Babcock & Wilcox Enterprises Inc (BW) 2017 Q4 法說會逐字稿

My name is Chantel, and I will be your conference operator today. At this time, I would like to welcome everyone to the Babcock & Wilcox Q4 2017 Earnings Conference Call. (Operator Instructions) Chase Jacobson, Vice President of Investor Relations, you may begin your conference.

Thank you, Chantel, and good afternoon, everyone. Welcome to Babcock & Wilcox Enterprise's Fourth Quarter 2017 Earnings Conference Call. I'm Chase Jacobson, Vice President of Investor Relations at B&W. Joining me this afternoon are Leslie Kass, B&W's President and Chief Executive Officer; and Jenny Apker, Senior Vice President and Chief Financial Officer, to discuss our fourth quarter results and outlook.

During this call, certain statements we make will be forward-looking. These statements are subject to risks and uncertainties, including those set forth in our safe harbor provision for forward-looking statements that can be found at the end of our earnings press release and also in our annual report on Form 10-K that is on file with the SEC, which provide further details about the risks related to our business.

Additionally, except as required by law, we undertake no obligation to update any forward-looking statement.

We also provide non-GAAP information regarding certain of our historical results as well as our forward outlook to supplement the results provided in accordance with GAAP. This information should not be considered superior to, or as a substitute for, the comparable GAAP measures. A reconciliation of historical non-GAAP measures can be found in our fourth quarter earnings release published this afternoon and in our company overview presentation posted on the Investor Relations section of our website at babcock.com. (Operator Instructions)

With that, I'll turn the call over to Leslie.

Thank you, Chase. Good afternoon, everyone.

Over the last 150 years, B&W has been built on its commitment to providing customers with high-quality engineering equipment, solutions and aftermarket services.

In the first few weeks of my new role, I've been meeting with employees from around the company, our partners, customers and other stakeholders and I have been heavily engaged with our Renewable new-build projects, including visiting some of our project sites and customers in the U.K.

We have many successes to be proud of across our company. There's work to be done, and we're taking action to drive improved results in 2018 and beyond.

As announced in the third quarter results in November, we implemented a cost-reduction effort aimed at improving efficiency and our overall cost structure. Many of the actions specific to this program are complete, and we're beginning to see the benefits as evidenced by strong margin performance in Power and reduced SG&A in the fourth quarter.

As our company and end markets evolve, we remain intensely focused on cost discipline and its ongoing goals to improve efficiencies throughout the organization and to drive improved profitability and cash flow. We've realigned businesses within our Power segment to allow for faster decision-making and reduced the number of senior executive positions. We're also limiting capital expenditures and instilling a more bottom line focused culture throughout the organization.

Also as announced in November, we began evaluating strategic alternatives for our MEGTEC and Universal businesses. We've received a high level of inbound interest from both strategic and financial sponsors and expect to close the transaction in mid-2018.

Despite slightly lower revenue in 2017, these businesses generated good margin and solid backlog. They have robust bid pipelines and potential for new market growth, such as in lithium-ion batteries, and are positioned for robust revenue and margin improvement into 2018 and beyond.

To more efficiently lead our efforts and improve our cost structure and profitability, we'll be hiring a Chief Implementation Officer who will serve alongside our senior management team. This will allow me to spend more time focused on the businesses, our customers and our efforts to drive operational and commercial improvements.

Moving on to our operations. In Power, despite lower-than-expected revenue in 2017, gross margin performance remained strong and was well within our expectations. This shows the success of actions taken over the last 2 years to variablize this segment's cost structure, its strong execution capabilities and ongoing cost discipline.

We had good bookings performance in Q4 and had a good start to Q1 with the booking of a project in the U.S. coal-fired power market to replace boiler equipment at an existing plant for over $50 million. With these new projects, we have a good line of sight into our revenue for the year and expect we will drive continued strong margin performance in 2018.

In Industrial, it's been more of a mixed story. While MEGTEC and Universal executed well in 2017 and reported for solid revenue growth and margin expansion in 2018, SPIG face further profit headwinds in Q4. While we've taken action over the last several months designed to derisk its portfolio, margin will likely remain below average until later in 2018.

We recently hired a new Managing Director at SPIG's headquarters in Italy, dedicated additional project management resources to the business and have refined our approach to how we will pursue new work going forward.

