雅各布工程 (J) 2003 Q3 法說會逐字稿

Good day everyone and welcome to the Jacobs third-quarter earnings conference call. (CALLER INSTRUCTIONS).

Today's presentation will be available for replay at 2:00 PM Eastern time through July 24th at midnight.

You may access the replay by dialing 719- 457-0820 and entering the passcode 407660.

There will also be a webcast of this teleconference which can be accessed by logging onto www.Jacobs.com.

At this time for opening remarks and introductions, I would like to turn the call over to Mr. Jules (inaudible).

Good morning.

The Company requests that we point out that any statements that the Company makes today that are not based on historical facts are forward-looking statements.

Actual results may differ materially.

Information concerning facts that could cause such differences is set forth in our form 10-K for the period ending September 30th, 2002 under the heading Forward-looking Statements.

The Company undertakes no obligation to update publicly any forward-looking statements whether as a result of new information, future events or otherwise.

Now John Prosser, Chief Financial Officer of Jacobs, will discuss the third-quarter results.

Sorry for delay.

We had a technical problem getting the webcast onto the feed.

So I apologize for being a little bit late, but we will move forward on this.

I will be giving the financial highlights, and then I will turn it over to Noel Watson, CEO, to go through the business activities for the quarter and the outlook.

As you all saw on the press release, the earnings for the quarter were right on target with EPS of 58 cents, up 16 percent from a year ago, and earnings were up 32.9 million, up 18 percent.

This was a very good quarter for us, in spite of what looked like flat revenues.

We were able to have very good performance on our cost side.

The G&As were down about 2.25 percent or 2.4 percent from last quarter.

Overall things were right on target.

If you look at our backlog, it remains strong.

The activity is still good, and Noel will spend more time on that, and I will spend a little more time on that in a minute.

Another good positive for the quarter our net cash increased by 36 million.

When we talk about net cash, we are talking about just cash less debt, and the components for the debt were actually down about 3 million and the cash was up about 33 million.

So overall it was a very strong cash performance again.

We continue to generate good cash flow.

Our guidance for the quarter and for the year remained the same.

The street range is $2.26 to $2.30.

We still are guiding in the middle of that range, and that is right on track for our 15 percent growth and also looking at next year continuing on that same target.

If we move to the next slide, this is our history of consistent growth.

We won't really comment on it , other than it is something we are very proud of and continues to be a very good record for us.

Turning to slide six on the professional service backlog, that was up slightly from last quarter, up about 10 percent from a year ago.

Total backlog was down a little bit from last quarter at about flat from a year ago.

But the sales for the quarter were still fairly strong.

We did have, as we put in the press release, there was about 110 million that we took out of backlog related to some procurement activity that we originally were going to be performing, and then as we went through the design on those projects, the clients decided to do the procurement themselves.

This has very little impact on profitability because most of that is just pass-through (inaudible).

We're just ordering and paying the bills for the client and passing that through the client.

The other thing that was in the press release that was a strong award for us this quarter but did not in up in backlog was the New England Turk (ph) which we had press released earlier in the quarter and then subsequently found out that there was a protest on that.

We continue to have discussions with the core, and we would hoped to have that resolved sometime in this quarter as to what the outcome of that will be.

So with that, I will now turn it over to Noel Watson to discuss the quarter and our business outlook.

Let's go to slide seven and our strategies to maintain 15 percent growth, and we simplified this slide a little bit this time so that you don't hear the same presentation over and over again.

Although much of what we say will be same because not much has changed.

We will remain committed to our business model.

We're going to focus on selected market diversity.

Our balance growth will continue, and we are on the acquisition trial, and I will talk a little bit about that.

On slide 18, which discusses our unique relationship based business model, we have got a couple of pie charts here on the left-hand side as what we perceived the Jacobs model is.

And on the left-hand side is the Jacobs model, and on the right hand side is what we perceive the industry model to be.

75 to 80 percent of our business comes from preferred relationships.

In these preferred relationships, we have about 40 clients generating about 75 to 80 percent of our gross margin.

These are typically long-term relationships.

Some are formalized in the form of contracts.

Some are just ongoing relationships that go project by project.

Some of these are exclusive, most are not.

Many of our clients, particularly our large clients, prefer to have a couple of suppliers in the same area.

But, nonetheless, then they will end up splitting the pie between two instead of going off to bit every time.

So we've got about 80 percent of our business in this preferred relationship model.

We then have a piece of business, about 20 percent, this is what we called discreet projects.

These are individual projects for clients, many with whom we worked more before, but with whom we do not have a long-term relationship.

We take these discreet projects to make money, to keep people busy and also to add additional clients into our preferred relationship methodology because you have to start somewhere with the client.

So we would always have 20, 25 to 30 percent of our business in discreet projects because we are always going to be seeking out new clients to add to our preferred client relations.

Then occasionally we do a transactional project, and when we talk about transactional we are talking about competitive lump sum bid on the construction side of the business.

We rarely do this.

We don't every really want to do it, but once in a while we do it, maybe once or twice a year on small projects.

If you move to what we perceive a standard industry model is, you will see that the industry also has preferred relationships, discreet projects and transactional projects.

But generally most of our competitors do far more transactional work than we do, and some of them do it extremely well.

We believe that you have got to marry one form of business, and that is why we have married and stick very closely to the preferred relationship model.

It does give us a high percentage of repeat business.

It is one other things that allows our consistent earnings growth because we don't have big winners when we work like this, but also we don't have big losers.

We believe the risk is very manageable and controllable.

It's not like there is not any risk because there is always risk in business.

But when you are working with the sign client day in day out, year in year out, you do understand the risk posture a lot better.

Moving on from that since most of you have heard that before, the selected market diversity breaks down how the revenue stream broke down both in 1992 and in our trailing twelve months.

You can see that we have moved to a much more diverse line of business mix.

Of particular interest here, is if you go back into 1992, 67 percent of our business came from petroleum and chemicals.

