Mueller Water Products Inc (MWA) 2018 Q1 法說會逐字稿

Welcome, everyone, and thank you for standing by. (Operator Instructions) This call is being recorded. If you have any objections, you may disconnect at this moment. May I introduce your speaker for today, Yolanda Kokayi. Please go ahead.

Good morning, everyone. Welcome to Mueller Water Products 2018 First Quarter Conference Call. We issued our press release reporting results of operations for the quarter ended December 31, 2017 yesterday afternoon. A copy of it is available on our website, muellerwaterproducts.com.

Discussing the first quarter's results and outlook for the full year are Scott Hall, our President and CEO; and Martie Zakas, our CFO. This morning's call is being recorded and webcast live on the Internet. We have also posted slides on our website to help illustrate the quarter's results as well as to address forward-looking statements and our non-GAAP disclosure requirements.

At this time, please refer to Slide 2. This slide identifies non-GAAP financial measures referenced in our press release, on our slides and on this call, and discloses the reasons why we believe that these measures provide useful information to investors. Reconciliations between GAAP and non-GAAP financial measures are included in the supplemental information within our press release and on our website.

Slide 3 addresses forward-looking statements made on this call. This slide includes cautionary information identifying important factors that could cause actual results to differ materially from those included in forward-looking statements. Please review Slides 2 and 3 in their entirety.

During this call, all references to a specific year or quarter, unless specified otherwise, refer to our fiscal year, which ends on September 30. A replay of this morning's call will be available for 30 days at 1 (866) 380-8124. The archived webcast and corresponding slides will be available for at least 90 days in the Investor Relations section of our website. In addition, we will furnish a copy of our prepared remarks on Form 8-K later this morning.

I'll now turn the call over to Scott.

Thanks, Yolanda. Thank you for joining us today as we discuss our 2018 first quarter results. I'll give you a quick overview of the quarter, and then Marty will follow with additional analysis. I will then provide some further color on key performance indicators later in the call. We will finish up with an updated discussion of our outlook for 2018.

Overall, I was pleased by the 6.6% growth in consolidated net sales. We had a strong 9.4% increase in infrastructure net sales, primarily driven by higher shipment volumes, the addition of Singer Valve and favorable pricing. These factors were partially offset by lower volumes in Technologies' meter business. From an operating perspective, we benefited from ongoing manufacturing productivity improvements this quarter. However, we continue to experience rising material costs, particularly in brass, which increased 3.6% sequentially and 23.8% year-over-year.

You have heard much about tax legislation, and we will spend time on it this morning. The new tax legislation improved our first quarter earnings and will be an ongoing benefit by providing additional liquidity and earnings. We will continue to balance our capital allocation among strategic investments to strengthen and grow the business, while at the same time, returning cash to shareholders through share repurchases and dividends. We repurchased $10 million worth of shares during the first quarter, and we recently declared a 25% increase in our quarterly dividend.

We remain confident in our ability to deliver both strong consolidated net sales growth and conversion margin improvement for 2018, driven by healthy end markets and continued execution of our strategic initiatives.

With that, I'll turn the call over to Martie.

Thanks, Scott, and good morning. I will start with our first quarter consolidated financial results, then review our segment performance. I will then move on to the current and ongoing impact of the new tax legislation. Consolidated net sales for the 2018 first quarter increased $11.1 million or 6.6% to $178.3 million. Most of this growth was a $13.8 million increase from infrastructure, which was partially offset by a $2.7 million decline for Technologies due to lower shipment volumes at Mueller Systems.

Gross profit improved this quarter by $3.6 million to $55.4 million, and gross margin increased by 10 basis points to 31.1%, which we were pleased to see given the inflationary environment. Selling, general and administrative expenses were $39.8 million in the quarter and $36.3 million in the first quarter last year. The increase was due primarily to the addition of SG&A at Singer Valve and personnel-related expenses. Operating income improved 45.8% to $20.7 million and adjusted operating income was $15.6 million in the 2018 first quarter, and $15.5 million in the 2017 first quarter.

Our adjusted results this quarter excluded a gain of $9 million on the sale of an idle facility and expenses of $3.9 million related to strategic reorganization and other charges. As we discussed before, we expect to report expenses related to our previously announced strategic reorganization throughout 2018.

Operating performance was favorably impacted by price, manufacturing productivity improvements and volume, which were almost entirely offset by higher material costs and higher SG&A personnel-related expenses, which includes R&D staff and other engineers.

Adjusted EBITDA for the 2018 first quarter increased to $26 million compared with $25.5 million in 2017. For the trailing 12 months, adjusted EBITDA was $164.3 million or 19.6% of sales.

Net interest expense for the 2018 first quarter decreased by $1.2 million to $5.2 million, primarily due to higher interest income this year. Now on to tax legislation. On December 22, 2017, tax legislation was enacted that made significant revisions to federal income tax laws. These changes included lowering the corporate income tax rate to 21% from 35%, overhauling the taxation of income earned outside the United States and eliminating or limiting certain deductions.