Turning to our Renewable projects. I've spent a considerable amount of time over the last few weeks focused on our Renewable portfolio. Overall, I'm pleased to say the projects are moving in the right direction. In Denmark, although we've had some incremental delays in the final phases before turning the projects over to the customers, both projects are in trial operations run and are close to fully complete. One project is expected to be turned over this month and the other in the second quarter.

In the U.K., construction on 3 of the last projects is expected to be complete in the first half 2018, with 2 of those projects currently in startup commissioning phases.

However, costs related to the steel beam issue we identified in late September 2017 are now estimated to be $22 million higher than previously expected. These costs were partially offset by an approximate $4 million increase in revenue related to agreements with customers to provide partial liquidated damage relief and bonuses related to higher power output. We expect to be able to reach additional agreements with our customer for further cost recovery in 2018.

The increased estimated costs is largely due to a longer-than-expected delay in being able to implement the corrective actions as our former construction partner delayed the restart of work. While there's still risk on this project, we have a well-vetted plan for the repairs and a good team to complete the work that is expected to start in the next few weeks.

At the 2 sites where similar engineering was used but no physical issue was discovered, work has resumed largely as expected. The projects are progressing well and are currently in startup commissioning phases, as I mentioned earlier.

As you've likely read in our press release published this afternoon, we received a commitment from our largest shareholder, Vintage Capital Management, for $182 million to backstop the rights offering, which we'll be launching in the coming days. We're grateful to have the cooperation of Vintage and our revolving credit facility lender group to provide us this alternative to our second-lien facility, which will save the company approximately $20 million of annual interest expense and increase our strategic and financial flexibility. This arrangement clearly highlights our confidence in the future of B&W and our ability to drive significantly improved results going forward.

Proceeds from the rights offering will be used to repay our second-lien term loan, significantly deleveraging the balance sheet and ensuring that we have a financial flexibility we need to continue to serve our customers without interruption.

As part of the overall financing transaction, Jim Ferland, Brian Ferraioli, Steve Hanks and Larry Weyers have decided to step down from the B&W Board of Directors. We greatly appreciate their support and service to our company over the last several years and wish them the very best in the future.

Working with Vintage Capital Management, we will appoint 2 new directors to the board in the coming weeks. This will reduce our board size from 11 to 9 members.

With that, I'll now turn the call over to Jenny to provide more detail on our financial results.

Thanks, Leslie. Good afternoon, everyone.

Our fourth quarter consolidated revenues were $408 million, up 7% from the prior year as revenue from acquisitions and organic growth in our Industrial segment and progress on new-build projects in our Renewable segment was partially offset by lower revenue, mainly on new-build and environmental contracts in Power.

In the quarter, we had a GAAP operating loss of $23.4 million and a GAAP loss per share of $2.44. Included in the GAAP loss was a charge of $62 million or $1.42 per share for the revaluation of deferred tax assets as a result of the recently passed Tax Reform Act.

On an adjusted basis, for the fourth quarter of 2017, we had an operating loss of $21.1 million and a loss per share of $0.95. Adjusted EBITDA was a loss of $16.9 million.

Compared to our expectations, operating earnings were lower due to lower profitability at SPIG and incremental costs related to the steel beam issue, which were partially offset by lower SG&A across the company, which was driven by cost savings and good cost control.

Also, interest expense in the quarter was $8 million higher compared to last year, reflecting a higher level of borrowings.

Turning to our segment results. In Power, revenue was $209 million, down modestly year-over-year, due mainly to lower activities on new-build and environmental projects and Industrial Steam Generation systems but partially offset by an increase in retrofit service contracts. Gross margin this quarter was a robust 28.4%, essentially the same as in the prior year quarter as benefits from good execution and cost savings mitigated the impact of modestly lower volume.

While we would not expect this heightened level of margin going forward, we do expect gross margins in 2018 to be close to the comparable margin we reported in 2017.

In 2018, we will adopt a new pension accounting standard that requires the nonservice cost components of net periodic pension benefit costs to be categorized as other income rather than in cost of operations. This will affect our Power segment and consolidated results at gross and operating profit and margin levels, but it will not affect our consolidated net income or EBITDA. A reconciliation of the impact of this accounting change is provided in our 10-K and in our company overview presentation, which is on our website.

In Renewable, revenue increased year-over-year, mainly due to the level of work on new-build projects. The segment had a gross loss of $28 million in the quarter, due mainly to $22 million of higher-than-expected costs related to the structural steel issue. These costs were partially offset by agreements with customers in the U.K. for liquidated damage relief of approximately $4 million in the quarter. We are working with our customers to identify other recoveries across mitigating opportunities in 2018.

