Tetra Tech Inc (TTEK) 2010 Q1 法說會逐字稿

Good morning, and thank you for joining us. By now, you should have received a copy of the press release. If you have not, please contact the Corporate Offices at 626-351-4664 and we will get one to your right away.

With us today from Management are Dan Batrack, Chairman and Chief Executive Officer, and David King, Chief Financial Officer. They will provide a brief overview of the results and we'll then open up the call for questions.

During the course of the conference call Tetra Tech Management may make forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These include statements concerning future events and Tetra Tech's future financial performance. The statements are only predictions and may differ materially from the actual future events or results.

Tetra Tech's Form 10-K and 10-Q reports to the Securities and Exchange Commission identify certain risk factors that could cause actual results to differ materially from the forward-looking statements. Tetra Tech undertakes no duty to update forward-looking statements.

At this time, I would like to inform you that all participants are in a listen-only mode. At the request of the Company, we will open the conference up for questions and answers after the presentation.

With that, I would now like to turn the call over to Dan Batrack. Please go ahead, Mr. Batrack.

Thank you, and good morning and welcome to our fiscal year 2010 first quarter earnings release conference call. While David King, our Chief Financial Officer, will present the specifics of our financials, I'll start with a brief overview of some of our key financial metrics for the first quarter.

Our first quarter was in line with our guidance that we provided at the beginning of the year, and as we expected our gross revenue was down 15% in our first quarter compared to the prior year, while our net revenue was up 4%. Both our operating income and operating margins were up, which resulted in a double-digit increase in our earnings per share for the quarter.

Our best performance may have been in our operating cash with more than an 80% increase in cash generated compared to the same quarter last year. It was really one of our best performances of the quarter.

And, finally, our backlog while being down 9% from the same quarter a year ago was up sequentially from the previous quarter, how we finished fiscal year 2009.

Now, in the first quarter we continued to grow our work with the Federal Government customers that we have. Most of the growth that we had with our Federal customers was driven by frontend service work that we're doing for United States Agency for International Development, the Corps of Engineers, and the EPA.

Our state and local work remains stable, and we expect it to stay at approximately a range of 15% to 18% of our overall net revenue. And although we did have a few large projects that drove our first quarter state and local revenue up to 19% we don't see this area as a growth market for us in the short term.

As expected, the biggest change for the quarter on a year-on-year basis was with our commercial revenues which decreased significantly. This decrease was driven by reduced commercial wind energy projects and land development work. Now, we knew in the first quarter on a year-on-year comparison that this was going to be a very difficult comparison due to the large wind construction projects that we completed at the end of last year.

Our international work continued to grow. Now, this very, very large year-on-year percent increase was driven by the acquisition of Wardrop. However, even without further acquisitions our international work grew from 9% of our overall revenue to 12% of our net revenue, so that's been growing very smartly for us.

I'd like to spend just a moment here going over our overall portfolio. We are organized into four business groups according to the project lifecycle. Three of our business groups provide frontend services, including consulting and engineering design work, while our fourth unit, the RCM, or Remediation and Construction Management Group, is primarily focused on construction management and turnkey projects.

This quarter our ECS Group delivered excellent performance, with our net revenue up more than 40% on a year-to-year basis. Our Test Group also grew on a year-to-year basis with strong orders from USAID, Agency for International Development, the Navy, and EPA.

And the EAS Group, we often call it our Infrastructure Group that does our infrastructure design, while though it was down on a year-to-year basis, stabilized sequentially. Now, the slow municipal market with this Group was offset by growth in the design work that we've had them do with our Federal clients, so we've seen stability in this entity.

Our RCM Group, which is the backend services, was down 15% on a year-to-year basis reflecting the close-out of some ongoing construction projects and the slow start-up of new construction management projects. And I'm going to talk a pretty fair amount more about what we're seeing in this Group here later in the presentation.

For new work our backlog is up, it's up 2% from the previous quarter on a sequential basis. And as you can see from our presentation most of the funding that went into our backlog, if you look at a list of these new orders, was for frontend services from our Federal clients.

Now, while Tetra Tech does not recognize contract capacity in our backlog I'd like to point out that we added approximately $2 billion in contract vehicles with the Federal Government this past quarter, with about 80% of that for our construction management related services.

At this time I'd like to turn the presentation over to David King to present the details of our financial results for the quarter. David?

Thank you, Dan.

This was a quarter of solid financial performance. As you will see, we delivered as expected. Revenue was down by $97 million, at $542 million. Two reasons, one is we completed work in Iraq, number two, decrease in wind revenues. The combined delta was approximately $150 million in reductions.

Net revenue was improvement of 4% to $343 million due to strong Federal and international work. The -- our guidance was $330 million and $345 million. Let me point out this increase is encouraging. They were frontend work, had higher level of [sell performance] and carried higher margin, and some of them were (inaudible) down to construction and construction management service in the out quarters.

Income from operations was $31.1 million, an improvement of 9%. Our operating margin, 9.1%. this is one of the highest margin quarters for many years. Not only we are doing more frontend work but also we continue to align our cost structure.

