AZZ Inc (AZZ) 2016 Q1 法說會逐字稿

Good morning, and welcome to the AZZ Incorporated first quarter of FY16 financial results conference call.

(Operator Instructions)

Please note that this event is being recorded. I would now like to turn the conference over to Joe Dorame of Lytham Partners. Please go ahead, sir.

Thank you, Denise. Good morning, and thank you for joining us today to review the financial results of AZZ incorporated for the first quarter of FY16 ended May 31, 2015. As Denise indicated, my name is Joe Dorame. I am with Lytham Partners, and we are the Investor Relations consulting firm for AZZ incorporated.

With us on the call, representing the Company are Mr. Tom Ferguson, Chief Executive Officer and Mr. Paul Fehlman, Chief Financial Officer. At the conclusion of today's prepared remarks, we will open the call for question and answers. If anyone participating on today's call does not have a full text copy of the press release, you can retrieve it from the Company's website at Azz.com or numerous financial websites.

Before we begin with prepared remarks, I would like to remind everyone certain statements made by the management team of AZZ during this conference call constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Except for the statements of historical fact, this conference call may contain forward-looking statements that involve risks and uncertainties, some of which are detailed from time to time in documents filed by AZZ with the United States Securities and Exchange Commission, including the Annual Report on Form 10-K for the fiscal year ended February 28, 2015.

Those risks and uncertainties include, but are not limited to, changes in customer demand and response to products and services offered by the Company, including demand by the electrical power generation markets, electrical transmission and distribution markets, the industrial markets and the hot dip galvanizing markets, prices in raw material costs including zinc and natural gas which are used in the hot dip galvanizing process, changes in the economic conditions of the various markets the Company serves, foreign and domestic, customer requested delays of shipments, acquisition opportunities, currency exchange rates, adequate financing, and availability of experienced management employees to implement the Company's growth strategies.

The Company can give no assurance that such forward-looking statements will prove to be correct. These statements are based on information as of the date hereof, and AZZ assumes no obligation to update any forward-looking statements whether as a result of new information, future events or otherwise. With that said, let me turn the call over to Mr. Tom Ferguson, Chief Executive Officer of AZZ. Tom?

Thank you, Joe. Good morning to all of you on today's call, and we thank you for your continued interest in AZZ. Overall, I am pleased with our solid financial results for the first quarter of FY16. Our galvanizing and legacy electrical businesses continue to perform well, and we have made significant progress at our WSI Welding Solutions business. We continue to gain traction on several important strategic initiatives, including joint ventures, the opening of our new greenfield galvanizing plant in Reno, Nevada, and completing the acquisition of six galvanizing sites from Trinity Industries shortly after the end of Q1.

FY16 continues to be a year of great potential for us, to drive market share growth in our galvanizing and energy businesses in the face of some market headwinds from lower oil prices. WSI is benefiting from our strategic reconfiguration of the business resulting in improved operational performance, and a more normal nuclear outage cycle. While refinery utilization rates remain high, we have benefited from market share gains as our business development efforts gain traction.

This has resulted in winning our new customers, and also renewing business relationships with some customers from the past. We also won several significant international jobs during the quarter. With the improved efficiencies and operating margins, we are optimistic for the balance of this fiscal year.

Our galvanizing services business has accelerated several new products and service growth initiatives, and continues to drive organic and inorganic growth through acquisitions, and also new metal finishing services. Operational excellence and pricing for our industry-leading value-added solutions are also areas of continued focus. We have a fairly high concentration of galvanizing capacity in the US Gulf Coast area, so we are monitoring the economic impact of lower oil prices on fabrication projects. As we stated last quarter, the impact so far has been small, but we are seeing a few of the larger fabrication projects delayed.

Yesterday, we announced our plan to build a new state-of-the-art galvanizing facility in Reno, Nevada. It has been approximately 24 years since our last greenfield construction in Arizona. We view Reno as a very important region to add to our geographical coverage.

Our goal is to have the plant fully operational by January 2016. This will give us a network of 43 galvanizing plants within North America. We are very excited to offer our leading edge corrosion protection services to this new white space market.

