms of those kinds of numbers. What I think is I have a location, it's in Midland, Texas, the heart of Permian Basin. And I used to do some number, I'm not going to give my competitors' numbers exactly, but some number, and now they're doing half as much. And - but that half as much, they're still making money. And so we manage the business to a performance standard that says "Hey, your contributed margin, we get that you used to make X, and now probably the best you can do is make 8% of sales of a much smaller number, but that's what you're expected to do. And so our people, they know how to do this. And so they're going through the process of making that happen. And when they do that, and then our corporate SG&A is 5%, well, then we make money. So that's what we do. We do it by every location. And if the location just can't stay profitable, then the consideration is to close it down or if we think it's just temporary and things are going to come back for them, specific to them in their market, then we'll let them keep kicking for a while. Kent, do you want to add anything to that?

Yes. No. The only thing I'd add to that, Joe, is I think you were getting at, are there any kind of onetime kind of cost reductions in Q2 because that reflects the full brunt of COVID. And all I would say is we - to David's early comments, we don't really necessarily approach it that way. Yes, there is the employer portion of social security, which we're deferring from a cash perspective, but that's more so cash management. And so - and that doesn't really feed through the financials the way you would think it would. Everything else is - in our speak, is, for the most part, hard cost savings will reflect kind of the demand that we're seeing and the outlook that we're seeing. And so yes, bonuses are down. Yes, we've put in to some actions that we normally do in a depressed economic environment, but those aren't necessarily "onetime in nature". They are a result of us just kind of how we manage philosophically and think about the business until we return to growth. And so we've run rate taken out over $28 million worth of cost out of - $28 million of 2019 cost out of the business. And so that's happening in real time. And so we'll continue to make money as we move through the cycle. That's always our goal. But as David ended his comments with is those markets where we see growth, which there are some, will allow those people to invest and grow the business.

There are no further questions at this time. Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.

One second. One second. Joe, you may have some more questions. If the other party is not going to ask any questions, that's fine. But Joe, if you have some more go ahead requeue that up. We don't want to cut you short.

Am I - can you hear me?

Yes. You're on.

Yes, we can.

Okay. All right. I wasn't sure if I was still live or not. Yes. So we did have a couple of other questions. I wanted to ask about the Supply Chain segment. It was lower than I was looking for, but not a total shock to me because I'm guessing some clients and customers are just trying to shed some costs in what was has been a very challenging quarter for certainly some types of companies. Could you just talk about what you saw in the quarter? And sort of what your outlook there at that segment is?

Joe, thank you for asking that question because it's kind of unique. What happened to supply chain services? Normally, they're going to have a dip that's kind of just based on what the customer is going to buy a little less. And so they normally don't go down very much. Historically, that's always been the case. In this particular case, we actually had customers that closed or shuttered facilities. And so all the volume that we would get from that particular facility just totally went away 100%. That said, all the expenses for servicing that facility went away 100%. So consequently, the sales - there's not a real big leverage point here that the sales went down, whatever they went down 20%, then our profitability dollars went down 20%. But as a percent of existing sales, they're able to maintain that because of what I've said, both sales and expenses all went away because they closed that facility. Also, on top of that, the facilities that typically get closed and the reason for it is they're not great performing facilities. And if they're not great performing for the customer then they're probably not performing that well for us either. So a lot of what - the sales went away, but they weren't making that much money for us anyway. And so it wasn't a big dent to our bottom line. So I really want to make that point because I think when we look at the numbers, the top line did go down significantly and the bottom line didn't go down as much.

Okay. So it must have been a pretty big customer as far as the top line, but I guess, it's - as far as the profits...

Yes, yes, yes. It was - yes, it was an aerospace company. They manufactured airplanes. So I mean we don't - so we don't need any airplanes right now. So...

So is the second quarter that - that a good run rate then, I suppose?

So when I look at my other chart that I talked about that has the 3 points on it, it looks like, on bookings, that the June was their low point - no, I'm sorry, May, May was their low point and June went up, and July was flat. So we're kind of - we're thinking that they've seen the bottom, and that the third quarter will be a little better. Not a lot, but a little.

