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Edited Transcript of FSS earnings conference call or presentation 2-Nov-17 2:00pm GMT

Q3 2017 Federal Signal Corp Earnings Call

OAK BROOK Nov 22, 2017 (Thomson StreetEvents) -- Edited Transcript of Federal Signal Corp earnings conference call or presentation Thursday, November 2, 2017 at 2:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Ian A. Hudson

Federal Signal Corporation - Senior VP, CFO & Principal Accounting Officer

* Jennifer L. Sherman

Federal Signal Corporation - CEO, President and Director

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Conference Call Participants

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* Christopher Paul Moore

CJS Securities, Inc. - Senior Research Analyst

* Ken Newman

* Marco Andres Rodriguez

Stonegate Capital Markets, Inc., Research Division - Director of Research & Senior Research Analyst

* Walter Scott Liptak

Seaport Global Securities LLC, Research Division - MD & Senior Industrials Analyst

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Presentation

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Operator [1]

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Good day, everyone, and welcome to the Federal Signal Corporation Third Quarter Earnings Conference Call. Today's call is being recorded.

At this time, I would like to turn the conference over to Jennifer Sherman, Chief Executive Officer. Please go ahead.

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [2]

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Good morning and welcome to Federal Signal's Third Quarter 2017 Conference Call. I'm Jennifer Sherman, the company's President and Chief Executive Officer. Also with me on the call today is Ian Hudson. As you may have seen, we recently announced that Ian has been promoted to the position of Chief Financial Officer. Ian has served in that role in an interim capacity since March, and we are thrilled to have successfully transitioned the leadership of our financial function to a professional of his expertise and caliber. A collaborative leader, he brings deep accounting and financial expertise, extensive knowledge of our company and pragmatic problem solving to the position. Ian is known to our internal and external stakeholders, including the investor community, as an outstanding financial executive who has played a key role in our recent strategies.

With that I'd like to turn the call over to Ian.

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Ian A. Hudson, Federal Signal Corporation - Senior VP, CFO & Principal Accounting Officer [3]

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Thank you, Jennifer. I'm glad to be starting my new role talking about another strong quarter. Before we begin, there are a couple of housekeeping matters to address. Firstly, we will refer to some presentations slides on today's call, as well as to the earnings news release, which we issued this morning. The slides can be followed online by going to our website, federalsignal.com, clicking on the Investor Call icon and signing into the webcast. We have also posted a slide presentation and the news release under the Investors tab on our website.

I'd also like to remind you that some of our comments made today may contain forward-looking statements that are subject to the safe harbor language found in today's news release and in Federal Signal's filings with the Securities and Exchange Commission. These documents are available on our website.

Our presentation also contains the measures that are not in accordance with U.S. Generally Accepted Accounting Principles. In our news release and filings, we reconcile these non-GAAP measures to GAAP measures. In addition, we will file our Form 10-Q later today.

I'm going to start today by addressing our third quarter financial results. Jennifer will then provide her perspective on our performance, our outlook for the remainder of this year and her thoughts on market conditions as we enter into 2018. After our prepared comments, Jennifer and I will address your questions.

Our consolidated third quarter financial results are provided in today's earnings news release. As a reminder, the third quarter of this year includes the operating results of Truck Bodies and Equipment International, or TBEI, which we acquired on June 2 this year. The results of TBEI have been included within our Environmental Solutions Group for the quarter. Overall, our third quarter results exceeded expectations. Consolidated net sales for the quarter were $248.7 million, up $62 million or 33% compared to the third quarter of last year. Excluding acquisition-related effects, our organic sales growth for the quarter was about 8%. Operating income for the quarter of $22.2 million was up $8.7 million or 64%, primarily driven by an $8.7 million increase within our Environmental Solutions Group.

