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Evoqua Water Technologies Corp (NYSE:AQUA)
Q3 2021 Earnings Call
Aug 3, 2021, 10:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Hello, and welcome to the Evoqua Water Technologies Third Quarter 2021 Earnings Conference Call. [Operator Instructions] I would now like to turn the call over to Dan Brailer, Vice President of Investor Relations, please go ahead.

Daniel A. Brailer -- Vice President of Investor Relations

Thank you, Nicole. Thanks to everyone for joining us for today's call to review our third quarter 2021 financial results. Participating on today's call are Ron Keating, President and Chief Executive Officer; and Ben Stas, Executive Vice President and Chief Financial Officer. After our prepared remarks, we will open the call to questions. This conference call includes forward-looking statements, including our expectations for the fourth quarter and the full year of fiscal 2021, statements relating to the impact of the COVID-19 pandemic, anticipated inflation and macroeconomic conditions, demand outlook in our end markets, growth opportunities, our pipeline, our acquisition strategy and the impact of the proposed infrastructure legislation. Actual results may differ materially from expectations.

For additional information on Evoqua, please refer to the company's SEC filings, including the risk factors described therein. On this conference call, we'll also discuss certain non-GAAP financial measures. Information required by Regulation G of the Exchange Act with respect to such non-GAAP financial measures is included in the appendix of the presentation slides for this call, which can be obtained via Evoqua's Investor Relations website. Unless otherwise specified, references on this call to full year measures or to a year refer to our fiscal year, which ends on September 30. Means to access this conference call via webcast were disclosed in the press release, which was posted on our corporate website. Replays of this conference call will be archived and available for the next 14 days. With that, I would now like to turn the call over to Ron. Ron?

Ron C. Keating -- President and Chief Executive Officer

Thank you, Dan. Please turn to slide three. We continue to be pleased with the company performance under challenging market dynamics brought about by the pandemic. Our priorities have remained focused on the health and safety of our employees, ensuring business continuity and improving our balance sheet and the liquidity of the company. The column on the left provides highlights of some achievements since the start of the pandemic. We have grown revenues, increased EBITDA margins, enhanced liquidity and improved our net leverage ratio. As the economy transitions to a reopening phase, we believe we are well positioned for profitable growth. Our priorities for cash will focus on driving organic growth, delivering on our M&A strategy and further enhancing our balance sheet, consistent with our priorities prior to the pandemic.

We are seeing solid demand for our products and solutions. However, visibility on timing remains somewhat challenged. We're experiencing the same macroeconomic challenges as many of our peers, attraction of skilled talent, inflationary pressures and material availability. As we have discussed in the past and will continue to highlight, Evoqua has many organic growth drivers as we look to the future. Our organization has done an excellent job of managing through a difficult period. And while market dynamics continue to present a variety of challenges, our organization is getting stronger and more competitive. Please turn to slide four. We are happy to highlight our third quarter results and the performance of the overall business. Our book-to-bill ratio for the quarter was above 1.1, and our opportunity pipeline remains strong across our diverse set of end markets and geographic regions.

Both segments reported organic revenue growth as service and aftermarket demand increased and our pricing initiatives continue to remain ahead of rising cost. Price cost for the quarter was positive by close to $1 million and we expect that trend to continue with positive price cost for the fourth quarter and the full year. We continue to watch the evolving status of COVID-19 and are following safety protocols published by global health authorities. We will manage changes in the operating environment with agility and resilience as we have throughout the pandemic, still focused on safety and continuity of business operations. We had another solid quarter in managing our short-term assets as net working capital to sales improved by 80 basis points quarter-over-quarter to 12.3%, a sequential improvement of 60 basis points.

Our focus on strengthening our balance sheet and increasing cash flow continues and solid results were recorded across most key metrics. Our operating cash flow and adjusted free cash flow improved on a year-to-date basis, liquidity increased to $385 million and our net leverage ratio improved to 2.8 times. We expect to further enhance the balance sheet as we invest in organic growth opportunities and continue to pursue our acquisition strategy. Please turn to slide five. As shown in prior calls, this chart represents our expectation for Evoqua's order demand in our primary end markets. In addition to our fourth quarter outlook, we have added a recap of our expectations shown in prior webcast since quarter two of 2020. We started presenting this outlook at the beginning of the pandemic to give investors an indication of the expected short-term demand trends when visibility was otherwise challenging.