Today it is 20 to 35 percent.

Other things on here that are significant are the pharma bio portion which barely existed.

Ten years ago, billings and infrastructure, which infrastructure particularly did not exist ten years ago.

So what we have been able to do is add several segments to this pie to give us a much more diverse mix.

This allows us to have stabilized individual operations.

Every one of our operations operates in more than one line of business.

That allows them to work with the ups and downs of these individual business cycles.

And then, of course, it does reduce the overall cyclicity of the total company.

If you move onto the next slide where we talk about balance growth, this will allow you to see that going back to 1992 again, that even though 67 percent of our business in '92 was chemicals and petroleum and today it is only a little over 35, we have a lot more business in those two areas.

So we have not moved away from those two areas of business.

What we have done is add significant other areas to the business.

This has allowed us to be very balanced in our growth and allowed us to have a very diverse operation, which also helps keep those earnings very stable.

If you move to slide 11, you remember for those of you that have followed the stock for sometime that we had a rash of acquisitions which ended about 24 months ago.

At that point in time, we told you and we told the world that we had all we could handle for the time, and we had to spend time getting those acquisitions integrated, getting the cultures consistent, making sure those acquisitions were growing and also paying down our debt so we had some cash.

Well, all of those goals have been accomplished in the last 18 to 24 months.

So we are in the acquisition market again as we speak.

We don't have anything to talk about specifically today, except that we are looking, and we are looking in specific markets.

A specific market could be we want to be big on the infrastructure business, we want to be bigger in upstream oil and gas business.

There are other areas that we would like to increase our breadth and depth in.

We look at very specific clients and see is there some ways we can access certain clients and lines of business through an acquisition.

And, of course, we are always looking at geographies.

A look at geographies 10 2 anticipate where these 40 core clients are going to do their business in the next five years.

If we have got a small group of clients who are going to go to a place where Jacobs does not have a business presence, we will tend to go that location and try to make an acquisition.

This could be a part of North America, but more often than not, considering our breadth in North America, it would be in some overseas country where we've got a group of clients going, and we can anticipate where they are going, and we try to get there before them.

Most of our geographic diversification has come through acquisitions but not always.

We went to Ireland many years ago with brute force, and we are in Singapore today on brute force, just building our operations based on the back of all that pharmaceutical work we have done out in Singapore over the past 36 months.

But we are in the acquisition market, and I just wanted to let you know that.

If we move to slide 12, and here we have got our strong markets.

These markets have been the same five strong markets for better than two years now.

The petroleum market continues to be robust.

We are doing a lot of work in North America.

We have got a lot of work in Europe.

We did a lot of work on clean gasoline, and that work is about 70 or 80 percent complete as we speak.

There is still some construction activity going on that tends to be winding down.

We have now moved into sulfur removal from diesel and other types of fuel, and that work is just getting started.

We are on the front end of several major contracts in that area, none of which have been press released to my knowledge because our owners in that area have been very reluctant to improve press releases.

I cannot give you the logic, but that is the fact.

I think the issue is the petroleum business remains good for Jacobs both in the U.S. and in Europe and also in India where we have got a couple of nice sized refining jobs for the Indian refineries.

The pharma bio business remains very strong.

We continue to have new drugs in the pipeline, and that is driving a lot of new construction activity.

We also are seeing a lot of regulatory activity on the part of the FDA, forcing many of these pharmaceutical clients to spend a lot of capital to improve how they do their operations and ensure that everything is done to the best manufacturing standard possible.

So those two activities by themselves are creating a really solid market in the pharma bio business, and we have a very strong position there, and we continue to get new work every week.

Infrastructure probably went through a lull for everybody about nine months ago where the problems of state funding and all that became very critical.

Those problems have not gone away, but there are more projects being let and competed today than there were nine months ago.

There is still a lot of the money restraints at some of the state levels, although our federal government has stepped up to the table and is spending a lot of money in this area.

What we see here is a lot of activity coming at us.

We still continue to sell more work than we work off.

I will not say the market is as robust as it was 24 months ago, but it still a very good market for Jacobs both in the U.S. and in the UK and western Europe.

Our primary operations in Europe are in the UK, and they went through a low point when their rail situation got in trouble about 18 months ago.

Most of that has been resolved now, and we are winning work at a steady pace in the UK again today.

The buildings business, again, a lot of this is public buildings; it is high-tech buildings.

It is anything from research hospitals to jail houses.

We do design, we do project management, we do construction management.

The business remains strong.

It is probably somewhat affected, again, by the funding restraints operated at both the state and the local level.

But we do continue to sell more business than we are working off, and our results this year are better than they were last year.

So it continues to be a growth business for us.

Defense, on the other hand, is very robust today.

Defense budgets are up.

We had the war, we have got a lot of activity going on; it all ties together.

We have been very successful in this area as you will see a little later when we go through one of these slides, but I would say that generally the defense business is stronger than it has been, and we anticipate it to be stronger yet.

We are being very successful in this business.

We have three markets that are not so good, and they are not listed here, chemicals being one.

It has always been a strong market for Jacobs, probably always will be.

It has been in one of the most prolonged downturns we can remember.

There are some signs of life.

It will come back.

It is certainly not going to come back in '03.

I originally thought it would be back at the end of '03.

I don't believe that today.

We are optimistic we will see real signs of life next year, but time will answer that.

We've got the pulp and paper business which is the same way.

We continue to get work in the pulp and paper business, but nobody would call it a robust market.

It is a very depressed market today.

And then, we've got our high-tech group work, primarily semiconductor work as you look at it, and that has gone through a very low point.

There were not very many awards coming for about a period of 36 months.

Certainly the semiconductor companies, if you look at their data and you look at their profitability, is up.

We are optimistic this is going to translate into new projects here in the not too distant future.

We are chasing some work right now, but this market still remains recessed or depressed if you will.

But I think this may come back faster than any of us think.

We put new slide on this quarter that had major wins in it, which is slide 13 or 14.

