Graham Corp (GHM) 2011 Q4 法說會逐字稿

Greetings and welcome to the Graham Corporation fourth-quarter 2011 quarterly results 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, Ms. Deborah Pawlowski, IR for the Graham Corporation. Thank you, Ms. Pawlowski, you may begin.

Thank you, Christine, and good morning, everyone. We appreciate your joining us today on Graham's fiscal 2011 fourth-quarter conference call. On the call I have with me today, Jim Lines, President and CEO of the Company, and Jeff Glajch, Chief Financial Officer. Jim and Jeff will be reviewing the results of the quarter, and also provide a review of the Company's strategy and outlook. On our website at www.Graham-Mfg.com, you'll find both the press release as well as supplemental slides that are posted there. Jim and Jeff will be referring to the slides during the formal part of their discussion.

As you are aware, we may make some forward-looking statements during this discussion, as well as during the Q&A. These statements apply to future events, and are subject to risks and uncertainties, as well as other factors that could cause actual results to differ materially from what was stated here today. These risks and uncertainties and other factors are provided in the earnings release, as well as other documents filed by the Company with the Securities and Exchange Commission. These documents can be found at the Company's website, or at SEC.gov. So with that, let me turn it over to Jim to begin the discussion. Jim?

Thank you, Debbie. Please turn to slide 4. We feel the Company performed very well during the quarter, and we also had the full benefit of Energy Steel in the quarter. I was very pleased with order development in the quarter. Orders through the quarter were $26.8 million, of which about 20% came from Energy Steel. We did win two geothermal power plant vacuum system orders. Both are for Asia.

Continuing with our focus on North American renewable power, we won two biomass-to-energy projects in the quarter. Also, we had a very nice level of business, of new orders that we refer to as our short-cycle business. These are orders that typically come in and convert to shipments within one week to three months. Compared to where we had been through the downturn, which averaged about $4 million to $5 million in a quarter, this past quarter, the short cycle bookings were about $7 million, so that was a nice upturn for us. Also in the quarter, we won new orders for two refining projects. One in North America, and one in Asia. Both of these are not for transportation fuels. They are for lube oil, lubricating oil products. As you can see also that we had a geographic split of 50% of the bookings were domestic and 50% international.

For sales, we had a very strong quarter, I feel. Sales came in at $25.9 million, Energy Steel contributing just over $5 million. We continued to have sequential sales growth, quarter-over-quarter, and again because of the short-cycle bookings that we had in the quarter we also had a lift to our sales from that segment of our business, and we also began production on the Navy contract, which lifted our sales above what our prior guidance was for the quarter.

Margins, we're very pleased with the profitability in the quarter. Gross margin for the quarter came in at 30.5% and EBITDA margin at 18.1%. This is driven off of improvement in our capacity utilization for the Batavia operation. We're becoming more loaded in our production area. Also, the benefit of the short cycle sales, those tend to have a higher margin than do our major orders, and also, we're beginning to work through the backlog that was won at a time that we refer to as the bottom of the cycle where margins were lower, and we're starting to bleed in some of the higher margin work from our backlog into sales.

Turning to slide 5. Summarizing the full year, we saw progressive improvement in the market conditions throughout the year, particularly with orders, you might recall the first half bookings was a rough first half for us, came in at $18.6 million. Second half was much better organically, compared to the $18.6 million, organic bookings were $38.5 million plus an additional $6.1 million from Energy Steel, so that was a nice improvement between the first half and the second half of the year. We also saw compared to full year last year, the organic bookings increased 10% year-over-year. We're also adding, because of our view toward improved market conditions, personnel into both Energy Steel and into the Batavia facility, to drive growth through 2012 and beyond.

Financial performance for the year, I was very pleased by the way our Company executed through the downturn and as we exited the downturn in the second half of the year, and delivered what I feel is a fine level performance considering all the factors that we were facing, sales for the year of $74.2 million with net income at $5.9 million. Both were a little bit above our guidance, and that was because of the strength of the fourth quarter. Gross margin came in at 29.4%. EBITDA margin, 14.1%. If we do net out the acquisition expenses related to Energy Steel, the EBITDA margin would have been 15.1%. Also entering fiscal 2012, we have a very healthy backlog at $91 million.

On to slide 6 please. Segmenting our sales, for the full year, 55% of our sales were for international end-users and 45% domestic. As we have a full year of Energy Steel in fiscal 2012, we would expect this to move closer to 50% domestic, 50% international. Sales by market, oil refining still was a key driver of our business, at about one-third of our sales mix. Power, with the addition of Energy Steel for the last quarter, was just over 20%, chemical processing about 20%, and other markets, including the Navy contract, comprised 20% -- 21%.

