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Good morning. My name is Joanna, and I will be your conference operator today. At this time, I would like to welcome everyone to AGI's Q3 Results Release and Conference Call. [Operator Instructions] Thank you. Mr. Tim Close, you may begin your conference.
Thank you, Joanna. Good morning. Thank you for joining Steve Sommerfeld and I to discuss our third quarter results and outlook. We'll jump right into a quick review of the Q3 numbers and then take some questions. Sales grew to $243 million in the quarter, an 18% increase over Q3 2017. A solid performance in our Farm Group Canadian Commercial, relatively small but growing contribution from Brazil and our last few tuck-in acquisitions. One key point to make on the sales side. After excluding Brazil, this 18% growth in total sales was achieved despite a year-over-year decline in the quarter from our international sales group. This year-over-year decline is misleading. We continue to have record backlogs across AGI and specifically, breaking out Canada and International Business, our backlogs were 82% higher year-over-year. The decline in International sales in Q3 was due to timing of customer projects, it's not a reflection of the decline of inactivity. Our backlogs are a reflection of the growth of business. While sales in any particular quarter were a result of overall timing of project execution, completion and revenue recognition. As we have discussed recently, customer project timing is very difficult to predict, and not something we control. So portion of sales will naturally shift between quarters. We saw an impact from this in Q3. We expect the impact of quarter-to-quarter movement to be a reality as our Global Commercial business grows but to normalize, as we gain scale and execute on our 567 strategy. We remain focused on winning the confidence of our customers and our backlog demonstrates our success. Composition of our growth is in line with our long-term goals. We had organic growth of 11% in the quarter across AGI. A solid performance given the robust year-over-year comps in our Western Canada Farm business and the decline in international sales. Gross margin grew 140 basis points year-over-year for the quarter as the drag from Brazil operations improved and product mix remains favorable. For the 9-month period ended September 30, gross margin is down slightly versus last year but in line with plan and expectations.This 9-month comparison captures the impact of a jump in input cost earlier this year. We made the corresponding changes across our business and expected an impact in our results, as we work through the relevant backlogs. The improvement in Q3 is important. It demonstrates the resilience of our business despite steel movements, trade noise, inclusive of tariffs, regional weather events and the impact of entering new markets internationally. Q3 marks our ability to make the appropriate pricing, supply and productivity changes to offset rising input cost as well as the benefits of product and geographic diversification. Adjusted EBITDA grew 12% year-over-year to $40.2 million. Despite the healthy gain in gross margin, our EBITDA margins in the quarter were down 99 points from Q3 2017. The EBITDA margin was impacted by several onetime consulting costs in the quarter, a couple of onetime project-related reconciliations, which accounted for roughly half of this decline. We are executing on our core businesses. We're also seeing positive results from recent initiatives, including our startup in Brazil, which broke even in Q3 and the turnaround in the global industry businesses acquired in April last year, which add significant growth in sales and margins over 2017. We also make strategic decisions to increase our investments in sales, marketing technology and engineering during the quarter, which had an impact on EBITDA margins. However, these investments will better position AGI in important markets for continued growth, margin stability and improvement going forward. This investment in our foundation and ongoing transformation of AGI will continue in Q4 and into 2019. We are making key assessments and investments in people, marketing technologies required to better serve our customers, streamline our selling process, improve our product development process and continue to eliminate waste from our business models. We expect to see incremental growth from these investments in the near term. As previously mentioned, our Brazil operations broke even in the quarter, marking an inflection point in our South American business. Increase in Commercial and Farm sales, improving product production efficiencies and declining start-up expenses contributed to the positive momentum. A lot for us to be excited about in Brazil. As the world looks to this region to satisfy increasing demand for corn and soybeans. Economic and political headlines aside, Brazil must increase the pace of investment in their food infrastructure to deliver inputs to the fields to drive yield gains and build the facilities required to efficiently export the crop and import hard dollars. Changing trade course for soybeans have placed additional strain on the green infrastructure in Brazil, as China looks to the country as an alternative to U.S. product. Changes in trade lead to changes in the acquired global infrastructure. Simply put, different equipment in different places. That change is good for AGI over the long