Sterling Infrastructure Inc (STRL) 2013 Q1 法說會逐字稿

Greetings. Welcome to the Sterling Construction Company first quarter 2013 conference call. At this time all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation.

(Operator Instructions)

As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Liz Brumley, CFO for Sterling Construction Company. Thank you, Ms. Brumley; you may begin.

Thank you, Kevin. Good morning, ladies and gentlemen, and welcome to our first quarter conference call. Before we get started, I just wanted to give you a word of warning we've got some pretty bad thunderstorms here in Houston and so if we get disconnected hold on and we will go to plan B, with the cell phone. So we will dial back in. It may take a minute or two.

I am joined by Peter MacKenna, our Chief Executive Officer; and Brian Manning, our Chief Development Officer.

I would like to remind you that this call may include certain statements that fall within the definition of forward-looking statements under the Private. Securities Litigation Reform Act of 1995. Any such statements are subject to risks and uncertainties, including overall economic and market conditions, competitors, customers and suppliers actions, weather conditions, and other risks identified in our filings with the Securities and Exchange Commission which could cause actual results to differ materially from those anticipated. Any such statements should be considered in light of these risks. Predictions that we make at any time may not continue to reflect Management's beliefs and we do not undertake to publicly update them.

This was both a challenging and rewarding quarter. On the one hand we were disappointed with the operating loss for the 2013 first quarter. However, we are seeing favorable trends in the margins on awards. We are pleased with the results for contracts awarded in 2012 and later. Revenues for the quarter were 13% higher than the 2012 first quarter, reflecting the pickup in awards during 2012. Projects in Texas, California, and Nevada were the major contributors to the increase in revenues. The gross margin of 1.2% in the first quarter of 2013 was comparable to the 1.9% in 2012 first quarter, but well below our expectations. This was primarily a result of downward revisions on two projects in Texas, which reduced gross profits by $3.3 million.

General and administrative expenses were $9.6 million or 8.7% of revenues. This compares to $9.1 million in the 2012 fourth quarter. The increase is primarily related to spend on information systems as well as higher employee benefits. Diluted earnings per share was a loss of $0.39 for the quarter as compared to a loss of $0.44 for the 2012 first quarter. Basic and diluted EPS for the first quarter includes the charge of $0.11 related to an increase in certain non-controlling interest obligations. In accordance with GAAP, revisions to the estimated obligations are reported directly to retained earnings and do not impact net income, but these are taken into consideration in computing earnings per share.

Earnings attributable to non-controlling interest centers was only $200,000 for the 2013 first quarter, and was impacted by breakeven results for the 50% interest held by the owners of Myers in California and RHB in Nevada and Hawaii. As you recall, we own 100% of ROW, which has our Utah and Arizona operations, as a result of the acquisition of non-controlling interest in December 2012.

Our overall effective tax rate for the quarter is impacted by the non-controlling interest earnings. After adjusting for this impact the overall effective tax rate was 38% for the 2013 first quarter. The diluted loss per share, excluding the $0.11 charge to retained earnings, was $0.28.

Capital expenditures were $4.9 million for the 2013 first quarter. As previously discussed, we expect the capital expenditures for 2013 will be lower than in 2012, which was impacted by efforts in Texas to right-size their fleets, certain expenditures for buildings, as well as piling and shoring equipment. In contrast to 2012 first quarter, proceeds from disposals of property and equipment were not significant for the 2013 first quarter.

Backlog at March 31, 2013 was $693 million and that compares to $656 million at December 31, 2012. About 32% of our backlog is attributable to awards prior to 2012 and is primarily work in Texas. The average margin on these earlier awards has been impacted by the write-downs in estimated gross profit 2011 and later periods. It is estimated currently at around 3%. In contrast, the remaining backlog, which was awarded in 2012 and 2013, is at an estimated gross margin that is comparable to the 7.5% realized in 2012.

Sterling continues to be in very sound financial condition. Net working capital at quarter end totaled $71.7 million.

I will now turn the call over to our CEO, Peter MacKenna.