On to slide 7. A quick update on the Energy Steel acquisition. I've been very pleased with the progress we've made in integrating Energy Steel into our business. We identified early, as we were speaking with Energy Steel, their management, the employees, we saw a similar culture, a Company that's shared the same values we have with respect to service to our customers, pride in the Company, excitement about the business, and subsequent to the acquisition, we've seen no change, we have had no surprises, its been a wonderful acquisition through the first 3.5 months and I'm very positive about the outlook of Energy Steel as we work with them to grow the business.

We also have a very solid management team. The contribution of Energy Steel to our fiscal 2011 results, orders were just over $6 million, sales $5.8 million, and backlog on March 31, stood at $8.4 million. I'm also very pleased that after 3.5 months, when we include the expenses related to the acquisition, and amortizing certain expenses related to the acquisition, Energy Steel did contribute to our earnings in fiscal 2011. A question that might be on your mind is what's the impact of what's happened in Japan, on the nuclear market and our strategy. You might recall when we discussed our strategy related to Energy Steel, we were focused primarily on the existing fleet of nuclear plants in the US market, and we saw additional avenues of growth around new construction in North America and new construction in the international markets.

With regard to the first driver, the key driver, the existing plants in the US, we see no change and actually, we may benefit from that about 12 to 24 months from now as the impact of what occurred in Japan, and changes that have to be Incorporated into the US plants because of that, make their way through the supply chain toward Energy Steel so we're expecting some lift potentially from what happened in Japan as existing plants have to make investments. What we have picked up though, with regard to new construction, is for many of the plants that were on the table to be built, expect some delay. We're hearing a couple years of delay to be expected, depending upon how far along they were in the licensing process.

We do feel, however, there are floor plans that are progressing. We are involved in some bid activity, and should those projects continue to proceed as planned, there's a great deal of opportunity for us there, and also in the international market from the customers we've spoken with, there will be a pause, we think, in the investment for new construction, although we do feel long-term nuclear energy will be in the energy mix of many of these countries, as well as the US, and this will be a timing delay found progressing of new capacity, but all in all, I have no concerns with what's occurred in Japan with respect to our modeling and our investment in Energy Steel. Quite to the contrary, I'm very excited about the growth potential we have there, and our ability to expand that business and generate profitability for the Corporation.

On to slide 8. Our guidance for fiscal 2012, at this point we're expecting our sales to expand 30% to 40% or to $95 million to $105 million, up from $74.2 million last year. Of that, we're projecting Energy Steel will be 16% to 20% of that total sales amount. The organic growth rate is 20% to 25%, in that range. Gross margin, our guidance at this point is between 29% and 32%. We do see upside. The market environment seems robust to us from the amount of bid activity that we have, and quotations that are in our pipeline. We're uncertain as to the timing of when some of those will proceed, but we have capacity to execute, and we have an aggressiveness to win the business and expand to beyond $105 million if order rates allow us to, both at Energy Steel and at Graham.

Some challenges that we face. Right now, we are in a very good position for the first half of the year. Actually, right where we want to be. Our Batavia operation is near fully loaded and we have a good amount of subcontracting for the first half of the year, so our first half of the year for all intents and purposes is teed up very well. We have capacity in the second half of the year in the Batavia operations. I would say our capacity utilization right now looks to be between 60% and 70%.

We do have a good amount of subcontracting already in our backlog as well, for the second half of the year, and it will come down to the order rate this quarter and next quarter to fill up the second half of the year. We're positive, because of the amount of bid activity that we have, and the time that we have to fill in the rest of the year and quite honestly where we are right now looking at our second half of the year, 60% to 70% loaded that's pretty customary for first month of the fiscal year to be about loaded at that level, so we're not worried about it but we have a great first half, and we have time to work on filling up the second half and pushing beyond this guidance that we've given today, and as you might recall from the guidance we've given in the past years, as the year develops, we adjust our guidance typically upward as we have a better view to the back half of the year.

Long-term, we see our markets are generally improving. We see a lot of activity in the refining space. We're beginning to see activity now in the oil sands area for upgraders. There's also a fair amount of investment that's planned for the extraction side in the oil sands. You might recall that we had won a very large order about six months ago, our first order on the extraction side in the oil sands, so we think there's a great opportunity there for us to expand our sales over the next few years.

Petrochemical markets are beginning to feel much better. Our Navy program, I'm very excited about that. That is a longer term process for us. We will have contribution in fiscal 2012 from the Navy program, but longer term, as we get into fiscal 2013, 2014, and 2015, I'm very optimistic about our strategy with the Navy.

Turning to slide 9, just recapping, our actions to drive sustainable growth in Graham, we're focused on the naval nuclear propulsion program, not just with carriers but with other vessels, and exceptionally pleased with our progress there, as the shipyards come through to evaluate Graham, as the Navy comes through to evaluate Graham, each and every time, they've been very impressed by our personnel, our capacity to execute very complex projects, our focus on operations on work flow, quality control, safety, we get very high compliments every time they come through, so we're very excited about that. And also with regard to Energy Steel as I said earlier, I'm very excited about the growth potential there, around the existing plants in the US market.

