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Presentation

Operator: Greetings, and welcome to the Montrose Environmental Group, Inc. Fourth Quarter 2022 Earnings Call. . As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Rodny Nacier, Investor Relations. Thank you, Mr. Nacier, you may begin.

Rodny Nacier: Thank you. Welcome to our fourth quarter and full year 2022 earnings call. Joining me on the call are Vijay Manthripragada, our President and Chief Executive Officer; and Allan Dicks, Chief Financial Officer. During our discussion today, we will be referring to our earnings presentation, which is available on the Investors section of our website. Our earnings release is also available on the website. Moving to Slide 2. I would like to remind everyone that today’s call will include forward-looking statements that are subject to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Actual results may differ in a material way due to known and unknown risks and uncertainties that should be considered in evaluating our operating performance and financial outlook.

We refer you to our recent SEC filings, including our latest annual report on Form 10-K which identify the principal risks and uncertainties that could affect any forward-looking statements as well as future performance. We assume no obligation to update any forward-looking statements. In addition, we will be discussing or providing certain non-GAAP financial measures today, including consolidated adjusted EBITDA, adjusted net income and adjusted net income per share. We provide these non-GAAP results for informational purposes, and they should not be considered in isolation from the most directly comparable GAAP measures. Please see the appendix to the earnings presentation or our earnings release for a discussion of why we believe these non-GAAP measures are useful to investors, certain limitations of using these measures and a reconciliation thereof to their most directly comparable GAAP measure.

With that, I would now like to turn the call over to Vijay, beginning on Slide 4.

Vijay Manthripragada: Thank you, Rodny, and welcome to all of you joining us today. I will provide you with business highlights and then hand it over to Allan for our financial review before we open it up to question-and-answer session. I will speak generally to the updated earnings presentation shared on our website. But before I begin, I would like to take a moment to acknowledge the plane crash in Little Rock, Arkansas, which took the lives of 5 of our colleagues last week. They were on their way to helping our clients, and this is one of those unthinkable events for which there are no words. Our prayers and thoughts go out to the families that lost their loved ones and to our CTEH colleagues, who are mourning deep, deep loss.

I am proud of how the collective team has come together. I am also amazed at the poise and grace with which our CTEH team is handling the sudden and unexpected shock. To all of our CTEH leaders and colleagues, thank you for your unwavering fortitude and to our clients and partners who jumped in to help and are joining us to remember those we lost. Thank you. I also remain grateful for the efforts of our colleagues around the world from Australia to North America to Europe. Their results and efforts have resulted in another incredible year for Montrose, and I am really pleased with the execution across all levels of our business. As we have noted before, our business is best assessed on an annual basis, given demand for environmental services is not driven by specific or predictable quarterly patterns.

This is how we manage our business and how we recommend you view our results as well. Let me now go to our financial results. We were pleased to report another exceptional year in 2022, and I’ll highlight a few key themes. First, we achieved record organic revenue growth of 26% in our core business, representing approximately 2/3 of the growth in the blue bars on Page 5 of the presentation. As a result, our average organic growth over the past 3 years has been approximately 18% compared to the 7% to 9% at the time of our IPO in mid-2020. Historically, acquisitions represented more than half of our annual revenue growth, but recently, organic revenue growth has been a greater contributor to our overall growth trajectory. Second, our organic revenue growth outperformance in core services helped to mitigate the impact of the anticipated $125 million decline in CTEH COVID-19-related revenues from 2021 to 2022.

Given the incredible surge in CTEH revenue in 2021, we expect it to be down in 2022. But revenues held steady on the back of strong organic growth outperformance in the rest of our businesses. Three, what is particularly encouraging for us is that our organic growth outperformance was broad-based and across segments. It is primarily driven by demand for our PFAS water treatment technology, greenhouse gas measurement and mitigation and renewable energy services. Fourth, we were also thrilled to see customer revenue retention and cross-selling revenues increased to record levels. Customer revenue retention increased to 96% in 2022. As a reminder, the 4% isn’t necessarily lost revenue, but more a function of project frequency. Our customer relationships remain as strong as ever.

In addition, cross-selling revenues, which are defined as revenues from clients using more than one Montrose service, nearly doubled to 35% of total revenues. In essence, our organic growth outperformance is less about customer acquisition and more about deepening existing customer relationships. Growth in these metrics reflects the success of our business development efforts and as importantly, our integrated service offerings. Finally, and fifth, we are also happy with the strength of our balance sheet and continued strong cash generation. Our acquisitions were and continue to be funded through our operating cash flows. Our balance sheet remains effectively hedged against rising interest rates, and it provides us with ample flexibility to continue consolidating our industry and investing in environmental innovation.

