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North American Energy Partners Inc. (NYSE:NOA)

Q3 2013 Earnings Call

February 6, 2013 9:00 am ET

Executives

Martin Ferron – President, Chief Executive Officer

David Blackley – Chief Financial Officer

Joe Lambert – Vice President, Operations Support

Barry Palmer – Vice President, Heavy Construction and Mining

Kevin Rowand – Investor Relations

Analysts

Ben Cherniavsky – Raymond James

Bert Powell – BMO Capital Markets

Pat Uotila – Sterne Agee

AJ Strasser – Cooper Creek

Steven Raygard (ph) – Stephens Inc.

Chris Lalor – GMP Securities

Maxim Sytchev – Alta Corp Capital

Operator

Good morning ladies and gentlemen. Welcome to North American Energy Partners’ Fiscal 2013 Third Quarter Earnings call. At this time, all participants are in listen-only mode. Following management’s prepared remarks, there will be an opportunity for analysts, shareholders and bondholders to ask questions. The media may monitor this call in listen-only mode. They are free to quote any member of management but they are asked not to quote remarks from any other participant without that participant’s permission. I advise participants that this call is also being webcast concurrently on the company’s website at nacg.ca.

I will now turn the conference over to Kevin Rowand, General Manager, Corporate Development and Investor Relations of North American Energy Partners Inc. Please go ahead, sir.

Kevin Rowand

Good morning ladies and gentlemen and thank you for joining us. On this morning’s call we will discuss our financial results for the three months ended December 31, 2012, which represents the third quarter of our 2013 fiscal year. All amounts are in Canadian dollars.

I would like to remind everyone that statements made during our prepared remarks or in the Q&A portion of the conference call which reference management’s expectations or our predictions of the future are forward-looking statements. All statements made today which are not statements of historical fact are considered to be forward-looking statements. Certain material factors or assumptions were applied in drawing a conclusion or making a forecast or projection, as reflected in the forward-looking information. The business prospects of North American Energy Partners are subject to a number of risks and uncertainties that may cause actual results to differ materially from a conclusion, forecast or projection in the forward-looking information.

For more information about these risks, uncertainties and assumptions, please refer to our December 31, 2012 management discussion and analysis which is available on SEDAR and EDGAR.

On today’s call, David Blackley, CFO will first review our results for the quarter and then hand over to Martin Ferron, President and CEO for his remarks on our strategy and outlook. As previously mentioned, management will not provide financial guidance.

I’ll now turn the call over to David.

David Blackley

Thank you Kevin, and good morning everyone. I am going to review our consolidated financial results for the third quarter ended December 31, 2012 as compared to the third quarter ended December 31, 2011. As a result of the sale of our pipeline assets, current and prior year activity from this division was reported as a discontinued operation. The results I will be discussing today are the results from continuing operations, which exclude any activity from our discontinued pipeline operations.

For the third quarter of our 2013 fiscal year, consolidated revenue was $189.1 million compared to $218.2 million in the third quarter last year. The decrease reflects a reduction in heavy construction and mining segment revenue partially offset by continued strong revenue growth in the commercial and industrial construction segment. Gross margin was 14% in the third quarter compared to 11.3% for the same period last year, reflecting increased heavy construction and mining segment margin which compensated for the decline in margin deriving from project close-outs in our commercial and industrial construction segment. The improvement in heavy construction and mining segment margin primarily reflects a reduction in equipment maintenance costs and a lower operating lease expense resulting from the refinancing of certain operating leases to capital leases, and from the sale of certain equipment under operating lease to Canadian Natural.

Third quarter operating income was $11.4 million, up from $7.6 million last year. The improvement reflects higher gross profit during the current period and a $1.7 million reduction in G&A expense resulting from business restructuring activities implemented earlier in the year, which was partially offset by a $1 million increase in stock-based compensation and short-term incentive program costs.

Net income from continuing operations was $2.9 million for the period compared to $1.7 million in the same period last year. Excluding non-cash items, net income from continuing operations would have been $2.4 million or $0.06 per share compared to $0.1 million last year

Looking at our results on a segmented basis, heavy construction and mining revenue was $114 million compared to $159 million last year. The significant drop in activity reflects reduced mine support services at the Jack Pine, Muskeg River and Millennium Mines, and reduced demand for tailings and environmental construction services across the oilsands. Helping to offset some of this impact was increased overburden removal activity under our amended contract at the Horizon mine and increased site development activity at the Joslyn north mine.