Thanks, Liz. And try not too choke to hard. (laughter) In these prepared remarks I'd like take a few minutes to address some of the issues and trends that we have seen in our business. Of course, we will be available to answer your specific questions in a few minutes. Of course, that's contingent on surviving this Texas thunderstorm outside.

Many of the trends highlight the positive impact of the steps that Management has taken over the past few quarters to first, stabilize our current projects, and second, to prepare the organization for growth and sustainable earnings.

First and foremost I want you to know how extremely proud I am of the 1,500 men and women of Sterling. In the first quarter they worked more than 770,000 hours and did so without a single lost-time accident. In fact our operating unit in Ralph L. Wadsworth in Utah has worked almost eight full quarters without lost-time accident. First, working safely is not just a catchy platitude; it is our moral and ethical imperative. And, frankly, it's also just good business. But in addition, improving safety performance is a leading indicator of improving project performance. A robust safety program such as ours, requires pretest planning and hazard analysis. When you're planning to work safely you're also planning to work efficiently and deliberately.

We've seen strong evidence of this operational improvement in some of our analytics. Of the 110 or so active projects, only seven were adjusted downwards. In fact, two of these projects account for more than 70% of the negative impact. This is the smallest impact of write-downs in six quarters, both in terms of number of projects and dollar impact. I also want to note that six of the seven projects written-down were already in a loss position, and all had been prior to 2012.

As Liz said, 30% of our $692 million in backlog at the end of the quarter is performing at less than 3% gross margin. In spite of this impact, as well as the impact resulting from the completion of the successful I-15 core project last year, the overall quality of our backlog, when measured by embedded gross margin, has improved 10% since December 31, 2012. In fact, the quality of the backlog in our Texas subsidiary has improved by more than 20% over the same period. We expect this trend to continue as the substandard backlog is burned off, and replaced with higher-quality work.

We are pleased to see that higher-quality work is available in the marketplace. I am also pleased to see that we've been successful bidders on more than $150 million worth of work bid in the first quarter and $265 million on 63 projects year to date. Even better, we are seeing an aggregate across the platform better than 10% gross bid margin. This is a result of several factors, not the least of which is the deliberate pursuit of non-commoditized work. A word of caution however. We are still seeing localized hyper-competitive markets in our historical home market places.

Functionally, Sterling continues on its path to becoming a fully integrated Company. Several shared service products are underway which will leverage our combined strength and make real the axiom that we greater than sum of our parts. Several of these initiatives have already yielded very positive results, such as the consolidation of IT, HR services, and the consolidation of our insurance and surety programs. Ongoing initiatives include the creation of a financial shared service structure, and implementation of a robust succession planning and management program.

I continue to be impressed by this Company. The projects we perform across a wide and varied geography are truly impressive. However, I am mostly impressed by the men and women that proudly work here. Of course they're driven, hard working, and focused, but they also have a strong desire to make Sterling a better company -- to share what they do well with everyone in the organization and their willingness to embrace change for the betterment of all. This is a Company that I truly believe will achieve its potential.

At this point I'll turn it over to Brian Manning, our EVP, and we'll talk about the marketplace.

Thank you, Peter.

Looking at the overall trends in the first quarter, FMI reports that residential construction is on the rise, with foreclosures down 21% from the period of December 2011 through December 2012, and office and commercial construction is rising slightly. We are encouraged by these facts, as an increase in housing activity is usually a 12-month leading indicator of recovery in the civil construction market.

On the national legislative front, the Senate is considering Senate Bill 601, the Water Resources Development Act, or WRDA, of 2013. A study conducted by the American Society of Civil Engineers showed that under-investing in the nation's marine ports and inland waterways threatens more than 1 million US jobs and $270 billion in US exports by 2020. Sterling provides infrastructure that supports port facilities. Our recent success on the $19 million Port of Houston overseas container storage yard job that was mentioned on our last call, is one example of such a port facility and a reason why Sterling would benefit from WRDA's passage.

