Good morning, ladies and gentlemen, and welcome to the K-Bro Linen Systems Inc. First Quarter 2023 Results Conference Call. At this time, all lines are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. If at any time during this call you require immediate assistance, please press star zero for the operator. The call is being recorded on May 16th, 2023. I would now like to turn the conference over to Kristie Plaquin. Please go ahead.
Thank you, operator. Good morning, everyone. Thank you for joining us today and welcome to our First Quarter Results Conference Call. On the line with me today is Linda McCurdy, President and Chief Executive Officer. Following our remarks today, we will open it up for questions. Before we begin, I'd like to remind everyone that statements made during our prepared remarks or in the Q&A portion of the conference call with reference to management's expectations or our predictions of the future are forward-looking statements. All statements made today, which are not statements of historical fact, are considered to be forward-looking. Certain material factors or assumptions were applied in drawing a conclusion or making a forecast or projection as reflected in the forward-looking information. Investors are cautioned not to place undue reliance on these statements. Actual results could differ materially from those anticipated.
Risk factors that could affect the results are detailed in the Corporation's public filings. I'll now turn the call over to our CEO, Linda McCurdy, who will provide her insights and remarks from the quarter. Linda.
Thank you, Kristie. Good morning, everyone, thank you for joining us today to review our 2023 first quarter results. I'll focus on the main highlights of our first quarter, Kristie will provide more details on our financial performance and balance sheet. I'll come back to you and update you with an outlook for the remaining quarters of 2023. In terms of the highlights, we reported Q1 2023 revenue of CAD 71 million and EBITDA of CAD 10.3 million for the quarter. I'm pleased with our quarterly revenue continues to exceed pre-COVID levels set in 2019 while showing strong growth in EBITDA, which is CAD 3.3 million better than last year. I'm also pleased at the improvement in our EBITDA margins, which is an important step in getting to historical pre-pandemic margins in the second half of this year.
We saw continued growth in healthcare revenue and significant increases in hospitality growth. Overall, consolidated revenue increased 15.2% compared to Q1 2022, with healthcare revenue having increased by 1.4% and hospitality revenue by 48.2%. With a return in hospitality revenue, healthcare represents approximately 62% of consolidated revenue, which is lower compared to approximately 70% in 2022. For the Canadian division, healthcare revenues represented approximately 60% of revenue, which is lower compared to approximately 68% in 2022. Q1 results continue to reflect a few key factors that we spoke about in Q4. While our revenue has returned to pre-COVID levels, our EBITDA margins continue to be impacted by temporary labor inefficiencies and higher inflation related and energy costs stemming from the COVID pandemic and certain geopolitical events.
We are actively managing these factors and working with many of our Canadian and U.K. customers to implement price increases to offset higher inflation-related costs. A large portion of these price increases went into effect by the end of Q1 2023, but there are still additional increases to be implemented in the 2nd and 3rd quarter. We're pleased with the success we've seen in working with our customers on these increases. As we move into Q2, we expect to continue to benefit from strong hospitality activity in both Canada and the U.K., and stable healthcare trends. We anticipate achieving the full benefit of our new AHS province-wide contract by the 2nd half of 2023 as we optimize operational efficiencies. We continue to benefit from our U.K. natural gas hedge, which we put in place in April of last year through to the end of 2024.
As I noted earlier, we've been successful in working with many of our Canadian and U.K. customers to implement price increases to offset inflation-related costs. We continue to benefit from these price increases during the quarter, and we'll see the full impact in the back half of 2023. We've remained well-positioned from a balance sheet and liquidity perspective with CAD 44.4 million of additional borrowing capacity on a revolving line of credit and with an additional CAD 25 million accordion for growth purposes. With the acquisition of Paranet, total debt increased in the quarter from CAD 39.1 million to CAD 53.7 million, and our funded debt to EBITDA excluding leases at the end of Q1 still remained conservative at 1.8x. While we continue to face challenges, we feel very positive about our performance going forward.
We anticipate continued organic growth in both Canada and the U.K. Our M&A pipeline remains active. Our balance sheet has the flexibility to provide for our near-term growth. Given our expectations, given recent trading levels for our stock and our conservative balance sheet, we've also announced an NCIB. I'll now turn the call over to Kristie to discuss our detailed financial results for the year, after which time I'll return to talk about our outlook for the remainder of the quarters of 2023. Kristie, over to you.