Within our Safety and Security Systems Group, third quarter operating income decreased by $400,000, while corporate expenses decreased by a similar amount. Consolidated operating margin for the quarter was 8.9%, up from 7.2% in the prior year quarter. Consolidated adjusted EBITDA for the quarter was $33.3 million, up $11 million or 49% compared to Q3 last year. That translates to a consolidated adjusted EBITDA margin of 13.4% in Q3 this year compared to 11.9% last year.

Income from continuing operations was $12.5 million in Q3 this year compared to $7.5 million last year. That translates to GAAP EPS of $0.21 per share, which compares to $0.12 per share last year. On an adjusted basis, EPS for Q3 this year was $0.24 per share, which is up $0.07 or 41% compared to $0.17 per share last year. Order intake continued to be positive with total orders of $229.6 million in Q3 this year, an increase of $43.5 million or 23% compared to the prior year quarter. The improvement was largely driven by organic order growth of approximately $13 million or 7% and the effect of the TBEI acquisition. We ended the quarter with a consolidated backlog of $204 million, which was up $55 million or 37% compared to last year.

At the group level, ESG sales of $198.5 million were up $64.2 million or 48% compared to last year. TBEI added $47 million of sales in the quarter and higher domestic shipments of sewer cleaners, vacuum trucks and street sweepers contributed to a $17 million organic sales improvement within ESG. ESG's operating income for the quarter was $21.2 million, up from $12.5 million in Q3 last year, and its operating margin for the quarter was 10.7%, up from 9.3% last year.

ESG's adjusted EBITDA for the quarter was $30.7 million, up $10.9 million or 55% from a year ago. That translates to an adjusted EBITDA margin of 15.5% in Q3 this year compared to 14.7% last year. ESG reported total orders of $178.2 million in Q3 this year, an increase of $42.2 million or 31% compared to the prior year quarter. Excluding acquisition impacts, organic order growth was approximately $11 million or 9%, largely due to improved domestic orders for sewer cleaners, street sweepers and vacuum trucks.

Within SSG, third quarter sales were down $2.2 million or 4%, largely due to lower global sales of public safety products, and its operating income in Q3 was $6.1 million compared to $6.5 million last year. SSG's adjusted EBITDA for the quarter was $7.3 million, down from $8 million a year ago, partly due to incremental strategic investments made in support of new product development initiatives. SSG's adjusted EBITDA margin for Q3 was 14.5% this year compared to 15.3% last year. SSG reported total orders of $51.4 million, an increase of $1.3 million or 3% from last year, primarily due to improved international orders for industrial products.

Corporate operating expenses for the quarter were $5.1 million compared to $5.5 million a year ago. The decrease was primarily driven by a net reduction in employee compensation expenses and lower pension costs, partially offset by higher acquisition and integration-related expenses.

Turning now to the consolidated income statement where the increase in sales contributed to a $16 million improvement in gross profit. Consolidated gross margin improved to 24.6% for the quarter, up from 24.3% last year. Selling, engineering, general and administrative expenses of $38.3 million were up 23% compared to the prior year quarter, largely due to the addition of expenses of businesses acquired in the current year and a $2.2 million increase in amortization expense.

We also incurred $400,000 more in acquisition and integration-related expenses in Q3 this year, which was partially offset by lower restructuring charges. All of these factors roll into the company's $22.2 million of operating income for the quarter. Other items affecting the results include a $2.1 million increase in interest expense associated with higher average debt levels following the TBEI acquisition and a $200,000 increase in other income.

Tax expense for the quarter was up $1.8 million due to higher pretax income levels and the effects of an increase in the state tax rate in Illinois, which was effective at the beginning of Q3. The rate increase required us to rescore on net deferred tax liabilities at the higher rate, which resulted in the recognition of $600,000 of additional tax expense as a discrete item in the quarter. As a result, the effective tax rate for Q3 was 37.5% compared to 43.2% in the prior year. We expect our full year effective tax rate for 2017, excluding discrete items, to be approximately 35%. Our cash tax rate for the year is expected to be approximately 30%.

