ENGlobal Corp (ENG) 2010 Q3 法說會逐字稿

Greetings ladies and gentlemen and welcome to the ENGlobal Corporation third quarter 2010 earnings conference call. At this time all participants are in a listen-only mode.

A brief question-and-answer session will follow the formal presentation. (Operator Instructions)

As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Miss Natalie Hairston, Vice President, Investor Relations and Chief Governance Officer. Thank you, Ms. Hairston, you may begin.

Thank you, Ashley. Good morning, everyone, and thank you for joining us today. With me on the call are Ed Pagano, President and Chief Executive Officer; and Bob Raiford, Chief Financial Officer and Treasurer.

In a moment, I will turn the call over to Ed Pagano who will highlight management's perspective on our financial results for the quarter ended September 30, 2010. Bob Raiford will then review other financial points of interest for the quarter and in particular, those topics that relate to our balance sheet and cash flow.

Before we begin, I would like to remind everyone that some of the information discussed on this call will contain forward-looking statements that involve risks and uncertainties. These statements are based on current expectations.

Actual results may differ materially from those set forth in such statements. Additional information concerning factors that may cause actual results to differ is contained in the risk factors section of our previously filed From 10-K and 10-Q.

All of those filings are available on the investor relations page of ENGlobal's website at englobal.com. Our filings with the SEC are also available on the SEC's website at SEC.gov. And now I would like introduce our CEO Mr. Pagano. Go ahead, Ed.

Thanks, Natalie, good morning, everyone. ENGlobal reported a third-quarter net loss of $5.2 million or a negative $0.19 per share for the quarter ended September 30, 2010, a decrease from a breakeven quarter in September 2009. Third-quarter 2010 revenue decreased 2% to $85.8 million from $87.3 million for the same period in 2009.

Our third quarter reflects a pretax charge of approximately $7.2 million resulting from additional reserves taken against a long-term note receivable for our services provided in 2007 to a bankrupt client, South Louisiana Ethanol. The bankruptcy court's recent ruling on how assets would be distributed in the event of a future sale or liquidation of the ethanol facility was significantly different from the Company's assumptions. Therefore ENGlobal has adjusted the note accordingly.

From an operational perspective, our right-sizing efforts to reduce costs has positively impacted the third quarter and to a greater extent, the fourth quarter. This focus has resulted in estimated annual savings of approximately $3 million.

Specifically, we were able to leverage savings by renegotiating several office leases, re-organizing regions and reducing variable costs. We expect to see the full benefits of our actions beginning in the first quarter of 2011.

Although ENGlobal's financial results are disappointing, we are optimistic about business trends leading into 2011. We continue to see gradual improvements across several of our operational metrics such as biweekly billable hours and utilization when compared sequentially to the second quarter 2010.

The company averaged 166,000 man hours per two-week period during the third quarter 2010, a 12% increase in the second quarter 2010. In fact, we reached the highest biweekly man hours of the year during the third quarter which was 188,000 man hours.

Likewise, the Company's overall utilization was approximately 90% for the third quarter of 2010 compared with approximately 89% for the comparable period in 2009. When comparing sequential quarters, the third quarter represented a 3% increase over the second quarter.

Our September results were especially encouraging. I'm pleased to announce that in the month of September, ENGlobal was profitable for the first time since July 2009.

Our revenue and gross margins increased while variable costs and SG&A expenses decreased. We're extremely optimistic with these trends as this is a confirmation that our internal initiatives are impacting the bottom line.

Since June and within permitted trading windows, ENGlobal has been actively buying back stock on the open market through our stock repurchase program. During the third quarter, the Company repurchased over 650,000 shares of common stock for approximately $1.6 million at an average per-share price of $2.39.

Since the inception of the plan in June 2010, the Company has repurchased just over 981,000 shares of common stock for approximately $2.4 million at an average price per share of $2.40. As far as general industry trends are concerned, we believe the improved outlook is being led by better-than-expected capital expenditure projections.

We have said in the past that our clients' capital spending plans have a direct correlation with our business. While we do not expect double-digit increases as we experienced prior to 2009, Citi Investment Research recently announced that it anticipates capital expenditures of US integrated oil and gas companies to be up an average of 7% in 2011.

This is a particularly good sign given that we expect to perform more projects in the upstream market which is where much of our clients' budgets are spent. Yesterday marked my first six months as ENGlobal's CEO.

Here's a summary of some of the changes we've made. We restructured the executive team and added several key people with a vast amount of E&C experience.

As already mentioned, we implemented a cost savings initiative by reducing fixed costs, right-sizing the corporate structure and put a larger emphasis on managing variable costs. We reorganized the focus of key businesses and removed construction as a reporting business segment in order to serve our clients as a support function across all of our operations.