Heavy construction and mining segment margin increased to 10.9% from 5.2% last year. The increase primarily reflects a reduction in equipment costs mainly driven by lower equipment maintenance and operating lease expense. In addition, improved margins on overburden removal activity and the close-out of two higher margin SAGD sit development projects helped offset lower margin heavy civil construction activity and the reduction of higher margin mine support services activity.

In the commercial and industrial construction segment, revenues increased to $75.1 million from $58.3 million last year. Filing activity was particularly strong during the current period with a high level of activity in oilsands at several projects, including the Surmont SAGD project, Base Plant mine and Millennium mine, and strong international sales of manufactured screw piles. These improvements were partially offset by reduced volumes in Saskatchewan and a reduction of structural field construction activity at the Mount Milligan copper-gold mine, as we closed out this project during the quarter. Commercial and industrial construction segment margin was 19.4% compared to 29.7% last year, reflecting the completion of two large projects at unusually high margins last year and the negative impact of outstanding unsigned change orders at the Mount Milligan copper-gold mine.

Looking now at capital, total new additions for the third quarter amounted to $10 million, including $8.5 million of sustaining capital and $1.5 million of growth capital. Moving on to liquidity, there was $35 million of outstanding borrowings and $3.1 million of issued and undrawn letters of credit under the revolving facility, leaving us with $46.9 million of borrowing availability.

Before turning the call over to Martin to discuss our outlook, I am going to take a moment to report on the success we’ve had in reducing our long-term debt so far this year. Last quarter, we announced amendments to our credit agreement, extending the maturity dates to October 31, 2014 and providing us with greater financial flexibility and a clear path to debt reduction. I am happy to report that as of December 31, 2012, we have only $9.1 million outstanding on our Term B facility after applying $8.7 million of net proceeds from asset sales at the end of Q2 and $15 million of net proceeds from the sale of the pipeline-related assets to the repayment of the Term B facility in Q3 of fiscal ’13.

We also refinanced $40 million in heavy equipment operating leases which we will expect to reduce annual operating lease costs by $20.3 million and reduce our annual cash lease payments by approximately $4.5 million. This will be offset by an increase in annual cash interest of approximately $2.1 million and an increase in depreciation expense consistent with the utilization levels of the refinanced equipment. As a result of the accelerated repayment of the Term B facility, the disposal of surplus equipment, and the refinancing of certain operating leases, we have reduced our total debt, excluding our revolving facility, by $56 million since March 31, 2012.

I will now turn the call over to Martin for his remarks.

Martin Ferron

Thank you David, and good morning everybody. This is my second full quarter with the company and I’m delighted that we’ve been able to post two successive periods of good profitability despite continuing difficult demand conditions for heavy construction and mining business units. We have now established a pattern of positive performance that we hope to sustain and build upon. Our Q2 profitability can no now longer be viewed as a one-off success and our business improvement exercise has clearly moved on from its infant stage.

Our piling group again had an excellent quarter but we also made very solid further progress in our efforts to reduce costs. I could point to several areas of this in our numbers but the most striking one is our equipment under recovery cost. Followers of the company will fully understand that this cost is inversely correlated to equipment utilization. I’m pleased to report that our equipment under recovery cost dropped from 15.3 million in Q1 to 7.6 million in Q2 to 2.1 million in Q3 in spite of the more than 35% reduction in utilization hours over the same sequential quarters. We are gradually getting much better at matching our maintenance costs to our expected equipment utilization rates.

In reference to our other business improvement priorities, I was especially pleased that we sold our pipeline construction-related assets during the quarter for a modest premium over book value. As David mentioned, this helped us reduce our Term B debt repayment target to just 9.1 million from 25.7 million at the end of Q2. We remain confident of being able to pay off this much lower Term B debt balance by the end of April this year. Also, I’m again very satisfied that we’ve been able to reduce our overall long-term debt—sorry, overall long-term equipment-related debt by $56 million, as Dave mentioned.

