SNC-Lavalin Group Inc
TSX:SNC
Earnings Call Analysis
Q3-2023 Analysis
SNC-Lavalin Group Inc
Amidst uncertain economic conditions, AtkinsRéalis has demonstrated resilience and robust growth. The third quarter saw a record backlog and organic revenue growth in the AtkinsRéalis Service business, with a notable 19.5% year-on-year increase and an upward revision of full-year revenue growth projections to between 15% to 17%. The company's successful pursuit of an ambitious growth strategy has yielded positive peak cash flows and a significant increase in global headcount by 1,200 employees, emphasizing the company's strength and potential for future growth.
The company's backlog grew by 7% in Q3, bolstered by significant wins, such as transportation work in the U.S. and a major battery plant contract in Quebec. The demand for AtkinsRéalis' services remains vigorous worldwide, demonstrated by continuous wins across all regions and end markets.
AtkinsRéalis' Engineering Services business reported a 23% increase in revenue during the third quarter, contributing to a backlog currently valued at approximately $5.1 billion, representing an 11% growth compared to the previous year. Expansion in geographies such as the U.K., the U.S., and Canada, where demand for infrastructure and sustainable projects is rapidly increasing, has positioned the company for robust ongoing growth.
Commitments to sustainable infrastructure and net zero projects continue to drive government spending and growth in the renewables market, with AtkinsRéalis securing projects that align with global sustainability goals. The firm is attracting and retaining talent pivotal for delivering on these projects, which now constitute approximately 50% of its revenues.
The Nuclear business has seen a 20% increase in organic revenue in Q3 compared to the same period last year, with a promising pipeline for life extension work and new nuclear opportunities. Noteworthy developments include a potential expansion at Ontario's Bruce Power Station and the signing of a multi-billion development deal in Romania.
With a total revenue increase of 17% to $2.2 billion in Q3, and segment adjusted EBIT up by 47%, AtkinsRéalis is exhibiting strong financial performance. The company's debt to adjusted EBITDA ratio improved to 2.7x as net debt decreased and EBITDA increased. Strong operating cash flows in the services segment and positive net cash generation underscore the health of the business.
AtkinsRéalis' success is rooted in its strategic positioning across high-growth geographies and markets, particularly in Canada, the U.S., and the U.K. By securing key contracts and advancing in sustainable infrastructure and clean energy solutions, the company is set for long-term growth and consistent cash flows, all supported by a dedicated workforce.
You don't have any saved screeners yet
Good morning, and welcome to AtkinsRéalis Third Quarter 2023 Results Conference Call. [Operator Instructions]
I would now like to turn the conference over to Denis Jasmin, Vice President, Investor Relations. Please go ahead.
[Foreign Language] Good morning, everyone and thank you for joining us today. For those dialing in, we invite you to view the slide presentation that we have posted in the Investors section of our website which we will refer to during this call. Today's call is also webcast. With me today are Ian Edwards, President and Chief Executive Officer; and Jeff Bell, Executive Vice President and Chief Financial Officer. [Operator Instructions] I would like to draw your attention to Slide 2. Comments made on today's call may contain forward-looking information. This information, by its nature, is subject to assumptions, risks and uncertainties and as such, actual results may differ materially from the views expressed today. For further information on these assumptions, risks and uncertainties, please consult the company's relevant filings on SEDAR+. These documents are also available on our website. Also during the call, we may refer to certain non-IFRS financial measures. Reconciliations of these amounts to the corresponding IFRS financial measures are reflected in our earnings release and MD&A which can be found on SEDAR+ and our website. And now, I'll pass the call over to Ian Edwards. Ian?
Thank you, Denis. Good morning, everyone, and thank you for joining us today. We're extremely pleased with our performance during the third quarter, which led to robust results, including record revenue in AtkinsRéalis Services and another record backlog.
Our AtkinsRéalis Service business revenue expanded organically by 19.5% year-on-year, outperforming our 2023 outlook range that we increased last quarter to 12% to 15%. Segment adjusted EBIT grew 23% as we continue to actively manage our costs to deliver our targeted margin percentage. We achieved another record backlog this quarter, totaling $12.5 billion as of September 30, as demand for our services remains very strong in our core end markets and geographies.
Given our strong year-to-date performance, robust backlog and the pipeline of prospects, we are raising once again our AtkinsRéalis Services organic revenue growth outlook for the full year to between 15% and 17%. We generated positive peak cash flow following the resilient performance of our businesses and the closing on the sale of our Scandinavian Engineering Services business. We also continued to successfully add high-quality talent in the quarter, indicative of our engaging core purpose, values and strong culture. We increased our headcount by an additional 1,200 employees this quarter. This further highlights the current and future strength of AtkinsRéalis, as we strategically enhance our capabilities, while many companies across the globe shrink in the face of economic uncertainty. Performance this quarter emphasizes the underlying strength of our pivoting to growth strategy, which has enabled substantial growth across our businesses. We have taken measured steps to become a premier fully integrated professional services and project management company. We have chosen specific geographies and segments that are growing fast. Within them, our technological capabilities of people and scale lead to our ability to grow above the market. We help our customers provides secure, clean and affordable solutions to solve the global energy trilemma. We are hiring the right people, and we are operating more collaboratively. This is all happening as public entities increased their focus for the betterment of the planet and its people. I am extremely proud of our achievements to date this year, and I'm excited to do give details about it today.
