Joseph Hanna - President and Chief Executive Officer Keith Pratt - Executive Vice President and Chief Financial Officer.

Scott Schneeberger - Oppenheimer & Company Marc Riddick - ‎Sidoti & Company, LLC.

Ladies and gentlemen, thank you for standing by. Welcome to the McGrath RentCorp Second Quarter 2017 Conference Call. At this time, all conference participants are in a listen-only mode. Later, we will conduct a question-and-answer session. [Operator Instructions] This conference is being recorded today, Wednesday, August 2, 2017.

Before we begin, note that the matters that company management will be discussing today that are not truly historical are forward-looking statements within the meaning of Section 21E of the Securities and Exchange Act of 1934, including statements regarding the company's expectations, beliefs, intentions or strategies regarding the future.

All forward-looking statements are based upon information currently available to the company and the company assumes no obligation to update any such forward-looking statements. Forward-looking statements involve risks and uncertainties which could cause actual results to differ materially from those projected.

These and other risks relating to the company's business are set forth in the documents filed with the Securities and Exchange Commission, including the company's most recent Form 10-K. In addition to the press release issued today, the company also filed with the SEC, the earnings release on Form 8-K and the Form 10-Q for the quarter.

Speaking today will be Joe Hanna, Chief Executive Officer; and Keith Pratt, Chief Financial Officer. I will now turn the call over to Mr. Hanna. Go ahead, sir..

Thank you, Leeann. Good afternoon, and thank you, for joining us on today's call. I will be providing comments on our performance and an update on our return on invested capital or ROIC progress during the second quarter. I will also cover our updated financial outlook for the year. Following my comments, Keith will review the financial results.

After that, we will open up the call to questions. Overall, we performed well and I am pleased with our results. Mobile Modular accounted for the majority of the company's 21% operating profit increase compared to a year ago as a result of higher gross profit from rental operations and higher sales gross profit.

TRS-RenTelco also achieved operating profit growth, while the contribution from Adler Tank Rentals was down slightly compared to a year ago. Mobile Modular rental revenues for the quarter increased 11% from a year ago, as rental rates, fleet utilization and equipment on rent all increased.

Rental revenue growth continues to be healthy across commercial and education markets as well as our Portable Storage business. Each of our modular regions, California, Texas, Florida and the Mid-Atlantic achieved growth in rental revenues.

We continue to invest in new modular rental equipment, primarily in regions outside California and for our portable storage business, and grew the rental fleet by 3% year-over-year. The business has executed well on its operating plans so far this year. And the team is fully engaged in implementing various ROIC improvements.

TRS-RenTelco rental revenues for the quarter declined 2% as a result of lower communications test equipment business activity. Communications test equipment rental revenues declined by 9%, but were partly offset by a 5% increase for general-purpose test equipment.

While average utilization increased, average rental rates declined for the quarter, primarily due to the business activity mix-shift from communications to general-purpose test equipment.

As communications market demand has declined, we have been reducing the amount of communications test equipment we own, while selectively investing in general-purpose test equipment for growth opportunities.

Our team continues to do a fine job in managing our fleet and depreciation expense to account for changes in end-market demand, and as a result achieved operating profit growth. Rental revenues for the quarter at Adler increased 2% from a year ago.

Upstream oil and natural gas rental revenue declined from 11% to 9% of total Adler rental revenues, but was more than offset by growth in other market verticals.

Improved market conditions and environmental services, refinery, construction and industrial services all contributed to a 4% increase in rental revenues outside of the upstream oil and gas segment.

Average equipment on rent increased 10% to $167 million from $152 million a year ago and average utilization improved, although rental rates declined as a result of competitive price pressure and product mix shifts.

Market conditions continue to be highly competitive and our visibility is limited as a result of the shorter rental terms of typical Adler transactions. Our fleet size was unchanged year-over-year, and we anticipate very limited new equipment purchases during the remainder of this year.

While our operating profit declined slightly year-over-year, we are encouraged by the improvements in rental revenues and utilization. Our second quarter results are beginning to reflect some impact from initiatives that we have launched through our ROIC work, particularly for Mobile Modular.