Thank you, Linda. The information we are discussing today is also highlighted in our 2023 first quarter earnings press release issued yesterday. Detailed supplemental financial information can be found on our investor relations website under the heading Financial Documents. As a result of COVID-19 pandemic restrictions being eased, consolidated hospitality revenue for the three months ended March 31st, 2023 increased by approximately 48% over the comparable period of 2022. We saw a 1.4 percentage increase in consolidated healthcare revenue for an overall increase in consolidated revenue of 15.2%. Consolidated EBITDA increased in the quarter to CAD 10.3 million from CAD 7.1 million in 2022, which is an increase of 46.3%. The consolidated EBITDA margin increased to 14.6% in 2023, compared to 11.5% in 2022.
For the Canadian division, the Q1 EBITDA margin increased to 16.9% from 15.3% for the comparative period of 2022. In the U.K., the Q1 EBITDA margin increased to 6.4% from -3.7% in 2022. For the Canadian division, the increase in margin is primarily related to stronger client activity across the hospitality segment and price increases secured across various markets serviced. For the U.K. division, the increase in EBITDA margin is primarily related to stronger client activity across the hospitality segment, price increases, labor efficiencies, and the natural gas hedge which we put in place in Q2 of 2022, as well as delivery cost efficiencies.
Net earnings increased by CAD 2.4 million, from a loss of CAD 0.4 million in 2022 to CAD 2 million in 2023, and net earnings as a percentage of revenue increased by 3.5% to 2.8% in 2023. The change in net earnings is primarily related to the flow through items in EBITDA, higher finance costs related to increased interest rates for the revolving credit facility and higher income tax expense. On a year-to-date basis, wages and benefits increased by CAD 3 million to CAD 27.7 million, compared to CAD 24.7 million in the comparative period of 2022, and as a percentage of revenue decreased by 1 percentage point to 39.1%.
The decrease as a percentage of revenue is primarily related to price increases, the stabilization of labor in certain markets, and production efficiencies gained from the transition of AHS. On a year-to-date basis, linen remained constant at CAD 7.4 million compared to the comparative period of 2022, and as a percentage of revenue decreased by 1.5 percentage points to 10.5%. The decrease as a percentage of revenue is primarily related to the change in the mix of linen and a higher hospitality volume processed compared to the pre-previous year. On a year-to-date basis, utilities increased by CAD 0.4 million to CAD 6 million, compared to CAD 5.6 million in the comparative period of 2022, and as a percentage of revenue decreased by 0.7 percentage points to 8.5%.
The decrease as a percentage of revenue is primarily related to the natural gas hedge strategy implemented in the U.K. in Q2 of 2022. Delivery on a year-to-date basis increased by CAD 0.9 million to CAD 9.1 million, compared to CAD 8.2 million in the comparative period of 2022, and as a percentage of revenue decreased by 0.6 percentage points to 12.8%. The decrease in the percentage of revenue is primarily related to improved client activity, which yielded delivery cost efficiencies. On a year-to-date basis, occupancy costs increased by CAD 0.3 million to CAD 1.3 million, compared to CAD 1 million in the comparative period of 2022, and as a percentage of revenue remained relatively constant at 1.8%. The increase in spend is related to higher facility rents as well as increased property and insurance costs.
On a year-to-date basis, materials and supplies increased by half a million to CAD 3.1 million, compared to CAD 2.6 million in the comparative period of 2022, and as a percentage of revenue remained constant at 4.3%. On a year-to-date basis, repairs and maintenance increased by CAD 0.7 million to CAD 2.9 million, compared to CAD 2.2 million in the comparative period of 2022, and as a percentage of revenue increased by 0.3 percentage points to 4%. The increase as a percentage of revenue is primarily related to the timing of maintenance activities as well as inflationary increases. On a year-to-date basis, corporate costs increased by CAD 0.4 million to CAD 3 million, compared to CAD 2.6 million in the comparative period of 2022, and as a percentage of revenue remained relatively constant at 4.3%.