We have nearly completed the previously announced restructuring and expect to see the benefits of lower cost in our Renewable segment in 2018, which combined with progress towards completions on the new-build projects and the opportunities I just mentioned, should drive a greater than 10% gross margin in the segment in 2018.

Industrial segment revenue in the quarter was $116 million, up 9% compared to the fourth quarter of 2016. The increase was driven by the contribution of Universal and over 20% organic growth at MEGTEC, following several -- following multiple quarters of solid bookings, which was partially offset by lower revenue at SPIG.

Gross margin in the Industrial segment was 6.1%, down from 16.2% in the prior year quarter as the result of the overall business mix and lower profitability on the cooling system -- cooling systems projects within SPIG. We expect SPIG's margins to improve throughout 2018, which should allow gross margin for the segment to recover to closer to 20% in 2018.

Turning to our cash flow, balance sheet and liquidity. Free cash flow in the quarter was a use of $43 million and the use of $204 million over the full year 2017, generally in line with our expectations, driven by -- driven primarily by the increased costs to complete Renewable's new-builds project.

We ended the quarter with $57 million in cash and equivalents, net of restricted cash. Total balances under our U.S. and international revolving credit facilities at December 31 were $103 million and the book value of the second-lien term loan at year-end was $160 million, including a $20 million delay drop we utilized in December.

This afternoon, we announced a number of important changes to our capital structure. As Leslie mentioned, we intend to launch a rights offering next week in order to raise approximately $80 million, which will be used to repay our second-lien term loan. We expect to be able to complete this transaction during the second quarter.

Also today, we signed an amendment with our U.S. revolving credit facility with both -- which both adjusted covenant levels and authorizes us to use of the proceeds of the rights offering together with a small amount of the revolver to repay the second-lien term loan. This opportunity to recapitalize the balance sheet will materially reduce our leverage, which coupled with cost-savings initiatives and potential asset sales will provide significantly more financial flexibility for the company in 2018 and beyond.

Beginning this quarter, we provided consolidated adjusted EBITDA with our reporting results. Going forward, we will be providing this metric rather than adjusted EPS. Based on our conversations with investors and given the volatility in a number of our below the line items, including the tax rate, we believe adjusted EBITDA is more reflective of the earnings Power of B&W.

Also, starting in the first quarter of 2018, we will be reporting out on EBITDA by segment, providing improved visibility into the operational performance and profitability of each of our businesses.

In 2018, we are forecasting consolidated adjusted EBITDA for the full year of $75 million to $95 million. Given the timing on projects in backlog and the normal pattern of our business, our full year EBITDA expectation is that EBITDA will be more heavily weighted in the second half of the year.

I'll now turn the call back over to Leslie.

Thanks, Jenny. With the new financing arrangements in place, we have significantly improved our financial flexibility and positioned the company for better results in 2018 and beyond. B&W has the most comprehensive portfolio of products and services for the coal-fired power market. This provides us with an important competitive advantage, and we are working with customers to develop or expand alliance agreements to ensure they have the services they need while providing us with increased visibility into our revenue stream.

In Power, we ended the year with solid bookings and had a strong start to 2018. The combination of our existing backlog, projects we booked in Q1 and our traditional run rate business make up nearly 3/4 of our expected revenue in 2018.

Importantly, the remainder of our forecast is comprised mainly of small and medium-sized contracts for utility and industrial customers and is not dependent on any large international new-build projects.

In Renewable, our top priority is completing the projects currently in backlog. The market for waste energy is robust and our technology is in demand. We're being highly selective in pursuing opportunities under the new execution model, and we'll continue to focus on capturing our share of equipment-only contracts, while our aftermarket and O&M business remain strong.

Within Industrial, we have significantly derisked SPIG's portfolio and have increased our focus on bottom line performance relative to revenue growth in the near term. Our MEGTEC and Universal businesses are poised for growth, and we have optimistic outlooks for both in 2018.

Overall, our position for the future is improving. With the strong support of our shareholders and lenders, we're building on our solid foundation and taking action around the organization to improve our overall business and financial profile, which we expect will lead to better financial performance in 2018 and sustained improvement going forward.

We made good progress, but there is much more to be done, and I'm excited to be leading a company with such a rich history at this pivotal time.

