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Airgas (NYSE:ARG)

Q3 2012 Earnings Call

January 26, 2012 10:00 am ET

Executives

Peter McCausland - Chairman, Chief Executive Officer, President, Founder and Member of Executive Committee

Barry Strzelec -

Robert M. McLaughlin - Chief Financial Officer and Senior Vice President

Analysts

David L. Begleiter - Deutsche Bank AG, Research Division

Robert Koort - Goldman Sachs Group Inc., Research Division

Laurence Alexander - Jefferies & Company, Inc., Research Division

John E. Roberts

Michael J. Sison - KeyBanc Capital Markets Inc., Research Division

Ryan Merkel - William Blair & Company L.L.C., Research Division

Edward H. Yang - Oppenheimer & Co. Inc., Research Division

Michael J. Harrison - First Analysis Securities Corporation, Research Division

David J. Manthey - Robert W. Baird & Co. Incorporated, Research Division

Kevin W. McCarthy - BofA Merrill Lynch, Research Division

Operator

Good morning, and welcome to the Airgas Third Quarter 2012 Earnings Conference Call. Today's call is being recorded at the request of Airgas. [Operator Instructions] For opening remarks and introductions, I will now turn the call over to the Director of Investor Relations, Barry Strzelec. Please go ahead, sir.

Barry Strzelec

Good morning, and thank you for attending our third quarter earnings teleconference. Joining me today are Peter McCausland, Chairman and CEO; and Bob McLaughlin, Senior Vice President and CFO. Our earnings press release was made public this morning and is available on our website as are the teleconference slides. To follow along, please go to airgas.com, click on the Investors shortcut at the top of the screen, and go to the Earnings Calls and Events page.

During the course of our presentation, we will make reference to certain non-GAAP financial measures, and unless specified otherwise, metrics referred to in today's discussion will be adjusted for the unusual items identified in our earnings materials. Reconciliations to the most comparable GAAP measures can be found in our earnings release, in the slide presentation and on our website. This teleconference will contain forward-looking statements based on current expectations regarding important risk factors, which are identified in the earnings release and in our slide presentation. Actual results may differ materially from these statements, so we ask that you please note our Safe Harbor language. We'll take questions after concluding our prepared remarks as time permits. We plan to end the teleconference by 11 a.m. Eastern Time. Now I'll turn the call over to Peter to begin our review.

Peter McCausland

Thanks, Barry. Good morning, and thank you all for joining us. Please turn to Slide 2 to begin our discussion. We have once again delivered a strong quarter, adjusted earnings per share were $0.97, a 21% increase over last year on sales growth of 12%. But at volumes that are still below prerecession levels. We continue to see evidence of steady economic growth in U.S. manufacturing, as well as in our Petrochemical and Energy customers. Strong growth in welding and automation equipment revenue is outpacing the remainder of our hardgoods portfolio, which is an encouraging indicator of future demand.

Third quarter sales were $1.15 billion, marked by a strong same-store sales increase of 9%. Gas and rent same-store sales increased 7% and hardgoods increased 14%. Acquisitions contributed sales growth of 3%. During the quarter, we initiated a successful pricing action on both hardgoods and gas and rent. Gross margin improved by 140 basis points sequentially from the second quarter to 54.9% in the third, reflecting the benefit from the price increases and a favorable sales mix within gas to rent -- and rent. The third quarter marked our heaviest quarter of SAP implementation costs to date.

Because we conferred -- converted 2 business units in the quarter, only 30 days apart, adjusting -- and as a result adjusted operating margin of 11.7% included a 110 basis points of SAP implementation and depreciation expense, making for a difficult comps in the prior year's 12.2%, adjusted operating margin. And that included only 30 basis points of impact related to SAP. Even with the burden of SAP implementation costs, our business continues to demonstrate its strength during a period of modest economic growth. Our return on capital increased to 100 basis over last year to 12.3% as we continue to leverage our national footprint and our industry-leading platform on rising sales volume.

Since the beginning of our fiscal year in April, we've acquired 6 businesses with approximately $75 million in aggregate annual revenues. Our acquisition pipeline is far more active than it was last year and our appetite for acquisitions remain strong. We expect opportunities to continue to consolidate the fragmented U.S. package gas industry and those opportunities should increase noticeably in the next 12 to 18 months.

On the strength of our third quarter results and outlook for sustained volumes in the coming quarters, we have updated our earnings guidance for fiscal '12 to a range of $4.03 to $4.07 per share, representing 21% to 22% growth over fiscal 2011. Sales trends through the holiday period were as expected, and January sales trends suggest a continuation of a modest, steady growth environment.

Please turn to Slide 3 to review some of our key initiatives. Our sales and marketing strategy focused on segment alignment continues to gain momentum. In the third quarter, Strategic Accounts business was up 11% from the prior year, driven by new account signings across all customer segments and by increased activity in our existing metal fabrication, technology and services, and oil, gas and chemicals customer basis. New and existing Strategic Accounts customers drove particularly strong results in safety products and filler metals this quarter. Strategic Accounts present us with tremendous cross-sell opportunities, both in terms of product lines and locations, and represent more than 20% of our sales. I encourage you to review our strategic products slide in the appendix in detail after our call.