The Texas House failed to pass the House Bill 3664 on Thursday. House Bill 3664 represented an opportunity for Texas to address a portion of a $4 billion transportation funding shortfall. The bill was to raise $700 million annually in vehicle registration fees. Texas will need to continue to look to alternative financing sources to fund infrastructure projects. Sterling is committed to tracking and supporting legislation that enhances infrastructure.

We continue to aggressively pursue construction projects in all the geographies we serve. We have undertaken market studies in all the states where we currently operate and in adjacent states where there is a potential for profitable construction. As Peter mentioned, we are seeing margin increase in our backlog, and the alternative delivery projects provide a potential for higher margin than traditional bid build work. The watch list we are tracking for potential alternative delivery projects extends from Texas to California and includes Hawaii, exceeds $4 billion in opportunities for Sterling, of which we are currently pursuing $483 million.

Our subsidiary, Texas Sterling, has been selected for approximately $35 million in new waterline work within the past few months. According to FMI, on a national level, water should grow approximately 1% in 2013 after a steep 7% decline in 2012. In addition to the $4 billion watch list, we're also tracking and will pursue over $300 million of large-diameter waterline projects that will bid this year. And finally, we continue to pursue acquisitions to expand our service capabilities and geographic footprint. There are many strategic opportunities for growth that Sterling will carefully consider in the remainder of the year.

And now if there are any questions, we're happy to answer them.

Thank you. We will now be conducting a question and answer session.

(Operator Instructions)

Saagar Parikh, KeyBanc.

Hi. Good morning

Good morning

First question on the additional write-downs. What gives you comfort that what you have in backlog now or even the backlog that you are booking at these higher-margin levels right now is being bid at correct rates or rates that give you guys enough cushion? And the reason I ask that is because your larger ENC peers on the energy side, a few of them have been facing issues on fixed price projects, have seen issues in their businesses. And so, I just want to see what you are doing in terms of your bid process to make sure your bidding correctly.

You know part of that is the feedback loop, of looking at our cost experience and working that into the estimating process. What I want to reinforce is that the work that was secured after the beginning of 2012 is performing as expected. With the normal variances, but absolutely as expected. It's these legacy projects that I think are the result of not feeding back the information. Not having the systems to do that, that continually to drag us down a little bit.

I think in terms of looking forward, that 2012 has performed -- jobs secured in 2012 performing the way they are, I think is testament to the process working. The jobs that we have picked up so far this year that have already begun are performing as expected. It's a feedback loop you have to constantly be checking and we are keeping the rigor up with looking at our forecast across completes. But I think we're feeling pretty comfortable about the processes we put in place to make sure the bids are not only accurate but competitive.

And then with those legacy projects, it seems like every quarter there is a little bit more of a write-down on those legacy projects. Why not just take a total kitchen sink approach, and why is -- what is changing every quarter that makes you guys have to go back and readjust them downwards again?

It really -- it boiled down to two projects. One of them is -- we actually mentioned it in the last call. We are the minority partner in the joint venture in Austin where we are not in operational control. And we are just not comfortable with that job. In fact we have taken a much more conservative posture than our joint venture partner has at this point. That accounts for the lion's share of the rate down.

The other project which is in New Braunfels, not far from the San Antonio, will be complete in July. And frankly it is a matter of some underground work that had to be redone that was done two years ago and it really just came to light. The good news is that that job will be done in July. The joint venture will be done by the end of the year. And we have -- I think it's $185 million at the end of the quarter in Texas backlog that is subject to this sort of volatility. The good news is that nearly all of it will be for burned off this year.

I hear what you're saying about the kitchen sink and our job is to try to make sure that we have the right forecast. I think sand bagging you guys would be just as bad as being overly optimistic. We're trying to be accurate to the best of our ability. I hope that answers your question.

And then, Peter, so you have been on now, I think, around six months or so. And what do you see in the Business -- or I think it's longer than that, my apologies -- coming over from Skanska, a bigger ENC firm in terms of the amount of revenue they did. And now that you've been in the Sterling business for awhile, what do you think you can bring over from your experience -- your 30 years or so at Skanska? What can you bring over from those into Sterling? And what is your strategic vision going forward, to a degree?

