Graham Corp (GHM) 2013 Q3 法說會逐字稿

Greetings and welcome to the Graham Corporation third quarter fiscal year 2013 financial 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, Deborah Pawlowski, Investor Relations for Graham Corporation. Thank you. You may begin.

Thank you, Christine, and good morning, everyone. We certainly appreciate your joining us here today for the Graham Corporation third quarter fiscal year 2013 conference call. On the call, we have Jim Lines, President and CEO; and Jeff Glajch, Chief Financial Officer. Jim and Jeff will be reviewing the results of the quarter and then will handle the Q&A session afterwards. They will be going, talking to the slides that you should have. And if you don't, you can get them on the Company's website at graham-mfg.com.

As you may be 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 which 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 with other documents filed by the Company with the Securities and Exchange Commission. You can find these documents at the Company's website or at SEC.gov. With that, let me turn the call over to Jim to begin the discussion. Jim?

Thank you, Debbie, and welcome to our third quarter results and outlook update conference call. Please refer to slide 3.

Our strategic plan is to double revenue and exceed $200 million at the peak of this next cycle. Very deliberate actions were taken in the past few years to expand our execution capacity; diversify markets served -- in particular, the addition of a strong power market leg and the planned growth of revenue from the defense market; and to strengthen our brand and position in Graham's traditional refining and petrochemical markets. We will remain committed to improving our selling and operating models that are suited for engineered-to-order products and serving global energy markets.

Turning to slide 4, sales in the third quarter were $25.6 million, up 5.4% from the same quarter last year. International sales represented 55% of total sales as sales to international markets expanded 37% to $14.2 million. Sales to the Middle East, specifically Saudi Arabia, expanded $4 million compared to last year due to conversion of large refining and petrochemical market projects in our backlog. Sales to Asia were up $2 million, primarily due to the three refining projects for China that are in production now.

US sales were down $2.5 million compared to the same quarter last year due to delays in fabrication caused by the customers for a large order for an aircraft carrier, also delays in the US-based nuclear power facilities projects and orders for existing US-based nuclear plants.

Gross profit was up 10.3% to $7.1 million with gross margin in the quarter at 27.8%. Operating margin was 11.6% of sales, excluding $975,000 related to a reserve reversal connected to Energy Steel. Jeff will review this in greater detail in subsequent slides.

We had a strong quarter from a cash generation standpoint with $8.7 million in cash from operations.

Lastly, yesterday, the Board of Directors approved an increase in our annual dividend rate from $0.08 per share to $0.12 per share. The Board is confident in our performance and long-term outlook for the business; our balance sheet is solid; the business continues to generate strong cash flow; and as we maintain our focus on strategic acquisitions, we have the ability to raise our dividend by 50%. We plan to continue to review the dividend over time as part of our commitment to building shareholder value.

Moving on to slide 5, sales to refining and petrochemical markets expanded significantly in the quarter compared to last year. This is an indication that these markets continue to improve. Sales were up 38% for chemical and petrochemical markets. In the refining market, sales expanded 45% to just under $11 million.

The delays in fabrication of surface condensers for the aircraft carrier order, along with delays in the production of components for the US-based newbuild and existing nuclear power orders in our backlog impacted domestic sales in the quarter. These are delays caused by the customer or end user that result in the sales shortfall in third quarter pushing entirely out of the current fiscal year. We don't consider these orders as being at risk. Engineering stops and fabrication delays are common for these types of complex orders.

Please turn to slide 6. A metric we watch closely is how incremental sales translates to expansion of gross and operating profit, along with EBITDA. I have discussed in the past that our degree of operating leverage is nominally 2.0, such that gross and operating profit expands at roughly twice the rate revenue does. That occurred this quarter with sales up 5.4%, and the drop-down was about twice that rate.

This confirms to me that our managers are controlling costs as we grow, keeping their focus on process improvement in quality and that pricing at worst is holding and perhaps become stronger. We saw a very favorable result in this particular quarter with our operating leverage.

With that, let me turn it over to Jeff. Jeff?

Thank you, Jim, and good morning, everyone. If you turn to slide 7, SG&A was $3.2 million in the third quarter. However, this included a $975,000 benefit from the reversal of a contingent earnout provision related to the Energy Steel acquisition. Adjusting for this item, SG&A was $4.2 million, up from $3.8 million last year.

