Federal Signal Corporation
Q4 2012 Earnings Call Transcript

Published: 15 Mar 2013

[Operator:]

Good day, and welcome to the Federal Signal Corporation Fourth Quarter Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Braden Waverley, Interim Chief Financial Officer. You may begin.

[Braden Waverley:]

Good morning, and welcome to Federal Signal's Fourth Quarter 2012 Conference Call. I'm Braden Waverley, Federal Signal's Interim Chief Financial Officer. Joining me on the call today are Dennis Martin, President and Chief Executive Officer; and Jennifer Sherman, General Counsel and Chief Administrative Officer. We'll be using some slides in the presentation. The slides can be found by going to our website, federalsignal.com, clicking on the investor call icon and selecting the webcast. We'll also post a slide presentation to our website after the call. Before we get to the business review, I'd like to remind you that some of our comments made today may contain forward-looking statements that are subject to the safe harbor language found in today's news release and in Federal Signal's filings with the Securities and Exchange Commission. These documents are available on our website. We expect to file our Form 10-K today. And now I'd like to turn the call over to Dennis Martin.

[Dennis J. Martin:]

Thanks, Braden, and thanks to those on the call for joining us today. Jennifer Sherman and I are currently visiting our Vama business in Barcelona, Spain, and we were at our Bronto business in Finland earlier in the week. Since we are hosting this quarter's call from separate locations with Braden in Chicago, we may have some pauses in our presentation and during the Q&A, and I apologize for any inconvenience. Later in the call, Braden will take you through our financial performance details, and then Jennifer Sherman, our Chief Administrative Officer, and also -- Jennifer is also responsible for our public safety business, will go through our 2013 corporate initiatives. Our fourth quarter results reflect the continued improvement of our business performance and the completion of a year in which the company fundamentally transformed its income statement, balance sheet and its ability to generate cash from operations. For the quarter, sales, operating income and cash flow from continuing operations were all above last year. We finished the fourth quarter with a healthy backlog and operating income and margin well above last year's levels. I'd like to highlight some of the important points from our continuing operations for the quarter. In comparison to last year, revenue grew in all of our segments and at a rate of 12% for the entire company. This was our fifth consecutive quarter of double-digit year-over-year revenue growth. Q4 operating income increased 12% with operating margin coming in at 6%. During the fourth quarter, our working capital management continue to improve as we generated $30 million in operating cash flow from continuing operations compared to only $1.7 million last year. Excluding restructuring charges, earnings per share from continuing operations were $0.09 for the quarter compared to $0.11 last year and consistent with our second half guidance of achieving the high end of a $0.15 to $0.20 per share range, excluding both restructuring and debt settlement charges. For the second half of 2012, EPS grew by 19% compared to the same period last year. As we indicated on our last conference call, our order levels did decline during the fourth quarter when compared to the exceptionally high new business levels experienced on our Vactor business towards the end of 2011. In 2011, higher lead times due to increasing demand for our Vactor products drove higher levels of advanced orders. Our backlog at the end of the quarter was $318 million, representing an increase of $23 million versus the year ago. I'd like to now address some important points in our performance for the full fiscal year. During 2012, we made meaningful progress toward our operating margins in each segment. ESG's margin expanded by 3 percentage points to 9.8, representing a significant progress toward its 10% to 12% margin goal. SSG margins improved by over 2% to 12%, also making considerable advancement toward its 14% to 16% margin goal. Bronto's operating margins improved for the year as well, increasing to 6.6% versus its goal of 10% to 12%. We are confident in continued progress of Bronto and all of our segments during 2013, and as we continue to generate benefits from our 80/20 programs and investments in the plan efficiencies. As we've indicated in the past, for the company to be in a position to create long-term value for shareholders, increasing operating margins need to happen, alongside decreasing levels of debt. While we still have work to do, this is what we've achieved in the last 2 years. At the end of 2010, we were operating with a unsustainable level of debt at 11x EBITDA. In the following 2 years, we've brought our debt level down to 2.4x EBITDA. This reduction in leverage, combined with our expansion in operating margins across all the segments, puts us in a position to further strengthen the balance sheet and to continue building value in 2013. This brings me to our debt refinancing, which we closed earlier in the week. We are pleased to have Wells Fargo Bank and General Electric Corporation lead a group of 7 partners in our new financing. We will speak in more detail later, but I would like to highlight a few of the following points. This is a long-term credit agreement for the company, with a 5-year term and an initial interest rate of LIBOR plus 2.75, significantly lower than the 12% interest on our previous term loan. We explored a number of refinancing alternatives over the last 6 months and in all cases, there was significant interest in the company's credit due to our strengthened balance sheet and our stronger business performance. Compared to our previous term loan financing, we expect annual -- annualized interest rates of over $10 million in savings. With a total facility of $225 million, this new arrangement will provide the company an increase in total liquidity and ample capacity to meet our future needs. The company incurred total debt settlement charges of $8.7 million associated with this, exiting this previous finance agreements and about half of that is being in cash. I'll give you some additional perspective on our progress and guidance for the first half of 2013 after Braden takes you through our financial performance in more detail, and Jennifer Sherman will provide additional insight on our 2013 strategic initiatives. Braden?