On Slide 4, we highlight our backlog growth of AtkinsRéalis Services. Our 7% growth in the third quarter versus the third quarter of last year was driven by wins across all regions and end markets. We continue to see key wins across many of the markets in which we operate, including transportation work in the U.S. and securing a large battery plant contract in Quebec. The further wins emphasize the demand for our services across the globe.
Turning to Slide 5. Our Engineering Services business continues to drive robust organic growth for AtkinsRéalis, as witnessed, a 23% increase during the third quarter. Our second consecutive quarter of record revenue generation was driven by securing new wins across our geographic footprint.
Segment adjusted EBIT increased 35%, representing a margin and segment adjusted EBITDA over net revenue margin of 8.7% and 14.4%, respectively, during the quarter. We continue to elevate our backlog, which now stands at approximately $5.1 billion, representing an 11% growth versus our backlog as at September 30, 2022.
On Slide 6, we provide further insight into our Engineering Services growth in each of our core geographies of the U.K., the U.S. and Canada, as well as other target geographies with strong potential. We continue to see exponential demand for our services in these markets, fueled by the need to replace aging infrastructure and provide clean, affordable solutions for the built environment.
In the U.K. and Europe, our capability in supporting growth through infrastructure and water facility development as well as defense are driving wins for our business. This comes on the heels of the U.K. announcing its intent to double its investment in water infrastructure over the next 5 years. We also secured a key win with the U.K. Ministry of Defense this quarter, which further strengthens our position as a trusted partner with the government. In the U.S., the government's commitment to construction safe and carbon neutral infrastructure is leading to continued strong performance. The capital infusion from the Infrastructure Investment and Jobs Act on the Inflation Reduction Act remains in the early days. And we have a significant number of bids for additional work, particularly in the transportation, minerals and metal sectors, highlighting the elevated demand for our services and the opportunities that persist for AtkinsRéalis. The line of sight for further opportunities remains vast as the U.S. will continue to invest in lowering the carbon footprint on their aging infrastructure. In Canada, our value proposition is being recognized as we continue to accelerate our backlog with higher quality contracts. These wins are being secured across power and renewables, industrial and transportation end markets. Our focus on investing in our people and on technology will continue to yield robust growth in Canada.
Our proven ability to provide end-to-end engineering services will continue to bring other key wins in our core geographies. Infrastructure projects related to net zero and sustainability will continue to drive government spending with growth of the renewables energy market, the delivery of clean amount of transport and industrial projects that support the growing trends of decarbonization and reshoring. We are successfully attracting and retaining top talent to support our growing pipeline in the Engineering Services business across all of our operating regions.
I'd now like to move on to Slide 7 and the results for our Nuclear business. We continue to demonstrate solid growth with an organic revenue increase of 20% this quarter compared to the third quarter of 2022. Our Nuclear backlog is $1.1 billion, which represents a 23% growth versus our backlog as of September 30, 2022. Segment adjusted EBIT increased 6% while margin fell 2.4%, mainly due to the business mix of the Nuclear segment this quarter.
On Slide 8, we highlight achievements in each of the Nuclear services that we provide. The market outlook for new build and new nuclear opportunities is gaining more positive traction quarter-on-quarter. In Ontario, the Energy Minister announced a proposal to expand the Bruce Power Station, which will come in addition to the work we're already performing on this contract. In the U.K., the government has announced an allocation of more than GBP 340 million for additional development work at the Sizewell C project. And last month, Canada and Romania signed a $3 billion development deal for 2 new reactors joining the existing CANDU fleet reactors at the Cernavoda plant. Current projects and the pipeline of opportunities on life extension work remain robust. In Ontario, we continue to be actively supporting extension work on OPG Darlington and CANDU life extension work at Bruce Power. Earlier this year, the Ontario government gave its official stamp of approval to the extension of Pickering nuclear until 2026, which could pave the way for a full refurbishment. And in Romania, we received the award letter for the engineering technology and procurement of tooling and reactor components in support of the life extension of Unit 1 at the Cernavoda power plant. On Waste Management and decommissioning, we're seeing continued progress on our projects in the U.K., the UAE. And in the U.S., we have a strong pipeline of products in addition to our recent waste management contract extension at the Hanford into 2024. The focus on providing clean, affordable and secure energy by public entities means significant growth for AtkinsRéalis as showcased with our extensive club of accelerating revenues. We are constantly harnessing our capabilities across the globe to be a trusted partner to public entities as they seek to achieve their net zero goals. We believe we are well positioned as an industry leader to generate long-term value in the Nuclear sector. Now moving to Slide 9 and our O&M and Linxon businesses. Our O&M segment generated $115 million in revenue during the third quarter, an 8.4% organic revenue decreased as higher revenues from our REM project were more than offset by the completion of a large contract outside Canada. Segment interest and EBIT margin was very strong in the quarter at 14.2%, well above our long-term target of 5% to 7%. EBIT growth was driven by a closeout of the previously mentioned REM contract.