With that, I'll now turn the call back over to Chantel, who will assist us in taking your questions.

(Operator Instructions) Your first question comes from the line of the Tahira Afzal with KeyBanc Capital Markets.

Well, I guess the first thing, obviously, you're taking over the company at a very critical juncture, can you tell me about how you've prioritized or have you quantified all the different elements in terms of priority, starting off with the divestments, for example, MEGTEC that you mentioned alongside really trying to work out the bridge in terms of the cash side of the story.

Well, certainly, the MEGTEC and Universal divestment, right, that's a process that we've had underway. Again, we have strong interest so that -- I think that is well in hand at this time. And in terms of overall priorities, right, number one is completing those Renewable projects, and we have a laser-focus on that, a good team in place, but that is number one, getting those done. And then as you heard in the call, we've got a number of other improvement opportunities going on concurrently, just to help streamline the whole organization and get our costs down so that we're more competitive and making better cash flow. And obviously, we think the revenue in Power, too, this year, is -- they're very different place than last year, partly because we don't have the reliance on large international new-build.

Got it. And Leslie, I haven't had time to go through the 10-K. I know one of the things that was discussed last year was really breaking down the EBITDA from each portion of the business. And if you can also just touch on MEGTEC in terms of scope and size within the mix of your Industrial business, should we be looking at something similar to the timing purchase there?

I'm going to give Jenny the EBITDA question.

Tahira, we will begin reporting segment EBITDA with Q1. That way, we can provide both the 2018 quarterly EBITDA for each segment, and we'll provide the comparable 2017 quarterly number. So we have not gathered or presented the quarterly information in -- for 2017 in this manner, but we will begin reporting it that way in 2018.

Got it. And the MEGTEC EBITDA, Jenny, around the same as it used to be?

We're reporting MEGTEC inside of the Industrial business. I wouldn't expect that we're going to report MEGTEC EBITDA, specifically.

Your next question comes from the line of Bob Labick with CJS Securities.

First, I just wanted to say also to Leslie, congratulations on your new role.

Thanks, Bob.

I wanted to -- obviously, lots of information today. I haven't fully had time to synthesize it all. Can you help us with -- what will the capital structure look like after the rights offering, but before the potential divestitures of MEGTEC and Universal, in terms of how many shares outstanding and what would be the debt level at that time, assuming a successful rights offering as you're planning?

Okay. So Bob, we've got -- prior to the rights offering, what we have on our capital structure today is a revolving line of credit, which we have been using to fund the cash needs of the company, primarily -- specifically the outflows that have been -- that's necessary to support the development of those new-build -- those Renewable projects. We've got a second-lien loan, which has a notional amount -- it has a base amount of $196 million today. That number on the balance sheet is decreased because of unaccreted OID, but the par value of that note is about $196 million. As we move to the recapitalization and the rights offering, we will use the proceeds from the rights offering, which we expect will be in the neighborhood of $180 million, plus a small amount of borrowing under our revolver to refinance that second-lien term loan. So the revolver will not move in a significant way from where it is otherwise and you'll see the, essentially, the replacement of second-lien subordinated or second-lien debt will be replaced by a flood of equity. It dramatically improves our leverage ratios and our financial flexibility, and we're very, very appreciative of the efforts of our shareholders to support that rights offering.

Okay, good. That's helpful. And in terms of cash flow, I think you actually even came in a little better than you had previously expected, maybe it was from the dividend from the Chinese company or something like that. But anyway, the previous expectations were continued use in the first either quarter or half of '18 and then returning to free cash flow positive in the back half of '18. Can you update that and give us any kind of size of cash flow use in the first half?

In light of the recapitalization project underway, I'm going to hesitate to update the absolute kind of a forecast for free cash flow, given the expectation that interest expense and the like will change over the course of the year. That said, we did -- our cash flow last year was slightly better than we had expected it would be. And a big portion of that is because the timing of that one project with the steel beam issue has been -- as we've not been able to progress the work -- since when you read the K, you'll understand that we just had a few extra delays in that project. We have not had the outflows of that project. So those will likely come over the balance of 2018. We do expect the cash outflows in the first quarter to be relatively heavy, consistent with the completion of these other -- a significant amount of work on these other projects as they near completion and get ready for handover to the customer. So as we get into the back half of the year, the cash flow improves significantly off of where it was in Q1. I'm not ready to say whether it's solidly positive or it remains net neutral for the back half. Again, we're going to wait and evaluate that after we see what the impact of the recapitalization does.