As it relates to acquisitions, which remain a core part of our strategy, we believe our slower pace during 2022 and was prudent as we focused on executing against our accelerating organic growth opportunities. So far in 2023, we have increased our cadence of M&A activity, and though small, we believe they are very additive to Montrose and we are very pleased to have added the teams from Frontier Labs, Huco Consulting an environmental alliance to our family. We expect more announcements in the near future. And as you can see to the quick start this year, we expect 2023 to be back to our historical cadence of strategic acquisitions. As Allan shares more about our 2023 outlook, I think it is important to highlight where we came from, which is what Slides 5 and 6 are meant to be.

Revenues in total operating segment adjusted EBITDA from our core business have seen very strong and sequential growth each year since our IPO in 2020. During that same time, we invested in our corporate infrastructure to transition to public company life and to transition out of our emerging growth status more quickly than anticipated. Regarding 2022 expectations, our revenues came in consistent with expectations, primarily due to organic growth outperformance as discussed earlier. But our operating segment EBITDA was a little lower than expectations for 3 primary reasons. First, as our water treatment and biogas services scale, their margin profile, though very attractive at run rate levels is immature at this time as we invest to capture organic growth opportunities.

So though I am oversimplifying, the revenue that replaced the CTEH COVID-19 revenues from 2021 was lower margin in the short term. However, it grew faster than we expected, and importantly, it represents more consistency and higher margin opportunity in the long term. Second, our recent acquisitions in our consulting and engineering service lines have been lower, mid-teens margins but very strategically additive. In addition, we purchased a few small testing businesses that were also lower margins. We expect margins for these businesses will increase as part of Montrose over the coming years. These acquisitions have also been very financially accretive. And finally, when we last spoke in November, CTEH had a near record October of 2022, so we expected fourth quarter 2022 outperformance.

However, the fourth quarter ended lower than we expected. The CTEH business is challenging to predict over months or quarters, as we have noted before. CTEH remains core to the Montrose strategy and had a spectacular overall year, as you can see on Slides 5 and 6. So this is more of a short-term phenomenon. Given all these factors, our 2023 outlook on Pages 5 and 6 reflects our bullishness particularly with our core services. We expect double-digit organic revenue growth in 2023 for our core business which will offset the continued wind down of the CTEH COVID-19 services. Those services remain meaningful, particularly in early 2022. We also expect strong double-digit operating segment adjusted EBITDA growth for our core services, which will offset a slight decline in CTEH.

Finally, we expect to be back to a regular M&A cadence and Allan will expand further on these trends. Overall, our long-term strategy remains unchanged. We are confident in our ability to create shareholder value as we have been doing, given our ability to innovate and capitalize on strong demand for our environmental solutions. Next, I will discuss broader regulatory and industry trends. We continue to see market drivers as government policy initiatives are catching up with public and private sector demand for better environmental stewardship. We remain well positioned to capitalize on these tailwinds. Specifically and first, on PFAS, the U.S. EPA continues to be focused on the issue of PFAS and added several more PFAS chemicals to the toxic release inventory in January.

The EPA also proposed rules regarding lower thresholds for chemicals of special concern, both likely increase future demand for our consulting and testing services in particular. In addition, the U.S. EPA plans to publish final drinking water limits for PFAS by the fall of 2023. Their recent memo also includes recommendations for at least quarterly testing of wastewater and technology-based treatment, both of which are expected to continue driving demand for Montrose’s testing and treatment capabilities. With regards to methane emissions, late last year, the EPA released a supplemental proposal for the oil and natural gas sector to reduce methane emissions from facilities among other emission reduction requirements. The proposal expands the scope of requirements and require states to reduce methane emissions from hundreds of thousands of existing sources nationwide for the first time.

In addition, the U.S. Bureau of Land Management published a proposal that requires operators of federal and tribal oil and gas leases take steps to avoid the waste of methane. If adopted, we expect to see increased demand for our emissions measurement, monitoring and assessment services. Third and finally, regarding demand for our environmental consulting services, in January, the U.S. EPA announced availability of $100 million, which builds on previous investments from the America Rescue Plan to support projects that address various aspects of pollution, emissions and climate matters in disadvantaged communities. In addition to the demand we have started to see from the American Rescue Plan, we have also seen increased demand from industrial clients, partnering with communities as a result of these new efforts to monitor air quality in particular.