In the third quarter, strategic products which combined make up over 40% of our revenue increased 9% over the prior year. Safety products delivered the highest growth at 18% driven by business with new and existing large customers. Our Radnor private label products were up 16% for the quarter, long-term growth opportunity for the Radnor brand remain strong. And in addition to building brand loyalty within our customer base, gross margins on Radnor products were 1.5x greater than those comparable OEM products.

We would now like to provide an update on the status of our SAP conversion. Please turn to Slide 4. We are progressing very well through our planned phase rollout. Whereby our business units implement the new SAP system in succession. We now have more than 1/3 of our business and 3800 active users running smoothly on SAP. In the initial stages of the rollout implementation risk was a key focus area for us. Today we remain committed to minimizing implementation risk and converting the remaining business units, but much risk has been abated and we are beginning to focus more on attaining benefits.

Our hardgoods infrastructure business including Airgas safety and our national buying centers and our distribution centers have been running successfully on SAP since going live in July 2010. Our first regional company, Airgas South, successfully went live on SAP at the beginning of April 2011, followed by Airgas Great Lakes at the beginning of September. During the third quarter, we implemented SAP at our Midsouth and West regional companies, bringing the number of converted regional companies to 4, all of which have been running smoothly. The third quarter marked the first in which we implemented SAP at 2 regional distribution companies in successive months. Both were successful but they required significant resources.

After due consideration, we've decided to slightly extend our implementation time -- timeline, which will allow our implementation team the time to focus greater attention on pre-conversion date of preparation and post conversion support for each of the regional companies. It will also allow us to dedicate additional resources to the attainment of benefits, and also enable us to more effectively implement our normal pricing actions in the future. All of these factors will better position us to maximize value through this initiative in the near and long-term.

Under an extended timeline, we will still expect to have 11 of our 12 regional distribution companies converted to SAP by the end of calendar 2012 with the remaining region converted in the first quarter of 2013. We have previously targeted to have all 12 converted by the end of September 2012. We expect incremental implementation costs to be more than offset by accelerated benefits. And we expect the extended timeline to have no material effect on the net EPS impact of implementation costs, benefits and depreciation as we have laid them out for each of the fiscal years 2014 -- 2013, '14 and '15. The next regional company will convert to SAP, 5 weeks from now.

Importantly, our 4 Business Support Centers into which the remaining regional company administrative functions will be consolidated upon converting to SAP are firmly in place, which should allow future conversions to go even smoother.

We are actively building our telesales platform, whereby we can more effectively market industrial gases and welding hardgoods to customers who needs -- whose needs don't require an in-person sales representative. In addition, we are building our strategic pricing organization led by Jay Worley and the newly created role of Vice President Strategic Pricing responsible for developing and implementing pricing practices that are consistent with our overall strategic direction and profitability goals.

Based on our experience today, we are confident that by the end of calendar 2013, the benefits we detail will be achieved and will constitute a minimum of $75 million in annual run rate operating income, with the likelihood that these benefits will ultimately reach or exceed $125 million. The areas of benefits we have announced do not represent the full earnings power of our SAP conversion, however, and we expect additional economic benefits after the implementation is completed and we tap into the potential of the new system.

Our strategy has been to position Airgas to emerge as an even stronger company in the economic recovery. And today, we are realizing the success of that strategy. We are delivering strong growth in operating income and earnings with attractive expansion and return on capital, while volumes are still below prerecession levels despite the heavy distraction of our SAP implementation, the reorganization of our administrative infrastructure and various product supply disruptions that have taken place over the last year.

Our industry is still very fragmented and we have built the only true national platform in the business for the broadest available product and service offering. The benefits of our customer centric culture and our new sales alignment are just starting to develop and will yield even greater value for the customers, or the 1 million strong to make Airgas their supplier of choice. The combination of favorable business trends, shop -- sharp operating focus and SAP benefits offers Airgas shareholders very attractive future prospects. As I love to remind people, the best time in Airgas is now.

Bob will now give you our financial review for the quarter and provide an update for guidance next year.

Robert M. McLaughlin

Thank you, Peter, and good morning, everyone. I'd like to start by reviewing our consolidated results. Please turn to Slide 5. Sales increased to $1.15 billion, reflecting acquisitions growth of 3% and total same-store sales growth of 9%, comprised of 7% increase in gas and rent and a 14% increase in hardgoods. Total volume was up 4% and price was up 5%. Sequentially, total sales declined 3% from our second quarter on 2 fewer selling days and the impact of the holidays. On a daily basis, sales were comparable to the second quarter. Gas and rent represented approximately 63% of our sales mix in the quarter, down from last year's gas and rent mix of 64% and slightly below the second quarter.

Gross margin for the quarter was 54.9%, a decline of 80 basis points from the prior year, reflecting continued out-performance of hardgoods sales, a mixed shift within hardgoods to lower margin welding and automation equipment and sales to large customers that generally carry lower margins and a lower net cost to serve. And they have been the clear leaders in the early stages of the recovery. On a sequential basis, gross margin improved by 140 basis points, reflecting a favorable sales mix within gas and rent -- towards rent on the strength of sales in our Red-D-Arc rental welder business and the favor impact -- the favorable impact of the December 1 gas and rent price increase.