[Braden Waverley:]

Thanks, Dennis. I will now provide a review of our financial results for the quarter, which are included in today's press release. Please note that our financial results only reflect the company's continuing operations and have been recast to reflect FSTech as a discontinued operation. Looking at our P&L for the fourth quarter, sales of $218 million were up 12% versus last year. Currency had a negative impact of less than 1 percentage point on our revenue growth in the quarter. Gross margins decreased to 22.8%, while our SG&A, as a percentage of sales, decreased by 1 percentage point to 16.5%. The decline in gross margin percentage was primarily a function of a shift in product mix at Bronto over the prior-year period. The increase in SG&A dollars during the fourth quarter reflects an increase in corporate expenses, specifically an increase in incentive compensation in 2012 and the absence of a reduction in insurance reserves that occurred in 2011. Operating income increased by $1.4 million versus last year, while our operating margin was essentially unchanged. Currency had very little impact on operating income versus last year. Interest expense is $5.7 million for the quarter versus $4.5 million last year due to the higher cost of our now retired term loan. The company recognized an income tax provision of $2 million during the quarter primarily related to tax expense at non-U.S. operations. The increase in the income tax provision represents a $0.02 per share impact on earnings compared to the prior-year period. Our effective tax rate in the quarter was 29%. Our reported earnings per share from continuing operations were $0.08 compared to $0.11 during the fourth quarter of 2011. Slide 6 outlines our pro forma earnings per share from continuing operations for each of the last 4 quarters. The corporation incurred non-cash debt settlement charges of $0.03 per share in the first and third quarters of 2012. In the first quarter, restructuring charges attributable to our SSG segment had a $0.01 per share impact and additional restructuring charges at corporate during the fourth quarter also had a $0.01 per share impact. Taking into consideration the charge in the fourth quarter, pro forma earnings per share in the second half of 2012 were $0.19 per share, consistent with guidance and inclusive of a higher income tax provision and interest expense compared to the same period last year. Reported earnings per share from continuing operations were $0.35 for the full fiscal year. On Slide 7, we showed the results by segment for the fourth quarter. Our Environmental Solutions Group or ESG had another strong quarter of revenue growth and margin expansion. Revenue was up 14%. Operating income increased by 22%, while operating margin expanded to 7.7% versus 7.2% in the prior year. ESG's order volumes were down in total for the quarter compared to last year. The decline in orders was primarily attributable to declines in vacuum trucks in the U.S. market. This is in comparison to exceptionally high dealer orders for these products during the fourth quarter of 2011. Orders outside the United States increased slightly during the fourth quarter, reflecting additional order volumes in Latin America and the Middle East. ESG's backlog at the end of the quarter was $204 million, a $20 million increase over the end of 2011. Bronto's orders declined 16% to $24 million compared to the same period last year due primarily to a continued decline in average order size for fire lift products to customers in Asia. The selling price of a Bronto unit can be well in excess of $1 million so any shift in order activity between quarters can have a large impact on results. For the full year, Bronto's orders were unchanged at $137 million, while sales increased 23% compared to 2011. Sales also grew 7% during the fourth quarter compared to last year, while operating margins exceeded 10%. Bronto exited the quarter with a backlog of $84 million, 5% higher than the end of 2011. During the quarter, our Safety and Security Systems Group or SSG experienced a 7% decline in orders, as continued weak demand in European and export markets, along with a decline in outdoor warning markets, was offset by an improved demand in the U.S. police, fire and industrial markets. During the fourth quarter of 2011, the outdoor warning market benefited from a single large order. Revenue increased 11% during the quarter to $67 million and operating margins continued to improve, reaching 13.7% for the quarter an over 4 percentage point increase compared to the prior year. This margin expansion is attributable to the continued recovery in our public safety business and consistently strong performance in the industrial markets. Backlog at SSG ended the fourth quarter at $31 million, essentially unchanged with the level at the end of 2011. Corporate expenses were $8.9 million during the fourth quarter compared to $5.6 million last year. Turning to Slide 8. Cash flow from continuing operations was $30.5 million for the quarter. This compares to $1.7 million during the same prior-year period. For the full fiscal year, the company generated $49.2 million in operating cash flow compared to $14.1 million during 2011. With net capital expenditures having been relatively stable compared to the same periods last year, free cash flow from both the -- for both the fourth quarter and the full year increased significantly. As we indicated during our third quarter conference call, we expect that our backlog and level of working capital to decline before year end, generating increases in operating cash flow. Working capital management will continue to be an area of important focus for the company in 2013. Slide 9 shows the company's balance sheet as of the end of 2012, along with a comparison to year-end 2011. Other current assets of $236 million at the end of the year include a current inventory balance of $120 million and an accounts receivable balance of $97 million. While declining by $10 million during the fourth quarter, inventory levels have increased through the course of the year in order to fulfill our order backlogs primarily in our ESG and Bronto businesses. Accounts receivable decreased by $8 million during the year, while we experienced a 17% increase in revenue, reflecting significantly improved management of credit across the company. Net debt declined by $86 million over the course of 2012, achieved through allocating the proceeds from the sale of FSTech toward paying down debt and a $21 million increase in cash. Now I'd like to address some of the terms and conditions in our refinancing in a little more detail. As Dennis referenced, the total facility is $225 million and has a 5-year term. The credit is structured on a pro rata basis, including a $75 million term loan and a $150 million cash flow revolver. At closing, the company fixed the LIBOR portion of the term loan for the full 5 years, pricing the LIBOR component at 97 basis points. While there are no prepayment penalties associated with either portion of the credit, the term loan has quarterly required amortization payments. Our initial pricing on both term loan and revolver will be LIBOR plus 2.75%. The pricing of the loan is based on the company's total leverage ratio, and with reductions in that ratio, pricing can be further reduced to a level of LIBOR plus 2%. The company will be subject to customary financial covenants under the new credit arrangement and these will include tests based upon a fixed charge coverage ratio and a total debt to EBITDA ratio. For the purposes of covenant compliance, the company negotiated important add-back provisions to EBITDA, including the potential impacts of its hearing loss litigation and the cost of restructuring. These provisions will provide company management with additional flexibility in ensuring covenant compliance over the long-term. The company will be able to make restricted payment, such as dividends in the future, based upon its level of leverage. As we indicated earlier in the call, the company incurred debt settlement charges of $8.7 million as part of the refinancing. $4.1 million of these expenses were cash charges in the form of a prepayment premium and the remainder was a noncash write-off of deferred financing costs. These charges will have a $0.14 per share impact in the first quarter of 2013 earnings. The full details of the refinancing are available in the credit agreement, which will be filed with our Form 10-K. As a final point, the company will not pay a dividend in the fourth quarter. The company will continue to review the dividend policy each quarter. This concludes the financial summary. I will now turn the call over to Jennifer Sherman, who will provide additional insights into the company's 2013 corporate initiatives.

