Logo of jester cap with thought bubble.

Image source: The Motley Fool.

Evoqua Water Technologies Corp.  (NYSE:AQUA)
Q1 2019 Earnings Conference Call
Feb. 05, 2019, 10:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good morning, and welcome to the Evoqua Water Technologies First Quarter 2019 Earnings Conference Call. At this time, all participants have been placed on listen-only mode, and the floor fill be opened for your questions following the presentation. After the speakers' opening remarks, there will be a question-and-answer period. (Operator Instructions) As a reminder, this conference call is being recorded, and your participation implies consent to our recording of this call. If you do not agree with these terms, please disconnect at this time. Thank you.

I would now like to turn the call over to Dan Brailer, Vice President of Investor Relations. Please go ahead.

Dan Brailer -- Vice President of Investor Relations

Thank you, Tamy. Good morning, ladies and gentlemen. Thank you for joining us for Evoqua Water Technologies conference call to review our first quarter 2019 financial results. Joining me 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. We ask that you please keep to one question and a follow-up to accommodate as many questions as possible.

This conference call includes forward-looking statements, including our current full-year fiscal 2019 outlook and our expectations for the remainder of fiscal 2019 and for 2020, as well as expected benefits from our two segment realignment. 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 and our 10-K for the fiscal year ended September 30th, 2018.

We expect to file an 8-K in mid-February with revised financials and MD&A for the new two segment structure. We have previously provided three year historical quarterly two segment results for comparative purposes. On this conference call, we'll also have a discussion of 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 presentation slides for this call, which can be obtained via Evoqua's Investor Relations website.

All historical non-GAAP financial results have been reconciled and included in the appendix section of the presentation slides. Unless otherwise specified, references on this call to full-year measures or to a year, refer to our fiscal year which ends on September 30th. 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 seven days.

With that, I would now like to turn the call over to Ron.

Ron Keating -- President and Chief Executive Officer

Thank you, Dan. Good morning. We appreciate your interest in Evoqua, and thank you for joining us for today's call to review our first quarter results. This is the first quarter operating under our two segment structure. You will recall the segments are ISS, Integrated Solutions & Services; APT, Applied Product Technologies. We're diligently working through the realignment process and are pleased with our progress to-date. There is more work to be done, but we believe the changes have more effectively aligned with how our customers want to purchase solutions, services and products from us.

Please turn to slide 3. Overall, we are pleased with our first quarter results, delivering revenue growth of almost 9%, with approximately half of that being organic. ISS and APT, both contributed to the top line growth, driven largely by aftermarket and service demand across multiple vertical markets.

Our order book was strong for the quarter, particularly in Integrated Solutions and Services, which should provide attractive growth opportunities in the latter part of this year and into 2020. We closed the quarter with a book-to-bill ratio of more than 100%, increasing our backlog and positioning us well for the second half of the year.

Our profit margins for the quarter developed as we expected. The year-over-year decline was largely due to the timing and mix of capital versus service, within ISS and was delivered as expected and guided in our previous quarter call. This segment had an extraordinary first quarter comp in fiscal year 2018 and our capital mix this year was impacted by large industrial wastewater deliveries that inherently carry lower margins.

We are pleased to see the progress in our pricing actions across the organization continue, and we expect to see improvement throughout the year. The Management team has been actively engaged in executing the two segment realignment announced and initiated on October 1st. We're moving quickly on the necessary cost reductions and consolidation actions to achieve the targeted efficiencies and anticipated benefits of the realignment. In the quarter, we incurred approximately $5 million of structural and product rationalization cost, delivering an expected annualized benefit of more than $6 million. We expect to see material benefits taking effect in the third quarter of this fiscal year. Free cash flow will be a major focus for us this year and we're pleased to see an improvement this quarter over the prior year.

We plan to maintain a growth targeted capital expenditure program delivering against high return thresholds, particularly in service, outsourced water and our digitally connected opportunities. Working capital improvement initiatives throughout the year will be an important component in achieving our 80% or greater free cash flow conversion objectives. Ben will speak more in detail about our guidance. But in short, we are reaffirming our full year outlook as provided last quarter.

Please turn to slide 4. As the business overall, we continue to benefit from stable and recurring revenue growth. In reviewing our quarterly revenues and our adjusted EBITDA on a rolling 12 month basis, approximately 44% of our revenue is currently derived from services with a 99% contract renewal rate. Over the last three years, we generated revenue growth at a compounded rate of almost 9% with adjusted EBITDA growth of approximately 22%, while we may experience some quarterly variability due to timing of projects and business mix, we continue to have high visibility into our revenues over the course of a rolling 12 month basis.