This creates tailwinds for our consulting and testing services. Also in January, the U.S. EPA released a document on how to ensure cumulative environmental impacts are considered with permitting, remediation, waste management, environmental emergency response and other decisions. If implemented, we expect this proposal will help increase demand across our services. So in essence, with regulations, while many of these actions are in the early rule-making phase, the macro demand drivers for environmental services remain on the rise. And though we are highlighting U.S. regulations as that is most of our business, the same general trends are true in Australia, Canada and Europe, which we expect will collectively represent a greater percentage of our revenue in the coming years, given stellar growth opportunities.

Next, I would like to discuss our performance by segment. Within our assessment Permitting and Response segment, excluding CTEH, we were pleased to see solid organic revenue growth in other services in the segment. In addition, we were able to add small but strategically and financially accretive acquisitions to the segment. These trends are harder to see given the expected $125 million decline in CTEH COVID-19 revenues, which overshadowed the segment. We see a lot of future opportunity in building other services within this segment. Also going forward, we expect to reduce CTEH variability through investments in the organic growth of their nonresponse services as well as acquisitions. The team is very strong, so we remain long-term bullish on opportunities related to CTEH.

Margins in the segment were primarily impacted by the shift in business mix and the lower margins of our recent acquisitions. Within the measurement and analysis segment, demand for our testing services remained very strong and drove solid organic growth. Given the regulatory momentum I just discussed, we remain upbeat about continued growth in this segment given our position as a market leader. Our margins remain in the high teens to 20% as expected. Finally, within our remediation and reuse segment, our organic growth outperformance for the full year was primarily driven by demand for our PFAS water treatment and renewable energy services. As we’ve reiterated on prior calls, margins remain below what we consider normalized levels given our ongoing investments into this business.

We were pleased to see sequential margin improvement in this segment during the fourth quarter, also as expected. In terms of our research and development and technology achievements, we were awarded and have filed for 8 and 14 patents, respectively. We are particularly excited about our progress with PFAS destruction and carbon dioxide capture. Given the early nature of these innovations, they may not succeed in the field, but they show promise and they speak to our team’s ability to identify and capture long-term environmental opportunities for our clients. In addition, we are actively working on partnering with next-generation technologies for waste-to-energy and real-time air monitoring services, which we believe will contribute to our continued long-term value creation and growth.

In summary, these results belong to approximately 3,000 Montrose colleagues around the world to those of you that are listening, congratulations on another solid year. To our investors, thank you for your continued support and for giving us the opportunity to create value for you, for our clients and for our employees. As we look forward to 2023, we believe we are well positioned to achieve our objectives given our strong track record. We remain as optimistic as ever in the future for Montrose Environmental. With that, let me hand it over to Allan. Thank you.

Allan Dicks: Thank you, Vijay. We are pleased to have closed out another year with strong organic growth in our core business, benefiting from the in-demand nature of our unique environmental solutions, our expanding customer relationships, solid customer retention and exceptional cross-selling success. We are also pleased with the resumption of our typical M&A cadence with the recent closing of our sixth acquisition since the beginning of 2022 and second, so far in 2020. Successful execution of accretive M&A remains one of our key growth pillars, and we are encouraged by the robust pipeline of prospective acquisitions in 2023. Moving to our revenue performance on Slide 12. We were happy to see continued strong organic growth across most of our service lines during the fourth quarter and full year 2022.

Full year revenues were $544.4 million compared to $546.4 million in the prior year. However, excluding the revenue impact of the planned exit from legacy wastewater treatment and biogas O&M contracts, revenue was up 1.2%. This top line resilience was exceptional when considering the year-over-year decline in CTEH COVID-19-related revenues of $125 million. This COVID-19 headwind was almost entirely offset by our 26% organic growth in the remainder of the business as well as the positive contributions from acquisitions. For the fourth quarter, total revenues were $139.5 million, compared to $143.8 million in the prior year quarter. This decrease in revenues was driven by significantly lower CTEH revenue, partially offset by organic growth in our measurement and analysis segment, and the remainder of our Assessment, Permitting and Response segment as well as the positive contributions from acquisitions.

Looking at our consolidated adjusted EBITDA performance on Slide 13. Full year consolidated adjusted EBITDA was $66.2 million or 12.2% of revenue compared to consolidated adjusted EBITDA of $73.2 million or 13.4% of revenue in the prior year. The year-over-year change in consolidated adjusted EBITDA dollars and as a percentage of revenue was driven by the significant decline in CTEH earnings and to a lesser extent, business mix and higher variable costs impacting travel, field and land supplies and other direct costs. That said, we were pleased to see strong traction with our pricing initiatives instituted during Europe. Fourth quarter consolidated adjusted EBITDA grew 3% year-over-year. to $17.8 million or 12.7% of revenue compared to consolidated adjusted EBITDA of $17.3 million or 12% of revenue in the prior year.

