North American Construction Group Ltd.
Q4 2017 Earnings Call Transcript

Published: 19 Feb 2018

[Operator:]

Good morning, ladies and gentlemen. Welcome to North American Energy Partners Earnings Call for the fourth quarter of 2017. At this time, all participants are in a listen-only mode. Following management's prepared remarks, there will be an opportunity for analysts, shareholders and bondholders to ask questions. The media may monitor this call in listen-only mode. They are free to quote any member of management, but they are asked not to quote remarks from any other participant without that participant's permission. I advise participants that this call is also being webcast concurrently on the company's website at nacg.ca. I will now turn the conference over to David Brunetta, Director of Finance and Information Technology at North American Energy Partners Inc. Please go ahead, sir.

[David Brunetta:]

Thanks, Casey. Good morning, everyone. And thank you for joining us. Welcome to the North American Energy Partners 2017 fourth quarter conference call. I would like to remind everyone that today's comments contain forward-looking information. Additionally, our actual results may differ materially from expected results because of various risk factors and assumptions. For more information about our results, please refer to our December 31, 2017 Management's Discussion and Analysis, which is available on SEDAR and EDGAR. On today's call, Rob Butler, Vice President of Finance, will begin by reviewing our fourth quarter results. Martin Ferron, Chairman and CEO, will then provide his comments on our outlook and strategy. Also with us on the call today are Joe Lambert, President and Chief Operating Officer; and Barry Palmer, Vice President of Operations. After management's prepared section, there will be a question-and-answer session. I’ll now turn the call over to Rob.

[Rob Butler:]

Thank you, David. And good morning, everyone. Let's now review our consolidated results for the fourth quarter ended December 31, 2017, compared to the quarter ended December 31, 2016. For the fourth quarter, revenue was $82 million, up from $62.2 million in the same period last year. The increase in revenue was a result of an earlier ramp up of our expanded winter work programs at the Mildred Lake and Millennium mines coupled with the award of an early-works heavy civil construction project at the Kearl mine. Contributing to the stronger results in the quarter was mine support services activity at the Fording River coal mine in Southeast British Columbia, the start of a three year mine support services contract at the Highland Valley copper mine in Central British Columbia and the wrap-up of a site development project by our Dene North Site Services partnership at the Aurora mine. Our ability to take on these stronger volumes was aided by the expansion of our heavy haul fleet capacity with the investment in growth capital earlier in the year, as we acquired certain used heavy equipment pieces from a competitor exiting the large earthworks marketplace and we further leveraged our prior year capital investment in equipment technology that expanded the haul capacity of certain of our existing heavy haul trucks. This increased activity in the quarter more than offset a reduction, compared to the previous year, in heavy civil construction work at the Mildred Lake and Aurora mines, lower mine support volumes at the Kearl mine and the completion of a site development project at the Red Chris copper mine in Northern British Columbia. Gross profit in the fourth quarter was $12 million or 14.6% of revenue, up from a gross profit of $6.4 million or 10.3% of revenue during the same period last year. The higher gross profit in the current period was driven by the higher volume of activity in the quarter coupled with improved productivity on our winter works programs at the Mildred Lake and Millennium mines with the earlier onset of winter conditions, compared to last year. Equipment costs as a percent of revenue were consistent between the two periods, despite the expansion of active project sites, which included a large heavy equipment fleet located at the Fording River coal mine, the mobilization of an equipment fleet to the Highland Valley copper mine and the demobilization of the equipment fleet from the Red Chris copper mine. For the fourth quarter, depreciation was $11.9 million or 14.4% of revenue, down from $12.7 million or 20.4% of revenue in the same period last year. The current period decrease in depreciation as a percent of revenue is starting to reflect the benefits we are realizing from our recent program of securing quality used equipment at discounted prices from sellers looking to exit the marketplace, while also leveraging our strong maintenance expertise programs to extend the expected lives of our current fleet. Operating income for the quarter was $4.5 million compared to an operating loss of $1.2 million during the same period last year. G&A expense excluding stock-based compensation expense was $5.7 million for the quarter, up slightly from $5 million in the same period last year, reflecting the timing of accruals during the current year for short-term incentive plan costs compared to the previous year. Stock-based compensation expense in the quarter decreased $1.1 million compared to the prior year primarily as a result of the effect of the previous year's most significant upward movement in share price and its effect on the carrying value of the liability classified award plans. For the quarter, net income was $2.5 million, basic income per share of $0.10 and diluted income per share of $0.09, compared to last year’s quarter’s net loss of $0.5 million, basic and diluted loss per share of $0.02 per share. Total interest expense was $2 million during the quarter, up from $1.1 million in the same period last year. The higher expense in the current period was primarily due to the recording of $0.6 million in interest on our March 31, 2017 issued $40 million convertible debentures and the higher amount of amortized -- amortization of deferred financing costs. Of note, this quarter helped us to return to full year profitability with annual net income of $5.3 million, basic income per share of $0.20 and diluted income per share of $0.18. During 2017, we used $15 million in cash to purchase and subsequently cancel more than 2.6 million common shares in the normal course reducing our outstanding common share balance to approximately 25.5 million, net of 2.6 million shares classified as treasury shares. Finally, on February 13, 2018, the Board of Directors declared a quarterly dividend of CAD$0.02 per common share, payable to common shareholders of record at the close of business on March 6, 2018. That summarizes our fourth quarter results. I will now turn the call over to Martin for his remarks.

