Kirby Corp (KEX) 2018 Q3 法說會逐字稿

Good morning, and welcome to the Kirby Corporation 2018 Third Quarter Earnings Conference Call. (Operator Instructions) Please note, this event is being recorded.

I now would like to turn the conference over to Mr. Eric Holcomb, Kirby's VP of Investor Relations. Please go ahead.

Good morning, and thank you for joining us. With me today are David Grzebinski, Kirby's President and Chief Executive Officer; and Bill Harvey, Kirby's Executive Vice President and Chief Financial Officer.

A slide presentation for today's conference call as well as the earnings release that was issued yesterday afternoon can be found on our website at investors.kirbycorp.com.

During this conference call, we may refer to certain non-GAAP or adjusted financial measures. A reconciliation of the non-GAAP financial measures to the most directly comparable GAAP financial measures is included in our earnings press release and is also available on our website in the Investor Relations section under Financials.

As a reminder, statements contained in this conference call with respect to the future are forward-looking statements. These statements reflect management's reasonable judgment with respect to future events. Forward-looking statements involve risks and uncertainties, and our actual results could differ materially from those anticipated as a result of various factors. A list of these risk factors can be found in Kirby's Form 10-K for the year ended December 31, 2017, as well as in subsequent filing on Form 10-Q for the quarter ended June 30, 2018.

I'll now turn the call over to David.

Thank you, Eric, and good morning, everyone. I'll start my comments today with a summary of the third quarter results and then turn the call over to Bill to walk through the segment financials. Following Bill's comments, I'll discuss our fourth quarter and updated full year guidance before turning the call over for question and answers.

Yesterday afternoon, we announced 2018 third quarter earnings of $0.70 per share. This compares to our guidance range of $0.50 to $0.70 per share and represents a 35% increase compared to the 2017 third quarter earnings of $0.52 per share.

In the third quarter, our inland marine transportation business continued its recovery from the downturn and experienced a steady increase in activity, increasing volumes from petrochemical and black oil customers, refinery turnarounds and some major lock infrastructure projects all helped to drive up tank barge utilization. At the end of the third quarter, Kirby's inland fleet utilization was in the mid-90% range. As a result of these tight market conditions, spot market rates increased between 3% and 5% compared to the second quarter.

Furthermore, as anticipated, term contracts renewing in the third quarter repriced higher in the mid-single digits on average. All of these factors, together with lower operating costs, reduced maintenance expenses and efficiencies realized from favorable summer weather conditions help to boost inland operating margins.

In the coastal sector, market fundamentals showed signs of improvement with favorable activity levels across the entire network, driven in part due to some refinery turnaround, summer storm disruptions and good operating conditions on the West Coast. With respect to pricing, while spot rates were generally unchanged during the quarter, we renewed several term contracts modestly higher.

Looking at the broader market, the widening of the Brent/WTI spread has increased the number of crude oil shipments from the Gulf Coast to the East Coast refineries. While not directly impacting our fleet thus far, these incremental shipments in the coastwise trade are generating more activity for MR tankers and larger ATBs that have been working in our fleet's trade lanes since the downturn, most notably in refined products. Provided the spread remains widened, we believe that our fleet could benefit as the larger vessels shift their focus to crude, thereby increasing our activity in utilization in the future.

As anticipated, the Distribution & Services segment reported a sequential decline in revenue and operating income, following strong results in the second quarter. Vendor supply chain issues, which were highlighted on our last earnings call, delayed the completion of many pressure pumping units under construction. Additionally, the well-publicized Permian pipeline takeaway capacity issues reduced pricing for pressure pumping operators and logistical challenges in the oilfield resulted in lower activity for some of our major customers during the third quarter. This temporary softening of activity drove a slight sequential reduction of new orders for oilfield equipment, including pressure pumping equipment and new transmissions and overall transmission in parts. Despite these reductions compared to the second quarter, demand for pressure pumping unit remanufacturing and service remained strong throughout the third quarter.

In our commercial and industrial market compared to the second quarter, we experienced increased utilization in our specialty equipment rental business, most notably with generators and compressors dispatched during the peak hurricane season. Results in the commercial Marine business, although significantly improved year-over-year, were largely unchanged sequentially. Reductions in inland towboat service during the dry cargo harvest season were offset by higher sales of new marine diesel engines.

In summary, although results in Distribution & Services sequentially declined as expected, the pause due to the Permian has an end in sight in 2019. Further, some of our customers are ramping up maintenance and beginning to order equipment in anticipation of the 2019 rebound. In marine transportation, things continue to move in the right direction. Inland pricing has inflicted higher, barge utilization is nearly at capacity and operating margins moved meaningfully higher. Coastal is showing signs of life again with increased revenue, some contracts renewing higher and operating margins improving earlier than anticipated.

In a few moments, I'll talk more about our outlook for the fourth quarter and the remainder of the year. But before I do, I'll turn the call over to Bill to discuss our third quarter segment results and the balance sheet.