As commented earlier, we are seeing strong order demand and this chart indicates eight of our 10 key end markets are expecting improved year-over-year fourth quarter order demand. I would note that we are seeing strong demand in chemical processing. However, it is shown as red because we booked our largest outsourced water contract for a chemical processing company in the prior year's fourth quarter. If we were to exclude that contract, the CPI dock would also be drained. We'll be happy to address questions about specific end market drivers during the Q&A session. Please turn to slide six. Our business has been resilient during the pandemic and continues to benefit from stable and recurring revenue growth. As shown in previous earnings calls, this graph presents our revenue and adjusted EBITDA on a rolling 12-month basis from quarter-to-quarter since 2017.

Our overall revenues have grown at a compound annual rate of almost 5% with adjusted EBITDA growth over 8% during this time. The business continues to operate on a steady and profitable growth trajectory after adjusting for the divestiture of MEMCOR. We primarily pursue capital projects to ultimately drive stable, recurring and profitable service and aftermarket growth. Currently, our service business comprises 42% of our trailing 12-month sales while service and aftermarket combined makeup approximately 60% of our business. As we have previously discussed, the nature of our business is subject to quarterly variability. However, we have good visibility into our revenues from products and services on an annualized basis. I would now like to turn the call over to Ben.

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

Thank you, Ron. Please turn to slide seven. For the third quarter, reported revenues were up 6.3% to approximately $370 million. Organic revenues grew 3.2% with both segments contributing to revenue growth. Segment demand improved, pricing was positive, and we saw growth in a variety of end markets, including chemical processing, food and health sciences, while Aquatics declined. We also experienced growth across all major regions. Third quarter adjusted EBITDA increased 3.8% to $66.2 million for an overall margin of 17.9%. Price cost and product mix improved profitability. Increased service volume positively benefited margin expansion, but was offset by unfavorable operational variances, higher operating expenses from employee compensation and travel and general inflation.

Please turn to slide eight. Applied Product Technologies third quarter revenues were $130 million, up 9.2%. Organic revenues increased $5 million or 4.2%, driven by favorable pricing and strong growth across multiple product lines. Foreign currency positively impacted revenues by approximately 5%. Adjusted EBITDA for the third quarter decreased 1.7% to approximately $28 million. Adjusted EBITDA margin decreased 250 basis points to 21.8%. Operational variances, including additional warranty reserves and production variances, impacted adjusted EBITDA margins in addition to higher employee expenses. Price cost and product mix was favorably -- favorably impacted profitability. Please turn to slide nine. APT is focused on driving organic growth through new product development and international market expansion.

Each quarter this year, we are highlighting product innovations that are expanding our addressable market and providing customers with enhanced solutions across the globe. Last quarter, we highlighted our latest UV technology. This quarter, we launched Powertron with our ozone generation system, expanding on our Pacific Ozone acquisition from 2018. On-site ozone generation has been used globally for decades as a highly effective treatment method for industrial water applications. This next-generation solution offers enhancements to help companies improve operations and reduce the amount of energy required to achieve water quality targets. This more sustainable approach to treatment also has a smaller footprint. Our Ozone offering provides customers with optimized performance for ease of operations so they can focus on their processes and trust their water quality.

Please turn to slide 10. Our Integrated Solutions & Services segment, third quarter revenues were up 4.8% to approximately $240 million and organic revenues grew 2.7% over the prior year. We were pleased to see broad market demand driving revenues and profitability. Service and aftermarket revenues increased as site access constraints have improved. Price cost for the quarter was positive, while capital sales were down versus last year. The capital decline was primarily related to timing of microelectronics projects in the prior year, which was somewhat offset by new projects across a variety of end markets. Our digital strategy continues to enhance our profitability through service efficiencies, pricing and competitive takeaways with digitally enabled revenues growing at robust rates.

Adjusted EBITDA increased 11.3% to $56 million due to higher volume, favorable price cost and productivity improvements. Adjusted EBITDA margin for the quarter was 23.5%, up 140 basis points over the prior year. Please turn to slide 11. Last quarter, we highlighted our ISS backlog composition. The service backlog is comprised of outsourced water contracts, which includes our mobile fleet, service deionization, build-own-operate assets as well as service contracts on customer-owned equipment, municipal services and carbon services. Whether the customer chooses to use an Evoqua-owned asset or to purchase the asset, we focus on earning the customer service and aftermarket business over the long term. This slide outlines the average revenue conversion range for our outsourced water asset by category.

We have updated this slide which shows third quarter backlog growing sequentially by $33 million to $745 million. We saw strong growth in capital backlog while service backlog declined slightly from quarter two. We expect to see quarterly backlog variations due to timing and billings. Over 60% of ISS revenues are comprised from services, of which approximately one half comes from outsourced water and one half comes from service contracts on customer-owned equipment. Service revenues are growing, recurring, profitable, and we believe we are well positioned for profitable growth. Our opportunity pipeline is very strong, and we're working with customers on both service and capital solutions. Please turn to slide 12. Capital spending primarily for outsourced water orders was approximately $18 million for the quarter.