I thought it might be worthwhile just rolling through these so you understand a little bit of what happened.

First of all, we have the good fortune to be able to press release most of these which does not usually occur.

So we are talking about ones that have been press released.

We have got the (inaudible) win, which we got I think on June 30th.

It is the largest professional service contract of the military we have ever received and one of the largest probably ever led.

It is a twelve year contract.

We have been working down at Tennessee.

This is the largest development center in the world, and we have been working down there for fifty years, so this was a rebid.

They did a contract consolidation.

It was a very difficult rebid because we have been there so long.

They have been looking for a lot of new ideas, but we were very fortunate to rewin the contract.

This does not have a major impact on our backlog while we press released numbers at 2.7 billion because that is what the Air Force did.

This is a joint venture of which a little under 60 percent is ours.

We are the managing partner, and those revenues will go through our books.

But because it is an O&M contract by definition, we only backlog one year at a time.

So it had very little impact on our backlog, but it sure had a lot of impact on our future.

The same is true for ONEgas.

It was a big upstream contract for Shell in the Netherlands where we are part of a joint venture.

This time we are not the managing partner, but we have a nice piece of the engineering.

It is a long-term contract.

It is similar to other work we are doing in the Netherlands.

It was a hotly contested procurement that we won.

None of this was put in backlog because that was won very early in this quarter.

I think we announced this last week.

And then John briefly talked about the New England Turk (ph ).

A $240 million contract.

We were notified of the win.

We signed the contract.

The protest evolved.

We decided not to put any of this in backlog until the protest got resolved.

We think that is going to get resolved very shortly.

People are working on it as we speak, but we decided discretion and valor, we would just leave it out of backlog for now.

Once we get resolved it and we know exactly what it is, we will put it in.

We won the job at Stenese (ph) that had a piece up at marshal for NASA.

It was a really neat win.

This is a win where we went in, and we just took work away from somebody else.

Again, hotly contested in the government arena, and when I talk about a hot defense market, I know NASA probably doesn't want to hear this, but I lumped NASA into that crowd, and they will probably fire me once they heard me say that.

But when I am looking at it, I am looking at that kind of work, and we have been doing very well there.

Plus, there is a lot more work to come.

There are several major procurements coming down the pike for both the military and NASA that we think we can compete and compete well on.

We had a big program management design contract with the city of Tallahassee, long-term contract.

That came out of our civil business.

That has got a long-term flavor to it, and the last one on it because I came out of the minerals business is particularly near and dear to me, it is a phosphate contract for OCP in Morocco.

OCP is the largest phosphate manufacturer in the world.

I guess we have been over there chasing work for the better part of 20 years.

Because we have some unique specialized phosphate technology, and we won our first small contract about two years ago with a lot of help from our ambassador over there in those days.

This time we just got the work straight up.

It is a nice job.

We got the design, and we have got the technology in.

It is a very good contract.

The message I am trying to leave with you on this particular subject is we think sales results for last quarter were very good.

I don't think there is any question about that.

I think when we end the year out, we are very optimistic that we will be pretty close to our plan for the year except in a couple of instances.

And, of course, our plan always has built-in a lot of growth to it, so we feel pretty good about what has gone on in the sales arena.

I think I told people we think our sales process bottomed about a year ago. (inaudible).

Well, I am not going to sit here and tell you the market is bubbling because it is not.

It is tough out there, and it is very competitive out there.

I think what I am trying to say is we feel very good about our successes over the past quarter.

If we go to slide 14, we have got investor appeal here.

We have got our unique customer business model, and I went through that in detail.

But the thing about us is everybody has some relationship-based clients.

What Jacobs does is we make that our business.

We are not off into doing other work, and we are certainly not into transactional work, and we are not out bidding lump sum construction in faraway places.

That is just not what we do, and we don't know how to do it, and we don't want to do it.

Plus, it comes up with big risk and big reward which will not create a stable earnings stream, so we just shy away from that work.

We have diversified markets, geographies and services.

We've got a lot of this.

We are in a wide variety of countries.

We are in a wide variety of lines of businesses, and we provide an array of services, and we try to sell these to all the clients.

It does give you strength.

The balance sheet is good.

There is no question about that, and our hiatus on acquisitions over the past couple of years has allowed us to really strengthen the balance sheet, and having 35 or 36 million of cash improvement over the last quarter is very very good, and we are very pleased with that.

It does put us in a very strong position, and we continue to tell you and the world we are going to grow the business 15 percent a year at the bottom-line.

That is our goal; that is how we want to be judged.

With that, I am going to quit and throw it open to questions.

(CALLER INSTRUCTIONS).

Michael Dudas, Bear Stearns.

Good morning, gentlemen.

First question, relative to your comments on acquisitions, now that you are a bit more -- it appears to be more serious looking at these opportunities.

Could you give us a flavor -- I know they are across the board, but size, the amount of bodies you Are looking at -- is that more -- is it the backlog?

So we get a sense of how aggressive you are because, again, two years ago you guys were pretty opportunistic in some of your buys.

Is that the same type of flow we may see over the next twelve months, or will it be one major one, like say (inaudible) three or four years ago?

Well, all of the above apply.

We are looking at everything from a small consulting company to things that are bigger.

Again, I think we believe very strongly that there are several different kinds of acquisitions that will make us a better company.

We have got to find somebody that wants to sell, and they have got to want to sell or else we cannot afford it.

We cannot beg them to sell, or else the price will get too high, and that is the worst thing you can do in one of these deals is pay too much.

We are not bottom fishing.

I don't mean to imply that, but we do need to find somebody that is interested in selling, and it has fit.

The culture has to be right.

We are not going to go in and change the culture.

The culture has to at least to be some kind of a match for Jacobs that we can make work.

It has to be in an area we want to be either geographically or technically.

We are having several conversations at this time.

None of them have progressed very far because we are just early back into the acquisition hunt because we did stop this for almost two years as we focused on integrating what we had because we had because we had too much on our plate 18 months ago.

