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Forterra, Inc. (FRTA)
Q1Â 2019 Earnings Call
May. 7, 2019, 10:00 a.m. ET
Contents:
- Prepared Remarks
- Questions and Answers
- Call Participants
Prepared Remarks:
Operator
Good morning and welcome to Forterra's First Quarter 2019 Earnings Conference Call. Today's call is hosted by Jeff Bradley, the Company's Chief Executive Officer; and Charlie Brown, the Company's Chief Financial Officer.
With that, I will now turn the call over to Mr. Brown.
Charles Brown -- Chief Financial Officer
Thank you and good morning to everyone. Welcome to Forterra's First Quarter 2019 Earnings Conference Call. Before turning the call over to Jeff, I will point out that Forterra intends to take advantage of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, as noted in the earnings release, we filed last night.
Please remember that our comments today may include forward-looking statements, which are subject to risks and uncertainties, and actual results may differ materially from those indicated or implied by such statements. Some of these risks are described in detail in the Company's SEC filings, including our annual report on Form 10-K. The Company does not undertake any duty to update such forward-looking statements. Additionally, we will refer to certain non-GAAP financial measures during the call, including EBITDA, EBITDA margin, adjusted EBITDA and adjusted EBITDA margin. You can find a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measure and other related information, including a discussion of why we consider these measures useful to investors, in our earnings release.
Now Jeff Bradley, our Chief Executive Officer, will give an update on our business.
Jeff Bradley -- Chief Executive Officer
Good morning everyone. We appreciate you joining us on the call this morning. I'm pleased to announce that we've gotten off to a good start this year. Despite record rainfall on the West Coast and excessive rain in the southeast, our adjusted EBITDA came in slightly higher than we expected off the continuing strength in our drainage business and the ongoing efforts around improving our operating performance in both the businesses. Backlogs in Drainage and Water are strong each with higher price and volume in the first quarter of last year. And as I said on our last call, we expect further margin improvement this year over last year. Also I want to highlight that we may change to the top leadership in both businesses in the quarter.
Rich Hunter was our chief operating officer and he's now the president of the Drainage business. He has 30 plus years of operational experience and he's already launched a number of initiatives to improve our operating performance and drive our production costs down. Vik Bhatia is our new president of the Water business. Vik has been leading our commercial efforts at US Pipe since the middle of last year and he's made improvements that will positively impact our margins this year. While the housing starts have been somewhat mixed, since the start of the year the infrastructure market continues to be strong and we remain optimistic about the demand outlook for the balance of this year.
Finally, we are also continuing to execute on our planned operational improvements in both the businesses and we expect that margins will be higher than last year. With that being said, I want to reaffirm our guidance for adjusted EBITDA to be in the range of $170 million to $200 million.
With that I'll hand the call over to Charlie.
Charlie Brown -- Chief Financial Officer, Executive Vice President
Thanks Jeff. In the first quarter we reported sales of 292 million gross profit of 42 million and adjusted EBITDA of 20 million. All above prior year performance. In Drainage, we delivered a higher sales, gross profit, adjusted EBITDA and adjusted EBITDA margin than first quarter last year on lower volume. Higher selling prices, lower rent expense and the benefit of our cost and operational initiatives more than offset the impact of lower volume and cost inflation.
In Water, our volume and sales were lower than prior year, but gross profit, adjusted EBITDA and adjusted EBITDA margin were all better than first quarter 2018. Higher selling prices and increased manufacturing efficiency as well as the prior year operational challenges at our Bessemer plant offset the impact of lower volume and higher raw material costs. In corporate, adjusted EBITDA losses of 15 million were in line with prior year performance.
Regarding the balance sheet, we ended the quarter with 8 million in cash and 42 million outstanding on our 300 million revolving credit facility. We expect to use this facility to fund working capital needs through the second quarter as we take a closer look at opportunities to enhance our inventory management. Serving our customers needs remains paramount. But we plan to match that with prudent production planning and flexibility. We anticipate further strengthening and public infrastructure spending, continued positive pricing trends and stabilizing costs. In addition, we are focused on executing commercial and operational initiatives geared toward improving operating margins and cash flow. We believe we're well-positioned to deliver progress this year in both our business segments. Thus, we are reaffirming our 2019 outlook, forecasting adjusted EBITDA of $170 million to $200 million and voluntary repayment of our term loan in the range of $30 million to $85 million.
That concludes our prepared remarks. Operator, will you please open the line for questions.
Questions and Answers:
Operator
(Operator Instructions) Our first question or comment comes from the line of Scott Schrier from Citi. Your line is open.
Unidentified Participant
Hey, it's actually Tim on for on for Scott. I just want to ask about the impact of the rising market on other businesses and particularly the Water business and the demand expectations going forward? Thank you.
