Tetra Tech Inc (TTEK) 2014 Q1 法說會逐字稿

Operator Good morning and thank you for joining the Tetra Tech earnings call. By now you should have received a copy of the press release. If you have not, please contact the Company's corporate office at 626-351-4664. With us today from management are Dan Batrack, Chairman and Chief Executive Officer, and Steve Burdick, Chief Financial Officer. They will provide a brief overview of the results and will then open the call up 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 in Tetra Tech's future financial performance. The statements are only predictions and may different materially from actual future events or results. Tetra Tech's form TK and TQ reports to the Securities and Exchange Commission identifies certain risk factors that could cause actual results to differ materially from forward-looking statements. Tetra Tech undertakes no duty to update forward-looking statements.

In addition, since manage the will be presenting some non-GAAP financial measures as references, the appropriate GAAP financial reconciliations are posted in the Investor Relations section of Tetra Tech's website. (Operator Instructions)With that, I will now turn the call over to Dan Batrack. Mr. Batrack, please go ahead.

Thank you very much, Justin and good morning and welcome to our fiscal year 2014 first quarter earnings conference call. While Steve Burdick our Chief Financial Officer will present the specifics of our financials, I'll start this call with a brief overview of some of our key financial metrics. We began the year with a very solid first quarter for 2014. In Q1, our revenue was $646 million and our net revenue was $483 million for the quarter. This was in line with our guidance and very similar to our revenue of Q1 of fiscal year 2013, the year earlier.

Our earnings, our EBITDA was $59 million or up 10% from last year. Operating income was $44 million, up 5% from the prior year. As a result of these-- this performance, we delivered an earnings per share of $0.42, which beat the high end of our guidance. We also ended the quarter with one-- just over $1.9 billion in backlog which is up slightly from the prior quarter. Now in spite of these comparisons with a very strong quarter last year, our Q1 revenue, and in particular our revenue was very good. And Q1 was a really good start to our fiscal 2014 fiscal year.

I'd now like to review our performance by customer. In the United States, work for our commercial clients was up 15% year-over-year, driven primarily by continued growth in the work that we're doing for the oil and gas industry. Our international work was down slightly, about 7% from last year, but about half of that reduction was associated with a foreign exchange impact and the other half was associated with comparisons from last year's very strong revenues that came from our mining and eastern Canadian operations.. Our international revenues were actually up this quarter in our Canadian oil and gas work and the western Canadian infrastructure work that we performed which is primarily water and environmental programs..

Our federal work was down about 15% year-over-year reflecting the impact of the Federal Government's shutdown that took place in the first two weeks of our first quarter. And the general reduction in the federal budgets that were associated with sequestration that the government put into place about a year earlier.. Federal work overall was about 26% of our business in the first quarter and we expect our federal revenue to remain approximately at this current dollar level as we move forward. And as this market stabilizes and orders are released from the newly approved appropriations.

Let me be clear on this one point. We will expect the dollars to be relatively stable but with the Company growing, this will result in the federal work being a slightly smaller percentage of our overall business in the future. Our United States state and local work was about 14% of our business this quarter. It was up slightly 1% year-over-year on a net revenue basis with a broad based pickup in orders from our municipal infrastructure work providing water related services.

I have talked about this in the past. We do have a number of large state transportation projects and we're in the process of completing these projects and this process is actually tempering our overall growth rate in the state and local markets. All three of our business groups performed very well this quarter.

The ECS business group was down slightly due to foreign exchange impact on revenue that I mentioned just a moment ago. And its comparison with stronger mining and eastern Canadian revenues that were compared to last year. However, our ECS' US operations are growingprimarily due to a pickup in front end studies for water-related programs.

The TSS business group which has our highest percentage of US federal work in the Company was down about 7% year-over-year, and their revenue was impacted by the federal government shutdown this last quarter and budget reductions. But those reductions were offset by a very strong performance in their US midstream oil and gas work. The TSS group had also delivered very strong operating income and high margins this last quarter. It was partly due to excellent operating performance across the entire group but we did see some end-of-the-calendar-year project closeouts for wind energy projects where developers and some of the utilities we work for took these projects to completion in order to realize some tax advantages to complete it before the end of the calendar year. So there were pickups on project closeouts that pushed their performance even higher..

Our RCM group grew by 38% driven by strong revenues in oil and gas and solid waste, and increased revenues in Navy remediation work which we performed under several recently awarded contracts.. Overall, all three business segments performed as we expected during the quarter and they're each benefiting from our growth strategies in oil and gas, solid waste and industrial water.