Let me provide a little color regarding the Energy Steel provision reversal. We purchased Energy Steel in December 2010 for $18 million and provided the seller with the ability to earn two additional payments of $1 million each based on the business achieving a $4 million EBITDA level in each of the first two calendar years after the acquisition. The calculation of this $4 million EBITDA allowed for a handful of adjustments based on changes made to the business post acquisition.

For calendar year 2011, the earnout threshold was achieved and we made the payment to the seller in January of 2012. For calendar year 2012 the earnout was not achieved. We had expected the earnout to be achieved; however, due to a combination of slower orders in the first half of this fiscal year, specifically the quarters ending in June and September, combined with some timing delays around a couple of larger projects, the threshold was not achieved.

Despite not achieving the threshold earnout in calendar year 2012, we continue to be quite pleased with the Energy Steel acquisition. Let me provide a few metrics as we look back at the first two years of owning the business.

Final purchase price all in, including the payment of the first earnout as well as a post-closing working capital adjustment, ended up at $18.5 million. Our purchase price to average EBITDA was approximately 5.5. Cash flow continues to be strong in this business and we have returned approximately 40% of the total purchase price back to Graham in cash since the acquisition.

The backlog in the business has grown from $8.5 million in 2010 to approximately $20 million today. We believe we have been successful in retaining and strengthening Energy Steel's position in the domestic MRO market, and we have also won major projects at the new nuclear facilities being built in South Carolina and Georgia.

In addition, we have won international orders in China, South Korea and Eastern Europe.

On to slide 8 -- EPS in Q3 was $0.30; $0.21 or $2.1 million in net income when excluding the aforementioned earnout reversal. This was up 26% from $0.16 or $1.6 million of net income last year.

Our tax rate in the quarter was low at 22.5%, well below our norm, which is in the low 30%s. This was driven by the effect of the earnout reversal, which was not tax-effected.

Looking at slide 9, our year-to-date results, in the first nine months of fiscal 2013 sales were $74.1 million, down 11% compared with last year. We expect to close that gap in Q4 with a much stronger Q4 this year than last year.

Gross profit and EBITDA margins are also lower this year compared with last year. In both cases, the year-over-year improvement in the third quarter was more than offset by the strength of the financial results in the first half of last fiscal year, when we had a couple of high-profit Middle Eastern refinery projects that had been won during the previous up cycle.

Cash flow from operations in the first nine months of fiscal 2013 were quite strong at $14.9 million, $8.7 million of which occurred in the third quarter. Our year-to-date cash flow is more than double our year-to-date net income due to continued working capital improvements. Our net working capital excluding cash and investments is $5.1 million, or about -- approximately 5% of annualized sales.

Moving to slide 10, you can see our cash position has increased by over $13 million in the first nine months of this year to $55.1 million. We continue to have a clean balance sheet with no bank debt. This will allow us to focus on utilizing this cash and, if necessary, our untapped line of credit for future acquisition activities as well as continued internal growth investment opportunities.

As Jim mentioned, and you may have seen last night, we increased our dividend 50% to $0.03 per quarter or $0.12 per year. We are confident in our business, and our end markets will continue growing forward; and this dividend is evidence of that.

Moving to slide 11, I wanted to provide full-year guidance. The revenue of $102.5 million to $107.5 million; the gross margin of 29% to 31%; SG&A of 16.5% to 17% when excluding the earnout benefit, which translates to 15.5% to 16% when you include that benefit; finally, a tax rate of 29% to 30%. This rate is lower than our normal tax rate level for two reasons.

It includes the benefit of the earnout adjustment not being tax-effected, which effectively lowered the rate by 200 basis points, but it also includes the expected benefit that we will book in the fourth quarter related to the recently reinstated R&D tax credit which was part of the tax law signed in early January 2013. This R&D tax credit lowered our rate an additional 100 points from where it would have been. So, again, after those adjustments, our effective tax rate will be 29% to 30% for the year.

With this, I'd like to pass the microphone back over to Jim to complete our presentation by discussing our backlog level and our strategic focus going forward.

Thank you, Jeff. For your reference, I'm referring now to slide 12. Orders continued to improve on a sequential and trailing 12-month basis. We had $112 million in orders the past 12 months, and that compares to $91 million the same period one year ago.

Our markets continue to improve, albeit at a slower pace than we wish to see. There has been a clear hesitancy by customers to commit to a final investment decision during the past several quarters. We aren't viewing that to be a reflection of the underlying demand, but more a measured pace by the customers as they commit their capital to these projects.