Jeff Bradley -- Chief Executive Officer
Yes. good morning, this is just Jeff. As I said in the comments -- demand is good in both the businesses, we were impacted more than anything in the first quarter by the weather. We had excessive rain depending on where it was and snow. One of the big indicators that we look at is bidding activity and we're seeing strong bidding activity across the drainage business and also across the water business. The other thing we're doing and we talk a lot about is doing a lot on the operational side to drive the cost down there. The residential demand has been somewhat up and down obviously driven by the weather. So I think it's too early for us to say you know how that will play out for the full year.
Unidentified Participant
Okay. And then just to my follow up. With US steel supply of 5% year-to-date and prices falling, should this be a short-term tailwind for margins that's already priced in the backlog? And how should the pricing requirements for DIP be impacted for the balance of the year? And how much of an improvement is this for the Drainage segment?
Jeff Bradley -- Chief Executive Officer
Okay. Alright. So we use about a $100 million of steel on our drainage segment. We don't use any steel in the Water segment. In the Water segment segment we use scrap -- scrap steel. We've seen softness both in scrap for Water and steel for Drainage. But as you know both of those are cyclical. And I think you'll eventually start to see them both start to level out. But definitely both the softness and the lower cost and both of those will help us. Typically our inventory -- it takes about 60 to 90 day to flow through the inventory. So those softer numbers that we saw coming down the first quarter really won't start to realize until about the second and third quarter in second half. Okay. Thank you.
Sure.
Operator
Thank you. Our next question or comment comes from the line of Rohit Seth from SunTrust. Your line is open.
Rohit Seth -- SunTrust -- Analyst
Hey thanks for taking my question. Just want to talk about some of the initiatives that you have in place in the water business, I know you had some leadership changes there. And then if you can elaborate a little bit on the investments you made in your inventory. You spent some cash on that in the quarter?
Jeff Bradley -- Chief Executive Officer
Sure. On the on the initiatives side in the Water business, Rich Hunter came on board last year as chief operating officer and what really attracted us to Rick was his extensive 30 year plus experience in operations. He's done an awful lot of work on our lean and we've instituted what we call MDI in our plants Managing for Daily Improvement. And what we've done is we have these hourly count boards in all our plants. We have visual control so the operators know what they're looking at, what's ahead of them and what's behind them. When we miss the target we'll document the reasons for the miss and then focus on eliminating the reasons and what we've seen where we have eliminated, I'm sorry where we have instituted MDI and lean in the plants, we have seen productivity improvements as high as double digits. So it's absolutely working.
Our defect rate in Water has also come come down, we thought our rates were high last summer and again with all the work that Rich has done, we saw those defect rates internally continue to drop throughout the year and it all gets down to just managing the workforce to work smarter.
Charles Brown -- Chief Financial Officer
As far as the inventory side Rohit. We had built up quite a bit in inventory at the end of the year for both Water and Drainage, obviously the first quarter demand was somewhat less on the water side because of the exposure to very wet regions along the coastline. Those would be our strongest markets for the ductile iron business. And so we did not -- it did not come down as much as we might have liked, but at the same time we anticipated a pretty slow Q1, it is first quarter and so that actually, I think the performance on the margins demonstrates some of the results of the work that Jeff was talking about as far as initiatives. As well as just -- we basically have continue to work to improve this business.
Jeff Bradley -- Chief Executive Officer
And just to remind everybody that's new to the company. Our first quarter is always the lowest quarter behind that the fourth quarter and second quarter and third quarter is always the strongest quarter.
Rohit Seth -- SunTrust -- Analyst
And just a follow up there on the cash flow. Can you help us set the expectations for working capital investment and your CapEx or not?
Jeff Bradley -- Chief Executive Officer
Absolutely. As we had discussed in our fourth quarter, we had talked about a number of those values and we continue to stand by that. We put a presentation out on our website. You can see on Slide 7 or Slide 8, if you get a chance to look at that and really the cash flows, we expected working capital benefit of $30 million to $50 million. We expect capital expenditure to be in the range of $45 million to $50 million. And then we had several other items specifically interest, we have $80 million to $82 million of interest expense for the full year. As a result of that we generate, what we would say is discretionary cash somewhere between $30 million and $85 million and we intend to put that toward repayment of the term loan.
Rohit Seth -- SunTrust -- Analyst
Yeah Jeff. Okay. And then last one, any update on April/May. What kind of shipping rates you are seeing?
Jeff Bradley -- Chief Executive Officer
I mean as I said you know the second quarter is our second strongest quarter, bidding activity is good, backlogs are good, pricing is up in both the businesses and we'll just keep our fingers crossed on the weather.
Rohit Seth -- SunTrust -- Analyst
Alright. Okay. Alright, great.