One collateral benefit of the pipeline asset sale is that we can now monetize around $33 million of working capital that was tied up in the pipeline business. Although the collection of some of this is subject to dispute resolution processes, we are expecting to receive a reasonable amount of this cash by the end of Q4 to further improve our liquidity. Obviously the sale of the pipeline assets also eliminates the risk of further losses on future pipeline projects and therefore is a very positive step in reducing our overall profitability risk profile.

Another Q3 achievement which is very worthy of mention was the winning of an incremental long-term mining services contract on a new mine site. This allowed us to continue our very proud record of service and success on every mine site that has been opened since such activity started in the oilsands in the 1970’s. This important contract award also clearly showed the confidence of a new customer in us and demonstrated to our competitors that we intend to remain a leading provider of such services.

Moving on now to talk about outlook, I mentioned last time that I expected demand headwinds to potentially get worse for our heavy construction and mining business over the near term. While activity levels as measured by equipment hours were down around 5% in Q3 from Q2 levels, this was due more to the impact of Christmas than any deteriorating market conditions. For Q4, our overall outlook remains cautious as work resumes slowly in January for both our business units. However, for heavy construction and mining we have a reasonable amount of what we refer to as dirt work in hand, which is overburden and muskeg removal together with reclamation activity. This may be a positive, although unfortunately the start-up of work on our new contract is delayed due to a shortage of camp beds at the mine site.

Also as in any year, the amount of dirt work we can get through will depend on sustained cold weather conditions; however, such favorable cold temperatures for mining work could have a converse negative effect on piling group activity, particularly in northern Alberta. We have a good seasonal piling backlog to again perform well in Q4, but we need suitable weather conditions to execute. As tempted as I am to head off for a tropical beach for at least part of the winter, I’m fully resolved to stay for every day of the season so I can better appreciate the very interesting demand dynamic caused by the different impacts of cold weather conditions on the two main segments of our business.

Our business prospects through our financial year ’14 are difficult to call at this juncture, although we expect a continuation of strong demand for our piling services and much the same demand headwinds to prevail for our heavy construction and mining group. Our oilsands customers are likely to remain in cost-focused, wait-and-see mode for expenditures on existing and new opened mine sites with their main concern being continued wide oil price differentials caused by a shortage of pipeline takeaway capacity to suitable refining sites in the Gulf coast of the U.S.A.

There is, however, some light at the end of mining services demand wind tunnel with engineering companies reporting robust activity levels related to projects in the design stage and WTI oil prices holding up pretty well, partly supported by expansion of the reverse Seaway pipeline. Any positive news on the Keystone pipeline would also likely be an obvious positive catalyst for our type of mining services.

We are preparing our strategy and budget for financial year ’14 in this quarter, and I fully expect us to remain concentrated on the continuation our business improvement initiatives with a particular emphasis on free cash flow generation from both operations and further mining asset sales to further reduce our leverage and improve our liquidity.

I will close with an update on one final improvement exercise I managed to build up in my personal stock holding in North America. At the start of our trading blackout period in early January, I owned just over 645,000 shares of the company.

Well, that ends my prepared remarks and I’d now like to hand the call back over to the operator. Thank you.

Question and Answer Session

Operator

Thank you. [Operator instructions]

Our first question comes from the line of Ben Cherniavsky with Raymond James. Please state your question.

Ben Cherniavsky – Raymond James

Good morning guys. I’m sorry, David, I need just a little more handholding on the debt because I’m just trying reconcile a few things. First of all, let me start on the cash flow statement. If I look at that and I sort of ignore the sale of the pipeline business, you didn’t generate any free cash in the last quarter or the nine months. Is that the comment that was made in the remarks about change orders and working capital? Is that expected to unwind in the coming quarter and do you think you’ll be free cash flow positive for the year?

David Blackley

Yeah Ben, if you look at the statement of cash flow, you’ll see there the working capital impact pulled just over $8 million of cash back out of our numbers, and that’s all equipment working capital. It really is a timing issue—

Ben Cherniavsky – Raymond James

But what in particular is it? Is that the change orders?

David Blackley

Some of it was change orders, just the timing of work. As we talked about, piling has gone through a very strong quarter. Their revenues have continued to ramp up. With that, their working capital has continued to build. What we expect to see here is that start to turn in our fourth quarter, particularly as we collect money from our pipeline business, so we expect a large part of that $33 million to come in before the end of the quarter.