I have mentioned during the past several conference calls that our pipeline of bidding activity supports our enthusiasm for the direction of our markets. During the past 12 months, the aggregate total of our bidding activity is $800 million to $900 million for our traditional markets, the traditional brand prior to Energy Steel's acquisition. That does compare to $300 million to $400 million in the fiscal 2004 time frame, just ahead of the massive expansion in our markets we experienced during the fiscal 2005 through fiscal 2009 period.

We continue to believe quarterly order expansion is a timing issue rather than a market health issue, and steps taken to develop internal capacity and to be ready for a surge of business will enable us to achieve our goal of doubling the revenue level for Graham as we reach the next peak of this cycle.

On to slide 13 -- our backlog remains healthy at just over $90 million. We expect 75% to 85% of current backlog converts over the next 12 months. As our bidding pipeline moves toward a steady pace of purchase decisions, we expect backlogs to begin to expand.

As you can see, our backlog is more diversified than in our past. In our past, refining and petrochemical markets would represent two-thirds to three-quarters of our backlog. Due to strategies to diversify, refining and petrochemicals represent about half of the backlog today, and in dollar terms the magnitude of the refining and petrochemical backlog is about the same as it was at our last peak.

On to slide 14, please -- our current strategic plan and focus is centered on achieving sustainable earnings growth by managing expansion cycles while keeping the eventual downturn in our mind, and focusing on where profitability will be during the downturn. We are also focused on reducing earnings volatility via diversifying markets, strengthening the level of the less cyclical segments of our business and improving our operating model.

The Energy Steel acquisition, as an example, provided several benefits that should reduce earnings volatility, such as access to a new market, the nuclear power market; also, increasing less cyclical aftermarket business, as Energy Steel primarily served the existing nuclear market with repair, replacement and upgrading of existing equipment. And lastly, it provides a strong market segment that won't necessarily vacillate when refining and petrochemical markets move higher or trend downward.

We are committed to investing in our people, improving our work flows and processes and investing in our operations to leverage our human and plant assets. Graham has come a long way, and there is more that we are able to do and will do to improve our operating performance.

We continue to focus on cash flow and we generate strong cash flow from operations. The managers from selling our products through to receivables collection are committed to improving operating working capital per sales dollar and cash flow generation that, in turn, will be reinvested to grow both organically and via acquisitions.

The Graham brand stands for value, value of our products, value of the support given to customers, the quality, capabilities and passion of our employees and the value of our business model. We will stay focused on our customer and in enabling our employees to be successful.

Christine, please open the line for questions.

(Operator Instructions) Chase Jacobson, William Blair.

So the first thing I wanted to ask is about the revenue push-outs. It's something that we have been dealing with for a couple of quarters here. And I know it's not in your control, but can you just remind us how much of the backlog is related to those projects right now?

And then, as you look forward, I know your visibility is really limited to what is in your contract and what the customer tells you. But how do you get -- or is there a way to get more comfortable with the schedules on those? And how do you plan for that going forward, given that this has happened a couple of times now?

Sure. Of the $90 million in backlog, roughly, Chase, about a third are these long-lived projects, the Navy project for the carrier program and the newbuild nuclear projects here in the US.

We took those orders strategically because they opened us up for entering new markets. They are challenging.

We have been in the nuclear market -- I'll speak to the nuclear market first. We have been in the nuclear market in our past, up through the mid 1990s, so we have familiarity with the way those projects flow.

While frustrating, we are not surprised about the pace at which we are able to execute the current orders for the four reactors in the US. There's a lot of engineering activity that still is ongoing by the process licensor or the contractor that affects releases into fabrication. We have to wait until engineering is frozen and we are authorized to move to the next step. That has some unpredictability to it, regrettably.

What we do is we stay focused on standing alongside the customer, helping to resolve these issues, being at the ready to answer technical questions. Our focus is getting back on track, getting these projects built, shipped and money collected. But to a large degree, we are at the mercy of how the engineering firm releases that work into production.

The same is true of the carrier order. Now, we are mindful to be aware that this does affect our financial performance and it does affect our cost basis. And when appropriate, we go back to the customer and look for recovery of the impact of those delays on our business.

However, from your vantage point and the vantage point of the investor, it can yield to some disappointment in a particular quarter when revenue was projected to be higher. But ultimately, because these projects, in our opinion, are not at risk, it's a timing issue. We will build these projects, we will generate the profit and we'll collect the payments necessary. But it does push out several quarters.