Our backlog was-- finished the quarter at $1.918 billion dollars which was up sequentially from last quarter. This accounted for -- this is after accounting for FX impacts or foreign exchange impacts associated with the strengthening dollar which actually caused us to reduce our backlog coming out of Canada by about $30 million. So backlog was up sequentially even with that FX impact.

During the quarter, we received a significant number of new commercial orders which included work from the oil and gas and industrial water projects. We were awarded a very large international water supply project in Sri Lanka, which is funded by the United States Export-Import Bank. This is an excellent new project for us and the awards in the first quarter continue to shift our backlog to a mix more dominated by commercial work. Generally our commercial projects have a faster book and burn than the longer duration US federal work that dominated our business in the past. I would now like to turn the presentation over to Steve Burdick who will provide more detail and discussion of the financial results for the first quarter.

Thank you, Dan. I will begun with the fiscal 2014 first quarter financial overview in a bit more detail. Overall our first quarter results met the higher end of the guidance ranges that we provided for both net revenue and EPS. In comparing the first quarter results this year to last year, revenue decreased by about $13 million or 2% to $645.8 million primarily as a result of a slow-down in operations, focused on eastern Canada, global mining and the US federal government and this decrease was partially offset by our acquisitions in the RCM Group early in calendar 2013.. These focused on both oil and gas activities and our industrial market including solid waste.

Similar to the revenue, net revenue also decreased to $483 million or about 3%. The net revenue results were consistent with our expectations, and as I mentioned, towards the upper end of the guidance range that we provided. I do want to point out as Dan discussed a little bit, that the US dollar strengthened against other foreign currencies over the last several months and we did experience a more significant FX impact on our revenue and our net revenue in the first quarter. As such rather than a 2% to 3% decrease, our revenue/net revenue without the impact to this change in FX would have been closer to flat compared to the prior year.

Our operating income was up about $2 million or 5% to $43.7 million. The higher operating income was primarily driven by project execution and favorable closeouts and a reduction in overhead costs as a result of the right-sizing actions that we took in the second half of fiscal 2013.

Now we did have some non-operating net gains on revaluing acquisition-related earn out liabilities which were partially offset by non-operating legal contingency charge related to a discontinued business. Also we achieved a 10% increase in EBITDA. Our EBITDA increased more than our operating income since intangible amortization and depreciation was about $3.3 million more in the current quarter compared to last year.

Now for those following on the webcast, I would like to address a few other specific line items on our income statement. SG&A was $47.4 million for the quarter. This is an increase from the prior year quarter of about 2%. The net increase was due to higher intangible amortization which was up about $3 million over last year.

Offsetting this increase was a reduction in our overhead expenses that I mentioned that we took as actions taken in the fiscal 2013 in response to our decreased revenues from some of the our weaker markets.. The tax provision resulted in a net expense of about $14 million. This results in about an effective tax rate of 34% for the quarter as we expected. And this rate is expected to remain at 34% for the remainder of the year but could decrease slightly if the US Congress extend the R&E credits.

Earnings per share was $0.42 which exceeded guidance. Without the aforementioned non-operating net gains from revaluing acquisition-related earn out contingencies, less the non-operating legal charge, we would have recognized EPS of about $0.40This resulting EPS is at the top of our guidance range which was $0.35 to $0.40.

I would like to point out a few of the more significant balance sheet items. As a result of our lower revenue, we did experience a decrease in our net accounts receivable balance. Also the accounts payable balance increased due to higher subcontracting activities when comparing the current year to the prior year. In addition, we have continued to focus on managing our working capital.

We did experience an increase in our net debt compared to the prior year. The primary driver for this increase was the borrowings used for our fiscal 2013 acquisitions. Also we implemented a stock repurchase program in fiscal 2013 which utilized some cash. Now our net debt position was positively impacted by solid cash flows generated from operations in our first quarter.

As I will show you in a couple slides, I do want to point out that over the last 12 months, we have paid down our net debt by over $100 million. Now as noted in our discussion of the balance sheet, we did have solid cash flow from operations. In fact, we had one of our best first quarters ever as we generated $41.7 million in operating cash. This is 135% improvement from last year and results in a cash EPS of $0.64.

This improvement was due to cash receipts on our net receivables and closely managing our working capital. We anticipate our fiscal 2014 cash from operations to be in the range of $150 million to $170 million and the mid point for 2014 results in our cash EPS is about $2.50.. Now, CapEx is more than the prior year but in line with our previous guidance for fiscal 2014. We have continued to remain disciplined in our spending and we expect our CapEx to be in the range of about $25 million to $35 million in fiscal 2014. And this amount represents a ratio of about 1% of our annual revenue.