Ben Cherniavsky – Raymond James

And I guess on the—I’m just trying to get a little more clarity on how much of that is change order-related, because in the past that’s been something that’s been difficult to predict just how you’re going to get and when. So what’s your degree of confidence around getting that money this time around?

David Blackley

Yeah Ben, I know there is some change order impact. I don’t know what the exact breakdown would be. I would say more of it is related to the ramp-up of activity at some of our larger construction projects, like the mine relocation at Syncrude and the strong activity that we’ve seen in pilings through the third quarter.

Ben Cherniavsky – Raymond James

Okay. And then just on your debt. I’m sorry if I—maybe we can take this offline, but just a little more handholding on how you’re looking at the decrease in the leverage because I understand the capital lease part of it being just a reclassification of operating leases, but other than than I see what looks like about a—am I correct in about a $20 million reduction in the debt from March 31?

David Blackley

No, what you’re looking at, if you actually refer to our—

Ben Cherniavsky – Raymond James

Its 25 in the MD&A on the long-term debt, recurring to long-term.

David Blackley

Yeah, so if you look at the breakdown there with the debentures and the term loans, you’ll see there that we’re going from 283 million down to 252 million. That’s all clear reduction of debt. And then when you look at the operating lease, capital lease which we’ve classified as equipment building financing, you’ll see that that’s also come down. Now, some of that is clearly on the P&L side of it, the operating lease component, and you’ll see that benefit in the operating lease expense. Then we have seen our revolver increase since March, so if you were to add that into it, then it would be less. But when we look at those two main line items, we see that we’ve reduced it significantly. If you just look at it from a balance sheet standpoint, then I think the number that you’re referring to is closer to the mark.

Ben Cherniavsky – Raymond James

Yeah, because your revolver is still debt. I guess your point would be that’s on the working capital that you’re talking about?

David Blackley

Yes.

Ben Cherniavsky – Raymond James

Yeah, okay. And then one final question, is I may – in the commentary around the margins in heavy construction mining, that there was increase – I’m just quoting here – that primarily reflects a reduction in equipment costs mainly driven by lower maintenance and operating leases. What would be the mix of that? Can you give some kind of quantification around the maintenance cost impact versus the reclassification of the leases?

David Blackley

I think we need to compare the numbers to last year. Clearly we’ve got an $8 million benefit related to operating leases. Some of that benefit, as we mentioned, is broken out by contribution from CNRL when they bought out some of the assets. I don’t have the exact number of how much of that 8 million benefit relates to CNRL. Some of that is because we sold some assets which we’d dealt with in prior quarters. Some of those assets were leased, so that reduced both the debt and the operating lease expense side, so that’s helped. And then there’s obviously the third piece which is the refinancing, restructuring. So that makes up the 8 million.

In terms of the breakdown on the equipment lease side, that’s a little bit harder for me to quantify. I don’t know if you’ve got any comments, Joe, on that?

Joe Lambert

It’s timing, parts and labor on the equipment side, but we’ve made some improvements on our inventory management system, and through our restructuring we did, we’ve got some improved efficiency and monitoring on our labor factors to make sure we keep our field labor flexible to fit the utilization profile. There’s not an exact number for you there, Ben, but it’s ongoing information that we’re tracking and we don’t have a lot of (inaudible) to project out in the future.

Ben Cherniavsky – Raymond James

Yeah, and I know that’s been—I think for Martin it’s been a focus of sort of low-hanging fruit on the cost is on the maintenance side, correct?

Martin Ferron

Yeah, absolutely. We’ve plucked that low-hanging fruit, but I think there’s still some juicy fruit on the tree within easy reach.

Ben Cherniavsky – Raymond James

Okay. That’s great. Good to see you guys profitable again. Thanks a lot.

Operator

Thank you. Our next question is coming from the line of Bert Powell with BMO Capital Markets. Please state your question.

Bert Powell – BMO Capital Markets

Yeah, thanks. David, I just wanted to go to the G&A line. Relative to our expectations, it was a better performance this quarter. Can you help us think about that number? Can we revisit what that looks like on a run rate basis and maybe give us a sense of what is fixed and variable in that so we can have a better understanding of how that’s going to move around quarter to quarter and any seasonality?