And I would say the Navy program is probably, in actuality, delayed to 12 to 18 months from what we thought it would execute at when we booked the order. And the large projects for the US are delayed maybe 6 to 9 months.

And then a very nice order that we have in our backlog for newbuild nuclear in China -- that whole project is behind schedule; not due to us, and they are not in any particular hurry for that order from us. And I would say that is going to be paced probably 2 or 3 quarters behind what we had expected.

Again, we will look for recovery of expenses that would be incurred because of that. And again, in summary, it's a timing issue, not a profitability issue with respect to the order or risk of cancellation, in our opinion.

So, while it's frustrating and there is a level of -- there's a different level of unpredictability within Graham's business today versus before we diversified, but that's the nature of these types of projects. And this is where we want to be; this is where our brand fits perfectly, where our business model fits extraordinarily well. And we will pull value from these new markets. But it does elevate the uncertainty quarter to quarter, but not materially different, but it does change our predictability.

Okay, I guess it sounds like it's something that we will just have to deal with. But in that answer, you mentioned that you sometimes go back to the customer and look for some recoveries here. Looking at the cash flow, was any of the improvement in cash flow because of items like that where you went back and tried to recover some of the cost?

Chase, this is Jeff. Not at all. The cash flow was simply our operations and our improvement in working capital in the quarter as well as, obviously, the impact of our earnings.

Okay, and just one other question, Jim, if I could -- the trailing 12-month bids that you gave is pretty impressive when you compare it to last cycle. Can you give us some idea of what that means for bids outstanding now?

And then, when you look at that $800 million to $900 million compared to last cycle, how much of that is because of entering new markets versus an increase in the core markets? And is it a function of a larger number of projects or just larger dollar projects?

Okay, I will do my best to answer the different questions there. The size of the pipeline compared to the $300 million or $400 million in the 2004-ish time frame -- I just want to be clear to everyone; that is core Graham. That is not nuclear. That is not necessarily new Navy work. That is traditional Graham, so that was a timestamp of how we looked going into the last expansion cycle compared to how we see that today.

So it's up roughly 2, maybe 2.5-X. So to us, that has been a catalyst for our underlying enthusiasm that we have had over the last several calls.

If we are bidding it and the projects have some viability to them, and they appear to, it's a timing issue. And you have heard us on the last several calls be rather enthused about our pipeline.

And I also want to be candid. A part of that lift between $300 million or $400 million to $800 million to $900 million has to do with a step change in the cost of raw materials. Probably -- on a competitive basis, the cost of our product is up between 35% and 60%, depending upon metallurgy. So that's part of the lift.

The rest really is our strategies to be more expansive in the markets we cover and the customers that we're accessing. And our customers as well are helping as they look for more exotic alloys to improve the life of the equipment they are buying, elevating the cost of the equipment.

But all in all, timestamp to timestamp, we are really excited about the size of this pipeline compared to where we were sitting at the start of the last expansion cycle.

In terms of what is viable, and I'll try to answer it this way -- as we think about what we would consider more active and to close over the next 2 or 3 quarters, it's probably somewhere around 25% to 35% of that number.

Now, I want to provide a caveat. We just closed an order yesterday, and that order was supposed to close in 2008. It was supposed to close in February of 2012. It was supposed to close in December of 2012. At 5 o'clock yesterday, it closed.

So we are seeing this hesitancy of our customers to make their final investment decision. However, again, the underlying demand seems to be there. And it's timing, Chase.

Okay.

Hopefully, that clarifies and answers the two or three questions that you raised.

Yes, absolutely. Thank you very much.

Jason Ursaner, CJS Securities.

Just generally on the order wins, last quarter you had characterized it as a good quarter. It would have been very good if the oil sands order hadn't slid. Just in terms of the linear progression of the business, should we be looking at it as if last quarter was really a $30 million order quarter and it's a pretty significant slowdown to $20 million in the third quarter?

Or, is it the hesitancy -- is it more of a stable, flat environment and you just haven't seen that second half pickup that maybe you had expected earlier in the year?

Jason, we would characterize it as flattish with higher probability of going higher than going lower.

Okay. And by market, in the prepared remarks -- or the press release mentioned the chem, petrochem market. It only accounted for $2.5 million of orders. I'm not sure how much of that was domestic. But just in general, how should we look at that number versus some of the commentary you guys have been making on this renaissance of US production with low-cost natural gas feedstock?

