Martin H. Dodd - Senior Vice President, General Counsel and Secretary
Christopher P. Vincze - Executive Chairman, Chief Executive Officer and President
Thomas W. Bennet - Chief Financial Officer, Principal Accounting Officer and Senior Vice President
Steve Shaw - Sidoti & Company, LLC
TRC Companies (TRR) Q2 2014 Earnings Call February 5, 2014 9:00 AM ET
Good morning, and welcome to the TRC Companies' Second Quarter Fiscal 2014 Financial Results Conference Call. Today's call is being recorded. [Operator Instructions] At this time, I'd like to turn the call over to Mr. Martin Dodd, General Counsel for TRC. Mr. Dodd, please go ahead.
Martin H. Dodd
Well thank you, Kevin and welcome, everybody. Greetings from snowy New England. With me on the call today are Chris Vincze, our Chairman and Chief Executive Officer; and Tom Bennet, our Chief Financial Officer.
As you know, the primary purpose of today's call is to review our second quarter financial performance. That's the quarter that ends on December 27, 2013.
Also, in the course of today's presentation, of course, we'll be giving you some insight into where we see the company going and where our markets are headed.
As such, to the extent we talk about future events, those remarks would constitute what are called forward-looking statements defined under the Federal Securities Laws. Forward-looking statements are subject to risks and uncertainties, and they could change materially over time for a variety of reasons, over which we may have no control.
For a more complete consideration of factors you should keep in mind with respect to forward-looking statements, please refer to our public SEC filings, including the 10-Q that we filed this morning, as well as our financial press release and the presentation slides we're using for today's call, which are posted on the Investor Center of our website.
And with respect to those slides, we've prepared them as a visual supplement to the presentation. And we hope you find them helpful. But you should consider them in the full context of our 10-Q, the press release and our commentary on the call today.
And with that, I'd like to turn the call over to Chris.
Christopher P. Vincze
Thank you, Martin. Good morning, everyone. As Martin said, our snowy Northeast. For safety reasons, we are actually making our calls independently from each other, so I apologize for any unanticipated interruptions, as well as my raspy Lou Rawls-like voice today, fighting a cold, as you can tell.
As Martin said, welcome to our fiscal '14 Q2 investor call. The agenda will provide for my commentary on the second quarter performance, some operational highlights and the future business outlook. Tom will complete the presentation portion of our call with a financial review of both the quarter and the first half of the year.
Overall, a very nice quarter. It's always nice to have our arrows pointing up. The total company participated in the success of this particular quarter. As you can see, our top line grew nicely at 21%, contributed by all 3 of our segments of the business from a material level. So we've not seen that, certainly in the recent history.
Importantly as well, our EBITDA and operating incomes both proportionately grew as our top line did. And then finally, our backlog increased by 4%, continually showing and indicating a relatively stable marketplace that we're operating in.
So to recap, a strong clean quarter, company continues to progress in an overall improving environment. We still have a ways to go from a potential both from a performance level, as well as from a marketplace perspective.
If you look at our next slide, illustrates our diversified business by the 3 sectors that we operate in. And I'll speak to each of these sectors in a moment in the subsequent slides. But as you can see by this slide, both our Energy and Environmental sectors grew dramatically year-over-year and outpacing our double-digit growth in our Infrastructure sector. In our first quarter, Infrastructure represented about 16% of our total revenues declining to 13% only because of those higher growth rates.
We would certainly expect fluctuations quarter-to-quarter, with Energy consistently growing the fastest. Specifically by segment, our next slide shows the Environmental sector continues the momentum for 2 quarters in a row with double-double growth. 13% growth on the NSR line, 12% growth on the operating profit line.
Clearly, our strategic investments and our organic growth strategy is paying off as the marketplace continues to improve. From the drivers perspective, certainly, the single largest driver of our business right now in the Environmental business is the permitting and power plant decommissioning activities. Especially in this last quarter, we had a number of permitting projects take off, in particular, from the Gulf Coast of Florida, as 1 large project took hold.