EBITDA was $38.9 million, an improvement of 14%. EBITDA margin was 11.3%.

SG&A, an increase of 8%, this increase was due solely to our higher selling cost, about $3 million. We also have a reduction of G&A cost. G&A cost included amortization expenses. Excluding that expenses we have a reduction of about $2 million or 9% in percentage sales, which contributed to the strong margin for the first quarter. However, we will take a severance charge in the second quarter and expect some overhead inefficiency in the coming quarters in the RCM segment.

Income tax is $12.2 million, increase of 7% due to higher income.

EPS, as Dan said, we improved by 11% to $0.30 versus our guidance of $0.28 to $0.30 for the quarter.

Accounts receivable, $490 million, a reduction of 24% as a result of lower revenue and improved DSO.

Accounts payable, $140 million, a decrease of 33%. As I've stated, most of the revenue reduction came from backend or construction management services, which had high content of subcontracting activities.

Net cash over $70 million. As we continue to focus, we focus on cash. And I'll come back to that later.

Cash flow from operations, a negative $5 million. This is a significant number and it's an excellent result given that first quarters are typically a large deficit quarter at Tetra Tech due to bonus and other seasonal payment in the first quarters. However, due to our lower guidance we will reduce our forecast from $70 million to $90 million previously, to $60 million to $80 million for the year.

CapEx, $3.9 million. We maintained $20 million to $25 million for the forecast for the year.

DSO, under 70, 67 days. And there has been improvement over the same quarter last year. Again, collection will be a big part of our focus. I expect DSO for the year to be in the low 70s versus what I said in the previous quarter, in the mid 70s for the year.

Net cash, again, over $70 million. Today we have no bank debt. We believe we will double this amount by yearend, and plan to take advantage of our coffer in the coming quarters.

Back to you, Dan.

Thank you very much, David.

Now, I want to talk about what changes we've seen in the market that have led us to revise out outlook for the remainder of the fiscal year. Let me start by describing how we actually build-up our annual plan and the resulting guidance.

First, the first thing we do, we evaluate as we go into the year our backlog that we have in hand. And I'll remind you that we have a very conservative definition of backlog. In fiscal year 2010 we came into the year with about $1.6 billion of backlog, about 70% of that entire backlog will be expended during the fiscal year which provided us an initial base of about $1.1 billion of work in hand that would be expended from our backlog in 2010 when we got started. That's the first thing we do.

Second, we evaluate our proposal pipeline. We identify the probability of winning individual projects, pursuits, and work with clients, and we compile that list as we enter the year.

And the third thing we do is we evaluate when we expect these opportunities to turn into wins, and this is a very important item, and I'm going to explain here in a moment how this is factored into our adjustment of our guidance going forward. It's very important that we adjust the timing or understand when it's going to come in so that we can time adjust the revenue of contributions associated with these projects that will come in during the fiscal year.

Now, as we entered this fiscal year our top three business groups which are associated with the frontend of projects had a significant amount of backlog and they have continued to add new orders giving us a high confidence in their projections from those three groups. So if you're following along in our presentation you'll see no change. They're on plan as we'd expected coming into the year, and we see no change there.

The RCM Group, however, the one that performs backend services, was focused on the completion of existing projects in our backlog in the first quarter. And they anticipated the award of significant new wind and military construction projects at the beginning of the calendar year, after the holiday season, which was just a few weeks ago, this month, in the month of January.

When we put our plan together we'd identified very specific high probability projects that would generate revenue in the RCM Group, that's the Remediation and Construction Management Group, that would support our guidance. In the first quarter our RCM Group had excellent success in adding new contract capacity. In fact, that was the Group that won more than $1.5 billion in new Federal construction contract vehicles, excellent performance.

Our RCM Group also submitted more than $150 million in turnkey construction proposals during the first quarter, which we anticipated many of them to be awarded in January. But by mid-January, and this is just a few weeks ago, we had not seen either these Federal construction or the turnkey commercial wind projects come to closure. We hadn't seen them convert from high probability proposals and pursuits to actual wins. And this has forced me and our Management Team to reevaluate the timing of this forecasted revenue generated in the RCM Group for fiscal year 2010.

Let me show you how our updated forecasts breaks down based on this information. As you can see, our outlook for the three frontend business groups remains unchanged, on plan. I feel very good about this because it's these groups that are key to the differentiation in the marketplace. This is where we lead with science, this is where we don't have the competitors, and this is where the work comes in at the beginning of a project and will carry all the way through execution.

We are reducing the net revenue forecast, though, in our RCM Group by $70 million for fiscal year 2010. Upon internally updating our forecast just over the past couple weeks we immediately reduced staff in the RCM Group to match the reduced revenue forecast that we came-up with. In fact, this action was taken just last Friday across the entire business group. And I want to emphasize that this is something that just came-up and we took action immediately, and it's been less than one week ago that we took this action across the enterprise.

This is going to result in lower revenue and income for the year, with onetime charges for severance, that David King mentioned a moment ago. This is what the severance is associated with, which is this reduction in staffing, and cost associated with downsizing this activity. And all of those, both severance and downsizing costs, will be incurred in the second quarter.