The effective date of the tax rate change was January 1, 2018. Therefore, we are subject to a blended federal tax rate of 24.5% throughout our fiscal 2018. For the 2018 first quarter, we reported a net income tax benefit of $39.8 million, which was largely driven by a benefit of $42.6 million related to remeasurement of our net deferred income tax liabilities using the enacted tax rates in effect when we expect to recognize the related tax expenses or benefits.

Other than this remeasurement benefit, income tax expense was $2.8 million or 18.3% of income before income taxes, which is lower than the statutory tax rate due to the impact of discrete items during the quarter, particularly certain effects of stock compensation transactions.

Also under this legislation, we are subject to a one-time transition tax on undistributed foreign earnings. The amount of this tax is not reasonably estimable at this time, so we have not yet recorded a provision for this tax. We expect to record tax expense for this transaction tax later in 2018. Although we will benefit from a lower corporate income tax rate in 2019 compared with our 2018 blended rate, we also expect to be unfavorably impacted by the elimination or reduction of certain deductions that are currently available to us, such as the domestic manufacturing deduction.

The tax benefit from the remeasurement of our net deferred tax liabilities was excluded from the adjusted net income per share, which was $0.06 for the quarter and $0.04 in 2017.

Now I'll turn to segment performance, starting with infrastructure. Net sales for the 2018 first quarter increased $13.8 million or 9.4% to $160.1 million, primarily due to higher shipment volume, the addition of Singer Valve and favorable pricing. Adjusted operating income for the 2018 first quarter increased $1.8 million or 6.8% to $28.1 million, primarily due to increased shipment volumes, favorable pricing and manufacturing productivity improvements, which were partially offset by higher material costs. We experienced higher material costs both, year-over-year and sequentially.

Adjusted EBITDA for the 2018 first quarter increased $1.9 million or 5.4% to $37.1 million versus $35.2 million in the 2017 first quarter. Moving on to Technologies. In our 2018 first quarter, net sales decreased $2.7 million to $18.2 million. Echologics' net sales increased this quarter. However, this growth was more than offset by a relative decline in Mueller Systems' metering shipments that was primarily due to a difficult comparison with a year ago.

As a reminder, through the first 6 months of last year, Mueller Systems' net sales were up over 20% as compared with 2016, when several large projects were at or near peak deployment. Given the project nature of the Mueller Systems business, quarter-over-quarter comparisons are not necessarily meaningful.

Adjusted operating losses were $4.6 million for the 2018 first quarter and $2.2 million for the 2017 first quarter. This decline in adjusted operating results was primarily due to lower shipment volumes previously mentioned.

Now I'll review our liquidity. Free cash flow, which is cash flows from operating activities of continuing operations less capital expenditures, was negative $5.9 million for the 2018 first quarter and negative $24.1 million for the prior year quarter. Free cash flow was higher this quarter, largely due to improved working capital management and infrastructure and lower income tax payments this quarter compared with the first quarter of last year.

We invested $6.4 million in the quarter for capital expenditures, largely to upgrade our equipment and manufacturing capabilities to further drive productivity improvements and cost savings across the organization. At December 31, 2017, total debt was comprised of a $478.2 million senior secured term loan due November 2021, and $1.7 million of other.

The term loan accrues interest at a floating rate equal to LIBOR plus a margin of 250 basis points. We have interest rate swap contracts that effectively fix the interest rate on $150 million of our term loan borrowings at 4.8% through September 30, 2021.

Net debt leverage ratio was less than 1, and our excess availability under the ABL agreement was about $96 million.

I'll now turn the call to Scott, to talk more about our results and updated 2018 outlook.

Thanks, Martie. I'd like to talk now about 5 key areas for the quarter. The first being net sales growth, and then on to operating performance, material cost, pricing, and then finally, capital allocation. At that point, we'll move on to take a look at our full year outlook. Starting with net sales growth.

Infrastructure's first quarter net sales growth of 9.4% was driven by growth across all our major product lines, which include valves, hydrants and brass products. We are seeing favorable market dynamics in both our municipal and residential end markets, and all indications to us are that the fundamentals are very good for a healthy demand environmental throughout 2018.

Although Technologies' first quarter net sales decreased year-over-year, we were pleased to see a $2.5 million increase in sales of our fixed and mobile leak detection solutions in the quarter. This increase was more than offset by a decline in metering volumes and pipe condition assessment services. As mentioned earlier, the decline in metering shipments this quarter was primarily due to a difficult comparison with a year ago, when several large AMI projects where at peak deployment.

Technologies' fixed leak detection solutions continue to win new business and ended the quarter with more business under contract than a year ago. Technologies is focused on growth sales of its AMI and leak detection technologies and improving operating performance over the course of the year.

On the manufacturing front, I continue to be encouraged by the operating performance at infrastructure as we, again, delivered meaningful cost savings and productivity improvements in the quarter. We are still experiencing an unfavorable material cost environment that more than offset these improvements as first quarter material cost rose about 5.5% compared with the prior year quarter or about 1% sequentially, which lowered our conversion margin in the quarter.