Your next question comes from the line of Jamie Cook with Crédit Suisse.

First, just a little color. I mean, I don't know how much you guys can talk about it, but how are you thinking about -- can you just give more color on a level of interest in terms of selling MEGTEC and Universal and just sort of the potential multiples you think are reasonable? I think you paid 8x to 9x. And I'm just wondering, given the situation we're in, whether buyers, I guess, will put a little pressure on that EBITDA margin assumption.

Sure. So we've had really good participation in this process. It's been very robust. Again, it's a combination of strategic and financial folks. And I won't comment on anything specific, but with that much interest, we're confident that we can come to a good conclusion.

Okay. And then Leslie as well, how are you thinking -- can you just talk about how you're thinking about the Renewables business longer term? I mean, is that still a good business to be in just given what we're seeing? And is it still the strategy to sort of focus more in the technology side and not getting to the construction side? Just trying to think about how you're thinking about that business longer term.

Oh, you better believe we're focusing on technology, not construction. And I think if you look at that business, right, we never talk about the aftermarket business there that's very strong. The O&M business is going very well. And if we hadn't gotten over -- into the construction side, the technology delivery where we did -- stuck to our scope of Boiler Island and environmental equipment was very successful for years. So returning to that is -- we fully believe, will be a good business for us. And it's right in the wheelhouse of B&W. It's combustion and environmental, so we're able to even trade resources from the U.S. and it's just a very strong business once you get past these construction opportunities. I mean, the technology is very good and works, it's strictly in the execution process.

Your next question comes from the line of Tahira Afzal with KeyBanc Capital Markets.

Just a few more questions on the call, so I'm glad I'm right back on. Leslie, I guess, one question I had. What's your visibility on the Industrial side? Because clearly, that's where you expect a lot of revenue growth into 2018. And you [mentioned] the backlog, and obviously, that's trended up well, but this is a high volume business. Any help you can provide there? And what you think the run rate of this business should be on a going-forward business even outside of this year?

Well, yes, obviously, with the sales, we think about it a little bit differently. But MEGTEC is gearing up for really strong year as is Universal has solid backlog. So both of those businesses are in good shape. SPIG, as we mentioned, this will continue to be a transitional year for them. There's a ton of good opportunity. They have a strong aftermarket business, and it's a new-build execution where we're going to be cautious with new jobs as we work down our kind of -- our older portfolio to make sure that our resources are applied appropriately and that we're very selective on how we treat these new-build projects. So I think the guidance is there, and we feel good about it.

I would also comment, Tahira, just as we said before, the life cycle from signing a contract to completing a project in the Industrial segment is relatively short. And so you would not expect to be -- to see a multiyear backlog in that business at any point in time. We've got very healthy backlog to support our 2018 numbers. And as we're working through 2018, we'll be building the backlog for 2019.

Okay. And if I assume even high growth rates now with that business sort of taking a step down with the MEGTEC potentially sold off, Leslie and Jenny, what's the end-game? Because you could see coal continuing to decline 5% per annum. Do you feel at some point as a whole, you need to be part of a bigger entity? And once you had have a lot of this backlog derisked, that it will provide those opportunities for you?

I think with our new financing arrangements, significantly delevers the business through the MEGTEC transaction, we'll be able to do that even more, and that will give us a solid footing to choose our path forward. I think we've got to get the businesses we have as operationally sharp and profitable as they can be, and then that gives us a lot of opportunity for the future. So our focus now again is getting those legacy projects in Renewable behind us, making sure the businesses we have are high functioning and then we can choose our path forward and be more in control.

And Tahira, I would further comment, there's a tremendous amount of operating synergies. Sales and business development synergy among the Power, the Renewable and the SPIG business. They work very well together. And if we can focus on developing incremental efficiencies and being more effective in the way we approach markets and the way we do some of the businesses or with a cleaner balance sheet and some good market, I think this is a -- we've got tremendous technology. We've got outstanding people. We have a passion to really take good care of our customers -- I think that we've got a very bright future. And we're just trying to make sure that we are optimizing the opportunities for this company and our shareholders and our investors, I mean, and our lenders, our customers, this is a really good story, and we're excited about being part of this 2018 and looking forward.

This concludes today's conference call. A replay will be available for a limited time on our website after the call. You may now disconnect.