Our Batavia operation is also undergoing certification to be able to field nuclear-quality products in Batavia. Our strategy to position our Company and to win in the renewable energy markets in North America has taken off very well. We continue to win business there, as I mentioned earlier, we won two orders in the last quarter for renewable energy in the North American markets. We also are improving our flexible cost model by expanding our ability to build our products in other locations. We have methods now in place for building in South Korea, in China, and India. We have several subcontractors we work with in North America. That's what enabled us to get through the downturn the way we did. That's also allowed us to expand the way we did in fiscal 2008 and 2009 and I'm very excited about where our business is as our markets recover, and our ability to grow, faster than we did last time with the avenues of opportunities that we've put in place through the downturn, and the addressable market expansion that we focused on through the downturn.

We've also thought about the sales mix changing and becoming more internationally aligned. That has some margin compression. We've looked at strategies to improve productivity, reduce lead times, minimize waste to hold our margins, if not improve our margins in the face of margin compression from international sales mix, and as I said earlier, we're also investing ahead of demand in our business to be able to capitalize on the market recovery faster than we did last time. There's one thing I was disappointed about the last growth cycle, that became readily apparent in 2006 and 2007, is we weren't ready. We were growing too slowly. The market demand was ahead of our execution capability, and we spent the last four years focused on that, such that we'll be able to grow in the up cycle. As I said, I believe, faster than we grew last time. With that, I'll turn it over to Jeff for a more detailed review of the quarter. Jeff?

Thank you, Jim, and good morning, everyone. As Jim mentioned, we had a strong finish to fiscal 2011. Sales in the fourth quarter were $25.9 million, up $13.8 million or 88% compared with Q4 fiscal 2010. Organic growth was up 51%, with the remaining $5.1 million coming from the Energy Steel acquisition. Q4 sales were also $6.7 million, sequentially up from Q3, approximately one-third of that gain was organic and the rest was the increase of Energy Steel.

Sales in the fourth quarter were 52% domestic and 48% international. While Graham's historical markets continue to be tilted toward the international arena, Energy Steel is almost exclusively domestic. Organically, sales were 60% international in Q4. Full year sales were $74.2 million. Organic sales were up 10% to $68.4 million, with the remaining $5.8 million coming from Energy Steel. For the full year, 55% of sales were international, which is equivalent to fiscal 2010.

Q4 net income was $2.7 million or $0.27 a share, up from $600,000 or $0.06 a share in Q4 last year. For the full year, net income was $5.9 million or $0.59 a share and $6.4 million or $0.64 a share when excluding the acquisition transaction cost. The $6.4 million level was equal to fiscal 2010. As Jim mentioned, we are pleased that in the 3.5 months since Graham purchased Energy Steel, Energy Steel has performed above our expectations. Energy Steel has been accretive in fiscal 2011 earnings, even when including the $0.05 per share of transaction costs.

On to the next slide. Orders in the fourth quarter were $26.8 million, up from $18.3 million in the fourth quarter last year and up sequentially from $17.8 million in the third quarter. Included in the Q4 orders were $5.3 million from Energy Steel. Full-year orders were $63.2 million, down from the record $108.3 million in fiscal 2010. As Jim mentioned, fiscal 2011 was a tale of two halves for orders. Orders in the first half of the year were $18.6 million, where in the second half, they were more than double at $44.6 million.

Backlog at the end of March 2011 was $91.1 million, up slightly from $90.5 million at the end of December. One note is, we have no orders on hold by our customers. The last order which was on hold, which was for just over $1 million, was reinitiated by the customer in April. Gross margin in the fourth quarter was 30.5%, down slightly from 31.1% in Q4 last year, but up from 24.7% in the sequential third quarter. SG&A was 15% of sales, down from 22.5% in last year's fourth quarter and down slightly from 15.2% in Q3. Operating margin in the fourth quarter was 15.4%, up from 8.6% in last year's fourth quarter and 9.5% sequentially.

Full-year gross profit was 29.4%, down from 35.7% last year, as we converted orders received during the very competitive pricing at the bottom of our markets 9 to 12 months ago. As Jim mentioned, we expect 29% to 32% gross margins in fiscal 2012. In addition, we continue to expect at the peak of the next business cycle that margins will increase to the mid to upper 30%. SG&A was 16.7% in fiscal 2011, when excluding the Energy Steel acquisition transaction costs. This was down from 19.4% in fiscal 2010. For fiscal 2012, we expect SG&A to be between $16.5 million and $17.5 million as we add the full year impact of Energy Steel into our cost base. Full year operating margins were 12.7%, excluding the acquisition transaction cost, down from 16.1% last year.