[Martin Ferron:]

Thanks, Rob. Good morning to everyone. Back in the fourth quarter of 2016, we unveiled a plan to grow both revenues and EBITDA by a compound 15% per year for 2017, 2018 and 2019. Recall, at the end, we were still deep into a terrible cyclical downturn in our core oil sands market sector and the timing of the recovery was uncertain. While despite the downturn continuing through 2017, after a false uptick in oil prices during the first part of the year, we managed to grow revenue and EBITDA by 37% and 24% respectively, above the levels reached in 2016. I am delighted by this achievement and congratulate my superb team of employees for pulling it off in tough circumstances. Other notable covenants accomplishments for the past year were

[Operator:]

[Operator Instructions]. And your first question comes from Ben Cherniavsky with Raymond James. Please go ahead. Your line is open.

[Ben Cherniavsky:]

I just have a few questions actually. First of all, always great to see the revenue accelerate the way it did. But I was a bit puzzled that the EBITDA margins compressed on a 30% increase on the top-line. I mean the business has always been about utilization and operating leverage and yet that didn't seem to take place this quarter. What -- can you help me understand what the factors were there?

[Martin Ferron:]

Part of the reason Ben was something we discussed last time around and that was the work continued on the coal mine which we took at lower margin because we needed to fill in for a job that was cancelled. So I think that contributed to that situation. Anything else, Rob, that comes to the mind?

[Rob Butler:]

The ramp-up at Highland Valley.

[Martin Ferron:]

Yes, the demobilization at Highland Valley. We never take as much margin on a start-up of a job, right, especially a term contract like that. So those two factors are main ones, Ben.

[Ben Cherniavsky:]

And when does the coal mining contract runoff then, like where does that become less of an impact?

[Martin Ferron:]

We think probably April time, it will wind down and.

[Ben Cherniavsky:]

And your -- does that mean last revenue or we will replace that at higher margin?

[Martin Ferron:]

The second one I think right now.

[Ben Cherniavsky:]

So can you help us just understand your margin tend to be quite hard to predict quarter-to-quarter especially but even like on an annual basis what's the directional target for this year?

[Martin Ferron:]

It will depend on mix. We are hoping that we get more construction work which is more labor intensive this year and the EBITDA margin on that is lower than earthworks. So, I think dependent on that mix, we can be 22, 25-ish for the year.

[Rob Butler:]

We should see a pick up in the second quarter, Ben, compared to last year where we really struggled because we had to react to the cancellation of the contract, plus.

[Ben Cherniavsky:]

I remember that, yes.

[Rob Butler:]

So, our trend of seasonality should continue with an improvement in Q2.

[Ben Cherniavsky:]

And then on CapEx, can you talk about what we can expect there? I think you made a mention of growth CapEx, I wasn't sure if that was a net total CapEx or just for growth but the number that you would anticipate this year and the CapEx number all-in?

[Martin Ferron:]

So, in terms of maintenance capital, we’d be about 35 million. So, what we talked about in the press release and the prepared remarks was a one-off investment in the new maintenance and office facility for 28.

[Ben Cherniavsky:]

And so that will be how much additional?

[Martin Ferron:]

28 on top of the 35.

[Ben Cherniavsky:]

Oh sorry, 28 on top of the 30, 35. Yes, okay. So, that's -- so clearly you're reinvesting in the business and you've got the growth to justify it. But in the last three or four years Martin you really have been focused on returning cash to shareholders, de-leveraging the business. We saw that the dividend get implemented some pretty aggressive and well-timed buybacks. What are the -- how would you sort of sort the capital allocation priorities going forward in each of those buckets if you looked at growth CapEx versus dividends, buybacks, debt reduction and for that matter any potential M&A that you see?

[Martin Ferron:]

Yes, just a comment there. We actually invested about $20 million in secondhand equipment during the downturn which is really paying off right now. So we allocated capital to buy extra trucks. The pieces of equipment that are all working now at good pricing. So, I think that was a reasonable capital allocation move in the downturn also. So, we're just investing $28 million in the new facility for maintenance and office, so that's going to hopefully contribute really well. We continue to look at M&A. But when you're trading yourself at a multiple in the 3s, it's kind of hard to do an accretive deal. To be honest with you, we're so pleased with our organic opportunities that we're quite consent to stay on that track with the growth that we foresee. If the stock price continues to be in the doldrums, I would expect us to maybe even do another buyback this year, and just keep going until things turn around.

[Ben Cherniavsky:]

But do you have the -- do you think you have the financial flexibility and being conservative and prudent with the balance sheet to do all that?

[Martin Ferron:]

Yes, we’ve got 90 million of senior debt right now. So we are planning our liquidity. We have no issues with covenants. So to buy another -- we have 1 million shares under the existing buyback to go, so we’ll finish that off in the next few months, I am sure. And then, coming August, we’ll see where we are and do another one, if the current situation still prevails.

[Ben Cherniavsky:]

Okay, just on the maintenance facility then, when will that be ready?

[Martin Ferron:]

We hope to be in it by the end of the year, alright. So obviously it will take a little bit of time to get going in terms of the follow maintenance services. So we will be ramping up that during the course of next year. But we hope to get to 20 million to 30 million over the next two, three years.

[Ben Cherniavsky:]

And any -- can you give any color on who the customers are, you mentioned two new customers you got there already, what industries, what their sizes, anything that might help us understand who you are pursuing with this investment in terms of third-party business?

[Martin Ferron:]

So it will range from our oil sands customers to other contractors who rent equipments, a coal miner is just going to send us some equipment. So the word is spreading that we're offering this service now, and I think customers are very keen to try it out and we are extremely pleased with the take up on it.

[Ben Cherniavsky:]

And their competitors in that would be -- who would you be taking business from the companies who are doing this themselves or sending it to Finning or other dealers?

[Martin Ferron:]

Yes, it’s mainly the OEM, yes. We’d be taking it from.

[Ben Cherniavsky:]

Okay, that’s great. Thanks a lot guys.

[Martin Ferron:]

Thank you.

[Operator:]

[Operator instructions]. Your next question comes from Yuri Lynk with Canaccord Genuity. Please go ahead, your line is open.

[Yuri Lynk:]

Good morning, guys. Nice quarter.

[Rob Butler:]

Thanks, Yuri.

[Yuri Lynk:]

Just wanted to circle back Martin on the CapEx, you did mention at the outset that you sounds like that the fleet is fully utilized. I think you are renting more equipment than what would be typical. Is there a need to spend beyond the $35 million maintenance to perhaps expand the fleet further or do you have sufficient slack to handle 15% more EBITDA this year?

[Martin Ferron:]

Yes, we are looking at that Yuri. And obviously it’s early in the year still and our workload is coming together. So we’d like to use rentals to kind of peak shave if you like. But we think this upsurge in demand is for real this time, so it might make some sense to invest in some new equipment. Fortunately, we did invest in some good used equipment during the downturn as I mentioned earlier and that’s helped us out pretty well. We do have equipment coming back from the coal mine, as I mentioned in April, so that will help us address higher margin oil sands work. But 35 million is our starting number, we will look to address that according to how the year pans out.

[Yuri Lynk:]

Okay. How much will that depend on I guess your outlook, I mean we are early in the year right no, what does the year look like depending on how successful you are on the construction jobs that are being tendered at present? Is there -- it cannot result in a wide swing in potential outcomes for the year because you said it was pretty robust. I'm just trying to get a feel for what that might look like?

[Martin Ferron:]

Q3 for the construction season could benefit from this upswing in civil opportunities. You may recall back in 2014 in the third quarter our EBITDA, from memory, was about 22 million, 23 million. So we haven’t been able to achieve that since because the construction work fell off. So it could be that we can get back to near that sort of number with as Rob mentioned a better Q2 also because hopefully we won't get a contract cancel on this at the last minute. So, yes, where we are now, it's all about March right. Q1 is all about the weather in March, when does a little warmer weather come. If we get pass March and we're in good shape and on the next call I think we will be able to give you lot more color on the full year.

[Yuri Lynk:]

Okay. And just to square away something you mentioned in response to one of Ben’s questions. I thought your EBITDA margin goal for the year I thought you said 22% to 25%. I mean given that this construction work is structurally lower margin, how do I square that with assuming increase in EBITDA margin for the year?

[Martin Ferron:]

I think we will see a little bit of pricing power on earthworks, plus on the construction activity too. But there really is right now a shortage of resources equipment. So I think we can achieve a little pricing escalation, plus we have some ideas on our execution too.

[Yuri Lynk:]

Okay. And last one if I can just fit it in. Working capital you have seen $21 million investment in the back half of the year. What does that look like? Do we see that unwind or is that reflective of the growth in the business? Just trying to get a feel for.

[Rob Butler:]

It’s definitely a seasonal growth. You would have seen the same thing last year as we ramped up for our winter works. And given the customer trends, we start to see that unwind roundabout March, April time period. So you start to see the cash coming in in Q2 for the windup of the winter works program.

[Operator:]

Your next question comes from Maxim Sytchev with National Bank. Please go ahead. Your line is open.

[Maxim Sytchev:]

Martin, just to circle back on the pricing power, can you quantify this or this is still sort of early days?

[Martin Ferron:]

Yes, I think it’s a little early. But maybe I'll just make this point that, I think there is misconception out there that just because we have got MSAs that last long time, pricing is locked in. It’s certainly not the case, because distinct projects, pieces of work get bid separately so we take price according to market conditions that prevail when we’re pricing it, right. So, I think we maybe get the opportunity to take some more prices here on certain scopes. The coal mining project that we talked on at low margin last year will fall off in April, and hopefully we'll replace that with better margin work. So, all that coming together will lead to the margin estimate I gave.

[Maxim Sytchev:]

Okay, now that’s very impressive. Do you mind maybe also going through some of the opportunities outside of oil sands that you're bidding right now, just if you can talk about the potential funnel for 2018, how that's unfolding?

[Martin Ferron:]

Yes, so, taken them by category, other resources, unfortunately we talked about a gold mine opportunity last time and the customer has not got financing for it yet, so that one will probably slide in time. But we've got another gold mine in the same area that we're looking at addressing. And we're looking at the coal opportunities plus copper. So, there are several opportunities that are related to other resources. On infrastructure, we mentioned in our filings that we’ve pre-qualified to bid for a major gravel road construction contract in the northwestern territories. So we're bidding that right now and hopefully we can have some success as part of the pretty strong consortium there. The Fargo-Moorhead flood mitigation project will eventually revive, I hope. It's in a whole pattern right now, as they sort out some design issues. But hopefully that will get back on track and we'll be bidding that. And we continue to look for other infrastructure projects that involve significant earthmovers. And then obviously in terms of the expansion of our services, the investment in the new shop and office facility is meant to really take our major step further.

[Maxim Sytchev:]

And actually on that point, will you have to hire incremental labor to be able to do this work, or is that right now just mostly on CapEx that we should be thinking about this opportunity?

[Martin Ferron:]

Yes we will have opportunities for to add incremental people for the shop for sure. But here in Edmonton it's easier to get people than it is in Fort Mac. So, we think we can find those people and attract them to work for us in a great new facility, and we'll look forward to that.

[Maxim Sytchev:]

And then one of the things that you mentioned, I just wanted to get the number right, the 20% of revenue generation outside of the oil sand, is that for Q4 or for the entirety of 2017?

[Martin Ferron:]

Q4.

[Maxim Sytchev:]

And last question from me. In terms of the construction season, how that's shaping out, I mean can you quantify is that -- how much of that is catch up versus what is sort of true incremental demand which is coming back to the oil sands market right now?

[Martin Ferron:]

So it is a combination of both. This time last year we were looking forward to a pickup in construction but due to the plant fire at one of our main sites, some of the projects were pushed to the right again. So they have revived now. Another base mine, we are seeing good opportunity and the new Fort Hills mine is bringing opportunity. You might recall, we did a major drainage system project in 2014 and there’s a similar opportunity to bid such a project this year. So it’s a combination of both.

[Operator:]

Your next question comes from Devin Schilling with PI Financial. Please go ahead. Your line is open.

[Devin Schilling:]

Hi, guys. Nice quarter.

[Martin Ferron:]

Thank you, Devin.

[Devin Schilling:]

Just taking a look at your guys, this G&A line, we see three consecutive quarters here with year-over-year declines. Have we hit bottom here or how do you guys see this going into 2018 in 2019?

[Rob Butler:]

Yes, Devin. It’s Rob here. Our G&A is kind of hitting a predictable trend now. So, Q4 is always a little higher just with our autumn piece and things like that, but the numbers you are seeing last year, we’ll trend this year at some point we’ll hit a threshold where we’ll have to grow our G&A a little bit, but a lot of it is fix cost to us.

[Operator:]

Your next question comes from Ben Cherniavsk with Raymond James. Please go ahead. Your line is open.

[Ben Cherniavsky:]

Hi, guys. My follow-up has been asked. Thank you.

[Martin Ferron:]

Sure, Ben. Thank you.

[Operator:]

And you have no further questions in queue at this time. I will turn the call back over to Martin Ferron for closing remarks.

[Martin Ferron:]

Well thanks for joining us today and we look forward to talk to you again in the near future. Thanks.

[Operator:]

Thank you. And this concludes the North American Energy Partners conference call. You may now disconnect.