We continue to see opportunity for growth and expansion in our core geographies through infrastructure improvements such as wastewater facilities and highway projects. We remain focused on leveraging strategic partnerships with key industry players and our capital group to maximize bidding opportunities for the future. Our strategic review regarding Linxon remains ongoing, and we will provide an update when applicable. The backlog increased 58% to $1.2 billion by the end of the quarter with continued strong demand for transmission and distribution services. The improvement in quality of backlog gives us confidence to expand margins in the near future.
Moving to Slide 10 and our LSTK Projects and Capital business. we recognized $13 million in the quarter, in line with our expectations. Our last project REM continues to progress well with the South Shore operating while testing and commissioning on our Ontario projects is continuing as planned. Our backlog decreased by more than 50% to $305 million, primarily representing the REM. As we finalized the LSTK projects for our clients, we continue to pursue recoveries that we are owed and discussions remain ongoing with estimates. Turning to our Capital business. The third quarter revenues were flat, while EBIT saw a slight year-over-year decline. We received $10 million in dividends this quarter compared to $14 million in the third quarter of 2022. In October, we received $44 million in dividends. The traffic volume continues to improve compared to the prior year period. Before turning over to Jeff, I just want to highlight our 2022 ESG report that we published on September 25. Our report emphasizes our core purpose, to engineer a better future for the planet and its people. By utilizing our end joint capabilities, we are helping customers reached their net zero carbon targets. Across the globe, we are a critical partner to governments focused on providing affordable and clean energy, decarbonizing the built environment and building resiliency to climate change impacts.
Our report highlights that approximately 50% of our revenues are from projects that directly solve these global challenges. Our purpose, our committed sustainability and our continued focus on building an inspired, inclusive and equitable workforce attracted talented individuals to help us succeed.
Our goals are achieving through their hard work and dedication, and I'm really proud of the individuals at AtkinsRéalis. Our ability to attract strong employees is a direction translation into our revenue growth, which has proven out year-to-date across our businesses.
Our purpose-built position across our chosen geographies and our end markets fuels our near-term and long-term growth trajectory. And we are really pleased to have organically grown our headcount this year by over 3,500 employees if we don't take into consideration divestment of the Scandinavian business.
With that, I'll now turn it over to Jeff to discuss the financial highlights.
Thank you, Ian, and good morning, everyone. Turning to Slide 13. Total revenues for the quarter increased 17% to $2.2 billion, compared to Q3 2022. AtkinsRéalis Services revenue totaled $2 billion, 24.4% higher than the same quarter of 2022 or 19.5% on an organic revenue growth basis.
Total segment adjusted EBIT for the quarter was $197 million, a 47% increase compared to Q3 2022 and was comprised of $187 million for AtkinsRéalis Services, $23 million for Capital and negative $13 million for LSTK projects. AtkinsRéalis Services adjusted EBIT margin was 9.2%, in line with our target range of 8% to 10%.
Corporate SG&A expenses from PS&PM for the quarter were $47 million compared to $25 million in Q3 2022. The increase is mainly due to the rebranding expenses and the impact of the significant year-to-date share price increase on the long-term employee incentive estimates. The rebranding costs are expected to total around $30 million, made up primarily of the brand development costs themselves, signage and media and public awareness campaigns. We expect approximately 2/3 of this spend to be in 2023 and the remainder in the first half of 2024.
As a result, we now expect that the corporate SG&A expenses from PS&PM to be between $130 million and $140 million for the full year 2023. We also recorded this quarter an accounting gain on the disposal of our Scandinavian Engineering Services business of $46 million, following the closing of the transaction on August 31.
Net financial expenses for the quarter were $50 million, higher than the previous year due to a higher level of gross debt and higher interest rates on variable rate debt. The IFRS net income from continuing operations this quarter was $105 million compared to $45 million in Q3 2022. This was composed of a net income from PS&PM of $91 million and a net income from Capital of $14 million. Adjusted EPS from PS&PM for the quarter increased by 27% to $0.38 per diluted share compared to $0.30 in Q3 2022. Backlog at the end of the quarter totaled $12.8 billion, an increase of 4% compared to September 30, 2022. AtkinsRéalis Services backlog increased by 7% to a record high and included an 11% increase in the Engineering Services segment and a 23% increase in the Nuclear segment. If we now turn to Slide 14. At the end of September 23, the net limited recourse and recourse debt to adjusted EBITDA ratio decreased to 2.7x as the company's net limited recourse and recourse debt decreased to $1.6 billion, and the adjusted EBITDA increased to $587 million. Note that our net debt-to-EBITDA ratio calculated as per our credit agreement also decreased to 2.7x at the end of the quarter. Due to our continuing efforts on cash collection, our days sales outstanding for Engineering Services continued to be strong and stood at 59 days at the end of the quarter.