So it will be a while, but it is everything from smallish to we would an acquisition.

I think maybe to answer your specific question, Mike, we would do an acquisition the size (inaudible) again.

We probably would not go much bigger than that because I think we now understand how the integration of these things go with the various cultures, and the more hedge that you have, the more bodies you have, the more integration difficulties you have, and (inaudible) was an extremely successful deal for Jacobs, extremely successful, and for the people and for the clients, but it was a lot of work.

So I probably beat around the bush, but that is my answer.

One final follow-up.

Noel mentioned in his comments about the competitiveness, everything is hotly contested.

Can you give more flavor on that?

Are the different competitors trying to get to this opportunity, or are some of the similar ones or some of the ones that have been more financially impacted having less of a (inaudible), or are they being more aggressive because they need to get some backlog?

It really varies by market.

If you look at some of these things where the public sector procurements, where frankly anyone can play but not anyone can win.

There is a lot of intense pressure on the public sector procurement against strong competitors.

We had a slate, for example, at ADDC (ph) that consisted of some of the best people who could go after that work, and winning that rebid was very challenging.

But we were able to do it.

If you move toward some of the more private sector markets, things like pharma bio, there is still more a function of who has the talent to do the work.

The number of competitors remains pretty limited. a couple of big players who's names you know and then a fair number of small local players for local projects.

So it varies across the board.

But I would not say that the level of competition for the private sector work is significantly higher than it has been over the last year or so.

In the public sector, the intensity level is very high.

Can we read any with regard to whatever the margin that you are marking up on the opportunity, could we see some flowthrough issues relative to that "competitiveness"?

I don't think so what we're finding in most of these procurements still is that they are best value procurement.

The real focus is on the level of business development energy you put into it, the level of relationship development, and how the government values your proposal.

The low-priced kind of procurements are still things we are awaiting pretty strenuously.

Sanjay Shrestha, First Albany.

Just a couple of quick questions guys.

Obviously the technical professional services was up again year-over-year, but can you give us a little more color on the decline in your total backlog, especially your field services?

What was really the winding down of the construction?

Which particular segment of the business was that?

Well, two things wound down -- three things wound down actually.

We wound down some pharmaceutical work.

We are in kind of hiatus between getting a bunch of big stuff done and getting a bunch of big stuff started.

We wound down a big semiconductor job, I mean a big semiconductor job.

And we have had some of our clean gasoline work come to an end.

So we are in a hiatus point between gasoline and diesel in the oil business.

Pharmaceutical is just luck of the draw.

All the work in Singapore wound down.

The job we had in Ireland wound down.

We have got a bunch of work going on, but it has not replaced that revenue stream.

Although the professional service side of it is bid very busy, and the semiconductor thing that wound down -- some day one of those will come back, but there is nothing immediate going to replace that in terms of the total revenue.

If I go look at the professional service side of the thing, there are a couple of things working here.

We have increased that backlog, and of course, that in the end will generate a lot more construction revenues before it is all over.

The second thing we have done is over the course of the past 18 months we have shut down a raft of small offices.

They were not making any money, but that took revenue out but it did not take profit out.

In fact, I think if you look at our numbers, the profitability is up a little bit.

We probably took between 5 and 6 percent of our capacity out by just closing offices or selling off pieces.

We sold off part of the (inaudible) in Africa, and we closed a bunch of offices and infrastructures.

We closed in office in Germany, stuff like that we did.

We actually took physical revenue, particularly pro-service revenue, off the books, but it has helped our profitability.

So we have done things like that, but that is just part of the normal routine of business.

We probably have more of that in the past 18 months, and again that is part of getting some of these acquisitions in tow and getting them acclimatized and adjusted into Jacobs.

Again, people ought to be focusing on the the technical professional service for you guys anyway.

Since that was up about 10 percent year-over-year, did that include a lot of they are moving sulfur out of diesel related work, or we are actually going to see a lot of front and design engineering work related to that in the fourth quarter and maybe in the first quarter of 2004 for you guys?

Somebody correct me if I am wrong, Tom?

Most of the diesel projects are still in the front end, and the detailed (inaudible) and construction has not been backlogged yet.

Actually you guys were talking about maybe some opportunity coming up from the chemical (inaudible), maybe beginning of '04 or something like that.

Can you comment on that a little bit?

Is there any change one way or another at this point?

There is not a lot of change.

It is still slow.

It seems like the chemical companies -- I have not looked at their numbers this quarter, but it seems like they have been doing a little better.

The gas prices sure are not helping them much, so it's giving them all heartache.

But they have been able to raise their prices significantly.

But while we have some bubbling activity going on, there is nothing clear about when that is going to rebound.

I am still optimistic about sometime next year.

That is fair.

Two last questions.

One, an update on the opportunity on the Canadian (inaudible) market, and two, for you to get to that 15 percent kind of an earnings growth for fiscal '04, would you actually need to close an acquisition before that?

I don't think we need to close an acquisition to get to 15 next year.

It would make life easier, but we cannot go on forever with internal growth.

We cannot grow this business 15 percent a year internally.

It is going to always be a mix of acquisitions and internal growth.

That has been your strategy anyways.

And that has not changed.

On the (inaudible), there has been a little hiatus up there, but there is a lot of work bubbling along.

We are doing some front-end work.

I think the people in Canada are pretty optimistic.

They were all very worried that when the Canadians signed the Kyoto Treaty, it was going to kill the (inaudible).

I don't think anybody thinks that now.

I think that was a bunch of furor over nothing to be honest with you. (multiple speakers) -- long-term, it will be a good market.

Alex Regal (ph), Friedman, Billings and Ramsey.

Could you quickly comment on your gross margins improving from fiscal second-quarter to the third-quarter as well as on a year-over-year basis.

And then also comment on your SG&A as a percentage of your revenues which has picked up sequentially in year over year as well?

A number of things play into both the gross margin and percentage and the G&A percentage.