We are also seeing a number of our power plant decommissioning projects going forward and in much of that particularly work, we're still doing upfront studies in strategy development that will ultimately lead to much bigger projects in the future.
On the challenge side, the continuing challenge of uncertainties related to policy on Energy and Environmental regulations, and I'm going to have some comments later in my presentation discussing that, but certainly, pipeline development, other kinds of projects and capital being spent on these projects are still being delayed based on some of those uncertainties, but they are moving forward as you can see.
Our next slide is our Energy segment, which had a nice rebound quarter, very strong top line growth of 35%, but also a healthy year-over-year segment profit growth of about 30%. If you recall last quarter, our Energy business struggled through a couple of new pricing and scoping issues with clients. We have repaired and improved those situations in quarter 2. Single largest driver, which will be for years to come, is the expanding utility capital spend programs on aging transmission and distribution Infrastructure.
Other strong forces within our Energy business are the energy efficiency businesses and the most recent trend that we've seen including in the last quarter was our renewable business related to solar and solar development projects. And many of these projects appear to be going into the EPC process, which, again, certainly portends well for us in the future.
We are noticing some level of pressures on the challenge side by some aggressive terms and conditions from, especially some of our international utilities. So despite some of the supply demand issues of workload and things, we are still noticing some of those pressures, but we do think those will normalize us as the next quarters go forward.
Our third segment, the Infrastructure segment, on the next slide, continues its strong run of successful quarters. Nice growth in both top line and bottom line, 18% and 49%, respectively. TRC's transformation to a true national platform and expanded services has helped us execute larger projects in providing the results that you can see.
As far as our drivers, clearly, the 2 most prominent drivers at this point in this space is our healthy state budgets. There are surpluses in much of the states across the country, and many of the governors and policymakers are now moving investments in Infrastructure, in particular, in transportation, as a viable strategy to improve their economic standing. Examples most recently are Florida, Pennsylvania and Virginia, 2 of which are markets we participate in quite heavily.
So again, we continued to see improvements in those market conditions and certainly, TRC's growing national platform is in support of that.
Our next slide, our backlog and projected win slide, illustrates a solid backlog picture. Again, indicating stable marketplace in production levels for TRC. Certainly, double-digit growth backlog would exemplify a much-improved marketplace. So again, we're still seeing opportunity of growth here and not seeing what we'll say is the high-growth areas quite yet.
And as you can see, we had 4% growth from quarter-to-quarter. I thought I'd highlight a few of the wins that we had. Most of these wins are all in the multimillion dollar category, but a few are certainly substantial in the types of projects that we're now starting to win with our clients.
In the Environmental space, Pacific Gas & Electric, long-time client of ours is really expanding for us now across our total Environmental services and permitting, we've now broken through a new area of business within the central Valley.
CSX represents our transportation marketplace growth. Here, we've won a recent MSA to be a preferred provider, 1 of 3 now for their organization. So again, it's more of a strategic win for the company, breaking through another railroad transportation organization to provide full-service engineering and consultation services.
Kinder Morgan, again, another long-term client, awarded us recently a large pipeline project and continues to show as a partnered client with us, with many new contracts and workload.
In our Energy space, 2 notable highlight wins, one is our PSNH, Public Service of New Hampshire. We were awarded a storm hardening program. And again, here we're doing structural analysis of their transmission system overall, which typically portends a number of other projects in terms of improvements.
PPL, Pennsylvania Power and Light provided us a contract where we have been chosen to provide them a complete update of their substation standards program. So ultimately again, as a proven partner to now help them guide their way into the new light of substation workload. So again, portending to future capital expenditures in those areas of business.
