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DXP Enterprises Inc  (NASDAQ:DXPE)
Q3 2018 Earnings Conference Call
Nov. 05, 2018, 11:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good morning. My name is Sharon and I will be your conference operator today. At this time, I would like to welcome everyone to the DXP Enterprises 2018 Third Quarter Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions). Thank you.

Kent Yee, Senior Vice President and Chief Financial Officer, you may begin your conference.

Kent Yee -- Senior Vice President, Chief Financial Officer

Thank you, Sharon. This is Kent Yee and welcome to DXP's Q3 2018 conference call to discuss our results for the third quarter ended September 30, 2018. Joining me today is our Chairman and CEO, David Little.

Before we get started, I want to remind you that today's call is being webcast and recorded and includes forward-looking statements. Actual results may differ materially from those contemplated by these forward-looking statements. A detailed discussion of the many factors that we believe may have a material effect on our business on an ongoing basis are contained in our SEC filings. However, DXP assumes no obligation to update that information as a result of new information or future events.

During this call, we may present both GAAP and non-GAAP financial measures. A reconciliation of GAAP to non-GAAP measures is included in our earnings press release. The press release and an accompanying investor presentation are now available on our website at ir.dxpe.com.

I will now turn the call over to David to provide his thoughts and a summary of the third quarter financial results.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

Thanks, Kent and thanks to everyone on our 2018 third quarter conference call today. Welcome and thank you for joining us this morning and thank you to all the DX people for your hard work. DX people either come to a DXP facility or interact with a customer each and every day providing 100% effort to do a day's work in a day. One team, sales, operations, corporate, driving stakeholders' success and value creation. Our year-to-date results through nine months ending September 30, 2018 are a correct reflection of the DXP teamwork together aspiring to be the best solution for all our customers' needs.

DXP had another solid quarter. Demand remained strong in the third quarter and we continued to experience sequential increases in our quarterly sales per day basis. We have now gone eight straight quarters with sequential increases in our average daily sales for the quarter. We continue to believe that our value proposition to our customer is superior to our competition. Additionally, we continue to remain on track for gross margin improvement that we outlined at the beginning of the year.

Our results year-over-year have been consistent with our expectations and in line with our financial goals to grow 20% year-over-year through a combination of organic sales and acquisition growth. In terms of those areas where we have been looking for more consistent improvement in gross margin such as DXP's engineered-to-order business and our Canadian safety services business both have shown consistent improvement in gross margin since Q3 of 2017 and from a year-over-year basis have shown meaningful improvement. As it pertains to the operating environment, the ISM and PMI manufacturing index continued to be above average over the last 12 months. This supports the organic sales increase we have experienced through Q3. Additionally, the Metalworking Business Index continues to show strength.

In terms of tariffs and price increases, we believe our comments in Q3 were correct and that our current exposure is well understood and being effectively managed. There have been related price increases as a result of tariffs, but again DXP is in a position to effectively manage and/or find other sources to cover any tariffs or related costs. Plus our PumpWorks brand is made in America.

In terms of oil and gas, quarterly average oil prices drilling and DUCs continued to increase. Quarterly average oil prices for Q3 were up 45% from Q3 of 2017 and 2% from the second quarter of 2018. Overall, momentum continues in our business and we remain focused on a DXP smart recovery and transitioning to a celebrated efficient growth as we move into 2019. Our goals for growing the top line and bottom line as well as being fast convenient and customer driven for all our customers remains our focus. In terms of our publicly stated goal of 10% plus EBITDA margins, year-to-date we have improved 128 basis points compared to this time last year and we are on path that we expect. As we continue to grow sales and improve gross margins, we will create the operating leverage and thus the EBITDA margins we expect.

Turning to our results, total DXP revenue of $308 million for the third quarter of 2018 was 22.3% increase year-over-year. This reflects stability, rebound and growth in our end markets as well as the addition of application specialties. For the third quarter, application specialties contributed $12.1 million in sales. Adjusting for the acquisition of application specialties, total DXP sales increased 17.5% year-over-year. Again this is our -- consistent with our financial goals of growing the business through both organic and acquisition driven growth. As we move into 2019, we expect to continue to see strength in our organic sales and we will look to add more growth via acquisitions.

In terms of sales increase by segment, we continue to see strength in our capital project MRO and OEM business, innovative pumping solutions sales increased 50% year-over-year to $76.7 million while service centers sales increased 16.7% year-over-year to $187.8 million and supply chain services sales increased 8.9% year-over-year to $43.6 million.