Return to year-over-year growth in this metric was driven primarily by a full quarter benefit of pricing taken earlier in the year and favorable business mix. Turning to our business segments on Slide 14. In our Assessment, Permitting and Response segment, full year revenue and operating segment adjusted EBITDA decreased to $187.2 million and $37.5 million, respectively. The CTEH business is entirely in the segment and is reflected in the year-over-year decreases in both revenue and adjusted EBITDA. Organic growth in the remainder of the segment plus acquisitions provided a partial offset. Operating segments adjusted EBITDA as a percentage of revenue was 20%, which was lower than the prior year as a result of business mix and the acquisitions of environmental standards, environmental intelligence and Horizon all of which operate at lower margins than our other businesses in this segment.

In our Measurement & Analysis segment, revenue increased 12.5% to $172.4 million, primarily attributable to strong organic growth as well as acquisitions. Measurement and analysis adjusted EBITDA as a percent of revenue decreased to 18.3% as a result of business mix and the impact of the cyber attack in June, which temporarily disrupted some of our labs ability to operate. In our Remediation and Reuse segment, revenues increased year-over-year to $184.8 million, reflecting strong organic growth related to the increase in demand for our PFAS water treatment technology and biogas services, as well as revenues from acquisitions. The increase in segment adjusted EBITDA as a percentage of revenue was a result of significantly higher revenues and business mix.

Moving to our capital structure on Slide 15. Full year cash flow from operating activities was $20.6 million compared to cash flow from operating activities of $37.6 million in the prior year. Cash from operations includes the payment of acquisition-related contingent consideration of $19.5 million in the current year and $15.6 million in the prior year, respectively. Excluding these acquisition-related payments, adjusted cash from operating activities was $40.1 million for the full year 2022 compared to $53.2 million for full year 2021. This year-over-year change was primarily due to lower earnings before noncash items of $9 million and an increase in working capital of $16.5 million in the current year compared to an increase in working capital of $10.1 million in the prior year.

These strong operational cash flows reflect our ongoing focus on balancing the generation of cash with investments in technology, R&D, start-up initiatives and corporate infrastructure to ensure continued scalability. Our liquidity position also remains strong with cash on hand as of December 31, 2022, of $89.8 million and an additional $125 million of availability on our revolving credit facility. As we’ve highlighted over the past few quarters, the interest rate swap we put in place in January 2022, and the solid cash position we have on the balance sheet have resulted in almost no exposure to rising interest rates at current borrowing levels. Our leverage ratio as of December 31, 2022, which includes the impact of acquisition-related contingent earn-out obligations payable in cash was at 1.3x.

Series A-2 preferred stock has no maturity date, and we have the option but not an obligation to redeem the preferred shares at any time for cash, subject to a make-whole payment if prepaid prior to April 2023. We view this preferred equity instrument as favorable to the value creation potential in the business, given its flexible dynamics and the fixed nature of the dividend in a rising interest rate environment. If you include the $182 million balance of the Series A-2 equity in our market cap, our total equity capitalization stands at approximately $1.7 billion. Moving to our full year outlook on Slide 17. Based on the solid traction in our core business through 2022 and into 2023, we are initiating a full year growth outlook for revenue to be in the range of $550 million to $600 million.

And for consolidated adjusted EBITDA to be in the range of $68 million to $74 million. Our revenue forecast reflects our expectation for continued double-digit organic growth in 2023. We expect CTEH to be within its estimated $75 million to $95 million run rate, which is approximately $20 million to $40 million lower year-on-year, primarily due to the expected cessation of COVID-19-related services in 2023. Within our consolidated adjusted EBITDA outlook, we expect to see margin expansion and mid-teens EBITDA growth in our core business operating segment’s adjusted EBITDA. At the midpoint, the $12 million year-over-year increase to $85 million is expected to more than offset a $4 million to $6 million reduction in adjusted EBITDA from CTEH as detailed on Slide 6 of the presentation.