David Blackley

Yeah, I think the biggest variable component is the stock-based compensation. That can swing pretty significantly depending on things like our share price. I think we will run anywhere from a low of about 700,000 and we go up to 3 or 4 million, so that’s more of a factor of the share price.

In terms of the G&A itself, I would expect it to run somewhere between 13 and 15 million on a quarterly basis, taking into account some of these normal variances that we get in our share price.

Bert Powell – BMO Capital Markets

Okay, but if we exclude the share price impact on what flows through the G&A line, that’s still a pretty broad range on a quarterly basis. So can you help us understand what’s going to put that at the low end of the range and what’s going to put that at the high end of the range?

David Blackley

Well, clearly the other component would be things like our estimates of where we think we’re going to have to compensate people for—our short-term compensation for performance, so we monitor that through the quarter. We could see that number vary 500,000 to a million. That’s more depending on how our performance is going.

Bert Powell – BMO Capital Markets

Right. So were there reversals this quarter in the number in terms of going through and prospectively thinking about what you’re going to have to accrue for performance compensation?

David Blackley

No, there weren’t any big reversals this quarter.

Bert Powell – BMO Capital Markets

Okay, so then this quarter with a million of stock movement in it is probably a decent way to think about G&A on a quarterly basis?

David Blackley

Yeah, yeah. I think if you try to target something around about $11 million—I mean, whatever incremental bonus or drop would add to or come off that number, and then you would layer on top of that that stock-based compensation to get you into that 13 to 15.

Bert Powell – BMO Capital Markets

Okay. And then just going to equipment costs, was there anything—just in terms of timing in the quarter, was this a particularly light quarter? Was there deferrals or is this representative on the maintenance side?

David Blackley

I’ll let Joe answer that one, I think.

Joe Lambert

There isn’t anything particularly unusual about the quarter and the timing. Our expenses occur and our major components get capitalized. There is always volatility quarter-to-quarter just on when our major components come in, but they generally there on the capital side when they’re of significant dollars.

Bert Powell – BMO Capital Markets

Okay, so there’s nothing anomalous this quarter that would point to expenses on the stuff that runs through the P&L?

Joe Lambert

No.

Bert Powell – BMO Capital Markets

Okay. So David, just following along with that, if I look at the operating margin at the gross profit level that you put in in the heavy equipment group—sorry, the construction versus commercial, I’m coming out with kind of under-absorbed costs of about 650,000, and your MD&A says 2.1 million. I’m generally thinking about that as kind of your maintenance cost in the quarter. Can you help me reconcile those numbers?

David Blackley

Yeah, I’m not sure where you’re getting the—650 is the depreciation in corporate. That’s what sits outside of the numbers.

Bert Powell – BMO Capital Markets

Okay. Last quarter—

David Blackley

When we roll it back into the divisional under over-recoveries, when we allocate it back, there’s that small corporate piece. So it’s excluded in the 2.1 overall.

Bert Powell – BMO Capital Markets

Okay. Okay, thank you.

Operator

As a reminder ladies and gentlemen, if you’d like to ask a question, please press star, one on your telephone keypad. Our next question comes from the line of Pat Uotila with Sterne Agee. Please state your question.

Pat Uotila – Sterne Agee

Hey, good morning guys. Just a couple of quick questions. On your new long-term mining services contract, can you give us a sense of the margins that you’re seeing in the current market? And my second question is around the reduction in tailings work. I think it was kind of anticipated that that business would be ramping up more by now with the Directive 74 and everything. Has anything changed there, and how does that look going forward?

Martin Ferron

I’ll have a shot at both of those. On the new contract, we did the work with our usual margins so we certainly didn’t try everything to win it on a cheap basis. I’m hopeful through our cost reduction initiatives we’ll actually earn a better margin return on the project.

In terms of tailings work, it just dried up with a lot of other mining services related work during the course of the year. It’s a discretionary expenditure to an extent on behalf of our customers, and they were in deferral mode; so we just saw a drop-off in that type of activity gradually through the year.

Pat Uotila – Sterne Agee

Okay, thank you.

Operator

Our next question comes from the line of AJ Strasser with Cooper Creek. Please state your question.