This next slide is a slide that we've shown in the past that shows the sales and EBITDA margin performance over the past couple of cycles. You can see the significant step up in EBITDA margins at both the top and the bottom of the recent cycle, when compared with prior performance. We believe we've raised the bar on performance, and expect to continue at this higher level moving forward. On to the last slide. Our cash position continues strong with $43.1 million of cash and no debt.

In fiscal 2011, cash was used to purchase Energy Steel as well as to lower our excess customer deposits, which we've talked about quite a bit over the past many quarters. Those deposits have come down, as they've been used to procure raw material for projects. We believe with our balance sheet at debt free, and with this $43 million of cash, we are well-positioned to utilize the cash for future acquisition opportunities, when they become available. As Jim mentioned, we are very pleased with the acquisition of Energy Steel, its performance, the strength of its management team, and its nice cultural fit into the Graham family. The smooth combination of Graham and Energy Steel is a testament to both organizations.

One additional comment on our cash position. At year-end, our customer deposits were still elevated above normal levels by about $4 million to $6 million; however, on the asset side of the balance sheet, we also had an offsetting increase in unbilled revenue, as projects which are in process now have yet to be shipped. We expect the unbilled revenue to convert to cash over the first half of fiscal 2012. Finally, to reiterate Jim's comments on fiscal 2012, we expect revenue to grow approximately 30% to 40% and be between $95 million and $105 million. Of this growth, it will be roughly equally split between organic growth and the full-year impact of Energy Steel. Energy Steel is expected to provide 16% to 20% of Graham's overall revenue in fiscal 2012.

Gross margins are expected to be between 29% and 32%. The benefit seems from increased capacity utilization, is partly dampened by increased personnel costs as we plan for further growth beyond fiscal 2012. SG&A is expected to be $16.5 million to $17.5 million as we incorporate Energy Steel for the full year, as well as invest in personnel to grow moving forward. Tax rate in fiscal 2012 is expected to be between 33% and 35%. Also, we expect to spend between $3 million and $3.5 million in capital in fiscal 2012 which is above the $2 million we spent in fiscal 2011. With that, I would like to thank you for your time today, and your interest in Graham and would like to open the line for questions. Christine?

Thank you. (Operator Instructions) Thank you. Our first question is from Rick Hoss with Roth Capital Partners. Please proceed with your question.

Hi, good morning.

Good morning, Rick.

As far as gross margin goes and thinking about 2012, do you expect to see a, call it a 200 basis point split between first quarter and fourth quarter or 100, or how do you think that progresses throughout the year as all the low margin business kind of works its way through, and you start to improve and the improved bid work starts to show up in the P&L.

One of the factors that I mentioned in the earlier remarks was how well-loaded our first half of the year is. Part of our gross margin impact going into recovery is how much of our capacity we are utilizing, and the absorption of those expenses. We have a great first half teed up. The second half, we need the bookings in the first and second quarter to fill in our capacity for the second half. I look at it as a general comment, and we're going to win the orders to fill in the second half of the year, get up to 100% utilization and the same level of subcontracting we have in the first half, I would expect margins to be comparable.

Okay, so flattish throughout the four quarters there.

Right.

Okay, and then how much of that short-cycle business has continued into the first quarter?

We had a very strong level in the fourth quarter we thought due to decisions by the customers to hold back on procurement and it does not seem to have carried with the same vigor into our first quarter.

Okay, and then Jim, you talked about how when you look at the last cycle that you're disappointed in that you weren't capturing everything and you felt that maybe you could have grown faster organically if you had the resources and sales reps and engineers, et cetera. The last cycle it looks like you achieved about a 20% to 25% organic growth rate, do you think that we're set up to achieve something similar in this next cycle, or even above that as you're preparing to capture additional business?

There's a potential for it to be at that level or a bit higher. What I didn't like last time is the start of the recovery, we had muted growth, because we couldn't execute, and the market was turning more favorable, and we were unable to win the business, because we knew we couldn't execute it, so we had slow growth at the start. I don't like turning business away. I don't like giving into the competition, and this time, we have made strategic decisions to bring personnel in ahead of the demand, so we're ready to grow as our markets do hit full stride and do a recovery. We weren't at that point last time.

Okay, and that explains the, call it $1.5 million additional SG&A that you're adding, if you annualize the fourth quarter you're at a $15.6 million SG&A run rate and so you're guiding to, call it a 17 mid point, that $1.5 million would be purely setting yourself up in order to capture additional growth that you foresee as this next up cycle materializes?

That's right. With respect to, as an example, the Navy project. That's a long-term investment and we need to have the personnel in our Company way in advance of actually recognizing the revenue on the business we plan to win. Say submarine work. We're bringing those resources in now because there's some early activity that we'll be involved in, but not commensurate with the expenses that we're bringing in, but it's to support growth a couple years out.