We expect corporate costs to remain at roughly 6% of revenue, which percentage is expected to drop with the completion of acquisitions during the year. Putting the pieces together, results in higher expected consolidated adjusted EBITDA for the year. Additionally, I’d like to highlight that our revenue and consolidated adjusted EBITDA outlook does not include any benefit from future acquisitions that have not been completed. It’s worth reflecting further upon the details of the moving pieces we shared earlier on Slides 5 and 6 of the presentation. We acknowledge that the significant outperformance of CTEH as a result of COVID-19 services. This dynamic began in Q4 of 2020, surged in 2021 and then saw a significant decline in 2022. Although still at elevated levels in 2022 and anticipated to cease in 2023, it has created significant noise around business performance, growth and margins.

Accordingly, we believe it is important to provide transparency around the performance of our core business, excluding CTEH. Since 2020, our core business revenue has grown organically at a compounded annual growth rate of 18% with an additional double-digit percent organic growth expected in 2023, well above our pre-IPO levels. Inclusive of acquisitions, but excluding discontinued services, our core revenue is expected to be at a 29% compounded annual growth rate from 2020 through 2023. Again, above our expectations at the time of our IPO for annual growth of 20% to 25%. Core business operating segment’s adjusted EBITDA has grown at a 15% CAGR. Since 2020, with an additional mid-teen percentage growth expected in 2023. Although core business operating segment’s adjusted EBITDA margins declined from 2020 to 2022, as a result of investments in operating infrastructure, particularly in our water treatment and biogas businesses, business mix, driven by lower margin acquisitions and higher investments in start-up activities, margins are expected to increase in 2023.

In conclusion, our 2022 results demonstrate the resiliency and non-cyclicality of our core business along with the ongoing need for our unique environmental solutions. Our focused execution to capitalize on end market and regulatory tailwinds drove another year of double-digit organic revenue growth across most of our business. We were pleased to execute accretive M&A transactions, invest in talented team members and expand our innovative IP portfolio. Looking to 2023, we remain optimistic in our ability to create substantial value for all of our stakeholders as we capitalize on demand for our leading environmental solutions globally. Thank you all for joining us today and for your continued interest in Montrose. We look forward to the opportunities we see ahead and updating you on our progress next quarter.

Operator, we are ready to open the line to questions.

Operator: . Our first question comes from Jim Ricchiuti with Needham and Company.

Christopher Grenga: This is actually Chris Grenga on for Jim. Sorry for your loss and congrats on the quarter. Just perhaps, could you provide a bit more color on what you’re seeing in terms of the greenhouse gas monitoring and renewables looking forward into 2023 in terms of how those 2 are going to contribute to growth? And I have one follow-up.

Vijay Manthripragada: Yes. Chris, why don’t I take that? And then Allan, please jump in. The majority of our work on the greenhouse gas measurement is around our Measurement Analysis segment and our Assessment Permitting and Response segment, our advisory work, Chris. We are seeing a material uptick in demand for both of those services with clients asking us to help them think about how to frame the measurements for broader reporting purposes and ESG reporting, but also for compliance purposes. So as we think about our outlook for the measurement and analysis segment, some of our attractive margin growth opportunities and our disproportionate high-margin growth opportunities will be coming from that sector. And we certainly expect that to sustain over the next several years, you’ll see us accelerate organically at double digits as we have over the last couple of years.

And there are also acquisition opportunities in that space that we’ll continue to expand upon once those occur. Does that answer your question, Chris?

Christopher Grenga: Yes. And with cross-selling now at 35% of revenues, where — I guess, where do you see that going longer term? And is that — what’s the potential to continue to increase that?

Vijay Manthripragada: That’s where most of our attention is on the business development side, Chris. We have historically talked about focusing on deepening our relationships with customers. And that can come in several forms. It can be additional services to a client at a client site. It can be the same service across multiple client sites. And one of the challenges with the metric we’re presenting is the cleanest one to allow for consistent measurement over time is that it’s more than one service. And so if we add a second or a third service, Chris, it doesn’t count in that metric. So we think over time, our organic growth opportunities sustained by continuing to capture more wallet share across our existing customers. It’s less about customer acquisition for us and more about deepening relationships.

That measurement, as Allan has mentioned before, should easily go north of 50%. And there’s no reason over the long-term horizon, why all of our customers shouldn’t be using more than one Montrose service.

Operator: Our next question comes from Tim Mulrooney with William Blair.

Timothy Mulrooney: So the EBITDA margin guide, it kind of implies flattish margin expansion year-over-year. And we were expecting some margin expansion in ’23 as you get leverage on some of those fixed corporate costs you layered in last year and maybe as the remediation business scales up, so can you talk about some of those things that are holding margin expansion back in 2023 to that flattish type range? And maybe you could elaborate a little bit on if your long-term margin target of 20% or your time frame around that target has changed at all? That’s my only question.