Third quarter net working capital was 12.3% of LTM sales, an improvement of 80 basis points over the prior year and a 60 basis points improvement sequentially. Over the long term, we anticipate working capital to sales could be in the mid-teens range, given some projects may have varying amounts of working capital requirements. Please turn to slide 13. Operating cash flow was $103 million year-to-date versus $101 million in the prior year. You can see over the past four years, we have significantly improved operating cash flow. Adjusted free cash flow continues to be well above our 100% conversion goal at 186% year-to-date. Our net leverage ratio finished at 2.8 times adjusted EBITDA, which was down almost 1/3 of a turn from the prior year and down almost a full turn over the past 18 months.

We continue to target leverage ratio in the 2.5 to three times range. Our weighted average cost of debt as of quarter three is approximately 2.7%, an improvement of approximately 100 basis points over the prior year. Sequentially, our weighted average cost of debt dropped by approximately 45 basis points. The year-over-year reduction is driven by a combination of reduced debt levels, lower rates and a shift of debt to lower cost facilities. I would now like to turn the call back over to Ron.

Ron C. Keating -- President and Chief Executive Officer

Thanks, Ben. Please turn to slide 14. Infrastructure plan negotiations in Washington have continued and we outlined two important legislative proposals with highlights on clean water. On Thursday, July 30, the White House and Senate published a summary on the bipartisan infrastructure deal. On August 1, the final version of the bill was unveiled and PFAS and emerging contaminants continue to receive strong bipartisan support.

This is unfolding in real time, and we're staying close to it. The original $10 billion of spending proposed by the Biden administration in March remains intact as currently proposed. Additionally, the PFAS Action Act passed the house within the last two weeks with strong bipartisan and White House support. This bill would require the EPA to designate PFOA and PFOS as hazardous under CERCLA and to issue a drinking water regulation for those two chemicals within two years.

The bill also gives the EPA five years to determine whether all PFAS should be designated as hazardous. We continue to closely monitor the legislative process and are encouraged by the strong bipartisan support for clean drinking water investments. Please turn to slide 15. We think about sustainability in two ways: First, our handprint, enabling our customers to become more sustainable through our solutions and service offerings; and second, our footprint, driving Evoqua to become more sustainable within our own internal operations.

Recently, a chemical plant in the Southern U.S. was facing increased water demand due to higher production. Rather than tap into the aquifer by digging a new well, the plant reached out to Evoqua for an innovative solution. The result was to reuse the plant's wastewater, which was being discharged into an adjacent marsh. Initially, a large-scale 100-gallon per minute, reverse osmosis pilot was run to establish viability of the project, which was successful and continues to operate.

The customer is now expanding the relationship with Evoqua by having us explore point source reuse of water within the plan, which will ensure that the water volumes in the marsh remained stable, and the plant has the needed production resources. From a footprint perspective, we are beginning our journey of reducing our CO2 emissions from the use of fossil fuel. As a first step from FY 2019 to FY 2020, we reduced our generated emissions by 1,540 metric tons, the equivalent of removing more than 300 passenger vehicles off the road for one year. Also, we were very pleased to have been listed on the Clean200 list in recognition of our sustainability initiatives and our ability to make ourselves and our customers more sustainable. Please turn to slide 16. As we summarize the quarter with key highlights, our pipeline is robust.

Our order book is growing, and our overall market demand is growing. Economies are reopening at varying rates due to the pandemic and challenges exist fulfilling demand. The search for skilled talent, rising commodity prices and labor inflation is prevalent. We continue to manage these challenges well, and our price cost impact was positive for the quarter and is positive year-to-date. Our visibility to order conversion is improving, but it has not fully returned to normal levels. Our team continues to execute, and we experienced organic revenue growth in the quarter, highlighted by growth in service and aftermarket and as well as growth across all of our key geographical regions. We are pleased with the continued strengthening of our balance sheet, cash flow, net working capital and liquidity. This strength enhances our strategic flexibility and enables us to continue investment in organic and inorganic growth opportunities, including bolt-on M&A.

We are also, at this time, reaffirming our full year outlook with revenue and adjusted EBITDA expected to be in the previously communicated range of $1.43 billion to $1.47 billion and $240 million to $255 million, respectively. I will now open up the call for your questions.