Thank you, David, and good morning, everyone. In the 2018 third quarter, our Marine Transportation segment revenues were $382 million, with an operating income of $48.5 million and an operating margin of 12.7%. Compared to the same quarter in 2017, this represents a 20% increase in revenue and a 36% increase in operating income. Compared to the second quarter, revenues increased $3.8 million, operating income increased $10.3 million and operating margin increased 2.6%. The significant improvement of profitability is attributable to improved pricing, enhanced operating efficiencies for the inland fleet, reduced operating and maintenance cost, especially related to the Higman fleet and higher demand in coastal.

In the inland market, revenues were approximately 30% higher than the third quarter of 2017 due to the Higman acquisition, increased demand in utilization, additions to our pressure barge fleet and improved pricing. During the quarter, the inland sector contributed approximately 75% of marine transportation revenue, which is unchanged sequentially. Long-term inland marine transportation contracts or those contracts with a term of 1 year or longer contributed approximately 65% of revenue, with 58% attributable to time charters and 42% from contracts of affreightment.

Term contracts that renewed during the third quarter were higher in the mid-single digits. Spot market rates increased 3% to 5% and were 20% to 25% higher year-on-year. During the third quarter, the operating margin in the inland business improved to the mid- to high-teens. In the coastal marine market, third quarter revenues declined approximately 5% year-over-year, primarily due to barge retirements completed at the end of 2017, which reduced the total volumes transported. These reductions were partially offset by barge utilization improving to the 80% range, although pricing is contingent on various factors such as geographic location, vessel size, vessel capabilities and the products being transported. In general, average spot market rates were unchanged compared to the 2017 third quarter. However, during the quarter, we did see a number of term contract renewals reprice higher. During the third quarter, the percentage of coastal revenues under term contracts remained at approximately 80%, of which approximately 85% were time charters. The coastal business operating margin improved to breakeven during the quarter.

With respect to our tank barge fleet, in the inland sector during the quarter, we retired 9 barges with a total capacity of approximately 141,000 barrels. At the end of the 2018 third quarter, the inland fleet had 981 barges, representing 21.6 million barrels of capacity. During the fourth quarter, we expect to take delivery of one additional 24,000 barrel specialty barge that was acquired through the Higman acquisition, and we also plan to retire 3 additional barges with approximately 40,000 barrels of capacity.

On a net basis, we currently expect to end 2018 with a total of 979 inland barges, representing 21.6 million barrels of capacity. In the coastal marine market, we returned one charter barge with a capacity of 77,000 barrels during the quarter. As mentioned last quarter, we expect to take delivery of a new 155,000 barrel ATB in the fourth quarter. However, we intend to retire an older vessel with a similar barrel capacity currently operating in our fleet. We also intend to return one additional charter barge with a total capacity of 58,000 barrels in the fourth quarter. On a net basis, we currently expect to end 2018 with 53 coastal barges with 5 million barrels of capacity.

Moving on to our Distribution & Services segment. Revenues for the 2018 third quarter were $322.8 million, with an operating income of $23.9 million. Compared to the 2017 third quarter, revenues increased to $100.3 million, primarily due to the incremental contribution from S&S and the improved market conditions in the commercial marine diesel engine repair business. Compared to the 2018 second quarter, revenues declined 24% or $101.7 million and operating income declined $16.3 million, primarily due to reduced deliveries of pressure pumping units in our oil and gas business. During the third quarter, the segment's operating margin was 7.4%.

In our oil and gas market, revenues and operating income were up year-on-year due to the acquisition of S&S occurring late in the 2017 third quarter. Additionally, increased orders and deliveries of new pressure pumping equipment this year were offset by lower pressure pumping remanufacturing activity as well as reduced demand for new and overhauled transmissions. Compared to the second quarter, the reduction in revenue and operating income was due to the timing of new pressure pumping unit deliveries, which were delayed as a result of ongoing vendor supply chain issues. Recent softening of activity in the oilfield, which impacted some of our key oil and gas customers, also contributed to reduced demand for new transmissions and parts as well as transmission overhauls during the quarter. For the third quarter, the oil and gas business represented approximately 60% of Distribution & Service revenue and had an operating margin in the mid- to high-single digits.

In our commercial and industrial market, compared to the 2017 third quarter, revenues and operating income increased, primarily due to the acquisition of S&S. We also experienced year-over-year increases in demands for overhauls and service on marine diesel engines, particularly related to the inland towboat market and the high-speed offshore market along the Gulf Coast. Compared to the second quarter, revenues in our commercial marine business were stable, with reduced inland service due to the harvest season in the dry cargo markets being offset by the sale of several new large diesel engine packages in the northeast.

Activity in the power generation market was unchanged year-on-year but higher compared to the second quarter due to seasonal increases in rentals of standby power generators and compresses. For the third quarter, the commercial and industrial businesses represented approximately 40% of Distribution & Services revenue and had an operating margin in the mid- to high-single digits.

Turning to the balance sheet. As of September 30, total debt was $1.4 billion. Compared to the end of the second quarter, total debt declined $43 million. Our debt-to-cap ratio at the end of the third quarter was 30.2%. During the quarter, the delay deliveries of pressure pumping units resulted in a meaningful sequential increase in working capital. I expect if these units are delivered in the coming months, will benefit as we draw down working capital. As of this week, our debt balances had further reduced to $1.38 billion.