Looking at our capital resources. Distributable cash flow for the first quarter of 2023 was CAD 5.1 million. Our payout ratio was 63.1%. The company paid out CAD 0.3 per share in dividends during the quarter for total consideration of CAD 3.2 million. The corporation had net working capital of CAD 33.5 million at March 31st, 2023, compared to its working capital position of CAD 36.6 million in 2022. With regards to the credit and liquidity, we have a strong balance sheet and ample undrawn capacity on our credit facility with an operating line of CAD 100 million and a further CAD 25 million accordion for growth purposes.
At the end of Q1, we had an undrawn balance of close to CAD 44.4 million on our operating line, which reinforces our strong liquidity. Debt to total capitalization for the period ended March 31, 2023 was 23.4%. Total debt increased in the quarter from CAD 39.1 million to CAD 53.7 million, was primarily due to the change in working capital items and the acquisition of Paranet. As Linda said earlier, our debt to EBITDA ratio, excluding leases, was just over 1.8x. I'll now turn things back over to Linda for any additional commentary. Linda?
Thank you, Kristie. Q1 was an important step in our return to pre-pandemic margins and our whole team is excited about our outlook. We've seen the benefit of price increases and there's still additional increases that will be realized throughout the balance of the year. We're actively managing the factors that have reduced our margins through COVID and continue to expect a return to a pre-pandemic margin profile in the second half of the year. Going forward, we see continued momentum in both healthcare and hospitality. Our healthcare segment remains steady, and we expect that to continue with the transition to AHS volumes, trend and permanent conversions to reusable products, and efforts to reduce procedure backlogs that have accumulated during the pandemic. Our hospitality segment continues to see good levels of activity with the return of business and international travel.
Since the pandemic, labor availability remains constrained. We've experienced some progress and anticipate improvements in our labor recruitment and retention and are managing more challenging regional labor availability with complementary Temporary Foreign Worker Program. In the second half of the year, we anticipate returning to historical 2019 margin levels consistent with historical seasonal trends. Our anticipated margin recovery remains dependent on our ability to attract and retain staff in each of the markets in which we operate. Strategic acquisitions have been an important contributor to K-Bro's overall growth profile, and with continued momentum in our business, we're refocusing on M&A. We're pleased with our acquisition of Paranet in Quebec in March, and early indications confirm our expectations of a well-performing addition to K-Bro.
We have an active M&A pipeline and remain well-positioned from a balance sheet and liquidity perspective and will continue to be disciplined as we evaluate acquisitions. We're proud of our seven-decade history of responsible, innovative growth. While delivering industry-leading services, we've embraced our responsibility to society. We prioritize customer and employee relationships, environmental stewardship, and creating positive impacts where we do business. We're excited to extend our sustainability strategy for the long term and intend to publish our inaugural sustainability report by the end of the year. In summary, we see continued momentum in both healthcare and hospitality. We are actively managing factors that affected our results since the pandemic and are eager to see the full benefit of price increases. In the second half of the year, we anticipate returning to historical 2019 margin levels consistent with historical seasonal trends.
Before I open up the line for questions, I want to acknowledge those who are impacted by the Alberta wildfires, and we will continue to do everything to support the needs of the province. I'll now turn it over to answer any questions you may have as it relates to our first quarter results. Operator, we can open up the line to questions.
Thank you. Ladies and gentlemen, we will now begin the question and answer session. Should you have a question, please press star followed by the one on your touch tone phone. You will hear a three-tone prompt acknowledging your request. Should you wish to decline from the polling process, please press the star followed by the two. If you are using a speakerphone, please lift the handset up before pressing any keys. One moment please for your first question. First question comes from Derek Lessard of TD Cowen. Please go ahead.
Good morning, Linda and Kristie.
Good morning.
I just want to start, maybe could you compare and contrast Q4 on pricing and supply chain and the margin contraction you saw there, sort of with the strong performance that you're seeing in Q1 and almost a 180 this quarter?