For our legacy electrical business, the results overall for the quarter have met our expectations, with some businesses doing well, and others being a little more challenged. This platform's overall performance is reasonably good, given their mixed market conditions. The electric utility market in the US remains sluggish, but we have benefited from strong international opportunities and a solid backlog. We are optimistic about this segment's opportunities the balance of 2016.

They are focused on establishing an international joint ventures to provide market access, and on improving their operational efficiencies and customer service. The legacy electrical platform, as with galvanizing has a stable leadership team, solid operating performance, and some good niche technologies. The exposure to lower oil prices is relatively small for this platform, and primarily impacts our API tubular and hazardous duty lighting businesses. In the aggregate, these represent approximately 5% of AZZ's overall revenue.

We will continue to focus on key operational fundamentals, including our tax and capital efficiency. Additionally, we believe that we are already benefiting from having our new incentive programs that tie performance with pay. These programs are designed predominantly around performance and operating income, cash flow, return on assets, productivity and safety. To help drive positive results, every employee is now a participant in our incentive programs.

I am pleased with our progress, and believe we have the leadership team, products and services and balance sheet to generate above market results for a long time. We have taken steps necessary to reconfigure our businesses over the past 12 months that have positioned us for stronger financial performance for the balance of FY16. As a result, we are raising our previously announced guidance for FY16 EPS to $2.85 to $3.30 per diluted share and revenues in the range of $900 million to $940 million, as compared to our previously issued guidance of EPS of $2.75 to $3.25 per diluted share, and revenues in the range of $875 million to $925 million. Now, I'd like to turn it over to Paul Fehlman to cover the financial highlights.

Thanks, Tom. For the first quarter of FY16, we are reporting revenues of $228.9 million, and an EPS of $0.77, as compared to revenues of $216.1 million and EPS of $0.58 for the same quarter last year, reflecting a year-over-year EPS increase of 32.8%. Bookings were $215.2 million this quarter, compared to $200.2 million in the first quarter of FY15. Our backlog at the end of the first quarter finished at $318.9 million, reflecting a book-to-bill ratio of 0.94, up from the 0.93 book-to-bill ratio for the first quarter of last year. As we have noted before, we expect our sales to continue to be seasonally skewed to our first and third quarters, and this quarter was certainly no exception.

Overall, revenues were up 5.9% compared to the first quarter of last year, as they grew 5% for the energy segment, primarily on growth in several of our energy business units, and up 7.3% in galvanizing services compared to the same period last year, driven primarily by the acquisition of Zalk in June 2014, and growth in many of our served market sectors. Gross margins for the quarter finished at 25.9%, an increase of 30 basis points compared to the 25.6% posted in the first quarter last year. Of particular interest, is the fact that the prior year gross profit reflects a $2.4 million benefit from business interruption insurance in our galvanizing segment, compared to approximately $300,000 of BI insurance through the first quarter of FY16.

SG&A fell to 11.5% of sales, compared to 12.7% in the first quarter of FY15 from continued focus on costs, especially in corporate. As a result, we achieved an operating margin of 14.4% for the first quarter of FY16, up 150 basis points compared to the 12.9% reported in the first quarter of FY15. Our tax rate improved, as we recorded an effective rate of 31.7% for the first quarter of FY16, compared to 37% for the same quarter last year.

I'm pleased that the business continues to execute on several corporate initiatives, including cost control, gross margin expansion, managing the effective tax rate, and cash flow generation. Our cash flow performance over the past several quarters has allowed us to take meaningful steps to drive both organic and inorganic growth through acquisition and greenfield expansion. I would caution, however, this is still a seasonal business that is typically not as strong in the second quarter. With that, I'll turn it back to Tom for concluding remarks. Tom?

Thanks, Paul. I believe AZZ is well-positioned to continue to expand our market share in galvanizing and energy, and confident in our ability to grow our businesses profitably. We have a solid balance sheet and strong cash flows, a great portfolio of products and services and significant international growth opportunities, as well as a talented and seasoned leadership team. We will continue to focus on growing our galvanizing business, both organically and through targeted acquisitions.