I would now like to turn the call over to Ben to review the first quarter results and to review our full year outlook.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Thank you, Ron. Please turn to slide 5. For the first quarter, revenues grew approximately 9%. Integrated Solutions and Services grew 10% and Applied Product Technologies grew 7%. Organic revenues grew nearly 4.5%, primarily driven by aftermarket sales in both segments. Foreign exchange negatively impacted revenues by approximately 1%. In line with our expectation, adjusted EBITDA was $38.4 million, down $1.6 million versus the prior year.

The service and capital mix were heavily influenced by wastewater projects and lower event based services in the Integrated Solutions and Services segment. Growth in the Applied Product Technologies segment, particularly in aquatics and disinfection product lines, partly offset the overall decline, against this overall mix, timing impact was expected and build into our Q1 outlook. During the quarter, we estimated price cost was essentially flat as compared to negative $6 million in Q3 and negative $2 million in Q4. Efforts to implement pricing actions across the business are improving each quarter.

Please turn to slide 6. For the first quarter, Integrated Solutions and Services segment revenues were up 10% to $211 million, driven by contributions from acquisitions and aftermarket growth across multiple vertical markets. Organic revenues were up approximately 3% driven by growth in the power and food and beverage wastewater markets. Acquisitions contributed approximately 7% to growth.

The first quarter was one of the segment's largest order bookings quarter. We expect the order book to begin converting later in the second half of 2019 into 2020. Overall demand trends remain positive and our pipeline continues to be robust. Adjusted EBITDA was down approximately $2 million versus the prior year, primarily due to service and capital mix impacts. We are pleased with our Water One initiatives and our installation rate is continuing to grow. The benefits of Water One continued to be well received by our customers and we are realizing the expected service efficiencies.

Please turn to slide 7. For the first quarter, Applied Product Technologies segment revenues increased almost 7% to $113 million driven by organic revenue growth of approximately 8%, primarily driven by the aquatics and disinfection product lines and aftermarket growth in wastewater. Acquisitions contributed approximately 1% to revenue growth. Foreign exchange negatively impacted revenue nearly 2%. Operational leverage on the organic growth and favorable product line mix benefited overall profitability. Adjusted EBITDA increased $1.9 million or approximately 16% to $14 million. Contributions to improve profitability included a better mix of Aquatics and Disinfection product lines sales growth, associated volume leverage on organic sales growth and operational efficiency programs.

Please turn to slide 8. On October 1st, we initiated the two segment realignment to streamline our go-to-market strategy. Customers and operating benefits are beginning to materialize. The organic -- the organization is diligently working through our realignment process and moving quickly to identify structural cost benefits and to rationalize certain product lines. To-date, we have incurred approximately $5 million of structural and product rationalization cost, we expect these one-time cost will yield future annualized benefits of approximately $6 million with the material benefits beginning to materialize in Q3 of this year. Overall, we project to incur cost of $17 million to $22 million over the next two fiscal years, generating annualized benefits of $15 million to $20 million.

Please turn to slide 9. Free cash flow was approximately $3 million driven by lower year-over-year capital spending, net of $4 million of financing. We expect free cash flow to adjusted net income to be at least 80% for the full fiscal year. To focus the organization on free cash flow generation, as a key priority in 2019, we have incorporated free cash flow as a payout metric or annual incentive compensation program.

Leverage ticked up slightly in the quarter, primarily due to lower adjusted EBITDA. We expect to see leverage improve over the full year as earnings improve and working capital initiatives take hold. Our current weighted average cost of debt is 5.35% as of December, 31st. We also have approximately $114 million diluted shares outstanding as of the end of the quarter.

Please turn to slide 10. During the quarter, our capital expenditures increased to approximately $18 million or approximately $14 million net of financing. Approximately 80% of the overall spend this quarter was in the Integrated Solutions and Services segment, which includes spending for the Gulf Coast outsource water project, which is scheduled to be completed in May of this year. Working capital in the first quarter increased $34 million versus last year with acquisitions accounting for approximately $10 million. Overall working capital was impacted by revenue growth, price cost and capital mix.