Charlie Brown -- Chief Financial Officer, Executive Vice President
So far good.
Rohit Seth -- SunTrust -- Analyst
All right.
Operator
Thank you. Our next question or comment comes from the line of Matthew Bouley from Barclays. Your line is open.
Matthew Bouley -- Barclays -- Analyst
Hey. Thank you for taking my questions. I wanted to ask about the pricing side, you know pretty strong in the Drainage business this quarter. How should we think about that for the balance of the year. Should we be kind of thinking about a similar level of pricing that you may achieve on kind of a quarterly basis for the balance of this year. Thank you.
Jeff Bradley -- Chief Executive Officer
Yeah, for the balance of the year, we've gotten a couple pricing increases this year. In the first quarter depending on the strength of the market, we could see a couple, couple more the second half of this year. Bottom line is as we've said a couple of times, the backlog is strong and the pricing is up in that backlog and it will take in drainage -- you know, some of that business will go into next year. We've got a lot of really good strong infrastructure work. But the bottom line is we see the pricing remaining strong throughout the balance of the year.
Charles Brown -- Chief Financial Officer
I think the key point Matt is that we've got price because the market -- there has been higher input costs and we're definitely -- we're working to offset that and I think we've been very successful in drainage certainly in 2018. And for 2019 we would expect the same from both businesses where we'll be able to get price that more than offset that input cost increase that we have been burdened with.
Matthew Bouley -- Barclays -- Analyst
Okay. I appreciate those details and then on the Water side -- you called out some some help from, I guess you said manufacturing efficiency. Is there any additional color you could add to that would -- I guess I would just love to hear kind of a little bit more about some of the actions you're taking to improve the manufacturing in Water? Thank you.
Charles Brown -- Chief Financial Officer
Sure. And I'd talk about that, -- Rich came on board last summer and I asked Rich as Chief Operating Officer to focus almost exclusively on the on the Water business specifically the DIP business and he's got a tremendous amount of background in clean manufacturing and as I said he really put this whole concept of managing for daily improvement in place where people are managing the business every hour of every day. And where we have a misstep we figured out what happened, fix it and go forward, and we've seen great, great improvement in all the plants. Vik is running it now, Vik continues to work with Rich, so we're really excited about those improvements we're seeing.
Matthew Bouley -- Barclays -- Analyst
All right guys. Thanks again.
Charles Brown -- Chief Financial Officer
Sure.
Operator
Thank you. Our next question or comment comes from the line of Nishu Sood from Deutsche Bank. Your line is open.
Tim Daley -- Deutsche Bank -- Analyst
Hi. This is Tim Daley on for Nishu. I guess the first one is Jeff. I think you mentioned the backlogs in both segments were strong with higher volume and price than last year, but then as well -- also mentioned that maybe some of that drainage backlog might leak into 2020. So just first off, did I hear those comments correctly and can you help us reconcile those with -- what we should be expecting for top line growth this year?
Jeff Bradley -- Chief Executive Officer
Sure. So if we take the draining backlog, you know of course a lot of -- not a lot, but a good portion of that backlog relates to infrastructure and as you know a project on infrastructure whether it's a new highway, it could be a couple of years. So some of that -- some of that will leak into next year and depending on the project we've got -- we know we've got a couple larger jobs in Texas that will actually go out for a couple of years. On the Water side about 85% of what we sell is sold to distributors and the backlog there would be shorter term. Water is typically going to liquidate in, let's call it 90 plus days. So most of the Water backlog should be out by, let's call it the end of the third quarter, could be into the fourth quarter whereas the Drainage backlog some of that leak into next year.
Tim Daley -- Deutsche Bank -- Analyst
Alright. That's really helpful.
Jeff Bradley -- Chief Executive Officer
And then just on top of that as I've said, the other indicator is -- backlog, a strong backlog is a good indicator, but what's almost better than that is just bidding activity. You know what's out there that we're bidding on. And I talk to all the general managers in Drainage across the country and every single region that we operate, bidding is up from a year ago. That's what really gives us the optimism about the balance of the year.
Tim Daley -- Deutsche Bank -- Analyst
Yeah, I know that sounds very, very positive there. So I guess, just then my second question is we've heard from several companies that operate in similar end markets and regions as you all, but there was maybe some push forward of work that was delayed in FY '18. That was a kind of pulled into the first quarter and then maybe even some pull forward of 2Q volumes, because of some regions with exceptional weather. So just curious, were there any kind of one offs maybe pushes or pulls that helps you guys support the strong sales growth that you put up in the first quarter this year?
Jeff Bradley -- Chief Executive Officer
I would say yes, but we really always see that and it's so dependent on the weather, whether it's rain or snow or very cold. But it is not unusual for weather to push business from one quarter to the next quarter. That's not that uncommon.