Adjusted operating income for the quarter was $135 million, which was up 7% from last year and which included $9 million of incremental SAP costs and depreciation expense. Not included in adjusted operating income, which are outlined in the EPS reconciliation on this slide, were pretax charges of approximately $3 million related to the withdraw from the last of our multi-employer pension plans and approximately $2 million related to the previously announced business support center restructuring charges, as well as nearly a $1 million benefit from lower than previously estimated net cost related to the air products unsolicited takeover attempt in fiscal 2011. Our underlying operating performance was strong, particularly in light of the year-over-year headwinds from incremental SAP costs and depreciation expense.

Adjusted operating margins of 11.7% for the quarter included 110 basis points of impact from SAP implementation costs and depreciation expense. The prior year's adjusted operating margin of 12.2% included only 30 basis points of SAP related costs. Excluding incremental SAP costs, adjusted operating margin expanded by 30 basis points year-over-year driven by operating leverage on strong organic sales growth. Including a net $0.04 of special charges, adjusted earnings per diluted share were $0.97, an increase of 21% from $0.80 in the prior year. The adjusted EPS of $0.97 includes a year-over-year increase of $0.08 and SAP implementation costs and depreciation expense, which were substantially offset by the accretion from our share repurchase programs.

There were approximately $77.7 million weighted average diluted shares outstanding for the quarter, down 10% year-over-year driven by share repurchase programs that were completed in the first quarter of this year and the fourth quarter of last year. Return on capital, which is a trailing 4 quarters calculation, was 12.3%, an improvement of 100 basis points over last year on the strength of our improving operating income. Year-to-date adjusted cash from operations was $417 million, and free cash flow was $175 million. The decrease in free cash flow from the prior year's $255 million reflects an increase in capital expenditures and working capital to support strong sales growth, as well as some major capital projects which I will comment on later. Free cash flow for the current and prior year quarters was $69 million and $67 million, respectively.

In September, we received A2 and P2 ratings for our new commercial paper program and begin to utilize this program to reduce borrowings under our revolving line of credit during the third quarter. Amounts outstanding under our commercial paper program are classified as short-term debt on our balance sheet and are included in all of our debt related metrics. Total debt increased approximately $551 million year-over-year to $2.2 billion at December 31, reflecting $600 million spent on share repurchase programs and $97 million spent on acquisitions, partially offset by debt pay down of $146 million. Our fixed float debt ratio at the end of December was approximately 52% fixed and our debt to EBITDA ratio was 2.6, comfortably within our target range of 2% to 3%.

In December, we extended the maturity of our AR securitization program from March 2013 to December 2013 and reduced our borrowing rates slightly. We are well-positioned to continue to effectively manage our balance sheet leverage within our target range while capitalizing on an improving acquisition environment and investing in growth CapEx.

Turning now to Slide 6. We'll look at our segment results. SAP implementation costs, which are included in our consolidated operating results, have not been allocated to our business segments nor have the special items that have been excluded from consolidated adjusted operating results.

Distribution sales in the quarter were up 11% versus prior year to $1.04 billion. Same-store sales for distribution segment were up 10%. Gas and rent same-store sales were up 7%, and hardgoods were up 14%, with pricing and volume each up 5%. Distribution gross margin was 55.1%, a decrease of 100 basis points from the prior year, primarily driven by the sales mix shift to hardgoods and within hardgoods to lower margin welding and automation equipment, as well as sales to larger customers who have led to recovery.

Sequentially, distribution gross margin increased by 110 basis points from the second quarter as acceleration in sales of lower margin welding and automation equipment was more than offset by the impact of our pricing actions and a sales mix shift to gas and rent in the third quarter.

Gas and rent represented 58.7% of distribution sales in the third quarter, down from 60.2% in the prior year, and up from 58.1% in the second quarter. Operating income in the distribution segment, which does not included an allocation of SAP implementation costs, increased 14% year-over-year to $132 million and operating margin improved 30 basis points to 12.7% driven by operating leverage on strong organic sales growth. All other operations reflects our CO2, Dry Ice, Refrigerants, Ammonia and Nitrous Oxide business units. Sales for all other operations were up 15% from the prior year with same-store sales up 6%. The same-store sales increase was largely driven by a significant increase in Ammonia sales on both a volume and price basis.

Sequentially, daily sales at all other operations segment declined by 14% driven by the effect of seasonality in our Refrigerants, CO2, and Dry Ice businesses, from our second to our third quarter. Gross margins for all other operations was 48.9%, an increase of 100 basis points from the prior year, primarily driven by a mixed shift away from lower margin Refrigerants and production efficiencies gained in our CO2 business.

Sequentially, the 310 basis points increase in gross margins from the second quarter was driven -- was primarily driven by a continued mixed shift away from lower margin Refrigerants and margin improvements in our CO2 and Ammonia businesses. Operating income for our other operations was $13 million and operating margin of 10.8% was down slightly by 50 basis points year-over-year. Sequentially, the 240 basis point decline in operating margin is primarily attributable to the effect of seasonality in the Refrigerants, CO2 and Dry Ice businesses.