term. We expect to see continued improvement in Brazil through Q4 and into 2019. Now looking ahead to Q4 and into 2019, we expect healthy gains in our Commercial and Farm Groups with record backlogs, not only in Canada and International as discussed, but also record backlogs across all of AGI, which are up substantially over 2017. Our 567 strategy is coming together, as we enter new geographies and deliver a higher percentage of each project. We are now selling in over 100 countries, up from a dozen or so 4 years ago. Executing on our 567 strategy is driving sustainable expansion of our business and the record backlogs are a key indicator of that momentum. Now remember, a key objective of our 567 strategy is the benefit of diversification across global markets and across our 5 platforms. We are building AGI to account from variations in our markets. We expect weather and regional investment cycles to impact local markets. With an expectation for regional variation, we will continue to invest in our 567 strategy by building our marketing technology, sales and engineering groups to provide better service and value to our customers globally and across all 5 of our platforms. Our continued growth was recently complemented by an equity raise. We will soon complete a renewal and upsizing of our credit facilities, positioning AGI for ongoing organic growth and also positioning AGI to take advantage of the acquisition opportunities we see in new products, technologies and geographies. We'll end our comments there and pass the call back to Joanna for some questions. Joanna?
Can you hear me now?
Yes.
Your first question is from Jacob Bout from CIBC.
Wanted to start with EBITDA margins first. So margins were down, I think roughly about 1% year-on-year. I just want to understand what the new normal is? It sounds like, half of the difference was 1x but is this investment of sales marketing and engineering initiatives, is that going to be kind of the new normal?
Jacob, it's Steve. You might remember after Q2, we also spoke to an increasing investment in marketing expenses, for example, and I think a lot of these investments, the cost, the dollar cost of them will remain constant going forward, but we often don't realize the benefit of them until future quarters. They were reflected in higher sales and improved margins as they go down the line. So you know in Q3, there were a couple of unusual items. I can categorize probably close to $1 million of what I would say were unusual or onetime expenses. Not to say, these won't happen in the future quarters but the magnitude of them in Q3 was somewhat unusual. So we pointed them out in our disclosures. The new normal, the dollar value of the SG&A, I believe, excluding these onetime unusual costs that is an investment that we're making for strategic reasons and will benefit our top line and our EBITDA margins in the future, but in the near term, you will see those costs in our SG&A.
And then the commentary about the Commercial in Canada and the offshore backlog being up 82%. You talk a bit about the conversion rate there, like how should we be thinking about that on a year-on-year? How much of this stock or revenue is recognized in the backlog?
How long will the backlog take us to work through? Is that the -- what you're saying?
Yes. How long will take to work through and is that 82% increase, is that consistent with how we should be thinking about the group overall in the commercial side?
Well, we spoke to those 2 specific geographies for a reason. Now they're our highest activity areas today. We've been talking a lot about Canada and offshore. The backlog in those geographies are several quarters long. We'll continue to deliver on them in Q4 of '18 but a significant portion of them do will result in sales in 2019.
Would the U.S. Commercial be similar to that or well below that?
U.S. Commercial is well below it. The Commercial that we've been speaking to for the last probably couple of years. The Commercial business in the U.S. remained soft due to the commodity price environment in the U.S. and the CapEx spending patterns of the multinationals, who were deploying capital elsewhere, where they believe they can make a better return.
Last question here. Just given the mid-term elections and it looks like there continue -- going to be tariff battles here with the Chinese. Certainly, seems like they're going to see a lot less soybean in the U.S. and probably squeeze in farm income. What are you seeing right now on the U.S. Farm side?
Yes. Well, the incomes continue to be squeezed, and I think that USDA would support that statement. I mean, couple of things. So the farmers aren't going to quit growing as you know, and what we expect will happen in 2019 will be a higher crop acreage planted, which in our business again is a positive due to just the pure volume of corn compared to soybean. The lower farmer net income and that lower commodity price environment is not positive for the Commercial business. However, on our Farm business, where our portable green handling products as you know were volume-driven, lower price point and over the last year or 2, the investment in grain storage systems in the U.S. haven't kept up with the crop. So in our product categories, we don't believe the lower pricing or the lower income environment will be a negative for our business. We believe the higher volume and the underinvestment in recent years provide some tailwinds for our business.
More corn than soybean is a good thing?
Yes.
Yes. That's right.
Your next question is from Greg Colman from National Bank.
Just a handful on tariff. I was wondering first off, starting in Canada, can you quantify the impact that the Canadian weather had on the quarter? Let's put it in, sort of, slightly different terms, how much down was the Canadian farm EBITDA versus last year and that perfect Q3, we saw close to perfect Q3?
Yes. Well, we haven't disclosed those numbers, Greg. But I'll speak to it, sort of, maybe qualitatively, which is -- isn't directly answering your question. But I mean, how is the -- you're right, Q3 '17 was a very strong year on the Canadian Farm. You know what happened in 2018 with a very, kind of, rapid or abrupt end of summer was, we lost some valuable weeks of bin erection season. So the late-season bin sales both through our dealer network and through our kind of direct -- for our contractors. They lost a few valuable weeks, even though, we see some normal weather in Q4 and the farmer saw the crop off, which is fantastic. You know that bin erection season did end late Q3. So we expect that we expect that will have a kind of a minor impact in Q4 as the dealers didn't unload all of the inventory they might have otherwise, but not a material effect, and we expect that effect will have over that -- the same dynamic will have a slight negative effect in Q1 of '19. We don't believe it's a significant event. We look forward to Q2 of '19, the new crop season I mean, that's -- the dynamic on the Farm are very positive, and we believe this is a -- an event worth mentioning, but not a significant event.
Okay. So sort of maybe a little bit differently, you talked about 11% organic growth rate year-over-year excluding acquisitions, is that pretty much independent of the weather impact that we saw in the quarter? Or would it have been higher, by a couple of 100 basis points, if we had seen more sort of normalized weather, absent the pretty aggressive early snowfall?
Yes, it would have been higher. We did lose sales due to the weather and Tim mentioned in his opening remarks, there's geographic weather considerations every year, and they impacted Western Canada in 2018, no question. The growth areas U.S. farms, for example, offset -- more than offset the negative impact of the weather in Canada.
Okay. Do you have a feel for what the growth rate would have looked like in a more normalized environment?
It's pretty hard to say, Greg. It was -- we certainly would have a little bit more across those -- in a little bit different weather would have a little bit more in the quarter.
No worries. Okay. And then secondly, kind of, second bucket here. Talking about the reconciliation, you mentioned decline in year-over-year international sales but the backlog rising. You talked about the timing being the big impact there. Just to put a little bit of clarity on that, should we be looking for a much more modest role in EBITDA from Q3 into Q4 versus the normal seasonality as a result of those timing issues, implying that you had a bunch of revenue recognitions that just didn't quite make it into Q3, and therefore, we should see a little less of a role in Q4 than what we normally do?
Yes. Well, the timing of those projects is -- Steve talked a little bit about that backlog extending out over a few quarters and probably a little bit longer than we've seen in the past, which is good. Clarity out, the longer it last and the longer we have visibility into is a positive. So it's not just a timing issue between Q3, Q4, going to extend into Q1. We're just -- we're filling up more of our quarters sooner than we ever had in the past.
Okay. Fair enough. So it's something we could see for a couple of quarters there?
Yes. And a regular, sort of, a more normal and especially on International projects, where lead times and design of these projects is becoming -- the total time line sales cycle of some of the projects is looking longer than it has in the past.
Got it. Okay. And then moving over to margins. I want to apologize, I missed 1 of 2 of Jacob's question. So if you already touched on this, just please tell me to go and do my homework on reading the transcript. But you do mentioned higher SG&As to drag on margins. I'm wondering, how we should be thinking about steel, especially with U.S. steel roll still rising right now. Is this sort of headwind, and we should be more conservative on our margins in the near term, or you're able to fully pass through those prices and its neutral, even potentially a tailwind for your margins?
Yes, well, we saw steel is up and down all the time and what we're going to point out here was that gross margin is where to focus on for that resilience versus the input prices and that jumped in the quarter. So showing that we worked through the -- any impact from increasing steel and other input, a lot of input prices increased throughout 2018. Those were -- we accounted for in Q3 and getting back on track for our 9-month gross margins. So it's -- we're going to have ups and downs in steel, in particular, generally up in other inputs, but we accounted for it throughout the 9 months and will going into 2019.
All right. That's good color. And then lastly for me, sort of, staying on margins here, we're moving over to Brazil, great to see a breakeven. Wondering, what your thoughts are on timing from sort of where we are today, which presumably is small but positive margin contribution to being actually added into overall corporate margins versus where we are now, which presumably is still quite dilutive?
Yes, well, from breakeven to accretive to our total margins is probably a bit of a time to go here. We think we'll get to Brazil, we'll look a lot like the rest of the world for us in terms of margins and product mix overall, but we're still just hitting our inflection point. So give us a few more quarters to report back on that one.
No. So that's fair, but I'm just wondering, is this sort of thing where we should be thinking about slow and steady growing over a couple of years or is it the sort of thing that we could -- you could execute out within the 2019 time frame?
Well, by the end of '19, we'll be converging on typical margins. I wouldn't -- I'd say we're into 2020, before we work through the total startup days and product introduction. We brought our key products to Brazil. We still have other products that we're working to bring down there and that -- and the each product line goes through a startup phase as we bring the IP down and get production up in each product line to normalize the margins in that particular product.
And if you think about where you are in margin improvement for a new factory, would this be still very much in overhead absorption, i.e. bringing up utilization. Have you moved into sort of level loading in the sense that your utilization is there but it needs to be more consistent? Or is it more in sort of what I'd call like the final phase of level loading is there and now you need to worry about improving efficiency and cost? So where would you be in the factory startup growth curve there?
Volumes are getting to the point where we can expect much better margins. So it's not a volume issue. It's a efficiency learning and just core execution.
So it's more about internal decisions as opposed to customer uptake on the actual product?
Yes. It's a little bit of everything in the startup, Greg. Everything -- every -- through the sales cycle. Managing different supply chain, the different supply and other input supply chain. Very different Brazil than anywhere in world. So it's a matter of learning that, having it reflected in our systems, our costs and then our selling process. And then the conversion of sales through engineering to their shop floor and then production flow through the facility. All of those things are hundreds of variables that you fine-tune and tweak and adjust as you move from a learning phase to an efficient production phase. So it is literally a combination of hundreds of factors that you influence on a day to day, and we get right as we go.
Your next question is from Andrew Wong from RBC Capital Markets.
Just wanted to go back to the margins a little bit and Tim, you touched on some of the pressures on the steel side earlier this year and it's reversed a bit with some of the sales price increases. Maybe -- could you just talk about what would be normalized run rate gross margin for this business now, like versus historical levels? I understand different products mixes and stuff like that.
Andrew, it's Steve. Our overall margin profile hasn't changed. We spent a fair bit of the space, I guess, in our Q3 disclosures discussing the drop in margins because we knew it would be a topic of discussion. So we -- as Tim described, there were a few what we would characterize as unusual items in Q3. In addition, there was an investment in sales marketing, IT, engineering that will benefit future quarters. For normalized margin for AGI, we would still guide towards 30% plus on the gross margin line. We were 31.4% in Q3, which compared to a 30% last year. Our overall margin profile on the -- with respect to geographic change, growing Brazil, growing international hasn't impacted the overall margin of AGI as we grow margins in other areas. We grow margins with respect to our U.S. farm business and our fertilizer business is up as we grow in other geographies. So a long-winded way of answering your question, but I wouldn't take Q3 to sort of on -- to focus on margins in our disclosures, a statement from AGI that our profile has changed. We expect healthy gross margins, as we've experienced in the past.
Okay. Maybe I don't know if you can answer this, but if assuming Brazil had a similar gross margin profile to the rest of your business, what would your gross margin have been in the third quarter? Would have been, obviously, higher, but like, how much higher?
Well, I won't answer it directly because we haven't made the disclosure. But keep in mind today, Brazil's sales as a percentage of our total is still relatively small. We have grown our sales significantly over last year and they will continue to grow as we grow our Commercial and Farm business in Brazil. The impact on Q3, if we were to normalize to AGI's margins wouldn't have been overly significant.
Okay. Can we get a breakdown of the international sales by regions? Or maybe is that something that you guys can put out later on?
Yes. Well, we've discussed internally disclosures for 2019, it's seemingly becoming more important to describe our business along with geographic lines. So we don't have those numbers today. In our Q3 disclosure, though, you might have noticed or maybe haven't had that time to get into the weeds. But in the Q3, our international sales were up, but primarily, only because of Brazil. So I think when you look at those numbers and you see, sort of, the quantum of the increase that we're talking about, you'll see that the Brazil and international increase over 2017 wasn't so significant that it would impact the overall margin profile of AGI.
Okay, great. And just -- maybe just one more on Brazil. With the new political changes there and a pretty big planting year coming up for the crops. I would think that ag infrastructure gets priority access to capital, credit, investment, so I'm a little bit surprised by some of the commentary around the cautious conservatism on that side, is that just you guys being a little bit more conservative, or are you seeing any improvements in the environment there?
Well, we are seeing some improvements, Andrew. I mean, it probably is us being a little conservative. We've heard before, government programs being announced and not really being followed through under the previous administration. The banking liquidity does seem to have improved somewhat over the last number of months. We're seeing our farm customers come forward with their own financing, bank financing in place, which is a big positive for us. We know, we could provide a real tailwind for AGI and Brazil, as liquidity to the farmer improves. I think we're a quarter away in our disclosures from making a statement that the farm mentality has -- or the cautiousness around capital on the farm has improved in Brazil. It has improved slightly.
And your next question is from John Chu from Laurentian Bank.
Maybe just staying on Brazil for a bit. You mentioned earlier that you're looking to eventually introduce new products into the market. Can you give us a sense of meaning what portfolio you have in there now? And what you might plan to introduce down the road?
John, yes, it's been principally around some of our Farm products that are unique to North America. So around some of the portable loop systems that we have that are not in Brazil yet.
Okay. And how is the margin profile on those?
They're consistent with the remainder of AGI. As we spoke to in previous quarters, the overall margin is difference between what we would call farm and commercial products isn't as significant as may be perceived in the market, still would be consistent with what the AGI profile.
Okay. And then maybe just talk about the price increases that you had implemented in Q3. Are those fully implemented? Could there be some carry through in the Q4? And are there any other price increases planned in the near term?
Yes. Those price increases actually John, were introduced earlier in the year. But we always honor our backlog, the pricing in our backlog and the recent commercial quotes, which live for 30 days. So when we announced the price increase, often there's a lag between when we realized that price increase in our financials versus when the sale input increase. So our H1 was impacted because the sales prices that we announced in H1 weren't realized until Q3. There are now fully realized and I wouldn't expect to see a benefit from them in Q4.
So is it safe to assume that the lag in terms of the price increase versus the higher input cost, that's mostly been minimized now?
We have worked through it, yes.
Okay. And then, maybe just talk about global industry, where are we with -- in terms of the margin profile. We know that it's been depressed. When you acquired it was, kind of, the bottom. But are we getting close to what, kind of, the more historical normalized margins are? And if not, what you think the timing is to getting there?
It's steadily improving. Our target really isn't their historical normalized margins. We have our own margin expectations, which were higher than they had achieved historically. They would have -- as of the date of acquisition in a very low ebb of the cycle in the U.S. and had a burden of some cost that as AGI, we didn't require. So as we disclosed in early days, we realized synergies very quickly, sales are ramping up, both due to improving market conditions and also the AGI initiatives. We -- the margins at the global divisions has improved, quite significantly compared to a year ago. We expect that margin to continue to improve as we continuously improve manufacturing processes, as we take steps to improve sales or increase sales. Very soon the margin profile at global will be similar to the remainder of -- or the similar products in the AGI family.
Okay. And then last question. Just in terms of international timing issue that you're seeing. Is this potentially relative to some of the new regions that you're opening up, is that potentially creating some or is it just as it used to be from the old...
It's not -- sorry, John, didn't mean to cut you up. I don't think I would use the word issues. I think we pointed it out because we've been talking about a very large backlog internationally, which we have. It's the highest international backlog we've ever had, and I think it would be our normal assumption for this treat to make that a sizable portion of our backlog would have landed in Q3 and it's probably not as much as expected, or not as much as expected by the Street did land in Q3, and still we know particular reasons why. It's customer decisions and when they're ready to receive product, some of that would have been preplanned from earlier in the year. We'll expect to receive ha approx in Q4 or Q1 of '19. So it was really just the cost limits of events, I suppose, or comment made to address Street expectations of what international sales should have been in Q3. So there were no issues, nothing specific to geography. It really was just customer request.
And last question then. This isn't anything similar to what we saw maybe in Ukraine, where so many of these projects got delayed almost indefinitely or for some long periods of time, these are just short delays. Is that your view?
Yes.
Yes. John, it's not really project delays. It's the timing of them. So they may be scheduling them. It's a combination of a lot of things but the timing could be out, they're planning now for something into Q1 of 2019.
Yes. Right. And it's also not a specific project or 1 or 2 projects. It is -- I remember, what you're -- this project that you're referring to which was one project in Ukraine. Our international business is much more diverse today than it was then and the profile is much different. So again, we highlighted it in our disclosures and in our opening comments because our expectation with the Street expected more in Q3 than here in Q3 and then it really was not related to a single particular issue.
[Operator Instructions] Your next question is from Steve Hansen from Raymond James.
Just a couple of quick questions for me if I could. On Brazil, specifically, can you maybe just describe the relative mix of sales you're seeing down there in terms of Commercial versus on Farm? And how that might apply to our backlog as well. I'm trying to get an understanding if these Commercial sales are ramping more aggressively than the on Farm given some of the trade dynamics we're seeing out there et cetera?
Yes. Sure. I mean, it's a balance, Steve. It's -- we have growing sales in both of those areas. The Commercial business in Brazil has been a positive for us. As expected and also due to product introduction from North America, which we spent a lot of time and effort bringing down, since we began with the new facility in Brazil. So both areas are represented in our backlog and the Commercial businesses has been, as we disclosed in our MD&A, very busy area for us.
It also changes month-to-month. We can have some big Commercial projects go through the plant and change the mix quite a bit on a month-to-month basis. So -- but good momentum on both sides.
Okay, that's helpful. And Just maybe on the sales and marketing expense, you described, I think engineering was thrown in there as well, the added effort. Can you just maybe help us understand how this will be deployed across your platform or perhaps by region? I'm trying to get a sense of where you're spending these additional dollars and how we should expect that to translate into additional sales, and where they'll be focused?
That engineering spend is really in each of our, sort of, major geographies of regions. So a big part of it is in North America. We're rebuilding how we sell, how we design systems, and then how we support production and then project execution. So it's really across quite a few different parts of our business and then doing that in North America, South America and Europe.
Okay. And the same would apply to the sales and marketing, is there any region, in particular, that's being focused on or it's across platform?
No, it's pretty equally weighted across those 3 geographies.
Okay, great. And then just a last one for me if I may on the M&A pipeline. Can you maybe just describe how you're feeling about it, or what the opportunity set looks like given the current environment and where you see the best opportunities across your different 5 platforms?
As you can imagine, we focused on places where we were -- that are newer to the 567. So new geographies and new products. So if you look at the last few years, we spent a good amount of time in the fertilizer, on acquisitions and then the seed, feed and food platforms would be underweighted in the overall mix. So those are places where we're focused now. Much of our spend and operations in North America and good investment and growth in South America. So the rest of the world would be more of a leaning towards -- to where we're looking. So as you look into EMEA and into Asia.
Thank you. There are no further questions at this time. You may proceed.
Okay. Fantastic. Thank you very much for your time this morning and look forward to talking to each of you individually or more over the coming quarter. Thanks very much.
Ladies and gentlemen, this concludes today's conference call. We thank you for participating, and we ask that you please disconnect your lines.