On an overall GAAP basis, we therefore earned $0.21 per share from continuing operations in Q3 this year compared with $0.12 per share in Q3 last year. To facilitate earnings comparisons, we typically adjust our GAAP earnings per share for unusual items recorded in the current or prior year quarters. In the current year quarter, we made adjustments to GAAP earnings per share to exclude restructuring charges, acquisition-related expenses, purchase accounting expenses and the effects of the tax rate change that I just mentioned. On this basis, our adjusted EPS for the quarter was $0.24 per share compared with $0.17 a share in Q3 last year.

We generated $6.3 million of cash from continuing operations in Q3 this year compared to $13.2 million last year. In the current year quarter, we funded tax payments of approximately $11 million, an increase of about $8 million compared to Q3 last year. Our total year-to-date operating cash flow was $52.1 million, up $35 million compared to last year. During the quarter, we paid down an additional $9 million of borrowings, bringing the total amount of debt paid down since we completed the TBEI transaction in June to almost $30 million.

Our pro forma debt leverage ratio at the end of Q3 was 2.3x down from 2.4x at the end of Q2 and down from 2.7x at the closing of the acquisition in June. We ended the quarter with $255 million of net debt and $99 million of availability under our credit facility. With the healthy cash flows expected to be generated by our businesses, we continue to be focused on delevering in the short term. However, the long-term priorities for our capitals are unchanged. And while maintaining strong liquidity and flexibility, we remain committed to investing in organic growth initiatives, considering additional M&A opportunities and returning value to shareholders. On that note, we paid a dividend of $0.07 a share during the third quarter amounting to $4.2 million, and we recently announced a similar dividend for the fourth quarter.

In October, we also launched a voluntary lump-sum pension offering to certain participants of our frozen benefit plan. Because the lump-sum payments will be made using assets of the pension plan, they will not impact the company's cash flow. In connection with the lump-sum offering, we expect to incur a pretax non-cash settlement charge of up to $7 million in the fourth quarter of this year when payments are due to be made. We also anticipate that the lump-sum offering will help reduce our pension liabilities and related expenses going forward.

That concludes my comments, and I would now like to turn the call over to Jennifer.

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [4]

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Thank you, Ian. We are pleased to report another outstanding quarter with significant year-over-year growth in orders, sales and earnings. The 7% organic order growth was particularly encouraging. We also benefited from some earlier-than-expected shipments associated with changes in customer delivery requirements, which accelerated the recognition of about $0.01 of earnings from the fourth quarter into the third quarter.

Our strong third quarter performance was largely driven by continued momentum within our Environmental Solutions Group, which reported a $42 million year-over-year improvement in orders. As we mentioned back in August, we were not expecting the growth in orders from customers replenishing rental fleets to continue at the same pace in the second half of the year as in the first half. Despite this, continued strength in municipal demand for store cleaners in the third quarter as well as continued progress with our initiative to expand into the utility market contributed to organic growth of approximately $11 million compared to the prior-year quarter.

On the utility initiative, our year-to-date sales have increased by almost 60%. We now have a dedicated sales team in place and are also exploring potential channel partnerships to accelerate our progress. In addition, we are seeing high levels of utilization of our equipment in our rental fleet, which have been steadily increasing throughout the year. As a result, rental income during the third quarter of this year was up almost 40% compared to the prior year quarter.

Given the high levels of utilization within our rental fleet and the higher demand for used equipment, we might consider making additional net investment of up to $20 million over the next couple of quarters. Such investment will represent a combination of fleet replenishment as we sell units out of the fleet and an increase in the number of Federal Signal products that have particularly high demand and attractive return.

Along with many other companies, our business was impacted by Hurricane Harvey during the quarter. Our Environmental Solutions Group had three facilities in the Houston area. Fortunately, our operations suffered minimal damage. However, a number of our employees were affected with individuals losing possessions and having difficulty getting to work because of the flooding. Our operations were closed for about a week with it taking a couple more days before we were fully operational. The teams did an outstanding job in catching up on production and deliveries, recovering most of the activity to minimize the impact on the quarter. It was heartening to see our dedicated teams rally and do what was necessary to take care of our customers and each other.