Innovative pumping solutions increase was primarily driven by increases in DXP's PumpWorks product and modular packaged equipment for the onshore market. Sequentially IPS experienced a 3.2% increase from Q2 of '18 to Q3 of '18 or $2.4 million sales uptick. In terms of the strength in the IPS backlog, it has continued to grow through 2018. IPS quarterly average backlog increased 49.2% from Q3 of '17 to Q3 of '18 and 26.1% sequentially from Q2 to Q3 of '18. The service center year-over-year sales growth was primarily driven by increases in our rotating equipment, safety products and services and metal working product divisions. Within service centers, we saw particular year-over-year strength in DXP safety service Southwest, Southeast regions as well as our steel division.

DXP's overall gross profit margins for the third quarter were 27.3%, a 71 basis point improvement versus Q3 of '17. Adjusting for the acquisition of ASI, gross margins were 27.6% or a 106 basis point improvement over Q3 of '17. DXP's gross profit margins expanded significantly from Q1 to Q2 and remained in line in Q3 based on our expectations and commentary going into 2018. The improvement in gross profit margins through the third quarter are a result of combination of sales increases in IPS segment along with improvement in the average gross profit margin on capital-related projects and the consistent strength and improvement in service centers MRO business.

SG&A as a percent of sales declined due 217 basis points going from 24% in Q3 of '17 to 21.8% in Q3 of '18. At the end of the third quarter DXP had approximately 2,660 full-time employees. In terms of my thoughts on the SG&A, SG&A will increase as expected and reflect our investment in our people and our organization as we focus on accelerating growth going into 2019. We are a sales-driven organization and we expect to make investments in our sales team as well as the operations in corporate teams that support such growth. SG&A includes both fixed and variable cost and as we all know, in terms of DXP's fixed cost as we grow our sales, our fixed cost as a percentage of sales will decline. And this will help us achieve our 10% EBITDA goal.

DXP's overall operating income margin was 5.5% or $16.8 million, which includes corporate expense and amortization. This reflects a 288 basis point improvement in margins over Q3 of '17. That being said, we still have a ways to go to full recovery and feel there is opportunity in our operations to be more efficient. This quarter, we continue to benefit from the leverage we get as SG&A's growth is less than the overall sales growth within the business plus gross profit margin improvement.

IPS's operating income margin was 11.4%, service centers' operating income margin was 11% and supply chain services operating margin was 8.9%. Supply chain services experienced margin contraction which is a result of higher than normal ramp-up costs associated with seven new sites. We are expanding these seven new customer sites whereby we hire the personnel, convert the customer store rooms to our standards, which causes DXP to incur upfront costs. Once we go live, revenues start, sales among -- along with an improvement in margin should come along with the completion of the start of the base (ph). Overall DXP produced EBITDA of $23.2 million versus $13.5 million in '17, a year-over-year increase of $9.7 million or 71.9%. EBITDA as a percent of sales was 7.5% versus 5.4% in Q3 of '17.

In summary, we are pleased with our overall momentum. We are on pace this year to deliver 20% sales growth year-over-year, while improving EBITDA margins. While we have made progress over the past two years coming off the bottom we believe we still have room to drive better growth and operational execution. We know that DXP has a differentiated, compelling value proposition. DXP sales, operation and corporate functions remain energized and continue to work toward creating value for our customers.

DXP is on path of its financial goals, driving organic and acquisition sales growth, EBITDA margin improvement and earning per share increases. During the quarter this included 22% sales growth, 72% EBITDA improvement and a 188% increase in earnings per share respectively. DXP has a great team focused on producing great results for our customers, our suppliers and our shareholders alike. All three business segments performed well during the third quarter. We will continue to deliver margin expansion, while ensuring operational efficiency and -- efficiencies and investing in people, tools and automation where appropriate. We will drive change, innovate for growth and lead smarter.

With that I will now turn it back to Kent to review the financials in more detail.

Kent Yee -- Senior Vice President, Chief Financial Officer

Thank you, David and thank you to everyone for joining us for our review of our third quarter financial results. As David said, Q3 was a great quarter for DXP and our results are in line with our expectations and reflect the momentum we were anticipating going into fiscal 2019. As David mentioned, we are growing through a combination of organic and acquisition driven sales. The Q3 2018 financial results mark our eighth consecutive quarter of increases with respect to quarterly sales per business day.

Total sales for the third quarter increased 22.3% year-over-year to $308 million. Adjusting for the $12.1 million in Q3 sales contribution from ASI, organic sales increased 17.5%. Total sales growth for the third quarter was supported by all three business segments, reflecting the continued expansion we are seeing from existing and new customers and the overall relative strength of our end markets. Average daily sales for the third quarter were $4.9 million per day in Q3 2018 versus $4 million per day in Q3 2017. Adjusting average daily sales for ASI average daily sales for Q3 increased 17.5% or were (ph) $4.7 million per day.

The overall growth reflects what we are seeing in some of our key end market indicators through the first nine months of 2018, including the rig count, US oil and gas production, drilling, the Metalworking Business Index, the PMI and the overall average increase in the price of oil. The ISM, PMI manufacturing index has moved from a reading of 60.2% for June to a 59.8% reading for September. The trend continues to be above the average over the last 12 months of 59.2%. This supports the organic sales increases we have experienced through Q3 and particularly in our industrial end markets. Additionally, the Metalworking Business Index continues to show strength with a reading of 56.9%. The Q3 average rig count increased by one rig in Canada and 105 rigs in the US compared to the Q3 average in 2017.

In terms of our business segments all three experienced sales growth year-over-year with IPS showing the greatest improvement increasing 50%, followed by our service centers, which experienced 16.7% growth year-over-year and supply chain services with 8.9% growth. Similar to Q2, businesses within our IPS segment, which experienced year-over-year sales growth in Q3 include our configured to order, engineered to order, remanufacturing businesses and our branded private label pump offering. Additionally, we have seen growth of rebound in projects focused on onshore applications.

Regions within our service center segment, which experienced meaningful sales growth include the Southwest and Southeast regions. Additionally, we saw a meaningful increase within our steel (ph) and metal working product divisions. These businesses are located in Texas, the Northeast and North Central regions of the US with a growing presence in the Pacific Northwest with our ASI acquisition. In terms of supply chain services, as David mentioned, we are in the process of implementing seven new sites that should start to impact revenue in Q4 and moving into Q1 and Q2 in 2019.

Turning to our gross margins, DXP's total gross margins were 27.3% adjusting for the acquisition of ASI. Gross margins were 27.6% in Q3 versus 27.8% in Q2. DXP's total gross margins for Q3 reflect the progress we continue to make in our engineered-to-order business and our Canadian safety services. The 5 basis point decline from Q2 to Q3 reflects a 73 basis point contraction in IPS gross margins from Q2 to Q3, which was primarily the result of project mix. This was offset by a 31 basis point improvement in service center gross margins. In terms of operating income combined business segment operating income margins improved 231 basis points year-over-year versus Q3 2017.

Total DXP operating income increased to 158.3% versus Q3 2017 to $16.8 million. IPS had the greatest uptick improving operating income margin 784 basis points to $8.7 million on operating income, followed by service centers, which had a 130 basis point improvement to $20.6 million. Supply chain services decreased to 104 basis points year-over-year. This is primarily driven by the decrease in gross profit margins associated with the implementation of seven new SCS (ph) sites and revenue not fully scaling as mentioned earlier.

Turning to EBITDA, third quarter 2018 EBITDA was $23.2 million, up 71.9% from Q3 2017. Year-over-year EBITDA margins increased 217 basis points, primarily reflecting the fixed cost, SG&A leverage we experience as we grow sales. Sales growth of 22% with 11% SG&A growth year-over-year. This translated into 3.2 times operating leverage in Q3. As we move through the cycle we should experience continued operating leverage as long as we continue to drive organic growth and consistent improvement in gross margins. In terms of EPS, our Q3 net income was $8.4 million, this is up $5.4 million or 183% versus Q3, 2017. This resulted in earnings per diluted share for the third quarter $0.46.

Turning to the balance sheet. In terms of working capital, our working capital increased $49 million (ph) from the prior year and $2.6 million from Q2 to $211.6 million. In Q3 we remain focused on providing the capital to support growth in our businesses. Working capital as a percentage of the last 12 months sales for the third quarter was 18.1%. This is above our historical average, but reflects a 67 basis point improvement compared to Q2 and is consistent with our averages during this fiscal year.

The main driver of the increase in working capital includes cost and estimated profits in excess of billings and inventory. Cost and estimated profits has increased $11.5 million from Q4 2017 and inventory is up $25.1 million from Q4 2017. This reflects DXP carrying higher levels to support our revenue growth and investment in project related work. We achieved inventory returns of 7.6 times, down from 8.5 times a year ago. From Q2 inventory is up $5.8 million and cost and estimated profits is only up $489,000. In terms of cash, we had $16.4 million in cash on the balance sheet as of September 30.

In terms of CapEx, CapEx in the third quarter was $2.2 million or 0.7% of third quarter sales. Compared to the same period in 2017, CapEx dollars are up $1.2 million. CapEx during the third quarter reflects investments made within our IPS business segment including the purchase of patterns for our manufacturing business and some smaller items including various tools and equipment. We also are making investments in software to enhance our sales and corporate operations.

Turning to free cash flow, we generated solid operating cash flow during Q3. This quarter we saw cash flow from operations of $16.8 million and $9.8 million year-to-date through Q3. This puts us ahead of where we were this time last year by $1.3 million. For Q3 and the nine months ended September 30, we generated $14.6 million and $2.1 million of free cash flow respectively. If we add the $2.5 million in proceeds we received from settling a corporate building during Q2, DXP has generated $4.6 million of free cash flow through Q3 versus $6.4 million a year ago, while growing the business 17.5% organically. While we are always looking to enhance and improve our cash flow generation, we are comfortable where we are at, at the end of Q3 with further improvements to come in the future.

Return on invested capital or ROIC increased 126 basis points from Q2 to 19.5% and continues to improve as we drive margins and operating leverage. In terms of our capital structure, as we discussed in Q2, we repriced our Term Loan B, reducing our borrowing cost to LIBOR plus 4.75%, reflecting the 75 basis point reduction. This generated interest expense savings in Q3 and we will continue to look for opportunities to optimize our cost. We have two main covenants under the ABL on Term Loan B, including the fixed charge coverage and secured leverage ratio. At September 30, our fixed charge coverage ratio was 3.3 to 1 and our secured leverage ratio was 2.7 to 1. Total debt outstanding as of September 30 was $249.6 million.

In conclusion, as we finished 2018 strong and start planning for 2019 we are pleased with our ability to have eight sequential quarters of increases with respect to quarterly sales per business day. This has included organic sales and acquisition growth, EBITDA margin expansion with room for improvement and meaningful diluted EPS growth. Momentum has been good and we look forward to pushing this into 2019.

At this point, I'll now turn the call over to questions for David and I.

Questions and Answers:

Operator

(Operator Instructions) And your first question comes from Joe Mondillo with Sidoti & Company. Your line is open.

Joseph Mondillo -- Sidoti & Company -- Analyst

Hi, guys. Good morning.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

Good morning, Joe.

Joseph Mondillo -- Sidoti & Company -- Analyst

So I want to ask just about sort of you mentioned about pricing in costs. Is that a net positive or a net negative in terms of trying to stay ahead of inflating costs?

David R. Little -- Chairman of the Board, President and Chief Executive Officer

So I think it's a positive within a (ph) positive. First of all, it's a positive for our PumpWorks manufacturing and brand because it's made in America and so therefore we don't have any incremental increase in cost. And so that helps us being more competitive in the marketplace on other pump manufacturers that are making stuff in China and et cetera. The other suppliers and people, the price increases we're seeing really are in the 3% to 4% range. They're not -- we're not seeing 25%. So people either have a blended cost or whatever and so they are raising prices and so we haven't seen that in a long, long time. And as you know, distribution loves price increases because our inventory increases in value and as long as the price increases are reasonable and justified then we are able to pass those on to our customer.

Joseph Mondillo -- Sidoti & Company -- Analyst

Okay. And I'm glad you mentioned PumpWorks because I wanted to ask about that. How has the feedback and adoption rates with your customers -- how has that been over the last -- how has that trended over the last few years since you introduced that and you mentioned how more competitive you are as some of the OEM manufacturers, I assume, are manufacturing their pumps overseas? Could you talk a little bit more about that as well?

David R. Little -- Chairman of the Board, President and Chief Executive Officer

So PumpWorks, as you know, is not a very old company and so it's not a household name and yet when we added that to our DXP channel of pump experts we felt like we have done extremely well. We're exceeding what we've done in the past with other brands and so -- now that said '15 and '16 were tough years. So we kind of -- I think we did really, really good during that time, but it's really taking off in '17 and '18 to the point now where we're having to buy additional -- you saw some CapEx expenses and stuff, we're having to buy extra machines to keep up the demand. And so that -- manufacturing has a fixed cost component to it, so as sales volume goes

up, so do profitability and so we're seeing that and so we're very pleased with PumpWorks.

Joseph Mondillo -- Sidoti & Company -- Analyst

And has the growth rates there been above or below the Company average, sort of revenue growth rates that you see?

David R. Little -- Chairman of the Board, President and Chief Executive Officer

PumpWorks is part of IPS and IPS has had 50% growth rate.

Joseph Mondillo -- Sidoti & Company -- Analyst

Yeah, OK. And that leads me to the backlog that you see. IPS you stated that it was up quite significantly. I assume we can -- looking at the order trends that you're seeing, I assume things are really -- still really healthy and the environment looks pretty good, could you just sort of comment a little bit more on that?

David R. Little -- Chairman of the Board, President and Chief Executive Officer

Sure. We're coming to the end of the year. The oil and gas people typically have capital budgets and so there's some people that are kind of exhausted their capital budgets. But what happens this time of year is that people are working in terms of designing and using our expertise and putting projects together and getting them quoted, getting them -- getting the numbers so that they can budget for next year along with some people getting a lot of equipment that ships at the end of the year. A lot of times, our fourth quarter is one of our strongest quarters. It has always been that case, but it can't (ph) be, and -- so what we're seeing this year is that we're seeing a lot of quoting activity, a lot of effort, a lot of people planning for 2019 which we feel very good about.

Joseph Mondillo -- Sidoti & Company -- Analyst

Okay. And the gross margins at IPS were down from the second quarter. I think Kent mentioned it was sort of a mix issue. What did the gross margins look like in the backlog? Do you anticipate margin expansion or contraction at all? How does the mix look like in the backlog?

David R. Little -- Chairman of the Board, President and Chief Executive Officer

I think that we're driving increased margins. That said, the mix is important. If we're doing -- if all our business is coming from $6 million and $8 million projects where the margins are smaller, they shouldn't necessarily be, but they are and if we're doing $1 million projects, the margins are greater. So we're having a mix of those and I don't know what that really looks like going forward. I hear about all million dollar orders and all $6 million orders, but -- so I'm not quite sure what the mix is there. But even on the $6 million order, we're trying to get our margins up. From $1 million order that we get good margins we're trying to still get them up. So I think we should see IPS have incrementally better gross margins. That said --

Joseph Mondillo -- Sidoti & Company -- Analyst

And with all -- OK, go ahead.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

Go ahead. No, that's all right. That's fine.

Kent Yee -- Senior Vice President, Chief Financial Officer

Joe, the only thing I would --

Joseph Mondillo -- Sidoti & Company -- Analyst

Go ahead.

Kent Yee -- Senior Vice President, Chief Financial Officer

Joe, the only thing I was going to add is I think to what David said is obviously we've been harping on gross margins, not just with you guys, but internally in our organization and so I think we've got our teams focused on it. These jobs in IPS have different life cycles, if you will, some are six months, some are nine months and so depending upon that mix which in any given quarter we don't have necessarily a lot of control over make an impact gross margins slightly up or down. And so, I think we're focusing on it, but we have a additional measures just to make sure -- I know, Todd Hamlin, our Senior VP of Sales for Service Centers and IPS, for example, he's digging (ph) his eyes on some orders that may be in the past historically we may have not looked at and refined detail. And so, he's just making sure that when guys are quoting or bidding that work that those margins are where we expect.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

Joe, I want to -- I think this is worth commenting on because maybe you've been around a while here. So I appreciate you covering us for a length of time you've done. So when we were back in the 2014 or 2013 (ph) we have -- we had a lot of offshore packaging and we had a lot of engineered-to-order type packages that also went offshore. And both of those -- that market whether it was in South Africa or in the Gulf of Mexico, we made higher gross profit margins back in those days. Those were more complex jobs, there were more engineering to them and there was fewer people they could do that type of work and we made higher gross profit margins. Now that we have shifted to onshore along with kind of the midstream pipeline business too, our product mix has changed. We've done a fantastic job of growing that business back. It's going to produce really good results, and -- but it's probably never going to have those 2013 gross profit margins again unless you can bring the offshore market back for me, then I'm really going to do really good. Does that make sense?

Joseph Mondillo -- Sidoti & Company -- Analyst

I'll try to do my best, sir.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

Okay. It's coming back -- it's coming back Sunday.

Joseph Mondillo -- Sidoti & Company -- Analyst

So it sounds like you -- there is no sign of that sort of coming back tomorrow at least.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

It's not going to be back tomorrow, but it's maybe only a couple of years out. I mean we're here in the projects and we're seeing some stuff, we're -- there are some stuff coming but it's not big and not -- it's not like it once was.

Joseph Mondillo -- Sidoti & Company -- Analyst

Okay, great. Well, I have a couple more questions, but I'll let someone else have a shot at that right now. Thanks.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

Okay. Sure.

Operator

Your next question comes from Blake Hirschman with Stephens, Inc. Your line is open.

Blake Hirschman -- Stephens Inc. -- Analyst

Yes, good morning, David and Kent. Congrats on a great quarter yes.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

Thanks, Blake.

Kent Yee -- Senior Vice President, Chief Financial Officer

Thanks, Blake.

Blake Hirschman -- Stephens Inc. -- Analyst

First off, just wanted to ask about monthly trends to see what the monthly sales per day looked like throughout the 3Q and was also curious if you might give us any indication as to what October?

Kent Yee -- Senior Vice President, Chief Financial Officer

Sure. Sure, Blake. This is Kent. I'll just walk through July, August and September and then give you a preliminary look at October. I will catch October as a draft just because we are having our earnings call a little quicker and than we have sometimes in the past. But for July sales per business day were $4.7 million; for August, $4.6 million; for September excuse me, $5.5 million, the Q3 obviously average was the $4.9 million and then for October, it was $4.7 million.

Blake Hirschman -- Stephens Inc. -- Analyst

All right. Got it. And I think you called out expecting 20% growth this year, which looks like that imply something like a 2% or so sequential decline from 3Q to 4Q, which is pretty in line with what you've seen over the last few years on average. So, A, I just wanted to ask if I got that right and B, if there's any other kind of dynamics at play we need to think about when we're looking at the seasonality here?

Kent Yee -- Senior Vice President, Chief Financial Officer

Yes -- no, I mean I think a couple of comments. One, yes, we've been combine organic plus acquisitions kind of call it roughly around the 20% this quarter, 22%, and so we fully expect that ASI has been a strong performing acquisition for us. They are ahead of budget at this point through Q3 and so we expect that going into Q4. That said, you do have an additional business day going into Q4, you have 64 business days, but you have the holidays and so we're mindful of kind of the more recent trends in our business meaning last year which you picked up on and the fact that, one, we've got an election coming up that will stall the world for a moment in time. Then you have Thanksgiving holiday and then you have the Christmas holidays. Thanksgiving falls obviously on a Thursday. So you get mixed performance the day after Thanksgiving. And then this year, Christmas falls on a Tuesday. So once again, we're just --- we're trying to factor all that in. Obviously, we don't have that crystal ball, but that kind of feeds our thinking. But sales per business day for a quarter, we probably would expect a continued improvement is the way I'll put it. We don't formally give guidance, but continued improvement.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

I think Blake you're trying to refer to a generalized comment that we feel good about doing over 20%. We weren't trying to target that exact number. So you're reading in a decline that might (ph) come in exactly at 20% I think. I think you're reading a little too much in there if that's what you said.

Blake Hirschman -- Stephens Inc. -- Analyst

Got it. All right, that makes sense. And then kind of on the same lines of do not having a crystal ball here, any color as to what you might be hearing from your customers when they're thinking about their outlook for spending next year kind of anyway to I guess frame up the potential growth?

David R. Little -- Chairman of the Board, President and Chief Executive Officer

No, we don't -- we're not hearing about budgets yet, but we have tremendous amount of quoting activity and a lot of big projects on the boards, whether they are midstream or intermittent funds, midstream, upstream different a little bit, but we kind of -- we think the gathering platform is really midstream by the way. The upstream is merely drilling and fracking. Then once the product comes to the surface, then everything else after that is kind of midstream, but -- until we get to downstream that's different. But we have a -- there's a lot of -- our activity level is very high.

Blake Hirschman -- Stephens Inc. -- Analyst

Got it. And then just one more then I'll pass it on. 50% growth in IPS, the two-year stacks almost 80%. Can you give us any sense as to how much you think the pump's overall kind of market growth is and what are some of the factors behind what I assume is pretty substantial market share gains there? Thanks.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

Yeah, we -- from PumpWorks engineered-to-order which we're really not doing very much of, but we are quoting a lot of that kind of stuff now and that has really high margins, and then our configured to order modular package business, our backlogs indicating that we're going to continue to grow and our quoting activity sales we're going to continue to grow. And so whether or not we're stacking on another 50% (ph) or 10%-plus, I don't I -- I'd be guessing a little bit but we feel really good about 2019.

Blake Hirschman -- Stephens Inc. -- Analyst

All right. Thanks a lot.

Operator

Your next question comes from Steve Barger with KeyBanc Capital Markets. Your line is open.

Ryan Mills -- KeyBanc Capital Markets -- Analyst

Good morning, guys. This is Ryan Mills on for Steve.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

Hey, Ryan. How's it going?

Kent Yee -- Senior Vice President, Chief Financial Officer

Hi, Ryan.

Ryan Mills -- KeyBanc Capital Markets -- Analyst

Going good. Yes, just solid incremental margins past two quarters and I'm just thinking about tougher comps heading into 2019. So I'm just curious, do you believe you can maintain these incrementals in a low single, mid-single digit growth environment?

Kent Yee -- Senior Vice President, Chief Financial Officer

You're right. The comps obviously get harder (inaudible) once again, call it 15%-plus organic growth year-over-year and then as we kind of roll in ASIs organically going into 2019, I think, pay. We also believe we got organic strategies kind of -- always have that kind of support that growth when we are coming off to bottom. So I think as we go into 2019 will you see double digits once again, we don't give guidance, don't have that crystal ball. But we're driving growth, we believe we're a growth company and so we're going to push organic. I think what you also here in our comments is that our goal to David's earlier comments to Blake, which he was reading into, our financial goals have always been 20% growth through a combination of organic and acquisition driven, so that's what we're focused on. And so in our Q3 commentary, we're kind of -- given you inclinations that in 2019 we'll support it with some acquisitions as appropriate.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

So, Ryan, let's understand that from a financial modeling point of view we've invested -- coming off the bottom, we've invested quite a bit in working capital and then some CapEx to grow PumpWorks et cetera. And so that's kind of where our money has been going of late. But when -- if organic goes from 22.5% to 10% (ph) well, then we won't be spending that kind of working capital money. And so then we take that money and go out and buy other companies and we've done that very successfully. It works from a cash flow point of view, so we feel comfortable that we're going to be at 20% one way or the other.

Ryan Mills -- KeyBanc Capital Markets -- Analyst

Okay. And then, another quarter of solid gross margin performance and I know you talked about the potential mix headwinds and you're not sure about that, but historically gross margins are down from 3Q and 4Q. And given the strong performance you had this quarter, how should we think about gross margins in 4Q '18?

Kent Yee -- Senior Vice President, Chief Financial Officer

Well, I think our gross margins, just to kind of maybe correct you just directionally a little bit, Ryan, are in line with where we kind of discussed at the beginning of the year. I think at the beginning of the year after Q3 of last year, having that downturn on gross margins in the 26% range, we said hey from there we were going to improve, call it, 15 to 20 basis points a quarter. And so, if you net look where we're at, we're roughly on top of that through Q3 and so I think once again that commentary remains the same as we go into Q4. Is it a perfect straight line? No. Was Q2 up significantly? Yes. But net kind of where we're at kind of year-to-date, I think we're in line with what we expected, if that answers your question.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

And, Ryan, I'll just -- I want to add something. I don't think people appreciate that as the oil and gas market -- just we're concluding the second inning of hopefully a seven or nine-inning ballgame here, we're starting to have and so is our competition having some capacity issues and especially in terms of our desire to be the fastest on delivery of anybody in the marketplace and the customers wanting things faster. So faster creates an opportunity to create value. And we're taking that value and we need to capture it in our prices because our customer will pay for it if they see that value. And so that's what's driving sort of increases certainly in IPS and in certain parts of our service centers. And then SCS, it's just -- their margins are down a little bit, they will get them back. They are just in a stage where they're investing in some new business and we're not getting the revenues into corresponding offset to that. So that will get that back. So to answer your question very splendidly (ph) is I expect our gross profit margins to go up and I don't see any reason for them not to besides maybe tariff is something that we can't pass on, but that's not very likely and really.

Ryan Mills -- KeyBanc Capital Markets -- Analyst

(multiple speakers) good to hear. And then --

David R. Little -- Chairman of the Board, President and Chief Executive Officer

I'm not -- I can't predict wrong.

Ryan Mills -- KeyBanc Capital Markets -- Analyst

And then just one last question for me, just thinking about the significant EBITDA margin improvement year-to-date. And, Dave, I know it's your goal to get to 10%. So can you walk us through on how you're going to get there, and do you have an idea in mind of the revenue levels you need to have to achieve that target?

David R. Little -- Chairman of the Board, President and Chief Executive Officer

So we're 7.5%, so we're 2.5% off. So I really expect to exceed 10% because I would like to see a 2% improvement in gross profit margins and I'd like to see something north of 0.5% (ph) improvement in SG&A and that more than gets us there.

Ryan Mills -- KeyBanc Capital Markets -- Analyst

All right. Thank you.

Operator

(Operator Instructions) And we have a question from Joe Mondillo, Sidoti & Company. Your line is open.

Joseph Mondillo -- Sidoti & Company -- Analyst

Hi. guys. Just two follow-up questions. The operating margin that you saw at the service center segment better than I was anticipating. I know I've talked to you Kent a couple of times on sort of seasonality and sort of the volatility in the operating margin at this particular segment. Just wondering sort of what drove the expansion in this quarter.

Kent Yee -- Senior Vice President, Chief Financial Officer

They had --

David R. Little -- Chairman of the Board, President and Chief Executive Officer

It's gross margin.

Kent Yee -- Senior Vice President, Chief Financial Officer

Yeah, that's -- yeah, that's what's I was saying.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

Gross margin. I mean, we're pushing our value proposition. We deserve more.

Joseph Mondillo -- Sidoti & Company -- Analyst

Okay.

Kent Yee -- Senior Vice President, Chief Financial Officer

Yeah, we roughly had a 31 basis point improvement, Joe, from Q2 to Q3 in gross margins around service centers and so a lot of that fell to the bottom line. Absolute SG&A dollars went up obviously slightly but not as much as the improvement from the gross margin. So that builds those operating income margins that you're seeing.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

And then you SCS, you didn't ask, but I am going to tell you, SCS had about $0.5 million more in expenses that has to do with the start-ups of these new sites. That is the reason why their operating income went down slightly.

Joseph Mondillo -- Sidoti & Company -- Analyst

Okay. And the seasonality at service center, you tend to get a little higher margin in the winter months. Is that right?

Kent Yee -- Senior Vice President, Chief Financial Officer

In Canada, as Canada gets cooler, what you're getting at Joe, as Canada gets cooler, it may go into the busy season that creates some seasonality in our financials. And so that said once again we've also been seeing consistent improvement in steadiness is the way I'll put it from Q2 to Q3 in the gross margins of Canadian safety services. And so -- but, yes, Q4 as you get into the winter seasons for Canada and then maybe a month or so of Q1, the cold season in Canada is when they do their busy work and then breakup happens so.

Joseph Mondillo -- Sidoti & Company -- Analyst

Okay. And last question for me. I noticed your debt levels stayed pretty flattish compared to over the last couple of quarters. Just wondering sort of how you're thinking about cash flow and use of cash, doesn't seem like maybe you are too focused on paying down debt. So is M&A be the (ph) number one focus?

Kent Yee -- Senior Vice President, Chief Financial Officer

Well, I think the world needs to be educated a little bit on our capital structure. We have institutional debt piece, the Term Loan B, which has 1% amortization on a full year -- mandatory amortization on a full year basis, so 2.5% per quarter. So if we have excess cash, it's not like we're going as we have historically because we just had basically a revolver and a term Loan A and paid down the debt. We have a institutional debt piece that only requires us to amortize 1% per year and then we have and we're going into the first year of it, and then we have what we call an excess cash flow sweep at the year-end which has a specific definition, I won't go into that now, that gives us the option basically to pay down some debt if the formula spits (ph) that out. And so long-winded way to answer your question, yes, from a capital deployment perspective, we put that in there to focus on growing the business as we are coming out of the cycle, also to optimize our capital structure and allow us just to not be drawn down in conversations with our banks unnecessarily. So it's built for our growth strategy.

Joseph Mondillo -- Sidoti & Company -- Analyst

Okay. Thanks.

Operator

(Operator Instructions) And we do not have any questions over the phone line at this time. I will turn the call over to the presenters.

David R. Little -- Chairman of the Board, President and Chief Executive Officer

We don't really have anything of value to (ph) add. Thanks everybody for your participation and your questions. We appreciate that and hope you have a great day.

Operator

This concludes today's conference call. You may now disconnect.

Duration: 52 minutes

Call participants:

Kent Yee -- Senior Vice President, Chief Financial Officer

David R. Little -- Chairman of the Board, President and Chief Executive Officer

Joseph Mondillo -- Sidoti & Company -- Analyst

Blake Hirschman -- Stephens Inc. -- Analyst

Ryan Mills -- KeyBanc Capital Markets -- Analyst

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