Okay, and then I guess it's probably relevant to discuss the last peak gross margin as maybe unrealistic above the 40%-plus would probably be in the rare range and thinking about setting expectations for the cycle, you peak out at upper 30%, is that reasonable?

That's been our comment in that regard. We felt the next peak for modeling purposes, mid- to upper-30%. Is it inconceivable that we would push beyond that and get into the 40%? I don't think so. It depends really on market conditions, and if it gets as white-hot as the last cycle, but we're not modeling our business around that happening again.

So your share of domestic versus international business also contributed to the higher margin as well, right? And thinking about the next cycles probably led by international markets?

When you think about the refining of petrochem space, now with Energy Steel that's largely North America, that they provide a similar margin potential to our North American refining work. We also are expecting oil sands to be a nice component in our growth, two to three years out, that has a similar margin potential to typical North American work like we had enjoyed in 2007, 2008, 2009, so I see our sales mix, as we said earlier, being around 50/50, and now with the addition of Energy Steel, domestic international and Energy Steel brings in nice margin work.

Okay, thanks, guys.

You're welcome.

Our next question comes from Joe Mondillo with Sidoti & Company. Please proceed with your question.

Good morning, guys.

Hi, Joe.

First question, just going back to gross margin. I was wondering if you could comment on what Energy Steel's gross margin looks like, and how that's affecting the guidance that you put out there for the gross margin?

Joe, this is Jeff. The margins at Energy Steel are comparable to Graham's.

Okay, so it's primarily just the improvement in the volume and pricing?

Right.

What does the pricing look like in the orders that you're bringing in today? Are you seeing, on a quarter-to-quarter basis, are you seeing a nice improvement there, or where are we in terms of the cycle in terms of pricing?

Joe, we're in the very early stages of recovery and it can be spotty. There's going to be some very nice wins and there's going to be some rough wins, but when I say rough wins, we'll defend our market position, we'll make a strategic decision to win a particular order, to keep a competitor out of our space, but in general, the early stage of recovery, it's tough to comment on margins because it can be quite varied, but in general, we feel more positive about it than I felt 12 months ago.

Okay. Looking at the Energy Steel business, how much of that backlog is related to construction?

Related to new construction as an umbrella comment, none.

Okay. So your outlook is based on existing plants and the outlook should still look pretty positive going forward. Does the $18 million to $20 million of sales that they generated over the last 12 months or so, did they see any new construction benefits?

No. No, not in their sales.

Okay. And then in terms of the SG&A guidance, how much of that guidance is related to the Energy Steel?

If you look at the increase year-over-year from roughly the majority of it is Energy Steel because we only had Energy Steel in for just over one quarter of the year, so the majority of the increase of Energy Steel, probably about two-thirds or one-third for Energy Steel versus additional resources.

Okay. And then just to, I know I'm all over the place, but the US Navy shipments, how do you sort of expect those to hit the P&L throughout the 2012, 2013 period? Is it going to be more weighted in 2012 or sort of end of 2012 beginning of 2013, or how does that sort of look?

Sure, the contract that we have, the order that was won back in December of 2009, over $25 million, that has a revenue recognition cycle of roughly three years. We had a piece of it in fiscal 2011. The majority lands in 2012 and 2013, fairly equally across both those years and a similar piece in fiscal 2014 to the fourth quarter piece we saw this past year.

Okay, and you sort of mentioned that business being strong and you mentioned 2014, 2015 meaning the way I took it was that you're expecting to possibly continue business with them, and continue to see more orders in the future. Is that correct, and are we looking at more orders like the one that you saw last year, and could you just comment -- a little more color on that?

The Navy work, the order we won and the one I just made remarks about, that's for an aircraft carrier. There's additional work to win for that particular aircraft carrier. We hope to be bidding that work over the next six months, hopefully win the order between six and nine months after now. Revenue would be out in 2014 probably, I'm sorry, 2013 and 2014. The longer-term remarks that I was making refer really to submarine work, adding to our capabilities of providing not just to the carrier fleet our equipment, but also to additional vessels. Right now, we're winning initial concept engineering work from the shipyards for the next generation of submarines, the Isle class submarine. Ultimately that would lead, we hope to procurement of equipment, but that we believe is out in the fiscal years that I've said earlier, 2014 and 2015 before that -- that's where the sizeable orders would be.

Okay.

A mixture of vessels, a mixture of timing. Longer term projecting out five years, we expect to have a more steady flow of naval work for submarines and carriers that's more uniform. Right now the early stages of the strategy, it's going to have periods of time between winning significant orders, but we're laying some very important groundwork on getting our business in position to win additional work, and I'm very encouraged by what I see, by the interaction our team is having with the shipyards and with the Navy.

Okay, and then last question I just have is, I was wondering if you could comment on sort of the competitive landscape, the competitive pricing out there within the three or four sort of markets that you serve.