We have worked hard to identify and target certain market segments and transactions with more attractive economics. We are also maintaining discipline on new rental equipment, capital spending, while selectively selling some non-core equipment.

Our leadership and employees are well aware of the importance of this initiative and have embraced the work in a positive manner. I'm pleased with the progress we have made so far and look forward to continuing with our implementation.

While end-market conditions remain challenging for Adler Tank Rentals, and to a lesser extent TRS-RenTelco, we are encouraged by our second quarter and year-to-date results.

Based on these results and our current outlook for the second half of the year, we are raising our financial outlook and expect 2017 total company operating profit to increase 9% to 12% above 2016, compared to our prior expectation of a 3% to 5% increase. I'd like to turn the call over now to Keith for his financial review..

Thank you, Joe. For the second quarter 2017, total revenues increased 6% to $109.6 million from $103.1 million for the same period in 2016. Net income increased 26% to $11.5 million from $9.1 million. And earnings per diluted share increased 26% to $0.48 from $0.38.

Reviewing the second quarter results for the company's Mobile Modular division compared to the second quarter of 2016. Total revenues increased $7 million or 14% to $56.6 million on a higher rental and sales revenues. Rental revenues increased $3.4 million or 11%, and rental margins increased to 56% from 50%.

Depreciation as a percentage of rents decreased to 15% from 17%, and other direct costs as a percentage of rents decreased to 29% from 33%. The combined result was that gross profit on rents increased $3.6 million or 22%, to $19.5 million. Sales revenues increased $3.7 million or 64% to $9.5 million on higher used equipment sales.

Selling and administrative expenses increased 12% to $13.8 million, primarily as a result of increased salaries and employee benefit costs, and higher allocated corporate expenses.

The higher gross profit on rental and sales revenues partly offset by lower gross profit on rental related services revenues and higher selling and administrative expenses resulted in an increase in operating income of $3 million or 36% to $11.3 million.

Finally, average modular rental equipment for the quarter was $746 million, an increase of $29 million. Average fleet utilization for the second quarter increased to 76.5% from 75.8%. Turning next to the second quarter results for the company's TRS-RenTelco division compared to the second quarter of 2016.

Total revenues decreased $1.4 million or 5%, to $26.5 million on lower sales, rental and rental-related services revenues. Rental revenues decreased $0.5 million or 2%. However, rental margins increased to 43% from 39% as depreciation as a percentage of rents decreased to 40% from 44%. And other direct costs as a percentage of rents was flat at 17%.

The net result was an increase in gross profit on rents of $0.6 million or 8% to $8.6 million. Selling and administrative expenses decreased 4% to $5.3 million due to lower allocated corporate expenses.

The higher gross profit on rental and sales revenues, and a lower selling and administrative expenses were partly offset by lower gross profit on rental related services revenues. The net impact was a 19% increase in operating income to $7.1 million.

Finally average electronics rental equipment at original cost for the quarter was $248 million, a decrease of $7 million. Average utilization for the second quarter increased to 62.4% from 59.5%. Turning next to the second quarter results for the company's Adler Tanks division compared to the second quarter of 2016.

Total revenues increased $0.7 million or 3% to $22.3 million on higher sales and rental revenues partly offset by lower rental related services revenues. Rental revenues increased $0.3 million or 2%.

And rental margins decreased to 57% from 59% as depreciation as a percentage of rents decreased to 26% from 27%, and other direct costs as a percentage of rents increased to 17% percent from 14%. The net result was a comparable gross profit on rents of $8.7 million.

Selling and administrative expenses increased 5% to $7.3 million due to increased salaries and employee benefits. The higher gross profit on sales offset by higher selling and administrative expenses resulted in a decrease in operating income of $0.2 million, or 7% to $3 million.

Finally, average rental equipment for the quarter was $307 million, a decrease of $1 million. Average utilization for the second quarter increased to 54.4% from 49.4%. On a consolidated basis, interest expense for the second quarter 2017 decreased $0.1 million or 1% to $2.9 million from the same period in 2016.

As a result of the company's lower average debt levels partly offset by higher net average interest rates. The second quarter provision was based on an effective tax rate of 39.4% in 2017 compared to 39.5% in 2016. The second quarter effective tax rate included a $116,000 excess tax benefit related to the implementation of ASU 2016-09.