With the field service revenues coming down, that has an impact and the mix changing has an impact on the gross margin more than on the net margin.

With the revenues down a little bit and the things that are down and a lot of procurement and pass-through costs that don't impact the overall gross margins that much, so you'll always get a little bit of mix.

The G&A percentage has the same impact with the revenues falling a little bit, but our G&As were actually down sequentially by close to $3 million.

But with the revenues down, the percentage popped up.

But if you look at our net margin, our operating margin, that has actually shown an improvement, and it has been improving over the last few quarters, and I think some of that has come from what Noel had mentioned above the closing offices that have been marginally not as profitable.

Some of the others are taking some business out that added revenue and added a little margin but did not add a bunch of operating margin because of the local cost and such.

So there a number of things that add into that that contribute to the changing mix and can have an impact quarter to quarter that will show up -- the trends will show up better over a longer period of time.

On to follow-up on that, would you anticipate the gross margins to continue to improve over the next couple of quarters, and which direction would you expect your SG&A and the dollar value as a percent of revenues to go over the next couple of quarters?

The margins, I think, will continue to go up modestly.

The G&As probably are going to stay pretty flat on an absolute dollar basis.

Barring any deal of some kind, I would say the G&As are down.

We will work them hard this quarter, which is always a difficult quarter in the summertime, and the fall quarter is always very easy because of all the holidays at the end of the quarter.

So they will be down next quarter.

They will be down first quarter of next year, and they will be about flat this quarter.

John Rogers, DA Davidson & Co.

Good morning.

Just following up a little bit on the margin question, has there been a change, too, in your customer mix to get especially to that, I guess, about 14 percent at the gross level, at least what is flowing through?

I understand what you said about closing some of the less profitable offices, but I guess what I am wondering is, is that margin level sustainable before acquisitions?

Well, again, we don't look at the margin versus the revenue because the revenue are (inaudible) for us.

They come and go with pass-through costs, with purchasing, with things like that that carry -- some of which carry practically no gross margin or profit at all, some of which do.

But we struggle with that.

I think the margin level against the pro service stream and the margin level against the hours build in the system has been modestly ticking up over the past twelve months.

While I have not looked at the curve for the last quarter, for the last four quarters before that, the dollars per hour just on the run-rates that come out of the multipliers and the steady-state business have been modestly ticking up to the tune of 3 or 4 percent over the last year.

I would expect to see that continue for a while.

Of course, you have got a little bit of inflation effect going in there, so that tends to work.

But I think we are running the business actually a little bit better.

We are not going back to what Craig said earlier we are not having to hammer our pricing right now.

It is not that it is not competitive, but we are not doing a lot of bottom fishing to get work.

One other additional thing.

With the field services coming down on some of these major works and we are kind of in a lull, you will not see any major change until we start seeing more construction build up.

As we move into the field on the diesel and as we move into the field on some of these upcoming pharmaceutical projects, you will see raising revenues and a little bit lowering impact of the gross margins, but that will not translate to much change in the operating margin.

I will give an example for all of you on the phone that is probably worthwhile.

We sit in a large government contract -- I am not talking about EEC now, but I'm talking about one of our other large government contracts where we are in joint venture -- where we show absolutely no revenue through the books because of the way the joint venture our accounting is done, and we are the minority partner.

And yet it is probably our most profitable job on an EBIT kind of basis year in year out, but every dime of revenue we get goes to the bottom-line because of the away the accounting is handled.

So those are the kinds of things that happen between our revenue and our gross margin and our EBIT that get very hard to explain when you have got $6 or $7 million of revenue out of the job in year, and it all goes all the way to the EBIT line.

So that is the kind of things that tend to confuse -- it confuses me some days, but it would certainly confuse somebody on the outside in trying to look at what is going on.

That I have got a job that has got 100 percent profit in it, but that's just the way the accounting is done.

Given what you are showing in backlog, which includes presumably some of those fee type arrangements and other things, should the levels of profitability in your current backlog be comparable to what you just reported in this quarter at least year-to-date?

Yes, more or less.

Tom Ford, Lehman Brothers.

Following up on that question with respect to the backlog and comparable margin levels, how margin of the backlog gets burned in the next twelve months?

Well, if you look at our business, we always are between 60 and 65 percent backlog.

So if we are running at a $4.5 to $5 billion rate, which we are, 60 to 65 percent of that is already in backlog, which that means for the succeeding twelve months we are going to have to book somewhere between 35 and 40 percent of the revenue debt that is going to be sold and worked off in the succeeding twelve month period.

That is just the nature of our business.

So if you take that $6.6 billion backlog -- 6.5 whatever the number is -- and you say I am going to work off 5 next year for the sake of arithmetic and save 60 percent backlog, that means 3 billion of that 6.5 will get worked off.

The other 2 billion revenue (inaudible) will be sold and worked off.

Okay?

Thank you.

One other question with respect to the protested award.

I am just kind of curious.

I know it sounds like you guys can only say so much, but I was just curious as to why you think -- I guess it is coming from the Army Corp why they think it gets resolved it sounds like pretty quickly?

Well, I cannot say much except the Army would like to get it resolved.

One question was, if it was booked where does the go?

Would that go into the professional and technical?

It goes both places.

It's got a large home office component, but it's got a large field component, too.

In fact, it probably has got a bigger field component than home office because it is an -- at least the original work under the Turk (ph) is a cleanup project.

It would probably be in the 10 to 15, let us say 10 to 20 percent professional services, and the rest will be in field services.

Okay.

A couple of other quick questions.

Noel, you talked about when you referenced the shutting of the small offices, I would imagine that is something that you are constantly doing.

Is the right? (multiple speakers)

We are always valuating.

We just had a rash of it here in the past, I suppose, 12 to 18 months.

We just have gone through the system and scrubbed it, and it goes through some of acquisitions.

It even goes back to the (inaudible) acquisition, where we closed a bunch of little offices that came with that deal.