Infrastructure work, city of Lancaster, California, a multibillion dollar construction management project. Again continued breakthroughs in the West Coast for us in different areas of market beyond Caltrans and some of the districts. And then finally, PennDOT, again, numerous awards, long-term client of ours where we're beginning to do quite a bit of geotechnical studies, which again leads to a number of other construction projects and ultimate capital expansion projects, which TRC is well poised for. So again, many of these projects highlight upfront work that typically leads to secondary work and again, ultimately growth in backlog in production for the company.
Our next slide, page 9, our growth strategy. This slide certainly describes our balanced approach, which we've been maintaining, certainly for the last few years as we've launched our profitable growth strategies. Half of that discussion point is related to our acquisition program, which we launched 3 years ago this month. We've made 8 acquisitions in that period of time. Most recently, we acquired EMCOR Energy services, EES, as it's noted on our slide. I'll speak to that business in a moment, on the next slide a full profile, but we closed that transaction in January of this past month of fiscal '14, or calendar year 14.
And again, you can see by this Slide, lower down, depicting a very balanced growth strategy where 45% of our growth in the quarter attributed to acquisitions and 55% from our organic strategies, leading to a 21% growth year-over-year quarter revenue number.
On the investment of our organic strategies, I had mentioned, I believe in our last call, our Utility/Power vertical group that we launched at the beginning of the year and again, we continue to have a dedicated team of experts supporting the expansion of TRC services across utilities throughout the U.S. Initial indications after 6 months of this program are clear that we have a lot of positive client development and opportunities being created by this dedicated group of experts. So we're certainly noticing our strategy is beginning to work on that front.
Our Oil & Gas vertical is being built as we speak. We've made some strategic hires in that space and we'll continue to build on that same format going into next fiscal year. And then as far as our Transportation and Infrastructure business and Industrials, we're targeting to launch those programs sometime next year. So importantly, we are continuing our investments in our organic strategies, which we think are again, building upon the strong platform of services TRC already offers here across the domestic U.S.
Our next slide is the profile of our most recent acquisition, TRC sees the energy efficiency markets as a long-term high-growth area. We have solidified our technical services in our West Coast presence with the last 2 acquisitions. HMG, which we acquired a year ago and then most recently, EES. The real differential of EES, in addition to providing us some additional capacity in the West, is its additional engineering resources. So we're going to be rounding out our full energy efficiency capabilities. And again, these services are certainly exportable across geographic territories. And in many cases, EES was already involved with some of our key clients here on the East Coast, NYSERDA being one of them, but it certainly gives us another skill set that supports our overall energy efficiency skill set.
Importantly, California is one of the largest markets in energy efficiency, probably the single largest from a state perspective. So certainly from a TRC strategy, we've now covered the 2 coasts fairly dramatically, and certainly would be considered the leader in providing energy efficiency services to those markets from a program management and consulting capacity.
Happy to report that the business has been fully integrated, both organizationally and from a system perspective. EES will be accretive to TRC immediately, and the deal was funded through cash flow. So again, another typical acquisition for TRC in terms of the 8 that we've done so far.
Our next slide is our market outlook. We've basically maintained this slide as is. Our positions are unchanged, certainly in believing that our market outlook from a short, medium and long-term perspective are very solid. Short-term obviously being somewhat fluctuating based on quarters and the economy issues, but medium and long-term are very solid. I would like to add 2 observations that aren't necessarily on these slides. I've recently had meetings with a number of administration officials and there does appear to be a sense of urgency of finalizing rules and uncertainty issues.
For example, fly ash. For example, XL pipeline. For example, frac-ing. All of these will provide a pathway to additional capital and certainly being spent by the Oil & Gas and Utility sectors, which ultimately -- certainly provides us additional opportunities and growth.
A second key observation is the focus, certainly, for the next 3 years are going to be dedicated to climate change and water. So most of the critical path, policy developments, whether we're talking about Energy, transportation and certainly Environmental, the dedication to those 2 issues are going to be paramount. So again, from a TRC perspective, certainly that will be supportive of many of our business lines and circumstances.