Day sales outstanding of 77.5 days are lower when compared to last year at this point and our expectation going forward into the remainder of fiscal 2014 is to be in a range of 75 to 80 days with an ultimate goal to be below 75 days. For those following on the slides, the next graphic shows you how our net debt has changed over the last five years.

As you can see on this graphic on the webcast, our previous net cash position has transitioned to a net debt position due to the borrowings for acquisitions in the second quarter of fiscal 2013. But it also shows you what I mentioned earlier that we have reduced our net debt by over $100 million over the last 12 months.

Our operating cash flow in the first quarter of fiscal 2014 allowed us to decrease our net debt by about $30 million since the end of last fiscal year. In fact, our experience has been that we're generating cash at a faster and more consistent pace compared to our net income. And as I look back over the last five years, we have historically outperformed our own estimates on cash generation.

With that said, this management team will continue to leverage our balance sheet to do a couple things. One is focus on managing our working capital. Invest in growth opportunities through acquisitions that will provide high profit margins and access to new markets. And to fund stock buy-back program that we initiated in fiscal 2013.

Now relative to that share buy-back program, I would like to give you all an update. As we discussed in the past, we implemented a buy-back program for $100 million in our third quarter of fiscal 2013. We had further enhanced this program as announced in November. As a result, to date we have repurchased over 855,000 shares for a total of $20 million.

And today I would like to announce our further commitment to utilize $30 million of the total $100 million authorized over the remainder of this year. This $30 million will utilize a dollar cost averaging method and thus will be outside any preset pricing grid. And this buy-back is intended to offset dilution resulting from equity awards. Our board is also authorized the amendment of our pricing grid which may utilize up to the unused balance of $50 million. Now that concludes our first quarter financial review and I will now hand the presentation back over to Dan.

Great. Thank you very much, Steve. I would like to add to Steve's comments on our use of cash. Based on our track record of cash generation, we feel very comfortable with adding commitments such as the $30 million stock buy-back while continuing to invest in acquisitions through our use of cash and the leverage that we have available to us through our credit facilities.

Now I would like to talk about our growth strategy. We're continuing to invest in our core water-related services and especially in three major high growth areas highlighted on this slide on the webcast. First is oil and gas, solid waste, and industrial water. In oil and gas, we're primarily focused on supporting our clients in the rapidly expanding midstream markets in oil sands, and shale basins across North America.

We're seeing strong orders and activity across the board in increased opportunities for larger and more complex midstream pipeline projects. In solid waste we advise our clients on cost-effective solutions across North America and provide full service for both municipal and private sector clients. We're helping our clients prepare for new regulations addressing energy waste disposal and that's most specifically for coal fly ash. In industrial water, we're focused on providing water management services from the earliest studies to design and construction management.

We're seeing more opportunities even in the slower markets to address water sources for manufacturing, recycling of water used in manufacturing, and water treatment to comply with discharge requirements. And this market builds very nicely on our ability to provide the front end studies at the very earlier stages of the projects and convert this early work into turnkey delivery for full service to our end clients.

I would like to say a few words about the federal market. The US federal market has historically been one of the more stable reliable and long-term clients for Tetra Tech and forms the basis for many of the different trend-setting water projects that we do as a corporation. The US federal government's been under extraordinary pressure over the past few years impacted by the budget cuts, sequestration and more political impasses affecting appropriations that fund our projects that we have. However this last month the government finally agreed, at least in recent history, on spending limits covering the next two years and just this month, they passed the budget for fiscal year 2014.

This is the most clarity we've seen in over three years in their budgets. So this is actually making us feel quite a bit better. We do expect a new renewed level of stability for federal programs and the associated contracting that will come out of it all the way through fiscal year 2015.

At Tetra Tech we're going to continue to focus with the federal government on supporting regulation-driven programs, especially for the US military. High priority programs for clients we have like the United States agency for international development. And working on some of the most technically challenging projects for the government where we're well differentiated in the marketplace.

Our segment outlook for our business segments for fiscal year 2014 shows an EBITDA margin of about 11% to 12% for the entire year with a slightly lower range for Q2 of a range of 10% to 12%, and this is generally associated with less work being done in the winter because of less field activities.. Our ECS business segment is expected to be in the 6% to 9% range for the second quarter and this is as a result of the winter slow-down in most of the Canadian field operations and most all of our Canadian activities are in the ECS group. ECS group is projected to return to their typical 9% to 11% range in the latter half of the year.