[Jennifer L. Sherman:]

Thank you, Braden. This morning, I'd like to take the opportunity to share a series of initiatives that came out of our recent strategic planning process during the fourth quarter and are central to our long-term success. These are enterprise-wide initiatives that will have an impact on all 3 of our operating groups. It is our intention to communicate our progress on these initiatives in future discussions with our shareholders. First, this morning and in the past, we've spoken extensively about our need to refinance the company's balance sheet. In completing this refinancing, we capitalized on flexibility we built into our debt structure strategy we began over a year ago. Complemented by our strong operating performance, this flexibility opened the company to a full range of potential credit providers throughout the process. As a result, today, we have a balance sheet and capital structure that provide us both adequate liquidity for investment and the ability to redirect interest savings into further debt reduction and meaningful earnings growth. Our completed refinancing serves these objectives. Second, diversification of the customer base is central to our long-term objective of creating sustainable organic growth across all segments. In our domestic markets, we have built enduring relationships with municipal customers, and will continue to stay invested in their long-term success. We will complement this foundation with accelerated new customer acquisitions in industrial and commercial markets. We have started this process in earnest over the last year, particularly in servicing new customers in the energy and security markets. Third, as part of our investment in the long-term success of our municipal customer relationships, we also intend to create a structure to achieve long-term profitability in servicing these markets, whether in using 80/20 techniques to ensure appropriately sized product portfolios, further reductions and breakeven operating levels at our manufacturing locations or in continued alignment of our cost structures to reflect market realities, our goal is to ensure that we remain profitable through the business cycles of our served municipal markets. One example of our focus on the municipal markets is in our U.S. Public Safety business. In response to challenging market conditions, we initiated a turnaround plan during 2012 that addressed multiple aspects of our operations, and as a result, we saw improved financial performance in this business during 2012. We are continuing this initiative into 2013 and expect to continued improved financial performance in PSS over the course of the year. Fourth, during 2013, we will also create a renewed emphasis on profitable organic growth. While we will entertain acquisition opportunities to extend our product lines and service to adjacent markets, these will only be considered in the context of our capabilities with existing products, customers and distribution channels. In a nutshell, we believe we need to earn our right to acquire. With this in mind, we will continue to build on our established success of taking our proven brands and products into new vertical markets. In the past, these have included the growth of our Vactor and Jetstream products in the oil and gas markets in North America and the extension of our site security products and solutions into new markets like campus and power plant security. In addition to extending the current product lines, the company will implement and invest in an innovation program to leverage its considerable engineering and product development capability. While Federal Signal does have some mature businesses with high market share, it also has considerable addressable market opportunity beyond its current customer base. This initiative will help to realize that potential. Fifth, we must continue our well-established focus on driving manufacturing efficiencies over the long-term. It is important to note that while the company has managed through a difficult financial period, it continued to invest in appropriate levels of production automation and process improvement. These investments have included precision laser cutting machinery, high throughput paint systems, upgraded CNC machine tools and other forms of production automation. As a result, the company does not have a capital deficit with regard to its manufacturing capabilities, and expects to continue yielding results from its investments made over the last 2 years. But with a constantly changing landscape of production technologies and processes, we see opportunities for further gains and efficiencies. Utilizing our 80/20 disciplines will be central to our efforts, ensuring that our product lines are appropriate in size and scope to profitably serve customers. The results of this initiative will include further reductions in our unit production breakeven levels and reduction in production lead times. These will have the effect of not only supporting our progress towards our stated margin targets but will also improve our working capital management. Like my earlier comments on our need to profitably serve municipal customers, our continued investments in process and capital to drive these efficiencies is meant to ensure the company's profitability through business cycles. At this point, I'm going to turn the call back over to Dennis, who will provide you with our outlook for the first half of 2013 and some additional perspective on our markets.

[Dennis J. Martin:]