Next, I'd like to review our 2017 year to date cash flows highlights. Net cash provided by operating activities was $49.4 million, a decrease of $23 million compared to 2016. The decrease was primarily attributable to $11 million income tax refund received in 2016 and by a higher increase in prepaid expenses and other assets in 2017.

We invested $46.1 million for rental equipment purchases, compared to $45.7 million for the same period in 2016. Property, plant and equipment purchases increased $0.9 million to $9.6 million in 2017. Net borrowings increased $4 million from $326.3 million at the end of 2016 to $330.3 million at the end of the second quarter 2017.

Dividend payments to shareholders were $12.4 million. At quarter end, the company had capacity to borrow an additional $221.6 million under its lines of credit and the ratio of funded debt to the last twelve months actual adjusted EBITDA was 1.99 to 1.

Second Quarter 2017 adjusted EBITDA increased 7% to $41.9 million compared to the same period in 2016, with consolidated adjusted EBITDA margin at 38% in both periods. Our definition of adjusted EBITDA and a reconciliation of adjusted EBITDA to net income are included in our press release for the quarter.

That concludes the prepared remarks on our quarterly results. Leeann, you may now open the lines for questions..

[Operator Instructions] You have a question from Scott Schneeberger with Oppenheimer. Your line is open..

Hey, good afternoon..

Hi, Scott..

Hi, Scott..

Hi, Joe and Keith. I guess, first question - nice increase to the guidance for the year. If my math is that accurate, I think you get to the low-end of that increased guidance just with the outperformance we saw in the second quarter.

Is that accurate and can you speak a little bit to - that would imply a little bit of optimism more than you may have had before for the second half.

But could you elaborate on that a little bit please?.

Sure, Scott. I mean first comment, as Joe said in the prepared remarks we're very pleased with performance in the first half of the year. And if you go back to February, when we had a look at the beginning of the year, we were projecting a 3% to 5% increase in operating profit.

If you look at year to date, we've actually increased by 16% and if you look at our updated guidance for the full year it's 9% to 12%. So looking at what's at play we've got a very good first half of the year driven by modulars. We had a nice uptick in sales, which is you know can be lumpy, but that was also a contributor in the first half.

Our guidance, if you look at it on a year over year basis, the guidance imply that profitability in the second half of the year will be between 4% and 9% above what it was in the second half of 2016. And I'm referring here to the operating profit or EBIT.

So I think whatever way you look at it, we have performed better than we were originally expected in the first half of the year, and the guidance outlook would imply we're going to do better in the second half of the year than we expected in the beginning of the year..

Okay. Thanks for that. In - I'm going to go to Adler first if I could, just on a couple more questions. I'm curious, because we saw oil prices a little bit more bouncing around and then stabilizing again recently. But in the second quarter, after a very solid and steady first - multiple months of the year, that probably helped.

I saw in the release and I think you might have mentioned it - upstream went down as a percent in the Adler business. But I'm just curious what you've seen year to date in upstream specifically. I know you're not adding fleet there. You're probably moving fleet out of there, but just commentary on upstream specifically. Thanks..

Sure. Thanks, Scott. So you're right. As we as we mentioned in our prepared comments, we decreased year-over-year. But I would like to point out that actually on a sequential quarter over quarter basis, our oil and gas rental revenues increased.

And so we are seeing some - a little bit of recovery there and we're actually deploying some additional equipment into those markets. So I would expect that trend to continue..

Great, thanks. And obviously, a nice job kind of mitigating some pressure and TRS-RenTelco, the pattern that we saw on the second quarter, do you anticipate that persisting just continued softness in one area and the ability to offset it on the other side or some other dynamic you expected? Thanks..

Sure. I believe that if you look at the potential deployment of 5G, which is really what we see as the next place, where we can deploy equipment to a substantial degree in that business. That's a ways off as we have communicated in prior quarters. We are seeing an increase in our general-purpose equipment, and we're very encouraged by that.

However, if rents continue to be relatively flat going forward it will become more difficult to continue to manage the depreciation level, so that we achieve a favorable EBIT or an improved EBIT year-over-year. So that's just going to become more difficult as we go forward until we see more strength on the top line..

Okay.