Vijay Manthripragada: Allan, do you want me to start with that and then you can jump in.

Allan Dicks: Yes. Yes, please.

Vijay Manthripragada: Tim, thanks for the question. It’s a great question, Tim, and let me perhaps start with — let me take your question in pieces and let me know if this addresses this. So forgive me, it’s going to be a little bit of a lengthy answer. Our long-term outlook around 20% has not changed, and it’s driven, as we’ve talked about by 2 factors. One is operating EBITDA and the second is corporate expenses as a percentage of revenue. And so to get to 20%, Tim, operating EBITDA margins would need to be in the 22% to 25% range, and corporate would need to come down to 3% to 4% of revenue. Corporate will absolutely get there, and you’ll see that tick down this year. And so bear with us as we through that out, that’s very tightly managed, and we have visibility to that.

On our operating EBITDA margin run rate, that will also get to our range. If we think about our Measurement & Analysis segment being at 18% to 20%, we’ve demonstrated over the years, that is — and will continue. Our water and biogas business at maturity, getting to the mid-20s. CTEH, you can see their margin has increased getting to the — getting back to the mid-20s post-COVID and then the advisory and remediation practices being in the teens to 20%. So from a macro perspective, our outlook hasn’t changed. And if you think about Slide 5 and 6, Tim, the blue bars, you can see that we are expecting some operating leverage in 2023. But you’re exactly right. the pace of that has been challenging for us to predict. And the reason for that Tim is twofold.

It’s hard for us to predict the acquisition profiles. And I’ll explain what I mean by that in a second. And we’ve also been surprised by the success of our R&D efforts, and I’ll expand on that as well. So on acquisitions, Tim, I’ll give you 3 examples of assets that throw us off in the short term, but are very accretive in the long term. So we purchased a company called Air Kinetics towards the back half of last year. It’s an air testing business. it’s very strategically additive, excellent customers and it plugs right into our infrastructure. But at the time of purchase, it was effectively zero EBITDA. We obviously don’t need their corporate infrastructure and the variable contribution on those customers is 70-plus percent. So very financially accretive, it’s going to take us a couple of quarters to kind of harvest that, but that throws us off in the short term.

As another example, environmental Intelligence, this is the business in the Western United States that is a Rockstar asset. They help utilities manage fire risk as an example. That business runs in the mid-teens. It’s a large part of our organic growth surge in that segment, excluding CTEH, very strategic to the broader Montrose portfolio. But because it runs at mid-teens, it throws off the short-term margin profile. And there’s additional assets in the pipeline, Tim, that we’re seeing come to market, very strong brands, excellent client bases, very synergistic to Montrose. But these businesses have historically struggled with cost management. So labor price increases and pricing in an inflationary environment. They just haven’t done it well.

If we bring them into the Montrose fold, not only do we continue to capture share and harvest the synergies on the top line side, but we think we can lift their margins really nicely as well. But that, again, will take us several quarters to harvest. And so as we think about all of that, that’s part of the reason why we’re having a hard time articulating exactly what the cadence of that margin accretion will be. And then on the R&D side, Tim, as our patents come to fruition and as clients ask us to capture some of these themes like PFAS destruction and carbon capture. As we invest in that, that obviously also temporarily depresses margins. But like with ECT2 and the water treatment technologies over several years, we think that’s going to be very, very additive.

Does that answer your question, Tim?

Timothy Mulrooney: Yes, Vijay.

Allan Dicks: You want me to add to that, Vijay?

Vijay Manthripragada: Yes, please.

Allan Dicks: Yes, let me just add, Tim. We’re seeing a lot of growth opportunities more so than 2, 3 years ago. Many of those require some upfront investments like our European expansion, for example. And because we no longer add back start-up losses that obviously has a short-term impact on margins. We’re also growing at elevated levels above what we had anticipated. And in a tight labor market and an inflationary environment and a desire to maintain quality is really tough to grow double-digit organically and expand margins at the same time. When revenue slows, as it did in 2020, we demonstrated an ability to expand margins quickly. But we don’t think it’s prudent in the short term, the focus on margin expansion given the wave of organic opportunities that we’re seeing.

Timothy Mulrooney: Okay. So if that — Allan, just following that point then, if you plan to continue to grow double-digit organically, is it unlikely that we will see margin expansion in the coming years and that 20% EBITDA margin target is indeed farther away than what we were thinking?