Sure. I will share with you how we are looking at it. We are looking at it very bullishly. We do believe that the North American petrochem renaissance has traction. We have looked at the various projects that are available, and I can share with you that there is probably 12 to 18 projects and at varying stages. And I don't believe all of them will go ahead, but we are actively bidding, we are actively in conversations with at least half of those projects. Some have not moved to the point of being bid yet.

The projects that seem to be pacing faster than others is the ammonia urea. The fertilizer market seems to be moving more quickly than the classic petrochem, ethylene and other petrochemical processes. So we are expecting to see some projects come forward and be closed over the next 2 to 3 quarters that are in the fertilizer market. And we expect to see maybe one or two petrochem objects close as well.

We don't think it gets hot and very active in for another 6 to 18 months. But what is important is, in our conversations with the end user or the process licensor or the EPC, projects seem real. They have an earnest pace to them, and it's coming.

So we think about it very bullishly. We think about it as part of our growth strategy. And what is also desirable is it's on our home court, North America; and we didn't have that activity last cycle.

So we are pretty excited by it. We think it's real. We still think it's a few quarters away. Are there derailers? Possibly, but we think there will be a good amount of that work coming and we plan to capitalize on it, Jason.

Okay. And then I want to jump to SG&A for a second. One of the key messages from the cycle point slide has been that you are investing in the middle of the Company ahead of revenue to be in a position to take advantage of these opportunities. I think last quarter you guys mentioned anticipating being closer to the $5 million range.

Obviously, there's a variable component that is tied to commissions, and revenue didn't come in quite where expected. But directionally, how should we be thinking about this quarter's SG&A after the adjustment versus that $5 million figure? And is there any delay on the investments you are making internally to the long-term platform, just given what you are seeing in the market?

Jason, I think the $5 million SG&A may have been a question in the last quarter. And our expectation was being at that $5 million level was probably a little high. We did not expect to be at that $5 million level, so there may have been a little miscommunication there.

But no; our expectation -- I think, if you look at this quarter for SG&A, it's in line with where we are at. I would think, as we go forward, we have targeted -- in general have a 15%-ish, maybe a little higher than that, SG&A range as a percent of sales. I think that's a good way to look at it.

So if you are targeting a sales level 15%-16%, perhaps, of SG&A going forward is probably a good number. And certainly, would we get to the $5 million? I think we would, but you would have to get to the math where you would be seeing revenue numbers in the lower 30s to be consistently at the $5 million SG&A level.

Okay, and just last question on the Energy Steel adjustment. I just want to make sure I understand the commentary. So you mentioned the total price was $18.5 million and that you paid an average of 5.5 times EBITDA. So if the first year was achieved, though, I guess that would have made it at worst almost 4.5.

So does that need to be running closer to 7 times on the current year to average out? Is that the right way to interpret that comment?

Jason, a couple of things -- first off, the first year was achieved. I'm not sure I would necessarily characterize it at 4.5. Again, the threshold was 4 and we achieved that 4. And the second year was not achieved. So by deduction, it would be lower than the first year.

This is based on the calendar years, which is different than the fiscal years. And the first quarter of this past calendar year, which was the last quarter of last fiscal year, we expect to do better in this current quarter.

So on a fiscal year basis, I think characterizing the acquisition at 7 times EBITDA would probably be too high a number. Again, there's a little bit of a conflict between fiscal year and calendar year here. I think if you are looking on a fiscal year basis, I think ranging between 5 and 6 for both of the years would be a fair way to characterize it kind of where we are at.

So, yes, there was a drop calendar year over calendar year, but a fiscal year over fiscal year drop isn't quite as significant as a calendar year over calendar year drop was. It's just timing.

Okay, I appreciate the commentary. Thanks, guys.

Joe Bess, ROTH Capital Partners.

I was hoping to go back and talk a little bit more about the bids outstanding that you guys have. Taking this midpoint of $850 million, did you say -- just for clarifying -- did you say that you are expecting about $212 million of that to be awarded in the next three quarters?

That would be correct. I said 25% to 35%.

Okay, then with you guys taking a percentage of that and then as well as your competitors; right?

Right. And then I provided the caveat of that example of the order we won yesterday. We thought it was going to close several quarters ago, and thought it would close each quarter between now and back several quarters. So things do move to the right.

But basically, from our judgment, our sales management judgment, we have identified that order of magnitude as planned to close in that time frame. Do I expect it all will close? No. Do I expect some we don't have on the radar screen to come in? Yes. And of course, as you said, we will not get it all.