We will continue to expand the presence of our electrical businesses internationally, both directly and through joint ventures. We are accelerating our emphasis on operational excellence and customer service at both WSI and NLI. While we have made significant progress over the past few quarters, we have tremendous upside going forward, to grow our businesses as the leadership team continues to gain traction on our key initiatives, and our customers experience the improvement in our service performance.

I would also like to remind you that we have seasonality in our business, and because of the way our fiscal year calendar runs, the second quarter is usually not a strong one for us. This is primarily due to the low outages and turnarounds available during the summer months. We will continue to leverage our expertise as a solutions leader in protecting metal and electrical systems that drive infrastructure. And with the strategic acquisition of six galvanizing plants and opening a greenfield in Nevada, we are looking forward to continued improvement in our businesses, and greater impact from our new growth strategies for the balance of FY16. Now, we'll open it up for questions.

Thank you.

(Operator Instructions)

Our first question will come from Schon Williams of BB&T Capital Markets.

Hi, good morning, gentlemen.

Good morning, Schon.

Congrats on the quarter. Wonder if we could maybe talk a little bit. I mean, you spent a little bit of time talking about maybe the timing and the seasonality of the general business. But I wonder if you could maybe specifically address the $25 million in nuclear orders that are out there, projected to be shipped this fiscal year? Can you -- do you have any line of sight on anything here in the next couple of months? Should we still be -- should we be expecting that kind of more in the back half of the fiscal year? Just any help on how that may play out over the next couple quarter here would be helpful?

Yes, I wish I could say that it was -- going to be able to pull it into the second quarter. But I'd actually say, a little bit of -- these are the primarily the Westinghouse new nuclear orders in, for both the Carolinas, as well as over in China. Some of that may go. The orders are very active, and I think customers are showing the intent to take delivery later on this year. I'd still position it in the latter half of the year, third and fourth quarters.

Okay. That's helpful. And then, I wondered if we could just talk about where -- in terms of the integration with Trinity -- I know that it, less than 30 days ago -- but can you just give me a general idea of -- I don't know, is this something that you guys feel comfortable with, given your M&A path on the galvanizing side? Is that something you can turn around in kind of 60, 90 days in terms of the integration, or how should we be thinking about how that plays out there?

Yes, I think these -- good sites, good locations. Trinity had invested in those businesses. So I think our guys are -- we were on site first thing in the morning after we bought it. Teams are feeling pretty good about the integration process. So we expect those to be up to kind of normalized run rates, as we get into the latter half of this year. A lot of heavy lifting going on now in the second quarter to bring those in, and get them up to our standards. That's really about it. These are -- no big ah-has -- no big surprises in the first few weeks. Pretty much business as usual, and we expect them to be operating to our standard procedures, I'd say third quarter.

Okay. That's helpful, guys. I'll get back in the queue here.

Our next question will come from John Franzreb of Sidoti & Company.

Good morning, guys. Could you just go into the decision behind the greenfielding in Reno, especially since it's been quite some time since you've undertaken that kind of project? And also, give us some color on the costs associated with it?

Yes, it's -- we'd always -- it's always faster and easier to go buy a site, if when they're available. One of the things that we looked at in this case, and I've talked about that white space being out there kind of in the West, Northwest, where there's just not any sites within 250 miles or so, of a pretty good market for fabrication type companies and businesses.

So we want to be able to serve those markets, quite a bit of activity going on now outside of the Reno area. But it also gives us access to more of the Northwest and West, and even a little bit further East, because I think our next closest operation for us is Denver. And then, you've got to go all the way down to Goodyear, which is outside of Phoenix. So getting into a market -- we had done a pretty good market study that showed there's enough opportunity to get a site up to our normal run rates. And with 25% margin type business, it doesn't take long to justify what's normally a $15 million to $20 million capital investment over 12 to18 months.

$15 million to $20 million, okay. And Tom, does that suggest to us that there's not anymore sizeable Trinity-like acquisitions out there for you on the galvanizing side?