We now move on to Slide 15 and free cash flow. We generated positive net cash flows from operating activities this quarter due to strong results in our AtkinsRéalis Services businesses and lower LSTK project cash outflows as the projects continue to wind down. AtkinsRéalis Services generated operating cash flows of $184 million. After cash taxes, interest, corporate items and capital, you can see that we generated $84 million of operating cash flow in the quarter and including LSTK projects, $6 million.
When you then add back the federal and provincial charges, remove the CapEx and the payment of lease liabilities, our free cash flow stood at negative $28 million. This amount was more than offset by the receipt of $181 million from proceeds of sales, which was composed of $147 million from the sale of our Scandinavian Engineering Services business and $34 million from the deferred consideration from the sale last year of our interest in the Carlyle investment fund.
Considering other cash flow items such as dividend payments, we generated a total of $117 million of positive net cash in the quarter, for which we used $106 million to mainly reduce our net limited recourse and recourse debt to the $1.6 billion level I mentioned on the previous slide. We anticipate that Q4 should also deliver positive net cash from operating activities as we expected the AtkinsRéalis Services business should deliver higher cash inflows than the LSTK project cash outflows.
With that, I'll now hand the presentation back to Ian.
Thank you, Jeff. Results and positive cash flow generation this quarter further emphasize the resiliency of our business in the face of uncertain economic headwinds and that our pivoting to growth strategy is working. We are strongly positioned with a leading presence across our core geographies and markets of Canada, the U.S. and the U.K., having specifically targeted these high-growth geographies. Our teams on the ground are winning key contracts in our chosen end markets to set us up for long-term growth and consistent cash flow generation.
We are winning through our unique competitive differentiators and our ability to fully service the entire life cycle of an asset. We are a proven trusted partner with our clients, which bodes well for our future opportunities to capture key contract wins across our core businesses as the world positions itself to lower its carbon footprint through sustainable infrastructure and clean energy solutions. The pipeline of opportunities for AtkinsRéalis is bigger than ever and as public entities, continue to focus on solving the energy trilemma.
Lastly, we have a strong, dedicated and growing workforce that helps us achieve these goals. I am thankful every day for their loyalty and their diligence and proving to the world the expansive capabilities of AtkinsRéalis. Our new name denotes an inflection point for the repositioning of the company and a fresh identity for a dynamic organization, and we're just getting started.
With that, I'll now open for questions.
[Operator Instructions] Our first question comes from Jacob Bout of CIBC.
So looking across your Engineering Services business in Europe and U.S. and in Canada, obviously, a strong quarter. But as you move into 2024, what do you view as the weakest link? And how are you thinking about growth longer term in these 3 years?
Well, I think -- I don't see a weak link. I mean that would be the first thing I'd say. And that's not to say we don't realize and understand where economic and macro geopolitical effects could be. But it plays to some of the things that we've been saying over the last few quarters, and particularly in the speech today is that we're deliberately positioning the company where we believe markets are at their most resilient.
And those resilient markets are being fueled by real strong essential demands to maintain, replace, ensure that they continue to function in infrastructure. And that's about water, it's about resiliency, infrastructure, it's about transport. And we're seeing, obviously, in our chosen geographies investment and continued investment by governments.
Secondly, it's the energy trilemma, which is fueling the need to replace electrical generation from fossil fuel to clean energy. So what we've got to remember is that in order to have a clean world, which is driven from electricity and not burning fossil fuels, that electricity grid, it's got to increase its capacity by 2x to 3x. So the combination of both of these things is where we've positioned our services in our chosen geographies.
And obviously, I could go to more detail in each geography, but from a macro perspective, where we think we're in a -- we're positioned well. Now that's not to say that it's recession proof, I mean, nothing is recession-proof, but it's pretty resilient in the face of what we believe we're going to see over the next few years.
So you're not seeing any slowing in any particular region at this point?
Well, no, because we're pivoting to a so-called -- you could say where the puck is moving, from a Canadian expression. We're pivoting our businesses to where we know the markets are going to be strong, fast-growing and meeting our services.
That's good to hear. Maybe just moving on to Nuclear. We're seeing solid revenue building backlog there, and we're seeing kind of 20% growth in each. What's your expectations on growth over the next 12 to 18 months? And then I noticed margins were down year-on-year. What is your view on normalized margins? And how does mix play into this as you think about this book of business on the new builds and refurbs coming out?
Yes, yes, yes. And obviously, we are seeing, attached to this energy trilemma, we're seeing a very strong renaissance in the Nuclear sector, very strong. And the way we think about it is the way on the slide is there is new build support to the CANDU technology and waste.
And perhaps, just to give like an overview answer, and I'm sure there will be a further more detailed question later, we're seeing now nuclear energy as part of the solution for a net zero electrical-generated grid. And because of that, there are certain proof points that I think you've seen announcement around. For sure, Bruce has announced that they are expanding their project on their side with new nuclear. You've seen OPG in Ontario also committing to the SMR technology, which we are a part of with GE Hitachi. And we're also -- you may have seen the commitment of the federal government in Canada to support new build CANDU reactors in Romania for the Cernavoda plant. So they are all proof points of the way that this is moving.