We reorganized the business development group to sell vertically and horizontally across the full ENGlobal portfolio. We streamlined several departments including business development, project controls and procurement and launched several working groups to shore up our policies and procedures, procurement processes and project control management.

We decentralized several corporate functions to help the business segments run more efficiently and to ensure accountability. I'm particularly excited about our 2011 and beyond strategic plan which was completed last week by our executive team. Our core plan involves five separate and equally important strategies.

The first is people. We strive to become the employer of choice through competitive benefits, training, mentoring etc. The second is market development to identify the markets the Company needs to participate in to diversify its business mix.

Third, project execution, to ensure high quality performance from start to finish. Fourth, business management, to schedule and track success driven measurements.

And last but not least, culture, to improve internal communications and teamwork while stressing accountability across the board. The plan will be launched internally early next month. Once implemented, we will be evaluating our results-based plan with quarterly measurements.

In summary, we've come a long way in a short amount of time and I believe we're on track to becoming a better performing Company. For the first time in a long while, we've seen tangible trends on which to place a fair amount of optimism.

We have a great deal of work to do and it will take some time, but rest assured our team is up to the challenge. Our hope is that 2011 will provide better, diverse and more importantly, profitable opportunities for ENGlobal. With that, I'll turn the call over to Bob.

Thanks, Ed. Good morning, everyone. A lot of these specific details of the results of the third quarter were disclosed in our press release this morning.

But I would like to highlight other selected items. Unless otherwise stated, the financial comparisons I will compare, results from third quarter of 2010 to those of the third quarter of 2009.

Operations used approximately $6.7 million in net cash during the third quarter compared to approximately $4.5 million in net cash being produced during the same period in 2009. Non-cash items in the third quarter totaled $1.4 million and included $0.9 million in depreciation to fixed assets, $0.4 million in amortization of intangibles and $0.1 million in stock-based compensation. Overall, we had a decrease of approximately $0.5 million in non-cash items year over year.

Working capital in the third quarter was negatively impacted by an increase in trade receivables and a decrease in cost benefits and other liabilities offset by an increase in accounts payable. Total capital expenditures during the third quarter totaled $185,000 compared to expenditures of $310,000 in 2009. For the nine month period ended September 30, 2010 we had only expended or committed approximately 26% or $0.9 million of the $3.5 million fiscal year covenant limitations.

Capital expenditures for the nine-month period have been for normal operating requirements including office furniture, computers, software and vehicles. We expect fourth-quarter capital investments in fixed assets to increase slightly.

We expect our annual investment in fixed assets to be well below our credit facility's annual limit of $3.5 million. Our long-term commitments net of current portion decreased approximately $4.8 million from $6.1 million at the end of December 2009 to approximately $1.5 million as of September 30, 2010.

The decrease on our net long-term debt during the year was primarily due to the reclassification of our line of credit to a current liability. As a percentage of stockholders equity, long-term debt net of current portion was 2% and 1.3% at the end of third quarter of 2010 and 2009, respectively.

Total liquidity which includes cash plus availability on our credit facilities was $14.7 million at the end of the third quarter compared to $39.8 million at the end of the third quarter in 2009 and we finished the year at $18.5 million. At the end of the third quarter, we had an outstanding balance of $9.7 million on our line of credit with remaining borrowings available on our line of credit of $14.3 million.

The Company was not in compliance with one of the financial covenants under the Wells Fargo credit facility as of September 30, 2010. During the current quarter, quarterly reporting period, our fixed charge coverage ratio was a negative 0.9 to 1.0. Our credit facility requires the Company to maintain a fixed charge coverage ratio of 1.75 to 1 as of the end of each calendar quarter.

Wells Fargo waived its default rights with respect to the breach for the third quarter of 2010 only. Due to this default, the credit facility was reclassified from a long-term to a current liability.

The Company was in compliance with all other financial covenants as of the end of the quarter ended September 30, 2010. It is probable that the Company will not be able to cure the default within the next reporting period.

On September 30, 2010, the Company entered into an amendment to the credit agreement with Wells Fargo Bank which converts our borrowings from a revolving credit facility to an asset-based lending agreement.

The amendment also eliminated the asset coverage ratio covenant and increased the interest rate to LIBOR plus 3.75 and increased the unused commitment fee to 50 basis points. Our average days outstanding were 55 days for the third quarter 2010 compared to 65 days at the end of the third quarter 2009.

We do not expect our average days outstanding to materially change in the upcoming fourth quarter. Our effective tax rate for the current year was 33.6% compared to a rate of 44.1% for the nine-month period ending September 30, 2009 and a rate of 54% for the year ended December 31, 2009.