Please turn to Slide 7, capital expenditures. Year-to-date, our CapEx as a percent of sales was 7.5% through the third quarter. Construction in process was the asset category with the highest year-over-year growth in spending driven by the construction of our new ASU in Clarksville, Tennessee, an expansion of our hardgoods distribution center in Duluth, Georgia, the build-out of our Business Support Centers and projects to expand or consolidate plans and branches across the country as we continue to focus on improving the efficiency of our operations. The cylinders in both tanks category were also a contributor to the year-over-year increase as improved gas and rent same-store sales, reflect improvements in the demand for our core revenue generating assets. Gretel welders increased by $11 million due to the improvement in our Red-D-Arc rental welder business and excluding major business, CapEx as a percent of sales was approximately 5%.

Slide 8 presents our fiscal 2012 and fourth quarter full-year guidance. For the fourth quarter, we expect same-store sales growth in the high single digits, with adjusted earnings per share in the range of $1.04 dollars to $1.08 dollars, an increase of 18% to 22% over the prior year, which includes $0.08 of SAP implementation costs and depreciation expense, $0.04 of which is incremental over the prior year.

For the full year, we are updating our adjusted earnings expectation to be in the range of $4.03 to $4.07 per diluted share, up 21% to 22% over fiscal '11, and includes $0.33 of SAP implementation costs and depreciation expense, 19 of which are incremental over the last year. The previously announced range was $3.97 to $4.07. We expect same-store sales growth to land in the high single digits for the full fiscal year and adjusted operating margin to be in the 12% to 12.3% range, including the diluted impact of the increased SAP costs.

CapEx is expected to be a rate B around 7.5% of sales for the year. Our fiscal 2012 adjusted EPS guidance assumes continued modest economic expansion and the guidance excludes the impact of restructuring charges. It also excludes the impact of the asset -- of asset impairment charges, the net impact related to the 2011 unsolicited takeover attempt and any multi-employer pension plan withdrawal charges.

Slide 9 presents a walk through the primary elements of our fourth quarter guidance, using third quarter adjusted EPS of $0.97 as the starting point. In the fourth quarter, the addition of 2 selling days and the follow-up of the third quarter holiday impact should provide $0.05 to $0.06 of benefit to EPS. The seasonal nature of our CO2, Dry Ice, Refrigerants and Red-D-Arc businesses will continue to be a modest headwind. SAP implementation costs and depreciation expense are expected to be a slight tailwind compared to the third quarter as we'll be converting only 1 regional distribution company to SAP during the fourth quarter. We expect the core business to expand sequentially, contributing $0.02 to $0.04 on continued modest improvement in the manufacturing economy and pricing gains.

And now, I'll turn it back to Barry to begin our question-and-answer session.

Barry Strzelec

Thanks, Bob. That concludes our prepared remarks. As we begin the Q&A portion of our call, please limit yourself to 2 questions and 1 follow up, and then get back in the queue if you have further inquiries. The operator will now give instructions for asking questions.

Question-and-Answer Session

Operator

[Operator Instructions] Let's take our first question from Ryan Merkel with William Blair.

Ryan Merkel - William Blair & Company L.L.C., Research Division

My first question is on pricing. It looks like we were able to get traction on price increase at this quarter. But I'm wondering if the December price increase had a meaningful impact this quarter? Or are most of the benefits yet to come?

Peter McCausland

Well, we only have 1 month of price increase just for gases, in this quarter. And so we expect that the next quarter will have significantly better impact.

Ryan Merkel - William Blair & Company L.L.C., Research Division

Okay. And then secondly on Strategic Accounts growth, again, was strong quarter. Can this continue at a low double-digit rate? And then how does the outlook look for new customer signings?

Peter McCausland

I just attended the Strategic Accounts meeting that was held 2 days -- for 2 days here in Radnor, where all our segment leaders presented and we're very optimistic. I think that there's a lot of traction. The pipelines in each of these customer segments are full. We think that a lot of large customers are recognizing our value proposition, our platform in the broadest product and service offering in the industry. And not only our products and services but all the supply chain savings that we offer to these customers. So we're very optimistic about the outlook for strategic accounts in general and the outlook for our organization in terms of being much more efficient, reduce cycle time because of the reorganization along customer segment.

Operator

We'll go next to Bob Koort with Goldman Sachs.

Robert Koort - Goldman Sachs Group Inc., Research Division

Peter, just curious if you have any sense or view on why -- your one rival that we can see their numbers, perhaps they seem to -- over the last 4, 5 years you guys have grown at pretty much the same rate and same-store sales. The last couple quarters they've seem to stretched out in front of you. Is this -- do you think due to regional disparities? Is there -- are they taking share? Do you have any concerns there?