Allan Dicks: It depends on a number of factors, right? Again, if you look at our guidance for ’23, and I’d point you again to Page 6. If you look at our core business, so pulling out CTEH and focusing on operating segment margins. There is about a 100 basis point improvement in ’23 versus ’22. So you’re seeing some margin expansion, but we’re also falling at the midpoint for double-digit organic growth, which is above what we had expected certainly at IPO time. So getting to the high teens 20% margin is still absolutely achievable. As Vijay said, the mix of acquisitions can throw that off temporarily and outside organic growth can sort that off temporarily, but the end goal doesn’t change. It’s absolutely achievable. When we look at the mix of business we have — and the margin profile of the businesses we have and the underlying market sizes, so we have a sense of where our portfolio should settle out, that 20% is absolutely achievable.

Corporate costs, as Vijay mentioned, will come down with acquisitions. You’ll see that come down in ’23. So it’s a little slow out of the gate than we had anticipated. But again, the growth is also faster than we had anticipated. In goal which is still, we believe achievable. Is it 3 years? Is it 5 years? Is it 7 years? It’s just really hard to say because we’re going to continue to be very opportunistic in driving revenue growth and prioritizing revenue — quality revenue growth over that contract.

Vijay Manthripragada: Tim, and just stepping back, because I think you’re alluding to our articulation of kind of our expectations at IPO over that 5-year horizon, right? So when we went public in 2020, we were around $230 million of revenue. So — and what we said is that you should expect us to grow at 20% to 25% a year, 7% to 9% organic, right? Would that be a fair way to say where we started?

Timothy Mulrooney: Yes, that’s exactly.

Vijay Manthripragada: Yes. So if we — so if you kind of just do the math on that and just, forgive me I’m doing it on the fly, right? Let’s just take the top end of that 25% growth over 5 years, right? That’s about a triple starting at $230, you should be at around $700 million to $725 million of revenue. At 20% margins, it’s about $140 million of EBITDA. I think what we’re trying to say is we’re going to achieve both milestones and hit our earnings and EBITDA targets. There’s no question about that. What we’re also saying is that we’re actually outpacing our expectations on revenue. So the margin profile may be different year in and year out, but it should be very additive to our shareholders and sets us up beyond that 5-year horizon.

So it’s not like our absolute earnings potential or cash potential is any different. It’s just that we’re outpacing the top line expectations by virtue of some of the advantages we’ve built with our business model and with our technology. Does that make sense? And so we’re anchoring on margin, but it’s the absolute cash and absolute EBITDA that we’re not all that hesitant about saying we’re very confident in hitting.

Timothy Mulrooney: Yes, and I think that’s a good way of framing it for investors, anchoring on the dollars rather than maybe — I’m little too focused on the margins here, but regardless appreciate all the color you both shared here and I’ll get back in line.

Operator: . Our next question comes from Andrew Obin with Bank of America.

David Ridley-Lane: This is David Ridley-Lane for Andrew Obin. Looking at the 2023 revenue guidance, excluding CTEH, what are the factors that would drive you towards that lower end of 10% or the upper end of 17%. What’s driving some of the factors driving that?

Vijay Manthripragada: Yes. Let me start with that, and Allan certainly jump in. So David, there’s a couple of variables there. One is the phasing in and starting of our various water and biogas projects. As we’ve said before, we’re seeing a lot of interest in both of those end markets and demand has been really attractive. But exactly when the projects start and stop is a little tougher for us to predict. So that’s going to be one variable that dictates where we fall on that macro trajectory, either low double digits or high double digits. The other variable that’s going to be one that we’re going to need to watch is the cadence at which our greenhouse gas measurement practice really picks up. And that’s another one — and that’s partially a function of some of the regulatory flux that occurred at the very end of last year, where the technology — the imaging technology that we’ve been practitioners of for years was recently deemed the best emissions reduction technology by the EPA.

So how quickly clients adopt that will partially also dictate our ability to capture share in that part of the market. So those variables are the ones depending on the cadence that will dictate whether we’re on the low end or high end of that. But regardless, even the low end is elevated compared to our historical levels. Does that make sense?

David Ridley-Lane: Yes, that makes perfect sense. And then the last 2 quarters of CTEH have meaningful levels of COVID-related revenue. I’m just trying to understand the bridge you’ve been at about $100 million run rate in the second half of ’22 to the $75 million to $95 million guidance.

Vijay Manthripragada: Yes. CTEH is coming if you look at — Allan, do you want to take that?

Allan Dicks: Sure. Yes. The — still meaningful for them in terms of overall Montrose has shrunk significantly certainly by Q4, and we expect that to go away completely as we get into ’23. So sequential declines, about 1/3 of their revenue in Q4, but those contracts are largely winding up. So we don’t expect to see much more of it in the new year.