Sure, as I mentioned earlier, for the large projects at this early stage of recovery and refining and petrochem, there's going to be some very good work that we'll win and we have won, for example, in the last quarter, and because the order flow is rather spotty I would say versus 2008 and 2007, when there was a heck of a lot of order activity, the margins can be rougher, certainly in the international markets for refining or petrochem, again because the frequency of orders is more spotty and the power generation market, renewable energy, that tends to have a lower-margin potential than refining of petrochem but they're easy -- they're less transaction costs, easier orders to process through our business, so there's a little bit different margin, and different type of execution model with that work and for Energy Steel, we haven't seen a great deal of variability in their margins. It's fairly consistent.

Okay, and then so, the chemical business, is the reason why that's been sort of light even up until this quarter for the sales for the chemical markets. Is that just due to low activity or not being able to win orders?

My view is it's the low level of activity. The population of opportunities is still relatively small at a given point of time so all of us can be aggressively going after those and that tends to have an effect on margin.

Okay, thank you very much.

Thanks, Joe.

Our next question comes from Dick Ryan with Dougherty & Company. Please proceed with your question.

Hi, good morning, guys.

Good morning, Dick.

Jim, the initial work you're involved with on the submarine side, is that being won on a bid basis, or I didn't know if you were done with the certification process yet, either.

It is bid. We have competition, but this early type of engineering work for the next generation of sub that we're working on, it's not uncommon that multiple companies, Graham plus others, will bid on the concept designs for our types of products, so that's how the early work goes and as you move to the more progressive and detailed engineering work, the suppliers get narrowed and then one in the end builds the prototype, the first production unit.

Okay, and on the certification, is that complete yet?

With regard to having security clearance and going through the process, we're at a point now where we can actually expand our avenues into the Navy for the work that we work on, we can bid on, sorry, so we have some clearances that allow us to gain access to information we didn't have before.

Okay, and you've got a very good batting average with the refinery business over in China. Are you seeing any opportunities to kind of get a toehold or perhaps better than that with the chemical side of the business in China and India?

With regard to China, I'll go there first. We have hired a sales manager in our Suzhou office focused on expanding our opportunities in the chem, petrochem area. A focus point that he has right now, and we're seeing some very strong opportunities coming from here, is coal to chemicals, or the petrochemical arena, and positioning our Company like we did in the refining space to become a preferred supplier to that industry, so the missionary work is being done now, but we are seeing a lot of activity coming up for that particular segment of the petrochem market, and we're also expanding toward the fertilizer market as well, which we've always had a strong brand there, but we didn't pay enough attention I think in China to maximizing our opportunities there, so we're moving outside of refining, still sticking, focused on refining, but adding coal to chemicals and petrochemicals along with fertilizer into our areas of focus. And those are very strong growth areas in China.

When you look at Energy Steel, I think when you made the acquisition you talked about some international opportunities with your global footprint. Is it too early to start expecting you guys to be taking those services internationally?

As a general remark, yes. We have a lot of upside potential here in North America, with the existing plants and with the couple that are planned to go through to construction, we want to execute extraordinarily well on those opportunities, and just capitalize on those, I would say tertiary would be the international side at this point in time.

If it's too early for the Japanese situation to start impacting business yet, what's kind of the commentary from the existing customers? What are you hearing there?

The commentary with respect to, say the North American utilities, and what might occur is the new regulations that may come about as a result of what occurred in Japan, tend to take about 12, 18, maybe as long as 24 months to get pushed into the utility and then out to the supply chain. That was the time frame after 9/11 before demand or opportunities presented themselves, because of what happened on 9/11, so we're expecting over the next one to two years to see some pick up in North American utility opportunities related to the Japan incident.

The Japan incident, as it relates to new construction though, I think that's more right in front of us with regard to some plants have slowed down, some plants have moved to the side in terms of the planning process, four that we are aware of and we believe are going ahead are the Vocal site and the Sumner site, the two reactors at each site in North America, and those appear to be proceeding, but several others have indicated to us, expect the two-year delay, that order of magnitude, as a result of what's occurred in Japan, we've also picked up internationally that there's going to be some delay as well in new construction as they review the design specifications for these plants to ensure the safety and the controls are in place to avoid what happened in Japan to happen again.

If you look at that market after 9/11, is there a way to kind of put your finger on what kind of the incremental spend occurred after 9/11, to kind of maybe draw a parallel to what's happened now? Is there any figures out there to say normally it's X, but with the 9/11 impact, it was X plus Y?

There may very well be. I don't have those figures.

Okay. Good. Thanks, guys.

You're welcome.

Our next question comes from Tien San Lucas with Brasada Capital Markets. Please proceed with your question.

Hi guys. It's actually Gabe for Tien. Can you hear me?

Yes. Good morning.

Thank you. We just had a few questions for you. Could you please remind us of a percent of your backlog that you expect to recognize over the next 12 months?