So in summary, a strong second quarter heading into our most difficult quarter, and then just as a side note, and today is a perfect example, the weather certainly has not been our ally so far, as far as Q3 goes. So let's hope for more promising weather here in February and March as we go forward. But at macro levels, the attractive markets that we're offering, certainly provide us great opportunities, and you can see it by our growth, certainly in the last quarter, and on and off for most of the last 2 years.
Our internal investments continue -- are delivering results. Our balanced strategy of growing both organically, as well as through acquisition, continues to maintain a very strong position for us, which leads to a very strong balance sheet in terms of our execution in allowing us to continue to make those investments and at the same time, be poised for any and all opportunities that present themselves to the company.
And then finally, our environment in which to operate continues to improve. As you can tell by our backlog growth and opportunity growth that we've seen.
So with that, I'd like to turn it over to Tom.
Thomas W. Bennet
Thanks, Chris, and good morning, everyone. Let's move to Slide 13 of the presentation, where I'll review some of the financial details for our second quarter compared with the same quarter of the prior fiscal year.
As Chris highlighted, our net service revenue of $91.1 million for the quarter was up $15.9 million or 21.1% compared to last year's second quarter. 62% of that NSR growth came from organic sources while 38% came from acquisition sources, a nice balance.
EBITDA, a non-GAAP financial measure, was $7.4 million in the quarter, up $1.5 million or 24.2% compared to the same quarter the prior year.
Our EBITDA to NSR margin ratio of 8.2% of the quarter was up slightly compared to the 8% ratio in the prior year quarter. Let's move to Slide 14.
At the bottom of the table, you can see that we're introducing a new non-GAAP metric, adjusted earnings per share. The reason for the additional EPS metric stems from the large difference in the effective tax rate, 40% in the current year period, compared to the prior year periods, which were around a 5% tax rate. The adjusted EPS metric states the prior year period EPS after removing the valuation allowance impact, thus allowing investors a better measure of the comparable EPS growth.
So what you see in the table is the adjusted $0.09 per share in the prior year second quarter compared to our EPS for the second quarter of $0.10 per share, showing about 10% growth.
I'll comment further on the tax and EPS topic in a moment as we move down Slide 14.
Looking at cost of services in the quarter, they were $76.4 million, up $11.8 million or 18.3% compared to the second quarter of last year. Expressed as a percentage of NSR, cost of services were 83.8% in the quarter compared with 85.8% in the same quarter of the prior year, resulting in gross margin of 16.2% in the current quarter compared to 14.2% in the prior year.
The G&A expense ratio -- the G&A to NSR expense ratio was 8.2% in the quarter compared to a 7.6% ratio in the same quarter of the prior year. The G&A ratio was negatively impacted due to acquisition, integration and legal and litigation costs.
The income tax provision for the quarter was $2.1 million, up $1.9 million compared to the $0.2 million of tax expense in the same quarter the prior year.
In the table on Slide 14 and again on Slide 16 for the 6 months year-to-date period, you see our effective tax rate compared to the adjusted tax rates I mentioned earlier.
As I stated in the call last quarter, the primary reconciling item between our 40% effective tax rate and the 5% tax rate in the prior period is related to the valuation allowance we removed at the end of last year when we recorded a $18 million tax benefit in the fiscal fourth quarter.
Prior to its removal, the valuation allowance substantially offset the impact of the federal statutory income tax in the prior year periods. Another simple way of looking at the specific impact of the different tax rates is to recognize that income tax expense in the current quarter accounts for about 6.9 cents per share compared to the unadjusted 0.7 cents per share it accounted for in the same period of the prior year.
Jumping to Slide 17, I have a couple of comments with respect to DSO and cash. Our DSO or days sales outstanding metric, decreased 9 days to 86 days at the end of the quarter compared with 95 days in the immediately prior first quarter and level with the 86 days in the prior year second quarter.