Vijay Manthripragada: And David, why don’t the — just to add on to that, the team has done an exceptional job pivoting away from that part of the business to the traditional environmental side. And they had — even with the $125 million drop, you can see their overall reduction was less than that, and that’s because the core business for CTEH, their core response and business has really started to pick up nicely and certainly has done so, so far in 2023. The team has just been on a very nice cadence already so far this year, independent of the COVID work.

David Ridley-Lane: Got it. So the $75 million to $95 million does include growth in sort of core CTEH and the target number is just — not the ending of COVID-related revenues. Is that the right way to think about it?

Vijay Manthripragada: I think the right way to think about it is their cadence is $75 million to $95 million. And it’s a matter of — they have a very talented teams and an ability to flex up and down, but it’s a matter of the mix of the work and where they’re deployed. So as COVID winds down, they reallocate those resources to their more traditional work.

Operator: Our next question from Stephanie Yee with JPMorgan.

Stephanie Yee: Can you remind us of the synergies between Montrose and CTEH its business outside of the COVID-related work?

Vijay Manthripragada: Yes. They are a really critical part of our overall story, Stephanie. So just at a macro level, as clients think about ways to deal with various environmental opportunities and challenges. One of those is dealing with various incidents that occur due to changes in our climate or aging infrastructure. So the macro demand for their services, which is something our clients need is independently very additive. In addition to that, because they are the advisers working with Incident command when something happens, there is substantive testing work, monitoring work, advisory work in toxicology and public health impact work and then downstream remediation work that occurs when something unfortunate happens, right, whether it’s a hurricane or a flood or a fire or a derailment.

And so as they’re helping these communities and helping incident command, the Montrose services that flow downstream of those — that initial event make it very synergistic. So when we talked about maybe 2 years ago, Stephanie, one of the early indications of how synergistic it was, we referenced the oil spill in California and how 5 different Montrose teams deployed alongside CTEH to support that client doing natural resource damage assessments, monitoring in addition to the response and that is certainly the case as well with some of the recent incidents that have occurred so far at the end of ’22 and early part of ’23.

Stephanie Yee: Okay, okay. That makes sense. I was just asking because I guess we’re hoping that we wouldn’t be talking about the COVID-related revenues tied to CTEH in 2023. I know that was a lot explained in 2022. But it looks like there’s still a little bit of that rolling off in 2023. So I just wanted to be reminded of why they’re coming together, the 2 companies was a good deal in the first place? So thank you for that.

Vijay Manthripragada: Yes. And again, the COVID services — forgive us, we’re having a really hard time. We had a hard time predicting exactly when those will start to stop. Going back to ’21, we thought it would slow down, and it didn’t continue into ’22, and it was certainly substantive in the early part of ’22. But it’s really behind us now, Stephanie. As we look at the 2023 guidance, that’s a nonfactor. With what we know so far.

Stephanie Yee: Okay, and just one other question. Can you talk about how maybe the economic environment, it seems — it’s the employing a little bit of uncertainty. How that factors into your intention of increasing the pace of acquisitions in 2023, if at all?

Vijay Manthripragada: It doesn’t, it doesn’t. In fact, what we were alluding to and following on Tim’s question, Stephanie, what we’re saying is that the macroeconomic challenges have impacted our acquisition targets more than they’ve impacted us. As Allan talked about in his comments, we’ve been fortunate with our pricing discipline to be able to take up prices so that the cost pressures — the inflation-related cost pressures have not really had an impact on us. And because of the diversification of our end markets, we’re broadly insulated from any major economic shifts to the upside or downside. So it’s a very steady business. But our — but some of the smaller companies that we’re buying have certainly been battered. We see that candidly as a really attractive opportunity, which throws off again, the short-term profile but we think it will be very attractive long term.

So we’re not all that worried about it. And our balance sheet is hedged against those increased rate environments and has been for a while. So for us, it’s really more a matter of making sure it’s strategically additive and us being opportunistic. Allan, is there anything else you would add?

Allan Dicks: No, I agree with all that, Vijay.

Operator: . There are no further questions at this time. I would like to turn the floor back over to Vijay Manthripragada for closing comments. Please go ahead.

Vijay Manthripragada: Thank you, and thank you all again for your time, for your interest and for your support of Montrose. We’re thrilled and excited about 2023, and I’m sure we’ll be talking soon. Take care.

Operator: This concludes today’s teleconference. You may disconnect your lines at this time. Thank you for your participation, and have a great day.