AJ Strasser – Cooper Creek

Thanks for taking my question. Good morning gentlemen. Just a few questions here. All things considered, maybe you can talk a little bit about Q4 in the ECM division. You said the project was slightly delayed. What was it delayed, from when to when; and all things considered, how should we think about revenue in that division Q3 to Q4 if weather is cooperative, just kind of given typical seasonality?

Martin Ferron

Yeah, I think the overall answer is pretty flat. In terms of new contracts, we’d expect it to be more or less in full swing by now. Unfortunately production at that site has been delayed so they need more camp beds to accommodate the resources to bring that production on. So we’ve got a plan of getting on site and ramping up, which is delayed probably 30 days from what we’d hoped for.

So as I mentioned in my prepared remarks, we’ve got a reasonable amount of work. It’s just, as you say, having the weather to execute it, so all signs are so far that the weather is cooperating but we’ll have to see the next two months.

AJ Strasser – Cooper Creek

Martin, I appreciate the conservatism on kind of the end markets being a little bit soft, but the typical seasonality Q3 to Q4 is, I think, maybe something along the lines of $20 million-plus of revenue. So any reason we shouldn’t see the typical seasonality this year if weather is cooperative?

Martin Ferron

Yeah, I’m hoping it will be similar. Last year pilings benefited from warmer weather conditions, and as I mentioned in my remarks that could happen again but that would have a negative effect on mining. So the mix of weather is very interesting in terms of what our potential outcomes are.

AJ Strasser – Cooper Creek

Could you outline what you expect your CAPEX to be for the entire year?

David Blackley

Yeah AJ, we would be looking at it at round about the $40 million mark. We usually give that range of 40 to 60. We would be targeting the lower end of that range, round about 40. That’s excluding any asset disposals in that number.

AJ Strasser – Cooper Creek

And then last question is a little bit more qualitative. We appreciate all the cost savings that you guys have done here on the ECM side – you’ve done a phenomenal job. With that then out over some time once these pipelines are built and oilsand activity picks up again, can you give us a sense of how you’ve positioned the company to kind of benefit from that type of pick-up and where, given all the cost savings initiatives, where you think the margins could be once these end markets’ demands have picked up?

Martin Ferron

Well, you know, we have achieved 14% in this quarter in difficult market conditions, so it’s not unrealistic to hope for much better margins when demand picks up. I wouldn’t want to put a number out there, but it would clearly be a lot better than 14.

AJ Strasser – Cooper Creek

Okay. Thank you again and great job.

Martin Ferron

Thank you.

Operator

Our next question comes from the line of Bert Powell with BMO Capital Markets Please state your question.

Bert Powell – BMO Capital Markets

Thanks, I just had a couple of follow-ups. David, just on the operating leases, there’s more contemplated in terms of converting to operating. The 8 million this quarter, assuming you get the rest of it done, what does that look like as we head into ’14?

David Blackley

Yeah, there may be a little bit left to do. I’m not planning on a lot more in the way of refinancing in this next quarter. We don’t really want to use up all of our capacity right now that we have at the banks. We want to leave ourselves some flexibility there, so whatever comes through is likely to be pretty small.

Bert Powell – BMO Capital Markets

Okay. David, can you get the Term B gone this quarter?

David Blackley

We’re confident we can. We’ve got at least another 800,000 that we had paid down or will be paying down shortly here, so that certainly helps. We do have the ability to pay down up to $5 million out of the revolver if we need to. We don’t anticipate doing that right now, so that certainly helps us. And I know that Joe and the equipment group are continuing to look at options for selling equipment. It’s pretty much as we said – it will come in more piecemeal and over a longer period of time.

Bert Powell – BMO Capital Markets

Okay. And then just last question in terms of the Mount Milligan close-out in the quarter having an impact on margins. If I look through the claims attributable to the commercial industrial segment, it looks like there was about 600,000 of revenue that went through without associated costs. Is that the right way to think about it, which would be a couple basis points in terms of margin, or is more material than that?

David Blackley

It has the potential to be more than that. Keep in mind that we only recognized revenue up to cost. If through some of our change orders we can get more than just the regular margin, because we’ve got some other things that we want to claim, then yeah, we could do that.

Bert Powell – BMO Capital Markets

No, but just thinking the margin this quarter, the right to think about adjusting the commercial margins for Mount Milligan is—

David Blackley

Yeah, yeah. You just want to adjust the margins in this quarter for that, yeah.