Joe, this is Ken. The only thing I'd add to David's comments that we are subject to in this segment, which is pretty unique, is when you're in the Service Centers and IPS, we control our own facilities, meaning opening. And as long as we're getting orders, we're working to service our customers. When you're in the Supply Chain Services side, we are a little bit subject to the wins of our customers because a lot of the times we're in their facilities. And I only point that out because if there is one thing that pandemic has taught us about Supply Chain Services is that if they want to take a certain approach as it pertains to safety, closing their facilities, we're totally subject to that. And so that's a little bit also with what JJ, who runs that segment, is dealing with on a day to day kind of in a real time basis. So when you have these flare-ups in cities and municipalities, where we have locations, you don't know how these different companies are going to respond. So...

Got you. I also wanted to ask about just so your - the inventory management through the downturn here. Your inventory at the end of the quarter was still up year-over-year. What are your thoughts on that? And how are you thinking about inventory management through the back half?

Yes. No, that's perceptive.

Yes. I asked that same question. I asked that same question, I said, what are you all doing over there. But anyway, the answer is, it's coming. It hasn't trended down yet. It's only been - we really weren't until we were into April before we made adjustments to inventory. And in April, we made adjustments. So they just haven't really shown up yet. But the second half of the year, inventory levels should come down.

Okay. And I guess last question I have just regarding M&A. You mentioned the 10% target. And I know this is just sort of a general sort of goal that you have on an annual basis. But 10% is pretty sizable. So I'm just wondering sort of what your thirst is for size of acquisitions? You mentioned 1 or 2 by the end of the year, so I'm just curious on what you're thinking regarding capacity related to the balance sheet?

Yes. Joe, this is Ken. I think we're in discussions with 1 or 2, believe it or not, companies where they have actually experienced growth in this market. And so the quick answer is, with the amount of cash we have on our balance sheet from a credit agreement perspective, we only get credit for the first $30 million. And so every dollar over $30 million, we have to ask ourselves from a capital allocation perspective, is it more appropriate use to pay down debt? Or in this instance, can we buy growth if it makes sense? Meaning pro forma for the transaction, leverages in compliance and from a diligence and business perspective, we think their business is going to grow. If all those things are true, then Joe, effectively, we have really more than likely, depended by - your structure of the transaction, we probably have delevered the business slightly from a credit agreement perspective. And so those are some broad comments I'd give. I would say, in terms of average transaction size, I think the comment more so in our scripts were indicating that coming into the year, we had a pipeline that looked like we were going to achieve our 10% growth through acquisitions. And so it's - we're not signaling necessarily that, "Hey, we've got 10% growth in the pipeline today." I think what we're more so signaling is that we want to - we're returning to those discussions because we're starting to understand the impacts of COVID better, and there are some exceptions to the rule of areas where we're finding pockets of growth. And so if we can acquire those businesses, they're falling in our average transaction size, I'll call it, which is, call it, typically $25 million or less. And so - but there's a lot of things that have to be met for us to do those transactions. But I think it's - we're turning to discussions, we had a robust pipeline, we are seeing some businesses that are holding in this environment. And if we have opportunity to pick them up, we're going to try our best.

And what is the general leverage threshold?

Leverage today from a - well, leverage today from a credit agreement perspective for total DXP is 2.4x. Historically, to answer your latter question, we've typically kind of peaked out at around 3.5x. Now our outside covenant is at 4.5x from a credit agreement perspective. And so once again, we're monitoring this real time. And so some of its math in real time depending upon where DXP's base - total DXP's business is from a trailing EBITDA perspective and where we think it's going to go going forward, and then also subsequently with the acquisitions. But once again, not to get in the weeds here in the details, but if we don't get credit for any dollars, over $30 million worth of cash on the balance sheet from a credit agreement perspective. So there's multiple things we can do with that. And today - as of today, for example, we have $96 million worth of cash on the balance sheet. And so that's a significant amount of cash. Obviously, in Q2, we optionally prepaid $15 million here more recently. We're going to pay down $10 million - paying down $10 million in real time. And so - but that still leaves us with, call it, north of $80-plus million worth of cash. So once again, if we're finding businesses that are growing or stable with EBITDA, and we're stable, the math does work in certain scenarios.

Sure. Okay. Great. Well, I appreciate you taking my questions today and good luck with the back half of the year.

All right. Thank you, Joe. Appreciate it.

There are no further questions at this time. Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.

Thank you.