I'll now turn the call back over to David to discuss our guidance for the fourth quarter and the remainder of the year.

Thank you, Bill. In our press release yesterday afternoon, we announced our 2018 fourth quarter guidance of $0.55 to $0.75 per share. This range implies a 2018 full year GAAP guidance range of $2.27 to $2.47 per share. What's contained several onetime items disclosed in the first and second quarters, including $0.04 per share for Higman and Marine acquisition fees and expenses; $0.04 per share for severance; $0.05 per share for expenses related to an amendment to an employee stock plan; and $0.30 per share for expenses related to Kirby's Executive Chairman's retirement.

Looking at our segment. In Marine Transportation, we expect inland barge utilization for the fourth quarter will be in the low to mid-90% range and will be strong because of demand, continued lock closures and seasonal weather impacts. As a result, we expect that inland pricing will continue to move higher. Overall, we expect inland revenue and operating income will be flat to up slightly compared to the third quarter, with the benefits of the higher pricing offset by reduced efficiencies on contracts of affreightment as deteriorating seasonal weather conditions add to higher delay day.

In the coastal market, we expect stable pricing and overall utilization around 80% for the remainder of this year. During the fourth quarter, we have scheduled shipyards for several of our large capacity vessels, which will have a negative impact on revenue and operating income. As a result, we expect coastal operating margins to be in the negative low to mid-single-digit range for the fourth quarter.

For our Distribution & Services segment, we anticipate that revenue and operating income in the fourth quarter will be similar to the third quarter. In our oil and gas manufacturing business, we expect that pressure pumping remanufacturing activity will remain robust as our customers ready their fleets for the increased oilfield activity anticipated in 2019.

With respect to new pressure pumping equipment, we expect to deliver many of the units currently under construction, some of which have been delayed during the third quarter by vendor supply chain issues. The current [weld] schedule, however, reflects many of the more recently ordered units to deliver late in the fourth quarter. Together, with the timing of OEM deliveries, it is possible that the completion of some units could be delayed into the first quarter of 2019 and therefore have an adverse impact on our revenue and profit for the fourth quarter.

In our oil and gas distribution business, the current slowdown in activity for our key customers is expected to persist through the fourth quarter and result in lower transmission sales and overhauls.

In our commercial and industrial markets, we expect the fourth quarter to be modestly down sequentially, primarily driven by seasonal declines in demand for standby power generation and other specialty equipment rentals as well as reduction in sales of Thermo-King refrigeration units following the summer peak.

Now to wrap things up, our third quarter results were strong, despite some short-term challenges in our Distribution & Services segment. The Marine Transportation segment definitely exceeded expectations and delivered solid operating margin improvement. As we look forward, we remain very positive on Kirby's near-term and long-term potential. The inland marine business is gaining momentum. Utilization rates are high. Contract prices are increasing and operating margins are improving.

Higman contracts are rolling off and being repriced at current rate. The -- This acquisition as well as recent pressure barge acquisitions are fully integrated and yielding positive returns to our fleet. With incremental volumes expected in 2019 from new petrochemical plants and crude pipeline, low tank barge construction and ongoing lock infrastructure issues, we expect that our inland business will continue to improve. The coastal market is showing initial signs of recovery and operating margins return to breakeven levels during the third quarter.

While the fourth quarter is expected to be negatively impacted by scheduled maintenance activities on some of our larger vessels, I do feel more confident that we are seeing improvement in this business. We recently made some significant investments to improve the efficiency of our fleet, including 6 new state-of-the-art tugboats and a new 155,000 barrel ATB. These investments combined with anticipated industry requirement -- retirements and improving market conditions should yield better operating margins next year.

Distribution & Services, while challenging in the near-term, has significant runway ahead of it. All signs point to a strong year in 2019, as Permian pipeline infrastructure issues are resolved, and our customers are making plans for increased activity. As a result, we've received new orders, and our customers are planning for new pressure pumping equipment to be delivered in 2019. Our market-leading remanufacturing and services business, including our fully operational facility in the Permian, is expected to remain very busy as customers seek economic opportunities to remanufacture fleets currently working in the field today.

Beyond the oilfield, demand for power generation is increasing, inland marine has recovered and offshore commercial marine is seeing signs of life. These improvements combined with the continued realization of synergies should generate opportunities for some operating margin expansion in 2019.

And finally, our balance sheet remained strong. Debt reduction remains our top priority in the near term. However, we will continue to take advantage of any attractive acquisition opportunities to grow in our core businesses and deliver incremental returns to our shareholders.

Operator, this concludes our prepared remarks. We are now ready to take questions.

(Operator Instructions) And the first question comes from Jon Chappell with Evercore.

David, I was going to start with inland, but actually, your last couple of comments on D&S were pretty interesting. So you're somewhere optimistic on '19 and maybe the narrative in the market right now. So what's the timing on kind of ramp in your mind? I know you haven't budgeted 2019 yet but when you start saying -- things start returning to "normal"? And in the meantime, can you just give a little bit of a color about your backlog as it sits right now and the potential for that to kind of cushion any near-term headwinds?