Okay, and then can you talk about what percentage of that would you say is your core competency, and then also compare what you guys typically are viewing as your win rate versus whatever it was back in 2004?

Sure. The number that we have given you and the two timestamps that we have shown, the $300 million to $400 million in the 2004 time frame, or $800 million, $900 million of core type Graham business or bids today -- if we look at our historical -- this would be a raw capture rate. So it might be different to what you would ordinarily hear from us as a real capture rate. But we do track our raw capture rate.

And depending upon where we are in an economic cycle, historically our business has converted about 1 in 10 --

Okay, that's what I was thinking.

To 1 in 6, somewhere around 1 in 8 as a median.

Okay, that's what I was anticipating. And then when you compare that to the last cycle and compare that to this cycle, where you are in new markets, are you anticipating this number to come down because you are penetrating new markets that you don't have much history in?

Well, that's a great question. My judgment on that would be -- I don't expect our capture rate to materially become different. What could potentially occur is the margin potential is different. And we've talked about that.

Right.

We've gotten it.

Okay. And then are you able to give a little bit of color on this $212 million that you are expecting, how it breaks down in terms of industry?

Sure, sure. It's maybe -- these are rough numbers. 40% of that is for the refining market; about another 35% of it is from our petrochem, which includes ethylene, ammonia, urea and other petrochemical projects. And then maybe 15%-ish is power, and the remainder comes from the host of other markets we serve.

Okay, that's really helpful, thank you. And then just thinking about the orders that have been delayed, were these shipments that you are expecting to hit in fiscal 2014? And is this being pushed out into what you would think looks like fiscal 2015?

Well, we are talking primarily about 2 -- 3 projects that are very long-lived projects. The carrier order from first revenue to last revenue is 3, 3.5 years. It's now going to be more like 4, 4.5 years because of these delays.

And then for the large orders secured at Energy Steel for new nuclear plants, the revenue cycle on those projects were projected to be between 2 and 2.5 years, and it's probably going to be between 2.5 and 3.5 years.

Okay, that's helpful, thank you.

Joe Mondillo, Sidoti & Company.

Just to follow up on the trailing 12-month bids, could you give us an idea on how that has trended over the last several quarters? Has that trailing 12-months ramped up from a 500 number, or where is the trending?

No, it has actually been at that level for much of the last several quarters, when you heard the enthusiasm from us about our pipeline.

Okay.

It has been elevated for about a year.

Okay, and so has that translated into any gross margin expansion, any orders, or is it still -- since these bids are not being translated yet, is the gross margin and the pricing still stable at the moment?

I think it's the latter. We haven't had -- it's not a strong enough buying environment yet to get the margin lift we customarily expect as our markets improve. It has gotten better, but it is not where we expect it to go 1 or 2 years forward.

Okay. And your oil refining orders continue to ramp up pretty strong, up 40% sequentially. Where is that coming from, exactly, geographically?

Sure. If we look at the third quarter orders, refining segment in particular, there was a very large order of oil sands. We also secured some orders for the US refining market and from Latin America and from China. So they are traditional markets with the exception of oil sands is beginning to become active.

So a majority in North America, but also demand elsewhere?

Right.

So in terms of the petrochem market, it sounds like you are giving an awful big range, sort of 6 to 18 months. It sounds like you have a ton of projects out there that are bidding, in the process of getting and engineering. Is it just a case in point where you really don't know when it's going to happen and it could essentially happen in 3 to 6 months, you are just not positive? And we could see a flood of orders at some point? Is that possible?

Yes, I think the range -- it's just from our experience of how the early stages of recovery ramps up. There are some thought leaders that try to get to market first. And as I said earlier, we think that's the fertilizer market within the petrochemical umbrella. The ethylene projects, because of their complexity and their enormity, seem to be moving a little bit slower, along with the propane dehydrogenation projects.

But it's just our judgment. We don't think it's going to get white-hot right away. And we think it becomes more exciting and much more active within that window that we have just described.

Now, having said that, it could be month 7 from now, but our judgment is this 6 to 18 months, based on our experience and based on our view of where these projects are, and the usual way Graham projects these types of things. We are not overly aggressive. I think we are balanced in our approach and you are hearing from us the usual balance of how we view these opportunities.

And when you talk about the 6 to 18 months, is that orders?

I'm sorry, Joe. That would be orders, and the revenue cycle would be 12 months after that.

Okay, no problem. And so looking at that $9 million petrochem backlog, do you think that's the bottom here and maybe we hang out around there for a quarter or two?

I think it could decline over 1 or 2 quarters, but then will begin to expand as we get into that 6- to 18-month window.

Okay, and then just lastly, the revenue delays that got pushed out -- could you quantify how much got pushed into 2014?

I'd say it was about 10% of the quarter's sales, a little bit above that.

Okay, great, thanks a lot.

(Operator Instructions) Brian Rafn, Morgan Dempsey.

Give me a sense -- I missed, Jim, your very opening comments. Are you seeing -- Jim, when you talked about hesitancy, are you seeing the volume of bid quote activity? What is the delta change there? Has it expanded? Is it about the same the last 12 to 18 months? Are you seeing any acceleration in just purely bids and quotes?

The dollar value of the bids on a trailing 12-month basis has been relatively flat, straddling that $800 million to $900 million range, for about the last year. But I would say it has ramped up fairly steadily. If you go back 12 months and earlier, it has ramped up from that time frame. So 3 years ago to 1 year ago, it has begun to show some expansion.

Okay. When you look at that bid/quote activity, Jim, talk a little bit about maybe the competitive environment, the numbers of competitors on each project bid and then your sense -- has there been any surrender of margin? Do you see customers being a little more aggressive on margin or pricing`, or has it been about the same? Give me a sense of what the competitive bidding environment is.

Sure. It's fair to give this a time frame. We are seeing the margin environment improve from where it was two years ago, one year ago. We are not seeing it as healthy as it was in 2007 and 2008, nor did we expect it to be that healthy just yet. But directionally, it is improving.

What we do see from a competitive perspective, Brian, is -- and this comes down to the pace at which these purchase decisions are being made. When they are scant or very few, it tends to be more hypercompetitive.

I think we're still in that highly competitive environment now where there is some favor on the buyers' side. But as we move into that 6- to 18-month time frame we spoke about earlier and more projects are teed up to be awarded, I expect -- and as we have seen in the past during that type of situation, margins become better.

Okay. What -- if you were to detail a little bit on any one specific bid quote -- and maybe it varies by your different end markets -- how many competitors are you seeing bid these projects?

Sure. A general rule of thumb -- and I'm going to put -- I know you are focused on the Navy a lot, but I'm going to put that aside for a second. In our core markets, refining and petrochem, there generally are corporate policies either at the EPC or the end-user that there must be three competitive bids. So it's not uncommon to see 3 -- Graham plus 2.

When we go into certain Asian EPC situations, there might be 5 or 6. And when we go into certain highly specialized situations where we are very differentiated and we have leading technology, it might be just us or one other.

So it does vary. But I would say in general, when we look at an opportunity, we tend to think of Graham plus 2.

Okay, that's fair. Are you guys seeing maybe over the last 6 to 12 months any changes in your commodity feedstocks -- metals, you know?

We have seen -- I'm sorry, the answer is yes. We have seen a bit of a pullback, a favorable pullback with the reduction in pricing over the last 2 or 3 months. Now, we don't think that is long-lived. We think, as the markets become active and demand begins to pick up, those commodities -- carbon steel, copper-bearing alloys, nickel-bearing alloys -- should begin to become more expensive.

Now, having said that, Brian, we don't anticipate that leads to margin erosion. We tend to -- our supply chain and our people developing the bids do well to keep our costs current. So we don't typically have margin erosion as commodities increase.

Given that, Jim, do you guys look to buy forward at all in any of these feedstocks, store some steel out in the yard; or are you going to just -- given that there is some pullback in price?

No, we do not. We try to lock down our material cost at the time we secure an order. We don't do any kind of hedging around our raw materials, nor do we try to speculate on whether something is going up or down. When we bid on projects, our price validity has got a fairly tight time frame, and our intent is really to match what we bid and not to speculate in the materials market at all.

If you put a number, Jeff, on that pullback, what might you be in some of the carbon steels and nickel bearing in that? Are you down 10%, 20%, 15%, 5%? What --

Sure. We just went through an update on that, so I'm current. We have seen a pullback on our pressure vessel carbon steel of on the order of between 5% and 10%.

Okay, okay.

Now, that can vary whether it's from distribution or from the mill directly.

Right.

But the blend is that order of magnitude.

Okay. Anything -- as you guys talked about the ramp up to almost $200 million in sales, the potential, have you done any incremental hiring -- SG&A engineers, plant guys -- within the last, say, quarter or two?

Oh, sure, yes. We are still building for the surge of work that we anticipate is coming, Brian. We have added into the operations area with direct labor. We have picked a point of where we want to exit this fiscal year at, and we have picked a point where we want to exit fiscal 2014 at, from a direct labor standpoint and from an indirect standpoint to support where we see the growth going in out years. So we are still building.

And now we are being measured on that. We're not getting too far ahead of ourselves to affect profitability near-term meaningfully, but we are investing for growth.

Joe Mondillo, Sidoti & Company.

I just have two follow-up questions. The first one -- could you just talk about the breakout or the breakdown of the bidding activity compared to the order activity that you are seeing right now? Is there any difference?

In terms of, Joe, end-use markets or geographic markets?

End markets.

No, not really, with the exception of we are expecting -- and again, that's 6 to 18 months out -- to begin to see growth in the petrochemical bookings and growth in our backlog aligned with the petrochemicals market.

Right. So the petrochem as a percent of your total orders is quite small now. Is it a larger percent in terms of the bidding activity? Are we at the early stage of these projects, and are more petrochem bidding activity coming around, figure out what their costs are of these projects that may be coming down the line 18 to 24 months? Or, is it still pretty early, and is it, in fact, very similar to the order activity?

Ladies and gentlemen, please stand by. Your event will resume momentarily. (Operator Instructions)

Hello, operator? Are you there?

Yes, you are reconnected.

Okay. Sorry, we had some technical issues.

The question, Joe, that you had raised -- and hopefully, you are still on the line. The answer is the award activity for petrochemicals is down in comparison to the bidding activity and the future award activity that we would anticipate.

Okay. Am I still online?

Yes.

Yes, we can hear you.

So the bidding activity of petrochem is similar as a total compared to what the order trends are looking like?

No; I would -- yes, I guess it's sort of aligned, but I think the pipeline is beginning to expand.

Okay.

In relation to the percentage of our quarterly bookings that are to petrochem.

Okay, and then I just wanted to clarify the bid-to-quote activity and your win rate. You mentioned earlier in the call, or the Q&A, that on average, it's between 1 in 6 versus -- and 1 in 12 or 10, so around 1 in 8. But then you were talking -- on the last gentleman's question, you were referring to -- on most projects, there's three bidders. So that would say to me that it's sort of 1 in 3. So just clarify that for me.

Sure. There are three bidders. However, going into most projects I think we are the lead better and we secure a fair percentage of -- it's not one third, one third, one third. In terms of the real capture rate, we tend to capture more than one-third of the opportunities that close.

Okay. So that 25% to 30% awarded over the next three quarters -- we should essentially look at that as that you could potentially acquire up to 30% to 40%?

You could think about it that way. But again, we have the caveat that not all projects go ahead.

Right.

They push to the right, but that is also balanced by some projects that we don't have on the radar screen that come very quickly and get closed in the quarter. But I think you are generally thinking about it fairly.

Okay, great, thanks a lot.

Operator, we have time for one more question.

Brian Rafn, Morgan Dempsey.

I had to get a Navy question in. You have heard, certainly, talk about sequestration at -- and some of the issues with Chuck Hagel as Sec. Def. Has that at all impacted the CVN-79 John F. Kennedy, or the Virginia fast attack sub programs?

We can't identify where it has affected the CVN-79 as it would relate to Graham, because we have materially secured what we were going after. There's a couple of smaller projects coming up that we will potentially bid on.

With regard to the Virginia program and the bidding activity, my response to that was we have seen some formal bids where there has been requests for us to extend our bid validity two or three times. So, therefore, yes, we are seeing some effect in postponing purchase decisions tied to that.

Okay, and then on the fleet ballistic next generation, beyond the Ohio class subs, anything on the boomer subs for next-generation?

No. On that, we're -- that's in the second stage of detailed engineering. The first prototype awards are not expected to be until sometime in calendar 2014 or early 2015.

Okay, thanks, guys.

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

Thank you, Christine, and thank you, everyone, for your time this morning. Again, we appreciated your questions and the details with which we went over the outlook in your questioning.

As you can appreciate, we are very enthused about where we are going, of the strategy that we have developed to grow Graham. We have set our target to double the size of Graham across this current cycle through both focusing on organic expansion and deploying our capital for strategic acquisitions. And we look forward to updating you on future conference calls. Thank you.

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