We believe the impact from higher year-over-year material cost to be less in the second half of 2018 compared to the first half of the year, but still higher than a year ago. We expect to offset these higher material costs with additional productivity improvements and improved pricing. First quarter pricing was up solidly year-over-year and sequentially, but not enough to fully offset the increased material costs.

As we've stated before, price changes tend to lag changes in input costs. We believe we can satisfactorily address increases in material costs with appropriate pricing actions over time.

In December, we announced price increases for valves, hydrants and gas products effective in the second quarter in the U.S. and Canadian markets. Over time, we expect our pricing yields to exceed material cost inflation. On a sequential basis, we have improved pricing over each of the last 3 quarters.

Moving on to capital allocation. Our capital allocation strategy remains focused on enhancing our position as a water infrastructure company and adding long-term value for our shareholders. We will continue to balance our capital allocation among strategic investments to strengthen and grow the business and returning cash to shareholders.

In conjunction with our strategy to enhance productivity and accelerate product innovation, we believe some of the provisions of the new tax legislation will provide the backdrop to realize more benefit from these investments. For example, the needed income tax reduction related to capital assets placed in service as well as the lower U.S. federal corporate tax rate will further enhance our already-strong cash position. We are analyzing additional investment opportunities that will help us expand the product portfolio, broaden manufacturing capabilities and efficiencies and support growth initiatives.

As I have previously discussed, I expect near-term capital expenditures to be higher than they have been historically to help support our strategic growth initiatives. Additionally, we will continue to look for strategic acquisitions to expand our product portfolio and geographic footprint.

Since January 2017, we have repurchased $65 million worth of shares and have $185 million remaining as part of our ongoing buyback program. Additionally, we recently declared a 25% increase in our quarterly dividend. This is the fourth increase to our quarterly dividend in the last 3 years.

As we have repeatedly mentioned, we will continue to take a balanced approach in our capital allocation that will seek opportunities on the M&A front, reinvest in the business, buy back shares and return earnings to shareholders through dividends.

I'd like to wrap up the call now with a review of our full year expectations for consolidated results. I remain confident in our outlook for 2018, which remains unchanged. For our key end markets, we expect residential construction market percentage growth to be in the mid-single-digit range, while municipal spending growth will be in the low single-digit range. State and local seasonally adjusted tax receipts continue to increase year-over-year as do water rates, both good indicators of future growth.

Our expectations for our operating performance in 2018 remain unchanged. We continue to anticipate the consolidated net sales will grow in the 4% to 7% range. Although we did not see strong conversion margins this quarter, we continue to expect our conversion margin will range from 35% to 40% in 2018. We are on track to deliver the anticipated cost savings from our strategic reorganization, while also increasing investments in new product development, engineering resources and productivity initiatives.

Martie will now provide some final comments on our 2018 outlook.

Thanks, Scott. Turning to some of the other expectations for our 2018 performance. Corporate expenses are expected to be between $33 million and $36 million. We expect depreciation and amortization to range from $44 million to $46 million. Net interest expense to be between $21 million and $23 million, and capital expenditures to range from $40 million to $48 million.

As Scott outlined, we are evaluating possibilities for additional capital expenditures in 2018. We anticipate that our adjusted effective income tax rate for the full year will be between 26% and 29%, excluding the one-time transition tax.

Based on our current expectations for capital expenditures, we expect free cash flow to be higher than adjusted net income.

With that, operator, please open the call for questions.

(Operator Instructions) Our first question in the queue is coming from Mr. Mike Wood from Nomura Instinet.

First, maybe to start on the conversion margins. Happy to see that we were able to reiterate that guidance for the year. Can you talk about your confidence in achieving that, specifically the evidence that you're seeing on price hikes announced in December across all those product categories that you called out?

Yes. I think that we remain confident, because we have seen the strength sequentially. We continue through the January booking period to see strength. So I think that we -- once we see the slowing in brass and steel -- and I believe the scrap steel has slowed now, we're confident that we'll continue to be able to pass that along. So I think the spreads with price are good. I think the actual efficiencies that we're getting in the factories are good. I think Marty, kind of, pointed to it a little bit in her comments. The SG&A bubble we experienced, those personnel-related expenses, take Singer and put it to the side and recognize that we had basically through our first quarter, through 12/31, we still had some, let's call them duplicate costs associated with some of the recent structuring that we had to get kind of through the system. So as we go into our Q2, all of that is done basically and behind us. So the piece that wasn't adjusted out that -- while people were working within that SG&A number. So price, good volume, good manufacturing productivity, especially at the foundries, especially in Decatur, especially in Chattanooga, and especially, in Albertville, really leave me confident that the conversion margin should line up with our full year guidance in that 35% to 40% range.

And related to that question, would there be a prebuy here in your fiscal second quarter? How should that impact growth here in this current quarter that we're in now?