Yes, sure. Let me start actually with the backlog because I think it's interesting. If you go back to our last call and you compare the backlog then to what it is now, the backlog is about the same. So in other words, we booked about the same amount that we shipped in the second -- the third quarter. So backlog staying high. What we are doing now is receiving orders for delivery into '19, so that's why we're getting more excited. In fact, Joe Reniers, who runs that business for us, is out there trying to hire 50 to 100 techs right now. So we're very busy. A lot of it is some maintenance that's happening on the front-end, as people try and prepare, others are looking for equipment deliveries in the first part of '19. I think it's in anticipation of a recovery next year. I say, recovery. It's not really a recovery, it's a resumption of growth. If you look at the Permian, it's still producing quite a bit, and there's still fracking out there. So there's a lot of equipment being used. And as you know, the operating conditions and how hard they run this, it tears up the equipment, and some of the older stuff needs to be replaced, some of the new stuff can be remanufactured or just simply some simple maintenance. So as we look at it and listen to our customers, they're anticipating pretty good 2019 as some of these pipelines come on in the Permian. And let's not lose track that they're still operating this equipment. It's not growing as much as it had been, but it's still being operated. So that actually plays to us because there's a huge maintenance component, and then there's a replacement component as well. All that said, there are other things that are happening in the industry. Technology keeps moving forward. If you go back 5 years, and I think OPEC kind of underestimated the resiliency of the U.S. land market and the technology advances that our customers make. And so that's a long way of saying that technology keeps increasing. We're doing more stuff, bigger engines now on frac units. They're adding sound enclosures to make them more environmentally and sound-friendly. They're adding dual fuel options, looking at electric frac. So technology keeps improving as well. So pump technology improves. So all of our customers keep moving the ball forward and take out old fleets and bring in new fleets or repair the ones that they think have some good life. So when we look at 2019 and my comments -- prepared comments, we tried to reflect that because that's what we're seeing.

Okay. That's very useful. And then for my follow-up, if I can switch back to Marine. Clearly, it's shown -- it's moving in the right direction, I think, faster and more meaningfully than anyone really expected. Are you seeing anything that gives you reason for pause that the pricing momentum or the margin momentum is slow? Whether that's macro? Or whether it's kind of speculative ordering now for new equipment? Any reason to believe that '19 shouldn't be sustainably better than '18, especially as you kind of recontract pricing?

The short answer is, we think it will continue. That's the short answer. Let me give you some color around that. Utilization across the industry is quite robust. I think the industry is in the 90% to 95% utilization range, which essentially, as you know, at 95%, that's pretty much full utilization. We're coming off of 3 years of bad times, where last year, cash pricing -- or excuse me, spot pricing was below cash cost. So there is a needed recovery. Many of our competitors got close to the brink of bankruptcy. And -- so there's a need to get pricing up and recover from the debts of last year. Spot pricing's up about 20%, but that just gets it back to kind of P&L breakeven. And depending on their debt levels and their interest carry or interest cost, it still needs to go meaningfully higher. And with the utilization where it's at, everything's set up to continue the price increases. Now I would say this on new builds, we think new builds in 2018 are about 60 -- well, mid-60s in terms of new equipment. Of course, retirements outstrip that in 2018. I think we retired 40, 45 barges this year. So we retired pretty much the bulk of what was built this year and others retired. Next year, we're hearing the order books about 120-or-so barges right now. We think retirements will be around that plus or minus a little. So net new adds are probably very little. I mean, we know for a fact on that 120 order book, the vast majority of them are for replacement. We've heard that in the market. So when you put all that together with the demand increasing from these new petrochemical plants, the refinery expansions, the new crude that's going to be hitting the Gulf Coast coming out of Permian when the pipelines come on, that should all be good for the demand. So supply and demand are tight now. I think demand is going to continue to grow. Supply is not growing. It's probably flattish, maybe up tiny bit. So all that pretends for a continuation of what we've seen on pricing and utilization.

And the next question comes from Justin Bergner with Gabelli & Company.

I was curious about the improvement in the coastal market. The factors that helped in the third quarter, do you see those persisting into 2019? And do you think that business has the potential to be profitable in 2019 where things stand today?

Short answer is yes. We're -- this year, we're probably averaged margin of minus 5% for the year. We broke even in the third quarter. We know the fourth quarter is going to be back down because we've got 5 of our larger units for scheduled shipyards. So we know that's going to impact the fourth quarter. But once that's behind us and given the cost that we've taken out of that business and the signs of life both increased demand -- slight increase in demand, retirement of older equipment, the new ballast water treatment regulations are going to accelerate some of the retirements that have to happen. So when we look at supply and demand in that business, it's going to get tighter. So I definitely think we could see profitability next year or breakeven. The spread between WTI and Brent is also helping as long as that persists. The MR tankers will be used to move crude oil out of the Gulf Coast up to the East Coast, which keeps those larger units out of our trade lanes. They dip down occasionally in our trade lanes and display some of our equipment, but that's also positive. I don't see that spread tightening because of all the crude that's going to come out of the -- of West Texas. So that's the long answer. The short answer, again, is we definitely think we can get to breakeven or maybe profitable next year if things continue the way we're seeing them now, which we believe they will.