Please turn to slide 11. As Ron indicated, we are reaffirming our full year outlook for revenues in the range of $1.38 billion to $1.44 billion and adjusted EBITDA in the range of $220 million to $240 million. Our first quarter revenue slightly exceeded the high-end of the ranges that we provide at the time of our earnings release in the fourth quarter of fiscal 2018. Considering our strong order book, the roll forward of our backlog mix and the two segment realignment benefits materialize in the second half of this year, we expect our full year adjusted EBITDA to split approximately 40% in the first half and 60% in the second half of the fiscal year.

I would now like to turn the call back over to Ron for closing comments.

Ron Keating -- President and Chief Executive Officer

Thank you, Ben. Please turn to slide 12. Overall and as previously stated Q1 results were in line with our expectations and the company's position for an improved second half. We expect our industrial demand to remain solid, particularly within the power, HPI, CPI, microelectronics and food and beverage markets. Our order book is strong and has been stated, we anticipate ramping benefits in the second half of fiscal 2019 in continuing into 2020.

We also expect to see mix turning more favorable in the second half of the year as service revenues are positioned to grow following some of our larger capital installations. We're making solid progress on our pricing efforts and it should provide additional benefits throughout the year. We are moving quickly on the structural cost actions in the two segment realignment while specific product rationalization and footprint consolidation efforts continue.

We're seeing positive developments and continuing demand across our key vertical markets domestically. We're maintaining a close watch on the economic and geopolitical data that could signal a change to the current demand in some of our international markets such as China. Our digital strategy is progressing well and we are pleased with the early progress of the Water One national rollout. The market adoption rate is very strong and we continue to hold a differentiated first mover position, as evidenced by many competitive takeaways not previously factored into our plans.

Finally, we will focus on working capital improvement, as we continue to pursue prudent, high return growth capital investments, balance between our initiatives to drive organic revenue growth, our priority to generate free cash flow conversion of at least 80% and strategic tuck-in acquisitions.

We will now open the call to your questions.

Questions and Answers:

Operator

(Operator Instructions) And your first question comes from Nathan Jones with Stifel.

Nathan Jones -- Stifel, Nicolaus & Company Inc. -- Analyst

Good morning, everyone.

Ron Keating -- President and Chief Executive Officer

Good morning, Nathan.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Good morning, Nathan.

Nathan Jones -- Stifel, Nicolaus & Company Inc. -- Analyst

Ron, I just like to actually focus on one of the last comments that you made there on the traction you're getting in Water One and the competitive takeaways comment in particular. I know it's been part of that basis that market share gains from that initiatives, could be one of the big drivers of growth in EBITDA for you guys over the next few years, and maybe you could give us a little bit more color on how that's progressing, where you see the opportunities for share gains? Ron, and I have a follow-up.

Ron Keating -- President and Chief Executive Officer

Sure, Nathan. So one of the things that we highlighted, as we went out with Water One, it was converting roughly half of our service DI business to the Water One platform. We did not build in a competitive share gain or competitive takeaway. What we found is approximately 20% of our Water One installations to-date have been competitive takeaways. And we see that continuing at that pace from when we did the national rollout through the last few months. So we're still early days in the Water One rollout, in fact, at the end of last quarter, we were at about 500, we're up in the 700 range now, averaging around 125 to 150 installations a month. But the run rate has been approximately 20% of that being a competitive takeaway.

Nathan Jones -- Stifel, Nicolaus & Company Inc. -- Analyst

Does the traction you're seeing on this initiative, both from converting your own revenue and from some of these competitive takeaways change the profile of the CapEx that you're looking at spending both in 2019 and going forward? And maybe you can talk about any impacts thats having on your free cash flow guidance for this year?

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Sure. So for 2019, we don't anticipate changing the CapEx outlook. It may change it into 2020 and 2021. As you recall, we rolled this out as a three year initiative, when we first went and the launch that -- we just did the national launch last quarter, we anticipated $23 million to be spent over the next three years. So 2019 we would say, we'll stay as we have planned Nathan. So it should be in line with our guidance and our expectations. 2020 and 2021 may ramp up, as we see competitive takeaways give us a better opportunity for volume increases inside of Water One.

Nathan Jones -- Stifel, Nicolaus & Company Inc. -- Analyst

Well, I think that's very good news. And hopefully, it does ramp up above that $23 million, I know it's high return CapEx. Thanks for the color, and I'll pass it on.