I'd like to present our guidance for the second quarter and for all of fiscal year 2010. The guidance for the second quarter is net revenue, a range of $310 million to $330 million, that is revenue net of subcontractor cost, with an associated diluted earnings per share of a range of $0.20 to $0.23. For the entire year we've updated both the revenue and EPS, with a revenue of $1.4 billion to $1.5 billion dollars of net revenue, with an associated diluted earnings per share of $1.08 to $1.18. This does exclude contributions from future acquisitions.

We are an acquisitive firm, and we do anticipate that we'll continue to be active in this area, and these numbers do not include any forecast of contributions from acquisitions. Some of the details for those modeling our financials for the year and our guidance, it does include $0.11 of intangible amortization, it does include $0.11 of stock option expense, and does assume an annual effective tax rate of 39%.

In summary, our first quarter performance was as expected and in line with guidance. And, as I've discussed, we are forecasting some of our construction management orders to be delayed until later in the year. And I would like to be clear on one item, we're expecting them to be delayed, not cancelled. We're expecting them to be pushed out later in this fiscal year and perhaps even into early 2011, but not cancelled. We have adjusted our cost structure to reflect this projected revenue.

Now, as David King presented here just a moment ago, our balance sheet is the strongest in our Company's history, and we're going to continue our acquisition strategy. In fact, we have completed an acquisition of a small commercial nuclear engineering firm at the end of December, a group of 20 commercial nuclear engineers. We have had a steady process of these small acquisitions where we've brought these types of groups in, they bring us technical capability, some geographic expansion, and access to new client sets. And these we will continue, but we are looking for larger acquisitions, and the market looks very attractive there. And, finally, we're very confident in the water, environmental, and renewable energy markets, that they're both growing and remain strong.

So, at this point, I'd like to open up the call to questions.

(Operator instructions.)

Your first question comes from the line of Andrea Wirth of Robert Baird.

Good morning, gentlemen.

Good morning, Andrea.

I guess wondering if you could first just give a little bit more clarity here on the projects on the construction management side? We are talking, indeed, about just projects being delayed. There wasn't necessarily, you know, a major project, or a few projects that you were hoping to win, and just did not win them?

That's correct, Andrea. Let me provide a little bit more detail on that. Primarily there were three categories of projects that we're pursuing that have not gone to award, either to Tetra Tech or another competitor. So, no, it wasn't a project we were pursuing that we lost. These are projects that just haven't been awarded.

There are three categories. First are turnkey wind projects, and these are (inaudible) energy projects that have gotten pushed out to the right. In fact, we have a number of proposals pending. And, in fact, our confidence was very high because we'd actually signed the contracts with, a couple contracts with clients and simply waited for them to countersign them and send them back. And they've held off for a few weeks, and then another few weeks, and ultimately it's determining that they're being held pending access of financing and a few other items.

And as these move to the right it impacts both the timing of the revenue and the income that I talked about earlier. So that's one category, and that's an example of something that's been pushed off to the right.

Afghanistan, the current U.S. Administration hadn't clarified its policy in Afghanistan until about six weeks ago. Afghanistan is not going away. The military construction and the infrastructure for the communities in Afghanistan still have the need. There has been a national commitment here by the United States and the international community to do this work, but converting it from a policy to execution has moved to the right.

And, finally, the Gulf Coast, which is the New Orleans and the coastal protection, we have had a few wins here but the procurements have been a bit slower than we had anticipated. The work still needs to be done. Some of the work is still in design so it hasn't come out for procurement, but this is another area that we expect the work will be completed but it's just moved more to the right.

And so it's the combination of those three, wind, Afghanistan, and Gulf construction related projects, that have caused this change in our guidance.

And then I guess just in that vein that this is mostly just a delay more than anything, it actually still sounds like activity in the wind space is still fairly good. I guess I'm wondering why the headcount reduction? I guess maybe a little bit more clarity on where those actual headcount reductions were? And how easy is it for you to rehire once this activity does reaccelerate?

That's a good question. We think the markets are plenty liquid, meaning there's a lot of folks that we can move in and out and bring back. Some we'd simply put on furlough. A lot we had eliminated. We were carrying staff through the holidays into early January with, I guess I hate to use the word commitment but indication is probably a better word, indication from our clients that they were going to execute these works and we were going to move forward. And so we had carried folks across the board, some in wind, although that wasn't the biggest area.

It was actually in many different areas. A few in nuclear commercial, where we've seen capital expenditure budgets unexpectedly pulled back by some of the utilities, so we saw reductions in commercial, the nuclear market for ourselves. Some in wind. Some of the infrastructure construction folks, CM, construction management individuals for our military construction and even civil works for the Corps. And so it wasn't just one area, one office, it was broadly across the Group, and we think that we can easily mobilize them back if work comes on. We don't see that as a risk.

And then just wondering if you could kind of address the new guidance range that's out there? And how do we then become comfortable that this is kind of, indeed, that the low end is safe? I mean are there other areas where you think delays could be even greater or maybe you see other projects could get pushed out, or do you think you've kind of fully accounted for where kind of some of the trouble spots may be?