Within our Safety and Security Systems Group, we've seen some timing related deferrals of domestic orders from a couple of our larger municipal customers on the public safety side this year. Nonetheless, we believe we are continuing to gain market share in a generally flat market. As you might recall, one of our businesses within SSG, Vama, has operations in the Catalonian capital of Barcelona and services customers in Spain, Europe and South America. Vama contributes approximately 4% of our annual net sales on a consolidated basis. We are currently monitoring the current political situation there. Although we have seen some order deferrals this year, it is too early to determine the potential longer term impact on the business because of the political unrest. It is something we are watching closely as we head into the fourth quarter and into next year.

We have seen the benefits of the applications of our 80/20 initiatives, including material and labor cost reduction acquisitions implemented last year that have contributed to a 210 basis point improvement in our gross margin so far this year. And similar 80/20 initiatives are ongoing at a number of our businesses.

Although SSG's EBITDA margin for the quarter was slightly below our target range, it was partly due to additional strategic investments made in support of new product development initiatives like the expansion of the G-series product line, a range of internationally certified industrial products. We also have a number of early stage initiatives that we are pursuing. Such investments are expected to benefit SSG over the longer term.

Let me give you a couple of examples. Over the last year, we partnered with a company in Europe to provide a body-worn video camera offering in the States that we can provide to our existing customers. We now have a differentiated product and the sales team is preparing for its commercial launch.

In addition, we are also working to develop products to support the next generation of law enforcement with a focus on streamlining the installation and maintenance in vehicles while reducing their weight and supporting inter-connectivity between disparate software and hardware system. We are currently field testing the product with one of our customers.

I'd now like to spend a minute providing a brief update on the TBEI and JJE acquisitions. We are pleased with TBEI's contribution since we closed the acquisition at the beginning of June. As a reminder, TBEI's results during the summer months tend to be stronger than other periods, while the fourth quarter tends to be its softest quarter. We are making significant progress with our integration efforts, which include recently moving two high-potential employees from our Environmental Solutions Group into key management roles at TBEI. TBEI is still on track to deliver the accretion estimates previously communicated for 2017.

With respect to the JJE acquisition, we are now approximately 18 months in, and we remain on track to deliver on the accretion estimate issued at the closing of the JJE transaction in June of last year. From a strategic standpoint, the acquisition has allowed us to provide a more comprehensive suite of offerings to our customers, as demonstrated by the increased rental activity I just talked about. Application of our 80/20 principles at JJE is ongoing as we consider optimizing the composition of product lines within the rental fleet.

Overall, the acquisitions are performing within our expectations and are delivering on our strategic objectives.

I would now like to move on to our outlook for 2017. Our North American municipal markets continue to be steady with particularly strong demand for sewer cleaners. As I mentioned earlier, we are monitoring the political situation in Catalonia, which may impact our Vama business, which historically has a strong fourth quarter.

Within our industrial markets, sales have improved, and we continue to make progress with our initiative to expand in the utility market. And while still in early days, TBEI is off to a strong start. Taking all of this into account and after factoring in our third quarter performance and the growth in organic orders contributing to a strong backlog, particularly for vacuum trucks and sewer cleaners, we are raising our full year 2017 adjusted earnings outlook to a new range of $0.79 to $0.82 per share from a previous range of $0.77 to $0.80 per share. The updated earning outlook excludes any non-cash pension settlement charge that Ian alluded to earlier.

As we began to look forward into 2018, we are encouraged with the growth in industrial orders that we've seen this year. The number of used equipment units available at auctions appears to have stabilized in a more typical level than in recent years. Utilization levels within our rental fleet are strong, particularly relating to products serving industrial markets like vacuum trucks, hydro-excavators and water blasting equipment. And again, I'm pleased with the progress we are making with our plan to expand into the utility market. We also now monitor industry data on new housing starts and activity within Class 8 trucks, which we believe have a correlation to TBEI's business. Both of those have a generally positive outlook for next year.