Peter McCausland

Well, just the latter first. I have no concerns regarding share. I don't think that's the case at all. And I think for years, we outgrew them in same-store sales and recently it's flipped here. And I will say that -- and I can't speak for them and I don't think they breakdown between Canada and the U.S. but they've got about, I think it's about 35% of PDI is in Canada. And there were some mention on the call about some BP, hydrogen thing or something like that, that could have impacted it. But the industry's doing well and I don't begrudge them their good numbers. But I think a lot of those numbers come from Canada and I'm not familiar with the timing of their pricing actions and how much of those sales resulted from pricing actions, I don't really know. So I was a little surprised by the size of their same-store sales number -- numbers. One other thing I might comment on, they said that sales of equipment -- welding equipment were very, very strong, which I'm glad to hear. That's a good sign for the industry, in general. We are experiencing the same sort of thing. But I was surprised that the -- at the size of the number and I can only speculate that pricing in Canada and perhaps other factors make up for the difference between their numbers and ours.

Robert Koort - Goldman Sachs Group Inc., Research Division

Okay, thanks. And then on the SAP. I know you explained, I guess I didn't quite fully get why you're extending the rollout or why it seemed delayed when it seems like to date you guys have spoken very optimistically and enthusiastically about how that transition has been going. So is there something that came up recently that made you change the strategy there?

Peter McCausland

No, not at all. We just went through 2 conversions of 2 very large regional companies, at less than 30 days apart. And I think it was 3.5 weeks or something. And it's very, very taxing on our SAP teams, on our entire organization. It interferes with the normal programs that we try to implement and we just thought that it would make a lot of sense to spread it out. We're only pushing back total schedule on the regional companies by 6 months maximum, and it will take some strain off our people who've been working very, very hard. I -- it's amazing how well it's gone. I can't stress -- I've been the most -- the greatest skeptic on the SAP budget and scheduling and beating up our people all the time about it. And it's just going very, very well. Our people have done a really great job and they're always telling us how remarkable our SAP implementation is going and they're the best in the business. So, Bob, I think that it's going to make for a less stressful environment and smoother business operations and we don't see it as a material change.

Operator

We'll go next to Kevin McCarthy with Bank of America Merrill Lynch.

Kevin W. McCarthy - BofA Merrill Lynch, Research Division

Peter, you mentioned in your prepared remarks that your acquisition pipeline was far more active than at this point last year. So I wonder if you could elaborate on that and indicate what we might expect in terms of deal activity relative to the 3% contribution you had from acquisitions in the quarter? And also what you might be seeing in terms of multiples in the private market these days?

Peter McCausland

Right. Well, we have a -- we put out a $150 million number every year that sales acquired by the end of the fiscal year. It's going to be hard for us to hit that number this year, we're at $75 million. I think we have a pretty good chance to getting close to it but, you never know. But it’s my best guess right now is that it would be below that number, I wouldn't -- I don't know, I guess somewhere between $100 million and $140 million, or something like that is my best guess. That number, though, is just a plugged number. Acquisitions are -- a lot of small companies are still holding off and waiting to sell off higher numbers. We're still 5% below peak volumes in gases and rent and we have a higher proportion of large customers than the typical independent distributor. And this has been a large customer recovery. So most of the ones we're seeing are more than 5% below peak sales volume, that is in both gas and rent, and gas and hardgoods. So I think there's a lot of pent-up demand, I think we're going to have a surge in acquisitions sometime in the next 24 or 30 months. But I can't guarantee it. Pricing has been pretty good. There has been some -- I can't comment on any specific deals because we're parties to confidentiality agreements, but I would say that the general feeling is pricing has moved up in the last year, probably by 1 turn of EBITDA. And -- but then again, it depends -- that I'm talking about for the larger ones. They say pricing does tend to move up at this point early in the recoveries because people are anticipating better sales.

Kevin W. McCarthy - BofA Merrill Lynch, Research Division

I understood, that's helpful. The second question, I think you indicated, reminded us that your volumes are still below prerecession levels. If I look at Slide 7 outlining your capital expenditures, in the category for cylinders and bulk tanks is up, looks like $26 million or 43% for the first 9 months of the fiscal year. Can you comment on that apparent disconnect, is there a fair amount of inflation going on in the capital costs? Or is it the case that you're investing for future growth?

Peter McCausland

I think it's more of the latter and also there are dislocations. When you get growth in one area that requires certain assets, let's say, like micro bulk and large bulk and in other areas, you still have unused capacity. And we do have a fair amount of unused capacity in some asset categories in our system. So this tends to work out over time. And then there was a couple of things like we had a huge acetylene shortage this year. We had to buy a bunch of propylene tanks, which is a substitute fuel gas and it's going to take a while for us to get all those cylinders utilized and get the acetylene cylinders that came out of the system back into the system as we recover those sales. So there's been some good dislocations, natural ones and some unnatural ones, and I think that's the biggest factor. There's been some inflation in tankage with steel prices but that's kind of leveled off. And we have a lot of different businesses, which use different asset classes and some are growing a lot faster and that also accounts for this.

Operator

We'll go next to David Manthey with Robert W Baird.

David J. Manthey - Robert W. Baird & Co. Incorporated, Research Division

This first question might be for Bob in terms of the mechanics of how you work things. When you look at the all other operations segments, are there any hardgoods that are in that segment? Or when you roll up to the total sales, does that just mix in with the gas and rent from the distribution segment?