Our TSS business segment which now represents about a third, a 33% of the Company's revenue, is expected to continue to have very strong margin performance in a range of 11% to 13% throughout the rest of 2014.. In our RCM business segment, is also affected by the seasonal slow-down in field operations, particularly with the weather impacts we've seen even this last month. But we expect that they're going to trend their margins up to 7% to 9% for Q2 and complete the year in the range of 8% to 10%. I will note that with a larger percentage of our overall revenue coming from commercial clients in the improved performance in all three segments, I expect 2014 to put us on track to our longer term goal of 13% EBITDA margin.

I would like now to present our Q2 and fiscal year 2014 guidance. For the second quarter of fiscal year 2014, our net revenue range is $450 million to $500 million. With an associated diluted earnings per share of $0.37 to $0.42

For fiscal year 2014, in total, our guidance remains unchanged. With a net revenue of $2.1 billion to $2.3 billion, and associated diluted earnings per share of $1.60 to $1.80 and associated cash earnings per share of $2.30 to $2.60 per share.

If you're following along on the webcast, you can see the assumptions. These guidance includes assumptions that we will have $27 million or $0.28 per share for intangible amortization of 34% effective tax rate that Steve Burdick had mentioned earlier. 65 million average diluted shares outstanding and this guidance does exclude future contributions from acquisitions or impact the share buy-back that will take place between now and the end of the fiscal year.

In summary, we delivered Q1 results in line with our guidance in our earnings per share exceeded the high end of our guidance provided last quarter. Backlog was up sequentially and our end markets are now strengthening. We see new stability in the federal markets as I mentioned earlier, the most stability we've seen in the last few years. Continued growth in oil and gas. And broadening opportunities for a water-related work with our commercial clients.

Our business mix is increasingly dominated by private sector work which is helping our margin performance and it's going to continue to progress us toward our 13% goal for EBITDA margin. In overall, Q1 has placed us in a very strong position for fiscal year 2014 and we look forward to continued investment and success in our growth strategy. And with that, I would like now it like to open the call up for questions. Justin?

(Operator Instructions). The first question comes fromfrom Saagar Parikh with KeyBanc Capital Markets.

Good morning.

Good morning, Saagar

Congratulations on a solid quarter.

Thank you.

First off, a question on your organic growth. On your slide deck from your last quarter, you guys mentioned or walked us through your different end markets, international, US commercial, federal and state and local, and then provided organic growth targets in there and it said that overall it would be 2% to 8% organic growth. I'm assuming that the 2% to 8% organic growth target stands but has there been any change in the mix between those different end markets based on what you saw in the first quarter?

No, the end markets have actually been growing or shrinking in the case of the federal government about the same level. But I would say that the organic growth rate for the first quarter was impacted by an FX impact out of Canada. So the reduction that you saw in the international rate was impacted by about 3%, or in other words the FX exchange from Canada to the US from the time we have put our plans together moved about 10% so that 10% of roughly 30%, 31%, is 3%. So I do think that the reduction in organic growth in the quarter was overstated because of the FX impact. We still do see the end markets growing and progressing as we had indicated last quarter and on the slides this quarter, and still stand by organic growth projections for the year.

Thank you. And then just looking at your federal market, mining, eastern Canada which were the three issues that we saw in fiscal 2013. In the first quarter of 2014, would you say that those markets came in as expected, or did any of those three markets come in a bit weaker which were then offset by oil and gas or some of your other commercial operations.

I would say mining and eastern Canada came in just as expected or relatively flat sequentially. They both are profitable, mid single digits, 5%, 6%, those levels. Federal came in slightly softer than we had anticipated but that was mostly associated with the government full shutdown. I know we had our conference call after that had taken place, but that was-- actually accentuated the reduction in federal government a little bit higher than we had anticipated earlier, and that's what offset some of the strength in oil and gas which was, particularly strong.

Thank you. And then last question on my part. Since the acquisition of Parkland has given you guys a greater exposure to the midstream market and as we're entering February and probably a few months, couple of months, few months away now from the heart of pipeline bidding season, just wanted to get a better sense of what you guys have built in your guidance in terms of Parkland and pipeline opportunities this year and what upside there could potentially be with if you guys could hit on one or two or three $50 million to $100 million awards. Thank you

As we've shared both in this presentation and in earlier presentations, we're seeing a 20% plus organic growth rate and actually Parkland is participating in that. In fact has been on the upside of that. We do have a number of opportunities that are at the levels you have indicated, $50 million to $100 million, single opportunities and in fact some of them are even larger. So Parkland should be growing at a rate above that 20% level.