Thank you, Jennifer. While macroeconomic uncertainties will continue in a number of our served markets during 2013, we expect the first half to be one of continued profitability and growth in revenue. Excluding the impact of our financing charges incurred in the first quarter, our estimate for earnings per share during the first half of the year is $0.20 to $0.25. There are a number of important factors impacting this guidance, including the following points. First, our interest savings will be significant as a result of our refinancing, but the full benefit of those savings will start in March and have a more material positive impact on our guidance and results for the second half of the year. Again, we believe that the annualization -- annualized reduction in interest to be over $10 million compared to our previous financing arrangements. Second, as we've indicated in the past, our hearing loss litigation defense cost present a financial exposure that can impact our earnings. And while we have won every trial for the last 3 years, including most recently in Cook County in December of 2012, we have pending cases in the court in Illinois and in Philadelphia. Depending upon trial schedules, the defense cost could have an impact on any quarter this year. Third, while our healthy backlogs at the groups support our revenue and profit goals, the timing of those shipments and the associated product mix will have some impact on earnings and this is mainly the case in our Bronto and ESG businesses. And finally, the generally uncertain market conditions under which we are operating require us to incorporate a broader set of potential demand scenarios into our guidance. While our backlog insulates us from some risk in the near-term, there is some potential impact on the first half, primarily where our backlogs are smaller. I'd like to now elaborate on where we're seeing in our U.S. municipal and industrial markets, our European markets and in the other export markets. While there's not yet evidence of a long-term positive trend in the United States municipal markets, we have seen modestly encouraging signs of near-term demand recovery. Indications from our channel partners and our communications at trade shows also support these observations, and we had some improvement in domestic municipal order rates at the end of the fourth quarter. Most available data also suggest a gradual recovery in the public finances and an increase in tax receipts that is underway in parts of the country. We're encouraged by these signs, and believe our established brands and channels are well-positioned to take advantage of any recovery. However, we also recognize that to the extent a recovery is underway, we are at a very early and fragile stage of the process. In the U.S. industrial markets, we continue to see pockets of growth opportunities, particularly related to Security and Energy segments, but in a broader context, a high degree of uncertainty still remains. Despite these, we are planning to grow our volume and mix of industrial customers over the long-term. Our Jetstream, Vactor and Industrial Systems businesses possess leading products and services to capture opportunities in security and energy, as well as other commercial vertical markets over the longer term. Our European market outlook remains uncertain and weak, particularly in municipal markets. And as we've indicated on our last call, the well-known challenges in Europe will continue to impact our performance in 2013, particularly for our Vama and Bronto businesses. While both of these businesses have executed well in diversifying their customer base, at this point in the fiscal year, we do not see our outlook for Europe changing materially. Our other export markets, particularly Asia and Latin America, continue to offer long-term growth opportunities for the company. We continue to see our Bronto business and SSG divisions as being well positioned to take advantage of these long-term trends in 2013 and beyond. Bronto has continued to diversify its revenue base beyond Europe and that trend has continued with its new order activity in 2013. Within SSG, our Public Safety business in Latin America has had an increased activity levels. In the industrial safety and securities, opportunities continue to grow across segments on a global basis. During our last discussion at the conclusion of our third quarter conference call, I indicated that we are entering 2013 with a sense of caution. While the caution still factors in to our decision making today, some important developments have taken place. The fourth quarter and much of 2012 have been characterized by the restructuring and refinancing of our business. Through this process and the performance of our businesses, we have also created a framework for disciplined growth. We successfully completed our debt financing strategy in a way that generated maximum value for our shareholders. The corporation had its fifth consecutive quarter of double-digit growth in revenue and complemented that performance with strong operating cash flow. Progress continued on increasing operating margins at each of the groups and finally, we have maintained healthy backlogs across the country -- the company. So while market demand conditions will go through their cycles, our teams stay focused on serving their customers, on operational excellence through 80/20, generating and preserving cash and ultimately creating value for shareholders. We are proud of our performance in 2012, and I'd like to use this opportunity to thank our shareholders, our customers, certainly, our valued employees and our many important partners that have helped us. We appreciate all of your support, and we'll keep working hard for you. Thanks for your time this morning. And at this time, I'd like to open up the phone line for questions.

[Operator:]

[Operator Instructions] We'll hear first from Matt McConnell with Citi.

[Matthew W. McConnell:]

Can we start off just with an update on the path to the longer term margin goals? And maybe Dennis, since you're over in Europe, we can start with Bronto, where there might be the most room for improvement on an annual basis, but in the quarter, you're right up there at the long-term target. So what have been the productivity improvements there in the Finland facility and kind of what's the path to the goal in each of the segments maybe?

[Dennis J. Martin:]

Matt, that's a great question. The performance that we saw in the fourth quarter is more typical of what we would expect through this year. Our backlog through the end of February, we're still running about $90 million in revenue for backlog. The process changes we've made in the plan, including new assembly lines, new automation, handling of the assembly products and continued in-lining should continue to drive those margins. I think they'll go up and down perhaps quarter-to-quarter slightly as these machines are well over $1 million each, and sometimes shipments slip from one quarter to the next. But in general, the performance of the business should maintain those levels for this year. The -- we're about ready to go into another realignment of the boom plant in Pori to achieve even further 80-20 kind of simplification improvements. So we think that it's sustainable at the target levels that we suggested.

[Matthew W. McConnell:]

Okay, great. So in 2013, you think kind of...

[Dennis J. Martin:]

I think, certainly, we'll be in the range in 2013. At this point, it's really too early to say if it's the high-end or -- but I think it should be able to stay on the range.

[Matthew W. McConnell:]

Okay, great. That's helpful. And then I guess one of the advantages of reporting at this time in the quarter is that you have probably decent visibility into how first quarter has started. So you had orders down year-over-year in each of the segments in 4Q, but is there any kind of market update on how the first quarter has progressed?

[Dennis J. Martin:]

I think we're still in that same mode. We haven't seen a major drop or major increase. The levels we had laid in 2011 and the first quarter of 2012 really were driven very high by increasing demand in our Vactor business. So we had advanced placement of orders to get in queue. So we think we're at a sustainable level to achieve the kind of plan that we're thinking of in terms of about $200 million run rate per quarter in revenue.

[Matthew W. McConnell:]

Great. And then finally, on the debt to EBITDA, the covenant in the new agreements, do you have -- where do you stand versus the 2.4 where you finished this quarter? And then kind of related to that, is debt reduction still kind of the number one and maybe only priority for capital allocation for this year?

[Dennis J. Martin:]

I'll let Braden answer the question about the ratio, but debt reduction is certainly an important objective for us. Cash flow, cash management, inventory reductions, generation of cash and reduction further of that is a key, but we will trade that off with decisions on investing in the capital equipment we need, as well as investing in new products in some of these high-margin businesses. So it's not a single-area direction, but certainly, we don't want to go on the wrong direction, and Braden can talk about the percentage.

[Braden Waverley:]

Sure, Matt. Is your question just with regard to pricing as a function of the -- of our debt to EBITDA ratio?

[Matthew W. McConnell:]

Or just -- yes, where is the covenant maxed out like versus the 2.4 where you finished 2012? What's the threshold?

[Braden Waverley:]

Sure, yes, when we get the debt levels in the company, the debt to EBITDA ratio below 2, our pricing will be LIBOR plus 2%. So from a maximum interest saving perspective, when you see those EBITDA levels get to that point, you will see those numbers from an interest rate standpoint shake out that way. The...

[Dennis J. Martin:]

Braden, the top end of the covenant issue that, I think, is what he's asking.

[Braden Waverley:]

Yes, that's helpful on the downside as well, but would the rate go up if the debt to EBITDA also went up?

[Braden Waverley:]

If our debt levels went up, our rates would go up as well.

[Dennis J. Martin:]

And what's the bracket on that?

[Braden Waverley:]

And when we go -- when we get our leverage up over 3.5 -- when we get the debt levels up over the 3 level, we would see us price out at a LIBOR plus 3 level.

[Operator:]

[Operator Instructions] We'll hear next from Steve Barger with KeyBanc Capital Markets.

[Steve Barger:]

First question, just on the first half guidance, over the past few years, there's typically a pretty big step-up from 1Q to 2Q in terms of EPS. Do you expect that's going to be the pattern in the first half of '13 or is the $0.20 to $0.25 more level loaded?

[Dennis J. Martin:]

Braden?

[Braden Waverley:]

Yes, I think we really need to look at the first half holistically just based upon the size of the backlogs that we have going into the first half. Our inclination at this point, Steve, is to say it's a bit more level-loaded than in the past just based on the fact that we're not experiencing the big spike in Q4 volume that we've had given our lead times. We had seen a lot of those orders flow through in Q2. So directionally, we would say a bit more level loaded, but we would -- really, for the purposes of your models, encourage you to look at the first half holistically.

[Steve Barger:]

Got you. And free cash flow from continuing operations, looks like it was around $36 million in 2012. You indicated -- can you tell us where CapEx is going to fall in 2013 and do you expect that operating cash flow will increase enough to have free cash flow even or better than what you put up in 2012?

[Dennis J. Martin:]

Braden?

[Braden Waverley:]

Sure. We expect to start, obviously, a big part of our cash flow enhancement is the income effect benefit performance from '11 'to 12 and the improved working capital management, certainly, over the course of the fourth quarter. So we're going to continue to directionally work those opportunities with a fiscal year '13 focus on inventory improvements, Steve. But from a standpoint of capital expenditures, we see this coming fiscal year high -- $13 million to $15 million range in terms of CapEx for the purpose of thinking about a free cash flow number in 2013.

[Steve Barger:]

Got you. So just broadly speaking, continued margin improvement, some reduction in inventory so maybe a positive from a working cap standpoint and then '13 to '15 CapEx? Did I get that right?

[Braden Waverley:]

Yes, and I'd encourage you to think about our inventory performance. Inventory balances did go up, but -- and I think we spoke a little bit about this on the Q3 call as well, Steve. We really need to think about that total working capital on the context of the revenue performance, which was, as we pointed out on a call, very, very strong with regard to our AR balances, improved from a standpoint of inventory, but the inventory did experience an increase. So I think it really needs to be taken in the context of revenue performance.

[Steve Barger:]

I understand.

[Dennis J. Martin:]

And the backlog also.

[Steve Barger:]

Well, it's a good question on a good point on the backlog. It's very healthy, especially in ESG. Can you talk about backlog mix for the company and I guess for ESG specifically? Is it better than the mix you just shipped in quarter in terms of machines or -- and pricing?

[Dennis J. Martin:]

Braden, you want to take that one?

[Braden Waverley:]

Yes, we had a good mix and a good volume at both the Vactor and the Elgin businesses going into fiscal '13. We also see some pretty nice margin opportunities even in our Jetstream business, which is smaller than those other 2. But in general, we expect the backlog there to lay a foundation to mirror the kind of performance and potentially improve the kind of performance we had for the full fiscal year in ESG in '12. But from an overall mix standpoint, it's a same to better kind of story, Steve.

[Steve Barger:]

Got you, okay. And you've talked about -- in some of the corporate goals, accelerating customer acquisition in global markets, do you have to hire a lot of people or build out a lot of infrastructure to do that or do you feel like you have that model in place and it's really just getting better leverage out of the existing assets you have?

[Dennis J. Martin:]

Yes, it's -- really, the focus, Steve, is on leveraging the assets we have. We are strategically, though, adding a few more sales executives in certain areas, but generally, it's really been the shift of the leadership teams and the focus in certain markets so it won't take a lot of cash to do that. And in terms of leveraging our operating units, we have the opportunity to leverage them without adding a lot.

[Steve Barger:]

Okay. And then last question and I'll jump back in line. As you look at the segment growth rates and the margin expansion potential, what do you think is a reasonable way for us to think about the normalized revenue growth rate over the next few years and what level of EBITDA margin do you think the business can generate over time?

[Dennis J. Martin:]

Well, I don't think we're really prepared to think about what we think the growth rate over time would be. It's just too hard for us to say at this point until we get rolling. But when we establish the rates for each of the business units, we really believe that those were achievable targets. Some quarters might hit, some might miss, but generally achievable. And as we continue to expand our new product development processes, dig deeper in some of the adjacent markets, we think we should be able to drive the revenues. So we think the business will continue to grow. We know that growth is probably the most important objective for us, and so we are launching a new innovation program within the company to make sure we separate resources to really go after our new products in these markets. So until the economy sort of sorts out, I think that the run rates this year, we said it would probably be about $200 million a quarter, and I think beyond that to try predict it would be pretty tough. We do see recovery in the municipal accounting. We see some of the businesses in the last quarter’s have delivered recovery. We see certainly more police activity, and so it's just hard to predict. But Bronto Europe was a big part of their business. It's been out of the business for the last couple of years in Europe just because of the activity levels in Europe. The Fed comes back on top of everything else we're doing. We think that we should see growth there. So we're going to continue to focus on revenue growth, profitable growth. We don't want to take orders just to take orders, and we're going to continue working on leaning out the factories, leaning out's the wrong word, but making the factories more efficient, and so we think the benefits of that, and then we can take the earnings and put it into investment or paying down debt instead of interest as we have this last year.

[Operator:]

[Operator Instructions] We'll hear next from Brad Evans with Heartland.

[Bradford Alan Evans:]

Let me see, you gave us your thoughts for margins at Bronto for the year for fire rescue. Can you just -- where do you think EPG and SSG shakeout for the full year from a contribution margin perspective?

[Dennis J. Martin:]

Yes, I think we'll see -- I think we should see growth in SSG to get further towards their goal. ESG, I think, will run probably fairly close to last year, and maybe with some upside, and then Bronto should, as I say, get into the 10% to 12% range, probably in the lower end of that and run there. A lot depends on the mix of the products at Bronto, and we have a lot of units that are in production right now that should support that kind of a level, and orders cycles at Bronto have been consistent, but not expanding. So I think we should see a good year in orders and certainly, the kind of margins, targets that we put up there are still achievable.

[Bradford Alan Evans:]

Okay. Where do you think the corporate expense shakes out for the full year within a range?

[Dennis J. Martin:]

Braden, you want to take that one?

[Braden Waverley:]

Yes. I think, it'll be on -- we anticipate the corporate expenditures to be at a fairly stable level from the 2012 levels, Brad. We don't anticipate a lot of movement there. And in fact, we are working pretty hard to drive more efficiencies out of our corporate functions. But as you think about the business in '13, we'd encourage you to think about corporate as being relatively flat compared to '12.

[Bradford Alan Evans:]

I'm sorry, so that's about $25 million or $26 million?

[Braden Waverley:]

Generally, yes.

[Bradford Alan Evans:]

And Dennis, it sounds like -- I appreciate your caution, it does sounds like there's the prospect of things improving with industrial production growing here in the U.S. And as you've mentioned the muni markets, I guess, international markets might be a wildcard was some of the turbulence overseas, but hopefully, directionally better. So it sounds like you think across the 3 business segments that there's a -- you have a fighting chance to grow each of the segments modestly and if things turn over more quickly, we could be surprised. Is that the way to -- is that a good way to characterize it?

[Dennis J. Martin:]

That's exactly how I'd think about it. We've spent some time in the marketplace recently. I'm over in Europe now, and we spent some time this last couple of weeks with our direct salespeople on the industrial side with some dealers and also end users. And I can tell you that there's a lot of optimism, and everybody puts -- keeps putting caution flags up, but the individuals we talked to felt pretty good about it. The dealers on the municipal side really are thinking that they are seeing bright spots on the street sweeper business as an example, and obviously too, it comes in to orders. It's hard to dictate, but they're not walking around gloomy. They're optimistic. They're focused. So I think, as we talked, about the kind of revenue levels and order levels for 2013, I think there's upside.

[Bradford Alan Evans:]

Okay. And you should be deferring the vast majority of your current tax bill, is that correct, going forward?

[Dennis J. Martin:]

The domestic tax, yes. As we looked in the last quarter, we had a higher tax rate in the fourth quarter primarily driven by profits in Europe. So we still have a lot of NOLs in the U.S. and of course, that will have an impact on deferring the taxes.

[Bradford Alan Evans:]

So a rough number, say, you'll defer, say, 75% of the book tax level?

[Dennis J. Martin:]

Braden, what do you think on that?

[Braden Waverley:]

I'm sorry, can you repeat the question, Brad?

[Bradford Alan Evans:]

So you should be deferring about 75% of the book tax expense?

[Braden Waverley:]

Yes, that's about right. We're -- yes, that's a good assumption.

[Bradford Alan Evans:]

So can I ask you, what's the level of debt to EBITDA that you need to get below where you have more flexibility to entertain share repurchases or restoring the dividend?

[Dennis J. Martin:]

Braden, do you want to take that or Jennifer?

[Braden Waverley:]

Sure, yes. It's really a function of 2 things. I mean, our leverage ratio has to be below 3.25 and so from a leverage ratio standpoint, that's one condition. The other condition is with regard to the fixed charge covenant, Brad. So when we have that EBITDA as a function of the restricted payments that we would made, whether they take the form of dividends or other payments, we'd need to see that number at a 1.25 kind of coverage ratio. So the decision is going to be obviously a function of how we're seeing the business and its ability to generate cash in the future as well as what the growth prospects look like for internal investment as opposed to the other alternatives that we would entertain. But it's really the fundamental restriction, so to speak, as a function of the new debt agreements, are really driven by the financial covenants.

[Bradford Alan Evans:]

Okay. Well I guess I'm just looking at for a basis in your -- at least, on a net debt EBITDA basis, it's not hard to see at the end of -- as you get into the second half of this year, where you'll be again net debt to EBITDA, you'll be substantially right around 1.5 turns or maybe even a little bit better than that.

[Dennis J. Martin:]

Yes, I think at that point, Brad, then certainly the Board of Directors would consider the dividends and all those things that are -- that we should be thinking about.

[Bradford Alan Evans:]

Great, because it looks like -- well, I guess the surprise could be if the business grows a little faster than perhaps working capital would be a use of cash versus perhaps a neutral or maybe a small source. So I mean the bottom line is the free cash flow dynamics are vastly improving here?

[Dennis J. Martin:]

They are. And as we make further progress into this year and start looking forward instead of backwards, we should have a better handle on it.

[Operator:]

Ladies and gentlemen [Operator Instructions] Next, we'll hear from Nelson Obus with Wynnefield Capital.

[Nelson J. Obus:]

Just in terms of corporate, I'm just -- I'm curious about your accounting philosophy in terms of pushing down as much as possible the corporate expense into the segments. Is that something you look at periodically? Or is that kind of a set process that you've governed by over a period? Where does that stand? Obviously, because the more you can push down, the clearer we get a view of the divisions.

[Dennis J. Martin:]

Right, and we're doing more and more of that, Nelson. This year, we pushed down more of the comp, worker's comp, things down into the businesses. The IT, we push down into the businesses. So we're trying to do more and more of that. The things that are in corporate that we continue to have in corporate are things like legal costs that belong in more in the broad base that we've taken in and certainly, the other medical expenses as they relate to the corporate. So we're trying to be more flattened out to put more in the divisions.

[Operator:]

And at this time, I show that we have no further questions. I'd like to turn the call back over to Dennis Martin for closing remarks.

[Dennis J. Martin:]

Well, I'd like certainly to thank everybody for their participation and support of our business. We've been through a process here for the last few years of getting back on our feet and certainly starting to look out of the companies that are within. We're excited about that. We're looking for growth, and we'll continue to communicate with you, stay transparent as we've indicated in the past and are certainly looking forward to our next call not many weeks down the road for the first quarter. So thanks again. Have a good weekend and good afternoon from Barcelona.

[Jennifer L. Sherman:]

Goodbye.

[Braden Waverley:]

Goodbye.

[Operator:]

Ladies and gentlemen, this does conclude today's conference. We thank you for your participation. You may now disconnect.