Okay, great. And then just one quick clarification question on guidance. I think last quarter, you called out the $0.05 for the amended employee stock plan, $0.30 for the Executive Chairman's retirement, the $0.04 for Higman acquisition fees and the $0.04 per share for severance. Those were also anticipated in your earlier guide, correct? You're just sort of clarify the magnitude here?

Yes. No, we just wanted to make -- we just -- I know you guys have a job to put out your -- to compare to our guidance. We just wanted to put all the special items for the year in one place. So that's what we did.

Okay. So those -- okay. So none of those, hopefully, would repeat next year, including the $0.04...

Oh, definitely. None of them would repeat next year.

And the next question comes from Michael Webber with Wells Fargo.

David, just on the inland market. You guys talked to, I guess, 3% to 5% spot improvement this quarter and about 25% on the trough levels. And you also mentioned term pricing this quarter finally starting to move, I think you mentioned mid-single digits. Is it right way to look at that, that we're starting to see term pricing improve at a slightly healthier flip than spot? And if so, is that something that you think is accelerated as we move into Q4? Just kind of a further indication of that market getting a bit healthier. I'm just curious how those different cases have trended so far?

Yes. No, spot pricing has moved quicker than contract, but that's kind of normal. You need spot pricing above contract to get the contract pricing to move higher, and that's been happening. I would say, spot pricing's 5% to 10%, maybe even greater than 10% above contract. So that's good. We needed that to happen in order to get the contract pricing to start rolling higher. This is kind of the first quarter -- third quarters, where we started to see contracts renewing higher. I expect that trend will continue. Equipment's tight. And as equipment gets tighter, as you might expect, our customers start worrying about barge availability. And -- so that pushes it more towards contracts, which should start to accelerate contract pricing gains.

Got you. So it's already at a point where that acceleration and term pricing should start to kind of outpace that early spot move?

Again, I don't know if it will outpace spot moves. Hopefully, they both continue to march up. And I like the spot being a little higher than contract because that just puts the emphasis on securing those contract prices higher.

Yes. Okay. It's helpful. And then just as a follow-up, just kind of try to tie together the inland market with kind of some of the dynamics we're seeing in D&S. Just from an inland ton-mile perspective, can you kind of -- if we fast-forward to 2020, and we kind of debottleneck the Permian, can you talk about what that mix looks -- what your ton-mile mix looks like in that scenario where you got more accrued in the Gulf? Does that cannibalize some of that longer-haul business with Bakken or elsewhere? Can you just kind of talk about what you think that ton-mile mix looks like in the next couple of years as you try to give us some of the segments?

Hard to predict, but I would say, most of the long crude moves are Canadian or coming down from Canada, and that's at a very steep-discounted WTI. I would think that would persist. I think the crude coming out of the Permian going to either Corpus or Houston, some of it will go direct to export. We know there's a group trying to build another loop if you will and offshore loading facility for VLCCs. So some of it will go direct for export. I think the pipelines in the Houston will go into some of the refineries. We heard rumors of one of our major customers may be building another refinery in the Houston area or at least buying an old one and upgrading it. So I do think we'll see some volumes as that crude gets processed from the Gulf Coast increase. So from a ton-mile standpoint, we may see less miles but more moves because a lot of that stays in the Gulf Coast. The moves are shorter, but you still get paid for short moves. And sometimes, our most profitable moves can be Houston crosschannel if you will. Short ton-miles, but you get paid for using the barge and supplying the customer. So it -- the ton-mile mix is a little hard to gauge. But in general, maybe the ton-miles come down a little bit to your point, but I don't think the Canadian crude moves disappear because it's, one, the U.S. refineries or Gulf Coast refineries like that heavy crude. They set up to crack heavy crude. And two, it's just a big discount. So there's a pretty good arbitrage move for the refiners to use it.

And the next question comes from Randy Giveans with Jefferies.

Quick question. So it looks like your Marine Transportation revenues were up slightly, and your operating maintenance costs were down even more significantly kind of from 2Q level. So what exactly drove those cost reductions on the marine side? And do you expect 4Q '18 cost to decrease further or kind of go back to those 2Q levels?

Well, 2Q was elevated because of the Higman fleet. Remember, we got the Higman fleet in mid-February, late February, and there was a lot of catch-up maintenance. So Q2 was probably elevated. Q3, we integrated, had caught up on some of that maintenance, but maintenance should be around level in Q3. And going forward -- yes, it depends on the shipyard cycle. Obviously, we called out the coastal shipyard business, and planned maintenance that we have there will be elevated in the fourth quarter. But I would say, it's probably closer to what we saw in the third quarter, maybe go up a little bit from where it was in the third quarter, but it's going to be in that range because the bulk of the catch-up maintenance that we knew about for Higman fleet is done.

That's helpful. And then one more question for [Roy.] You commented that power generation demand is increasing. So is that business something you're focused on growing? And if so, kind of how do you expect to do that? And then how much an annual EBITDA does that business contribute?