The effective rate for the nine-month period ended September 30, 2010 is lower due to the majority of the Company's work being completed in a state that calculates taxes based on gross margin rather than net income. We do not expect our tax rate to change materially for the remainder of the year.

Thank you for your time this morning. I will now return to call to the operator.

(Operator Instructions) Craig Bell, Enerecap Partners.

Hi, good morning. Just had a question for you on some of the segment margins you reported and specifically on the land side, I'm assuming that that change or the lower margin we're seeing there is because of the resegmentation. Is that correct?

Yes, it is Greg. Good morning. That is exactly correct. We resegmented and we moved our inspection business under land and that has impacted their margins a little bit.

Okay and then looking at the engineering side, the margin there looks pretty good. Would that margin -- because you moved some people from the construction side to there as well, didn't you?

That is also correct, yes. Changed my speed, no clue.

So was that a drag on the margins if we compared it to the old engineering segment?

I think you'd probably see comparable margins if you pulled the construction out, if that is what you're saying.

Okay, so what we're really looking at if we look to the engineering segment is it definitely looks like it's improving versus recent quarters then?

That's absolutely correct.

This is Bob. Part of the issue there is that the project we're doing down in South Texas which has a lot of procurement equipment and material on it, that is at a lower margin than what we normally posted in the past on the engineering segment.

So in other words, you're pushing material through with low margins on it (multiple speakers). Okay and does that have a lot more procurement to come?

You'll see a little bit of it in the month of October, but it's going to be pretty much completed. They had to complete the schedule by November 1.

Okay, good. And then you were talking about the billable hours and where they were at and I think you said you had a peak of 188,000. Was that -- did you see continuing improvement throughout the quarter?

Craig, again, this is Bob. We have seen improvement since that data point.

Okay, so it's continuing on. And then just lastly, I think you'd mentioned upstream in your prepared remarks. Do you think that could be a significant contributor for you in 2011?

I wouldn't say significant, Craig. I would just say it would be a contributor. Again, we will be starting into that segment. So I wouldn't say significant at this point.

Matt Tucker, KeyBanc Capital Markets.

Good morning, guys, thanks for taking my question. First question is can you update us -- I guess in the past, you have provided kind of a breakdown in terms of your end-market exposure by pipelines, petrochemicals and refineries. Can you maybe update us on where you guys are now as you look at your business and if there's any other slices of the pie that are worth mentioning at this point?

When you say exposure, Matt, what exactly do you mean?

Well in terms of I guess revenue or whatever is kind of -- if it makes more sense to you, it would be fine, maybe in terms of opportunities that you see right now (multiple speakers) whatever is easier?

Okay, certainly from the pipeline perspective, we're seeing a pickup in activity. Again, there's a good level of activity in pipeline work right now domestically and we participate in that. So I think that's a good segment for us.

On the petrochem side, the downstream side, we are still seeing a level of activity. It's certainly nowhere near where it has been in the past as I'm sure you are aware.

But we are still seeing a good level of activity and we still have a lot of people actively engaged in that area. So again, the mix -- I think the mix we have right now is remaining about the same as it has been.

Okay, so but I guess in terms of -- if you were to look at kind of the business you did in the third quarter, say, I think in the past you'd indicated pipeline -- maybe this is more over the long term, but pipelines related work represented by half of your total revenue, petrochemical is close to 30%, maybe refineries 20%. Is that breakdown roughly accurate today?

Yes, actually we don't have that breakdown right in front of me right now. But I mean it certainly ebbs and flows as we move through the process.

Again, we have seen a decent level of activity in the pipelines and I'm sure that's a good level, a higher percentage of our revenue. But we can get back to you with those numbers, that's not a problem.

Thanks. Well the comments you made in terms of the activity work was also what I was getting at, so that's helpful.

And then, you mentioned seeing some competitive pressure and that it impacted margins. Can you kind of indicate where you're seeing the most competitive pressure in terms of different areas of your business?

Well you know, quite frankly, it's kind of across the board. It's certainly no worse than it has been.

It has actually improving a bit. It was certainly worse earlier on in the year. We're not seeing as much downward pressure, we're just not seeing the upward pressure yet.

I mean, certainly as the market starts turning, clients just don't start bumping rates up. So, it takes a little while for them to catch up to the market.

So as we start seeing this uptick, I think we'll still be kind of at those lower rates for a little bit until we can start moving them up again. Certainly I don't think the competition is any worse than it has been, if you will.

Okay, thanks. One more question and I'll jump back in queue. It sounds like with the construction segment split up, did you basically just take the inspection piece of that and put that with the land segment and then take the construction services that you used to report and move that up to engineering?