We expect 80% to 85% to convert over the next 12 months.

Excellent, and can you also remind us on the increase in CapEx or actually just comment on the entire piece that you're raising for this next year, can you break it down in buckets for us how much is going to Energy Steel, how much is considered maintenance CapEx and how much is considered growth CapEx for us?

The majority of the CapEx is for the Batavia operations at this point in time, and the majority of that is for productivity and capacity expansion. There will be a component for maintenance of course, but our investments have been targeted in expanding our capacity and gaining productivity through new equipment investments.

Okay, so should we think about this as sort of a surge in the next 12 months and then back down to your sort of long term trend after that?

I think that's a fair way to consider it right now. We've felt our capital plan as a more normalized spend would be in the range of $1.5 million to $2 million with the addition of Energy Steel. Before, it was $1 million to $1.5 million. We have points in time say for the Navy project as an example where we need to invest more to fully capitalize on those opportunities, but thinking of it as a more normalized level, I think in terms of $1.5 million to $2 million but there could be surges and spikes where we invest more.

And then could you comment if there's some opportunities on your tax rate going forward with as much business as you have coming from overseas?

Gabe, at this point we would not expect a significant change there, but that's obviously something we will continue to pay attention to but I would not expect that will change dramatically in the near term.

Excellent and our final question. Can you just remind us the dividend strategy for the Company?

Dividend as you probably know, we pay an annual dividend of $0.08 a share and the reality is you look at our cash position, we believe the best use of our cash is for future growth via acquisition, as we did with Energy Steel. We do pay a small dividend, as noted. We also have a stock buyback program in place right now, through the end of July, that's been in place for the last two-plus years but if I had to characterize our cash usage expectation, acquisitions would be first, second, third on the list and the others would be quite a bit behind it.

Okay, guys, great job. We appreciate it.

Thanks, Gabe.

Thank you.

Our next question is from George Walsh from Gilford Securities. Please proceed with your question.

Jim, could you expand again a little bit on the idea that you want to be ahead of demand versus the previous cycle in 2006 and 2007, just from pulling together the comments, is it a matter of increasing your staffing versus how you were previously, and plus these cap expenditures that you're doing in terms of production capacity?

Exactly. It's increasing our personnel to be able to execute a higher level of orders, and we didn't grow very well initially at the start of the recovery in 2005 to 2006, 2006 to 2007 and then we again hit full stride in 2008 and 2009. That was disappointing. We don't want to do that again. It's more of an infrastructure build around personnel, and focusing on productivity and IT solutions to allow us to execute at a higher level.

And is that engineering hires or in other areas?

It's engineering, it's drafting, there will be some quality, there will be hires in manufacturing and production.

So pretty much across-the-board except administrative?

That's fair, yes.

As far as the oil sands is concerned, does the pace of activity pick up as the price of oil moves up? Is that something there's a correlation there for you?

I would say there is, certainly. Well, as oil price dropped, they began to pull back very significantly on investments and that was around 2007 or 2008. We had heard that they were going to go into about a three-year pause and that's pretty much what they've done, and we're seeing early signs of new upgrading investments, we're aware of two that are planned to go ahead right now, and these are very large opportunities for us. We don't expect to win that business until the latter part of 2012, so it's revenue in 2013. Where investment is going on now in the oil sands is on the extraction side, developing the fields to extract the oil sands, that ultimately goes to an upgrader. We hadn't really been on the extraction side historically, and we did recently win a very nice order on the extraction side, a couple million dollars so we are developing strategies to try to be a more consistent provider of products on the extraction side of the oil sands business.

Okay, is there a price of oil where it just seems to be that's the level where it's more economical, or has that become something of a moving target?

I think it becomes somewhat of a moving target tied to the cost of materials, when I say materials, carbon steel, nickel-based alloys, copper-based alloys. As a general comment, what we're hearing from the oil sands developers is a price point in the $75 to $85 a barrel range with today's cost basis is about right.

Okay, also on the M&A front, could you just give as much as you can, just describe what's in the pipeline, and what's there, and what are you looking at in terms of deals, and also in terms of doing the deals, are they looking more like all-cash or maybe cash in getting stock in there too?

Sure. George, this is Jeff. We've continued to keep the pipeline, looking at the pipeline, even subsequent to acquiring Energy Steel, so to be honest we're a little more focused on the integration, a little less focused on the acquisition process in the short-term. So, but there is certainly opportunities out there and as we saw with Energy Steel, there's a pretty significant time frame from when you identify the right opportunity until when you ultimately close the deal, so we're expecting, when we find the right opportunity that they will be, that same type of a time frame.

With regard to funding it, our preference would be to fund it with cash. Certainly, there would be a scenario if a seller had an interest in some stock, we might be willing to utilize the stock, but our intent really is to use cash because we do not want to dilute our existing shareholder base.