Yes. So power generation, as you know, there are a lot of these data centers and what not around the United States, and they're growing. And even financial institutions and companies, corporates want to have backup power generation, particularly along the Gulf Coast, where we get hammered by hurricanes occasionally. So we -- through our Stewart & Stevenson acquisition, we do a lot of power -- backup power generation, particularly in -- on the rental side. For example, big retailer, we provide backup power generation that's on basically semi-trailers that goes into hurricane-impacted areas for a large retailer, and essentially, you plug in the trailer, and it gets the store back up and running, and they're able to service the customers which are desperate to get the supplies out of the store, too. So when you add data centers, hurricane and retail backup power, it's becoming a growth area for us. We're excited about it. In terms of volume and EBITDA, I'm not prepared to answer that. We can -- in our Analyst Day, we kind of outlined kind of the percent revenue. I would say, the operating income margins are similar to the average for that group, but I don't have that on top of my head, Randy. But we could probably -- Eric can probably help give you a feel for that, but I do believe it is a growth area. And frankly, it's part of that diversification we talked about because it has a little different cycle and a little different end use. And frankly, it's growing because of the way the world uses computers now and needs instant access to data. So we're pretty optimistic about growing that market.

And the next question comes from Kevin Sterling with Seaport Global.

So David, you mentioned some of the Higman fleet contracts rolling off in 2019, how much of that business do we think about in 2019 that could be rolling over that you guys have the opportunity to reprice?

Yes. It's hard to quantify, let's see. Let me back into it a little bit. When we bought Higman, they were about 60% contracted, 40% spot. I'd say, that's up now. We're probably 65% contracted on average because we've integrated it fully into our fleet. On average, these contracts reprice probably 2/3 of a marine price in the year. The other are multiyear. So I would say, it would still reprice through '19, but the big impact's happening now. They -- because of where they were financially, they had to take jobs they could get just to keep cash flow and paying their crews. So they were -- some of their contracts were paper thin in terms of margins, if not at a loss. And so we're happy to see them repricing back to kind of the market now. It's still got a ways to go, but I think by kind of mid-19, the bulk of them will be repriced.

Okay, awesome. And kind of keeping on the pricing thing there, obviously, you were seeing better pricing in inland and a better demand/supply equation. But is there any way to tell part of this pricing narrative how much could be attributed to some of the bad actors if you will the past couple of years who found their religion regarding pricing and around now acting more rational if you will, in addition, just kind of regular market demand/supply dynamic? Does that make sense?

Yes. I don't know if I'd call it bad actors. I think -- look, it was a long painful 3 years. and people got to the point where they had to bring up pricing. It's just -- it was unsustainable, as we talked about. Some of the kind of the lower -- I don't want to call them lower tier because it implies something different. But the guys that were at the lower end of the pricing have booked up much of their fleet and are busy now. And they're seeing that the incremental pricing can get them back to profitability. So some of it is happening, whereas some of those lower bottom pricers are coming up. I don't know if you'd call that religion or not yet, but it's certainly they're more constructive about it, and that's a positive.

Yes. And obviously, you guys -- you've done the same thing with Higman, where you're repricing that book of business.

Exactly right, exactly right.

And the next question comes from Jack Atkins with Stephens.

So I guess, let me start off with Distribution & Services for a moment. I guess my sort of question is sort of thinking about what the go-forward run rate is there from a revenue level? I mean, it certainly seems like we're pushing some revenue out -- right out of the third quarter into the fourth quarter because of the vendor bottleneck issues. But there's still new orders there. So I guess what I'm trying to understand is kind of as we look forward, is this business, as you think about it, generating in the $300 million to $350 million in revenue a quarter? Or is this more of the $400 million to $425 million revenue quarter that we saw just really in the first half of the year? Just trying to figure out the trajectory of this business as we go into 2019 from a revenue perspective?

Jack, one thing to look at, as David talked about on activity, we're very active at the sites. And we talked about in the press release about an inventory going up, and a lot of that was work in progress, about $40 million, and that's just quarter-to-quarter. That's work in -- and some of that has been offset by deferred revenue because we're getting progress payments, but that's just in the quarter-to-quarter buildup, this $40 million, and that's not including any profit. And as you know, with the revenue recognition, we don't get any profit, and it doesn't go through our income statement until you deliver. So the base -- actually, activity level was frankly closer to the second quarter than it was to the -- to what you see, and I mean, second quarter revenues than you would have seen in the third quarter numbers.

Okay, okay. So the expectation is when we get through these bottleneck issues early in 2019, I would guess that they will return back to something closer to that $400 million level. Is that the way we should interpret all that?

Yes. I mean, the second quarter was a very good quarter with a lot of good business. It was -- the revenue there was $424 million for the second quarter. So the numbers don't point to getting right back there right away, but what the message really is -- the activity and what's going on right now is you're not seeing that activity in the third quarter revenues. And that you will see the revenues in the third -- in the fourth quarter. Some of it may spill over to the first quarter, but these are -- this is inventory that -- work in progress that is going to be shipped.