Bert Powell – BMO Capital Markets

Okay. Thank you.

Operator

Our next question is coming from the line of Steven Raygard with Stephens Inc. Please state your question.

Bert Powell – BMO Capital Markets

Hey, good morning guys. Just a couple questions from me. On the gross margin line, I guess in the current demand environment you’re seeing, you saw a nice improvement both sequentially on a year-over-year basis. Is the 14% margin the right way to think about that going forward?

Martin Ferron

Well, maybe for Q4 it might be down a little bit because of the mix of work. But we’re certainly striving for 15 as our first target on a quarterly and annual basis.

Steven Raygard – Stephens Inc.

Okay, that’s helpful. And then I just wanted to make sure I heard correctly – on the sequential change in revenues, you’re basically sort of expecting at this point, I guess weather depending, flattish-type sequential growth. Did I hear that correctly?

Martin Ferron

In terms of the heavy construction and mining, yes; but piling will be down because of the seasonality.

Steven Raygard – Stephens Inc.

Okay. Thanks guys.

Operator

Thank you. Our next question is coming from the line of Chris Lalor with GMP Securities. Please state your question.

Chris Lalor – GMP Securities

Hi guys. Just wondering if you could give a sense of the fleet utilization, and then secondly maybe just a sense of how much equipment is still out in the market and how much over-capacity is there?

Martin Ferron

Want to take a shot at that, Joe?

Joe Lambert

Yeah, as far as our monitoring, even looking at the year-on-year, it can be quite distorting because of the down time that we had at CNRL previously. So it depends on—you’ve almost got to separate it. We’re looking to develop better KPIs that we can monitor that on. Right now in fourth quarter, we’re fairly highly utilized with our fleet and we look at it quarter by quarter on what kind of work is coming up.

So it’s not a good answer for you. I’d say overall the fleet utilization is probably similar to what it was last year in this quarter, but I don’t have a key measurement I can give you on that.

Chris Lalor – GMP Securities

Okay, that’s fine. And then just secondly on—maybe just as well a comment on the greater more macro market and in terms of what you’re seeing in terms of equipment in the market. And then just also on Joslyn north, just a comment maybe on how much work you have remaining with them and if there’s any impact of Suncor’s announcement last night.

Martin Ferron

Wow, there were lots of pieces there. I’ll attempt one or two of them. In terms of equipment capacity, I think there’s over-capacity in the market generally. We’re in the mode of right-sizing our fleet in order to better serve this demand, and we’re going to continue to do that probably into the next financial year. I can’t really comment on competitor fleets.

On Joslyn, Barry, maybe you can--?

Barry Palmer

Yeah, on Joslyn – I mean, there’s a definite impact on where they’re spending their money, and some of the scope has been deferred or at this point delayed. So we’re still forging ahead at the same pace we were. It’s a slow and steady pace at site capture and clearing and grubbing and ditching and ponds. There are future scopes that we’re pricing right now, but nothing I can really speak of with any substance.

Martin Ferron

Then in terms of Suncor’s announcement, the Voyageur upgrader, it didn’t have any impact on us. It will obviously be interesting to see what they decide on Four Hills and Joslyn with their partner, so we’ll be keenly looking for news on that.

Chris Lalor – GMP Securities

Great. That’s all for me.

Operator

Our next question comes from the line of Maxim Sytchev with Alta Corp Capital. Please state your question.

Maxim Sytchev – Alta Corp Capital

Hi, good morning gentlemen. Just a follow-up on the fleet size and how far you are in terms of rationalizing the asset base. Is it fair to say right you’re kind of half done with your prospective disposals, or how should we think about that?

Joe Lambert

I think we’ve done a couple of things, Max. I mean, we’re continually updating our utilization profiles and projections based on what operations tells us, so it’s nothing that’s ever going to stop. Ultimately we’re always going to monitor it, but getting our fleet down to levels of where our consistent usage is, I’d say we’re at least halfway to that based on our projection in future.

One of the major games for us is improved monitoring of our fleet as it—we’ve been able to manage down our rental units, so getting more out of our own fleets and being able to drop the rental units, which doesn’t change our equipment operating hours but improves our profitability because we’re using our own equipment instead of external ones.