Yes, Trinity was really the last probably actionable multi-site deal that we see. There's a couple of other multi-site businesses out there including Valmont, but I think they're pretty well attached to their business. So as I look at that, as this was our last shot to pick up multiple sites. So it was somewhat strategic, partly because we wouldn't want it falling into somebody else's hands. And secondly, they were pretty good sites, and give us access to a couple of new markets in South Texas and West Texas, and a little bit into New Mexico.

So that kind of thing is what we're looking at. Other than that, there's onesie, twosies, those are actionable, whenever the owners get to the point they're ready to leave the business. And we know who they are, and we're always in touch with them, and we would always want to be a consideration. But in this particular area, like I said for a radius of about 250 miles, there is just not a whole lot. There wasn't anything for us to go buy in the area, but we like the area.

Great. And just switching over to the energy side. Now that you've kind of completed the restructuring actions, what do you think the margin potential is in the energy business say, two to three years down the line?

This is Paul. In the past what we've said is, we'll be getting into low teens to mid teens on a normalized basis over the long run there. And I think that's probably still a fair assumption. There are a number of different ways that we could get there, and we still expect to get there. But we do see improvement, especially in WSI, and it had -- WSI has an awful lot to do with the improvement in the first quarter.

Okay, guys. I'll get back into queue. Thank you.

(Operator Instructions)

The next question will come from Brent Thielman of D.A. Davidson.

Hey, good morning.

Good morning.

Within that 3% backlog growth, are there wide variances across your operating divisions? I mean, are there some particular areas within energy growing a lot faster, in terms of order improvement?

Yes. Well, in energy, and particularly, in electrical, legacy electrical, it's such a wide range of diverse businesses there, that you've got the backlogs going down in the ones that are affected by oil production and rig counts. And then, you've got the -- we're actually capacity-constrained in a couple of our businesses, medium voltage bus and enclosures. So there, the backlogs aren't moving a lot, because we're full so, and we've been full for the most part.

And then, in high voltage bus and switch gear, we've got opportunities, and some of those are fairly significant. When you get into the high voltage bus, you're talking multi million dollar projects, so we anticipate that. Since we do have some capacity, and in switch gear we're freeing up some capacity, through some operational improvement projects, that's where we look to still have opportunity to grow backlog.

Okay. That's great. And then, on the US Galvanizing acquisition, I know it gets you into a few different regions. Is there a big difference in addressed end markets, when you compare it to the existing AZZ platform?

No, not really. It just gives us more capacity in an attractive market area for us, and one where we do have a lot of experience. But like I said, we do get a little bit more geographic access, because of the facility in Big Spring in West Texas. And we really the closest thing we had for South Texas was Houston. So San Antonio gives us good participation in that market, so we broaden the geographic coverage somewhat which probably surprises people. But in terms of the actual markets and industries we serve, it's fabrication stuff, and it pretty much looks like the business we had.

Okay. And then, I guess just lastly. And I know it's the first quarter, but you said that you've got the $0.10 accretion coming from the galvanizing deal. You're bumping up the top end by $0.05 a share just for guidance. Are you just maintaining a little more conservatism, just based on timing of deliveries, or there is some specific end markets you might be a little more cautious around? Any color there would be helpful.

Yes, I think as you have seen from us, we try to be a little cautious and stay conservative. So we took -- we felt like with the acquisition and likely $0.10 accretion from the acquisition of US Galvanizing that we can -- our bottom, our low end was protected, because the biggest risk there was these NLI nuclear Westinghouse jobs not going. This offsets that risk, and covers it.

In terms of the top side, we're still just -- and even though we have 5% exposure from our energy businesses to the oil markets, that rig activity being really low. And our concern is, does it have any fall out impact to our galvanizing businesses, as we see some of the petrochemical and refinery and other projects impacted. So we're remaining cautious on the upside, or a little more cautious anyways. We still feel pretty good about it. And in the other businesses, in many cases they've already got the backlog for their year.

In terms of the legacy electrical, we still have a few holes to fill, but not too much. And then, WSI is heavily dependent on a good turnaround cycle in the third quarter. So that -- we just wanted to make sure, because that book and ship within the year, we've got good visibility to what we're quoting. We feel good about the activity. But until we see the orders and we're deployed on those locations, we don't want to get too far out over our skis.