We continue to target achieving a DSO of 80 days or less so we have some more work to do on top of this quarter's nice decline.
Free cash flow for the second quarter was a seasonally negative $7.8 million compared to a negative $1.8 million in the second quarter of the prior year, and we ended the quarter with $8.5 million of cash compared with $10.8 million in the second quarter of last year. The primary differences in the year-over-year cash balances were driven by earnings, acquisitions and debt repayment cash outflow.
In the quarter, the primary cash flow items were $6.5 million of negative cash flow from operating activities and $1.3 million of capital expenditure activity. Operating cash flow was driven primarily by growths related to accounts receivable, balance accretion, as well as seasonal decreases in accrued compensation and accrued payroll taxes. We currently have no borrowings outstanding on our $75 million revolving credit facility and during the quarter, we repaid the remaining $2.4 million principal balance on a 6.5% note that had been outstanding for several years as part of a real estate venture.
Please note that a reconciliation of our GAAP to non-GAAP measures is provided on slides 18 and 19.
That concludes my remarks today. We'll go back to the operator, Kevin, now for Q&A.
[Operator Instructions] Our first question today is coming from Steve Shaw from Sidoti.
Steve Shaw - Sidoti & Company, LLC
Chris, in your opening comments you mentioned that sort of transportation funding is opening up a little bit. Is there a specific area within transportation that you guys are seeing some more of the spend being used on?
Christopher P. Vincze
It would be related to the total portfolio. So expansion roadways and bridge repairs. So I would say most of it's going to state of good repair activity across the country. And then secondarily, smaller new capital projects where, again, additional lane or additional access point on the bridge. We're seeing that as finally starting to happen, which again, I can tell you, we haven't seen probably close to a decade of new capital expansion project. So I would say both areas are moving forward and the good news is the surpluses at the state levels are -- much of which are not going to be dedicated to these kind of activities.
Steve Shaw - Sidoti & Company, LLC
Okay. And then in terms of the -- regarding the utility spending. Is there any cyclicality to that? Or are things just sort of opening up and you guys expect a continuous flow-through of that?
Christopher P. Vincze
If you look at that whole roadway analogy you can compare it to the transmission lines of utilities, that many of these transmission infrastructures of utilities are 40, 60 years old. Obviously, with the advent of renewable Energy coming into the grid, the transformation of coal to natural gas, again, the constant evolution, so upgrades, evolution, all requiring really updating and making those transmission systems more efficient, more effective. That's a long-term capital play, which at this point is probably at the centerpiece of most utilities' 5 year plans. Secondarily, based on changes in Energy policy, obviously the complete transformation of coal to other things is then going to require a second level of capital being spent to address those issues both in compliance, as well as strategic value. So it's a pretty 5, 10-year -- pretty much a 5 to 10-year program that we see in front of us on transmission and distribution.
Steve Shaw - Sidoti & Company, LLC
Okay. And then also in the Energy segment. I know California is more progressive and they're really on the forefront of pretty much energy efficiency or anything Energy. Who do you guys see as #2 or sort of on the horizon coming up behind them?
Christopher P. Vincze
You mean in terms of competition or in terms of the states that have programs?
Steve Shaw - Sidoti & Company, LLC
I wouldn't say competition. Just states making a similar progression to California.
Christopher P. Vincze
Well, it typically is where you have your highest Energy cost. So the mid-continent country -- part of our country, coal has clearly been the leading edge of Energy source, that is a fairly cheap cost being -- now becoming more expensive because in order to continue to use coal, there's also requirements, which then require additional capital et cetera, which then brings the cost of that power up. We've already had those issues in the Northeast and in the West Coast, both because of our general, more stringent regulatory policy, but also just based on lack of having source energy around us. So you're seeing the coast as being the predominant energy efficiency markets, and it's now heading towards the center part of the country as Energy costs continue to grow. So we'll continue to see the 2 coastlines, West Coast and throughout the whole Northeast as being the primary drivers of the energy efficiency market, but it's slowly expanding to the rest of the country.