Well, I think initially bringing it over is the rigor at which you have to review that jobs and operate. I talked about it in the safety program. When you have rigorous programs whether it's safety or job cost management, or how we manage our financial function, you need strong rules. Years ago I had a boss tell me that when you have an organization of super stars, you don't need any rules. And when companies grow you need to put rules in place. And that is what we are doing now. And I keep using the word rigor, but it is almost like a religion. You've got to live within the systems and processes that are set up. And that is what we have been working very hard at doing. And I think looking at the backlog and the quality of the backlog improving, that that is starting to take hold.

And there's a lot of value proposition in the ground work that Sterling has laid over the last couple of years. Specifically, about the acquisitions they've made. The integration of those subsidiaries is key to the future of this Company. The ability to take what we do in our various units and apply that across the whole platform, will ultimately make us a major regional player. It is an integrated business on the functional side, but construction is always local. So it's the ability to let the guys do what they do well, get work and execute work, make money. And leave the functions in the center and build across.

The vision for the Company, frankly, we have a couple of holes in our footprint. I would like to fill those, and we need to diversify this platform to get into the less commoditized work. And we are seeing that in the work that we've been picking up and acquiring. But I think we need to be a little more strongly focused in the adjacent spaces. And Brian mentioned acquisitions, and is certainly part of what we are thinking about for the future. To get into adjacent space, to complementary space, to really diversify this platform, to being a broad spectrum heavy Civil Construction company.

Okay. Great. And then one last question on my part. Brian, in the press release you guys mentioned bookings in the second quarter in excess of $100 million so far. Either you or Peter, could one of you talk about what you are seeing in terms of what those bookings are and how the trends are? Maybe what regions you're seeing strength in? Thank you and I'll get back in queue.

In general we are seeing a little bit better markets in Texas, as far as the projects that we are pursuing. Peter mentioned some of the alternative delivery, or the ones where we're being selected on a best value. That's where a lot of that reputation comes into play. And the jobs -- we've got bidding activity in 2013 that represents nearly 200 jobs. And 200 jobs bid with over 60 of them won. And they are spread across the different divisions, but primarily between Texas Sterling and the RLW divisions, which would be Texas, Utah, and it also includes Arizona. And Idaho and Montana, that's a good point, Peter. Looking at those adjacent states, adjacent to Utah, as well. Where there is opportunities. And some of it has been in structures, parking structures, as well.

Great. Thank you.

(Operator Instructions)

Jack Kasprzak from BB&T Capital Markets.

Thanks. Good morning.

Good morning.

Regarding the margin comments, of what is in the backlog, older projects are obviously lower margin, since they are older. Will they roll off more quickly during the year, such that we will see the newer projects have more impact on the gross margin as 2013 unfolds? Is that a realistic expectation?

I would say you would probably see them roll off evenly throughout the year, because a lot of it is the joint venture that Peter mentioned, because it's a big chunk related to that, and that's going to go on for the full year.

Okay. And regarding SG&A expense, I think you guys had made some comments previously that the expense might be higher in dollars, but similar as a percent of sales. Where do we stand now? If you can give some guidance on SG&A expense following the first quarter results?

I think what you saw -- what we're seeing of the first quarter is going to be indicative of an annualized amount of SG&A. It is fairly comparable to what we had in the fourth quarter of 2012. So, this is more reflective of a realistic run rate. And as Peter mentioned, there is a lot of initiatives going on. So, we have got -- we're doing a lot to bolster up our IT infrastructure and there's other projects that are hitting SG&A. But these are things that we think will bring a lot of long-term benefit to the Company and make us much more effective.

We did exit a couple of executives, so there is some severance in that as well. That was unexpected.

So looking a little farther ahead into next year and beyond, that might roll off and you will reap some benefits and maybe get a little more leverage related to the G&A line?