And you're right, the opportunities are coming up here and I do think if anything that we'll be resource-constrained from either responding or performing on every opportunity out there because that would move our growth rates to essentially doubling the organization in a very short period if we actually were successful in all of these. So we're going to pick the best opportunities out there. It will still be very high growth rates and actually the margins and performance should be-- should reflect what opportunities are there so they'll be at the highest levels of the Company.

All right, thank you.

Thank you, Saagar.

And your next question, comes from the line of Corey Greendale with First Analysis.

Hello, good morning. This is David Warner for Cory. Just first of all a point of clarification. I think you said that you expect the federal government revenue to be flat on an absolute dollar basis through fiscal 2014, is that right?

Relatively speaking, yes.

Okay. So just looking at the guidance, looking at the Q2 guidance and the annual guidance, and given that the federal government revenue is expected to be pretty flat, it implies pretty strong growth in other areas of the business, so I was wondering if you could just dig into your assumptions as far as end market growth in the second half of 2014 and mining, eastern Canada, whether you're expecting some event or reversal from the FX impact, or what gets you to that pretty strong double-digit growth in the second half in those other -- in those other end market, end customer.

Let me start with the technical treatment of foreign exchange. We're sitting here at the end of January, so this is roughly one month into the quarter and we did include in our guidance the FX impact of the strengthening dollar for this second quarter. We did not change our forecast for the year because we're only four months into the year and we expect movement and perhaps renormalization or movement of the FX rates back so we have and not actually changed the entire year's guidance based on this just first three or four months worth of FX. So that's No. 1.

So second, you're right, we are expecting flat federal revenues. Eastern Canada and mining, we expect will be flat. We expect it will essentially be zero on a sequential basis. I do want to point out that in this first quarter and the quarter we're in, second quarter are very difficult comparables for us on a year-on-year basis because a year ago both mining and eastern Canada were two of the more strong markets we had the entire Company.

But with that said, sequentially I expect them to be flat, and the comps on quarters 3 and 4 will be much more favorable and likely even show growth. But with respect to both Q2, Q3 and Q4, oil and gas is going to continue to be the strongest in the entire company. I expect it to continue at well above 20% and we can add some additional resources through hires or even acquisitions. I think we do need more resources to respond to all the opportunities we have.

So that's going to lead it, oil and gas without question. Our commercial work, and I'd say it's industrial clients generally, and industrial water have been very strong. Those type of numbers are at the 10% level.

I know we have and said that 10% and greater and I know recently we were saying 5% to 10% but it's right around the 10% level across the board so I expect that to continue to be strong. And it's also extend to our solid waste which is really landfills. Landfills and handling of waste from commercial industrial clients and the energy market and I talked about coal fly ash. There's federal legislation that is currently working its way through finalization that will actually create quite a large market and we are a working with our clients now to actually identify alternatives for complying with what may come and in effect there are draft regulations out so that's growing also at a double-digit level.

Our state and local, and I do want to say a word about this, I mentioned in my prepared remarks. We're seeing the work we're doing for cities and counties and our state clients growing at 10% or better. But we do have, and I've talked about this for a couple of years now, we do have three or four very large state transportation projects, D.O.T. projects.

One of them is working through completion. We still have a few more that will go. But as these large projects work through our system, our base business or core business will be growing grow 10% or greater but as the federal-- or the state D.O.T. projects wind down, you'll actually see our state business over the latter quarters, begin to pull back a little on a total percentage. But the very profitable work we have in our core business will be increasing as a percentage of that work. I do want to mention that because you could see this go from 14% down to 13% or 12% but the actual income coming out of that business actually climbed quite nicely.

Okay, great. I appreciate the color. For the TSS markets, operating margin, for the quarter, it benefited as you mentioned, from these closeouts. Would we expect that to potentially reverse, or normalize in Q2? (inaudible) margin going a little bit the other way?

I would say I don't think we're going to reverse anything that we picked up to be clear. But I do think that our TSS group is not running on a sustained basis at 14.5% or 15%. But that said I think they are running at a 12% to 13% level so I would say it's going to come back and normalize at the levels that we have set in the past. So I don't expect a pullback from the margin ranges we've provided. But I wouldn't model it at 15% or something like that.

Okay. Great. I appreciate it.

Thank you, David.

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

Hi, good morning. Can you hear me okay?

Yes, very good, John. Good morning.

Couple of things. First of all just on the financials. Amortization schedule that you've got, it's $18 million or $20 million left to amortize, does that just drop proportionally through the year from the level that we saw in this quarter? How should we think about that?

I think what we've seen is that some of the previously acquisitions that we've completed, that amortization has dropped off and so you'll see a slightly lower amount as we go throughout this year.

Okay. Okay. Assuming no additional acquisitions, right?