Robert M. McLaughlin

Well, it's a very limited amount of hardgoods sales flow through other operations. And yes, the gas and rent would roll up to consolidated gas and rent.

David J. Manthey - Robert W. Baird & Co. Incorporated, Research Division

Okay, so the vast majority of that?

Robert M. McLaughlin

Yes.

David J. Manthey - Robert W. Baird & Co. Incorporated, Research Division

Okay. And then second any material top line or EPS impact from the helium shortages we've heard about lately?

Peter McCausland

No. It's been kind of neutral. This is Peter, for this quarter, but the next quarter, we might see some impact. We've raised prices aggressively because helium is very, very short and we might be able to make up next quarter with the price increases. But we're not exactly sure where the volumes are going to come out. And so there's a little bit of unknown there but it worked out in this quarter and we're endeavoring to make it work out next quarter. But then we can't guarantee that there won't be some impact.

David J. Manthey - Robert W. Baird & Co. Incorporated, Research Division

Okay, thanks. And Peter, just not one last question. In terms of the areas of strength you sort of cited those in the preamble in the release. But are you seeing any areas that are less strong today? And maybe some that might be starting to accelerate? Usually you have a pretty good view of the overall economy. I'm just wondering if you have any end markets that are of note right now?

Peter McCausland

No, it's the ones we've stated in our script that our strong. I would say that some of the accounts -- the one point I would make -- it's some of its countercyclical and noncyclical segments like food and beverage and healthcare and research and development. They seem to be coming back. They -- this time they were impacted by the recession. They never were impacted by the recessions before and we're seeing net come back following manufacturing and energy and materials, the things that we point -- that have really driven that so far. But it's slow and steady and -- but it's nice to see these areas recover. The food industry is one that's been hit pretty hard, and our Dry Ice and CO2 sales weren't stellar this quarter, partly because of what's going on in the food industry and probably partly because of some execution issues on our part. But we hope that, that -- with the recovery of the food business and attention to some of our shortcomings that, that's going to be improving in the months ahead. But it's a nice recovery, it's just slow.

Operator

We'll go next to Mike Sison with KeyBanc.

Michael J. Sison - KeyBanc Capital Markets Inc., Research Division

Peter, given that hardgoods continues to perform at pretty strong levels here. Would you characterize us being in still the early parts of our recovery for your business?

Peter McCausland

Well, recently I said we were in the third inning of a strong and steady recovery. We'll probably in the dugout waiting to go out on the field, on the top of the fourth right now. That's the way it looks, both geographically, in terms of strength in the manufacturing in Fred Campbell and product wise in terms of the hardgoods leading with automation, cutting and welding equipment, are very, very strong. And so we're still early. It feels early to us. Now, pricing has been pretty good and we expect the successful price increase when all the returns are in and that takes like 4 to 6 months before -- because you have contracts and things like that to expire, firm price periods and things like that, that have to expire. That looks like the middle innings from a pricing perspective. But -- yes, I don't think -- it's a very slow recovery but very steady and pretty broad-based centered on manufacturing energy and materials account.

Michael J. Sison - KeyBanc Capital Markets Inc., Research Division

Okay. And then just one quick follow-up. In terms of the SAP implementation, it certainly doesn't look like it but does -- has it impacted your same-store sales at all? Meaning, as you implement, has it taken away a little bit of your ability to grow?

Peter McCausland

Well, there's no way that I can really answer that question. And SAP conversion is a massive undertaking and a huge amount of business process standardization, change management that goes along with it. And I can tell you that our people have been working very, very hard. I mean, they're so excited and enthused about the power of SAP and what it's going to do for our business, but it's been a lot of work. And if I had to guess, there has to be some distraction from SAP. It has to be impacting our same-store sales to some degree. But I don't think it's significant. And we see people -- we see financial statements from independent distributors and we know how we're doing against Praxair or MATHESON in particular markets and there's nothing to indicate to us that we're not growing. At least it's fast and probably faster than most of our competitors, so, is the way we look at it. But could we grow even faster if we didn't have SAP? Maybe.

Operator

We'll go next to Mike Harrison with First Analysis.

Michael J. Harrison - First Analysis Securities Corporation, Research Division

I was hoping we could look a little bit at the cost side of your business right now. There was a quarter-on-quarter uptick in SG&A cost. I know some of that was a sequentially higher SAP implementation costs. But can you talk a little bit about what you're seeing in terms of distribution and labor costs in the quarter? And maybe how those are trending for next quarter?

Peter McCausland

Well, I don't think under the covers, Mike, there was anything significant. We did have some uptick in the repair and maintenance and on the fuel side. When you cut out SAP impact, we actually had an improvement on the distribution side of almost 100 basis points of OpEx expense as a percent of sales and an 80 basis points when you take the same metric to gross margins. So I didn't think there's anything really significantly unusual, or needle mover if you will, from the expense standpoint.

Michael J. Harrison - First Analysis Securities Corporation, Research Division

Okay. And I was hoping also to get some more detail on the margin benefits from the CO2 plant efficiencies that you referred to? And should we see -- expect to see additional improvement in margin from CO2 as we get out of kind of a seasonally weaker time and see additional sales, maybe get leveraged over that?