That and, I think there is a very positive indirect impact by having better information available to the Organization, for people to run their jobs. You can't translate that into specific dollars, but I think the better and more timely, more accurate information that you've got available to people on the fly, the better they are at managing those projects in the fields.

Sure. Overall execution. Great. Thank you very much.

John Rogers from D.A. Davidson.

Hi. Good morning.

Good morning.

A couple of things. First of all I just want to make sure I'm clear on the bookings in the second quarter. You had mentioned $91 million where you were apparent low bidder, not in backlog but there was a reference to at least $100 million in bids won to date. Can you explain to me where we are relative to the second quarter?

Well, I think what I can say is that we were the apparent low bidder on approximately $265 million of worth of work year to-date. How that translates into the backlog and the timing of how that translates -- it is a little hard to say. We made the decision when I got here that we were going to move work to the backlog until we have a signed contract. And we are a little bit at the whim of the owner when they actually sign the contracts. I expect it all to move to the backlog. That is certainly our expectation. It's just the timing I am not really sure of.

Okay. No that's fair. I just want to make sure I understood it. So it's $115 million to $120 million kind of pending work -- that was not -- as of right now -- that wasn't in backlog as of the end of March?

Yes. It's at least the $91 million, and then plus a decent amount on top of that.

Okay. Certainly, and I appreciate very much the color on backlog in the margin profile, but I guess following up on Jack's question too -- it sounds -- if you just kind of combine those, you've got an aggregate backlog margin of something around just a little under 6% I guess. So, if nothing else changes, that's essentially the margin that we're looking at until that backlog is completed? Which I guess is most of 2013?

Yes. I think that's a reasonable way to look at it, because our backlog on average is about 18 months. We broke out the $220 million, which most of it should complete this year, and that's at the 3%. You can look at the rest of it and say, okay some of it is going to fall into 2014, but a decent amount will be here. You've got the indications that the revenues are going to be substantially unchanged for the year.

Okay. And then I guess as it relates, Brian on your comments, I heard what you were saying about the Texas legislation recently, but I'm also seeing reports of a lot of increases in bidding activity within Texas. Is that what you are seeing right now as well?

We are seeing that now, as well, but as Peter mentioned in his comments, there is also new players that are playing in markets that they traditionally did not play in. Specifically our highway market, so we have seen a couple of awards go to foreign entities or foreign contractors.

And so does that then include some of these mega projects that have been announced recently? Is that part of the increase that we're seeing? As opposed to what -- at least what I thought of as your more traditional -- (multiple speakers)

It's part of that, but the competition that we're referring to is on our traditional bid build work. So where these larger entities have been competing for the larger design build and PPP work, we are seeing some involvement in the bid build market from those entities, which is increasing that competition.

Interestingly enough, it's on the larger projects. So are really not seeing them on the smaller, say bread and butter projects, in the $20 million --

Sure these are $100 million plus projects that I'm referring to.

Okay. And then you touched on it a little bit in your comments relative to the various markets, but could you just refresh us a little bit on how you see your market exposure in Texas versus some of the other regions? I know it is a little hard to define, but in terms of where your capacity is allocated or how Sterling is positioned.

Well in terms of our business, the biggest single chunk is Texas, of course, but that is not where the greatest margin opportunities are right now. Those reside elsewhere. And what we are seeing, as Brian said, a relatively strong market and strong opportunities in Texas. And both in our traditional marketplace and adjacent places like Ward Transmission and some of the other opportunities.

There is a tremendous shortfall of work in Utah. UDOT has just a tiny amount of work so far this year. But RLW was able to pivot and they have picked up quite a few jobs in Idaho and Montana and Colorado, in Denver, and down in Phoenix, in Arizona which is starting to recover. So, there is great margin opportunity there and I continue to be intrigued with the Hawaiian market. We have either completed or work under contract right now in Hawaii in excess of $100 million. And it's not an easy market. It's got a lot of challenges.