Right.

Yes.

Okay. And then Dan, maybe could you just maybe talk about what you're seeing in the acquisition pipeline? What's out there, what's the market's like, the opportunities that you have.

Yes, actually the acquisition market or pipeline so to speak looks good. I will say that there are markets that we have -- that were not available to us or we didn't show as much interest in this past year that are actually showing more life. And those are places like Australia.

We've seen both the premiums that were being paid down there come back to what we consider more rational levels, or at least more rational from our standpoint and the foreign exchange has actually come back in line so it makes it actually more possible and so that's back on our interest. They still have outside of pure commodities or mining work, there's other items down there that fit very well with Tetra Tech. The floods they had up in Brisbane last year are dead center for us. The water treatment, de-sal, other water management.

I would say that's one area that's both opportunities and the ability to transact look good. I would say Europe has questions if it's hit the bottom or has bounced off the bottom but that's another area that looks more favorable. We do need more resources to support our US multi-national clients. And that's mostly for industrial water so that's an area that we're looking in and there's lots of opportunity there so I would say it's a full pipeline.

Here in the US, we are looking and it is our No. 1 priority overall for the oil and gas and mostly midstream. That is our No. 1 priority.

There are a reasonable number of opportunities but I will say that with natural gas going from $3 to $5 in 30 days or in a very short period of time, expectations of premiums on valuations are going up even faster. We're very interested in that. We think we have great partners out there. We think they're fantastic with Tetra Tech. But I will saythe expectations of multiples in that field are going to potentially give us a bit of a pause. It may cause us not to be as quick in that area as we had earlier thought.

And just on the gas side or the pipeline business, is it your intent to also do construction work the way you're doing in Canada and the US or is it more on the engineering and planning side

I think it would be on the planning, permitting, engineering, and construction management as far as owning yellow metal and performing the construction, that it would likely be a subcontractor partnered with, but we will take turnkey projects. But self-performance would mostly be on the construction management side

Okay. And one other quick thing. In terms of the FX exposure that you have, are you -- are your costs pretty well matched with where you're generating revenue? In other words, we see the impact on the top line, how much of an impact or risk is there to the operating margins as a result of the weaker Canadian and other currencies?

Yes, it's pretty well matched. We don't have large differences.

People are performing the work. Work in Canada is being performed by the Canadians so the dollars to perform the work is the dollars were getting funded. So the work itself is not being impacted at all. So we're spending Canadian dollars to perform Canadian revenues. It's just the translation at the end the quarter back to the reported results that have the FX impact

Okay. Great. Thanks, Dan. Thanks, Steve.

Thanks, John.

And your next question comes from the line of Steven Folse with Stifel.

Good morning. First question, so last quarter I believe that you guys had mentioned that the bottom end of your guidance implied a little bit of a buffer for continued sequestration in federal through the end of the year. With that being cleared up and guidance remaining the same, does that imply that some other markets your expectations have actually been a little bit hampered or is that not the right way to think about that?

Yes, I don't think that's the right way to think about it. I will share with you how we think about it. We think that the impact of the third quarter was just two quarters ago and coming out of that we're just being cautious. I think that there were actually three things that had given us a pause for the lower end.

One would be continued softness in the federal government which appears to be clearing up. I would certainly like to see the federal government get through their debt ceiling discussion although I don't think that will have a long impact even if it is an issue. But we also are still only a couple quarters into eastern Canada and mining and while they're performing as we expected, I would like to watch them for another quarter or two before we declare we're out of the woods in both of those areas. They've been flat but those are the three items.

It was mining that didn't take a second downturn. Eastern Canada that didn't take a second downturn and federal that sequestration or some other impasse, and all three seem favorable but we're just through one quarter and so we want to just be prudent before we actually begin moving our guidance for the year.

Okay, great, thanks. And then touching back on the oil and gas and the acquisition market there, you said premiums have been going up. If that continues to be the case, do you still think that the billion dollar target within three to five years is achievable? Then on the acquisition side, is Texas still the primary market that you're looking in the US?

The first part of that question is billion achievable in three to five years, definitely. And in fact if our acquisitions move quickly even through this year, that simply means that it will be at the nearer term of that. In fact if you take -- if you even moderate our growth rate down to 15%, we're probably close to a $400 million run rate currently. 15% in five years, and that's a reduced level from what we're doing now, will put us at $800 million in five years with zero acquisitions, not even one. Now I do expect that we will add --

Even in a difficult time, there's some natural partners with us, natural subcontractors, so there will be, I hate to call it a steady stream, but we will be have a $20 to $50 million engineering groups that will join us and that does include, and priority is Texas, no doubt about it, but I would say Texas is no more of a priority than Alberta, and let's say Alberta and British Columbia. And British Columbia for the natural gas work. So you've got the work on the LNG terminals of which there's been a very large award here, to a large E&C contractors up at Kitimat that came out of Apache and Chevron, and there's multiple other LNG terminals that look like they'll be out in British Columbia.