Understood. Thanks for the commentary.

Our next question will come from Noelle Dilts of Stifel Nicolaus.

Hi, good morning, Tom and Paul.

Good morning.

My first question, I wanted to touch a bit on the galvanizing margins, still running around 24% this quarter. I think you're targeting getting back to the 25% to 26% range. Can you just talk about some steps that you'll take to get there, and what's going to help us get back into that -- those levels?

I think we've seen zinc prices move around a little bit, and had some volatility up and down in recent weeks and months. And of course, we do some forward buys, and then we also do a lot of spot buys, and then we try to manage the price. So right now, we're looking at zinc having somewhat of a -- I don't know, call it a ceiling effect on our ability to drive margins up. Which we're evaluating very carefully, what we do we do around our zinc?

On the other hand, we're continuing to drive the operational excellence. And with the acquisition of US Galvanizing, which as most of our Galvanizing acquisitions are, they're are lower margins than we're at. So we'll drive those up in more of our normal 24% to 26% range. We didn't have any of the one-time effects from -- well, we had a small effect versus last year in terms of margins. So that's the one thing. We're pretty much very stable. What you're seeing is normal flow-through margins for us.

There's not a tremendous amount we can do in the short-term, in terms of operational improvement because we run very effectively. We do have some technology things we're working on, that we think will help us improve the margins in the mid to longer term. And then, we -- it's like normally, you take 42 sites at the moment, and you [pro rata] those, and look at the ones that below our normal margins, and work diligently to bring those up.

Those are the ones though that will tend to be in the more competitive areas along the Gulf Coast, that where we were depending -- where we were hoping for a lot more of a upper robust petrochemical build cycle. That's a long answer to the question. A good question, but probably a complicated answer.

Sure. No, that's fair. I guess, maybe a little more simple. Just looking at the Reno plant, can you give us some thoughts on how essentially revenue will ramp as that comes online? And then, just how we should think about the revenue potential for that operation, given the kettle size over the next few years?

The -- sorry, we had a little distraction here. The ramp, we anticipate, we're accelerating the construction. We've got a really good location, and fortunately, the city and the state have worked well with us. So we --we're anticipating getting it open quicker, than we had originally planned. We're looking for a ramp.

It still takes two, three quarters to build that out. And probably you'd have to look at about an 18 months to where we're fully loaded, running normal cycles, processes firmly entrenched, discipline in place. So I like that 18 month window, [the one] we look towards. It's now full, operating efficiently, normalized margins and that's when we'll start putting additional services and looking at additional kettles and things like that.

Okay. And then last question, just looking at NLI. You're hoping to get that $25 million of orders this year. Can you just give us some thoughts on how we should think about that business moving out to FY17, without the sort of sizeable benefit that we're getting this year from those projects?

It's interesting. Those projects have been talked about since before I came on board, and that's now18 months so. And I have to say, that while they have a pretty good profit impact when they do ship, the margins aren't outrageously great. So when you look at it, we're replacing -- we're looking to replace those kinds of projects with our normal, more profitable business. So while the business will be somewhat smaller than without those projects, the earnings stream may be very similar, in spite of that.

So because we're becoming more selective. We are not chasing these things that we are not good at, big, strange assemblies for -- and there's not a lot of new project activity anyways, although there is some in China. So I think better discipline on what we're going after, better operational efficiencies. And then, the sales force is really solid, and we've got a good presence, and we are seeing pretty normalized outages. And there's still 104 reactors in the US, and we're going after business in internationally as well. So I think, it doesn't take a lot to move the needle, and replace the earnings from that $25 million, quite frankly.

Okay, great. Thank you.

The next question will come from John Franzreb of Sidoti & Company.

Yes, I guess, to follow-up on that last thought, could you just talk about some of the international opportunities at WSI? And some of those potential wins that you kind of referenced in the press release?