Charles Brown -- Chief Financial Officer
And I think in our guidance Tim, we had -- you know when we put the first -- where we talked at the end of the fourth quarter, we indicated, there would be more push toward the second half. There was carryover from 2018 into the first half of this year, but it's -- again that was not the material. The question becomes when can contractors actually get the work done. So that will drive how much of this gets carried into 2019, how much gets pulled forward to that extent as well. So I think that there's good interest. We've heard other companies talk about this, but I certainly would say the underlying demand is good. We're well-positioned to service that and it comes down to you know, this is Q1, we'll see how the year continues to play out.
Jeff Bradley -- Chief Executive Officer
And just add to that Tim and I think I try to say this almost on every call, when you look at the companies that people look at as our peers. What really differentiates us is all of our products go underground. And I've said so many times I'm sitting in my office and I look outside and we've just had torrential rain for three or four days. It's a beautiful sunny day and hey, the contractors are going back to work. But in our business that doesn't happen all the time, because the job sites get flooded and they can't dig and they literally have to wait for heat and wind to dry things out. So we're very different and there are still job sites today as we sit here in May that are still down from the first quarter because of all the rain. So that's really the difference in our business.
Tim Daley -- Deutsche Bank -- Analyst
Got it. Appreciate the detailing and it sounds like a positive outlook here. Thanks for the time.
Operator
Thank you (Operator Instructions) Our next question or comment comes from the line of Jerry Revich from Goldman Sachs. Your line is open.
Ben Burud -- Goldman Sachs -- Analyst
Hi, good morning everyone. This Ben Burud on for Jerry. To start, can you give us an idea how you're thinking about free cash conversion in terms of FCF to EBITDA over the balance of the year to get to that 60 million-ish of free cash for the debt repayment. You know, I'm shaking out -- conversion around 75%, can you just give us your thoughts on the visibility you have into the cash flow picture for the balance of the year?
Charlie Brown -- Chief Financial Officer, Executive Vice President
Sure. I mean Ben we've provided as far as our guidance of where our cash intent (ph) was for the year was pretty clear at the end of the fourth quarter and we have not changed that view. So really the big piece for us is we do have a large interest component, which has got to be paid. Working capital will be the biggest swing, everything else is pretty solid. Our CapEx spending now, we're talking $45 million to 50 million, those are specific projects we're working on that right now and making sure that we're investing that wisely for projects that will yield good returns.
But the actual conversion just because we are at such a -- we're at a level where we have specific needs, we were trying very hard to lay that out for you all. So I think it would be the incremental amount is where the higher end would certainly yield higher results on the [inaudible]. So I think it's really that would be where I'd focus your attention as to if we can -- if we can start to come as we go through the year to the higher end of our guidance there would be more cash, that would be able to be generated for that discretionary debt payment.
Ben Burud -- Goldman Sachs -- Analyst
Understood. And given the strength in public construction spending and the acceleration on bidding activity and projects that you guys mentioned. Can you kind of give us an update on both competitive and bidding intensity for for those type of projects and maybe how that compares to the environment a year ago?
Jeff Bradley -- Chief Executive Officer
I mean, it's pretty much the same when you look at -- both the businesses and the ductile iron pipe business, we have two competitors. In the Drainage business, it's more of a regional business, but the competitive landscape really has not changed in the past year.
Charlie Brown -- Chief Financial Officer, Executive Vice President
I think the upside opportunity for us Ben, as we've talked about several times is the improvements that we've made in the business. So the investments we've made and the various initiatives that Jeff has talked about are very important. The improvement we made as we came out of 2018 is a big recall. 2018, we had a slow start production wise in the Water side, because we had a large plant outage, which put us behind the eight ball. This year we're in much better shape. Obviously, we have got strong inventory positions and then as the weather permits the shipments from that division should be much more effective.
Ben Burud -- Goldman Sachs -- Analyst
Got it. Thank you.
Operator
Thank you. I'm showing no additional questions in the queue at this time. I'd like to turn the conference back over to management for any closing remarks.
Jeff Bradley -- Chief Executive Officer
Okay. Thank you everybody, we really appreciate your interest and we look forward to hearing from you on the next call. Have a good day.
Operator
Ladies and gentlemen thank you for participating in today's conference. This concludes the program. You may now disconnect. Everyone have a wonderful day.
Duration: 24 minutes
Call participants:
Charles Brown -- Chief Financial Officer
Jeff Bradley -- Chief Executive Officer
Charlie Brown -- Chief Financial Officer, Executive Vice President
Unidentified Participant
Rohit Seth -- SunTrust -- Analyst
Matthew Bouley -- Barclays -- Analyst
Tim Daley -- Deutsche Bank -- Analyst
Ben Burud -- Goldman Sachs -- Analyst