Yes. We would expect that we'll give our important customers their window to make 2 releases of products before they have to pay the new price. They'll be limited on some formulary basis. So our order book should swell, and they'll be on a time line to have us get the shipments through. So I'm a little less excited about that. I don't want to -- you'll recall last year when we went through that process, we weren't sure what the uptake was going to look like from distribution because they had gotten burned before. So we haven't got a huge amount of prebuy in our forecast. And if we get more than we have forecasted, we'll get some manufacturing efficiencies from it. And if we're kind of in this muted level that we are anticipating right now, we'll still be able to deliver the 35% to 40%.

Great. Just finally, can I ask about Technologies. Just sounds like in your remarks, you're attributing the sales softness to the tough large project comps. I think this is supposed to be a pretty fast-growing business segment in general. So can you just talk about what you're seeing in backlogs and order activity? What your patience in -- is in this business and your longer-term confidence in it?

Okay. So I knew it's coming. So we're not going to duck. Were we disappointed in volume in meters in the quarter? Yes, we were. We continue to work 3 contracts right now that are meaningful and will be meaningful to the business that we think we'll be able to announce here in a few -- next 12 or 14 weeks. But fundamentally, whether we win these little -- these contracts or have a little win here or a little win there is not the point. We have to scale the business. And if we can't scale the business, then we have to run the business more efficiently than we've been running it. And I believe in the technology, I continue to believe in the strategy. I think we have to do a better job with our selling proposition. I think we have to do a better job with larger cities, so they understand why it's advantageous to go the urban open architecture way. But there are still lots of things we can do with the business from a cost structure point of view to not have these results. I think the problem with volume was part of the problem, but we could have done a better job of containing cost given the volume problems we saw in the quarter. So I don't want to duck on it. I still love the technology, and I still love the selling proposition. I think it is a winning combination. And I think that if you think about large cities, and then you think about mid-size cities, and then you think about rural areas, and the need for a water authority to actually address all of them, and the need to have both fixed networks and open networks like wide-area networks, so in your densest populated areas, your wide-area network in your -- kind of your 'burb areas, you've got kind of a proprietary network. And then when you're out in the kind of farmland and rural areas, you're interconnecting through a cellular network. We are the only people that can provide an umbrella over all of it and have software integrate to all of it, and all at the same time, integrate leak detection. So I still believe in it. You'll know when we don't, because we'll take the engineering out. But I believe we're going to continue down this path. We're having wins, certainly not at the rate I would like them. But I believe the team is on the right path, and I'm encouraged by some of the signature wins that they have had. So we're not giving up yet.

Our next question is coming from Mr. Bill Newby from D.A. Davidson.

Bill Newby, on for Brent Thielman today. Just hoping to get a little bit more color on the price increases you guys are implementing. Are you seeing competitors respond to similar price increases across the market?

We don't really comment on what they're doing. And I'm not in a position where I can say, I know even how they've responded. We went out with our lifts in December, we've not seen a lot of pushback and distribution seems to understand what's going on. So I would imagine if they had some other options, they would. But we try not to comment one way or the other. I think though that everybody is experiencing higher material costs. And so unless anybody wants to see margins shrink, they're going to have to take some pricing action by definition in order to cover the higher material costs.

Okay. And then, I mean, it sounds like from -- I mean, in your earlier comments that you are pretty comfortable just being able to fully recover the materials increases with the recently announced price increase. Is there a chance that you guys might, like, entertain a further price increase later this year? Or are you guys pretty comfortable with where we stand there?

It's tough to answer that one. I mean, we would come back with more pricing if we are wrong and the forward markets are wrong about where bass alloys look like they're going to be. If you look at the copper content and you look forward, we think we've taken appropriate action given our timing and the position in the market. But if that were to change materially, yes, we would have to make some changes as well because we're not going to let this run away from us.

Our next question is coming from Mr. Brian Lee from Goldman Sachs.

Maybe first one on infrastructure. This is the second straight quarter of pretty robust year-on-year growth. So you got some forward momentum here heading into fiscal '18. I know, Scott, you're maintaining the overall growth targets of 4% to 7%. But just in the context of infrastructure seeming to be on its foot, how should we be thinking about sort of the progression through the year, because it would suggest maybe you're anticipating some moderation in the cadence? Or maybe there's some implication here that you think Mueller Technologies continues to not grow? But just wondering how we should take that into context, because infrastructure just seems to be doing better than we would have anticipated.

Right. Well, I think in the infrastructure, the organic growth is right where I've guided you. Singer will drop off in our comps in February. So we will have this quarter -- partially this quarter and then we're back to pure organic. We don't have any pickup from the acquisition. So I think we're well guided. Obviously, I'd like to see us kind of be at the top end of that. And then nothing I'd love more than to come back in the June time frame and guide you to a larger number than 7%. But we're not there yet, and we're not seeing it in the market. So I think the -- we expect that growth rate to moderate once you see Singer drop off the comp, first and foremost.