Got you. All right. And then as a follow-up question on the marine side of the business. David, could you talk about IMO 2020 and sort of as that maritime regulation is implemented. Obviously, it doesn't have an impact on what you're paying for field because you're already compliant. I'm not asking about that. I'm more curious, what is it due to product flows and the demand for distillates and maybe distillate moves by barge that you guys could participate either on the inland side or on the coastal side? Does that -- would you expect that to have any impact on the business? And if so, when should we think about that maybe showing up?

Yes. I don't think it will materially change our business. We bunker now. We bunker ships now. We bunker with heavy fuel oil in some cases. And as it shifts to ultra-low sulfur diesel, we'll bunker that as well. Maybe you see a little more volume here locally because we've got that coming out of the refineries here. But it's hard to say that it's going to be materially different. We'll see. I mean, one of the things we want to figure out and watch our customers is what happens to their profitability because clearly the more profitable our customers are, the better. There could be an increase in blending, which might help us, right? They blend the different grades, and that might lead to more barge moves to reposition -- to position for blending. We'll see it. It's really hard to predict for us right now, but I would say, it's probably neutral to maybe slightly positive if there's a lot of blending going on.

And the next question comes from David Beard with Coker & Palmer.

My question on inland pricing. I think you mentioned it moved up about 20%, but it's still at P&L breakeven. How much further would pricing need to move to justify new build? And do you think the industry would put new build orders based on spot prices? Or would they want to see contract prices moving higher to justify a new build?

That's a great question, David. I would say, spot prices at -- being at P&L breakeven is a start, but prices would need to be 25% higher to get to where you'd start to consider good economics for new builds. Now that said, some people aren't as disciplined about looking at returns on capital, and some people like to build on spec. I'm not sure we're seeing a lot of that. There may be of that 120-or-so barges that are on order for 2019, maybe 20-or-so, maybe a little more might be on spec, but we're still a ways from the price that's needed to justify new builds. And oh, by the way, as you're well aware, barge pricing's going up in part because steel prices are up. So the pricing needed to justify new builds is going higher because of steel pricing. And also, you may recall that Trinity bought Jeffboat and essentially shutdown Jeffboat. Now they're going to open up -- we understand they're going to open up their Louisiana line, which didn't have the capacity of Jeffboat. Jeffboat was a huge shipyard, as you might imagine. But that -- having a consolidated barge building industry, it's not helpful to low-barge pricing. But we're okay with that. If it's more expensive to build barges, maybe barges don't get built as robustly as they have in past cycles. But I still think we're a long way away from justifying a new build, but that doesn't mean there aren't some speculative players.

Now that does give you a lot of headroom. And just shifting over to D&S, would you be able to quantify in your guidance how much revenue you expect to slip into the first quarter of '19 or range, or some color there would be helpful.

We put our guidance for the fourth quarter, and it reflected sort of a down scenario and an up scenario for how much will flow through in the fourth quarter. So there could be some slippage. It's -- our guidance reflects everything, and that's -- and we -- but it's really tough for us to quantify that. There -- because it's really the degree of guidance, the degree that could slip.

Got you. And with the high end, assume none of it or a little, or there's still some slippage in that assumption?

Well, the low end versus the high end means that most of it would slip, and we did not include -- and we did not assume all of it because we have -- we're far along on a lot of these shipments. So -- but we did assume at the low end that a significant portion slip.

And the next question comes from Ken Hoexter with Merrill Lynch.

Dave, your operating margin for inland used to be in the mid- to upper 20s. Now you're in the upper teens. As pricing comes up, I just want to get your big picture thoughts on where it's possible to get back to. I just want to understand, has anything, I guess, structurally changed, given either the acquisition, the product mix or even on the other side, given your cost cutting, could it go even higher?

Yes. I would say, I fully expect this to be able to get back to our peak margins at some point in the cycle. As you'll recall, they were in the high 20s. We almost got to 30% in terms of peak margins. We -- that's a long way off, obviously, but I would say, our normalized margin through the cycle is probably in the low to mid-20s. And I fully expect us to get back there. I would say, given our fleet composition, we could go higher. The level of synergies and integration that we're able to achieve, given our fleet size, I think we could get higher in terms of margins.

And presume that's really just led by the pricing at this point, just to get -- is that kind of your...

Yes. No. As you know, Ken, that the pricing just kind of rolls right to the bottom line so very high incremental margins, right?

Okay. And then a follow-up question would be your thoughts -- you talked about all -- the wave of petrochem plants that were opening, and you already mentioned a bunch of the crude and other opportunities. Now that we're closer to having some of those open operating flows have started to move or just still about to start and a couple of others. What are your thoughts now in terms of the growth that is going to -- are you seeing any of that? But you -- before you were like, hey, we don't know if it's going to international or stay domestic. Any update thoughts on kind of what shifting maybe towards your way or away?