British Columbia, Alberta, followed closely with the central part of the US from Texas, but I wouldn't exclude things up through Wyoming, even portions of Bakken and Colorado. So those are our focuses and the premiums of course are for the larger firms but there are still natural sub contractors and partners that are engineers that we still feel very strong that we can transact those.

Great, thank you. And then I guess lastly, do you expect any continued legal reserve payments or earn out reversal impacts for the rest of fiscal 2014, or is that not something we should model on

At this time we don't foresee any of those changes.

Okay. Thank you.

Thank you, Steven.

And your next question comes from the line of Andrew Wittman with Robert W. Baird and Company.

Hi, guys, good morning.

Good morning, Andy.

I don't know if you -- on the conference call, if you quantified the legal reserve but if it's $0.02 net of the one-time items, it's about $2.8million, is that correct, Steve?

Yes, that would be about right.

So if you take that out of the SG&A in line $47.4 millionminus $2.8 million, are you somewhere in the $45 million range for SG&A in the quarter and what's your view, is there anything one time or is it just -- I'm noticing that it seems like a pretty market step down from a year ago and I know you had some restructuring that should have decreased that, but do you feel that's a good number I guess is the question?

Yes, I think we've looked at our SG&A and if you take out some of the noise like first quarter of last year, some of this year, that type of thing, what we've been doing over the last year is spending about 7% SG&A as a percentage of our gross revenue.

Okay.

So that's about where we've been.

Let me just provide just a bit of a perspective on that, Andy that the reductions that we made in the third quarter of last year actually did structurally lower the overall expense of the SG&A for the Company and took out long-standing continuing costs. And that (inaudible) went everywhere from offices to staffing. We were aggressive. We did moving the SG&A structure down at least from a back office administration portion. We did not impact the "S" portion of sales at all, but the G&A portion we actually brought it down to become even more efficient on the running of the operation

Got it. That's helpful. Dan, can you give us an update on some of the problem projects a couple months ago, a few months ago we were talking about four. Can you just refresh our memory about how many of those are now complete, maybe which segments those are weighing on margins and what the expectation if for those to end and where margins could potentially go when they're not coming through at no profit?

Yes, I think we talked about at the end of the third quarter that there were four groups of projects. They were for the most part in the RCM group. We have completed the performance on two of the four so they're just done. And we're going to continue discussions in pursuit of claims on those.

But other than that work, those are done. They've been quantified and they're just finished. The third of the four is pretty well at the end, it's the last little bit of performance and closeout is taking place and there's little performance issue there and the last will go on for another year.

It's really these have gone on for about a year and the issue is on these, is the revenue that has been running through RCM, that's the construction management group, is running through at zero profit or zero margin so that's what was part of the impact that reduced the margin of RCM in Q1. It wasn't that they didn't perform a project well. It's that they ran the revenue through on some of these projects at no profit which brought down the margins. So as this runs through and it will go through the rest of this year into early 2015, but at a declining revenue amount so that's what's going to help trend up the margins within RCM so we don't have this revenue with no margin on it.

That's helpful, thank you. Maybe just one last question as you think about managing the Company now and managing the balance sheet, cash flows are up pretty significantly. Have you contemplated maybe returning more than just the $100 million authorization? I mean it's good and you've tweaked it a couple of times but can you talk about the potential for that to get larger over time and what you feel like the leverage level of the Company can support maybe today?

We've been very conservative with our balance sheet. The cash generated as Steve had mentioned, has continued to beat even our own forecasts and we actually historically had thought that we would run roughly net debt zero and then lever up to one times. I actually do believe based on the cash generation, we can be a bit more strategic with the use of our credit facilities and leverage and we're looking at moving our leverage up to where they trended towards more one-time for-- to annual earnings. And with peaks up more towards two. We've been moving from zero to one, run at a long term of zero, pay it off and move to one.

I actually think we'll move that up. It does mean that we'll have plenty of cash and capital available for acquisitions. And it does mean we may have even more available for other returns to shareholders. And that does include things that are -- that you've seen now which are buy-backs through grid, buy-backs through direct recovery such as dollar cost averaging that Steve talked about.

It could include things like special one-time dividends or even dividends themselves. So we're looking at all the different options and we'll explore what makes the most sense based on our cash generation and look for updates on this on a quarterly basis as we go through the next year.