Okay, fair enough. Maybe secondarily, just on the growth topic. Are you expecting Mueller Technologies to grow this year versus fiscal '17? You talked to some of the Echologics strength here, which was persisted for a couple of quarters. But can you also talk to what you're seeing in AMI mix and also the growth trends there?

Yes. So the AMI mix continues to be good. All of our new wins continue to be in that technology. And yes, I expect it to grow. I think we've got targeted a couple of more areas that we should win. We will need though pretty much flawless schedule maintenance on the projects we have in-house in order to hit that growth number. So nobody can push or we'll have to pull in some things. So if you think about the way this business works, everything I'm negotiating right now probably will have 0 revenue in this fiscal year. Basically in contract negotiations on 2 or 3 right now, when you look at all of the shipments, they will be basically in my fiscal '19. So what I have in front of me, I have to execute on perfectly. Which also means, the municipality has to not push dates or push funding because we're right around. So the growth that I anticipated when we started is going to be a little less due to some of these projects changing. So we're going to have to go into the market, into the distribution market, and try and hustle some more orders in order to provide the growth. I think that's where we are with the business right now.

So just to maybe drill down on that a bit more. If we're thinking about a return to growth in Mueller Technologies, is it fair to say we're talking pretty much into the back half of fiscal '18, if not sort of towards the very end of it?

Yes. First, in Technologies, I would expect you to see continuous growth quarter-over-quarter in the echo business. I think we have another tough comp this quarter with the meter business, and then I would expect the meter business to grow in my Q3 and 4. That's how I think about the business. And it's why I didn't want to get into this. If you recall, I didn't want to get into quarterly guidance because I knew it was going to be lumpy. And I knew where we wanted to be from a cost structure point of view, and we still have to get there.

Okay, fair enough. Last one from me just, I know you haven't delineated a specific margin target per se, but it sounded like last quarter when you gave the initial guidance, obviously, you were maintaining the metrics of the growth rate and conversion margin expectations. What should we be thinking about as it flows through to operating margins? What sort of expansion can we see on that line item? And then if you could just maybe detail a bit more on the specific productivity gains you're targeting across the 2 segments here moving through the year?

I'm not sure.

I think part of the question is the way that we've addressed operating margins and your thinking about it is just from the standpoint of conversion margin. So what we've said is that we see the incremental growth that we're projecting year-over-year and so what do we think that we'll benefit from that growth on an operating income basis?

Yes, right. So you have to look at the accretion. If I make -- I can't even remember the numbers, but if I'm making, let's say, ballpark 20% EBITDA margin and then all that new stuff comes in at, let's call it 37.5%, then your accretion would say that you're going to be a 20.2% or 20.3%. So I think you'd have to do that math. To answer your other question, yes, I'm still kind of in that easy flow through somewhere between -- somewhere right around 50 basis points from productivity. And as we add new product development skills and assets and people, part of that dilution takes place. But we think in terms of 50 to 100 basis points every year of productivity, some breakage along the way and then some reinvestment in the business and then some falling back to the bottom line. And we're going to continue with that long.

Our next question is coming from Joe Giordano from Cowen.

This is Tristan, in for Joe. If we can talk about your hydrant business for -- just for a little bit. Are you more or less likely to gain share at smaller municipalities or larger municipalities? I guess, in other words, how sticky is that business at different muni sizes?

Yes. I don't think we think of it that way. I mean, we think about the top 25 MSAs, where is our spec position, where do we have to get spec positioned, where is it on open spec? We tend to think about it in terms of how our spec position is positioned. Is it easy to break? Is it a generic? Is it very specific? And then focusing our selling proposition, our efforts around making sure we have tight positions. And that goes basically for all the large MSAs. We're dependent on all the really small MSAs on distribution, that's where our partnership comes. We're present on the big ones. We're building relationships with the largest cities and water authorities in the country. But then distribution handles -- there's 50,000-something water utilities in the country. And so basically distribution handles the smaller ones, and we rely on them and we work with them territory by territory as do our competitors. So I don't like to think of it as stickiness or anything like that. I will say that there is a notion out there around some kind of volume discounting. And I don't know how to say to say it other than to say, if you look at the quarter and you look at the last 3 quarters, in each of them price has been north of $2 million, $2.5 million. And so there is no discounting going on around account target. We're getting price in the market because we're increasing prices, not because we're doing some kind of volume discounting.

And then if I can just ask about the contribution from Singer Valve during the quarter?

Yes. Singer was as expected, not accretive. We had some purchase accounting expectations associated with the performance of the business, and it came in right on target. And I think our revenue was, for the quarter, right around $3.7 million. Might have been a little tad less, more like $3.6 million or something, but 3 -- let's call it $3.7 million. But if you're thinking about organic growth for the infrastructure business, that was more like...

It was about -- probably about 4%, 4.5% on a consolidated basis.

Yes.

Next question is coming from Mr. Jose Garza from Gabelli.

Just following on that infrastructure side. Could you guys just delineate in terms of maybe volume just hydrants versus -- hydrants and valve versus maybe some of the products that you guys have going in the waster water markets?