Well, this caught us, I don't want to use by surprise but that's the right word. We were disappointed and surprised at these delays moving to the right, and I assure you we've been thorough, aggressive, and maybe even many would call it conservative in incorporating it into our updated guidance. Certainly there's variability in the market with these projects and the funding from the clients, but we think we've baked all of those issues into these updated numbers.

Great. Thank you. I'll get back in queue.

Your next question comes from the line of Richard Paget of Morgan Joseph.

Good morning, guys.

Good morning, Richard.

So just while we're on the topic of the three buckets of projects -- LA Gulf, Afghanistan, and wind, is there any way you could kind of rank them as to which you expect to be possibly more near term. I mean does it seem like the LA Gulf is -- would be pending within the next quarter or so versus possibly the wind which, who knows if it's a credit issue could be pushed out several quarters?

Well, on the prospects of which one could turn on or move forward quicker, we actually see them all roughly equal. We think that they're imminent, that there's drivers for it. And when it comes to utilities there's funding for it. So we actually haven't ranked one of those three as to higher likelihood that they would come in.

I will share with you that the impact on the reduction of our forecast, the reduction was about half from wind on our forecast and about half from Afghanistan and the Gulf.

Okay, job creation has been a big political topic recently. Anything in the new potential jobs bill or anything coming out of Washington that could impact you guys in the near term?

Well, I was pleased to hear that jobs creation is a priority. We think infrastructure projects, particularly with water, coastal protection, the Corps of Engineers' work, can all generate a significant amount of jobs if they'll just mobilize these projects. I would love it if they'll sole source Tetra Tech but we're happy to compete for them. We think we're well positioned, and that's how they're going to create jobs.

And on the very front line here, I talked about reductions last Friday, and that's moving opposite of the direction that we know the Administration wants to move. So get these infrastructure projects onboard and our headcount will go up, our revenue will move quickly, and we're more than prepared to move on these projects.

Right now, where's the primary bottleneck? I mean is it Army Corps can't process things fast enough? Is it Washington not getting the list of projects out?

Yes. I heard even as early as this morning that there's still a bottleneck with respect to procurement and getting these items out. I do believe in the case of Afghanistan to be, to give fair consideration to individuals and positions. It wasn't until just over a month ago that, for instance, USAID had its Mission Director, Administrator in-country, in Afghanistan. In fact, the Administrator of USAID, Dr. Shah, was just put in place here just over a month ago.

So these are positions that are key drivers for the policy, implementing it and getting the procurements out, and these individuals have only been in their positions just over a month, so we think with that clarity it should open-up as you call it some of the bottlenecks, and move things much better.

All right. Thanks. I'll get back in queue.

Thank you, Richard.

Your next question comes from the line of Debra Coy of Janney.

Thanks, good morning, guys.

Good morning, Debra.

Just to follow-up on the earlier question on clarity and confidence, it certainly sounds like you've taken a pretty severe haircut to your expectations, but obviously the market is telling us this morning that there's still not a lot of confidence in the timing of when these things come through.

So my question is as you look at where you are now, you've said you were about $1.6 billion in backlog going into the year. Obviously you're still about $1.6 billion, we're done one quarter, so my question is how much of the $1.6 billion gets performed in the remainder of this fiscal year, and how much is still out there that needs to be booked to meet your, you know, the revised revenue guidance implies somewhere on the order of $2.2 billion, $2.3 billion in gross revenue, kind of what's the delta that's still out there ahead of us over the next coming weeks and months to make the new numbers?

Well, if you take -- we're still, as you said, we're about $1.6 billion in backlog currently. About 70% of that we'll burn over a -- or we'll expend over a 12-month period.

Right.

We have, so that's the $1.1 billion I had mentioned earlier over a 12-month period.

Oh, a little less than that then.

75%, we have three quarters to go, Q2, 3, and 4.

So that's maybe $900 million?

It's about $750 million of existing backlog we'll -- that we have in-hand between now and the end of the fiscal year. Now, that's a gross number.

Right.

The -- so it turns out to be probably about $1 billion of new work that we have to identify, what we've come to refer to as book-and-burn that we'll have to identify, win, and expend this year. That's relatively in line with what we have in the past.

But one item I'll note, that $1.6 billion in backlog, that actually increased sequentially from the fourth quarter, had essentially no major construction projects in it, at all. It was made-up from many, many small upfront projects, that are consulting and engineering and evaluation work, some of which will convert to full turnkey projects, and a lot of these proposals that we have have not been baked into or are not reflected in our backlog. So as they come to pass you should see backlog move quicker and make that roughly billion dollar book-and-burn number very achievable.

Okay, and then looking at the end markets, two quick questions. One on the wind side, you mentioned financing issues, you mentioned also confidence that these projects are still imminent. What are you hearing from your customers, you mentioned nuclear actually as an area, as well -- what are you hearing from your utility customers on CapEx? Obviously, they're facing lower, the lower demand environment, pressure on rate cases, concerns about CapEx. What gives you the confidence that some of that work that's been pushed out is still in the relatively near-term queue?