[Operator Instructions] Our next question is coming from Larry Gavin, private investor.
Chris, I've been a shareholder with TRC now for about 3 years, probably got about 60,000 shares or something like that. And I've been very happy with all the progress the company's making internally. As a shareholder, I really haven't benefited all that much from the good things you folks are doing. So I'd kind of like you to speak to me as a shareholder and why should I be, or anybody be buying more TRC shares at this point in time, relative to 1 year or 2 years ago, relative to where the company, you see it 3 years from now? I'm not an impatient guy as many investors tend to be, but at some point, you want to feel like some of these good things are getting reflected in the value of the shares. And at times the company tends to trade on the stock exchanges as if it's almost a private company, because it's so closely held. So I'm wondering if you could just give me some comments and insights and tell me and other shareholders why to hang in there and there's good things around the corner.
Christopher P. Vincze
Very good question, Larry. And certainly, things we discuss frequently at many different levels of the company. And it goes a little bit to the context of what we started here 8, 9 years ago as part of a complete restructuring and transformation of the company, which clearly has dramatically changed its strategy, its execution, its whole platform and its market approach, and it took quite a bit of time and effort to do that in the last few years as we launched our profitable growth strategy. We're really looking to leverage the markets that we're now in, and as the economy continues to improve that becomes a more capable scenario and it is a long-term play. We are in great markets that are heading into better areas of opportunity and as a company, hopefully we've showed through our operational performance that we continue to get better and we're not where we still want to be, we still have aspirations and Tom's been stating from many calls, as I have, that our desire points are to get to that 10% operating margin sooner than later over the next 2 or 3 years. So with those continued performance issues of improvement, the continued growth of our company, we certainly believe that the market will respond towards that kind of behavior, especially as our business grows in both size, materiality, from a bottom line perspective, levels of attention are going to be that much greater on our issues. And certainly, as we have additional opportunity to do things dramatically, I think all those things will participate into a more visible stock and one that has an opportunity for a better level of appreciation than how we've been currently viewed. So it is a patient stock, I think it's a patient market as it relates to us, but we're doing everything we can to build that credibility of the business and get to a point where we become more relevant where that more premium review of us will happen. And we're convinced it's not that far away.
Is there anything that you can do in terms of getting in front of more folks on Wall Street or have you discussed that? Are they interested? Is the flow too narrow for people to be interested in the company? Give me some insight on that.
Christopher P. Vincze
I think all of those issues are factors and at the end of the day, it's the company's ability to execute and perform. And those are the issues that are going to drive the view of us and again, materiality matters. So again, as we continue to grow this company to a level that is capable of really putting off greater earnings, I think are all going to contribute to more attention and more participation from institutional shareholders. We've already seen some level of increased growth from shareholder base. So again, I think it's all working. It's just a patient set of circumstances. The good news is, on a year-over-year basis, we're making some significant improvements to the business, which is only going to help us in the long run.
[Operator Instructions] At this time, we've reached the end of our Q&A session. I will now turn the conference back over to Mr. Chris Vincze for any closing or additional remarks.
Christopher P. Vincze
Thank you, Kevin and thank you, everybody for participating, especially in a -- again, as I understand, 100 million people have been impacted by the storm. Certainly those of us in New England, probably most of us. So I want to thank everyone for participating, certainly my colleagues, that are going to continue to be very productive today even though we have storms and our ongoing efforts have yielded us some pretty good results for the first 6 months of our year. And I hope everyone has a safe rest of winter and look forward to our next call in hopefully a sunnier and a better voice to boot setting. So again, thanks, everybody.
Thank you. This does conclude today's teleconference. You may disconnect your lines at this time, and have a wonderful day. We thank you for your participation today.
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