Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

The Shaw Group Inc. (SGR)

Q2 2008 Earnings Call

April 9, 2008 9:30 am ET

Executives

Chris Sammons – VP IR

Jim Bernhard – Chairman, President, CEO

Brian Ferraioli – EVP, CFO

Analysts

Barry Bannister – Stifel Nicolaus

Brian Chin – Citigroup

Andrew Kaplowitz – Lehman Brothers

Joe Gibney – Capital One Southcoast

Jamie Cook – Credit Suisse

John Rogers – D.A. Davidson

David Yuschak – SMH Capital

Steven Fisher – UBS

Martin Malloy – Johnson Rice & Co.

Operator

Ladies and gentlemen thank you for standing by and welcome to The Shaw Group second quarter 2008 earnings conference call. (Operator instructions) I would now like to turn the conference over to Mr. Chris Sammons, Vice President of Investor Relations, please go ahead.

Chris Sammons

Good morning everyone, thank you for joining us on the call. First off I’d like to remind everyone we have a presentation on our website this morning, you can retrieve the presentation by going to our website, ShawGRP.com and then the investor relations page where the link is found. We’ll be referencing the slides during our presentation. Leading the call today are Jim Bernhard, Chairman, President and Chief Executive of Shaw and Brian Ferraioli, Executive Vice President and Chief Financial Officer.

Before we begin our remarks I’d like to refer everyone to slide 2 which is our statement regarding forward-looking statements and regulation G items. Please review that as you consider our presentation today. As usual, after the presentation we’ll have a question and answer period and the operator will provide you instructions. Thank you everyone, now I’ll turn the call over to Jim Bernhard and refer you to slide number 3.

Jim Bernhard

Good morning. Today let’s take a look at our revenue, it was $1.6 billion, EBITDA of $79 million, the EPS fell a little short of our expectations, predominately because the about $0.06 a share underperformance on the environmental infrastructure group and a $0.03 unanticipated tax adjustment. Brian’s going to go through that in more detail in a minute. The markets that we have are power and energy and chemicals remain very, very strong.

Operating cash flow for the quarter, $196 million, slightly above our internal expectations and continues to be robust, in fact that was a record for our quarter. And our earnings certainly will improve significantly in the third and fourth quarter. If I direct you to page 5, let’s spend a little time here on the fossil and nuclear activity that we’ve had in the quarter; we’ve certainly had as much activity this quarter as any quarter that on my recollections.

We received full notice to proceed on Entergy’s Little Gypsy facility which is basically what we’re doing at [Kleeko Alexanjia] Louisiana and also Dominion, although it’s an existing plant, we began on that project and hope to complete that in three years. We had a lot of activity on the fossil; we’re very, very pleased to have been awarded the RWE Alliance partner for the coal program. This is a very much like and is modeled after the program that we’ve successful administered with Duke Engineering. If you remember we had an Alliance agreement where we did all their scrubbers and then we go in cliff side as well.

And we’re working on the same formula, so we have; they have awarded us enough money to do the studies and the costs and everything else for the next 12 months at the three 800 megawatt power plants in Tilbury and two in Blyth. The total value of what’s executed on full notice to proceed which should have full notice to proceed by the end of calendar 09 will be $9 billion, so this is a very, very significant coal plant award, one of the largest ever awarded in the industry and like I said it’s based on the Duke model and we have begun design and studies to do both these plants. These plants are at existing sites where units will be decommissioned and new plants will be erected.

Also on the Tilbury site there is a possibility that as part of the consortium with RWE and Shell and Shell process some carbon capture technology that may be employed on this particular plant which would be also a significant part of that business as well. The coal plants that we do have remain on schedule and look good at this point and we turn to the gas fired plants opportunities emerging, we should in the third quarter award at least one gas fired plant and that activity is emerging. You know not in a great abundance but there’s a gas plant here or there that’ll be built.

Turning our attention to nuclear, let’s go over where we are on the major announcements that occurred over the last few weeks. On our first response we’ve been telling for about a year that we’ve had two day plants it looks like we’ve got six here to go forward on. The first one is SCANA, we’ve signed an agreement with SCANA and they’ve put down significant down payments on a letter of intent. The EPC contracts should be completed and signed within several months and we’re proceeding on the project. By limiting notice to proceed on this particular project, for the next 12 months, we have enough money allocated to us to proceed on the project that if the whole project had been full notice to proceed, we would spend no difference in money.

So what we try to convey here on the limited notice to proceed until we have the EPC contract and full notice to proceed, there has been enough money allocated for the project to begin and run as if you had full notice to proceed, so the money we would have spent during the next 12 months has been allocated and we’re proceeding on that particular project. The same thing on the Progress project, that contract should be signed by August 31st, the EPC contract and we’re proceeding on that major project, it’ll certainly be the biggest one based on the site conditions in Florida.

Turning our attention now to the Southern contract which is a full EPC contract, much more detailed in the letters of intent where all the EPC terms and conditions have been fully negotiated, that contract has begun and we are have a limited notice to proceed. Again on X amount of dollars for 12 months to work the progress on these plants, both of them are going to be finished in 16 and 17, that goes for the other three as other two sites as well. The EPC contract we should have full notice to proceed in accordance with our contract in less than a year and at that time, once we have full notice to proceed, for all these contracts, that’s when the contracts will become into our backlog.

These are very, very significant contracts and if we go through them, should we have full notice to proceed on these contracts, they’ll average around $4 billion to our backlog on each particular contract. On the and then again on the $9 billion worth of Tilbury and Blyth works, so if you add these together, it’s well over $20 billion worth of work that should all things remain the same that these projects should go in our backlog during those, that timeframe.

So you can imagine the amount of work that we have ahead of us and the market still looks very, very robust, in particular on the nuclear activity. Turning to page 6, on our maintenance, they certainly continue to perform extraordinary, we’ve have had some scope increases on Excelon due to performance and really having half the nuclear market in the United States doing outage work is certainly gives our clients a lot of confidence that we can execute these very, very major nuclear power plants since we’ve been doing the outage work for a number of years and adding up to thousands of people on their projects.

The energy and chemical market continues to have a very, very strong licensing and fronting engineering service projects and we continue to do well. The EBS [end] plant in China was a major award for us and our technology continues to be well received throughout the world. Our EBITDA is expected to continue to grow throughout this year and activity as well as next year and on these major new projects. Turning page to 8 on the fabrication, fabrication continues to do well quarter after quarter, year after year. The market is very, very strong on the third quarter we will begin production on our facility in Mexico and that facility will be the largest pipe fabrication facility in North America and we have great plans for that particular facility.

Also, I’d like to give a little bit more detail on the talk a little bit about the fabrication market as a whole. Traditionally we’ve had a difficult time outside the United States convincing clients because of the cost of labor, doing it away from the job site rather than fabricating piping on the job site. Recently we have done the gas to liquid project in [Katara] we have done a lot of work on those particular projects, fabrication from Bahrain. So what has appears to be as well as some ethylene plants we’re doing in Saudi Arabia, it appears to be that the focus is now turning to fabrication away from the particular sites which could be a very, very robust market to us in the future, so we’re looking there.

We continue to fabricate piping all over the world, a very large power project awarded in India that we’ll be doing in the United States, shipping there. Fabrication at Little Gypsy and all the major refinery expansions I believe we’re participating in most of those, so the fabrication business continues to exceed our internal expectations. Our environmental infrastructure business has been lagging the last two quarters, we have it stabilized now in the next two quarters should the turning event for this business, as you are aware they were awarded $700 million in a harbor navigation canal project by the Corps of Engineers.

This is the largest design build contract ever awarded by the Corps and what we’re doing here is we’re building a levy system to protect the New Orleans St. Bernard area. Two part contract where $100 million to $150 million worth of business needs to be completed in the next 12 months as a temporary levy structure and the remaining structure is an accelerated basis and the project calls for a 36 month completion. This is a very, very major award for this group and should stabilize that and increase their volume going forward as well as their profitability.

So we congratulate that group on a very, very major project and one that we’re proud to execute from and for our state of Louisiana. Looking towards our backlog, backlog with a major project at Little Gypsy continues to. Let me mention one thing back on page 9 that I was neglecting mentioning, we haven’t signed a full notice, we haven’t signed a full contract on MOX which is in excess of $2 billion. You know it’s taking a little longer than we thought, should be in the next few weeks we sign this contract but they continue to give us contract amendments to cover the major construction we’re doing on this deal, we have over a thousand people in the field.

During our fiscal year we received over $400 million in extensions, so in a matter of time we’ll go ahead and sign that contract and at that time that $2 billion will go into backlog as well. Looking at our backlog it’s close to a near record and you know all expectations are that our backlog will certainly be up at the end of the third quarter and fourth quarter as well. So the backlog continues to grow and the profitability in the backlog continues to grow as well. We’ll turn our views to the financial review and I’ll let Brian walk you through these slides that we have on page, starting on page 11.

Brian Ferraioli

Thank you Jim and good morning everyone. First I’ll go through the consolidated results and move onto the segments and then touch a little bit on the guidance that we had previously given. Looking at slide 12, beginning with the revenues, if you see the revenues compared to a year ago, up $445 million or 37%, obviously we continue to grow. That has been for a number of years now as you know and as Jim mentioned we expect that to continue for the foreseeable future.

Looking at EBITDA both as reported and the Westinghouse segment and then showing excluding the Westinghouse segment, this is how we look at it internally. We continue to have volatility in our consolidated P&L due to the decline of the US dollar versus the Japanese yen and as the yen denominated debt associated with the Westinghouse investment changes, we’ve continued to have charges of roughly $98 million in charges, non tax just related to translation, have gone through the P&L for the first six months of this year.

So looking at EBITDA excluding the Westinghouse component, $78.6, obviously a significant change from a year ago when we had a number of adjustments on [profit], but very close to the record that we had previous quarter. Net income, $37 million was lower than what we had anticipated it would be at the beginning of the year primarily due to a tax rate change. Our tax rate for the quarter is approximately 42% on an effective rate excluding the Westinghouse segment. The reason for the change is that the earnings that we have recognized this year have occurred in tax jurisdictions slightly different from what we had anticipated at the beginning of the year.

And we have loss carry forwards in some locations and that have been fully reserved and others which are not fully reserved. So depending upon where the earnings occur, the tax provision can be different. And that’s what’s happened here. So from an operational perspective, there really wasn’t a change, a dramatic change in earnings, it just happened to be where the earnings occurred. As Jim mentioned the E&I group performance for the quarter was less than what we had expected, approximately $9 million. So from an operational perspective that was a disappointment.

We also had $13 million in charges and contingencies on projects, individual projects, one in fossil nuclear and the other one in E&C and I’ll touch upon that a little bit more as we move forward. Operating cash flow remains very, very strong, again a record, $196 million and the new awards also very strong, almost $1.9 billion and that is without booking anything from MOX as Jim had mentioned. So a relatively strong quarter for awards even without the big award that we have anticipated and we anticipate will be coming shortly.

Over the page to slide 13, looking at the segments, first of all starting at revenues as I mentioned, you see revenues are up significantly and the difference here is we show E&C excluding the flow through costs of customer supplied materials. The way we look at it, we think it’s a better way to look at profitability for the business unit and also for E&I where we had some consolidation of our military privatization this year which we did not have in the previous year. But looking at the individual segments, fossil nuclear they had record revenues for the quarter, up dramatically over $300 million from a year ago quarter. They had $43.5 million of gross profit.

Now included in that is a $5.6 million contingency that we established for projects being executed by that group. We are in a dispute with a client and we established a contingency as I mentioned and that is flowing through the earnings for the quarter. Compared to a year ago, obviously there were some significant adjustments a year ago related to the Astoria project, so a year on year comparison doesn’t make a whole lot of operational sense at least at this stage. E&C revenues relatively flat, again excluding the flow through costs.

They had a charge related to the close out of the Gulf Coast EPC project. $7.3 million, so it was disappointing to have that charge occur at the end of this project, the project is substantially complete, we are demobilizing in the field this week, so hopefully that is behind us. And again if you look at a year ago, there were some adjustments in the E&C group as well in the second quarter as when there were a number of adjustments in several of the segments. Maintenance, volume is up from a year ago, earnings remain relatively consistent.

And as Jim mentioned they’re doing extremely well getting extensions of work with existing clients and it continues to be a steady business that also provided benefits to the other operating units. E&I, the revenues are up slightly but here we were frankly disappointed with the performance of E&I, they did have a miss to our expectations of about $9 million, much of which was related to non project type activities, an impairment charge for a joint venture, some technologies or businesses that we’re exiting where we were in with partners.

Military privatization is included in there; KB Home joint venture as well as I mentioned some of the technologies. So the positive has been that there wasn’t really any issue related to project execution it’s just more of exiting some businesses that we do not believe are core to our business going forward. F&N continues to grow, you see revenues up dramatically again was a record for them for the quarter. Their earnings reflect their performance. They are operating extremely well, they have high [frant] capacity and obviously when you execute well the financial results are also positive.

So in total for F&N, they just continue to do extremely well and as Jim mentioned the Mexico facility coming online so we expect their volume of business to continue to grow throughout the rest of the year. Over to page 14, we continue to generate cash. We have total cash of approximately $665 million at the end of the quarter and we have virtually no debt other than the limited recourse Westinghouse debt which is tied to the put option and I’ll talk about that shortly. For the last 12 months we’ve generated operating cash flow of over $600 million, so we continue to generate cash and we continue to strengthen our balance sheet.

On to page, slide 15, the Westinghouse exposure, as I mentioned the decline in the dollar continues to have an impact on our GAAP P&L numbers but what I’m trying to show here is when the deal was originally done for the investment in Westinghouse, the yen that was borrowed, $128 billion yen was translated to US dollars at $119 yen to the dollar at that point in time and it equated to just under $1.1 billion US dollars. If you look at the rate that was used for the close of our second quarter, that has gone up to $1.2 billion.

All of that is flowing through our P&L and again is non cash translation losses. Offsetting that though from an economic perspective but not from an accounting perspective is the fact that we have a put option where we could put the shares back to Toshiba for 97% of the original investment. At the time that the deal closed, the exposure we had translated to dollars at that point in time was approximately $36 million. Even with the significant decline in the dollar to the yen, our exposure net exposure has only risen to approximately $40 million.

So although we continued to get significant volatility in the P&L, reported P&L, the economic exposure has remained relatively flat and the difference being the yen denominated put option is not marked to market for accounting purposes. Over to page 16, update on estimates. We have consistently been reporting that we expect revenues to be approximately $7 billion, we’re still in that same zone, and probably a little bit higher than the $7 billion we talked about before.

The EPS we are reflecting the tax rate change we talked about before which equates to in our current forecast approximately $0.15, we’re lowering our estimate of where we expect EPS to be, diluted EPS throughout the year. Now this will be again dependent upon location of earnings, so it’s very difficult for us to estimate where some of those earnings may occur and it could have a significant difference in our tax provision. Operating cash flow remains very strong, we’ve expected it throughout the year to total in excess of $400 million, and we continue to stick with that estimate.

Although I do caution the third quarter is not expected to be as strong as the previous quarter in terms of operating cash flow. We expect to be a little bit stronger in the fourth quarter than the third. So in summary, our markets remain very, very strong. We’re very optimistic about the nuclear awards beginning the MOX amendment, we expect to be signed shortly and we have significant opportunities in our other businesses as well. The Q2 earnings were impacted by the E&I performance as well as charges and contingencies established on frankly what are two older projects where the terms and conditions on those projects are different from the contracts that we’re signing today and have been signing for the last year or so.

The earnings are forecast to be back end loaded, we’ve said that before and that continues to be the case and that has to do with the volume of the projects we have and the phasing of them as they build up the earnings will tend to accelerate as we get to the middle phases of those projects. And the balance sheet continues to strengthen as we continue to generate significant amounts of cash. So with that, we will turn it over for questions and answers.

Chris Sammons

Thank you Brian. Operator we’re ready to go to the Q&A session please.

Question-and-Answer Session

Operator

Our first question comes from Barry Bannister from Stifel Nicolaus, please proceed.

Barry Bannister – Stifel Nicolaus

Hi guys, it’s actually Robert Connors in for Barry, how are you? Just real quick, taking the fossil and nuclear ex charges, I noticed the gross profit margin was actually up a 7.6% above the 7.2 in the previous quarter. So you know looking at what the possibility of your bookings in nuclear and the possible RWE, how good is the profitability in contract in terms of those awards and what’s in backlog versus that sort of core 7.6% gross profit margin?

Jim Bernhard

I don’t think we’ve given, that would put us where we would have to give, we’ve never given profit per contract, I don’t think we need to do that at this time.

Barry Bannister – Stifel Nicolaus

Well you are seeing better contract in terms of the environment and I guess more of a shift towards less risk mitigation on the E&C?

Jim Bernhard

Absolutely.

Barry Bannister – Stifel Nicolaus

And then for my second question, when do you think we will start to see the ramp if everything goes according to schedule with those awards by say the end of fiscal 2008 and for those nuclear awards, is that all that’s left or could we see more to come down the pipeline on just those three projects?

Jim Bernhard

Certainly on the awards for nuclear plants, that’s certainly the beginning and the market is very robust, not only in this country but other countries as well and I think the first ones are always the most difficult to get everybody in line to manage their regulated base expectations et cetera on pricing et cetera.

But I think reading through the awards, when we have a company like Southern Company, one of the larger utilities in the United States and one of the fastest growing markets, come in again to nuclear work, I think that that is a bigger key driver than most. And we look for awards not only in this country but other countries for the next decade to come.

Barry Bannister – Stifel Nicolaus

Okay, thank you.

Operator

The next question comes from Brian Chin from Citi, please proceed.

Brian Chin – Citigroup

Hi, good morning. Question on the Southern contract, I was speaking with Southern yesterday and they reiterated to me that they have an in house E&C unit that they expect to do a fair amount of the nuclear work, how do I square that comment with the earlier statement in this presentation that there was $4 billion per backlog per contract, what am I missing here? Because it sounds like this $4 billion per contract in backlog for each of these nuclear awards, then it sounds like you guys are getting most of the work. How do I think about that?

Jim Bernhard

Well I wasn’t privy to the conversation you had with Southern. Now and the second thing is, they may be talking about transmission requirements, they may be talking about a variety of other stuff and when they said their E&C is doing a significant amount of work, to them you know a significant amount of work well may be $100 million, okay. But as far as for the nuclear units, the onsite conditions on that particular contract you know as I said is approximately $4 billion would be our part of the backlog.

Brian Chin – Citigroup

Okay and that $4 billion, does that include the Westinghouse allocation or does that exclude the Westinghouse allocation?

Jim Bernhard

That would exclude the Westinghouse allocation.

Brian Chin – Citigroup

Okay and then last question on this, we saw Toshiba and NRG announce their joint venture for the ABWRs, and part of their thought process was we want to granularize out a little bit more of who takes the fixed price risk by doing an open book process with equipment vendors. Can you give us a sense of how, is that something that’s pushing the market towards further granularization of fixed cost risk and to what extent are you guys looking at fixed cost risk, what parts of the fixed cost risk might you guys be taking on in some of these contracts or not.

Jim Bernhard

None.

Brian Chin – Citigroup

No fixed price risk whatsoever?

Jim Bernhard

I think the overall contract that we don’t have on our part have fixed price risk.

Brian Chin – Citigroup

Fair enough thank you.

Operator

Our next question comes from Andrew Kaplowitz from Lehman Brothers, please proceed.

Andrew Kaplowitz – Lehman Brothers

Good morning guys. You’ve talked about older contracts hurting your earnings in 2Q08, I know a couple in particular and I guess my question is, I’ve heard from you guys before that you’ve had some of these older projects wrapping up so how close are we to sort of lapping these older projects you think and getting to the new contracts with the better terms?

Jim Bernhard

Let me just clarify my last statement, we don’t have any fixed price labor risk, okay. And we do have fixed price components that may occur on some of these contracts. But on these nuclear contracts but the labor portion we don’t have an overall risk on that okay and we don’t retain those risks, okay. Answering your question on newer contracts, the market continues to improve year over year, quarter over quarter.

And I think a good example on that is the Entergy contract that we got is very much like the [Kleeko] which was fixed price, better terms on Dominion which is the same type of plant and the [Kleeko] one which was the last one awarded which was cost plus. So you can see the transformation of the same type of contract, same type of owner and continues to transfer contract terms for a lot of variant reasons. You know labors getting more and more difficult to quantify and so I think the contracts are getting better on terms.

Brian Ferraioli

Andy this is Brian to follow up, the two contracts that we referred to in the presentation were from 06, one from March and one from November of 06. The Gulf Coast EPC one as I mentioned is basically done, we’re in demobilizing and moving rapidly into the warranty phase.

Andrew Kaplowitz – Lehman Brothers

Is that the same petro chemical project you’ve had issues on in the past?

Brian Ferraioli

It is. And the second one that we referred to is expected to be completed sometime this summer, June or sometime the end of June.

Andrew Kaplowitz – Lehman Brothers

Brian are there any other petro chemical projects like the one that you’ve had issues with that we need to worry about or are we basically out of the woods on the Gulf Coast as far as you guys are concerned?

Brian Ferraioli

Well Andy, I always worry about projects and I don’t think you can ever not worry about projects. That doesn’t mean that we have problems. We, every project has got its challenges. But clearly we don’t know of any other issues, any other charges, any other write downs or whatever if that’s what you’re referring to. But to say that we don’t have to worry, we always worry.

Andrew Kaplowitz – Lehman Brothers

No, that’s good. Jim if I could talk about the Southern contract again I don’t know if you can answer this question but I’m wondering how much backlog as a percent of that $4 billion did you book with this limited proceed, is it 10%, is it 5%, you know is it 1%? Just so I can sort of get a feeling for what you guys are doing right now.

Brian Ferraioli

Andy this is Brian we expect to book, we haven’t disclosed the amount but we’re talking tens of millions not talking hundreds of millions.

Andrew Kaplowitz – Lehman Brothers

Gotcha. That’s helpful. And maybe one more question if I could. On coal plants going forward, I mean obviously this UK prospect is a very good prospect, what’s going on in the US? I think Jim you’ve mentioned you know several prospects in 2008, are those prospects still on the table, what are you seeing as far as the overall coal landscape?

Jim Bernhard

We continue to see significant scrubber work although we’re on the down part of that, there’s still significant opportunity there. We see more gas plants coming into play and we see nuclear really having some legs out there. So on the whole there’s still opportunities there. I mean we’re currently building six plants throughout the United States, so it’s spotty on the coal plants, but it’s always kind of like that in particular locations and you know we haven’t, our projects have gone well. We haven’t put them into backlog until we feel very comfortable that they’re going to proceed and there are some activities continuing on coal and that market I don’t think is going to be as robust as it was the last 24 months.

Nevertheless I mean you’re seeing a change in the market with environmental considerations as part of it in costs for electricity going forward. And everything continues to the point where we’ll have our wind power and our solar power, I mean it continues to point towards nuclear production of electricity. I mean I would think that every quarter that goes by its more positive on that front not less positive. And you see announcements with the major utility providers in the United States which we consider some of them to be the second wave and the third wave that have come on some of the smaller utilities. But there’s ample work out there and these projects are very, very major to us. If you look at the capital expenditure on these projects its huge projects as far as our company.

Andrew Kaplowitz – Lehman Brothers

I understand, thank you very much, I’ll get back in queue.

Operator

Our next question comes from Joe Gibney from Capital One Southcoast, please proceed.

Joe Gibney – Capital One Southcoast

Good morning everybody. Jim I was curious if you could just give us an update on the international nuclear award front potentially happenings progressing in South Africa and India?

Jim Bernhard

Well we’ll not be tricked on the India one, we haven’t signed our non proliferation agreement with Indian treaty yet, so we can’t do work there. But I understand that market will be good. The UK market is really going to really have a lot of activity in the next coming years and the South Africa market, you know it’s been in the press that there’s a couple proposals out there outstanding and we’d rather really not say anything on that other than that there are a couple proposals outstanding there and I know their need for electricity is a great one.

So if you look throughout the world in these modern one off countries that want a particular plant, so the activity throughout the globe is one of growth and that growth has only accelerated as the nuclear market goes forward. I mean the continued rise of oil certainly works in our advantage.

Joe Gibney – Capital One Southcoast

Chris certainly you’ve talked about, just let me get a sense of the scope of the personnel add that you guys are going to have to be anticipating here relative to the nuclear build out, I know you’ve talked about as many as 3,500 incremental people you’re going to have to add, is that increasing as you look to these new awards that are coming through here, just trying to get a sense of whether or not you’re going to have to be pulling talent from other areas of F&N to try to execute on these, could you give me a sense of the scale of the personnel add in anticipation of this big build out?

Jim Bernhard

We’ll kind of go through that. You know it touches all aspects of our company from the environmental permitting process you know our company is involved. And when we start to build these plants you know certainly the design of the balance of the plant and the off site is a significant amount of engineering work. And you know 20 million man hours of construction is approximately on some of these projects, a significant amount of construction work. In that, you know there’s probably two to three million man hours of module fabrication that we’ll be doing as well and that bodes well for our company. And the structural and piping fabrication is very significant on the nuclear plants. So you know it touches all faces of our company besides the energy and chemicals group and it’s a significant award.

You know we talk about engineering talent, we talk about recruiting quality engineers, we certainly, it’s the forefront on some of these nuclear projects, but that’s not the major emphasis in terms of work to be done on the construction of these because we plan on doing duplicate units on the power island and most of this is construction talent to manage through construction phases of the project. And to my knowledge and belief of all major E&C contractors out there today that this company employs more direct hire craftsman than any company in the engineering construction business. You know last, including outage work and our major scrubber plants and fixed coal plants, a lot of this work is direct hire not sub contracted, so we’re unique to the business in that we’re able to perform on a direct hire basis.

Joe Gibney – Capital One Southcoast

Alright that’s helpful. And the last one for Brian, I understand there’s a fair amount of moving parts on the tax expectations given where we end up jurisdictionally but for any kind of ballpark you could give us for the difference between 3Q or 4Q or just sort of run a ratable rate on the assumption there in the high 30’s, so if you could give a little color there I’d appreciate it.

Brian Ferraioli

No I think the tax rate should be relatively consistent in the balance of the year where we were through the second quarter. So excluding the Westinghouse component, we’re going to be in the low 40’s.

Joe Gibney – Capital One Southcoast

Okay that’s helpful, I appreciate it, I’ll turn it back.

Operator

Our next question comes from Jamie Cook from Credit Suisse, please proceed.

Jamie Cook – Credit Suisse

Hi, it’s actually Jace Becker in for Jamie, just had a couple quick questions. My first question getting back on the nuclear side here, is specifically on Southern, I’m trying to understand in terms of I understand the incremental tens of millions that you’re going to book in backlog here in the third quarter but in terms of the overall $4 billion for the contract, I’m trying to understand how should we think about the contract structure because I think if you look back to some of the recent reports that have been kind of published here you can see that you know the overall cost of these projects in the last couple years has dramatically increased in terms of estimates, so just in terms of the $4 billion, trying to figure out what your actual risk is, I understand from a layer perspective there’s no fixed price but any color you could give in terms of percentage of the overall nuclear contract you think is actually going to be on a fixed basis?

Jim Bernhard

You know, I want to answer that question because I think it’s one you’d be very satisfied with but Southern submitting a competitive bid situation in case somebody else wants to sell electricity to them and under that basis you know they’ve asked us to keep it confidential until it’s out there and out of respect to Southern Company I really but you know this company has stated before we’re not, you’ll be pleased with the contract and that’s why I’ve [inaudible] of the contract not to reveal how much the overall contract is.

And I’ve seen those published reports but sometimes those publishes reports are counting all interim costs and maybe $5 billion for transmission cost and you know another $1 billion for the kitchen sink and they’re not reflective of what actual the units are going to cost and I think that and I estimation on what we believe the cost to build these nuclear power plants are and any $25.00 a ton based on $25.00 a ton and some kind of tax on environmental tax for these coal and gas units and $8.00 gas going forward, we believe that nuclear is the most economical way to go and our numbers reflect that.

Jamie Cook – Credit Suisse

Okay so it sounds like you’re going to be taking the most minimal amount of risk as possible, so when we think about $4 billion you know we shouldn’t be worried about you know when you start construction in three years from now or whenever this COL goes forward, we should not think of that as an issue at this point?

Jim Bernhard

I would think about it and you know escalation and everything else, it’s been a long time since all our contracts were subject to escalations. But you can rest easy.

Jamie Cook – Credit Suisse

Okay. Last question, something that I just read I mean obviously this CO2 issue is being well documented in the media but it looks like there’s still a tremendous amount of coal plants that are up for proposal and I know it’s difficult to handicap what you think expectations are but is there any way, you know assuming there’s 100 coal plants out there that are up for grabs over the next couple years, is there any way that you can kind of peg what percentage of those you actually think get done you know given the environment that we’re in?

Jim Bernhard

I’m not sure what list you’re referring to. Companies put out loss leaders lists just to confuse companies of what they may be actually building or doing or thinking. But we’re going to build some coal plants in the United States and they’re going to be as environmentally friendly as possible and they’re going to be some gas and some wind and some nuclear. If you look at it going forward coals going to be part of the mix, solar gas and solar nuclear and the advantage to us is we participate in all these markets and clients like that, they can deal with one person you know on the overall contracting strategy.

And you know these big capital, one thing about the economy today is it really doesn’t reflect in the business we’re doing in the power world because these big capital projects are planned for the next 40 years don’t even come online for six or seven years so their economic evaluation of what the requirements are for electricity is over a long, long period of time. Second is I mean on the regulated utilities, most of them that we’re dealing with have been able to work with their public service commission or their regulatory body that the costs while building the nuclear plants are recoverable.

This is a huge thing, so no longer do they have to have the, take their own balance sheet and wait for recoverability after the start of the production of electricity which was most common, they’re able to put it into their recoverability rates now so they’re able to get financing on a secured regulatory basis in the market. So that’s a big thing that unlike most coal plants you can’t do. So utilities have done a good job and public heads realize there have to be some interim finance of these plants.

Jamie Cook – Credit Suisse

Very helpful, thank you.

Operator

Our next question comes from John Rogers from D.A. Davidson, please proceed.

John Rogers – D.A. Davidson

Hi good morning. Just one more question on the nuclear plants. The $4 billion contract value, can you give us a sense of just how that would schedule out? I mean it sounds like a six or seven year process, the first, once you get final approval in a year and then two or three years of engineering and three years of construction or how would that work?

Jim Bernhard

I think I would back up a little bit. The first unit is supposed to be finished in 16 you know and that’s eight years from now, okay. And if you back up another year there’s about a year in startup, okay, you know nine months, six months, about a year in startup that we plan. So you know substantially let’s say 95% of our work is done by 15. Okay you know the first year there’s tens of millions of dollars so you’re looking at the job being complete from late 09 to 15 over five years and that would be your typical bell curve that you would expect in a typical construction job.

John Rogers – D.A. Davidson

Okay. And then do you expect final approvals on this Southern one within a year? Is that fair?

Jim Bernhard

We expect final approval on all three within a year.

John Rogers – D.A. Davidson

Within a year, okay, great. Thank you.

Jim Bernhard

Final full notice to proceed within a year.

John Rogers – D.A. Davidson

Final, okay, that’s fine, thank you.

Operator

Next question comes from David Yuschak from SAMH Capital, please proceed.

David Yuschak – SMH Capital

Good morning gentlemen, on your fabrication operation continued to be impressive on the gross margin, as you guys talked earlier about the potential opportunities there, what’s your thoughts about how good the gross margin can get in that particular segment? Particularly given the kind of capacity you have coming on in Mexico.

Jim Bernhard

Well the capacity in Mexico is not going to hurt margins, I mean our capacity in Mexico should be able to continue the margins that we’re enjoying now. But let me speak a little bit to margins. You know our fabrication facility during the downturn two or three years ago spent a lot of money becoming more efficient and becoming more automated. From cutting to bending to automatic welding, they spent a lot of money on robotics et cetera and now when the volume increases like that their fixed costs which are substantial in the manufacturing business get amortized over a larger amount of sales. And some of that margin is strictly based on our fixed cost amortized over a larger period of time, but quite frankly they are extraordinarily efficient in what they do.

David Yuschak – SMH Capital

Jim though given the kind of capacity you have down there you do have the ability to ramp these margins up even further though, I’m just kind of curious just how much you think you can push those given that kind of potential capital leverage there?

Jim Bernhard

You know we’re not going to push margin expansions on the fabrication business, you know the margins are what they are, they’re driven mostly by efficiency not pricing. Power is driven by efficiency of the fabrication facilities themselves, you know Mexico is a new shop you know you’re going to have a little start up pains, we’ve been expensing a lot of money now training employees down there, so we at least expect to recover that cost back and you know our margins, we’re not prepared to say that our margins will be increased by any means.

David Yuschak – SMH Capital

So you’re just looking at maybe keep these things where they’re at and help that feed the other potential contracts that you can get out of other aspects of the E&C business is that kind of maybe a strategy?

Jim Bernhard

The particular shop gives us a lot of opportunity for exports from Mexico. As whether we’ll have opportunities for the domestic market in Mexico for the first time which is beginning to be significant especially when the type of efficient facility you have there and export facilities as well as to other countries, not just form Bahrain anymore.

David Yuschak – SMH Capital

So you’re thinking right now, a lot of Mexico can really support your international initiatives in a very big way then?

Jim Bernhard

Well I guess the US is considered international for Mexico but that would be part of it. I think there’s a lot of export possibilities and you know we’re very encouraging, you know it’s not our first time to operate a shop outside the United States; we’ve got one in the UK, Venezuela as well as Bahrain so we’re confident in our ability to manage the craft and the production of fabricated pipe spools.

David Yuschak – SMH Capital

And one last question, given the inflations that’s been going on in a lot of projects, is it fair to say that looking forward as far as profitability in the backlog that we and looking at the income statement, we should be really looking more at this being a volume driven business going into the future rather than any kind of material gross margin improvement or EBIT margin improvement because of the imbedded costs, what’s happening inflation in projects.

Brian Ferraioli

Well again, we haven’t given margin guidance but what we have been consistently saying is that the terms and conditions and margins that we’ve been booking are better than the more historic ones, so the newer jobs going in the backlog have better terms and conditions than the older ones. So we would anticipate that the earnings that we’re going to be realizing will flow through the P&L in the future.

David Yuschak – SMH Capital

Okay, thanks.

Operator

Next question comes from Steven Fisher from UBS, please proceed.

Steven Fisher – UBS

Good morning and congratulations on nuclear agreements. I’m wondering if you could just talk about any insights you have on utility’s motivation to sign these full EPC contracts with the full notice to proceed over the next year, I mean it seems like the COL applications aren’t going to be approved for another few years, I’m wondering if it’s a bit early for the utilities to sign on to these EPC contracts, is it that they can get recoverability of all those costs as they’re constructing and so it just makes sense for them to sign a contract at this point?

Jim Bernhard

Well you know each of these utilities have a franchise in a particular area of the United States and their overriding factor of the franchise is required by law to produce the most economical electricity on a consistent basis for their franchise. And you know these things take long whether it’s coal or anything else and when you need electricity in 2016, you can’t wait until 2018 or 19 to have the plant operation unless you want brown outs.

And I think that you know the utilities are very confident that the COLs going forward have been working hand in hand and one thing you need to realize when a utility submits a COL, that’s a big thing, not because it sends a signal to that they may in fact build a nuclear plant, they also send $50-$60 million to the Federal government to process their COL, so they’re not only committed with their minds, they’re committed with $50-$60 million, a lot of people don’t appreciate that. So along with their internal costs, so significant costs are being incurred by the utility in the first year of operation to get these plants moving forward, so it’s not just insignificant costs of their spending to build these, so once a COL is submitted a huge economic cost has been committed by the utilities as well. So that should give you some confidence of their intent to build the plants.

Steven Fisher – UBS

Okay you know because I thought, at least in the case of SCANA, I thought in their press release when they filed the COL it said it doesn’t specifically mean that they plan to actually build it but so I guess I’m wondering if they ultimately don’t decide to build it, what kind of provisions do you bake into your contract for recovery of your actual costs or opportunity costs?

Jim Bernhard

We’re okay but we’re not going to disclose individual contracts and I think you’ll see this common to all the utilities until they get regulatory approval 100% from their PEC, they’re not going to be so bold as to say that they’re definitely going through because they’re regulated by the public service commission and they need final approval from them.

And although they might have preliminary approval in some cases and talked to all of them, I’m relatively sure have had long conversations and based on that but until they get final approval and that’s how they’re going to, I think you’ll find them all caution in their statements. But I don’t think it’s different than if you see a utility announcing a coal plant or a gas plant that’s regulatory, they’ll say you know that doesn’t mean that they’re definitely going to build et cetera you know because they have to give all due respect to going through the normal approval process.

Steven Fisher – UBS

Okay, that’s fair. And then as you think about $20 billion of potential work, I mean how would your balance sheet have to change I guess from thinking about a bonding perspective in order for you to book and execute that amount of work?

Jim Bernhard

Well speaking on the nuclear front you know we have satisfied our clients with our corporate balance sheet as it stands today with it hasn’t necessitated LCs or bonding.

Steven Fisher – UBS

Okay, great, thanks a lot.

Operator

Our next question comes from the line of Martin Malloy, please proceed.

Martin Malloy – Johnson Rice & Co.

Good morning. Just on the timing of these nuclear plants and the awards of the contracts and the full notice to complete to proceed, on the SCANA, did I hear correctly that was over the next couple months you expected to receive the full notice to proceed?

Jim Bernhard

EPC contract signing.

Martin Malloy – Johnson Rice & Co.

Okay, so that’s, it would hit your backlog over the next couple months?

Jim Bernhard

It will hit our backlog when we have full notice to proceed.

Martin Malloy – Johnson Rice & Co.

Okay and then is that the same with the Progress Energy?

Jim Bernhard

No there’s a little difference, we should have a contract by August 31st with them on an EPC basis and again it will hit our backlog when we have full notice to proceed.

Martin Malloy – Johnson Rice & Co.

Okay, alright and then the E&I levy work contract that you recently announced, you mentioned the work should take place on an accelerated basis, when should we start to see that impact results, could that impact during the second half here of 08?

Brian Ferraioli

This is Brian; the work has actually begun so yes. But obviously it will ramp up. But people have begun working on the project already, so you’ll start to see those benefits within the second half of this year.

Martin Malloy – Johnson Rice & Co.

Thank you.

Operator

There are no further questions at this time.

Chris Sammons

Okay, thank you operator, I’ll turn the call over to Jim to conclude.

Jim Bernhard

Okay let me sum it up, you know we had a couple glitches here in the second quarter but the year still remains strong, next year looks good and the markets are really, really super out there in the power business. And I would dare to say that the power markets are going to continue for a long period of time, a combination of efforts and you know I think our position that we have in this particular business and our franchise in the power markets is a good one. And we look forward to continuing to execute these projects as we have been and continue to improve and I think that in the years to come the shareholders will benefit from the particular market expertise and position that we have today. I thank you and will talk to you on the next quarterly call, have a good day.

Chris Sammons

Thank you everyone.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: The Shaw Group Inc. F2Q08 (Qtr End 02/29/08) Earnings Call Transcript
This Transcript
All Transcripts