Well, no doubt, we've seen demand for power down. We've seen a number of rate payer increases rejected, and that put pressure on capital expenditure budgets in some of the larger utilities across the country. So on that side, yes, those are real.

But our forecast is predicated on a very small amount of successes or wins for these types of projects, so we're not -- our overall forecast on wind projects we've brought down by roughly half. And we were relatively conservative when we came in, and we've taken that number in half. So we don't have to have many utilities or a large rampup for us to achieve the goals that we've set for our revised forecast.

That's helpful. And then my final question is taking a little bit more of a future look that we certainly know the Federal Government has, excuse me, a lot of money to spend, both stimulus related and significant budget increases for EPA and some other Agencies in fiscal 2010, which it doesn't appear they're going to get through.

But taking a view to the future, what's your current thinking on fiscal '11 budgets and the programs that you guys are participating in? Certainly, there's a lot of talk in Washington right now, despite jobs concerns about the deficit and about potential freezes or cutbacks in discretionary spending. What's -- what are you hearing from your guys in Washington about how that is shaping up for you? And is that a concern?

Well, there's two things that we look at. We have heard here this week that was leading up to the State of the Union speech last night by the President that there would be potentially freezes of the Federal budget or cuts perhaps even to address the deficit.

The first thing is if they freeze the Federal budget that means freezing employees and more of the work will have to be outsourced. So the more work that they elect to not grow their own staff by, the more opportunities it would generate for us. That's number one we observe.

Number two, in the case of freezing the budgets and all of the items that I've seen are freezing the budgets from the 2010 level that have been passed for the current budget. And so, for instance, EPA, Environmental Protection Agency, for 2010 received a 36% increase of their budget over the previous year, 2009. So if the Federal Government and the current Administration wants to freeze the spending at EPA which is one of our biggest clients at 36% over 2009 we think that's a pretty good thing. In fact, that would put our numbers in a very favorable position because they haven't seen increases in almost anything over several years.

So we think the programs that are down in 2010 could be frozen at those levels, and that just means it's going to be a dark winter for a longer than you think. But if it's very strong, and it's a priority of clean water, clean energy, clean air, climate change, those are good for us.

All right. Thanks, Dan. Appreciate it.

And thank you, Debra.

Your next question comes from the line of Michael Cox of Piper Jaffray.

Good morning, guys.

Good morning, Michael.

My first question is on the severance costs. And perhaps I missed this, but did you quantify the level of severance costs that will be incurred in the second quarter?

We didn't, but a combination of severance cost and downsizing cost is approximately $0.02.

Okay, and getting back to one of the previous questions around just the level of conservatism. You mentioned cutting the wind project expectations by 50%. I guess why not take it all out and then let any activity that does actually come to pass as up side to the guidance?

And I guess similar to the book-and-burn, I believe you mentioned that $1 billion is roughly what you do in any given year, but considering that the environment is a little more uncertain why not set a level that you would incorporate a lower book-and-burn than you would typically expect?

Well, with respect to wind we did take an awful lot of it out, and the work that we left in it is mostly projects that we're on that we expect to continue to the end of the year. And so we expect incremental funding on projects will just continue. So we've been we consider very conservative, and to take it all out would just be inconsistent with what we have, what we have in-hand.

With respect to the book-and-burn, a billion dollars, while that's relatively consistent with what we've done before, why don't we take it down? We're actually seeing a pick-up on the frontend work that we have in the first three groups. And of our overall net revenue 75% of it is in our ECS, our Test, and our EAS Group, and those folks are on plan, performing well, and have excellent prospects to achieve their plan and even more. So the amount we took down was associated with the part that we're seeing the uncertainty in.

Okay, that's helpful. And the -- you referenced the timing of these bids, you would expect them to be -- to take place or to be awarded in January. Is this more related to the timing of this earnings call and this guidance update or was there something about January that you had expected them to take place? Was there some timeline that had stipulated January would be the decision date?

There was something about January was the decision date. It didn't have anything to do with this call. And, in fact, because of the timing of the anticipated award dates, if there wasn't a conference call we would have gone through and completed this evaluation and provided an interim update in our guidance. As soon as we became aware of it.

The one thing I strive and we, as a Management Team, strive very hard to do is to be very transparent with the Street, our investors, and tell you as soon as we see anything that's a material change. And this just so happened to coincide with this investor call, within days after the change.

But it was timing in January, and it is a bit of serendipity in the confluence of anticipated awards from the Gulf, Afghanistan, and wind that all were in mid-January that really caused this update in our guidance.

Okay, that's very helpful. And if I could ask one last one? Just the competitiveness of bidding activity and some of the I guess in the backend work where you typically face a little bit more competition, has that heated up?

It has, it has, it actually has become much more aggressive, particularly where there's no prequalification requirements. So our technical differentiators, such as bonding or some other prequalification requirement it's very, very aggressive out there.

Okay, and on the frontend, I guess while you're on the topic?