Questions and Answers:

Operator

[Operator Instructions] Your first question is from Nathan Jones of Stifel.

Nathan Jones -- Stifel -- Analyst

Good morning everyone, I'd like to start off with a question on the ISS capital backlog. I think the disclosure this quarter on that backlog plus the disclosure last quarter, implies to me that the backlog -- ISS capital backlog was up about 40% quarter-over-quarter. Can you talk about what kinds of things you've been booking? And how we should be thinking about those converting to revenue?

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

Yes thanks Nathan. If you look at our market outlook, we've sort of highlighted where we're seeing the strength in demand, but specifically, we're seeing across many end markets, particularly microelectronics that we are seeing strength in orders.

Nathan Jones -- Stifel -- Analyst

And how should we think about kind of a, I guess, an average backlog duration. How long does that stuff take to turn into revenue?

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

This backlog was -- it was varied, but there were some longer -- larger projects within this backlog that will take a bit more time as much as one to two years.

Ron C. Keating -- President and Chief Executive Officer

And Nathan, as you look at slide 11, where we've called out mobile fleet service deionization build-own-operate, you kind of operate and balance those into 40%, 40%, 20%, and you can do some math around the calculation on time.

Nathan Jones -- Stifel -- Analyst

Yes. Great, thanks. A follow-up question I wanted to ask was on the operational variances in the quarter. You guys called out some increased warranty costs and some production variances. Can you talk about what's driving that, if there's been countermeasures deployed to try and fix those things? And what the expectations, I guess, especially around warranty costs going forward? Has it been fully reserved? Or should we be expecting more?

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

Yes. So the production variances were largely due to product mix. Last year, we had a lot of microelectronics orders running through the plant that has great absorption. There is also some general inflation there on indirect materials. That was also included, it's a little bit of labor inflation. But that pretty much offsets the leverage that you normally see on that upside within APT because of that mix. The warranty was approximately $1.5 million, and we believe we're fully reserved. They are mostly due to supply issues, vendor warranty quality issues. We're certainly going to work to with those vendors in terms of recovering that, that we will, in an abundance of caution, we want to make sure we took care of our customers first and we've built the appropriate reserves.

Nathan Jones -- Stifel -- Analyst

So the production variances weren't actually variances in your own production processes, there were other things that led to those variances?

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

Yes, it's mostly absorption, but there was some general inflation included in that as well. And we're going to offset the inflation with price. We continue to expect to do that, but there's no major issues within our production operations itself, but you can get variances due to the type of products that are running across there. Some have better absorption, some have -- do not have quite as good of absorption. And last year, we had larger orders that went through the production associated with microelectronics.

Nathan Jones -- Stifel -- Analyst

Okay that makes sense and very helpful. Thank you very much.

Operator

Your next question is from Deane Dray of RBC Capital Markets.

Deane Dray -- RBC Capital Markets -- Analyst

Thank you, good morning everyone. Lots of underlying positives to talk about here between price cost or the -- what I'd like to call your traffic light slide, page five and everything turning green. But actually, Ron, I want to start with an update on the state of your outsourcing business. You see really nice, with Nathan's question, pointing out the growth in the backlog. What's the gating factor for you in building out this outsourcing business? Has it been temporarily just being able to get on-site access? Is it the customers making that decision to flip from capex to opex? Is state of the outsourcing business today and what the outlook is over the next several quarters?

Ron C. Keating -- President and Chief Executive Officer

Sure. Thanks, Deane. Thanks for the question and the comments. And first of all, I would agree with you, there's a lot of positives here, certainly, as you look at slide five, and we continue to highlight that. Actually, as I commented in the opening remarks, excluding one very large order in CPI last year, we would have all but one dock that would be green right now. So we feel pretty good about that. Gating factor on outsourced water because it continues to gain traction for us, is it is a little bit of the -- all of the above that you mentioned, it is site access, which is challenging. It improved over the past three to six months. But we're seeing some customers that are very concerned about it with the new variant coming out and customers that are actually requesting that we'd be -- we validate that our service techs and our team members are vaccinated before they can come on-site. So we're all watching what's going to happen with the Delta variant a little cautiously.

The other piece is customers actually pulling the trigger. We have some very nice projects that are in the pipeline that have been delayed and customers are delaying decisions because of the availability of their materials to operate as effectively as they would like to be as well as some of the inflationary challenges that they're concerned about, they're dealing with right now, they feel like they subside over the next 12 to 18 months. So it's still very positive. The pipeline is growing. Things look very nice on the outsourced waterfront, but we do have a little bit of cautiousness from the marketplace overall as they're pulling the trigger on larger orders right now

Deane Dray -- RBC Capital Markets -- Analyst

That's really helpful. And then second question for Ben. It's just kind of a nice problem or a question to be asked is your free cash flow conversion is significantly higher year-to-date than what we had been modeling. We were bracing for some of this impact of growth capex with the outsourcing business. And it really has not been that significant in terms of weighing on the conversion. So what would you say about fourth quarter conversion and the setup for next year from a free cash flow standpoint, please?