Sure. So the strength in the infrastructure business. If I were to kind of segment that out without giving you specifics, I would say that the brass and the gas business led the way in growth. Part of that was very much a result of price increases, and so the combination of volume and price in the brass -- predominantly brass business is why we had the largest growth there. That was really followed by the brass business with Singer. So if you think about the specialty valve business we have, that business was up, the next most amount, just under double digits. And then the slowest growth would have been in the gate valve and hydrant business. So in infrastructure kind of in brass and gas, then specialty, think about the project-driven business and then hydrants and valves, which would have been below the average growth for the segment.

Okay, that's helpful. And then, I guess, this is for Martie. Martie, I just -- kind of the puts and takes on kind of just the tax rate may be looking beyond, I guess, 2018 and even maybe 2019, what's kind of a reasonable assumption for us to kind of utilize?

Certainly. First of all, I want to point out, as we look at our fiscal 2018, we gave you an expected range of 26% to 29%. But one thing I want to make sure everybody is clear on is, when you look at when the tax legislation was enacted effective January 1, because of our fiscal year we have a blended rate that is in effect for us, for our entire fiscal year, which is 24.5%. So that sort of forms the basis for our outlook for fiscal '18 being 26% to 29%. We don't have specific guidance yet on tax rate for 2019, but just to help you think about it, we will -- in our fiscal '19, we will be subject to the corporate tax rate of 21%. I will point out that there are some deductions that are available to us, and I talked about these before, primarily the domestic manufacturing deductions. And those will go away in fiscal '19. So that's the benefit that we've had in the past that is eliminated as part of the tax legislation. So we would expect to be probably a little bit lower as we go into fiscal '19, but probably not benefiting for the full difference between the blended rate and the corporate tax rate because of some of these deductions that will go away.

And I just would like to chime in on there, Jose, that the supplement -- and Martie maybe you can talk about a little bit. I've read some things recently that would indicate that there's a lack of understanding of how much state income taxes are being collected. So if you think about our guidance, we have every year -- and if you look at our 10-K, there's a rate rec in there. I think last year, the rate reconciliation was about 4% state tax that gets added to your federal tax, and then you take your deductions from there. So there was a lot written around these things, but I think if you look at our -- if you go to our 10-K and you look at our income tax rate reconciliation, you'll be able to start to see some of the puts and takes.

Yes. We're probably 4%, 4.5%, as you look around state tax rates.

And that's in our guidance as well.

Okay. Actually, continuing on the taxes, is there anything that customers are saying, I guess, positively or negatively just in terms of the salt elimination?

I would say, on a corporate basis, I don't know if you're asking that question. It's...

I guess, from an end-user?

From an end-user.

From an end-user?

Yes.

No, I don't -- it's not something that the industry is talking about. And I think from a municipality perspective too, it's not really going to be topical because of their nontax status. But it's something we should think about, I guess. But no, it's not being talked about today, Jose. And you said, salt, right?

Yes.

Our next question is coming from Seth Weber from RBC Capital Markets.

I wanted to just make sure, I guess, first to, I mean, clarify what your comments are on the tech business, the revenue ramp. Scott, are you -- were you saying that you think that the business grows at some point this year? Or do you think it's up for the full year year-over-year?

I think it's up for the full year year-over-year. So we recover this $2.4 million and be up slightly. In order for that to happen, as I mentioned earlier, we need perfect execution on the rest of the outstanding projects that we have to ship. We can still achieve growth. And the expectations for the team is that given some of the pushbacks we've had and some of the project delays we've had as a result of these first quarter, the challenge to the team is to get in to the distribution market, it is to get in to some of these other areas and cover off some of the mess from Q1. Is that in my outlook? Right now, it is not. I still think we can get to some growth, but we've got some work to do.

Okay. And so just backing into the numbers, it sort of suggests just like a mid-$20 million kind of run rate at some point probably, right, probably by the end of the year. So my question is, is that a level -- is that an upscale for you for that business to start to at least have visibility towards profitability? And are you still adding engineers and sales and marketing? How should we think about -- you called out scale. And so I'm just trying to understand what you think the right number is that -- to kind of reach -- what's the scale number you are targeting here?

Okay. So I -- let me kind of break this up into 2 answers. Yes, the meter business at $25 million in a quarter has to make money. That kind of scale, it has to be profitable. No, the echo business is not going to be finished with engineering, software development, and frankly, new product development that if it were to hit its goals completely this year, would I expect it -- if it would -- it'd be good if it was kind of a breakeven performance. Does that answer it?

Yes. And can -- well, can you just remind us what the revenues mix is between echo and systems?

Think of it as about 80% to 20% or 75%, 25%.

Okay. So...

Meters being the bigger piece.

Right. So -- but you called out a $25 million systems revenue run rate, but it doesn't seem if that's -- it doesn't seem like you're going to be there this year based on kind of flat to up growth for the whole business, right?