We just got to looking at them, and we finally said our network is getting too big, we've got whole bunch of offices for which there is no purpose.

They are generating business, they generate some margin, they don't really generate any profit, and it really sucks up management time.

So we have just gone and done that.

We have done more in the past 12 to 18 months than we have done at anytime in our history.

I am just trying to get a sense as to whether -- if the business stays relatively stable or incrementally improves, would you say that you have gone through a bubble scrubbing these things out, but it is not like this is going to be a continuous activity in terms of the order of magnitude that you have just gone through?

I think that is true.

I would agree with that.

Richard Rossi, Morgan Joseph.

I am still here.

You have answered a lot of the questions that I have, especially about margins, but let me if I could just make sure that it is straight in my mind.

What you essentially seem to be saying is you have got a somewhat shifting mix of revenues of the type of business that is in the backlog leaning towards higher gross margin with a flattish backlog but with higher gross margins but without any material acquisitions, you think that you can achieve your 15 percent growth for next year?

Is that --

True.

It is very much margin driven, and while you do need to book some business obviously for '04, you are really not counting on a material increase in the backlog that flows through to '04 revenues?

I think that is true.

We would like to do an acquisition sometime in the next quarter or two, and that will make life easier next year, but we are not counting on that.

We are going to do our plans on the "no acquisition" basis.

One other question.

Obviously DODs were increasingly important.

Right now at least, it seems like the costs related to the Iraqi issues are being funded separately.

But is there a risk that if those costs escalate as we end up finding we are staying there longer, may be putting more troops in that the Department of Defense is going to have to cut back on some of its other work?

We saw that in '92, and we have been very concerned about that now.

What happened in '92, it took some money away from the environmental budgets particularly.

Probably the environmental cleanup work for both the Department of Energy and the military are much further along ten years later, and we are actually in the cleanup phases now.

Ten years ago, we were just starting the cleanup.

Today we're right in the middle of that.

There is a lot of money being spent whether it is at Oakridge (ph) or (inaudible) or Hanford (ph) or places like that.

We have seen no sign they are going to suck the money out of those budgets.

Probably it would not be politically smart, it would be my guess, for a Republican to do that. (inaudible).

Is it practical to physically slow down work on (inaudible ), for instance, or Hanford (ph)?

They can always do it, and yes, the government can sometimes string these things out.

But we have seen absolutely no sign of this.

Is that right?

No sign of this so far.

In fact, in the recent history last couple months, there has been more pressure to speed these things up than to slow them down.

Actually the best buy for the taxpayer, forget about individual budget years right now, is to get these things closed.

So in the Department of Energy they are going to closure contracts at (inaudible).

You have seen that announced.

We are negotiating closure contracted at Oakridge (ph).

What they are trying to do is get these things done because there is an ongoing caretaker cost that adds hundreds of million dollars a year just to sit there and do nothing.

One final thing. do you have the revenue breakdown as it appears in the 10-Q with O&M and consulting, etc., or do I have to wait for the Q for that?

You'd have to wait for the Q. We don't have that here.

It is in the press release between the total special service and (inaudible), and I don't think there has been any significant change in that in the pieces.

(CALLER INSTRUCTIONS).

Steven Metcalf, Credit Suisse First Boston.

Really quickly, as far as the contract with the Army Corps of Engineers that is being contested, can you give us an idea of why it is being contested?

We really cannot say anything about it because, first of all, we don't know.

We know it has been protested.

We know that the Army is trying to resolve that.

But beyond that, it would just be wrong to discuss it.

It is not like there is any big irregularity in a big process.

These protests always occur around technicalities on the selection.

So protests are not uncommon.

More often than not, they don't stand, but once in awhile, they do.

Does this one just stick out because it's such a large project or just because it fell over where it delayed one, where maybe it pushed a project back one quarter?

For us, it is because it is us, number one.

I don't think we have ever had a project protest that we have lost, have we?

Not that I can recall.

Number two, it is a fairly big number.

If we roll this into the backlog at $240 million level, we would not be having so many questions today.

You can see the timing is on the cusp.

But we thought it was better to leave it out of backlog and try to discuss it, but there is not much we can say specifically.

We have put out a press release on it, so we thought people would have expected it to be in backlog, and we wanted to clear that up to make sure they did not think it was in backlog.

And as far as the $110 million that was taken out, did that have any affect on this quarter's revenues?

You obviously hit the numbers without it, but revenues did tick down from the previous quarter and also year-over-year I believe.

Was any of that supposed to hit in this third-quarter?

I don't believe so.

Most of that -- we were getting toward the end of the design phase and starting to get ready to go into procurement, and that is when it was switched.

But it became clear the client was going to do it, but I don't think it would have had any big impact on the quarter one way or the other.

You have got to remember that all comes out of the field service part of the backlog, so that was another reason it impacted the field service (inaudible) backlog.

Can you give us -- then the revenue pretty much is just a function of what you said?

The hiatus between the pharma bio projects and also the clean fuels work shifting from gas to diesel?

That is exactly right. (multiple speakers).

As far as the order outlook, in the past you mentioned chemicals, and we had hoped to see something picking up.

What has changed between now and the last quarter then on the chemicals side?

I think what has changed is the gas prices have stayed high, and the chemical guys are still struggling.

Although it will be a real interesting to see when the earnings reports are out, how they have actually fared this past quarter.

But the gas prices have not moved, and that really hammers their profitability.

I think consumption continues to go up, and I think you saw the data this morning on the housing starts is at a record level, and that cannot be bad for chemicals.

But it is just dragging out, and it is dragging out everywhere.

There is more stuff being sold, and I think they are raising prices.

But the problem is that the raw material costs have just gone through the roof with this $6.00 gas or whatever it is this morning.

But we have been talking to these guys, but we are confident that we will be there.

It is still a huge business in the world, and we do use a lot of chemicals.

Every time the government talks about improving gas mileage, it means more chemicals are going to go into your car.