Yes. I would say, one of the things we've seen and not to get too specific here, but pressure cargoes, we're seeing those increasing and shifting our ways. Things like methanol and some of the chemicals are shifting. I think crude -- going forward, I think the refineries are using all the crude they want. So most of that will go for export or up to the East Coast. So ultimately, a lot of that's going to be, as you know, a polyethylene, and that polyethylene will go for export. But as you know, there are also byproducts that come out of an ethylene plant, and that's part of why we're seeing an increase in pressure cargoes. There's still pressure cargoes that come out even in some of the lighter feedstock-type ethylene plant. I know it's not very precise, Ken. So I apologize, but we definitely are seeing some growth because of these petrochemical expansions, and [it's] GDP plus 2% to 5% is kind of the way I'm thinking about it. It's really hard to quantify in terms of barge count, but we're definitely seeing it.

Yes. I guess what I was just trying to get at from your thought there is, you just gave it, what the GDP plus 2% to 5%, if there's some big shock to the system and demand that's going to get ramped up in the next 1, 2 years because of what's coming online, or if it's more gradual that you kind of intimated there in terms of kind of leading pricing over time but not any kind of quick fix rebound on pricing?

Yes, I think it's gradual. I don't think it would be a shock. Just that things come on too ratably, not all the plants are starting up at the same time. And we are running at 95% utility right now. So it's worth -- all this is coming on in an environment where the industry is fairly tight.

That comes from Bill Baldwin with Bill Anthony Securities (sic) [Baldwin Anthony Securities].

On the D&S side, did the revenue in the third quarter come in pretty much in line with your expectations as far as the performance was concerned on the revenue side?

Yes, it did. It was pretty much exactly as we expected. When you look year-over-year, you got to remember that last year, we only had Stewart & Stevenson for 3 weeks or so. And so when you look year-over-year, it's still a pretty big revenue increase. But to your point, it was as expected. The third quarter revenue and operating income was essentially as expected for Distribution & Services. The surprise in the quarter for -- I say surprise, but the upside from the quarter really was all about inland marine performing better and coastal marine performing a little better. When you look at year-over-year margin difference between third quarter last year and third quarter this year on D&S, that's all about mix. Distribution & Services at Stewart & Stevenson has more distribution if you will. And so that's at a little lower margin. So when we added all the revenue from Stewart & Stevenson, that mix brought down essentially our average operating margin, but there was still huge contribution margin in there.

One thing I should mention, Bill. When I'd mentioned the inventory in the sales that are being deferred, the actual -- when you look at D&S, they actually lowered their SG&A cost compared to the second quarter quite nicely, up down -- I mean, down $3 million. And when -- because of how fixed-cost absorption works, if they would have had their revenues of the work in progress build up, their margins would have been roughly the same as the second quarter. So it's really a question of timing.

But Joe's done a good job over there?

Yes. Not good enough, but he's doing the job.

Doing the job. On the reman side then, I know we can't get specifics, but on a relative basis, second quarter versus third, did reman held up a lot better than the overall D&S? I mean, was that fairly steady demand for the remanufacturing business in the third quarter versus second?

Yes. No, it was. Reman is again, and that's right in our sweet spot.

Right. And then 2 quick questions there. On the competitive environment, what -- how would you describe the competitive environment in the reman area? I mean, is it -- is Kirby such a leader in that business that your first choice or your customer base is going to be Kirby reman or....

Yes, we certainly like to believe so, Bill. I think so. We -- when we reman these units, they operate like new. We've got a reputation -- a high-quality reputation on reman. You can get -- reman is done cheaper by some of our other competitors. But as in any market, you've got people that care about quality and kind of want the high-end reman, and then there's the people that are very price sensitive. But I would say, we've got a good market niche and high market share, and I would say, we're preferred certainly by the top tier or top 2/3 of the pressure pumping market. We do quality work. And we like to believe we're the best at it, and we certainly think we have probably a 60% market share in that space.

That's superb. I mean, that was the goal when you got into that business years ago. Is there opportunity to expand capacity in that business, you think, over time then? Is that market going to -- should grow and expand, or do you take it to different basins? Can you go -- or I guess, the business comes to you from basins all over though, doesn't it ?

It does. Remember these frac units are on trailers, and they can travel at 60 miles an hour. But that said, we have a facility in Midland, Odessa. We've just expanded it, added a lot of capability there. I've hired a lot of people, still trying to hire people in Midland, Odessa. So we have expanded essentially in that area.

And my last question, are you seeing some alleviation on the vendor supply situation? Or is that beginning -- bottleneck beginning to clear up a little bit?

Yes. So the bottlenecks are clearing up. But look, part of this is supply chain issues. There's new technologies. And look, we went from a Tier 3 to Tier 4 engines or Tier 2 engines to Tier 4 engines from a -- in a mission standpoint. So that's all new technology. There's new pumps being developed. So that's new technologies. With the new tier standards and the new bigger engines, there's new transmissions that are coming out. So the supply chain issues aren't just bottleneck delivery problems, but some of it's -- these are new designs. And with every new design, there's always kind of ramp-up issues and issues that our OEMs are dealing with. And I would say this, they're dealing with them, but they do have an impact.

And you see that continuing into 2019...

No, I'm hopeful by the end of this quarter, the bulk of them will be resolved.

All right. Thank you, Bill, and thank you everyone for participating in our call today. If you have any questions or comments, you feel free to reach me directly at (713) 435-1545. Thanks, everyone, and have a great day.

Thank you. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect your lines.