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

Yes. So it will depend on mix. As capital kicks in, that will put more pressure on free cash flow conversion as we head into next year, but we do expect to stay well above -- or stay above our 100% goal and we remain very confident in doing that. So as we head into quarter four, we also feel good about quarter four as well to stay within our expectations. So we've done a lot in this area, particularly with our shared services, receivables collections, overall cash conversion cycle, reduction across the organization.

There could be some pressure on inventory as we continue to manage through some of these supply chain challenges and make sure that we have enough stock to weather any hiccups that we get from suppliers, but we feel very good about collections and we also feel very good about our payable process as well to help offset the majority of that.

Deane Dray -- RBC Capital Markets -- Analyst

And just to clarify, are you carrying a buffer -- a higher buffer inventory at this time?

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

Yes, we are.

Deane Dray -- RBC Capital Markets -- Analyst

Yes, that makes sense. We're seeing that everywhere. So I appreciate hearing that.

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

Thank you.

Operator

Your next question is from Mike Halloran of Baird.

Mike Halloran -- Baird -- Analyst

Hey good morning everyone. So kind of continuing on a couple of the questions we've already been asked. First, last quarter, we would have talked about a fourth quarter implying the really healthy exit rate into next year. There's some supply chain challenges and things like that happening, didn't change guidance of the fourth quarter range, the implied range is awfully wide. So I guess the question is just the confidence that you're going to exit this year at a really high good momentum kind of run rate? And any thoughts on that or an update on that?

Ron C. Keating -- President and Chief Executive Officer

Yes, Mike, thanks for the question. One thing we want to do on guidance, we continue to maintain being balanced at what we give as guidance. I think you've seen that from us for the last several quarters is just making sure that we are down the middle of the fairway kind of taking the tree tops out. Certainly, with a lot of the -- some of the uncertainty, I would say, with the Delta variant coming out, but again, as we highlight on slide five, what's happening in the end markets, what's happening with our order activity, our book-to-bill ratio to be north of 1.1% in quarter three really shows very strongly for what we expect to enter into FY 2022.

Mike Halloran -- Baird -- Analyst

Yes. So still a high degree of confidence and the momentum that you're going to take exiting the year, correct?

Ron C. Keating -- President and Chief Executive Officer

Yes.

Mike Halloran -- Baird -- Analyst

Right. So then when you think about some of the supply chain challenges, obviously, the price cost piece has been very good so far. How are you thinking about the timing of those? Does price cost stay positive through the fourth quarter? Or are there some lags that start materializing? And then as you're looking ahead to the supply chain side and any other kind of internal challenges through your networks, how do you think those flatten out? And when do you see normalization?

Ron C. Keating -- President and Chief Executive Officer

Yes. So I think I actually made a couple of comments on that during the opening. We do see price cost staying positive all the way through the end of the fiscal year. And then we think there will be some normalization as we start to see cost balance out coming into the FY 2022 timeframe and during that fiscal year as well, but we've got terrific momentum from the team. We're continuing to look at inflation across many areas, not just material cost, but across labor, freight, etc., there's a lot of challenges in the marketplace with inflationary impacts on the different services we provide and we're having to make sure that we get the appropriate price for that as well.

Mike Halloran -- Baird -- Analyst

Thanks gentlemen.

Operator

Your next question is from Eitan Buchbinder of Citi.

Eitan Buchbinder -- Citi -- Analyst

Hi, good morning. Within the cash flow walk, gross capex was about $34 million year-to-date. That's already ahead of the full year 2020 and almost the 2019 levels with one quarter to go. So given customers may be hesitant to spend on capex -- their own for capital projects, have you seen the quoting pipeline for build-own-operate improve? And do you anticipate that it surpassed 2019 levels?

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

Yes. The build-own-operate pipeline, again, how this works as customers choose whether they want to do capital to build-own-operate many times they choose that at the end. But the pipeline for these types of projects continues to be robust. So we'll see where -- which way they choose, but historically, they've chosen more in to build-own-operate area. We're seeing more conversion to build-own-operate.