For life extension at CANDU, I mean, obviously, this has been a great business for us at Bruce and Darlington. You've seen that we've got an award of a $750 million engineering procurement contract, again, at the Cernavoda plant to extend the life there. And there are more reactors around the world in CANDU that will be extended.
So if you put all those things together, obviously, we're going to see some pretty significant growth over the future of the business. Now the way this will flow is in engineering and procurement to start with and then actual deployment. So it is going to be gradual through this very short-term growth, but into the medium term, it's going to be fairly significant.
With respect to the margin itself, I mean the margin this quarter is still within the range that we believe is the right range at 13% to 15% EBIT. That's a good range. I mean that's above our Engineering Services business, and it's good for our business. And that's because of the high barrier to entry of Nuclear.
I mean the decline from year-over-year is some specifics that were above the range in 2022, so we're happy with the work we're onboarding, we're happy with the margin. We think it's sustainable through the growth of the business and we're pretty excited about having the sole rights to the Canadian technology in CANDU.
Our next question comes from Chris Murray of ATB Capital Markets.
So just maybe following up to the growth question. Because when you start thinking about organic growth numbers in that kind of range, I mean, kind of low 20s or even high teens numbers, they're -- I guess the question is the sustainability of those just from a perspective of even staffing and doing it organically.
Can we talk a little bit about -- I mean, even despite -- I hear what you're saying about pivoting, but there's got to be, I guess, a moderation at some point before we start worrying about, for lack of a better word, you sort of trip on your own success as you go forward. So how are you guys thinking about kind of normal growth as we go into '24?
No, that's a very, very good point. And obviously, something we're very mindful. And when I was talking about the resilience in the markets, I'm not trying to suggest that our growth is going to run at the same rate than it was this quarter. I mean this quarter was pretty exceptional. What I was trying to emphasize is that where we've positioned the company, we will continue to see growth. Now obviously, I don't want to get into what does the '24 outlook look like now, and we'll get to that, obviously, in the next quarter and communicate that. But the point around the resiliency of the business and in growing at this pace is not lost on us at all. I mean, obviously, we're onboarding new staff. Obviously, there's two parts to our business, one is winning work, and the other is delivering it. And we're very mindful that we have to deliver this work in the right way for our customers to be able to get repeat work.
What I would say is that we're very focused on our top customers, given we've done analysis on our top customers. And a lot of this growth is actually coming from existing customers where they're pleased with our performance. And we've been able to grow our revenues through existing customers. So I think the point is a good point, it's on our mind. We'll obviously communicate what we believe is the right amount of growth for '24 at the right time, but we're definitely pleased with what we're seeing so far.
Okay. That's fair. Not to beat a dead horse too much, but the LSTK projects, the loss in the quarter was, I guess, what we would firmly think of as just being your SG&A costs and your cost to complete. One of your partners also booked some pretty significant losses, I guess, with the settlement agreement but we didn't see anything from you this quarter.
Just wanted to double check. At this particular point, do you feel you've got all the reserves already booked for Ottawa and Edmonton at this point. And now it's just a matter of the closeout of the projects and/or any recoveries that might come down the road in future years?
Yes. I completely confirm what you've just said. We are proceeding as planned and as communicated at the end of 2022. And if you remember, what we said at the end of 2022 is that the projects were complete to a point of physical work that we felt that we could currently forecast the endpoint. And if you also reflect back in 2021 and 2022, we were very transparent on a quarterly basis and said we were having difficulty in forecasting that point because of the pandemic, because of productivity issues, because of supply chain issues, because of strikes.
So we declared all of that in real time through '21, '22. So what we did say at the end of '22 is that what's left on these projects in terms of cost, it's far less than the cost that we've experienced before because it's associated to administrative tasks in closing out documentation, administrative tasks in getting occupation permits and getting all that documentation to hand out to the customer, but also in defect, close out reinstatement of kind of road infrastructure around the projects, testing and commissioning, training the city's drivers and putting them into operations.
So we're comfortable with what we said at the end of '22, and we put a run rate out there of circa $12 million a quarter. We're in line with that. And the projects are going well. Now they're probably not going to open when we expected them to open, but that's the client's prerogative. But those delays opening, again, don't attract material costs for ourselves because we're focused on closing our workout and the expectation that we set out at the beginning of the year. So obviously, I can't comment on any of our partners, but that's the way we see it.
Our next question comes from Yuri Lynk of Canaccord Genuity.
Ian, just wondering if you could -- it's the second quarter in a row that you've increased the guidance for the year, which is great to see. But where is the growth surprising you? I know you talked about water transportation and infrastructure resiliency, but those are pretty broad strokes. I mean could you share with us a little bit in terms of geographies and more precise on the end markets?
Yes, yes, for sure. Because it's -- there's no one thing, frankly, that I can point to, to say that was in excess of our expectation and it was one kind of market or one aspect. I mean it's pretty much across the board. And perhaps I'll just canter quickly through some of the areas and the way that we think about it.
I mean in the U.K., which I think we would, expecting perhaps a bigger slowdown to our business than we've seen, actually, our business has been growing really, really well, and we're really pleased with the way that the business is pivoted to where the funding is going. I mean remember, the majority of our business across the whole portfolio is government work at about 70% to 75%.
And there has been a bit of slowdown in the transport sector, but we've kind of focused on OpEx rather than CapEx in the transport sector. They canceled the high-speed rail extension. But in having these framework agreements to keep the railways moving and framework agreements to keep the roads operating, we've been able to maintain a pretty good level of transport work.
But there's also a big pivot in the U.K. to water and energy and defense. We've been picking contracts up in defense. We're getting ready for water market. And we're obviously in the energy sector, particularly supporting nuclear growth, I think, in Sizewell. So that's kind of an example.
The U.S. pretty much -- pretty busy on the basis of the funding that's going through now in the IIJA and the IRA. But also, it's just essential work in replacing infrastructure that's failing or aging. Canada, a very similar picture. Quite a lot in the renewables and the energy sector from industrial plants that have been supported by federal government and provincial governments here. Transport, again, in a lot of the cities and provinces is fueling. So it's kind of across the board, I mean, across the core geographies.
Now in somewhere like the Middle East, we've been very, very careful because the business there and property is moving so much that we've actually focused more on sustainable work and resilient markets so that we don't kind of grow that to a proportion of the business which is more than around about 10%. So some areas, we're also careful. But I can't point to one thing. And then obviously, Nuclear, as we've talked about.
Okay. And then in that vein, looking at Engineering Services, I mean really phenomenal growth year-on-year. I thought we would see a bit more operating leverage in the business and more margin expansion on the EBIT line. Why isn't that the case? And specifically, are any of those rebranding costs and higher comp costs allocated to Engineering Services in any way?
Yes, Jeff, why don't I take that one? So first of all, on the second question, no, we've left those rebranding costs, so the vast majority of them in our corporate SG&A. Because we're running that, as you'd imagine, from a corporate group perspective to make sure we're getting that the brand out there in a very consistent way. I mean I think in terms of the operating margins, we did see operating margin improvement in the quarter, as you'd expect, and we were pleased with that, and that was very much in line with the expectations and the journey that we're on. And I think we've discussed previously around some of those levers. The first is as we gain scale and at the same time as we continue to drive some of our cost efficiency improvements, including both common systems and tools that we're putting in place including rationalizations across the real estate, that is over time, driving improved margin and will continue to drive improved margins in our view.
We've also talked about the fact that in areas like Engineering Services, we have looked to sell in the case of Scandinavia, businesses that were below our target margins, and we didn't feel we would be able to get them to those target margins in a reasonable period of time. A lot of our geographies and our end markets are very much operating at top tier margins and margins that we would aspire for the rest of the business. And where we don't have that, we have some of -- we have those businesses on improvement plans, and that will take some time to unfold. But as a result, we would expect over the short to medium term to continue to not only be able to grow the top line, but over time, also be driving improved margins as well.
Our next question comes from Benoit Poirier of Desjardins Capital Markets.
Just to come back on the SG&A, $47 million in the quarter, higher than expected, and guidance is increasing for the year. Could you maybe break down the impact of the rebranding in the quarter versus LTIPs? And what kind of run rate we should be using going forward?
Yes, sure. I'll do that, Benoit. So as you heard me say, there's about $30 million we're expecting around the rebranding, about 2/3 of that. This year, most of that's in the second half. So that would be about $20 million.
In the third quarter, as you said, our SG&A costs were about $20 million higher than our normal run rate, around half or so of that was the rebranding cost I was talking about. So kind of half of that $20 million, we'd expect to spend this year, maybe a bit more. And the other half is related to, as I said, the long-term incentive schemes we have and frankly, with the rapid rise in the share price, the catch up in the expense related to that.
That is why we've changed the guidance for the full year from around $100 million to about $130 million to $140 million. Obviously, most of that increase is the rebranding we expect in the second half this year with the other portion being around the long-term incentive scheme.
Obviously, as we get into 2024, sort of we expect about $10 million of the tail end of the rebranding, so we expect to be slightly higher in the first quarter or 2 next year to our normal run rate. So hopefully, that gives you a bit more color on that.
Yes. That's great color, Jeff. And looking at the capital deployment strategy, you've been successful with the divestiture of Scandinavia. You're also thinking about Linxon. If you look also at some milestone leverage came down, you get more confident about the LSTK backlog ramping down. We've seen a name change. Just wondering about the higher interest rate environment, how does it change your capital deployment strategy and what we could expect in terms of financing expense on a run rate basis going forward?
Yes. So I think our guidance very much is similar for this year that we put out at the beginning of the year, so around that sort of $45 million or so level per quarter. But you're absolutely right, our capital allocation strategy that we talked about at our Investor Day back in September 2021, the first priority of free cash flow or net cash flow is driving the leverage on the business towards our target of 1.5x to 2x by the end of 2024. And clearly, in a higher rate environment like we're in, that paying down of debt, we think, is also a good use of capital, both in terms of getting to our target leverage, but obviously, what that will do in terms of driving down interest costs as well.
Now as we said at that time, to the extent that as we move through 2024, we're able to consistently be getting to that leverage level and generating consistent positive net cash flow that may give us the opportunity to do small tuck-in acquisitions or return money to shareholders. But I think we'll continue to go quarter by quarter as we see that with the balance sheet as the priority.
Our next question comes from Sabahat Khan of RBC Capital Markets.
I just want to dig in a little bit more into the U.S. I think, over the last couple of quarters, one of the patterns we've seen is quite a bit of an uptick in headcount. Is this sort of -- obviously, the organic growth has been really good as well.
So just trying to understand, is this sort of hiring to catch up to the demand in the pipeline? Is this sort of foreshadowing good growth looking ahead? And how hard or easy is it to find this labor and kind of the rate? I'm just trying to get an understanding, it looks like there's a bit of a buildup. Like should we read that as it's more work in the pipeline or sort of more just catching up?
Yes. It's all about our strategy really, that we have talked about in the past, our land-and-expand strategy and also looking at markets both geographically and from a sort of end market perspective to really be sustainable beyond any sort of political changes. So we're still in some very specific states.
And just to remind what we've said in the past, Florida, Texas, South Carolina and Georgia, we operate Tier 1. We're in there with all the major U.S. players. And we've also expanded into California, New York, Nevada and Washington State. We're winning work now in those expanded areas. And we're beginning to build relationships with customers and obviously building the teams. And our goal and our strategy is to get us into a top 10 player in the U.S. We're currently from an E&O perspective, around 17. We've got about 4,500 people in the U.S. Obviously, over a period of time in our long-range plan, we want to get to about 10,000 people. The market is there, the need to replace infrastructure, the need to help energy security is there, even regardless of the IIJA and the IRA, because the funding model already was quite strong.
I mean -- and to talk about some of those supercharged sort of funding models, I mean the IIJA is actually only just really starting to get deployed. I mean they've deployed about 20% of the overall $1.2 trillion. So we're only just seeing that flow through, and it's a good market without it.
So 6 quarters of a record backlog for us. We're pleased with progress. Obviously, we want to do more, but we want to do it in choosing sort of sustainable areas of the market.
Great. And then I was hoping to get a little bit of forward-looking commentary on just the operating cash flow, just the free cash generation. Maybe if you can walk us through some of the puts and takes as we head into '24 and '25. And is there -- your cash flow outlook, does that change your views on maybe concession dispositions or anything like that? Or are those 2 separate decisions?
Yes, sure. I mean, first, I think my comment would be it's 2 different decisions. I mean they're not unrelated, but we would kind of look at them on their own.
I think from a cash flow perspective, if I go back to the guidance and the outlook we gave at the beginning of the year, we said we'd be cash flow negative in the first half of the year, primarily driven by the cash drag from the LSTK projects. But as that sort of ramped down in the second half of the year, we see the natural cash flow generation qualities of the go-forward business coming through. And I think we clearly saw that in Q3, and we would continue to look to see that in Q4.
Obviously, as we get it into 2024, I think -- we think that only is more so as maybe a bit of sort of paying a final part of the LSTK supply chain, but broadly, it will be the cash flow generating from the services businesses, which are quite strong. And as Ian said, we'll come back in -- at our Q4 results and give an outlook for 2024.
But our longer-term view is the business itself is one that is set up to be strongly cash flow generative, which not only we think allows us ultimately to hit our leverage targets through next year, but also start to expand the opportunities we have to deploy capital in different ways as well.
With respect to the -- sorry, a bit of a long answer there, but I'll quickly just talk about the concessions. We continue to actively look at the concessions. Obviously, we've talked previously about 407, but the rest of them, where we have the opportunity, we look to reduce our stake when they're in a stable operating environment, often realizing value from those that haven't -- the cost of capital than ourselves and that's been a value accretive thing to do. We'll obviously continue to look to do that over time where we can.
Our next question comes from Michael Doumet of Scotiabank.
I have similar questions to the group here, but I'll just ask them a little bit differently. So I want to go back to the AtkinsRéalis Services organic growth. You talked about the reasons for the upside surprise. In terms of this upside surprise, I guess the question is, how confident are you at this point that this level of revenue likely represents a new baseline versus a tougher comp for next year?
So it's Jeff. I think my view, and I think this very much builds on Ian's comments, is that we fundamentally see in our backlog and in the capability we have in the business and the end markets themselves that we've reached a new baseline of activity and then obviously, as we head into 2024, we would continue to see the opportunity to grow the business. Obviously, we'll come back and talk about our view on that growth in the fourth quarter.
Yes, obviously, with the growth we've had this year, that makes for a tougher comp as you're going forward. But we think it's -- we think that comparative will be one that is a new baseline for us, and we continue to attract the right people and the quantity of people and the quality of people we need to deliver against that. So...
And to build on what Jeff said and perhaps some of the things we've said. We're obviously really pleased with the way the pivoting-to-growth strategy is playing out this year. We need to obviously look at 2024 and develop our pipelines in detail and think about the revenue growth. I mean we certainly wouldn't expect something similar to what we've got this quarter, nearly 20% to be sustainable. But we are confident we'll position this company in good, resilient and sustainable markets.
I appreciate that. I know it's a little bit early, but helpful color. So pivoting to free cash flow. I want to ask this question maybe slightly differently because free cash flow as far as AtkinsRéalis goes, looks to be trending as it should be. So how much working capital deficit is outstanding at this point as it relates to the LSTK projects that you believe -- or do you believe -- in terms of free cash flow going forward?
Sorry, I missed -- you just kind of -- there's slightly a...
The LSTK drag on cash flow.
Yes. So I would say the LSTK drag on the cash flow, you could see in the cash flow slide that we have, it's about $77 million currently, coming down from levels in previous quarters that were in the hundreds or above. We would expect that to continue to trend down in Q4 and into Q1 next year. So I think we're getting pretty close to the end of that. As Ian said, there's still a bit of work we're doing around the areas of closing out the projects, testing, commissioning, et cetera. So there's a bit of cash that goes with that, but that is starting to wind its way down, for sure.
Our next question comes from Devin Dodge of BMO Capital.
I wanted to come back to the Edmonton LRT. I believe there was some progress on claims agreements that came forward recently. I know you answered this from a P&L perspective, and it seems like you've taken adequate provisions. But from a cash flow perspective, did the claims provide much of a benefit in Q3 or will it be more meaningful in Q4 and in early 2024?
So nothing very significant from our perspective. I mean on all the jobs, we rigorously are pursuing recovery through claims. I'm -- through certainly the latter LSTK projects that we're closing out now, we're very much calling the negotiation stage. That will lead either to a settlement -- substantial settlements or will lead to litigation. We are not letting this go until we get recovery of the losses that we incurred in '21, '22 because we believe we've got entitlement.
Now there's always a range of claims. I mean some of them are large, some of them are small. We look to try and sell anything we possibly can so we can get the cash in. So I would say there's some small issues that are getting solved on a regular basis that brings small amount of cash flows in, but the big issues are out there still. And obviously, when we settle those, that is a good cash upside for us.
Okay. Interesting. And then I was going to ask a question about the Nuclear business. I think in design development for the latest utility scale CANDU reactor, I believe it's the Generation III+. Just can you remind us where that stands currently? And can you comment on its readiness for deployment?
So yes, that's a really good question. And perhaps I'll give you some context of the CANDU technology, because there's some -- I think there's some misperceptions out there. There are only 6 licensed large nuclear technologies in the world. One of them is Russian and one of them is Chinese, so you're not going to see that deployed in the Western world. The other is French, Korean, the United States and Canadian. So we have the privilege of this Canadian technology, sole rights of IP. And the technology is constantly improved and upgraded to be relevant and licensed and available for deployment. And there's a misperception somewhere out there that this is an old technology, which is not. It's got the latest safety features. It's got all of the kind of latest regulatory requirements. And that's why, obviously, Romania is very keen to see more CANDU. And I believe we're going to see more CANDU, new CANDU deployed across many old customers and potential new customers ultimately.
There is a consideration that it's -- we have a range of reactor size, 600 to 750. There is consideration that we may need to develop something which is more on the megawatt side and we're working our way through that now -- the gigawatt side, sorry, gigawatt side.
Our next question comes from Maxim Sytchev of National Bank Financial.
Most questions obviously have been already asked. But one thing I wanted to come back to briefly just to the whole margin dynamic. I'm just wondering in terms of that interplay between, obviously, like a very robust top line growth with maybe sort of still surprised not seeing as much of that accreting to the margin profile. And I'm just wondering, again, how do you think about those 2 things? Because ultimately, it's a utilizations game, right? So I'm just curious to see what your thoughts on that are...
Very, very happy to answer the question. It's very much top of mind. I mean clearly, from a [ DevOps ] perspective, we're really happy on the 23% increase in our Services business of margin and year-over-year for Q3. So that's pleasing. Now as you say, the component of that is growth which is 19.5%, which we're pleased with, but also margin percent in profitability.
And we're very, very mindful and clear about where the business needs to improve. We know that large parts of the business are operating at good margin levels. And we know that there are areas of the business where we have put the business on an improvement plan. And I can tell you, Canada, for example, is one of those geographies, but it's in a margin expansion improvement plan. And we are seeing quarter-over-quarter, that being delivered.
But there are also areas of the business where we've had in mind an improvement plan such as the Scandinavian business. Well, because of the local dynamics of large competitors or our own scale, that we haven't been able to achieve those margin improvements. And we will divest as will happen in Scandinavia. So we're on a very deliberate journey also to make sure that our margins are expanding where they need to expand.
And last comment I would make is on our cost base. I mean clearly, controlling our costs and other transformation office, that constantly looks at our cost throughout the business, whatever it is in overhead or offices and facilities, in many respects having a kind of permanent office of looking at this is obviously a key component of all of that as well. So for sure, I mean, top of mind for us is growth, margin percent expansion and cash flow. I mean those are the 3 things we're highly focused on.
This concludes the question-and-answer session. I would like to turn the conference back over to Denis Jasmin for any closing remarks.
Thank you very much for joining us today. If you have any further questions, please don't hesitate to contact me. Have a great Friday, everybody, and a great weekend. Thank you very much. Bye-bye.
This concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.