Not so much the frontend. Most of those are task orders or work under existing IDIQ contracts where there's been prequalification or rates have already been put in place several years ago, so that we're not seeing as much.

Okay, great. Well, thanks a lot, guys.

Great. Thank you, Mike.

Your next question comes from the line of Will Gabrielski of Broadpoint.

Good morning. Just to follow-up on that question, can you guys quantify what percentage of your bus is prequal, is that -- should we think Federal or can you give a mix of what's prequal and then commercially bid?

Most of the Federal work we have is prequal, most of it, and you can see that that is in the mid 40s on a net revenue, gross revenue is even higher than that, so it says just over 50%. So I would say that's all pre-qual.

State and local, a good portion of that, so the current 19% is prequalification, so that's roster lists and other prequalification. So of that 19%, well, more than half of that is prequalification.

And the commercial work, a good portion of that is also prequalification, so the Fortune 500 firms we work for doing environmental or compliance work, they typically have a preselected group of two, three, sometimes even four national contract providers, and they only solicit to those, and for obvious reasons for leveraged buying to make sure that they're financially solvent, that they have geographic coverage. So a lot of these small local players we don't compete against in this prequalification separation.

Okay, were any of the wind projects in Florida related to any type of Florida customers?

No.

Okay, a question for you guys, when you say $2 billion in contract capacity, just to be clear that includes, that's the top line dollar amount that's been split-up amongst and competitively bid amongst your awardees that joins you on that award, right?

Yes, that's correct.

Okay, the -- I'm curious if you can just go into, given your --

Just for clarification, Will, not all of that $2 billion was in multiple award contracts. For instance, our Federal Aviation Administration award with a contract ceiling of $200 million was a single award only to Tetra Tech on a multiyear basis, and so that is not to be bid and competed among others simply incrementally funded over a multiyear period. So I want to make sure I don't give the impression that all of that $2 billion is a competitive award process from this point forward.

Okay, the idea of laying off staff on projects that you still think are high probability projects and taking the severance charge in fiscal Q2, can you walk through the logic on that and your ability to then get those people back in-house for these projects to move forward?

Well, we have the ability to resource load with the remaining staff we have, so that's part one, so we do have the ability to respond immediately, even if the staff didn't come back. But the one thing that is very important for us in order not to impact our margins is to keep people on staff.

And I've mentioned this on previous calls, we do not staff in anticipation of contract awards. And I will say that a number of these were so imminent, and you had to go through the holidays, we had specific dates that we did, I hate to use the word carry them but we did have -- we did staff in anticipation of some of this work, and we've moved quickly to rectify that.

Okay, and can you lastly quantify maybe your exposure to non-res construction at this point as a percentage of revenue, land development?

Less than 5%, that's something that we've actually culled out of our business because it's a very small amount, but certainly less than 5%.

Okay, all right. Thanks, guys.

All right. Thank you, Will.

Your next question comes from the line of Avi Fisher of BMO Capital Markets.

Great questions. Just to clarify, guidance includes the $0.02 in severance cost, right?

Yes, it does.

So [operating] -- a guess is $1.10 to $1.20. Okay, and can you talk about the pass-through dynamics on turnkey work in terms of the gross versus net revenues?

Well, we do put margin on the pass-through work. On Federal work where we carry very little work -- or very little risk, excuse me -- where it's on a cost plus, typically the markup may be extremely diminimous, maybe sub 1% and in some instances zero, but we do recover a cost basis.

So we have a G&A recovery on our general and administration cost recovery on the subcomponent. So at a minimum we have a cost basis recovery so it helps on our leverage of our backoffice, and then in most instances where it's where we carry any risk for sub-performance we have a markup of fee also so that helps contribute to the margin on that.

So there's more of a margin contributor on the pass-through than on the non-CM work it sounds like? Or I guess more flows to the net service line from the gross line on turnkey work, is that right?

Well, the margin that we put on the subcontracted work, that margin is included in the margin on net revenue, if I'm answering your question.

Okay, the issues that you're talking about related to guidance seem pretty specific to projects that you think you've been tapped for but the contracts aren't signed yet. On an industry basis can you talk about pricing and competition trends? And are you seeing new competitors in the marketplace on both -- you talked about this a little, I'm just trying to drill down a little more specifically?

Well, where we don't have a prequalification list, and we don't do much of this work but where clients have taken projects that we've participated in the design or the permitting or some other upfront work, whether it's not been a prequalified list, we're seeing everybody. We're seeing everybody from Bob's Back Hoe to the largest construction companies across the country, and extreme pricing pressure. And in some instances we've bid what we know it's going to cost and we elect either not to participate or certainly not to be competitive in those, but it's a very, very small part of our business. But I would say there's no doubt that exists.

In the prequalified arena, which most of our work is, we're seeing much less pressure. Rates are cost plus, the indirect multipliers have already been negotiated, and so there's much less pressure. And I would say that's probably 75% of the construction type work that we perform.

Right. And where you're seeing this CM competition, I mean it seems like this construction management work is leading to a lot of the volatility in this guidance. And I'm just trying to gauge how long this could last and your commitment to doing more construction management than the seed work, or if you could kind of break-out the backlog on the CM versus the non-CM stuff?