Sure. Well, I think as we telegraphed last quarter, I mean, throughout the first quarter of 23 as well as going forward, price increases play a meaningful role. There's just no denying that. We worked, you know, most of last year, or I'd say at least three-quarters of last year as we saw inflationary pressures to put in place price increases, which played out partially or in Q1 and expect to throughout the balance of the year. I will also say that we have seen positive signs in labor. I don't wanna get out too far in front of ourselves here, because the busiest quarters are obviously Q2 and Q3, where demand and volumes pick up dramatically, and that will be the true test of labor.
We are seeing some signs that we haven't seen in the past of a softening labor market. In many of our plants, we are seeing potential employees come through the door, applying for jobs, which has been somewhat of not what we've seen over the last two years. You know, secondary to that is we are down the road in terms of putting in place Temporary Foreign Worker Program and have had a number of employees come to our plants from overseas and expect that to continue to happen throughout Q2 and Q3. It's certainly not one single factor, but, you know, we have seen positive signs on the labor front and have had price increases that are impacting obviously the margin and bottom line.
Okay. That's, that's helpful, Linda. Thank you for that. The second question is, could you maybe talk about, you alluded to some of that in your opening comments, but the early performance of Paranet and how the integration is going?
Sure. You know, that operation is half healthcare and half hospitality. It's still early days, but it's certainly a target that we've known for many, many years. We're working very effectively with the management team, working with customers on the transition. What I would say is it's more of an administrative integration at this point versus an operational one. There's operational changes and improvements to be made, but we continue to operate two facilities. It's not like we've moved into one location. Again, it's much more back of the house integration versus an operational integration, but very pleased with working with the team. Good responses from customers to date, and we'll continue to put in place operational efficiencies, make capital investments that make sense to improve operations going forward.
Okay. I guess one final one for me is, the improvement in the labor that you mentioned. Are you seeing that in the U.K. as well as in Canada?
Yes. I would say that it's, you know, certain markets in Canada are tougher than others. As it relates to both the U.K. and Canada, we're seeing. Again, we're cautiously optimistic, but we are seeing some softening in both markets.
Okay. Thanks, everyone.
Thanks, Derek.
Thank you. The next question comes from Andrew Lin of National Bank. Please go ahead.
Hey, good morning. Thanks for taking my questions. Congrats on a good quarter. First question I have, I was wondering, Linda, you mentioned a few times in the prepared remarks is that there have been some price increases in Q1, but there are more to come in Q2 and in Q3. Is there a way you can quantify, what is yet to come in terms of, you know, percentage increase or percentage volume? I mean, any way, is there any way to quantify what is yet to come? That'd be great.
I'd say about, you know, 75% of the increases have come in Q1, with the balance coming in Q2 and Q3.
Okay, great. Thank you. The other question I have, I just wanted to ask a little bit and put this into context with the linen charge, which is flat in CAD dollar terms, it has declined 1.5 percentage points as a % of revenue is up 15%. Can we use that as a directional for volumes as sort of like what the quantum, whereas the increase in revenue would be with the quantum on price, whereas the flat linen is kinda more on the volume that you're seeing? Is that a good way of seeing it?
I mean, this isn't true in 100% of the case, but for the highest majority as we see hospitality revenue pick up, linen as a percentage of revenue will go down. It's for the most part only on the healthcare business where we provide linen. As healthcare revenue stays flat or stable or minimal increases, you will see flat linen expenditures as well. The percent goes down as hospitality revenue goes up because we don't provide the linen to our hospitality customers for the most part, certainly in Canada. That's not true in the U.K., where we do provide the linen.
Okay. No, that's great. Thank you. That would refer to the change in mix, in the linen commentary in the MD&A, I'm assuming.
Yes. Yes.
Okay. Okay, great. Thank you.
Yeah. That's exactly right.
My. Thank you. My last question, I'll jump into queue. I just wanted to talk a little bit about the NCIB. Just kind of the thought process on it. I mean, especially as the stock is fairly liquid. You're also talking about a active pipeline, which I would think perhaps you should pay some debt down so you could be more active. I was wondering if you can talk a little bit about the thought process in terms of putting an NCIB, how would you deploy it, and how would you balance it versus paying debt down or even perhaps increasing the dividend?