I think we should have 1 quarter in that profitable range. I think if you are lead -- if you're trying to get to where I think you're trying to get to, then, yes, I think we have to have a quarter of profitability in that business at a $22 million or $23 million volume number.

Our next question is coming from Mr. Ryan Connors from Boenning and Scattergood.

I wonder if you can expand a little bit on the residential and land development home building side? You've talked a lot about the municipal market and you touched on residential, but can you talk -- expand there a little bit on what you're seeing there in terms of order backlog and outlook?

Yes. I mean, so to be clear, when I say the dynamics are good, I think that land development dynamics are even better than housing starts. And that's why I remain bullish for the year. I think that if you look at the land development numbers, you can see that they could realistically be in that kind of double -- low double-digit kind of 10% number. I think, right now, the forecast are right around 9%. And we really need land development for hydrants and valves. I mean, if you think about it, a house gets started, there's already curb and sewer in when the house gets started. So we're kind of at that front end of the cycle. And that number, I think, looks like 10%. On top of that, home inventories are low and house formations are running right around $1.2 million, $1.3 million a year. And so if you think about all of those factors, I think that the fundamentals on 30%, 35% of the business are really, really good for continued growth. Then on the other side, we have seen the census data indicate, Ryan, I know you watch this, that the water line business and the sewer line business has actually been shrinking spending. Even though water spending has been up, infrastructure in water line and sewer line has actually shrunk through November. And that this pause is really because too much of municipality's money has been spent on pumping stations, disaster recovery, dewatering pumps, things associated with Irma and Harvey, the California flooding. And so we saw a lot of increase in spending, but not all of it kind of in our power alley. We're starting to see that turn. As they neglected those areas, we're starting to see O&M dollars come back in, especially in December. And I think, again in January, we're seeing good O&M activity. So I think we had a pause last year in O&M spending and it's returning. And at the same time, we see a fairly favorable land development number along with housing starts, along with home formations, which would indicate that the houses will be taken off the market. So I feel pretty bullish about demand.

Got it. Now on the land development side, does new development and the new infrastructure associated with that, does that create a pull-through opportunity for Technologies and Echologics, in particular, because rather than having to retrofit it on to an existing infrastructure, it's a greenfield and they can put in some leak detection condition assessment upfront? Or is that just sort of immaterial?

I would say, it should be true, but my experience so far would indicate that a lot of developers are not willing to spend the money unless dictated to by some water authority. And so they're trying to put that in as cheaply as they can, and they're not interested in it. The water authorities on the other hand tend to be really using leak detection to focus on their nonrev water, which their new installations tend not to do. So I'd love to bundle it, and we've had the idea, it's just hard to execute because nobody is willing to spend the extra money yet to have kind of a future-proofed system in place.

Makes sense. Now my last question, going back to the scale discussion with the prior questioner there. A lot of talk about the internal cost improvement and what the right revenue run rate is of the existing business to get there. What about acquisitions as a means of adding scale? Is that just sort of something that's okay if it comes along? Or is that something that's more of a real focus and a key part of getting there?

Well, we try not to comment too much on acquisitions and try and keep it, so that not everybody is aware of what we're doing. But let me say this, there's a really big drop off between #3 and #4 in the meter market. If you think about 3 big guys and then the drop off, you would have to do a ton of consolidation at the bottom of the market to have a meaningful presence. And so if you were, you'd have to buy up. And it's not something we would say we would or wouldn't do, I wouldn't comment on that. But we're aware of the structure of the meter market.

Our next question is coming from Mr. Jim Giannakouros from Oppenheimer.

Quick one for Martie. I believe you took up CapEx for FY '18. Sorry I missed it, Martie, as you touched on it in your prepared remarks, but what drove that? You took it up a few million dollars versus last quarter's guidance?

See, we did take it up a little bit, and that's largely because as we've looked at what we think are some of the opportunities that we have as we evaluate some of the internal projects. It's a matter of looking at some projects that we think will further enhance some of our productivity. Our manufacturing capabilities, we're seeing pretty good payback on them, and it's those that we're taking a look at. So yes, I'd say, our expectation is higher than it was at the end of the quarter. And I think I'll point out as well that Scott referenced that we are continuing to look at capital expenditure opportunities and if we see additional opportunities, you could see those numbers change again.

Right. One of the things I have asked the team to do was to look at what we can get in service while we have the favorable treatment associated with 100% bonus appreciation. If you think about our blended rate tax situation, you get 24.5% on that versus 19%, you'll get 21%. So let's be smart, and let's think about -- let's not just spend money stupidly, but let's be smart and let's spend money on the things that will make us more efficient, that can open new product avenues for us and that can improve our quality and throughput.

Got it. Okay. And then on the productivity initiatives, I caught your -- that you reiterated 50 to 100 basis points margin improvement target in plant. I mean, what has your moves or leaning out your facilities, I mean, what has that done to your capacity utilization? I recall a 65%, 70% or so kind of number being thrown out there in the not so distant past. So curious if it's moving the needle there just given that you are still -- you are at very high levels from a volume perspective and just our subscription to the notion that you have margin expansion runway just on fixed cost leverage?