Well, the first part is that it seems like it's leading to much of the change or if you want to say volatility in our guidance. I'd say that the downward top line and bottom line came all from the CM work, so I wouldn't say mostly from that area. So I want to make that clear.

With respect to our commitment to that work, we're absolutely committed to that work. It gives us a competitive advantage if we can start a project way at the beginning from conceptualization and carry it all the way through completion. It's a competitive advantage in the marketplace. It's been profitable.

And the one thing I do want to make clear, this is not a losing business, we're not forecasting losing money, we're not saying that we're not well positioned. We're not saying we're not winning. We're saying that the clients have simply delayed the timing of their contract and we moved it to the right. It's a great group. It's one of the most competitive entities that we have in the entire industry, and it's extremely value added to Tetra Tech.

And our clients that want to do the work on a turnkey basis, and want to go to one contractor or consultant that can take it from the beginning of conceptualization all the way through commissioning, we can do that. And there's few others that can do that. And so to eliminate or otherwise deemphasize or change that bottom part, changes our competitive position, and we're not looking to do that.

So it sounds like at the turn in the private commercial spending you'll come out -- you should come up pretty fast?

We think so.

And I guess a last question, what are the FTEs now, can you disclose that?

Overall in the Company?

Yes, I mean you have it at the end of the quarter. I'm just trying to gauge.

Yes, we do. We have it -- we reported here at the end of the first quarter, our FTEs are 9,183. It's on our investor report, at the bottom, on the right hand.

Right.

But our total headcount is just under 10,000, so we're about 9,986 I think it is, so we're within just a couple of heads of 10,000 because we have a lot of folks that are not 40-hour fulltime, so we have folks that are different part-time, so that puts us up to just about 10,000.

Right. That 9,183 is at the end of the quarter?

Yes.

And I was just trying to get what it is after the recent layoffs?

Well, at this time we really don't want to disclose the exact number, but we've had impact. So I'll -- we'll update that here at the end of the quarter on where we are at the end of March.

All right, fair enough. Thanks for taking my questions. I appreciate it.

Right. Thank you, Avi.

Your next question comes from the line of John Rogers of D.A. Davidson.

Hi, how are you?

Very good, John. How are you?

Good. Just one specific follow-up, relative to the construction management side of the business, I mean you -- as that market has been deferred, you've got some excess capacity there now. Would you, I mean thinking out over the next year or so, would you plan on diversifying that business, at all? Or is it your intent to grow it within the wind and Federal program?

Well, we talked about wind and Federal, we would -- we want to diversify it across our entire client profile and across our entire technical service area where we're experts. Solar could be an area that we would diversify into, but we don't want to diversify it outside of our core business. So we don't plan on constructing things that are just outside of, well, our core business. So we want to diversify it to our client set, but we want to keep it within our core competence so that we can keep the risk low, and that we're working on services that we're experts in.

And, Dan, as you expand that business or if it becomes a larger portion of the total Tetra Tech does that imply then that everything else being equal your business will become slightly more volatile?

I think it will become -- I don't want to use the word lumpy, I actually don't like that word. But what will happen is it will become a bit more dependent on single larger projects as we take on larger turnkey projects where the execution represents a bigger piece. So where we have success you'll see larger moves up, and so I think that's -- it's just inherent.

Yes, okay.

But again that's on a net revenue basis, let me comment on one item -- on a gross revenue, a total revenue, yes, that's true because there's a very large subcontract component. But on a net revenue basis even if that construction component of the construction management grows very quickly it still has a relatively small number of heads or labor or that component. So it's -- that's why it's 25% of our net revenue even though on a gross revenue it's a bit different perspective.

Okay, okay. Thank you.

Great. Thank you, John.

Your next question comes from the line of Al Kaschalk of Wedbush Securities.

Morning, guys.

Morning, Al.

Dan, in light of some of the prior questions and your response and some of the prepared remarks I guess what I want to try to think about is short term here are the margin profile under RCM and where that can go or where that should trend, sort of trend over the short term for the balance of fiscal '10? But also in light of what you just commented strategically where that should head in fiscal '11?

Because if I look at the Q1 results, I think it was the second best margin performance in the quarter, as well as the second highest revenue contributor. How do we think about that level on the margin percentage going forward for the balance of this year given what you have done is taken out quite a bit on the revenue side? Could you just comment on that?

Yes, absolutely, absolutely. We had an excellent quarter. We had an excellent performance in the first quarter, and they were 11% on net revenue which was partially attributable to project closeouts. They did an excellent job. Projects closed out. Performance was low, and it caused that margin to be higher than the range we normally anticipate from RCM.

Now, the range that we have quoted in the past, and I'll repeat it here, that we look for a range of about 7% to 9% out of the RCM Group. It was higher than that because of project closeouts and favorable recognition. There's no doubt that we do see pressure on the margin because of top line and some impacts on the G&A.