Well, we continually look at capital allocation strategies. I mean, I think we've been fairly clear in the fact that growth in M&A is a key priority. We've also previously communicated that we're comfortable up to a level of 3 x debt to EBITDA. I think the reality is, Andre, is that we just don't think our current share price appropriately reflects our outlook. We'll be active in balancing the NCIB with other uses of capital. At this point, we just feel that the current share price doesn't reflect our outlook.
Okay. Thank you for that. I'll jump in the queue.
You bet. Thanks, Andre.
Thank you. The next question comes from Justin Keywood of Stifel. Please go ahead.
Hi. Good morning. Thanks for taking my call.
Morning, Justin.
Hi. On the EBITDA margin in the quarter, I didn't see an adjusted EBITDA. Was there anything one-time in nature?
Not particularly, Justin. Kristie, nothing comes to mind. No?
No, no. Nothing would come to my mind either.
Understand the expectation of margins to return to historical levels, which I assume is 2019 in the back half of the year. Are you able to help us bridge the margin progression if there is any in Q2, and then what the expectations are for Q3 and Q4?
You know, we have said that they will continue to be gradual, we've made progress, obviously, in Q1. There'll be more progress. Again, if we're using the baseline of 2019, there'll be improvement in Q2, you know, we do expect that it will be the back half where we more closely track 2019 levels.
Okay. That's helpful. On, the cash generation, it rebounded up quite substantially. Was there anything unusual in that?
No, nothing unusual from that perspective either, Justin. I'd say just stronger earnings, really, pushing stronger cash flows.
Okay. Then just finally on Paranet, I'm not sure if this was disclosed, but what's roughly the revenue contribution either in the quarter or on an annual basis, and what are the margin expectations for that asset?
Kristie, I'll let you respond to that.
Yeah. Yeah. For the quarter, it was disclosed in one of the notes to the financial statements, Justin, and it's about $750,000 for the quarter. Annually, we said revenue would be about $10 million and consistent margins with our existing base business.
Thank you very much.
Thanks, Justin.
Thank you. The next question comes from Michael Glen, Raymond James. Please go ahead.
Hi, Linda and Kristie. Can you provide an update with just with the Alberta transition, where things sit and how much additional we should think about from a margin perspective through the rest of the year?
You bet. Again, while we've finished transitioning the volume a year ago, there were supply chain challenges that we experienced, and as it relates to receiving certain carts that we use to distribute linen, we expect to fully receive all of those, and the related delivery and labor efficiencies, by the end of Q2.
Okay. Can you just help understand, like, this cart dynamic that you refer to? Like, what exactly is happening there? What's the issue, and how does getting receipt of the new carts resolve this?
Just in terms of the capacity of the cart to hold the appropriate amount of linen, the efficiency of being able to pack the cart, again, efficiently in our plant, put them on a vehicle so the vehicle is fully cubed out. When you're dealing with different dimension carts, old carts that have, you know, broken wheels, it impacts our whole operation, cleaning the carts. Those are some of the, you know, in the weeds details that have resulted in inefficiencies in processing some of the volume for this contract. As new carts come in, we expect those efficiencies to go away.
Okay. Most of those carts are replaced now, and all of them will be done by the end of Q2. That's the expectation?
Yes. Yeah.
Can you give us an update, just in terms of the natural gas hedge over in the U.K. and how that will impact through the balance of the year?
You bet. Kristie, you can provide those details if you would.
Yeah, for sure. In terms of the U.K., the natural gas hedge that we put in place in 2022 is for all of our volume and extends all the way to the end of 2024. Really Q2 of 2022 reflected the hedged price already. Q1 of 2022 did not.
Okay. Is it Like, I'm not sure how the pricing works, but is that a headwind to your margins through the balance of the year over in the U.K.?
No. The pricing will be consistent, quarter Q2- over- Q2. Q2 of 2022 compared to Q2 of 2023, 'cause it was already in place for Q2 of 2022.
Okay. Maybe just, as we think about putting through price increases to customers, if we're thinking of that transportation line and the fuel costs embedded in that transportation line, is that something that you think you could eventually embed into contract fuel price? Or is that something that you'll continue to take on yourself?