Peter McCausland

Well, as we said, we still -- the fourth quarter is the toughest quarter for those businesses from a seasonality standpoint. So we're not expecting any movement. We did make grounds as we talked about length in the second quarter in Ammonia front, we did make some grounds relative to improving our margins in Ammonia and we're still chasing rising costs on that side of the business. So I think our expectation is that we are going to have, continue to have some modest margin improvement within that segment. But again, nothing that would be a needle mover.

Michael J. Harrison - First Analysis Securities Corporation, Research Division

All right. And then Peter, we've seen PDI do a couple of acquisitions in the Houston area. I think of that as historically you have been at a pretty fragmented market. Can you discuss whether that consolidation is beneficial for you? Or whether you see PDI as maybe threatening you in a geography that should be growing pretty well right now?

Peter McCausland

Yes, well, I don't see it as a threat. I think we compete well against them, and they seem to be a fairly responsible competitor, I mean they fight hard but they are also pretty disciplined in terms of price and stuff like that. They're not like some of the Wild West guys that you have in that market. But that was a Praxair distributor that they bought the big ones. And a good house, no question about it. But fairly high hardgoods company. And we're doing very well in Houston. We have a very, very strong base there and in the last few years, we built out a lot of our gas capabilities. We have a very strong thrust into the whole Petrochemical sector and the construction work that's taking place in that sector as well, including the broad spectrum of bulk, micro-bulk, specialty gases, hydrocarbons. And so we're excited about our prospects in that part of the world. And of course, the low-cost shell gas is really driving a lot of expansion in that area and other areas of the country. But, so I don't think it's -- I think it's probably neutral to our overall growth stance in Houston and acquisition.

Operator

We'll go next to David Begleiter with Deutsche Bank.

David L. Begleiter - Deutsche Bank AG, Research Division

Peter, just on your own purchase gas costs. Are you yet seeing some selling price increases? And is the December 1 price increase, is that sufficient to cover those increases? Or do you need additional pricing down the road to offset those?

Peter McCausland

Most of our gas costs are fixed in contracts with indexing and so we haven't seen material price increases. There's been some but not really material. We've had to pay higher prices to source some gases that are short right now like helium. And that's had an impact but I wouldn't say that the -- so we've had some price increases but I wouldn't say they are astronomical and we're confident that the price increase will be much higher than they -- our gas cost increase. And because we have to cover other increases in labor and distribution and things like that. So we need 2.5%, 3%, maybe around 3% a year of price increases just to keep up with our costs. And so our pricing action was designed to cover both gas cost increases but all the other cost increases as well and to expand our margin on higher sales.

David L. Begleiter - Deutsche Bank AG, Research Division

That's helpful. And just one more thing, Peter. You mentioned you're lines are down 5% versus peak. Can you just break down which end markets are still way below peak? I assume from construction, which are actually above I assume maybe some manufacturing. Any more granularity on what's above or what's below those peak metrics?

Peter McCausland

Construction market is way down and we're very excited about the construction market because we're up -- we were up 4% in the third quarter and we've had -- we've been up now for several quarters in construction in a market that is down. And what's down is the infrastructure work, new projects. And what we're doing is building out our organization, penetrating the top 400 contractors in the country and working really hard to establish relationships because we think when construction does come back and it almost has to because the country's infrastructure is aging and outdated. We're going to be in really good shape in the construction. So I'd say that was the worst market. I'd say food and beverage is down, research is down. But as I said, both of them have shown nice signs of life in the last quarter or so and they're coming back. But the biggest one would be construction. I guess, if we were back to where we were in construction, we'd probably be slightly above peak volumes.

Operator

We'll go next to Laurence Alexander with Jefferies.

Laurence Alexander - Jefferies & Company, Inc., Research Division

Just wanted to -- you elaborate a little bit on that, if you take 2 to 3-year view and you reserve -- you measure from different end markets which ones do you think will -- would accelerate the most? How would you size your construction footprints against those other end markets? You've spoken for a while about, sort of manufacturing renaissance in North America, but lately I think you were getting more focused on the positive tailwind that you might see from energy infrastructure built in the Southeast? Can you elaborate a bit on that?

Peter McCausland

Well, looking 3 years out, we think the manufacturing renaissance, and it is going to continue to gain strength, it's subject to the worldwide economy and whatnot. And we see a secular trend in bringing back manufacturing to the U.S. and there's a lot of new plant construction. We also see a lot of strength in energy and this horizontal drilling in shale areas for oil and gas is very strong. We're enjoying some good business there. And the ENP is ahead of the infrastructure. So that's got to happen. And then the construction -- and then the Petrochemical market, looking out 3 years is going to be very strong because of these low-cost feed stocks. And then construction, and the country's going to do something about its outdated and aging infrastructure including -- and it has to build up the energy infrastructure in order to accommodate the shale gas and oil. So it could be a perfect storm. I mean, the U.S. -- we're glad that our business is all in the U.S. these days. It looks like the forecast in the U.S. is good as anywhere, if not better. And so that's what we're seeing, we're seeing the beginnings of -- or the continued strength in all of those, and then we hope that construction is going to pick up and be additive.

Laurence Alexander - Jefferies & Company, Inc., Research Division

And then certainly, can you give an update on your view on the -- your medium-term potential for the Urea distribution business? Do you still look to be about $50 million business or is it doing better than that?

Peter McCausland

We're on track for it to be there. It's sales have accelerated and they're still not that meaningful in the -- overall. But we're pretty excited about it and it's going well. It's still a very small business but it's on track and it's meeting our expectations.

Operator

We'll take our next question from Edward Yang with Oppenheimer.

Edward H. Yang - Oppenheimer & Co. Inc., Research Division

On your SAP implementation costs during the quarter, $0.10, was a couple of cents above your $0.08 guidance. So what was going on there? And what kind of costs actually go into that? Are these mostly consultant fees? Could you just remind us what gets aggregated there?

Peter McCausland

Well, we did 2, 30 days apart, and so we had more consulting fees because we had 2 different Deloitte teams. We had a lot of expense -- travel expense for sending our people, we have the buddy system. We send hundreds of people to these companies to be in the branches in the admin centers. And then we had a lot of training costs, and then we had a lot of post conversion support costs. So it was a lot of different things and one reason it was so high is because the spacing between the 2 conversions was only 30 days. So the -- what's that, Barry? Year-to-date we're $1.2 million ahead on total implementation costs. It's just that we had -- we were over this quarter because of the scheduling, I would say. And these first 4 companies, and I can't stress this enough, these were the most important conversions because we established the Business Support Centers at these 4 companies. And so we've -- the next conversions, we have 8 more regional companies, they will be converted into these companies. So there won't be a back office conversion for those companies. It's not to say there's not going to be a lot of work and a lot of training and support, but they're not going to be as difficult as the first 4 were because we now have these Business Support Centers in place which is the whole admin and infrastructure.

Edward H. Yang - Oppenheimer & Co. Inc., Research Division

Okay and Peter, you created a new role in terms of strategic pricing. Moved Jay over there and congratulations to Barry on his promotion as well. But what kind of led you to make that decision? Was it any changes in the marketplace that you're seeing or just another kind of step in terms of building out the Airgas Platform?

Peter McCausland

Well, the truth is that Jay was just like worn out from dealing with all the shareholders during the other thing and so we just found him a place to go.

Edward H. Yang - Oppenheimer & Co. Inc., Research Division

You don't think we are a very pleasant crowd?

Peter McCausland

I'm not talking about you. No, look, there's huge potential in pricing. We've told people before, we've done over 400 acquisitions and all those customer files just came right over as is. And we didn't really have the data mining capability nor the people to really clean customer files, mine them, categorize them, look at the slicing and dicing by type of customer, type of products and so on and so forth. And SAP gives us that power. But it's a capability that we need to execute on. And Jay is a guy who have -- came from the field, knows just about everybody in the company, very confident guy, done a great job in anything he's ever done, strong financial background, strong computer background, and we just felt like he was the guy. We had always contemplated creating this position, and I think he's going to do a fantastic job and he's going to work with our business units to develop our methodologies on pricing and then help with execution. And it's a -- there's huge potential there because of the situation we're now in and the fact that we'd never done this before. And I think Jay is the man of the hour. He'll do a great job. And we're glad to have Barry here, too.

Edward H. Yang - Oppenheimer & Co. Inc., Research Division

And just finally, do you have much housing exposure across company?

Peter McCausland

No. And if you remember when the housing boom was on and we were saying, we're glad housing is doing well but it's not helping us at all and the U.S. industrial economy wasn't doing well and we're not being hurt by the lack of housing.

Operator

And our final question comes from John Roberts with Buckingham Research.

John E. Roberts

One of the reasons potential acquisition targets have been holding off, I thought, is because they don't need cash or want cash because there's not a lot of good reinvestment opportunities right now for cash. Have you thought about giving sellers some stock to maybe incentivize some transactions?

Peter McCausland

Well, yes, and there are some deals where we've talked about stock and we can always go into the market and buy shares back to prevent shares accrued from acquisitions because these are really huge companies. And that goes into the mix sometimes. But being an old acquisition lawyer and working mostly in the middle market, I used to tell my clients don't take stock. You worked your whole life, it's now time to diversify. And so the preference of these sellers is to take cash. Now, we've given stock out a few deals over the years and we're perfectly willing to do it if it will help. We like to buy asset deals, we don't like tail liabilities. We have very, very clean balance sheet. We've worked very, very hard. Bob made the point today, we're out of our last multi-employer pension plan. So we have no unfunded pension liabilities, no material, environmental or other kind of litigation liabilities and so we work hard on that. So we usually want to buy assets and stock for assets can be complicated and sellers, most sellers don't want it. And so it doesn't happen a lot.

Operator

That concludes the question-and-answer session. I would like to turn the conference back over to Barry Strzelec for closing comments.

Barry Strzelec

Thank you Celia. Again, we thank you all for joining us today. And we will be available -- I will be available for follow up questions all day long today. Thank you.

Operator

And that concludes today's conference. We thank you for your participation.

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