In essence, that's exactly what we did. We feel that the inspection business had an excellent synergy with the land side and more of a field solution kind of market there. And certainly most of the rest of the construction work was usually in EPCM kind of activities. So it seemed like a natural fit for us.

Great, thanks a lot. That's very helpful.

Thanks for your questions.

(Operator Instructions) Samson Ayele, Lazard Capital.

Good afternoon, guys. I guess in the third quarter, the gross margins were in the high single digits. As you look out to 2011, do you see a return to double digits or is this the right level you guys are thinking?

No, I think they'll continue to improve into 2011. So this is not the level we expect to be at for our gross profits.

This is post restructuring, correct?

Correct.

Okay and what's your (multiple speakers)

This is kind of the beginning of the -- I mean, we haven't seen the full effect of everything we have done. We will start seeing that in the beginning of 2011. We're starting to see it drip and drab in if you will for the rest of the year.

And what is your outlook post restructuring for cash generation in 2011?

You want to take it?

Well I think we're going to certainly work to continue to improve our DSOs and our [inflection] process, our ability to process and to collect our cash from our clients in a more aggressive manner.

We've kind of set an internal target for ourselves to improve our DSO target to the low 50s. So we're hoping to step up the un-billed side of it. Our bill side of it is actually pretty good. We're trying to step up the un-billed side of it. So we're hoping to improve that by three or four days.

We did certainly (inaudible) the 55 days as a DSO target and we've accomplished that and we're going to continue to push that downward.

Okay and also in the press release, there was a mention of a declining backlog. Was that due to I guess projects being worked off and not replaced or was that project cancellations?

I'm not exactly familiar with a quote of decreased backlog (multiple speakers)

Decline -- declining excuse me.

Declining?

It wouldn't be the project cancellations. It may be due to the burnoff of the backlog.

You have to keep in mind, a lot of our work is MSA type work which is a year-on-year type thing. So as the year starts coming to a close, the backlog starts burning off and then it kind of refilled the bucket at the beginning of the year, if you will. So that's kind of a normal trend for a lot of that MSA work that we do.

And then looking back into 2011 again, which business segment do you see having the most potential for growth?

Which business segment -- I hate to say this, but I think right now they're all pretty much in a position to grow next year. I think on the land side with the pipeline work coming up and the inspection team that we have, we have growth opportunities there.

We're seeing a lot of positive signs on the downstream side of our business. So again, engineering there and that will drive into automation. So quite frankly, I think we can see growth in all three of our segments.

Okay, thanks. That's all I have.

Craig Bell, Enercap Partners.

Just two quick questions. Was there a specific problem in the automation segment with that negative gross margin this quarter? Or is that part of restructuring?

I guess it would be -- a little bit as part of the restructuring and a little bit is part of the --

Are you talking gross margin or gross profit, Craig?

The gross margin on there. The press release had a negative 1% on there.

It would probably be more impacted by the -- I guess some of the integration of the acquisitions.

Okay, okay. And then -- I know this is a very small part of your business right now, but you got that current government segment. You put in some new management there over the summer and I'm just wondering what your thoughts are on that business in terms of growing it and what you need to provide to that business to be able to expand it. [Is it full] or is it resources?

Actually I think we have in place what we need to do that. We just received a plan from those guys to grow their business. We asked them to grow it and quite frankly, I'm not sure why we can't grow it two to three times what it is today. So I think we'll be pretty aggressive in the government sector in 2011 and you'll see some nice growth there.

Matt Tucker, KeyBanc Capital Markets.

Forgive me if I missed this, but was the charge on the bad collectable, was that allocated to one of the segments in your segment profit breakdown?

Yes, it's allocated to --

Engineering.

Thanks, and then --

You'll see that in the G&A section.

Great, thanks. Then one final one just kind of tying the backlog discussion to 2011. As you look to 2011 now, would you say that you have -- I guess what kind of level of visibility would you say that you have on the work you are going to be doing in terms of what you have under contract currently for 2011? Is that kind of similar to where you would be typically at this point in the year?

You know, I certainly would look to be further than we are right now, to be honest with you. But I think we've got a pretty good window of about six months. But certainly I would like to see a little further.

In terms of work -- in terms of you'd like to see some more work under contract?

Longer-term contracts that will take us out further, yes.

(Operator Instructions) There are no further questions at this time. I'd like to turn the floor back over to management for any additional or closing comments.

Thank you, Leslie. Hello again, everyone. I will be able to answer any follow-up questions this afternoon or you can always e-mail me directly at IR@ENGlobal.com. Thank you for being on the call today and thank you as always for your continued support of ENGlobal.

Ladies and gentlemen, that does conclude today's conference call. We thank you for your participation and we ask that you please disconnect your lines.