You know, listen, the it's an ever-changing market and, you know, competitive landscape and so if it becomes commonplace in the industry, we'll have much more success in doing so. Of all the input costs, and I'm not saying that fuel is insignificant, but it's certainly not as material as a labor cost line. We will try obviously to put in place all of the cost increases to protect against margin contraction. We do that in every single contract we negotiate, Michael. We have had success when minimum wage started to increase in embedding that into some of our contracts. In some of our contracts, it's easier to work with our customers to do it, and in others, they aren't willing to accept those types of unknown price increases.
What I can say, and I think it's reflective in our Q1 results, is that we have a very strong history of working with our customers to receive price increases in situations that are unpredicted or unpredictable, whether it be COVID or unprecedented inflationary cost increases that we've seen. We work as hard as we can, and we would love to cover all potential cost increases to be a flow-through item. We try, but don't know that we'll be successful 100% of the time on every single cost item.
Okay. Thank you for taking the questions.
You bet, Michael.
Thank you. The next question comes from Andrew Lin. Please go ahead.
Hey, thanks again. Thanks for the follow-up. Just a couple ones for me. The first one, I just wanted to when we're talking about price increases, are these the ones at least that you have negotiated at the current? Are these kind of more backward-looking, sort of you're trying to recoup the cost and what has happened, let's say, in the last 12 or 24 months? Is there a certain degree when you're looking at in the future? This I'm trying to relate this especially when it comes to minimum wage increases that are yet to come in several of your geographies.
I mean, I would say that it's a combination of both. First of all, we started to embed minimum wage price increases, and have worked very hard over even pre-pandemic. Like, if we think back to when we first saw material pricing, or sorry, minimum wage increases in Alberta six, seven years ago, was really when the government in power of the day committed to a $15 minimum wage. That's what really started us putting in place, increases that were tied to minimum wage. What we saw in the last year, You know, cost increases far exceeded minimum wage price increases. That gave rise to working with our customers for exceptional one-time price increases.
All that to say, Andre, I would say that, you know, we do have protection in many, many of our contracts as it relates to minimum wage price increases. The price increases that we've seen so far are a bit of a combination of both, backwards looking and anticipating further increases in certain lines like labor. I mean, when we think of our price increases in the U.K., the largest driver there was not necessarily minimum wage increases, it was entirely energy, which, you know, we're protected from, to some extent, but we also negotiated out of contract price increases.
Great. Thank you, Linda. No, I mean, I think that that natural gas hedge was a great move, by the way. My, my last question is, if you can just talk a little bit about inflation in linen. I mean, are you able to offset because of your footprint, or are you working through still lower priced inventory? 'Cause, if I recall correctly, you hold a lot of linen inventory.
Sure. You know, of all the cost lines, Yes, we've worked through linen that has been inventoried, but I would say this is not a line item that we're particularly worried about. Having inflation even anywhere close to CPI levels. This is a cost item that it remains a fairly competitive market and suppliers able to move production around and source elsewhere. You know, I'm not saying there's 0% inflation on linen, but it's not in the neighborhood of the high single digits that we've seen, like we've seen in other areas.
Thank you very much. Appreciate it.
Thank you. The next question comes from Michael Glen, Raymond James. Please go ahead.
Okay. Linda, maybe just on the labor, are you able to give an indication about how your turnover trends have tracked in Canada over the last 12 months?
You know what? I would say that we are not seeing a dramatic decrease from a 300% turnover to a 100% or a 100% to a 20%. I think for us, the leading indicators are we attracting staff? There is always high turnover in our business, you know, whether it's individuals coming in and after a shift, an hour, a day, a week, deciding this just isn't the business that they want, they wanna work in. I think what we are finding, though, is that there is more foot traffic, there's more people coming through the door. We have employees who are coming in who we are more effectively being able to train and, you know, achieve productivity numbers that we're looking for.
I wouldn't say that a dramatic decrease in turnover, A, have we seen, or B, is it something that we would expect to track to see a huge improvement in productivity, Michael?
Okay, that's it for me.
Thanks, Michael.
Thank you. There are no further questions at this time. I will turn the call over to Linda McCurdy for closing remarks.
Well, thank you everyone for joining today, our Q1 conference call. If there's any follow-up questions, Kristie and I will be available at your convenience. Thanks so much, everyone, and have a great day.
Ladies and gentlemen, this does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.