Ron C. Keating -- President and Chief Executive Officer

And one of the big opportunities, Eitan, is we approach a customer with that as a first option. So it gives us a tremendous opportunity and a competitive advantage where we're going in and bidding on a project to be able to lead with outsourced water first.

Eitan Buchbinder -- Citi -- Analyst

That's helpful, thank you. And then the midpoint of your guide implies about 17.1% adjusted EBITDA margin which would represent a second straight quarter decline and trailing 12-month adjusted EBITDA margin. So have you seen operational variances or price cost headwind to accelerate, which could lead to quarter four adjusted EBITDA margin down year-over-year? Or is it more conservatism and taking off the treetops?

Ron C. Keating -- President and Chief Executive Officer

I would just highlight what I mentioned earlier is we're being very balanced as we go forward. We didn't see a need to move guidance just based on a little bit of the uncertainty we're seeing will COVID, and we wanted to make sure we were down the middle of the fairway.

Eitan Buchbinder -- Citi -- Analyst

Okay that is good, thank you very much.

Operator

Your next question is from Steve Tusa of JPMorgan.

Steve Tusa -- JPMorgan -- Analyst

Hey good morning. Just on the -- any early thoughts on 2022 and kind of sense of organic growth versus the kind of longer-term targets that you guys talked about?

Ron C. Keating -- President and Chief Executive Officer

Yes. Steve, we haven't given any guidance on 2022 yet. We certainly anticipate based on the strong order book and the backlog that we've been building. They will continue to be in line with our long-term targets that we give.

Steve Tusa -- JPMorgan -- Analyst

Okay. I had to try. And then just on the infrastructure bill, anything coming out there that you see that drives growth in the near term or maybe some people stepping back and delaying and kind of looking for better visibility on how this is all going to work? Just high-level questions there.

Ron C. Keating -- President and Chief Executive Officer

Look, overall, I think it is very positive for us that we're getting such bipartisan support around clean water. And I think that's the key as we go forward. So it speaks to fantastic secular trends for the industry as a whole for us and the solutions we provide and the emphasis on emerging contaminants gives us a very positive outlook as to what's going to happen. The EPA and the federal government are starting to really highlight this as something that needs to be addressed and will be addressed is very positive for the long-term outlook.

Steve Tusa -- JPMorgan -- Analyst

Great, thanks. Appreciate it.

Ron C. Keating -- President and Chief Executive Officer

Thank you.

Operator

Your next question is from Andrew Buscaglia of Berenberg.

Andrew Buscaglia -- Berenberg -- Analyst

Morning guys. I was wondering if you could comment on -- the services in aftermarket. I thought it's growing a bit, but it sounds like the Delta variant kind of pushing that out due to sale access issues. Are we setting up for a pretty robust year going forward or maybe quarter going forward, if that lifts. And by that, I mean, can you talk about the nature of the spend there. Is that the way to think of it, like people are pushing off these -- the services and maintenance of the stuff and they're going to need a lot of that going forward basically?

Ron C. Keating -- President and Chief Executive Officer

Yes, Andrew, I think a little bit of what we've seen and we continue to experience is there's a bit of a bow wave that comes as people ramp back up their production. So there's opportunities for us that we'll be expanding a little more greatly than they potentially have in the past and as people open back up to full capacity and things start operating. But the other thing that I want to highlight through this is as we see capital projects come through, and we've discussed this in several other calls for $1 in capital that we sell.

So if we go out and sell a $20 million capital system, typically, between 18 months and 24 months later, you see about $0.225 of service that flows from that capital sale. And so it's a little bit slower to get that services growth that is tied on to the capital projects that we highlight and we speak of. And there's a very nice benefit as you see that ISS backlog growing that indicates we'll see the services that are stable and recurring revenue that will follow suit.

Andrew Buscaglia -- Berenberg -- Analyst

Got it. And maybe one on capital allocation. Any updated thoughts on M&A? And then if M&A is not likely, what about focusing on continuing to pay down net debt?

Ron C. Keating -- President and Chief Executive Officer

Well, I'll speak to the M&A piece, and we've got a very nice pipeline coming and Ben can talk about paying down debts, we're going to continue to do that. But on the M&A side, we have a robust pipeline of opportunities that we anticipate we'll be able to continue to execute on our bolt-on strategy that we've highlighted in the past. And Ben, do you want to talk about the debt pay down?

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

Yes, sure. M&A and organic growth are clearly priorities, especially in this environment. But we do -- are focusing on reducing debt. We're currently at 2.8. We've stated a goal of 2.5 to three times. So we're within the range, but we still got room to get to 2.5. So we're going to continue to focus on that debt reduction as well.

Andrew Buscaglia -- Berenberg -- Analyst

Alright, thanks guys.

Operator

Your next question is from John Walsh of Credit Suisse.

John Walsh -- Credit Suisse -- Analyst

Hi, good morning. Wonder if we could talk a little bit more about the pricing actions you're taking? And just thinking about on the other side of this, we get some deflation in these input costs. It's kind of hard to go back and look at history because of the way you've kind of transitioned the business model here. So how should we think about price stickiness and the ability to kind of naturally push through price with 90%-plus renewal rate?

Ron C. Keating -- President and Chief Executive Officer

Yes. I mean as you look at that, John, obviously, we are -- it's a little harder when you have longer-term contracts to get the price immediately, but that also leads to a benefit on the backside when you have longer-term contracts of the price being much more stable and much more sticky. So we've had to go out with some surcharges just given the immediate nature on some of the inflationary pressures that we've seen surcharges go on, and they typically will bleed off as we see deflationary moves. But as we go to annual contracts and we renew annual contracts from surcharges, we typically roll those more into the contract -- new contract pricing, which allows it to last longer than typically it would.

John Walsh -- Credit Suisse -- Analyst

Great, thanks for that. And then maybe just one more around capital allocation. Obviously, you've articulated your strategy of bolt-ons, but just curious what you're seeing or what your thoughts are on maybe larger industry consolidation. We've certainly seen a pickup in acquisition activity. I'd just love to get your thoughts there on potentially larger industry consolidation moves.

Ron C. Keating -- President and Chief Executive Officer

I think that there are certainly some potential industry moves that are out there. They are few and far between and much more difficult to action. And so our focus continues to be on the strategy we've articulated around accretive tuck-in or bolt-on acquisitions and we'll continue to focus on that.

John Walsh -- Credit Suisse -- Analyst

Great, thanks for taking the question.

Operator

Your next question is from Pavel Molchanov of Raymond James.

Pavel Molchanov -- Raymond James -- Analyst

Thanks for taking the question. Two international things I wanted to ask about, first, on the supply side of the equation, after you sold the MEMCOR business in Australia a few years ago, do you have any exposure to the Australian market at this point? And of course, I'm asking in the context of the Sydney and Brisbane lockdowns?

Ron C. Keating -- President and Chief Executive Officer

We do have access to it. We still have a team on the ground that is providing systems and services as well as product technologies into that market. We sell through other integrators in Australia as well that deploy our products and technologies, Australia and New Zealand, but it's not a large portion of our business, Pavel, it's much smaller since we sold the MEMCOR business.

Pavel Molchanov -- Raymond James -- Analyst

Okay. Understood. And then a few people asked about the U.S. infrastructure package and water treatment modernization. On the other side of the Atlantic, very similar conversation, also involving PFAS and places like Northern Italy, Belgium, Southern England. How do you assess that opportunity?

Ron C. Keating -- President and Chief Executive Officer

We think the opportunity certainly is there for integrators and service providers in those markets to deploy our technologies, our advanced technologies that we have in the APT portfolio. And a lot of that's around UV opportunities, different types of concentration up with RO and ion-exchange systems. And where we can deploy some of our product technologies, we're very supportive of that, but we are not there as a system provider in those markets, we are simply providing technologies.

Pavel Molchanov -- Raymond James -- Analyst

Okay, thank you very much.

Operator

Your next question is from Joe Giordano of Cowen.

Joe Giordano -- Cowen -- Analyst

Hey guys, morning. Do you have a sense of like the inflection in your business on revenue on the capital side, just given the backlog timing, like the visibility you have there?

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

Joe, if you make inflection? Are you just talking about conversion of backlog to revenue?

Joe Giordano -- Cowen -- Analyst

Yes, you had the service business in the aftermarket up in the quarter, capital down. I think that's been a couple of quarters like that, just given the nature of the -- give a sense of when that flips to positive for capital?

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

Yes, if you look at the backlog chart for ISS. You saw that, that picked up and we did point to the fact that general strength in orders within capital, including microelectronics. So some of those orders are longer in duration. So they're going to take some time to convert because they're larger microelectronics types of orders. But on average, it depends on the size of the order, but it can be three months to two years, depending on the size of the order.

Ron C. Keating -- President and Chief Executive Officer

But I think, Joe, as you see it says capital average is nine to 12 months on that slide. And so that would give an indication inflection would occur within the next 12 months.

Joe Giordano -- Cowen -- Analyst

Fair enough. And then your comments on the net working capital that could be like mid-teens. Is that like something that you see happening kind of now as a matter of course? Or like what are the conditions that would need to be in place to move that higher to that level?

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

It depends on mix, and it depends on end market where that capital occurs. Just as a reminder, a lot of the longer capital that was kind of negative in terms of CIE, BIE, it was in the municipal segment. We've reduced our exposure with the sale of MEMCOR. We feel good about staying in the lower end of that range. but it's possible that larger types of projects could come through that put pressure on the capillary on working capital short term. But again, it should direct itself relatively soon. We do think that the lower teens is where we should sit long term.

Joe Giordano -- Cowen -- Analyst

Thanks.

Operator

Your final question is from Brian Lee of Goldman Sachs.

Brian Lee -- Goldman Sachs -- Analyst

Hey guys, good morning. Thanks for squeezing me in. Maybe just on all the backlog and order strength in that context. Can you kind of give us an update on whether or not you're seeing increased activity around the PFAS pipeline? I think the last time you guys updated us, it was -- you're still talking about a $100 million visibility on the pipeline for PFOS related items. Just wondering if there was anything related to that specific in terms of the updates around backlog and order trends.

Ron C. Keating -- President and Chief Executive Officer

Yes. So Brian, I would say that, that's remaining fairly stable with what we see. A lot of what's going on in the federal government is causing people just -- or water districts to continue to address their immediate need, but not to advance the ball on really expanding it until they see what's going to happen with the EPA and with the federal government. So it's staying pretty steady. Our win rate is staying very steady as well. And so we continue to see it be a piece of our business that has great promise, but is not contributing greatly to the overall picture yet.

Brian Lee -- Goldman Sachs -- Analyst

Okay. Fair enough. And then maybe a second question for Ben. Just kind of around the model and margin trends here and speaking of inflections, I think this is the first time in fiscal 2021, APT saw margins decline year-on-year and then ISS went positive. So we kind of turned in a corner here in ISS where we should be expecting year-on-year margin trends to remain positive into quarter four and heading into fiscal 2022? And I wasn't clear on some of the residual impact of the warranties and operational factors. Is that going to weigh on APT in the near term where we continue to sort of see that negative on a year-on-year basis?

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

Yes, sure. So for ISS, again, margin trends, we're expecting to continue to be favorable as volumes improve and increase in the top microelectronics comps are in our rearview mirror. This quarter, fourth quarter, we still have one more tough comp left, I just want to remind you of that, but then the comps get better as we head into next year. Service volume within ISS is certainly helping margins. And on the other hand, we still got to keep our eye on inflation. And I want to remind you, price cost, even though were positive, can put pressure on margins if you don't maintain your margins on the price. So just as a -- from a thought process, we can be positive and recover all our costs plus have additional price. But if that does not maintain the margin, that can be a little put some short-term pressure on margins. Within APT, the warranty, we believe, is fully reserved for.

We don't expect additional issues as we head into the future. In an abundance of caution, we wanted to make sure we're aggressive with our customers. So they don't feel any impact of these issues. We're certainly going to work with our suppliers to resolve these issues. So we don't see any hangover from that effect. And the other point within APT margins is they were also a little bit a victim of tough comps because there are a lot of microelectronics in the prior year, large orders that produced great absorption within the segment in the prior year. So they had some tough comps as well. So again, we don't see a lot of hangover site from this APT margin challenge that we had this quarter on a quarter-over-quarter basis.

Operator

That concludes our question-and-answer period. I would now like to turn the call back over to Ron Keating for his closing remarks.

Ron C. Keating -- President and Chief Executive Officer

So first of all, I'd like to thank our dedicated team at Evoqua for continuing to deliver continuous operations and continued support to our customers in somewhat challenging times. And certainly, for providing the tremendously strong technology and sustainable solutions that we deliver to market. Thank you all for participating in the earnings call today. We hope you'll be safe, and we appreciate your interest in Evoqua.

Operator

[Operator Closing Remarks].

Duration: 49 minutes

Call participants:

Daniel A. Brailer -- Vice President of Investor Relations

Ron C. Keating -- President and Chief Executive Officer

Benedict J. Stas -- Executive Vice President and Chief Financial Officer

Nathan Jones -- Stifel -- Analyst

Deane Dray -- RBC Capital Markets -- Analyst

Mike Halloran -- Baird -- Analyst

Eitan Buchbinder -- Citi -- Analyst

Steve Tusa -- JPMorgan -- Analyst

Andrew Buscaglia -- Berenberg -- Analyst

John Walsh -- Credit Suisse -- Analyst

Pavel Molchanov -- Raymond James -- Analyst

Joe Giordano -- Cowen -- Analyst

Brian Lee -- Goldman Sachs -- Analyst

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