Yes, we've had -- I don't know if I'd call it a presence, but we've gone after work in India, the Middle East, China, even though we don't have any operational capability, but we do have agents and reps and sales efforts. So we're seeing good -- and I've talked a little bit about the fact that where we do well is coker drums and things like that. And that there were a lot of new coker systems that have come on line internationally over the last few years. It takes six to eight years before you have that full turnaround on those coker drums. So when you look at India, China, southeast Asia, Middle East, we opened a facility in Brazil, and we've done well with Petrobras.

We anticipate continuing to accelerate those activities. We have added some sales resources, and we are looking at some service facility partnering type approaches in the Middle East, and maybe Southeast Asia. So we had good project activity in the quarter. As we look now -- and one of the things I like about south of the equator, is they're on the opposite seasonality cycle versus North America and Europe, for instance. So that helps us deploy our resources from Europe and the US, when normally we're off season so. And we'll get better at that, and that will help us offset some of the cyclicality in the WSI business from the seasonality.

Perfect. Thank you, Tom.

(Operator Instructions)

The next question will come from Bill Baldwin of Baldwin Anthony Securities.

Good morning. Just wanted to ask briefly on WSI, you mentioned in the last conference call that the -- I think it was strikes and so forth in the refinery industry had delayed WSI ability to do some turnarounds. Did some, I think it was mentioned $6 million to $8 million. Did some of that fall here in the first quarter of FY16?

It did. That's what probably gave us a little bit of a lift from WSI in the quarter. They had a lot of activity. And while they were getting pretty good emergent work, they also got some of the larger turnarounds that they like to see. I haven't actually looked at whether those came from sites that were strike impacted. We can check on that, and get back to you. But my guess, is that some of that did, just because they had work that they needed to get done. And as soon as they had staffing back in place, they were able to get to it.

Bill, it's Paul. It's kind of interesting too. If you take a look at the utilization on the refineries in the US, it's still running very high. So that's a good question, and that is part of the story. And part of it is just the growth of this sales force is very effectively earning that, these opportunities and more business. While we still see a very high utilization rate, as that comes -- as that starts to normalize downward a little bit, you would expect to see a little acceleration from that. So it's a combination of things.

Do you think that you'll see that utilization begin to come back to, I guess, what you consider more normalized levels this year, or is that hard to say?

It's hard to say. But I've -- having been around this industry for a long time, you have to believe that those -- well, they have got to bring the utilization down, because some of these turnarounds are going to be larger ones and longer ones, and that will drop the utilization rate. So I think that happens this year. But we'll, and we are seeing a lot of activity, quoting activity for the third quarter. So that would be a pretty good indicator that the utilization rates are going to drop, just because there's more turnarounds. And we feel pretty good about that, and we feel very well-positioned for it as well.

Good, good. Does WSI have relationships with most of the refining companies that we think about, when we think about who is in that business domestically [in the US]?

They do with the rebuilt salesforce, and we just had our first sales leadership meeting here a few weeks ago. And I have to say, now when I look at that list of major refineries and customers, that either we're doing business with today, or that at least now we're quoting, it's the normal folks you would expect to see in the downstream sector. So we're -- which is one of the reasons that we get pretty confident about the out look.

Well, super. Good job.

All right. Thank you.

And our next question will come from Brent Thielman of D.A. Davidson.

Hey, Paul. Just to follow-up with US Galvanizing and then the Reno project starting up, do you have a forecast for CapEx and D&A for this year?

Actually, the -- I think it's fair to say that the CapEx situation at US Galvanizing is pretty good. They have good plants. They have invested decently in them, and it's kind of normal run rate there with the greenfield. What I'd said earlier in the year is expect a normal run rate of about [$30 million]. If we put -- if we tacked on greenfield that would drive it up. But with most of that happening this year, I'd say it would probably be safe to tack on close to [$15 million] on top of that [$30 million].

Okay. Okay, thank you.

You're welcome.

This will conclude our question and answer session. I would like to hand the conference back over to Tom Ferguson for his closing remarks.

Very good. Thank you. Well, thank you all for participating in today's call. We look forward to talking with you again at the conclusion of this current quarter. So again, thank you, may God bless you all, and have a great day.

Ladies and gentlemen, the conference has now concluded. We thank you for attending today's presentation. You may now disconnect your lines.