If they take my Ford Expedition from 5500 pounds to 4000 pounds, it is going to be chemical substitution.

I guarantee that.

I hate to beat a dead horse here on the order front then, because of the higher margin profitability, some of the word going forward.

Does that mean we stay at about the same order level we have seen adjusting obviously for this quarter, putting that to these side?

But are we looking at something similar to the first and second quarters going forward, or are you just booking higher margin marks so that really you could subsist on a lower-level?

I think in the end the margins will average out.

I think we will not see an a major uptick in bookings backlog until we begin to book construction on this pharmaceutical work we started on the construction on the diesel work.

I don't think we are going to see the diesel work get booked this quarter, are we Tom?

It's going to be first quarter next year, second quarter when we actually jam all that construction in the backlog.

The way we handle it we're doing all this front end work, and they will build these diesel plants to take the sulfur out of diesel.

Until we get a full go-ahead from the client, we are relatively certain that all the work is going to go through our books.

We are fairly reluctant to backlog it.

I guess we can get aggressive and backlog it now, but we don't really want to do that.

All right.

And then also, as far as closing offices, I know you said it is not uncommon and that it had picked up in the last 12 to 18 months.

But was there anymore of that activity that would have hit the current quarter than the previous few quarters?

No.

It kind of happened at a steady pace over the past 12 to 18 months, but it just dawned on me when I sit and look at the numbers, and I went and added all this up -- and while it makes do difference whatsoever, in fact it improved the profitability of the company -- it does take down both out of backlog and out of revenue.

We are seeing the benefits now because when we do shut these down, it does not all happen overnight, and you phase-out of them.

So they don't just go away overnight.

We're seeing more and more of that get behind us, so we are seeing more of the benefits as opposed to returning activity that we have been incurring over the last couple of years.

Seth Chutless, Sidoti.

Just one question.

Was the cash flow from operations number for the quarter?

We don't have that number.

It will be in the Q. Obviously it was positive because the net cash grew by 36 million, so I would say it was in that range.

Generally our cash and our profits are tracking pretty closely right now because we are actually probably not spending quite as much capital as our depreciation (inaudible).

And our network and capital is staying pretty steady or improving a little bit.

Marcy Amens (ph), BancOne.

I was wondering if you had some indicators of how much pent-up demand there is in some of your weaker end markets?

For instance, you are saying that it seems as though raw material costs are their major issue to investing capital in their businesses?

Have you seen our operating rates tick up?

Do you see debottlenecking opportunities?

How much behind do you really think they are on their CapEx?

It is hard to put a specific figure on that view of things.

Certainly operating rates have improved slightly.

They look to continue to improve.

Demand is starting to overtake supply issues in the industry.

But with $6.50, one of the issues is where do you make investments?

And the challenges in terms of domestic investment (inaudible) U.S. investment are probably more significant related to gas supply than they are globally.

One of the things we think we will see is some of our clients making investments in other locations rather than, say, the Gulf Coast of the U.S. , and we are positioning to try to take advantage of that.

How quickly do you see your clients moving offshore?

For some of your major projects where perhaps you would have been a certain mix domestic and your graphic, how quickly is that shifting?

Most of our clients have been offshore for a long time.

I would not argue it is shifting at all.

When you look at pharmaceutical clients, they are basically looking at domestic investment and tax advantage locations.

When you look at clients in the chemical industry, they are largely looking at low-cost fuel supply and market conditions.

So the investment balance does not seem to be shifting significantly, except as it is driven by things like the current cost of gas in the U.S., which favors investment in places like Singapore, Northern Europe, China, the Middle East.

Okay.

Thank you.

David Caleb (ph).

I had a question back to the revenue, and I understand some of the issues with some of the projects coming off and some coming on.

But the revenue was down 2 or 3 percent for the quarter; expectations were up mid to high single digits.

I was wondering if you could give us a flavor for if you think revenue growth is going to happen in the fourth quarter, and for next year, if you could just give a feel for where we should be looking for the revenue growth, because it seems like it is going to get harder and harder to make the numbers if you're having these revenue numbers that are declining or low single digits.

Could you just put a little meat on the bones on that, please?

Well, let us go back to what John talked about a little earlier.

We think the pro service revenue will continue to grow modestly.

The overall revenue probably is going to be flat a little bit for a couple of quarters until some of these construction projects kick in, and then we believe it will pick up again.

So as long as the pro service revenues are growing modestly, and that is where the bulk of our gross margins derive from, making the numbers basically should not be any more difficult than it would be the other way.

If my total revenues were going up dramatically, but my percent margin on those is a lot less, it is probably harder to make the numbers this way.

So I think we feel pretty good about where the numbers are going and where the revenue stream is going.

But we will have ups and downs in the revenues, and if you look at our revenues over the past five or ten years or any period you want to look, we do seem to get step changes in our revenues.

We always go through periods where the -- we go through a rash of construction activity, and then it flattens out, and then we go through another rash of construction activity.

The total revenue stream does have a cyclicity to it, but it is not impacted the bottom-line significantly throughout our history.

Tom Ford.

Just two quick questions.

If you just have a thought, I am just curious as to why if procurement is zero to low margin to you, why is it that a customer would take it on to do it themselves?

It is never zero.

It is low market.

The customer takes it on themselves for a variety of reasons.

They take it on because they want to control it.

They take it on because they want to buy toward their long-term Evergreen suppliers.

You ask a very logical question, and I have asked clients that 1000 times.

We are probably do it more efficiently than most of our clients.

We probably in all honestly do it better.

But when you run into the big procurement departments in Fortune 50 or Fortune 100 companies, they are a power under themselves, and sometimes customers decide to hang onto that.

Is there logic to it?

I would have to tell you generally there is not in my opinion.

I am insulting my clients when I say that, but I have watched this go on for 35 or 40 years, and I have always wondered why they do it.

So I have got your same question, but I don't have an answer.

One other, which is when you talk about the core relationship customer base, that core client number, how much has that changed over any type of twelve month period?