But you know we paid our tuition to get there and we are established and we are doing well. And as I said, I continue to be intrigued by that market. So there are some wonderful opportunities there. And Myers and Son, our 50-50 partnership in California, has continued to find interest in nontraditional work, specialty work, where the margins are good. And frankly we are looking for margin, not volume. This commodity work has made life difficult over the last few years. And growing up in New York there was commercial on TV that says is not which you make, its which you keep, and that is definitely part of what our focus is now.

Okay. Thank you very much.

Sure.

(Operator Instructions)

Nick Coppola, Thompson Research Group.

Good morning, Nick.

It's good to hear that the newer wins are at higher margins relative to legacy projects. That's encouraging. What distinctions are there across geographies? Particularly how is Texas doing where there's been more of the challenges in the past? Any kind of color there would be helpful.

Sure. I think I mentioned in my comments, that the quality of the backlog in Texas is measured by gross margin embedded in the backlog. It's increased 20% in just this last quarter. If you dive into some of the areas -- specific districts within Texas, we have seen margin improvement of 50%. So, I am feeling a lot better about Texas. Still got to get through the crap jobs, but the future is starting to look a lot brighter. And I got to tell you they have driven a lot of rigor into how they bid jobs and execute jobs. So they've come along way. They've come a long way.

Okay. That is helpful.

And just in terms of RLW in some of the other areas, they are coming off a very big job that was driving a lot of their earnings. So they are dealing with sort of the post-I-15 world. And as I said, there is very little work in Utah right now. They have pivoted and now they're in structural work and in parking structures and some other unique projects. So their gross margin structure changing a little bit, but the one thing I have a lot of confidence in is RLW and their ability to deliver. And we are seeing some good margins as I said before in Hawaii, it's an intriguing market.

And what are you seeing in states like California or Nevada?

Nevada -- Nevada is tough and we have not really been successful in acquiring a lot of new work this year in Nevada. As a matter of fact, we had a bid last week, a $10 million bid where were second bidder by $2,000. Which you can imagine was disappointing. Nevada is tough right now and we are not chase cheap work. We will pivot, and that's why keep talking about Hawaii is a very interesting place for that organization to look.

And the traditional California work is down somewhat and that has caused us to look at nontraditional work and those opportunities that Peter spoke about earlier.

Okay. Yes. That is helpful. And then a couple follow-up questions. On the opportunities set that you talked about that $4 billion, and then the subset of that of, I think you said $483 milliion that you are pursuing, is that -- am I right in assuming that that's your share of that work? And then further on that point, are there any specific projects being talked about that are going to be bid or awarded in the near-term?

The $4 billion that I spoke of was an overall watch list. Which are potential projects that should be evolving over the 2013 to 2015 time period. So, as these projects come into an RFQ stage, or are being ready to bid, they are added to that other list the $400 million number that I spoke of, which are active pursuits. There is a solicitation on the street and we are actually pursuing them.

I want to also note that these are specialty projects that are either alternative delivery or something else unique. In addition to that -- I'll say it again, in addition to that, we have identified another $4 billion worth of opportunities that we're chasing in our normal course of events.

Right, right. Understood.

Okay.

Okay. And then my last question, I was wondering if you could talk a little bit more about the acquisition landscape. And I know you talked a little bit about sectors and geographies in the past, but is there any up date on that? And kind of what is interesting out there?

There is a lot of interesting opportunities. Bankers are knocking on the door almost everyday. I do not to talk too much about this, but there are some great opportunities. We're intrigued with a couple of them. And I think we will leave it there.

Okay fair enough. Thank you.

Sure.

(Operator Instructions)

There are no further questions at this time I'd like to turn the floor back over to management for further or closing comments.

I would just like to thank everyone for taking the time to join us for this call and your and insightful questions. We always appreciate it. We managed to survive the thunderstorm here in Houston, so I'm grateful for that as well. And I look forward to talking to you all in the future. I hope you have a great day. Thank you.

Thank you. This does conclude today's teleconference. You may disconnect your lines at this time. And have a wonderful day. We thank you for your participation today.