Okay, can you just in a general way speak in industrial or market areas you're thinking about, in terms of acquisitions and geographic?

Sure. I think our strategy is, where its been for the last couple of years looking at it and geographically, we had certainly considered domestic and North American opportunities but we're also looking over to be closer to our customers whether that's in Asia or the Middle East or in South America, so there's -- certainly we're interested looking in both arenas and then industrially, we've got a couple of different alternatives there. One is to look at our existing business base, and expand that, and get a bigger share of our existing customer base, and then additionally we're looking at opportunities to expand our market presence such as in Energy Steel, where we moved into a market where we weren't playing before so it's a pretty open strategy.

We want to make sure you find the right opportunity. There's good opportunities we believe in each of those areas and at the end of the day, it comes down to having a willing buyer which of course we are, and a willing seller, so we aren't necessarily tied to one specific strategy, but rather there's opportunities across multiple arenas.

Okay, and size?

We've consistently said between $20 million and $60 million worth of revenue would be our target. Energy Steel is right at the lower end of that, or near the lower end of that. That being said we'll look outside that range. We have and will continue to look above or below that range. Again, it's really a function of the right opportunity. I think we're very happy that we ended up going at the lower-end with the first acquisition of Energy Steel to get ourselves and quite frankly to build some credibility that we would be able to execute well on an acquisition and we certainly believe we've certainly done that. We're certainly a little more willing to accept to a higher level going forward, but that's no guarantee, it's really a function of again what the right opportunity is. It could be $20 million, it could be $60 million, or it could be even outside that range.

Okay, thank you very much, gentlemen.

Thanks, George.

Our next question is from John Sturgis with Oppenheimer.

Congratulations, gentlemen. Nice job.

Thanks, John.

I'm just curious, all the other questions have been pretty well answered. You've had great series of questions asked. On Batavia, is the capacity expectation or envision there to be about $125 million? I think you mentioned that at one point, without having to push out or up or whatever.

Without having to expand that roof line, I feel that it's in that $120 million to $140 million range.

Okay, and when do you think you might be at that level of capacity, because the changes you're making, they are proceeding, but curious when you think you might have that capability.

Just to give you -- I'm going to answer this a little differently. When we were exiting fiscal 2009 when we did $101 million, we were teed up to execute at $120 million to $125 million and then the markets turned down on us, so as our markets recover, we know we can execute at that level, business can't execute under the roof line, and actually we're further ahead today with our investments in productivity, and lead time reduction, and just gaining capacity through the roof line.

It really depends, John, on the recovery and the pace of how the markets come back. So I just wanted to strike a comparison to where we were at the last peak. We weren't done. The facility wasn't exhausted. We had more gas in the tank to expand our capacity and we were ready, but the markets turned down, so I would think that's a couple years out tied more to market.

Right, of course. How about Energy Steel? You picked up $18 million of revenue. It's probably what, running around at the moment, $20 million?

The Energy Steel's capacity, I think they have a lot of runway through their facility. They thought well about their investment, the facility is only four years old. I think the management team thought long term about the investment, and they put a facility in place that I feel is running below half capacity.

So lots of room there, basically.

I believe so, yes.

And of course the last item is, I told you I would ask you this question. Stuff sitting on the side that hasn't been billed yet, I assume that's what you call your increase in unbilled revenue?

John, that's actually things we are in the process of building, and it's just a matter of if they haven't shipped, or if they are at a certain stage in the process we haven't billed to the customer so those are projects that are in process and that the percent completion is ahead of the billing in this particular case.

Okay, in that case.

And if you look back a couple years to see the exact same kind of spike two years ago, where we went from $4 million or $5 million up to $10 million and then dropped right back down.

Right. Is there anything on -- I'm just curious if there's anything on siding outside, that just by somebody getting the right shipper that could have been in the quarter that wasn't in the quarter? I'm just curious what the variation would be in the quarter, had that occurred.

No. Nothing of significance, John.

Okay, good enough. I'm all set, thank you.

Thank you.

Mr. Lines, there are no further questions at this time. I would now like to turn the floor back to you for closing comments.

Thank you, Christine. Thank you, everyone, this morning for your time and your questions. I hope we explained well Graham's performance through fiscal 2011 and how we're positioned to perform in fiscal 2012 and beyond. I'm very pleased with the way our Company performed through the downturn and as we exited the downturn in the second half of fiscal 2011.

And more importantly, I'm really pleased with the actions that we took as a Company. We had Energy Steel to focus on the Navy projects, to build capacity inside our business, to be able to expand more quickly as our markets recover. Bearing in mind we're bringing those investments in ahead of demand, but I believe they are the right things for us to do such that in 2013, 2014, and 2015, we're expanding more quickly than we did in 2005, 2006 and 2007. Thank you for your time, and we look forward to updating you again in July. Goodbye.

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation.