Granite Construction Inc (GVA) 2006 Q4 法說會逐字稿

Good afternoon. My name is Matthew and I will be your conference operator today. At this time, I would like to welcome everyone to the Granite Construction fourth-quarter fiscal year 2006 financial results conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (OPERATOR INSTRUCTIONS).

I would now like to turn the call over to Jacque Underdown, Director of Investor Relations. Please go ahead.

Good afternoon, everyone, and thank you for joining us today. Today I am joined by Bill Dorey, our President and Chief Executive Officer; Mark Boitano, Executive Vice President and Chief Operating Officer; by phone, David Watts, our Chairman of the Board; Bill Barton, Senior Vice President and Chief Financial Officer; Mike Donnino, Senior Vice President and Manager of our Heavy Construction Division; and Jim Roberts, Senior Vice President and Manager of our Branch Division.

You can find the earnings release and associated presentation and financials on our Investor Relations website at GraniteConstruction.com.

Today's call will be recorded. Please be aware that if you decide to ask a question, it will be included in both our live transmission, as well as any future uses or recordings. As always, shareholders, analysts and employees can listen to a live webcast of the call on our website.

We will be making statements during this call that are forward-looking statements. These statements are based on current expectations and assumptions that are subject to risks and uncertainties. Actual results could differ materially because of factors discussed in today's earnings press release and the comments made during this conference call, as well as in the Management's Discussion and Analysis section of our Form 10-K and other reports and filings with the Securities and Exchange Commission. We do not undertake any duty to update any forward-looking statements.

During this call, we may discuss certain pro forma non-GAAP financial measures that management uses as a basis to evaluate the Company's financial performance and forecast future periods. If applicable, you can find additional information on these pro forma non-GAAP measures and a reconciliation to GAAP measures in the Quarterly Reports found on our website.

With that, I will now turn the call over to Bill Dorey. Bill?

Welcome and good afternoon. Thank you for your interest in Granite. Also, a special welcome today for all the Granite employees who are listening in.

On our call today, I will address three topics. First, I will review our fourth-quarter and year-end financial performance. Second, we will talk in depth about the situation in our large project business and the important organizational and strategic changes that were outlined in our press release to improve performance. Third, I will assess our markets and our outlook for 2007.

Let's start by reviewing our overall financial results and our Branch Division results. Our total Company revenue for the quarter and the year increased. However, despite a record-breaking financial performance in our Branch Division, net income for the quarter decreased from $35.8 million in 2005 to $600,000 in 2006. This decrease in fourth-quarter net income resulted from a writedown of $18 million of goodwill from the Halmar acquisition and the recognition of additional forecasted cost to complete, as well as more unresolved revenue issues on several large projects, two of which I will discuss in my opening remarks.

Net income for the year was $78.2 million compared with net income of $83.2 million a year ago. Net cash from operating activities was approximately $260 million in 2006 compared with $146 million in 2005.

Now let's discuss our Branch Division, which is performing beautifully. Our Branch Division revenue increased for both the quarter and the year. More importantly, operating income was $79.4 million for the quarter and $264.5 million for the year. Let me say that again -- $264.5 million in operating income for the year. This clearly reflects the quality of our teams, the strength of our markets and the strategic position of our assets. From any perspective, our Branch Division business looks as solid as a rock, with excellent outlook for the future.

Despite a slowdown in housing development, our Branch Division delivered a truly outstanding performance, with all 12 of our branches delivering the financial goods.

Both our construction activities and our construction materials business contributed at record levels. Construction revenue for the year was a record $1.4 billion, with gross margins at a record 18.6%. Clearly, our construction market is robust, supported by a strong public works funding in the West, a condition we believe is sustainable and conceivably will get even better as the Proposition 1B money in California begins to flow.

Our construction materials business was also very impressive, delivering record gross margins in 2006 of $97 million compared with $74 million in 2005. That is a 31% increase in gross margin and equates to a 24% gross margin percentage.

As I have suggested on prior calls, our vertically integrated business has earned the right to additional investment capital, and we are growing this very successful business model in the West. In the last 12 months, our Board has approved the purchase of three properties which will add long-term aggregate reserves at two existing production facilities and will provide the reserves for a new production facility at a third location once we secure a permit.

In addition, our Board has approved the construction of two new aggregate processing facilities, one of which is a replacement of an aging facility and the other is a new processing plant in a new, fully permitted greenfield market in California.

Finally, we are exploring new territory for the expansion of our Western business, and we are optimistic that we will be able to report to you on future calls that we are growing our dependable, vertically integrated business in the West.

To support anticipated organic growth and growth through acquisition in the West, we will be adding management structure to this division. And we are renaming our operations in the West. The new name will be Granite West.

We will retain our successful decentralized operating structure, with each branch being aligned into one of three operating groups -- the Northwest, Northern California, and the Southwest. Each branch will largely remain intact, with little or no change in their operations. Each branch in the group will report to a Granite West Group Vice President who will oversee three to six branches and have the responsibility to stimulate strategic thinking and growth in their geographic territory.

The three Granite West Groups Vice Presidents will report to Senior Vice President Jim Roberts, who will continue to provide division leadership. An organizational chart illustrating this structure can be found on our website.

This realignment is a natural evolution of a healthy, growing business. We have been considering this additional management structure for over a year, as our branch business accelerated its growth. We anticipate it could take most of this year to fully implement our new Granite West management structure and it will be done in an organized and thoughtful manner. We are very confident and bullish about the future of our vertically integrated branch business. This business has been built around solid strategic assets and our people are taking full advantage of the strong market conditions.

That is the good news. Now let's discuss our Heavy Construction Division, where our fourth-quarter financial results were considerably below our expectations.

As we outlined in our news release, after careful analysis, we are writing down the $18 million of goodwill from the Halmar acquisition. This is a noncash charge. However, the writedown is reflected in our HCD financial results, as well as our overall Company results.

While we continue to have confidence in the potential of the New York market, as well as our new management team, the recent performance in New York does not support the original investment. We are wiping the slate clean for this business and getting a fresh start. We intend to be careful and cautious in this market and capture the profit potential of the many opportunities presented by the largest market in the United States.

Our fourth-quarter HCD consolidated revenue decreased to $243 million compared with $261 million for the fourth quarter a year ago. And our fourth-quarter operating loss was $76 million, which includes our minority interest partner share of $1 million of that loss compared with an operating income of $4 million last year, which includes our minority partner's $2 million share of operating income.

For the full year, consolidated revenue was $1.1 billion compared to $1 billion for 2005. And the operating loss for the year was $143 million, which includes our minority partner's $19 million share of the loss, compared with an operating income of $12.5 million a year ago, which includes our more minority partner's $10 million share of operating income.

The quarter was affected by project forecast changes, which resulted in net consolidated forecast deterioration of approximately $70 million. The two largest downward forecast adjustments affecting the quarter were on the SR-22 design-build project in Southern California and the US 20 design-build project in Oregon.

On the SR-22 project, we continue to recognize increased costs resulting from our inability to achieve estimated production, as well as lost productivity due to the pace of this project required to achieve certain completion goals. We are also recognizing scope growth and extended overhead costs.

On the US 20 project, the forecast has been primarily affected by the discovery of ancient landslides that were unknown at bid time by either the state of Oregon or Granite. At this time, we have added costs to our forecast to address the additional anticipated costs associated with these old landslides. In addition to the actual work, more time will now be required, which will push the project into another building season, and we have added extended project overhead to our forecast as well.

On both projects, we believe we have strong contractual support for additional compensation, and we're hopeful we will recover some of these costs through negotiations with our owners. With regard to the US 20 project, we have had productive discussions with the Oregon DOT. However, there is no guarantee of any recovery, and no additional revenue recognition is reflected in our financial results.

Next, I would like to address the important strategic and organizational realignment that we will be implementing in our heavy construction or large project business over the coming months. As we indicated in our third-quarter conference call, the senior management team has been taking a hard look at our Heavy Construction Division business. We have conducted an in-depth analysis of the industry, our markets, our performance and our capabilities.

We have concluded that the industry has frequently underestimated the risks associated with large, complex projects. We also believe that the industry is beginning to recognize and price these risks accordingly.

We confirm that the current market demand across the country is unprecedented. Demand for contractors like Granite who have the capability to deliver large civil projects is appearing to exceed the capacity in the marketplace. When we consider the shortage of qualified contractors to perform this kind of work, we believe that this business trend will persist for some time.

Our analysis also confirmed that Granite has fixed base operations in the largest projects -- markets in the country. One of those is in California, where Proposition 1A and 1B were passed in the November 2006 election. These propositions will give Granite a great opportunity to bid medium- to large-sized projects that we would characterize as larger versions of the bread-and-butter work traditionally done by our Branch Division business. A great deal of internal strategic discussion centered on how to prepare for this opportunity, and I will discuss our strategy in more detail in just a moment.

In terms of Granite's technical ability to build large, complex projects, Granite is among the most experienced in the industry. However, our analysis also shows that we have simply been spread too thin on our large projects and our expertise has been spread too thin. Our plan is to focus on a smaller geography and fewer projects.

We are doubling or effort to improve risk management, project selection, project management and issue resolution. I believe that the operational changes already implemented will produce improved results with time.

One change in particular is that we are elevating oversight of our business development function to a corporate level, reporting to our Chief Operating Officer, Mark Boitano. Mark will provide greater oversight of the large projects in our pipeline. Mark will ensure that there is a more rigorous discipline in the selection of the projects we bid.

Another important element of our realignment strategy is to focus more of our activities in markets where we already have a presence. We are referring to these markets as home markets. Home markets are defined as those areas where our local knowledge, local relationships and local resources provide us with advantages that we don't have elsewhere. This has been the cornerstone of our branch business for many years, where our fixed base and vertically integrated businesses have flourished.

In our large projects, we will apply this concept by limiting the pursuit of new projects to areas of the country closer to where we have a presence or an acceptable level of local knowledge, combined with the technical capacity and expertise to perform the work. In order to implement this home market strategy throughout Granite's entire business, we are making the following organizational changes.

Within the next 30 days, our large projects HCD business in the West will begin reporting to our Chief Operating Officer, Mark Boitano. The purpose of this change is twofold. First, it allows our HCD division manager and his team to focus their attention over fewer projects in the East. And second, this is the first step in what will likely be a 12-month process to integrate our large project effort in the West into our evolving Branch Division or Granite West management structure we discussed earlier. Once again, this will be done slowly and thoughtfully.

With the increased opportunity in California to pursue both small and large projects, driven by Proposition 1B funding, we believe the timing could not be better to integrate our large project effort in the West to capitalize on the capacity, people and assets and the extensive and proven management and support structure we have in the West.

Our expectation is that we can maximize the use of our existing assets in the West and minimize our risk profile by properly preparing for medium- to large-sized projects that ideally utilize Company-owned materials. More importantly, we intend to build this capacity by moving slowly in the West so we do not impact our branches' normal project portfolio.

By integrating these two businesses in the West, we believe we can deliver dependable earnings on all of our Western project, as we have traditionally done with all of our Branch Division business. Ultimately, we will report all of our business in the West through our business segment, Granite West, which will concentrate on markets West of the Rocky Mountains.

Once again, Granite West will be comprised of the existing Branch Division and the larger projects business in the West, and will report up through three Granite West Group Vice Presidents we mentioned earlier. Senior Vice President Jim Roberts will oversee all of Granite West.

Outside the West, we define our home markets as consisting of three large project regions -- the Central region, with its regional headquarters in Dallas, Texas; the Southeast region, with its regional headquarters in Tampa, Florida; and the Northeast region, with its regional headquarters in Tarrytown, New York.

These regions will implement the home market strategy that allows them to pursue larger projects where their local knowledge and expertise can be applied to the opportunities in that region of the country. These three large project regions will form the new Granite East, which will report to Senior Vice President Mike Donnino. As I mentioned earlier, Mike's focus, as well as his support team, will be concentrated over a smaller business.

The HCD national projects region will be transitioned into our Granite East and Granite West businesses. This transition will occur as we complete the outstanding projects in our national projects region and redeploy or reassign those available people to Granite West or to Granite East. I am confident that these steps will provide us with an opportunity to work closely with our proven network in Granite West and will focus our management and talent in Granite East.

As the transition will take approximately 12 months, our 2007 financial reporting will reflect our current branch and HCD reporting structure, which will provide transparency. And we will continue to provide the investment community insight into the performance of our large projects, whether those projects are part of Granite West business or Granite East business, for as long as that is important to investors to understand our business performance.

We are forecasting HCD to break even in 2007 and our large project performance to return to acceptable operating margins as older backlog is worked off and the benefits of the realignment are realized.

Before I summarize our overall business prospects for 2007, let me thank all of our people for your commitment and dedication to Granite. I know how hard you have been working, and I want you to know how much we all appreciate what you do for Granite every day. I am confident that all of our employees listening will agree with me that these changes are positive and that you will work with all of us, including Mark Boitano, Mike Donnino and Jim Roberts, to make these strategic realignments work so that we can all be part of a winning team that delivers the financial goods.

I'm very proud that Granite is rated as one of the 100 best employers in the nation, and I pledged to you that I will make every effort to keep it that way. You deserve no less.

In conclusion, Granite is a solid company with great growth potential and great cash flow. Construction services and construction materials will be in high demand for the foreseeable future. Our branch operations in the West are stronger than ever and the business is poised for more growth and expansion.

The California transportation bonds which passed in November will be the engine to power unprecedented expansion of public construction in California. And we are confident that our branch business will perform well in 2007 and benefit from integrating our larger project capacity into the new Granite West.

We have addressed the brutal facts in our heavy construction business. We grew too big, too fast. Our strategic realignment will allow us to slow down and focus our leaders on fewer projects. We will capitalize on our advantages in our home markets and focus our large project business on a smaller geographic area. We will be more disciplined in selecting projects and manage them so we deliver dependable performance. And we will be a much stronger and more profitable company as a result of the changes we are making.

I am confident our strategy to move this business forward is sound, and I am excited about the opportunities I see in the years ahead.

Now I would be glad to take your questions.

(OPERATOR INSTRUCTIONS). Bob Labick, CJS Securities.

A couple questions. First, just on the HCD side, with the last thing you mentioned -- looking forward, you expect a breakeven range for '07. How do you define acceptable margins, and what did you come up with to determine acceptable margins. And what should we look for two, three years from now, when it is running full -- is it a $500 million business at a 10% EBIT? Or give us some framework to think about out in the future as well, please.

That is a good question. I think acceptable for 2007 is breakeven, given where we are. It's not what we would like to see, but that is where we are.

Looking forward, I think what we would expect is that minimum expectations for a business that carries this much risk would be at least 4% to 6% in operating income. We believe that that is achievable. I'm not sure that I can put a timeframe on it for you. But I would expect that we would begin to see incremental improvement every year from here forward.

Great. That's very helpful. Shifting gears over to the branch side, on your aggregate sales, could you give us a rough estimate how much of the production was sold externally? Or another way to think of it is your total capacity production this year, if you have $410 million, I think, was the external sales, what was the production capacity for this year?

From the standpoint of internal versus extra -- this is Bill Barton -- 58% or almost 60% was external, 40% was internal. And as to the -- your second question was about the [capacity]?

Yes, I can figure it out from there with that. And then in terms of the expansion that you mentioned for the quarries going forward, what kind of increase in capacity and what is the timeframe relative to the current aggregate capacity?

This is Jim Roberts. I will answer that. Several of those sources will be replacing current sources. And some of them will increase capacity as well. I wouldn't expect the increased capacity from those reserves for several years down the road. We would obviously think that the markets will allow us to increase capacity by themselves. But it takes years to get those plants online and get them up and running in a mode that provides value for us. So it will be several years.

Last question and I'll get back in queue -- does the new corporate realignment and the downsizing and hopefully reduced risk profile for HCD allow for a change in your capital structure? In other words, will you still need $300 million-plus in net cash for surety bonds, etc.? Or is there an opportunity when you get this to the right size to carry maybe less net cash and redeploy the cash towards either growth or share repurchase, or how should it impact your capital structure going forward?

I think that is an interesting question. There's no question that we do carry cash on our balance sheet for bonding. And I think it does stand to reason that as this business becomes smaller, that requirement will become less, and certainly we're going to put that money to work.

I would caution you, though, that we've got quite a bit of backlog, and it is going to take some time to work that off. And we continue to bid work in our home markets as well. So I would be a little cautious to try to ramp that business down too quickly in your model.

Richard Paget, Morgan Joseph.

Just wanted to talk about sequential backlog trends. Branch looks like it's down a bit sequentially. HCD is up. What is going on there? Is HCD up because of the Missouri project?

Yes, and that includes about 50% of our partner share.

With branch down sequentially, it seems like new orders have let up a bit compared to prior quarters. Is that just kind of a year-end pause where some of the awards were put on hold for a bit?

No, Richard. This is Jim Roberts. You are focusing on the Q4 only there?

Yes.

From an overall year-end standpoint, which is what I would think is the important point to me, is that we are up over last year. And when you look at it on a quarter-by-quarter basis, it can be very lumpy relative to what is [out] to bid. I think that is fairly insignificant.

This is Mike Donnino. That 455 you see in the fourth quarter is predominantly the one project. If you look at the year, we are actually down about 10% from the previous year.

But then again, you have to keep in mind that that does include the World Trade Center.

How do you see the California bonding funds getting let out? Is that activity starting to pick up?

This is Jim Roberts again. We think that initially, our thoughts were that it would probably start hitting the street in the end of the second, beginning of the third quarter. We've already seen some action here already this year. I would hope that we might get a little bit of a touch of it earlier than the end of the second quarter. But we're looking for the third quarter to have a significant impact.

Brian Rafn, Morgan Dempsey Capital.

Maybe a question for Bill -- when you talk about assimilating HCD into the branch business, is that impact going forward the size or the complexity of what you take on in the design-build?

I don't think so. I think what we're trying to do is position ourselves for the opportunities that will be presented by this Proposition 1B money. Certainly that's one of the reasons that we're doing this. And we think this is going to be an unprecedented opportunity. And we think that these projects, which will be primarily Caltrans projects, will be more traditional in their nature.

And if you think about -- I was thinking about this today, actually -- where our branch business has been and where our traditional HCD business has been, from the size of the projects, there is a size in the middle that neither our branches or our HCD have really been pursuing. We think that is where most of this Prop 1B money, or not most of it, but this is where the larger-sizes Prop 1B money will be spent, is on those projects.

And we do not have the capacity inside our branch business to chase much of that at this point. So what we are trying to do is to bring the groups together so that we are prepared for this when it happens.

Could you put a number framing, maybe, that middle-sizes business?

You mean a dollar size?

Yes, just in project size.

I would say greater than $50 -- $150 million, probably. There may be an occasional job larger than that that we would pursue. But our choice would be to stay in that $100, $150 million range.

You also made a comment, too, talking about the -- and I have asked this before, about the paradigm transfer of risk versus business in the late '90s -- was your thought that the industry from the standpoint of contractors did not ascertain or evaluate the risk appropriately? Or has there been a change, maybe, on the demand side from the owners realizing some of the complexities of this work and perhaps negotiating more favorable terms for you?

Maybe Mike can help me out here. But what we have found, and we did a lot of research, not only trying to understand our own situation, but understand the industry and the market as well. And what we found is that we are not the only ones that are having trouble with this large work.

And it is a product of the complexity of these projects. These projects have grown in size. And we are seeing -- really seeing lots and lots of these really big projects out there now. And the owners, particularly in this design-build arena, have gotten pretty sophisticated from the standpoint of shifting risk.

And to be perfectly honest with you, we had some early success, and I'm not sure that we appreciated the risks associated with this work. We are paying a price for that today. We've learned our lesson. That will not happen again.

And I think another thing -- with all this alternative procurement type work, there are many kinds of ownership structures, from the traditional Caltrans, TxDOT, Nevada, the design-build to the CM/GC to the types where the owner has engineer representatives. And as this business matures, the contractual relationships between all those entities gets more and more complicated. And in some cases, that is what has presented the risk. And that risk has been and continues to move back and forth between various parties. So that is an area that we just spend a lot more time and increased our resources to look at.

And I'll ask one more final -- going forward, what is your thought relative to developing new branch satellite locations? And then what I also assume that when you were to developing new branch satellite location that you'd develop the branch business first before you'd put in HCD business in that area.

This is Jim again. Good question. We've really got a focused environment in the West on this geographic expansion. The branch type models will be driven now, the expansion will be driven by these operating group people in each of the market areas themselves.

And I do think you are right, we will lead this expansion with a vertically integrated business, with the materials as the source -- the core of it. And then we will expand into our standard branch business. Once we get comfortable in a market area, we would seriously consider bidding some larger work as well. But we would start with our core business.

And then for us non-engineering geological types, this unknown landslides thing on Oregon US 20 -- is that something that was relative to the bedrock or the stability of the base of foundation of what you were building? How does that impact -- what do you have to do, I guess, to mitigate that?

This is Mike Donnino. In the very simplest of terms, in the basic landslides, it amounts to taking out unstable material and putting back in good material. In the case of some of these, they are massive in size and could amount to hundreds of thousands, up to 1 million cubic yards. And in some cases, they are so big just excavating them would take them off the right of way of the project. So other even more expensive means of dealing with those landslides are being looked at.

Rich Wesolowski, Sidoti & Co.

Bill Dorey, it sounds at least part of the restructuring in the Branch Division was an attempt to handle larger projects coming out of California. Is there any difference in the characteristics of the projects in the branch and the HCD or maybe rather in your bidding, your execution strategies in these two divisions, that has enabled the branch to avoid the type of writedowns we have seen in HCD?

And if the answer is no, what can you say to shareholders to give them the confidence that the operational issues aren't going to spread into the branches?

That is a good question as well, Rich. Let me address the organizational realignment first. There's two reasons for what we have done in the West. The first is our business is growing. It has grown a lot, as you can see in the last two or three years. We expect it to continue to grow. And we needed to build a structure that would support the larger business. So that is a big part of why we are realigning into these three groups.

The second part is once again to prepare for this larger work. I think I answered one of the questions earlier relative to the size and nature of the projects that we think we will be pursuing. I think they are considerably different than, for example, the SR-22 down in Los Angeles.

The people we have in both of our divisions are good. These people know what they are doing. And we have suffered through I think a difficult period, to some degree because we underestimated the risks associated with some of these larger projects, particularly in the design-build arena. And we will get our arms around that. We will allow these people to be successful. We will put them into situations where we can be successful. And these projects will perform -- I can assure you of that.

This is Mark Boitano. Let me also add a little more color here around our home market situation. And the one primary difference that you will see is the fact that we will be dealing with owners that we understand and workforce capabilities that we understand in markets that we have considerable experience in. And that may be a large defining factor in our ability to be successful in this work. So that in itself does separate somewhat the approach that we have had in the West up until this time as opposed to where we are going forward.

Let me add to that again. It is Jim. I think we can also utilize the facilities that we have today to a greater extent and get a better asset utilization by incorporating this large work as well, as long as it is done in a fashion that is very, very similar to the work that was smaller [today].

And that is our intent going forward, is that we have the same level of discipline, the same approach towards the work. And the work is really the same type of work that we do today, just larger in basic nature. So I think there's a really, really methodical step-by-step process that we intend to use as we pursue this type of work.

If the California government is successful in getting approval for a wider range of the jobs coming out from 1B to be on a design-build basis, does that at all dampen your appetite for the work, or maybe your ability to compete for it?

If you're asking -- if I understand the question, you are suggesting are we interested in design-build work in the West -- is that the question?

Does it all affect your -- yes, I guess you summed it up pretty well.

I think the answer is yes. We have built an expertise. We have learned a lot over the last two or three years and we've paid a price for that lesson. But we have learned it, Rich. And I think that it would be -- I think yes -- the answer to that question is yes. We would be interested in that in the right kind of job and the right location, and as Mark said, with the right owner.

Michael Dudas, Bear, Stearns.

How much of the current year-end HCD backlog -- what is the timeframe of the workoff over the next three to five years? And the projects that are in the backlog currently -- are they all being scrubbed to these minimal margin expectations? For example, the World Trade Center project -- would you attack that differently now than you would have six to nine months ago? So the rolloff of the backlog and how you are going to attack the big project market differently now that you have this new organization?

This is Mike Donnino. I think I heard a couple of questions there. The first one with regard to the burnoff -- we've got about $1.5 billion in backlog. I think as we have said, about $800 million of that would be burned off next year. And then it's just kind of a rule of thumb, it is almost 50% for every following year. So 2008, it would be $300 to $400 million. The year after that, it would be $150 to $200 million, but of course you would be booking new work that would be adding on to that.

As far as the condition of the backlog, and I think we talked about this last quarter, the work that has really hurt us, and we have really seven projects that have plagued us all year, and they amount to almost 80% of the losses that Bill mentioned earlier, that $170 million -- they amount to about $140 million of that.

By and large, those were started in the years 2003 and 2004. And that backlog is down to about $225 million -- is not carrying any appreciable margin at all. The rest of the margin for the work started in 2005 -- about $350 million in backlog has margin in it. And then the stuff bid in 2006 is closer to our bid margins that we went into the projects with.

And Bill Dorey, how different is Granite going to look as a company in 2008 than maybe you would have anticipated five years ago? Is it a function of the fact of the pretty strong recovery in your branch markets and the propositions and the amount of work that is going on that is leading towards maybe a little different mix of Granite than maybe you would have thought about five, six years ago?

Well, I think the Company will be bigger. I think that is for sure. We do continue to grow. I am, frankly, always amazed at what our people do to grow this Company and take advantage of the opportunities that are out there. Typically, we build the work that the public agencies put in front of us, and we try to prepare ourselves to do that. That is our bread and butter.

I think looking out, if I look forward five years from now, I would see this -- I would see a very robust and successful business in the West that has made the transition, incorporating the larger work in with our traditional smaller work in the West. And I would see a recovered and maybe more focused, but recovered large project business in the West, or in the East, excuse me.

And maybe I can follow on to that. You were asking also what it would have looked like five years ago looking towards today. And I think what we are doing is part of our natural evolution of the business. To be honest with you, there was a time here 10, 12 years ago when the suggested reorganization that we have placed in front of you today was a topic of consideration at one of our major management meetings. So this is not something that just has come to front in terms of what is happening in our markets in recent time and our success in our large projects. But it has been something that we have been thinking about and the time here has been right to get this to happen. So that is kind of the rest of the story.

[Tom Brinkman], Davenport.

Just a follow-up question to that last point. One of the larger projects in your backlog, of course, the World Trade Center -- you mentioned how these design-build products projects have gotten more complex and more difficult to carry out. That is going to have to be a spaghetti of existing utilities down there. How much of the backlog is represented by that World Trade Center project? And would you still be interested in it today, going forward, that type of project?

First, the World Trade Center project is not design-build per se. It is a CM/GC construction management. And at this time, we have only booked I believe $200 million of that project as a team. And so in our backlog it's 20% of that or something. As the project moves forward, work packages are developed and are negotiated and priced with the owner. So those work packages going forward ultimately are compiled into what will be a GMP for the entire project. But that process takes a fair period of time.

And also, you mentioned in your Branch Division that you see it as sustainable or growing in terms of its profitability with the California bonds. Does that include the profit margins, the operating margins you have been achieving? They have been very impressive. I'm just wondering if that is sustainable going forward.

That is a really good question. This is Jim Roberts. I can just tell you that what the Branch Division and the people out there that are listing have done is, in my personal opinion, just phenomenal. And I would hope to think that those markets are strong. We believe the markets are strong. We believe that our position in the markets is strong. And we are comfortable that as long as those markets stay strong, we are going to have a very healthy business in the West.

Can we keep and maintain at those levels? I hope so, because I think that it is a tremendous opportunity for the Company to continue to build off of. And I do think the levels are very exceptional in our industry. But I think our people have the ability to continue to do so.

I would caution you, though, from the standpoint of taking your model based on what we did in 2006 and just continuing to ramp it up. I think that would be -- we made a big jump in our performance in 2006. We need to be careful -- you all need to be careful and just appreciate that.

Thank you for clarifying that, Bill. I appreciate that.

(OPERATOR INSTRUCTIONS). John Rogers, Davidson.

The branch operations obviously did great, but just coming back around to HCD again, I hate to keep trying to figure this out, but is there any evidence that some of these changes that you have been trying to put into place for the last couple of years -- because the results here have really deteriorated for awhile now -- are you seeing any tangible evidence that there's projects that you are booking that you are getting the improved margins?

Maybe I'll take stab at that, Mike, and you can step in and help me out. I have been thinking about that question because I frankly assumed someone would ask it. And I could click off four or five of our recent projects that we think are going to be pretty good. Some of them we are into now. Some of them we have reached the 25% threshold. We are starting to report some income. I think we've got some pretty good work in our backlog that will begin to show up in 2007 and 2008 in particular. And it gives me encouragement that the changes that we have been making will result in improved performance.

And Bill, you are far enough into these projects that you are actually seeing signs that there is that profitability?

Yes. It's not as if we don't have some problems on work, don't misunderstand me. It's not all beautiful; you can see that from our results. But clearly, some of the more recent work is performing well.

John, this is Mike Donnino. I would like to add to that a little bit. And I think we have broken this out for you in the past, but right now we are tracking 33 large projects that are in our stream. The ones that are close to completion have fallen off. And 14 of them are the earlier projects. Seven that I mentioned earlier today are the source of about 90% of our issues this year that are about $390 million of that $1.5 billion. The other -- there's 19 other ones that amount to about $1.1 billion that are profitable projects.

So I think the answer to your question is yes, we do see proof of that. But frankly, we are a little hesitant to start blowing our horn yet with the news we've had to give in the last several quarters.

And the other question I had is can you give us a sense, I guess, on a pro forma basis, what is the revenue mix now of Granite East and Granite West?

Well, I think probably the easiest way to answer that question is to tell you how big our HCD Western business is.

In general, at least going forward from this point on, if you look at, say -- well, this year it will all be reported as usual. But going forward in 2008, I think about 20% of that backlog will fall into Granite West. The other 80% will remain in Granite East. And of course, depending on what projects get picked up during 2007, it will change that mix slightly.

And then just lastly, in terms of the claims and reserves that you have got out there, any sense that there's any of possibility of any resolutions on that anytime soon? I know you don't -- wouldn't give us a magnitude.

John, there's always -- we are working hard at the process of recovering what we can. Unfortunately, there is no way to target particular timeframes. These things can get very protracted and drawn out or they could be settled on a fairly easy basis. It really just depends on the situation on each particular job. So while we think we've tried to capture what that looks like, we would be real hesitant to try to put it in a particular timeframe for you at this time.

But were there any significant recoveries in 2006?

We had one that amounted in our behalf just under $10 million.

And we had several smaller ones that resolved during the year.

Okay, but still pretty small relative to the --

Well, relative to the size that is outstanding, it is still fairly small, yes.

And gentlemen, at this time there are no further questions.

Well, we really appreciate your interest in the Company. We know it's late back on the East Coast. We appreciate you all listening in. And once again, for all the employees that are listening in, I can't tell you how much I appreciate the hard work -- I know it has been tough in some parts of our business. In other parts, it's just been just great fun. We appreciate the hard work that everybody brings to the Company every day.

So I'll wish everyone a happy Valentine's Day, and we will be around if there's further questions for the rest of the day. Thank you.

This concludes today's teleconference. We thank you for your participation. You may now disconnect.