Great.

And that will not -- just as a (inaudible), that will not impact one iota our impact on an ability to complete acquisitions. It's not are your going to do one or the other? We can do both.

Okay. Thank you for that color. Appreciate it. Have a good day

Thanks, Andy.

And your final question comes from the line of David Rose with Wedbush Securities

Good morning. Just a couple of follow-up questions on the guidance if you would. Just to be clear, the FX assumptions are flat line so if FX stays where it is or the dollar stays where it is, vis-a-vis the other currencies like Canadian dollar, you've got a 3% headwind on revenues for the back half of the year. Is that right?

That's correct, David.

Okay. Secondly, if I think about-- and I think you addressed most of it, what you need to see in order to hit the top end of the guidance, you need to see recovery in mining, recovery in eastern Canada, is there anything else? Other specific projects that you're waiting to come through that might be able to hit the top end of the guidance? And conversely, where do you see the bottom end of the guidance, what really drives that?

I think on the top end we've had press release, some very nice winds we've had on the commercial sector. We've seen one on Sri Lanka just recently. That's a just under $75 million project. Those are all Tetra Tech revenues.

You've also seen one for Chevron where we're doing a large water treatment plant at a mining facility that's a bit larger and we've actually had a couple other projects that are actually of that scale, even a bit bigger up in Canada. So if we can take those projects and actually get them to implementation, put them in the field and make good progress in the summer, plus just a little bit of strength in mining and eastern Canada, that should put us at the upper end and not withstanding that FX issue.

But the low end, if there's additional slowdown because of any number of things in the same items, federal, mining, and eastern Canada, that should put us at the middle or lower. But I will say we've not seen that right now. But again, as of today, just about four months into the year, it still leaves us two-thirds of it to go, so that's why we're remaining cautiously prudent by leaving the annual guidance unchanged. But the low end softness in federal, mining, eastern Canada, high end, strength, even modest strength in those three plus actually getting some of these large projects that we've already won and put in place executed through the spring and summer months.

Okay. And I appreciate that and I sense that you've handicapped your guidance for the second quarter based on weather. How do you quantify that?

Well, ,we are sitting here. It's unusual. We've had--Obviously we expect slow-down or even nothing happening in portions of Canada. That's happened. Some portions of the upper Midwest, that's happened. So the upside of great weather through the winter is not looking more favorable.

But it's generally not the case where we see folks can't get to work in our Atlanta offices or in our Mobile offices or our Gulf Coast offices. So we're sitting here a month into Q2 with a deep freeze going on literally and so that's why we've put this in place. I wouldn't convert that into a specific dollar amount but it did factor into it along with FX that we did include and plus just the normal seasonal nature of the work with the slow-down in our winter projects especially in Canada. So it is a bit lower than we normally would have put assuming there was I guess I would call more modest weather through the month of January

Okay. And I appreciate that tough one. And maybe lastly there have been a lot of concerns about emerging markets, your exposure in Brazil from an employee count is fairly sizable but revenue is small. How are you making sure you're fire walled around some of these events that are taking place in some of these hot spots?

Just to quantify what we have in Brazil. We have Brazil, between $40 million and $50 million a year, that's about $10 million a quarter, so let me (inaudible) just to quantify the size of it on a quarterly basis. So you're right, it is relatively modest, and the work we're performing down there, almost none of it is in the urban areas. So the portion that we're doing for mining are for very large mining sites that are out in very rural locations where they're not impacted with respect to protest or shutdowns of transportation systems and all the things that you see in the headlines are in the streets of Sao Paolo, and Rio, and these others. The amount of work we have in those locations is essentially zero. Our work is out in mine sites in remote locations where we are actually working on a specific project. We go to work and we go home and there's not protesters or these types of economic issues at those locations.

We are doing some work for the large oil companies down there, Petrobras and others. Those are out at remote port locations so that's also not impacted. We do, I believe this is the case, zero amount of work in Brazil for their national government or their state and local government. And those are the primary focuses of the upheaval that's taking place down there, and so that's just not our marketplace. So we feel relatively removed from those issues. I would never say the word completely insulated, you never know, but we're feeling pretty comfortable with our exposure at this point in Brazil.

Okay. That's very helpful. Thank you, Dan, I appreciate it

All right. Thank you very much, David. And thank you all for the questions and interest in Tetra Tech. I'm very appreciative of your continued following us and your support as we move into this year. And I hope if you're in one of the cold snowed in areas, you have a safe week and I'll look forward to talking to you all next quarter. Goodbye.

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