Maxim Sytchev – Alta Corp Capital

Right, okay. That’s great. And then any comment in terms of pricing right now? Overall, obviously the macro environment is still pretty difficult, but are you feeling that we’re kind of scraping the bottom in terms of expectations for what the producers would like the service providers to price on the market?

Martin Ferron

Yeah, I’d certainly like to think we’re near or at the bottom on that, Max.

Maxim Sytchev – Alta Corp Capital

Okay. And then maybe just very lastly, in terms of your leverage goals over the medium term, where would you like maybe to get, let’s call it over the next 24 months on a net debt to EBITDA basis? I mean, is there a target that you think is achievable that you might share with us?

David Blackley

Yeah Max, we haven’t set ourselves a specific target. What we are looking to do is just as we get inflows of cash, that will obviously go to reducing our debt and that’s what our continued focus will be.

Maxim Sytchev – Alta Corp Capital

Okay. Okay, excellent. All right, thank you very much gentlemen. That’s it for me.

Operator

Thank you. Our next question comes from the line of Ben Cherniavsky with Raymond James. Please state your question.

Ben Cherniavsky – Raymond James

Hi guys. I just wanted to clarify something that I—one of the comments you made, just to make sure I heard that right. CAPEX at 40 million, was that what you’re expecting it to finish at this fiscal year, or is that an expectation for fiscal ’14?

David Blackley

No, that would be for this year.

Ben Cherniavsky – Raymond James

What would ’14 look like?

David Blackley

We haven’t completed our budget process yet, so that’s a little hard for me to say. But clearly all things being equal, we’d be looking at numbers similar to this year. If we can find ways to lower it, we would certainly look to do that; but I don’t think we’ve got plans right now for a big capital spend next year.

Ben Cherniavsky – Raymond James

Right. And I guess any commentary at this point on next fiscal year is still premature for you?

David Blackley

Yes.

Martin Ferron

Yeah, as I mentioned, we’re in the middle of our budgeting process now so we’ll have much more color on that next time around.

Ben Cherniavsky – Raymond James

And just finally another small point in the commentary, the MD&A – international sales of manufactured screw piles, is that amounting to anything material at this point?

Joe Lambert

Yeah, it is.

Ben Cherniavsky – Raymond James

What would it be? How do we look at that? Is that something that you think will continue to grow, at what rate? How is that affecting those numbers as we think about it?

David Blackley

Yeah, I think near-term we’re not expecting big increases; but it is developing into a potential growth opportunity for us longer term.

Ben Cherniavsky – Raymond James

So is this from the acquisition you did a couple years ago?

David Blackley

Yes.

Ben Cherniavsky – Raymond James

Yeah, so that market is coming to fruition for you?

David Blackley

Yeah, actually it’s come in a different way. I think when we initially looked at the acquisition, the focus very much would be the opportunities in Alberta; but as it turned out, we found a lot of opportunities internationally. We picked up some work in Alberta, but the real growth seems to be outside Canada.

Ben Cherniavsky – Raymond James

That’s great. Okay, thank you.

Operator

As a reminder, ladies and gentlemen, if you’d like to ask a question, please press star, one on your telephone keypad. Our next question comes from the line of AJ Strasser with Cooper Creek. Please state your question.

AJ Strasser – Cooper Creek

Thank you for taking my follow-up question here. Are there any potential new projects that you guys are bidding upon right now, maybe in line with—as large as your recent win?

Martin Ferron

Not as large as that, AJ, but there’s one or two nice projects that we are bidding. One of them is actually outside the oilsands, and that’s going to be a focus area for us going forward. So yeah, we’re bidding some nice work so hope to win some of it.

AJ Strasser – Cooper Creek

And could you elaborate on your work that you guys did in SAGD this current quarter?

Martin Ferron

That was mainly in our piling division, AJ, the Surmont site.

AJ Strasser – Cooper Creek

Okay, thank you for taking my questions.

Operator

Thank you. I’m showing there are no further questions at this time. I will now turn the floor back over to management for closing comments.

Martin Ferron

Okay, well thanks for joining us today and we look forward to talking to you again in the near future. Thanks.

Operator

Thank you, and this concludes the North American Energy Partners conference call.

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