And it sounds like you'll be just - are you going to be aggressively culling equipment? Are you anticipating holding some stuff for 5G, just thoughts on that?.

Yeah, we don't anticipate 5G to really start in any substantial way until 2019 and beyond. So if we have a chance to get equipment out of the fleet right now that's underutilized, we're going to do that. And we'll move to buy when we see demand pick up again..

Thanks. And then last, one more at modular, I'll make it high levels so other can focus in a little bit.

But what on from your customers, maybe California and rest of country are you hearing just as far as commentary on the direction of that they're going to be going more modular in the future or not than their ability to fund it actually do that? Thanks..

Sure. So that's a pretty broad question. And of course, we look at things from an education and a commercial perspective. If you look at our education business, generally across the regions that we have operations in, state funding is better, tax revenues are better, because the economic situation has improved over the last several years.

And so that is funding our education growth, and in addition there are - there is support typically either at a statewide level or from the local level in each of those markets for local bonds or state level bonds that voters have put in place. So from an education perspective, we believe, we have a positive trajectory here for the next few years.

On the commercial side, it varies, however, most of our markets are strong. In California it's been strong, Texas a little bit weaker on the education side, actually in Texas, fairly strong on the commercial side. And in our other markets fairly strong on the commercial site too as construction activity has been robust.

If you look at the amount of folks who are employed in the construction industry year-over-year there's another 200,000 people that are - that have been hired by construction companies across the country, and portion of those folks need to be in a modular building, and we are happy to oblige them.

So we're very encouraged on both of those market segments, and see strength for the remainder of the year..

Okay, great. Thanks very much, guys..

Yes..

Your next question is from Marc Riddick with Sidoti. Your line is open..

Hi, good evening..

Hi, Marc..

Hi, Marc..

So a lot has been covered already. So I did want to touch a little bit on the Mobile Modular, wasn't sure, if I missed it, forgive me, or if I just didn't find it.

So wondering if you had mentioned on portable storage, it seems as though it's performed low, was a bit of color, I don't know, if you have mentioned percentage of revenue for the quarter?.

Yes. And it's actually also disclosed in our 10-Q. We didn't refer to it in the prepared remarks, but our portable storage total revenues were 8% of total company revenues for the quarter and year-to-date..

Okay, excellent. And then, I wanted to touch on, I guess, that you mentioned as far as some of the ROIC actions that were taken. I was wondering, if you could dig into a little bit, it seems as though at least from the sales standpoint that was a little more than I was expecting, which is actually kind of good, I suppose.

But I want to get a sense of whether or not tying that end to the sales during the quarter, and maybe a little bit more as far as some of the developments on the ROIC goals? Thank you..

Yes, as we mentioned in their remarks, ROIC work and this just general effort to with performance, it's touching all aspects of the business over time. We've focused initially mostly on modular. We've been working more recently with the Adler team.

But your comment about sales, we definitely have identified certain parts of the fleet, we're more inclined to sell those assets either because the economics aren't as attractive on the rental transactions, or we feel we have more equipment that will need given our most updated view of the longer term demand outlook.

So we've been doing that it's not always easy to sell equipment at any point in time into the used equipment market for modular and in particular for Adler. But we're looking for those opportunities proactively. And I think in both those divisions actually had some good success in the second quarter.

So both those teams did a nice job on finding opportunities to move out equipment and got it done..

Okay, excellent. And then one last thing, I was wondering if you could touch a bit on sort of where you are on headcount? And what plans maybe there for the remainder of the year? Thank you..

Yes, just in terms of headcount, we have added staff in a number of areas, I'd say, portable storage is one important area, where we've added to our team, again there's a lot of growth in that business. And we've also built out our regional presence in some of those newer regions are becoming more fully staffed.

So that's all just part of our plans for the year. I think additions to headcount will be modest and in line with the parts of the business that are growing through the balance of the year..

Okay, great. Thank you very much..

Ladies and gentlemen, that appears to be the last question. Let me now turn the call back over to Mr. Hanna, for any closing remarks..

All right. Thank you, operator. I'd like to thank everyone for joining us on the call today and for your continuing interest in our company. We look forward to speaking with you again in late October to review our third quarter results..

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect..