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Summit Materials Inc  (NYSE:SUM)
Q4 2018 Earnings Conference Call
Feb. 06, 2019, 11:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Greetings and welcome to Summit Materials' fourth quarter 2018 earnings conference call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. (Operator Instruction). As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Brian Harris, CFO. Please go ahead, sir.

Brian J. Harris -- Executive Vice President and Chief Financial Officer

Good morning. This is Brian Harris and I would like to welcome you to Summit Materials' fourth quarter 2018 results conference call.

We issued a press release before the market opened this morning detailing our fourth quarter and full year results. This call will be accompanied by our fourth quarter 2018 investor presentation and an updated supplemental workbook highlighting key financial and operating data, both of which can be found in the Investors section of our website.

I would like to remind you that management's commentary and responses to questions on today's call may include forward-looking statements, which by their nature are uncertain and outside of Summit Materials' control. Although these forward-looking statements are based on management's current expectation and beliefs, actual results may differ in a material way. For a discussion of some of the factors that could cause actual results to differ, please see the Risk Factors section of Summit Materials' latest Annual Report on Form 10-K, and subsequently filed quarterly reports on Form 10-Q, which are filed with the SEC. Additionally, you can find reconciliations of the historical non-GAAP financial measures discussed in today's call in this morning's press release.

Today's call will begin with remarks from Tom Hill, who will provide an update on our business and market conditions through the year, and our outlook for 2019. And then, I will provide a financial review. At the conclusion of these remarks, we will open the line for questions.

And with that, I'll turn the call over to Tom.

Thomas W. Hill -- President and Chief Executive Officer

Good morning, everyone, and thank you for joining our call. Turning to slide four of the presentation, let's start with a recap of Summit's full year 2018 financial results. Net revenue grew at 9%, primarily due to acquisitions as Summit integrated 13 materials-based company, expanding our geographic reach and strengthening our local market positions. Organically our aggregates based businesses experienced modest growth led by low single-digit price increases, as well as ready-mix volume improvement. However, this top-line improvement was offset by a decline in our cement segment.

Despite solid demand trends in our public and private end markets, adjusted EBITDA fell well short of expectations and declined by 6.8% from 2017. Excluding acquisitions, the decline was 13.3%. As described in our Q3 earnings call, our operations encountered significant challenges throughout 2018. Severe weather conditions persisted throughout the year, continuing into Q4, with Texas experiencing its wettest fall on record.

In addition, we encountered rapid cost inflation, which particularly impacted our products line of business. Our price increases primarily announced in late 2017 were insufficient to recover these increased costs. Finally, our cement segment under-performed expectations on both volume and price due to a combination of competitive pressures and poor weather, with a cold wet spring, extensive fall rain and an early winter in the Upper Midwest.

Looking ahead to 2019, we forecast a meaningful recovery in adjusted EBITDA, with an estimated range of $430 million to $470 million. Anticipated organic growth in both volume and price is supported by higher backlogs to start the year and growing private and public end markets. Margins are expected to improve through both proactive cost control measures and the operational benefits of our 2018 capital projects. A substantial reduction in capital deployed with CapEx anticipated to return to a more normal 7% to 8% of net revenue will support deleveraging.

Turning to slide five, we estimate that weather had an adjusted EBITDA impact of $35 million to $45 million in 2018. Adverse weather effects our business through volume, price and cost, and the impact is difficult to make up due to the seasonal nature of our business and capacity constraints. We expect that improved weather in 2019 will support positive organic volume and price growth in all lines of business and contribute to productivity gains.

Margins are expected to increase in 2019 for two primary reasons. First, we have announced more aggressive price increases in all lines of business and are optimistic about improved realization in this inflationary environment. These increases are anticipated to, at least, offset 2019 costs, which are expected to grow again, but at a slower pace than last year. Second, productivity is expected to improved with better weather and contributions from our 2018 capital projects.

Lastly, we expect to see a market improvement in our cement business, which under-performed in 2018. While our plants ran at world-class production levels, we realized only a very modest price increase of less than 1% year-over-year as a result of the late start to the season, heavy fall rain and flooding, and increased competitive pressures. For 2019, $8 to $10 per ton price increases have been announced in our markets, generally effective April 1st. We are optimistic about achieving significantly greater price realization than we did in 2018, supported by both our customers' demand outlook and third-party market research.

Turning to slide six, we are positive on the US construction cycle and anticipated demand across all end markets, encouraged by local dynamics and the fact that US aggregates and cement consumption are still well below peak levels and long-term trend lines. On the residential side, we continue to see stable growth in our top markets. Although certain US markets are starting to overheat, we believe that Summit's markets are more mid-cycle. In our top metro markets, single family permits and month's supply of housing inventory remain well below their peaks and long-term averages, respectively. Fundamentals such as high employment, low interest rates and reasonable affordability remain in place and should lead to continued steady growth.

On the non-residential side, the positive momentum of the last few years should continue into 2019 and beyond. The US construction put in place grew throughout 2018 and architectural billings increased every month, with the Midwest reporting particularly strong conditions to finish out the year. It is also worth noting that our business is focused on the low-rise commercial work that generally follows residential construction, albeit with a 12 to 18 month lag, and we have little to no exposure to the more volatile high-rise and office construction markets.

With regard to the public end markets, we believe the funding outlook remains positive. At the federal level, the Senate and the House Appropriations Committee have both approved proposals that increase funding for the Highway Trust Fund in fiscal 2019. Total federal highway funding is expected to approach $50 billion in fiscal 2019, up approximately 14% from fiscal 2017.

Numerous states have been implementing their own self-funding mechanisms. Since 2013, 27 states, including 11 in which Summit operates, have raised or adjusted their gas taxes to increase transportation funding. Additionally, since 2009, approximately 1,300 transportation ballot measures have been passed throughout the US. As a result of increased state level funding over the past few years, the lettings in several of our key states hit record levels in 2018, and we anticipate even further increases in 2019. Looking further ahead, ARTBA forecasts US highway, bridge and tunnel construction spend to grow at a 2.4% CAGR through 2023.

With that, I'll turn the call over to Brian for a discussion of our financial results.

Brian J. Harris -- Executive Vice President and Chief Financial Officer

Thank you, Tom. Turning to slide eight, I would like to start with the revenue bridge from 2017 to 2018. The majority of our revenue growth came from acquisitions in the West region, which accounted for $101.5 million and in the East region, which accounted for $56.4 million. Turning to slide nine, you can see our adjusted EBITDA bridge for the full year 2017 to 2018. Organic volume growth was impaired by adverse weather conditions throughout most of the year, and was essentially flat in all lines of business, except for cement volumes, which were lower by 8.6%.

We were able to achieve selling price increases across all lines of business in the low to mid single digit range, but unlike past years, we were not able to fully offset the impact of variable cost increases in the short term. These cost increases came in the form of higher inflation in hydrocarbons, energy and labor, and lost productivity due to weather delays.

The construction services business was negatively impacted by higher liquid asphalt input costs and several low margin or poorly executed jobs. Adjusted EBITDA from the 13 acquisitions completed added $28 million in 2018. And given the timing of the deals, we expect limited carryover into 2019.

Turning to slide 10, here we show the key GAAP financial metrics. Operating income declined in Q4 and the full year as a result of increased costs in both products and services, which led to lower margins. Depreciation, depletion and amortization expense was also higher by $25.4 million, reflecting the increases in capital expenditures and acquisitions over the past two years. SG&A costs increased by 4.5%, reflecting a slightly higher pace of inflation and acquisitions.

Lastly, net income in Q4 and the full year reflects non-recurring tax adjustments related to the impact of tax reform on our tax receivable agreement made in Q4 of 2017, and further adjustments made in Q4 2018, reflecting the latest pronouncements from the IRS related to the Tax Cuts and Jobs Act. The one-off gain on sale of the PVC pipe business and higher interest expense also impacted the 2018 results.

Turning to slide 11, you will see that our adjusted cash gross profit margin for the year declined by 440 basis points to 32.7%, and our adjusted EBITDA margin declined by 360 basis points to 21.3%. The margin trends established during the first three quarters of the year, largely continued in Q4. However, we were encouraged by the aggregates volume growth in Q4 of 10.3%, and the aggregates average selling price increase of 7.6%. Cement volumes were down in Q4 by 10% and gross margin, which until September had held up well due to excellent productivity, was negatively impacted due to reduced production volumes as we rebalanced inventory before year-end.

Turning to slide 12, you will notice that average selling prices were up in all lines of business year-over-year. At 3.3% for the year, the organic aggregates price increase ended broadly in line with historic long-term trends. However, the price increase experienced in Q4 was stronger than we have seen for some time, reflecting a favorable product mix in the period. As we've discussed on prior calls, our realized cement price increase of just 0.6%, was disappointing against the backdrop of stable end markets and tightening supply. It is encouraging to see that the industry has announced much higher price increases for 2019.

Prices in our ready-mix and asphalt product lines were higher by 2.1% and 2.5%, respectively, but this was insufficient to fully offset variable cost increases and resulted in margin compression. Acquisitions during 2018 were primarily in the aggregates and ready-mix space and drove the increased reported volumes.

For quarterly modeling purposes, in 2019, SG&A should be in a range of $65 million to $68 million, DD&A should be a range of $48 million to $50 million and interest expense should be in a range of $28 million to $30 million. We anticipate paying minimal state and local cash taxes, and no US federal income taxes.

Finally, with regard to total equity interest outstanding, as of December 29, we had a weighted average of 111.4 million Class A shares outstanding, and 3.5 million LP units held by investors, resulting in total equity interest outstanding of 114.9 million, and this is the share count that should be used in calculating the adjusted diluted earnings per share.

And with that, I'll turn the call back to Tom for his closing remarks.

Thomas W. Hill -- President and Chief Executive Officer

Thanks, Brian. Turning to slides 14 and 15, our adjusted EBITDA guidance for 2019 is $430 million to $470 million, with capital expenditures expected to range between $160 million to $175 million, representing a decline versus 2018 of nearly 25% at the mid-point. Based on this guidance and without including any 2019 acquisition spend, we anticipate year-end 2019 net leverage to be below 4 times adjusted EBITDA.

While we continue to opportunistically seek acquisitions, we anticipate a reduction in total spend in 2019. During 2017 and 2018, Summit's capital allocation shifted toward organic capital investment, resulting in elevated expenditures as a percentage of net revenue. In 2019, we expect capital expenditures to return to a more normal 7% to 8% of net revenue.

Turning to slide 16, looking ahead to 2019, we are optimistic about returning to growth and better margins throughout our business. The price increases announced in all lines of business are anticipated to at least offset expected cost increases, which will result in improved margins. We have invested in several significant organic capital projects over the last two years that will improve productivity and drive cost reductions, particularly in our aggregates line of business.

We remain optimistic on the construction cycle and demand outlook, and expect that our initiatives, coupled with improved weather relative to the extreme patterns experienced in 2018, will result in a meaningful return to organic growth.

I want to especially thank all of our employees for their dedication and commitment to Summit throughout what has been a very challenging year. We will continue to focus on providing a safe work environment and we are committed to generating value for our shareholders.

With that, I'd like to turn it over to the operator for questions. Operator?

Questions and Answers:

Operator

Thank you. (Operator instructions) Our first question comes from the line of Rohit Seth with SunTrust. Please proceed with your question.

Rohit Seth -- SunTrust -- Analyst

Hey. Thanks for taking my question. Can you just maybe walk us through what scenarios would get us to the low end to the high end of the guidance range?

Thomas W. Hill -- President and Chief Executive Officer

Yeah. Good morning, Rohit. I mean really the biggest variable is going to be weather. We are very optimistic on price and cost. Really whether -- the mid-point of the range assumes more normal weather. If we get better weather, we should get up toward the higher end. And if we have a repeat or a near repeat of last year, it will be at the lower end. So it's really, we widened the range due to our uncertainty on the weather that came out of 2018. So it's really more weather-related as far as widening the range.

Rohit Seth -- SunTrust -- Analyst

Got you. So, is there anything you're seeing on the ground in terms of new projects coming to the market in maybe some of your key states?

Thomas W. Hill -- President and Chief Executive Officer

The area where we participate in large projects, so I guess there would be two of them. One is up in Vancouver and there is a couple of very significant large projects up there that we are optimistic of getting, at least, a part of them. And in Texas, the Grand Parkway is going in Houston. We should sell some aggregates to that project, but probably more importantly for us in the Houston area is, our competitors really are very active in those large projects. And if they are busy, that's good for us.

But in general, Rohit, we don't really participate or really want to participate in the larger projects that tends to make for more lumpy results and they tend to be lower price and higher risk. So we focus on the more mundane, smaller projects, which we think are better for our business.

Rohit Seth -- SunTrust -- Analyst

Got you. Okay. And then, final question, clearly challenging on costs. I mean is there -- what incremental should we expecting in your aggregates, cement and concrete businesses going forward?

Thomas W. Hill -- President and Chief Executive Officer

Brian?

Brian J. Harris -- Executive Vice President and Chief Financial Officer

Yeah. It has been a challenging year, Rohit, on costs across the board. Weather obviously had a lot to do with that. And as we've mentioned on prior calls, we saw those inflationary price increases early in the year, which really continued into Q4. When we were on the Q3 call at the beginning of November there, we already knew that October was a bad weather month, that continued into November. So we saw, basically, a continuation there.

We do expect though a return to the margins that we've seen in 2017, where we ended 2017 on aggregates in the mid 60%s, where it's a little bit below 60% this year. So, with the combination of improved productivity, a relatively more muted inflationary environment, we think and obviously we've hedged quite a portion of our input diesel costs for next year, together with price increases, we would expect to return back to more like a full year in the mid 60%s.

Rohit Seth -- SunTrust -- Analyst

Great. Thank you. That's all I have.

Thomas W. Hill -- President and Chief Executive Officer

Thanks, Rohit.

Operator

Our next question comes from the line of Trey Grooms with Stephens. Please proceed with your question.

Trey Grooms -- Stephens -- Analyst

Hey. Good morning, gentlemen.

Thomas W. Hill -- President and Chief Executive Officer

Good morning, Trey.

Trey Grooms -- Stephens -- Analyst

First one is just on the aggregates pricing, pretty strong pricing in the quarter. Anything unique going on there that would drive that, anything to note there in the quarter and expectations looking into '19?

Thomas W. Hill -- President and Chief Executive Officer

Yeah, Trey. The Q4 was really a mix issue. Really if you look at it, mix adjusted, it's in line with the annual, about 3.5%. So, it really was a mix issue, which helped Q4. But going into 2019, we have been much more aggressive in our price announcements, in the mid to high-single digits and are very optimistic about our pricing in aggs for 2019, and we should do better than our 2018 number of about 3.5% mix adjusted price.

Trey Grooms -- Stephens -- Analyst

Okay. Thanks for that. And just to be clear, mix-adjusted, is that a geographic mix that was impacting or products?

Thomas W. Hill -- President and Chief Executive Officer

Just a product mix, Trey.

Trey Grooms -- Stephens -- Analyst

Okay. Got it. That's helpful. And then, looking at the guidance for '19, I know looking in the review mirror, '18 was unique, the cadence wasn't maybe normal as what you would normally expect. So, how should we be thinking about cadence as we look into '19 from a quarterly standpoint, seasonal standpoint, anything unique that you guys are expecting from a cost standpoint or volume that we need to be aware of?

Thomas W. Hill -- President and Chief Executive Officer

Nothing jumps out, Trey. I mean what I can say about 2018 was, we had four bad quarters and the comps should be relatively easy consistently through the year. As always, I would say 2018 was the first year that I've seen weather materially impact the overall -- the full year. It always moves stuff between quarters and that's hard to predict. I mean, you get a wet spring, normally you have a drier summer, or drier fall, and I'm sure that will happen again. But Brian, I don't think there's really much to say on the cadence.

Brian J. Harris -- Executive Vice President and Chief Financial Officer

I don't think so. It is always a typical -- Q1 is always our lowest quarter. We ramp up through the spring. Q2, Q3 is our biggest and then Q4 starts to wind down again as we get toward the winter, and that's really just the cadence. We don't expect anything significantly different from that in terms of the quarterly pattern of business.

Trey Grooms -- Stephens -- Analyst

Okay. And then, would like to sneak one more in, you talked about proactive cost control, as well as focus on execution excellence. I think, was what you had in the slide deck. What are you guys -- can you talk about what you're doing differently there as we look out? You mentioned, you're not expecting quite as much on inflation side maybe this year, but outside of that, more along the lines of self-help type of activities, and any color you can give us there.

Thomas W. Hill -- President and Chief Executive Officer

Well, we have a couple of big projects that are coming -- that will come on stream. Recently our cement terminal in Memphis, we built a very large and very fine crushing plant at our Cox Quarry just outside of Vancouver. Those will both make significant contributions this year. And there was a number of other smaller projects that also should have some contribution this year. We had a few larger projects that we probably shouldn't have participated in the West, that we did not do very well on. We are not going to participate in those type of projects again in 2019.

And we have reduced headcount where appropriate across the Group. So, we come in to 2019 a bit leaner, a bit more focus on sticking to our knitting, and we see significant cost improvements in our business, especially, I would say, in aggregates. And then, on the cement side, we produced at a world class level over the last several years and we see that continuing into 2019.

Trey Grooms -- Stephens -- Analyst

Okay. Thanks for the color. Good luck, guys. I'll jump back in queue. Thank you.

Operator

Our next question comes from the line of Kathryn Thompson with Thompson Research Group. Please proceed with your question.

Kathryn Thompson -- Thomson Research Group -- Analyst

Hi. Thank you for taking my questions today. First focusing on the cement segment, how much of cement volumes were impacted by weather versus competitive dynamics in the quarter? And given some of the adverse weather we saw in the quarter, could you give some color, where we stand currently with clinker inventory and how that may or may not impact early 2019? Thank you.

Thomas W. Hill -- President and Chief Executive Officer

Yeah. Kathryn. Just an estimate would be, the volume decline in Q4, probably half of it was competitive pressure and half would have been weather. Our clinker inventories are fine and we don't see any impact on Q1 results as far as that goes. And did I miss another part of the question?

Kathryn Thompson -- Thomson Research Group -- Analyst

Really, I mean, if the clinker inventories are fine, it shouldn't impact your first half, because that's really the main driver, the clinker inventory.

Thomas W. Hill -- President and Chief Executive Officer

Yeah. We reduced production in Q4 and dialed it back a bit to make sure that we wouldn't have an issue in Q1.

Kathryn Thompson -- Thomson Research Group -- Analyst

Okay. And following up on just on the inflation question, could you remind where you are hedged for energy going into 2019? And how we should think about the residual impact of margins as we go into '19, provide(ph)your guidance?

Thomas W. Hill -- President and Chief Executive Officer

Brian?

Brian J. Harris -- Executive Vice President and Chief Financial Officer

Yeah. So, for diesel hedging, we've got about 70% plus of our 2019 estimated usage already pre-purchased, bought forward. It's at a rate that is close to the rates that we ended up within 2018. So we don't expect diesel in 2019, to be a headwind that it was in going from '17 to '18. That's the main hedging that we do.

Kathryn Thompson -- Thomson Research Group -- Analyst

Perfect. Listen, thanks so much.

Thomas W. Hill -- President and Chief Executive Officer

Thanks, Kathryn.

Operator

Our next question comes from the line of Stanley Elliott with Stifel. Please proceed with your question.

Stanley Elliott -- Stifel Nicolaus -- Analyst

Hey. Morning guys. Thanks for taking the question. Could you all talk a little bit about the cement pricing? The confidence that you're having on the front page of the release, you talked about low single digit historical pricing, and obviously, this is $8sh, would imply something greater than that. And then we saw the competitive pressures. Just trying to help sort -- could you help us sort through all of that if you could please?

Thomas W. Hill -- President and Chief Executive Officer

Yeah. In our, direct market we came out with a $10 per ton price increase, effective April 1. Others in that direct market came out with $8 a ton, and then there are some -- a couple of players who came out with $6 a ton in contiguous markets. So, you could look at a probable $6 to $8 per ton announcements. So far, things have been going well with our customers. And I think, what I said in the opening was that, look, our customers are experiencing inflation and I think that we expect with a more inflationary environment being able to realize a significant -- a significantly higher level of price.

Competitive pressures, I can't predict. We haven't seen any in 2019 so far, but we're optimistic that those should mitigate or go away in 2019.

Stanley Elliott -- Stifel Nicolaus -- Analyst

And then, thinking about the public funding side, I mean obviously, the Texas market looks pretty good, probably Utah as well, what about -- Kansas and Kentucky have really lagged a little bit on the public piece. Has there been much in the way of changes there, when we're thinking about how the year unfolds?

Thomas W. Hill -- President and Chief Executive Officer

The new governor in Kansas has reduced the rates on the Highway Trust Fund for about $100 million this year. And so that should get a little bit better in Kansas. Kentucky will probably stay stable. There's a lot of conversation in Kansas and Kentucky and Missouri. Missouri we -- a ballot initiative was defeated to increase highway spending significantly, but all three of those states, there is a lot of conversation going on about significant increases in highway spending.

And I don't think they will impact 2019, but I think as going forward, after 2019, we should see some increases in those three areas. The other thing I would say on highway spending, Stanley, is that our East operations in the Carolinas and in Virginia and in Georgia, we should see significant highway spending increases in those markets.

Stanley Elliott -- Stifel Nicolaus -- Analyst

Perfect. Thanks. I appreciate it. And I'll pass along.

Thomas W. Hill -- President and Chief Executive Officer

Thanks , Stanley.

Operator

Our next question comes from the line of Jerry Revich with Goldman Sachs. Please proceed with your question.

Jerry Revich -- Goldman Sachs -- Analyst

Thank you. Good morning, everyone.

Thomas W. Hill -- President and Chief Executive Officer

Good morning, Jerry.

Brian J. Harris -- Executive Vice President and Chief Financial Officer

Good morning.

Jerry Revich -- Goldman Sachs -- Analyst

I'm wondering if you folks can talk about the magnitude of price increase announcement that you're implementing for aggregates, asphalt and concrete, so what have you communicated to customers as we get ready to enter the construction season in a month or two here?

Thomas W. Hill -- President and Chief Executive Officer

Yeah. In aggs, as I said earlier, we're in the mid to high single digits that we've announced. And in our local markets we're getting good reception on it and we would hope to realize a significant amount of that. On ready-mix, our two big markets, which are the Intermountain West and Houston, which account for well over 50% of our ready-mix volumes, we're out with high single digit price increases there. And we're again optimistic about realizing a fairly high percentage of that.

In asphalt, price is really not very meaningful just because of the different grades of liquid asphalt that we use, which really make price not a very good metric to focus on, but because of the decline in oil prices, decline in liquid asphalt, decline in the fuel oil and natural gas that we use to power our asphalt plants, we are pretty optimistic on margin overall in asphalt.

Jerry Revich -- Goldman Sachs -- Analyst

And Tom, can you expand on that last point? So, year-over-year margin expansion in asphalt and the other businesses, when do you expect to get there based on pricing, do you expect to get there in the first quarter, or do we have to wait until we're in the construction season before we are back to expanding cash gross margins year-over-year?

Thomas W. Hill -- President and Chief Executive Officer

Yeah. It's really -- the first quarter is really insignificant in asphalt, just because you really need to be 45 degrees and rising in order to put asphalt down. So it's really -- second and third quarters would be the big, and even the October, November, can be big in asphalt, but really the first quarter is pretty insignificant.

Jerry Revich -- Goldman Sachs -- Analyst

Okay. And then in terms of the visibility and volume cadence over '19, can you just expand more on what gives you confidence on the visibility that we can grow off of the weather impacted volumes in '18? When we look at some of the public comments from the homebuilders, there's certainly an air pocket in that end market, private non-res is at a healthy level but slowing. So I appreciate that weather was a headwind in '18, but maybe you could share some of the data points that give you comfort that we're going to rebound off of that level given the air pockets and even potential slowing for some states that have high reliance on federal funding for their DOTs(ph)?

Thomas W. Hill -- President and Chief Executive Officer

When you look at our individual markets, in Vancouver -- just starting from the West and going East, Vancouver, we're optimistic about volume there, there's some big projects out in the market. Our volumes have been pretty strong there, we have a new plant, a significantly new plant with additional capacity. So we're pretty optimistic there. If you go to the Intermountain West, I would say one of the constraint there will be just labor force on our customers. Demand for housing, especially entry level and pretty much across the Intermountain market, is quite strong. So, it's really how much the builders can actually get done.

So I think that takes places like you Utah, and Nevada from being high growth to low growth because of the constraint on labor, but certainly we're going to see some growth there. The highway markets are very strong. And in those markets we have a really nice business on the western slope of Colorado. Colorado's highway program is quite good. So we feel good about that. And then, Texas, we've already said. In Houston, where we're probably heavily exposed to residential, it has been so wet there that it is really hard to judge what the underlying demand is and it's tough to tell, but our customers are very optimistic. When the sun shines there, we're really busy. And I would say that we should have a good year there.

The Midwest, our Kentucky, Kansas, Missouri, as I mentioned earlier, highways are pretty stable, low growth. And overall in those markets, we see pretty stable low growth markets across the board in all three end uses. Then the East is sort of the opposite. We're pretty much strong in all three end uses there.

Couple of things, on non-res for us, Jerry, we really do sort of the low-rise strip malls that follow residential development, and we don't really do some of the larger, more cyclical office and high-rise. And I think that's a positive. But we have not seen in our market the air pockets on residential. We just haven't seen that yet in our markets. And I don't know if that's because we're more mid-cycle in most of our markets, but we just haven't seen it.

Jerry Revich -- Goldman Sachs -- Analyst

Okay. I appreciate the color. Thank you.

Thomas W. Hill -- President and Chief Executive Officer

Okay, Jerry. Thank you.

Operator

Our next question comes from the line of Garik Shmois with Longbow Research. Please proceed with your question.

Jeff Stevenson -- Longbow Research -- Analyst

Hi. This is Jeff Stevenson on for Garik. And I just had a question, when you look at the mid-point of your guidance, can you give a little more color on what you're expecting from organic earnings growth versus non-recurring costs you've baked into the guidance?

Brian J. Harris -- Executive Vice President and Chief Financial Officer

The bulk of the growth next year, Jeff, is going to be organic. So, we've kind of baked in a something of a normalization of weather. As Tom mentioned, we've baked in certain level of price increases to offset inflationary costs. And as you know, our guidance does not include acquisitions. The only carry-forward amount that we've got for deals completed in 2018 would be $2 million. You can see that in the reconciliation on Exhibit VIII of the presentation. So really all of our growth next year is organic.

Jeff Stevenson -- Longbow Research -- Analyst

Okay. Great. And one theme from last year was logistics and freight bottlenecks. And I'm just wondering what you're seeing on the ground this year, is there any alleviation from that and any expectations into '19?

Thomas W. Hill -- President and Chief Executive Officer

We are a little different than some of the other companies in the sector. We don't do much by rail or by barge. We do ship cement by barge, and we didn't really have any constraints or logistical issues last year. I think as all industries right now, there is a shortage of truck drivers, but we just haven't really seen that constraint in our businesses. It's a struggle getting truck drivers, but we have managed to do that in 2018, and we're optimistic in 2019. So we just don't see the logistics as a major bottleneck in our business.

Jeff Stevenson -- Longbow Research -- Analyst

Okay. Thank you.

Operator

Our next question comes from the line of Phil Ng with Jefferies. Please proceed with your question.

Collin Verron -- Jefferies LLC -- Analyst

HI. Good morning. This is actually Collin on for Phil. In the aggregates business, it looks like the margin headwind accelerated a bit in the fourth quarter just given the year-over-year declines. Could you give us some more color and possibly quantify the different margin headwinds within the aggregates business specifically? And then, how quickly do you expect to be able to recover margins in that segment? And should there be any overhang as you enter into 2019 in the beginning of the year?

Thomas W. Hill -- President and Chief Executive Officer

I mean one of the biggest issues for us in Q4 on aggregate margins was costs, and most of those were weather-related. Between very wet Texas and very cold early winter in the pretty much throughout the Midwest, that that really had a pretty significant impact on our costs. We hope to see those reverse very quickly in 2019.

Collin Verron -- Jefferies LLC -- Analyst

Okay. Great. And then, just given the government shutdown, have you guys seen any impact on public construction going into the construction season?

Thomas W. Hill -- President and Chief Executive Officer

No. Haven't seen any. The lettings have continued as expected.

Collin Verron -- Jefferies LLC -- Analyst

Great. Thank you very much.

Thomas W. Hill -- President and Chief Executive Officer

Yeah. Thanks, Collin.

Operator

Our next question comes from the line of Adam Thalhimer with Thompson Davis. Please proceed with your question.

Adam Thalhimer -- Thompson Davis -- Analyst

Hey. Good morning, guys.

Thomas W. Hill -- President and Chief Executive Officer

Good morning, Adam.

Adam Thalhimer -- Thompson Davis -- Analyst

Can you give some thoughts on M&A, and should we keep modeling $2 million a quarter in transaction costs?

Thomas W. Hill -- President and Chief Executive Officer

Our pipeline is certainly lower -- at a lower level this year than it was a year ago. It's still active and there is still -- we're still busy looking at things, but it certainly has slowed. We will do some M&A. I think probably $2 million a quarter is probably high now. I'm not sure that we give exact guidance but I think you probably take that down.

Adam Thalhimer -- Thompson Davis -- Analyst

Perfect. And then Tom, can you just comment, I mean, there's obviously a little bit more optimism but the Highway Bill this year, what are your thoughts there?

Thomas W. Hill -- President and Chief Executive Officer

I hate to say it, but not optimistic. I don't think we'll get an infrastructure package out of DC, but the flip side of that is, I see the states really stepping up and I'm very optimistic about our overall highway end use being low to mid single-digit volume growth, and in certain markets, like Texas -- I mean, Texas is just absolutely flying. And so, I see -- we've had steady increases in highway funds out of the federal government, I see that continuing there certainly, but I just think it's going to be difficult to get a large infrastructure package out. I think you'll see some steady increases in the federal spend and I think you'll see some good, really solid larger increases out of the states. We've had pretty tough highway markets in Kansas Missouri and Kentucky. When I look out over the next couple of years, I would say all three of those having really sizable increases in spend on highways.

Adam Thalhimer -- Thompson Davis -- Analyst

Perfect. Okay. Thanks.

Operator

Our next question comes from the line of Scott Schrier with Citi. Please proceed with your question.

Scott Schrier -- Citigroup -- Analyst

Hi. Good morning. I wanted to talk a little bit about ready-mix or downstream in ready-mix, little bit of a price decline, you talked earlier on the call about some issues in services. So I'm wondering if you could talk a little bit about specifically, where you might have been some more competition in the ready-mix side?

And then, generally speaking, if I think about the downstream markets being more competitive, which is difficult in a rising cost environment, does it change how you think about allocating your capital, whether internally or inorganically to upstream businesses or conversely, you look and say. Hey, we need to consolidate some of these markets more in the downstream?

Thomas W. Hill -- President and Chief Executive Officer

Yeah. I mean, I would say that one of the biggest impacts in our downstream in 2018 was weather, and also hydrocarbons. You use a lot of hydrocarbons in both the ready-mix and in the asphalt business, and I think that those two should certainly -- those two impacts should decrease significantly in 2019. I have always been a great believer in the vertically integrated model. And I think if you have strong positions in aggregates, that you can take some of that benefit into the downstream. And markets vary. We haven't seen a whole bunch of entry on the ready-mix side, a little bit in Houston. We've had, onesie-twosies, but the decline in margins hasn't necessarily been a result of the increased competition. It's been more a fact of really poor weather impacting the overall business.

And if there is -- it's -- you lose -- the problem with weather is it impacts price, volume and cost. So, I see our downstream businesses improving rapidly in 2019, as the impact of energy increases ameliorates and the fact that whether should certainly improve. So I don't know if that answered your question, Scott?

Scott Schrier -- Citigroup -- Analyst

Yeah. That was helpful. And then I just wanted to ask about a couple of more, the comments you said on the call. So, Brian, I believe, earlier you said, you would expect to get back to the mid 60%s and in aggregates and quick math says that looks to be close to 90% on incrementals, which we've done in the past and it seems doable if in fact you get that mid single digit to high-single digit aggs pricing that you said earlier that you have out there in the market.

And I understand you have these other cost initiatives to take out some costs. So, I just wanted to get some conviction around those numbers. And it seems like from your comments, you have a lot of conviction in that mid single digits or even better in aggregates is possible, and 90% incrementals in aggregates is possible. And that we're going to get that, and that generally takes us to the mid-point of the guidance, is that the correct way to think about the summation of all these comments?

Brian J. Harris -- Executive Vice President and Chief Financial Officer

Yeah. That's right Scott. As you rightly point out, we've been at those levels historically. If you go back to 2017, certainly, we were hitting those kinds of numbers fairly regularly when we got to the peak of our season. When we have good volumes and those kinds of price increases, then yes, that's the sort of incremental margins that we can expect. So that's really, how we've -- what we've baked into our expectations for 2019.

Scott Schrier -- Citigroup -- Analyst

Got it. And one last one on cash flow, and I know in the press release you mentioned, you expect higher free cash flow. And I know some of that would just be on the lower CapEx. Just curious if you could speak to, well, what we're seeing maybe in terms of working capital? And maybe how you think about what an acceptable free cash flow conversion rate would be in '19?

Brian J. Harris -- Executive Vice President and Chief Financial Officer

Yeah Our working capital tends to be very stable around about the 12% to 13% range. It obviously, moves around a little bit from a dollar perspective as we ramp up at the beginning of the season with inventory levels and then, comes back down again toward the end of the year as we begin to wind things down. That's just part of the normal cadence of the business, but it doesn't typically fluctuate significantly. You're absolutely right about the free cash flow, will be higher in 2019 as a result of the lower CapEx that we've guided to. And other than that, there really aren't any other major, major moving parts. We typically would expect to get cash conversion rate probably around about 70%.

Scott Schrier -- Citigroup -- Analyst

Right. Thanks a lot gentlemen. Good luck.

Operator

Our next question comes from the line of Brent Thielman with D.A. Davidson. Please proceed with your question.

Brent Thielman -- D.A. Davidson -- Analyst

Great. Thanks. Good morning.

Thomas W. Hill -- President and Chief Executive Officer

Good morning, Brent.

Brent Thielman -- D.A. Davidson -- Analyst

Tom, just was going through the release, it looks like there a pretty big difference in results an asphalt between the two regions, pricing in the West, looks like it was sort of effectively flat, in the East it was about 17%. Is there any read through there, is it just state of the markets or competitive dynamics or just an anomaly?

Thomas W. Hill -- President and Chief Executive Officer

Yeah. Again, price is pretty meaningless as a metric in asphalt, just because of the variation in liquid asphalt input costs. We certainly have seen competitive markets in the West and we also had some execution issues in our Western region on the asphalt side. So we hope that both of those will improve in 2019. So that there is a market difference, but really prices -- really have to look at margin.

Brent Thielman -- D.A. Davidson -- Analyst

Okay. And then, it sounds like most of the markets you are in look pretty good here into 2019. Are there any areas within the portfolio that you're concerned about you maybe think are (inaudible)?

Thomas W. Hill -- President and Chief Executive Officer

I would worry about labor constraints in Utah. The rest of the markets -- I mean our Eastern markets are quite strong. I think the Central is going to stay stable as it as it has been for the last couple of years. Austin, where we have a pretty small business these days, is -- the market is quite strong, but it's still very competitive. And our North and West Texas are strong, both in highways and then the private side, res and non-res in Odessa Midland, is -- like I say, is very strong. So I really don't see a whole lot. We just did -- it really hasn't changed much from our Q3 call.

Brent Thielman -- D.A. Davidson -- Analyst

Got it. Okay. Well, thank you and best of luck.

Thomas W. Hill -- President and Chief Executive Officer

Thank you.

Operator

Our next question comes from the line of Nishu Sood with Deutsche Bank. Please proceed with your question.

Timothy Daley -- Deutsche Bank -- Analyst

Hi. This is actually Tim Daley on for Nishu. Thanks for the question. So my first one is on your leverage. So obviously you guided to the sub4 times leverage target by year-end, but just given the more conservative acquisition strategy, how are you guys thinking about a potential change in capital allocation once you hit that target?

Thomas W. Hill -- President and Chief Executive Officer

We see -- we're still in the acquisition business. It's been a little bit more competitive the last year and now the deal flow has slowed a bit. So naturally even outside of leverage, our acquisition spend was going to decline anyhow. We see it being back the acquisition business and being very careful for making sure that we have good deals, and we see being in the acquisition business and also being able to slowly delever over time. So it's really just a continuation of our existing strategy.

Timothy Daley -- Deutsche Bank -- Analyst

Got it. Appreciate that color. And then my second question is, cement -- fourth quarter saw some -- being plagued by some of the same issues that you had softness in past performance. One of those issues I know I guess was the market susceptibility to imports, or I guess the current versus historical and potential changing in import volume. So a couple days ago, obviously, there was Trump's Buy America mandate was rolled out to infrastructure projects. Just curious high level thoughts, but anything that could potentially change there in regards to import/export dynamics and cement pricing in the market in general? Thanks for the time.

Karl H. Watson -- Chief Operating Officer

Yeah. Imports have had little to no impact on our markets. In fact, we have an import terminal in Baton Rouge, where we would hope to import product as demand increases. I'm not actually sure what was in Trump's infrastructure import bill as far as whether it affected cement or not. It did have some coming from China, and it was 10%, it was going to go up even further in January, but that got delayed, but there is currently a 10% import tariff coming into the West Coast from China.

Thomas W. Hill -- President and Chief Executive Officer

Which won't have any impact on our business. And that was Karl, by the way, commenting on the cement imports. So certainly in our market, it has little to no impact.

Timothy Daley -- Deutsche Bank -- Analyst

Got it. Thank you for the time.

Thomas W. Hill -- President and Chief Executive Officer

Sure.

Operator

Our next question comes from the line of Mike Dahl with RBC Capital Markets. Please proceed your question.

Michael Eisen -- RBC Capital Markets -- Analyst

Yeah. Good morning, gentlemen. Actually, Michael Eisen on the line from RBC. Two quick follow-up questions for you. First, starting off on the cement business. You highlighted some of the other price increases put in the market by competition, very helpful to know. Are there any competitors that have not gone forward with price increasing and do you expect all to in the market?

Thomas W. Hill -- President and Chief Executive Officer

Now, everybody has announced at this point.

Michael Eisen -- RBC Capital Markets -- Analyst

Awesome. Very helpful. And then one last follow-up, from a high level perspective, you talked about your private commercial side of the business lagging residential, you have definitely seen some slowdown in order trends across the country. And so just wanted to know, have you seen any change in conversation about projects in the pipeline with those customers and how they're thinking about future growth and the outlook for fall in the residential market?

Thomas W. Hill -- President and Chief Executive Officer

No. Not really, I mean we especially participate in those markets in Houston and in Salt Lake, there our order books are solid and we haven't seen any slowdown or conversations of slowdown with our customers.

Michael Eisen -- RBC Capital Markets -- Analyst

Got it. Both encouraging. Thanks for taking the questions.

Thomas W. Hill -- President and Chief Executive Officer

Okay. Thanks .

Operator

(Operator Instructions) There are no further questions at this time, and I would like to turn the call back to Tom Hill for closing remarks.

Thomas W. Hill -- President and Chief Executive Officer

Thank you, operator, and thanks everybody for joining us. That concludes our call. Have a good day.

Operator

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.

Duration: 56 minutes

Call participants:

Brian J. Harris -- Executive Vice President and Chief Financial Officer

Thomas W. Hill -- President and Chief Executive Officer

Rohit Seth -- SunTrust -- Analyst

Trey Grooms -- Stephens -- Analyst

Kathryn Thompson -- Thomson Research Group -- Analyst

Stanley Elliott -- Stifel Nicolaus -- Analyst

Jerry Revich -- Goldman Sachs -- Analyst

Jeff Stevenson -- Longbow Research -- Analyst

Collin Verron -- Jefferies LLC -- Analyst

Adam Thalhimer -- Thompson Davis -- Analyst

Scott Schrier -- Citigroup -- Analyst

Brent Thielman -- D.A. Davidson -- Analyst

Timothy Daley -- Deutsche Bank -- Analyst

Karl H. Watson -- Chief Operating Officer

Michael Eisen -- RBC Capital Markets -- Analyst

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