On the page before the guidance on the presentation I've just given I called out that we expect margins within RCM for the second quarter to be about 5%, so we'll see a drop. And then we see it for the year to be about 8%. So for the year of 2010 it's within our range, but we will see pressure, and part of that pressure is from severance costs and other indirect charges that we'll take in Q2.

But if you pull out the onetimers, you know, or even some of the closeout which you've benefited, do you feel more confident today on that 7% to 9% range, and as volume picks up you probably can trend towards the higher end of that outlook?

Well, they have been for the last couple years have been at the high end of that or even higher. As you saw this last quarter. We don't try to confine ourselves to those ranges, that's what we're seeing in the market. But it's certainly possible as scale goes up or volume that we could be at the high end of that.

No, I appreciate the conservatism and that you've beat those numbers or guidance, I'm just trying to with the change in mix here, it's a little bit difficult to gauge that. So thanks for that color.

On the slower construction activities, I think you mentioned two, Army Corps and the international business, obviously Afghanistan. Is there -- are there other things internationally that are perhaps a little bit more -- could be shed in a more favorable light forthcoming that maybe you don't see in the fiscal '10 guidance that you provided?

Well, Haiti is one. We have task orders currently in Haiti that we're doing for USAID, that we think can be converted or that USAID could access and change the primary focus to relief and support activities. We have construction contracts with the Corps of Engineers and the U.S. Navy, that they could access us to go help the reconstruction and relief efforts there. And we have none of that baked in, and that's something that has a short-term priority for the U.S. and the world, international community. So there's an example of something.

The other is Canada. Canada we're seeing commodities very strong. Gold price even with a little fluctuation is still driving a lot of development work, and that's an area that we could also see a pick-up in.

Would we expect, you may have commented, but internationally then as a percentage of total revenue kind of in that low teens for the year?

I think so, I think it's low teens. We're at 12% this last quarter. I think it'll sort of be in that range because we'll certainly see our -- and that's mostly the Canadian Wardrop we've brought on, we're seeing they grow but we're also seeing our domestic work grow. So I think that will stay roughly about where it's at, 12%, it wouldn't surprise me if it went to 13% but within a percent or two, that's about where it will remain.

One final question, and pardon the theoretical nature of it, use of cash. Given -- well, long term your strategy of course is the very heavy M&A contributor under the business. Would price breaks in the stock, like you see today, give the Board or yourself consideration of any type of share repurchase activity? And then before you answer that I just wanted to say thanks for slide 13 in the deck, it was very helpful. Thank you.

Hi, this is David. We currently have no plan to repurchase our stock and no plan to pay dividends. We believe the capital can be better deployed by growing the business, by buying companies.

Could you then maybe just add a little more color, David, on the M&A market that you're seeing other than maybe it's positive?

Yes, we are seeing a solid pipeline, and we continue to focus on these efforts. And we have a team working on this on a weekly basis.

Thank you.

Great. Thank you, Al.

Your final question comes from the line of John Quealy of Canaccord Adams.

Morning. Just a couple quick questions. First, in terms of the frontend versus the backend business, can you talk about the amount of frontend business that you target to turn into potential backend opportunities? And if you can quantify that? And how long that timeframe usually takes?

Well, we target frontend work across the board with our front three services -- ECS, Test Center, EAS work. We obviously try to take as much of that work as we can as fee-to-feeder programs that would carry all the way through. We don't actually have it quantified.

We've gone through an exercise where we identify individual projects that we believe will go to full turnkey. And many instances they do feasibility studies and elect not to construct it or they don't move forward for a number of different reasons. And so and it ended up with an exercise where we ended up with a number that was moving all over the place as to what we call the frontend projects.

So but we do look to take every project that we see that a client is going to take it from conceptualization to feasibility study design and then construct, and we look to take it all the way through. And we've seen in some markets that be as high as 20%, 25% in some areas, the projects that we do that go through. So of those 25% that go all the way through we have a good track record of carrying them with Tetra Tech and us handing it down the pyramid, so to speak. But we don't have that specifically quantified.

Okay, and then just lastly on the M&A side of things, can you comment a little bit, relative attractiveness, international or business line that you're looking at here, has this dislocation in some of these projects caused some of your smaller competitors to capitulate on price? Or can you just give us a little bit more characterization of that? Thanks.

Excellent observation. You -- it's like you're in the rooms with us. Yes, we've seen capitulation. We've seen this dislocation, we've seen this slowness in the funding for folks that don't have strong balance sheets, drive them to consider selling, where they hadn't before.

So I would say that we've seen a material move in the number of opportunities because of this difficult market, no doubt about it. There has been some softening of the price point or the multiples that they're selling, but I would say the biggest move has been in availability of companies, with the exception of the biggest players everybody is available which wasn't the case before. And price point has weakened a little bit but even in these difficult times they still have in some instances lofty expectations. Thank you very much, John.

And thank you, all, for your questions. Those were excellent questions. I appreciate your support and very much look forward to talking to you, all, next quarter. Good-bye.

Ladies and gentlemen, this concludes our conference for today. Thank you, all, for participating, and have a nice day. All parties may now disconnect.