Yes. So I think that it's -- you've hit on something that's -- it's a lot of fun around here about where everybody stands on it. But long story short, I think we're running the foundries on 10-hour shifts, 4 days a week. So I would argue that unless we have full allowance on every load, we're probably sub-50% capacity utilization, and we have a ton of growth. Now with that said, what I need to put is more paint line, so I can take away the castings when I might need a bit more machining so I could finish more faces. Yes, that kind of thing. But you should take the front end of your production process and you should make it your pacing item. We should able to pull away from the foundry basically what it can produce. And so we have lots of room to grow. We have lots of areas that we can expand into. We could melt more brass. We could melt more steel. I think we have tons of growth potential with our existing footprint, and we can even improve its efficiency. So I think that from a melt capacity and a forge capacity perspective, we have maybe 50% to 60% capacity utilization that we could grow from. It would take some downstream investment, but we're I think -- and that's not going to be an issue.

That's extremely helpful. And your price cost comments or just how you get to parity. I didn't understand, is it a exit rate FY '18 that you think you can get to fully offsetting? Is that a full FY '18? I mean, just as far as the timing there my take was that you can get to price cost parity by midyear and then for the full year, you will have fully offset. Am I understanding it correctly?

Well, if you're thinking price cost, what I think is price cost. So you include performance and price, we're offsetting it completely right now. I mean, if you look at the price of around $2.5 million in the quarter, I think our productivity net number was around $1.9 million. And I think the inflation was somewhere around $3 million, right Martie? Have I got it wrong? Or -- so I think we were...

You could be north of 40% incrementals if price cost wasn't a headwind, and so just trying to get...

Yes, yes, I know. Like if I had gotten my performance, and let's say, I've got no price and I got no material inflation, I would have picked up $1.9 million, $2 million in my conversion. As it was, inflation was like $3.1 million or something like that, and I only got $2.5 million a price back. So I lost $800,000 of my performance between price and -- but when I say price cost, I combine performance price and inflation. So it may be just a terminology thing. Price was not enough to cover inflation. Our manufacturing performance was not enough to cover inflation, but the reason we had expansion at the gross margin line is because the combination of price and performance did cover inflation.

And expectations are in the second half of the year. Based on where material costs go, we certainly see an easier comparison because of the rate of rise that we saw throughout '17 with respect to our material costs.

Our next question is coming from Walter Liptak from Seaport Global.

Thanks for being straightforward about the tech segment. But I want to just ask, I don't -- it sounds like you got these 3 metering contracts that you're working on. And I just want to see if I can clarify, did 1 get delayed? Or was there some sort of a timing issue? And I guess the question is, what's causing the metering business to have a timing issue, what is it going to take to book it yourself?

Well, wish I could tell you. To answer the question, yes, we had delays in several thousand kind of pushed out of the quarter. Part of it is the deployment schedule and part of it is a customer. But I would observe that we have to increase our booking rate and have more than just 3 in if you want this to be a scaled business. Because once you get your foot in and you have a position with the water authority, there is a follow-on business replacement business, damage, things that -- it just kind of builds and then it gets into distribution and so on and so forth. And so we have to be aggressively pursuing all of these bid contracts, so that we establish our position for the follow-on business. So win the big thing, but then once it's in there, it's almost like a -- the brake business. It's -- you want to keep replacing the pads kind of thing. So you've got to make sure you have the incumbent position with the water authority, and that has been a tough nut for us to crack. And I think the other answer to your question, Walt, is that we understand our selling proposition. I am not sure that we have done a good enough job in making the customer understand the selling proposition. And why it's in the city's best interest to put in a wide-area network, and when it's in the city's best interest to put in a dedicated network, and when it's in the city's best interest to use proprietary bandwidth or open bandwidth that -- I think we have a lot of people that understand all of this stuff and certainly I've come to understand it over the past year and it makes sense to me now. But I don't know that we've done a very good job at making the customer understand it, and I think that has to be one of our focuses over the coming 9 to 12 months. And so I think the combination of being a little more aggressive along with getting the message out there about why Mueller net, why my net, why my node, my our products will help the selling proposition, will help our volume. But we have to all -- at the same time, we do all of that we still have to run our factories efficiently. And so it's not all about volume, there are things we could have done to improve the loss position a little bit in the quarter, and we have to do those things. So I get on these calls, and we tend to get in the -- into the negative part of the call. Overall, I was pleased with the quarter. Overall, I was very happy to see infrastructure growth, very happy with manufacturing's performance around productivity, very happy with the sales team driving price, very happy. So all in all, it was for me a good quarter. I like the execution, and I like how the team responded and the countermeasures and things that had to happen. So it was a positive quarter for me, but I think that Technologies is something we have to continue, and we're going to be held accountable for, and we have to continue to work there.

And operator, thanks. We will end the call at this point. Thanks, everyone.

And that concludes today's conference. Thank you all for your participation. You may disconnect at this moment.