Ron Keating -- President and Chief Executive Officer

Absolutely. Thank you.

Operator

And your next question comes from Deane Dray with RBC Capital Markets.

Deane Dray -- RBC Capital Markets -- Analyst

Thank you. Good morning, everyone.

Ron Keating -- President and Chief Executive Officer

Hey, good morning, Deane.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Good morning, Deane.

Deane Dray -- RBC Capital Markets -- Analyst

Hey. I'd like to stay with Nathan's line of questions on free cash flow if we could. And just broadly, remind us how much of your free cash flow assumptions this year include or what the CapEx number is and how much of that is maintenance CapEx versus this growth CapEx, and we would include all the Water One in the growth CapEx category, as well as any other outsourcing projects that you might win. So could you just remind us of the separation there?

Ron Keating -- President and Chief Executive Officer

Yes, we expect to be about 2.5% on maintenance CapEx, and we should run a bit north of 5% total CapEx. As you know, Deane, that can vary depending on outsource water opportunities. But then, obviously, we had some offsets due to finance that we would expect on some of those outsource water opportunities.

Deane Dray -- RBC Capital Markets -- Analyst

That's exactly what I was looking for. And Ben, we're happy to see the organic revenue metric included in the slide deck in presentation today. Is that something we'll see on a go-forward basis?

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Yes.

Deane Dray -- RBC Capital Markets -- Analyst

Great. And then just in terms of, Ron, can you comment on mix in the quarter? There was a reference of higher capital projects, which we know puts a good installed base with aftermarket, but it comes in at lower margin. And you called out industrial wastewater, which -- while we had the sense that, that has better margin than municipal. But just kind of walk us through some of the nuances of mix this quarter and how you expect that to change through the balance of the year?

Ron Keating -- President and Chief Executive Officer

Sure, Deane. So as we look back over this quarter and what we highlighted in the mix going into industrial wastewater. Industrial wastewater does have higher margins than the municipal wastewater capital projects, but it has lower margins than industrial process water capital projects. So what we saw compared to FY-2018 was a shift in large capital installations and projects that were more geared toward wastewater, which bodes very well for the strategy that we've rolled out around full closed loop system with recycle/reuse, we anticipate continuing to see that grow, which is very good news for us because it does travel with the industrial process water following, as well as the service contracts that go with it as well.

Another component of mix was year-over-year event driven business that was lower in the first quarter of FY-2019 than it was 2018, and that's really tied around some of the water treatment following the hurricane and some of the projects in the Southern half of US.

Deane Dray -- RBC Capital Markets -- Analyst

Thank you.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Thanks, Deane.

Operator

And your next question comes from Brian Lee with Goldman Sachs.

Brian Lee -- Goldman Sachs & Co. -- Analyst

Hey guys, thanks for taking the questions and good morning. Maybe just starting off on the momentum in the business. It sounds like things are trending pretty favorably, book-to-bill is above 1, the organic growth is already tracking within the revenue guidance for the full year. So just wondering if the 3% to 7% sales growth target for fiscal 2019 could be a bit conservative here, if there is anything embedded in your guide for slowing growth later in the year despite the strong current environment and start of the year.

Ron Keating -- President and Chief Executive Officer

Brian, we're obviously very pleased with the first quarter results, we're pleased with the organic growth, as well as the order book that we're seeing. But a lot of the projects that we're booking have a longer tail on longer cycles. So, we even being over 1 and building a backlog, the backlog carries somewhere between six months and 24 months, and that's why we're holding with the guidance that we've given on the top line.

Brian Lee -- Goldman Sachs & Co. -- Analyst

Okay, fair enough. And then just switching gears, I guess to the cost side a little bit. You mentioned the -- on the slides that there was a reference to employment costs for both applied product and ISS. I guess it was positive for our operational leverage and applied product versus being negative in ISS. Is it some realignment related or is there something more structural going on here? And how does this trend for each segment going from here? Thank you.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

So we will get benefits on employment costs as we go forward associated with the two segment realignment in the simplification of our organizational structure. Regarding APT, they also had some benefits that were carryover from prior-year realignment benefits, that benefited them this year. Regarding ISS, they are gearing up for additional volumes that is coming that way, particularly in the service business.

We also had some unabsorb labor due to some events business services in the prior-year, a lot of overtime was run in the prior year, but we also got a lot of service billings due to hurricane and the event driven business in the prior-year. Obviously, those events repeat, they just don't always happen at the same time of the year. So we did see some negative absorption impacts associated with those events in the prior year, this year.

Brian Lee -- Goldman Sachs & Co. -- Analyst

All right. Thanks guys.

Ron Keating -- President and Chief Executive Officer

Thanks, Brain.

Operator

And your next question comes from Andrew Kaplowitz with Citi.

Andrew Kaplowitz -- Citigroup Global Markets -- Analyst

Hey, good morning guys.

Ron Keating -- President and Chief Executive Officer

Good morning, Andy.

Andrew Kaplowitz -- Citigroup Global Markets -- Analyst

Ron or Ben, if you look at your LTM sales of $1.366 billion, service has seen the pickup for the first time out of a range. They've been in about $508 million to now $600 million, 4% growth in the quarter. Does that make up a function, is there any sort of layering from new acquisitions or is it really just overall service growth is beginning to pick up? And I am a bit confused because you had a tough compare, as you just mentioned with the event driven service business down year-over-year. So it does seem like a pickup in the rest of the business?

Ron Keating -- President and Chief Executive Officer

Yeah. So, Andy, on that $600 million was the ProAct, it's the effect of ProAct being added in. So this ProAct is very heavily service driven and that's gives the step change.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

And just to put it around that, effectively ProAct offset the tough comparisons into prior year, you dig it a slight pickup. But obviously that event driven business in prior year was also very, very profitable as well. So I think those two was a wash and then your negative year-over-year EBITDA in ISS was purely due to the mix, OK.

Andrew Kaplowitz -- Citigroup Global Markets -- Analyst

Yeah. That's helpful guys. And then, Ben, maybe you can talk about -- If I look at the quarter, EBITDA add-backs were relatively high. You talked about product rationalization, electro-chlorination and manufacturing defects from our third-party vendor. May be if you just give us some more color on why they are not ongoing there, just sort of one time in the quarter?

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Sure. So if you -- I assume you are referring to slide 16, Item D.

Andrew Kaplowitz -- Citigroup Global Markets -- Analyst

Correct.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Just to break that $9 million down, about $5 million of that is FX on cash. You have another $1 million, which was the product warranty issue that we're working through, we expect to get a legal recovery on that. And then there is about $3 million that was associated with exiting some growth systems business in APT area that we no longer want to be a part of in the future. We want APT to be focused on products, not necessarily systems.

Andrew Kaplowitz -- Citigroup Global Markets -- Analyst

That makes sense. Thanks, guys.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Okay.

Operator

And your next question comes from John Walsh with Credit Suisse.

John Walsh -- Credit-Suisse -- Analyst

Hi, good morning.

Ron Keating -- President and Chief Executive Officer

Good morning, John.

John Walsh -- Credit-Suisse -- Analyst

I was just wondering if you can talk about the impact regulation has on your business and I'm just, thinking about it here with the EPA and the PFAS and then some other regulations, we don't really have a federal necessarily construct. But it does appear that states and local municipalities and governments are picking up the torch. So would you expect over the long-term kind of any noise there or is all this stuffs still moving forward just maybe being championed by different organizations than we might think?

Ron Keating -- President and Chief Executive Officer

John, that's a good question. We do expect over the long run this to continue to be positive. What we have seen is just as you mentioned a shift from federal to state level and even when there is a federal guideline, generally the states are the ones that are enforcing it around the strictness of the regulations that they want to control. So in the areas that are very focused on PFAS and other constituents in the water that are focused on removal, certainly some states around ash pond, et cetera. We work very closely with them and because there is a pause at the federal level, it doesn't mean that it is a pause at the state level, we see investment continuing for the long-term with the customers.

John Walsh -- Credit-Suisse -- Analyst

Got you. And then maybe just one question, you obviously talked a lot about the larger projects and the build on operate. But how does that front log look, in terms of demand? It sounds like if projects are going to go forward, it's more of a 2020, 2021 impact to CapEx than this year. But are you seeing a pickup in customers wanting to go that route?

Ron Keating -- President and Chief Executive Officer

Yeah, we're seeing a pickup on both sides. We're seeing a pickup in short-term operating contracts, long-term operating contracts as well as some of the Build Own Operates. We have actually seen customers being focused on extending OpEx a little more this year rather than CapEx because of some of the uncertainty in the markets, but we've got a growing pipeline of opportunities that is there. And then with some of the longer-term orders that we actually booked in the first quarter that I mentioned carry from somewhere between six months and 24 months, the signs are very positive.

John Walsh -- Credit-Suisse -- Analyst

All right. Thank you.

Ron Keating -- President and Chief Executive Officer

Thank you.

Operator

And your next question comes from Pavel Molchanov with Raymond James.

Pavel Molchanov -- Raymond James & Associates -- Analyst

Thanks for taking the question guys. Congrats on the numbers. Last quarter and I think even six months ago, you commented about the headwinds from tariff on the cost structure. Can we get kind of the latest read on how things are looking on the tariff and trade war front?

Ron Keating -- President and Chief Executive Officer

Sure. So basically, I'd say right now it's pretty stable. We haven't seen and consistent with what we've seen in the past. We are obviously keeping a close eye on this at this point in time and we buy about $8 billion directly from China, but there's also an indirect impact on about $100 million of spend from suppliers that we use that they buy from China, it's harder to quantify. So those are rough numbers in terms of our transactions. But we also sell into China as well. There is some impacts in the -- mostly in the APT side of the business where we are selling into China that can have impacts. To-date, we've been relatively successful in managing those impacts.

We've also had a lot of success in making sure we have alternative supplier, so we don't have supply chain disruption as well, particularly in the aquatics product lines that we've experienced some problems in Q4. We've addressed many of those issues with alternative suppliers in the supply chain area.

Pavel Molchanov -- Raymond James & Associates -- Analyst

Okay. Good to hear. I know that you're not as a matter of course giving any guidance on M&A, I wouldn't expect you to. But as a general premise, should we anticipate any acquisition activity in fiscal 2019 or is that kind of on the back-burner at this stage?

Ron Keating -- President and Chief Executive Officer

No, Pavel, it was in my wrap up slide actually I had in the opening comments. We're still focused on strategic tuck-in acquisitions where they make sense and our focus has not changed from what it's historically been around product portfolio extensions, vertical market extensions or geographic extensions. But we feel good around strategic tuck-ins that our CapEx like acquisitions.

Pavel Molchanov -- Raymond James & Associates -- Analyst

Okay. Very clear. Appreciate it guys.

Ron Keating -- President and Chief Executive Officer

Thank you.

Operator

And your next question comes from Joseph Giordano with Cowen.

Robert -- Cowen and Company -- Analyst

Hey, good morning guys. This is Robert in for Joe. Thanks for taking my question. I just have a quick one on the APT segment. And we just felt that some of the signalling coming into the quarter was a bit cautious in nature, just given some of the issues that you are faced in Q4 of 2018. Just wanted some more granularity about the out performance there and what attribute to the organic growth and margin expansion and have anything changed? Thank you.

Ron Keating -- President and Chief Executive Officer

Robert. I think it was in line with what we signalled. What we were cautious on was timing of some of the projects that we're going to go. We didn't have overall large projects going, but we did have some strength in our aquatics and our disinfection business. If you look quarter-over-quarter from Q1 of 2018, we shipped a project into China that was decent size, we've actually -- we finished the rollout of SAP at Neptune-Benson that concluded in November. We've got them on hyper-care through the end of the quarter and into Q2 to make sure that we're actually utilizing the system effectively as we're going forward. And so it was -- it's just a culmination of the business delivering as they had some opportunity too.

Robert -- Cowen and Company -- Analyst

Okay. That's great. Thanks, Ron.

Operator

And your next question comes from Patrick Wellman(ph)with JPMorgan.

Patrick -- J.P. Morgan Securities -- Analyst

Yes, thanks for taking my question. Just following-up on the ask question. So are you now through all the ERP issues and supply chain issues that within the aquatics and disinfection, is that you kind of threw that stuff now?

Ron Keating -- President and Chief Executive Officer

Patrick, I would say that we've made tremendous progress on that, we feel very good about the progress that we have made. We've got a very strong management team, new management team into the aquatics business, they're doing a nice job. On the disinfection side, we've got very strong integration across our full UV portfolio and they're doing a very nice job as well. We're continuing to make sure that we are holding that businesses hand through the SAP integration and actually getting to a consistent operating model there, but we're very pleased with the progress.

Patrick -- J.P. Morgan Securities -- Analyst

Got it. And then just wanted to clarify. What are the benefits you expect to realize this year from the segment realignment, just in terms of total dollar benefits in your EBITDA guidance?

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

So we had about $6 million this year in the second half starting to materialize in Q3.

Patrick -- J.P. Morgan Securities -- Analyst

So $6 million in total for the year.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Yeah.

Patrick -- J.P. Morgan Securities -- Analyst

Okay. And so the $15 million to $20 million, is that mostly then in 2020?

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Correct.

Patrick -- J.P. Morgan Securities -- Analyst

Okay.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

We obviously be at a run rate that's far higher than that, right, if you annualize this year's number, but at this point in time were actions already taken. But yes, the majority of those will materialize in 2020.

Patrick -- J.P. Morgan Securities -- Analyst

Got it. Okay, thanks. And then if you want to -- slide 21, just curious if you could help us with the adjustments you do on that front. You gave some color on the EBITDA adjustments, but from a free cash perspective, the $12.7 million, is that -- what is that just all the EBITDA adjustments that you are tax affecting them? Is that basically what the add-back is there?

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Yes. And also in the footnote, it talks about the prior year, depending on -- if you're comparing year-over-year, we have some interest rate adjustments as well that were not in EBITDA, but basically it's EBITDA tax affected, OK.

Patrick -- J.P. Morgan Securities -- Analyst

Okay. So same adjustments you went through and then it's tax affected.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Yeah.

Patrick -- J.P. Morgan Securities -- Analyst

And then your expectation for the year for restructuring and related business transformation costs. Can you give us kind of a ballpark estimate for that or maybe just kind of all-in adjustments between EBITDA and adjusted EBITDA?

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

We've outlined that on the sheet page 8, OK.

Patrick -- J.P. Morgan Securities -- Analyst

Page 8. Okay. So that's -- so your total cost will be in that $20 million range then for the year, that's your 20 point.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Not this year, that's through 2020.

Patrick -- J.P. Morgan Securities -- Analyst

Okay. So you expect your adjustments to be less than that.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

(Multiple Speakers) cost is occurred this year, right. But the benefits will start happening next year, OK.

Patrick -- J.P. Morgan Securities -- Analyst

Got it. And that's helpful. And then last one from me. Just -- what do you guys like how would you quantify your capacity to do deals. I know you mentioned bolt-ons, but just what's the capacity -- what's your leverage capacity as a company, if you wanted to do deals like how -- what's your threshold for balance sheet?

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

So from a threshold standpoint, look, we have a goal over the next three years to five years to get down to 2.5. So our goal right now is to reduce our net leverage. From a capacity standpoint, the business has and operated well above 4, very comfortably due to its recurring nature of its revenue. But as a public company, we seek to reduce our leverage. And our goal this year would be focused on that, so the extent that we do tuck-in, CapEx like acquisitions, we still do not want to have a negative impact on leverage, we want to reduce our leverage as we move through the year through EBIT to growth.

Patrick -- J.P. Morgan Securities -- Analyst

Got it. Very helpful, guys. Thanks a lot for all the detail and good luck.

Ron Keating -- President and Chief Executive Officer

Yeah. Thanks, Patrick.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Thank you.

Operator

And your next question comes from Andrew Buscaglia with Berenberg.

Andrew Buscaglia -- Berenberg Capital Markets -- Analyst

Hey guys, thanks for taking the question.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Hey, Andrew.

Andrew Buscaglia -- Berenberg Capital Markets -- Analyst

I just want to try first dug in, given all these details this quarter it's kind of noise, I mean it will continue to be that way. But what is -- what are you guys strive for in terms of an incremental EBITDA margin? Because historically you guys can put up pretty strong leverage. But what do you think the drivers will be going forward? Is it more sort of coming from a lot of these cost headwinds going away or is it going be priced from maybe the Water One thing flowing through? I mean I'm trying to see, I guess, what the normal incremental margin that we could try to model going forward longer-term.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Typically --

Ron Keating -- President and Chief Executive Officer

Yeah, typically Andrew see about 30%.

Andrew Buscaglia -- Berenberg Capital Markets -- Analyst

Okay. (inaudible) 30%.

Ron Keating -- President and Chief Executive Officer

Yeah. And we'll -- we should see that again it's mix dependent and that's one of the reasons that we dealt with what we've looked at in this first quarter, also it's one of the reasons we gave some guidance against that. But as you see the latter half of the year ramp up, it just sort of shifting back more to that level.

Andrew Buscaglia -- Berenberg Capital Markets -- Analyst

(inaudible) exiting along those lines and then going forward assuming more normal years ahead, it sounds like 30 (inaudible) 20 years old.

Ron Keating -- President and Chief Executive Officer

25 to 35 absolutely.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

APT typically sees higher -- slightly higher than that and ISS a little low. But overall there is an average, but it also depends on the mix within the businesses as well.

Andrew Buscaglia -- Berenberg Capital Markets -- Analyst

Okay. And I'm just trying to understand your free cash flow was OK this quarter, although -- I'm trying to understand with this new two segments, what the cash flow profile looks like by segment, which is generating more cash and which is supposed to be generating more cash over time or can you give me any details or color on that?

Ron Keating -- President and Chief Executive Officer

Well, frankly, we seek to improve both. And we have initiatives in place to do so, particularly in the area of receivables, payables, as well as inventory. APT tends to be more inventory intensive because of the nature of the business and ISS tends to be a bit more receivables intensive depending on with the capital portion of the business and longer vis-a-vis on the capital rollout. And it can vary depending on the short cycle versus longer cycle cash conversion, whether you're in the capital cycle like we are now versus services and aftermarket which tends to be shorter cycle.

But overall both businesses should be able to improve off of their current base, be a lot more focused in the APT side on inventory improvement and a lot more focused on receivables and CIE(ph), BIE within the ISS side of the business.

Andrew Buscaglia -- Berenberg Capital Markets -- Analyst

Okay, that's helpful. Thanks guys.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Thanks, Andrew.

Operator

And your next question comes from Andrew Cohen with Northcoast Research.

Andrew Cohen -- Northcoast Research -- Analyst

Hi. I'm just trying to I guess wrap my head around, you called out that aquatics and disinfection were responsible for some of the growth, but there was also the hiccups. I'll try to put this, is it reasonable to assume that there may be further growth available in second, third, fourth quarter or were you able to keep up and there is no read through based on the problems?

Ron Keating -- President and Chief Executive Officer

So, Andy, again, what I would say is we made really great progress in the first quarter and we got back to a more normal operating rhythm inside of those businesses versus the disruption that we had in Q4. So I would say what we're looking at for the back half is a little more steady state in those businesses, than we had certainly in Q4, but the steady state was at a higher level in Q1. So we were pleased with the recovery that we have.

Andrew Cohen -- Northcoast Research -- Analyst

Okay. Thank you, that's helpful.

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Today, this business can also be impacted by large shipments, particularly in aquatics business, those can occur from time-to-time, while there was not large shipments this quarter. They can occur from time-to-time, that can make that business on a quarter-over-quarter basis a little bit lumpy, but when you zoom out, look at on LTM basis, it normalizes quite nicely.

Andrew Cohen -- Northcoast Research -- Analyst

Great. That's helpful. Thank you.

Operator

And thank you, 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 Keating -- President and Chief Executive Officer

So thank you everyone for participating in our earnings call today. We certainly appreciate your time and your support of Evoqua. Every day, our employees are working diligently to provide world-class customer service and customer solutions to make sure we improve on our market leading position, as we continue to pursue our purpose of Transforming Water. Enriching Life. So thanks again for joining us. We look forward to speaking with you again soon.

Operator

And thank you, that concludes today's Evoqua Water Technologies first quarter 2019 earnings conference call. You may now disconnect your lines at this time and have a wonderful day.

Duration: 44 minutes

Call participants:

Dan Brailer -- Vice President of Investor Relations

Ron Keating -- President and Chief Executive Officer

Ben Stas -- Executive Vice President, Chief Financial Officer and Treasurer

Nathan Jones -- Stifel, Nicolaus & Company Inc. -- Analyst

Deane Dray -- RBC Capital Markets -- Analyst

Brian Lee -- Goldman Sachs & Co. -- Analyst

Andrew Kaplowitz -- Citigroup Global Markets -- Analyst

John Walsh -- Credit-Suisse -- Analyst

Pavel Molchanov -- Raymond James & Associates -- Analyst

Robert -- Cowen and Company -- Analyst

Patrick -- J.P. Morgan Securities -- Analyst

Andrew Buscaglia -- Berenberg Capital Markets -- Analyst

Andrew Cohen -- Northcoast Research -- Analyst

More AQUA analysis

Transcript powered by AlphaStreet

This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see our Terms and Conditions for additional details, including our Obligatory Capitalized Disclaimers of Liability.

Motley Fool Transcribers has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.