Do you guys consistently ex- number per year?

How has that trended, if you will, over the last couple of years?

Well, we add core clients very very slowly because we want to make sure they are going to be core clients for the long-term.

So over a period of say three or four years, we might add three or four core clients, something on the rate of one a year, would be a pretty strong rate of growth in our view.

Remember that our focus is to grow our share of that pool of clients first and foremost.

So what we are trying to do is increase our share of their spin in amenable markets from say we got 10 percent of their business today and five years from now we want to have 20 percent of their business, or from 20 today we want to go to 40.

So the principal focus there is to do that.

If you look at what we have been able to accomplish, I think we showed some slides on this a couple of times ago.

We have been pretty successful in growing that share of these individual clients, and that is the central focus of this approach to core clients and the relationship basis.

John Rogers.

Just one quick thing.

On the $240 million Turk (ph) project, would that full amount have gone into backlog?

It is all spread out over five years, and that is the maximum award.

We would have put the full amount into backlog.

Our backlogging rules, in fact, I went and reread them this morning to make sure I was straight.

Our backlogging rules say that would have gone into backlog.

So it is a set of discrete projects, and we started doing that years and years ago, and we have not changed it for consistency.

Remember there are no hard rules and backlog, so what we try to do is have our own set of rules, and then we try to adhere to them consistently so we don't mislead anybody.

But everybody does their backlogging a little bit differently.

Right with business slowing down.

Thank you.

Marcy Amens (ph).

I have two questions.

One is you talked about tech could turn faster than you expected.

Could you elaborate on what is indicating to you that that could occur?

My second question is that I have noticed companies focusing on quick payback projects.

Do you have a lot of projects that you have potentially lined up with customers or that you have discussed with them that have longer payback periods, that have the potential to come into the backlog should the economy get decently strong?

Let's go to the first question.

I am only speculating in terms of when I watch the stocks of our clients.

When I watch the earnings report, they are better.

One particularly this morning seems to be a lot better.

What we know about semiconductor market and the high-tech market, it is the most volatile of all the markets we serve, and so it goes up and down at a pace you cannot believe and projects come and go at a pace you cannot believe.

So my thought was when I was watching the news this morning before I came to work, something dramatic could happen if this continues.

The second question, excuse me I missed it.

Go back again.

It just seems as though I am only seeing capital released to projects that have very short payback periods.

So I am wondering if there are some larger projects that may require longer payback periods that you are seeing deferred into the future that could come into your backlog should demand, the economy pickup strongly?

I think a couple of things.

Generally some of our clients -- they play a long game.

You go look at big oil, they play a long game.

The ONEgas award from Shell with a long-term consolidation of their activities in the North Sea, so that is a long a game.

That is not a quick payback.

That is just a long game.

Probably the only projects that fit well into people sitting there waiting to see what is going to happen with oil prices and stuff would go to the (inaudible).

I think what we have seen up there, we have seen some deferrals up there as people sort out what is a long-term oil price.

There is not any doubt that oil at $30.00, the (inaudible) are bonanza.

I think we have got guys sitting up there waiting to see where is the oil price going to settle.

Again, we have some of our clients we are working for up there, and they would be some of the super majors who are continuing to spend at a pretty steady basis.

But a lot of our work is in the term of debottlenecking and things like that, and those are always short payback.

We always have a lot of that work going on, and we have a lot of that work going on today.

But we don't see a lot of deferrals out of these clients in the private sector particularly, in our strong markets, private sector market, which would be oil and gas, and then secondly into the pharmaceutical markets.

The pharmaceutical business, I don't think the economy is having a lot to do with that.

A lot of that has to do with what the regulators are saying and what the drug pipeline looks like.

I am hearing that some of the equipment suppliers have taken a little bit of a hit here as there is switch from genomics to (inaudible), and that (inaudible) has not fully kicked in yet.

Would you concur with that?

I don't even know what you're talking about.

That is on the pharma side with the types of drugs they are switching from.

It is the ones that were based more on the protein research and the D&A research.

You are way upstream on me there in that type of thing, on recombinant.

What we're looking at -- you have got to remember our clients are big pharma and big biotech, but we are not working for the emerging biotech companies.

We don't work for those.

You look at the ten big pharmaceutical companies in the world and the five big biotech companies, and those are the folks we are doing our work for.

In terms of the debottlenecking projects you are doing for your mainstream clients, what would you say we would have to get industrial capacity utilization up to see those really kick in a strong way for you?

I don't have a number that goes in general because it's going to the industry by industry.

When the capacity utilization gets in the 85 to 86 percent range in the chemical business you know, they are going to do something.

I think by the way we are approaching that now -- it's different by commodity.

But you have got to look at that.

I've been in chemical plants where they have been running flat out, and they are trying to debottleneck right now even though they are not making a lot of money, and they are running flat out.

But I don't think we have approached on an average those levels in the chemical business right now.

Remember we went through a big building boom here about four years ago.

Whether it is in the polymers like polyethylene or polypropylene or some of the basic chemicals, we have not run by those capacity increments.

One of the problems you face in the chemical business today when they do a capacity increment, it is a big capacity increment.

They are talking about huge increments when they do it, so it does tend to impact both their operational ability and the market for sometime.

But as those plans get bigger, it's more and more costly to shut down the process to debottleneck any part of it.

Correct?

So they really have to wait till they get a big bang for their buck?

We don't tend to shut them down anymore for very long.

If we're doing any debottlenecking, we do 95 percent of the work, and then we shut them down for just a short bit of time to do the tie-ins.

So we are not taking them offstream.

That concludes the question-and-answer session today.

I would like to turn the conference back over to you for any additional or closing remarks.

Well, we had a lot of questions.

We apologize for starting late, but we stayed late, so we made up for it.

Thanks for attending.

We are going to signoff with that note.

That concludes today's conference.

Thank you for your participation.

(CONFERENCE CALL CONCLUDED)