On the municipal front, our U.S. markets remain healthy overall with strong demand for sewer cleaners. In addition to the situation in Spain, we are also monitoring market conditions in the Middle East. During 2017, some larger fleet orders from customers in that region were deferred. Although we do not believe these orders have been lost, the timing of receiving such orders remains uncertain.

I'm encouraged by the strength of our backlog, the progress we've made to-date on our acquisitions and the execution of our strategic initiatives. Our ongoing focus on 80/20 principles has also led to operational improvements in several of our businesses that underperformed in 2016. As we've demonstrated in 2017, including in the recent trial in Pittsburgh, we are committed to vigorously defending the company's position in its hearing loss litigation. With more trials currently expected to take place in 2018, our legal expenses may increase in comparison to 2017 levels.

In addition, for us to operate towards the higher end of our consolidated EBITDA target range, we would need our end-markets, including oil/gas, to be strong. We continue to believe that M&A will be an important part of our growth in 2018 as we strive to achieve our goal of exceeding $1 billion in revenue. We will provide a more detailed view on 2018 at our next earnings call.

With that, we are ready to open the line for questions. Operator?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question is from Chris Moore from CJS Securities.

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Christopher Paul Moore, CJS Securities, Inc. - Senior Research Analyst [2]

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Just on a relative basis, looking at the industrial versus municipal market, it sounds like the vacuum trucks and sewer cleaners are doing extremely well. From a momentum standpoint, I mean, is the industrial looking stronger than muni at this point in time and any reason to think that will shift at any point?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [3]

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Right now, we're seeing strong growth in the industrial markets, particularly on the utility business. We've been encouraged by the pull-through that we've seen with respect to our ParaDIGm product, which has included both our Prodigy, our HXX product, and marginal recovery in our demand for hydro. We've talked previously about -- we've launched some new products into that market, particularly our Wolf product out of our Westech acquisition, which has been performing in line with our expectations. We've also experienced kind of a positive pick-up on water blasting. On the municipal side, we've talked a lot this quarter about the strong demand for sewer cleaners, but that's been offset by some deferrals that have affected our police business in the U.S. We don't believe that we've lost those orders, and we expect to pick up them either later this year or into next year.

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Christopher Paul Moore, CJS Securities, Inc. - Senior Research Analyst [4]

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Got you, that's helpful. Just in terms of, again -- a little bit bigger picture there. Looking at the gross margins for ESG versus SSG, over the next year or 2, where is it going to be easier to get some incremental margin?

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Ian A. Hudson, Federal Signal Corporation - Senior VP, CFO & Principal Accounting Officer [5]

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Yes, Chris, I think I would probably -- when we look at the gross margin, one of the things that we benefited from probably a couple of years ago was just the leverage from the high volumes we had when oil and gas markets were really blowing and going. That's probably -- in terms of the two, ESG or SSG, I think the margin improvement could result from kind of the incremental volumes that we've seen this year. So that would be one factor.

I think within SSG, we've seen, as Jennifer mentioned in a comment, the 210 basis point improvement in our gross margin year-to-date. That's really a function of some of the material and labor cost reduction initiatives that we've put in place in the last couple of periods, really applying our 80/20 principles. And so that's an important part of the story too in the margin improvement and those 80/20 principles, we're going to continue to apply those to try and squeeze some more margin improvements from both of the businesses.

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Christopher Paul Moore, CJS Securities, Inc. - Senior Research Analyst [6]

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Got you. One thing Jennifer had mentioned at the end was that it would require probably some improvement on the oil and gas side in order to meet target EBITDA margins. Are you seeing anything -- much significant improvement there?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [7]

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We talked about the improvement in utilization with respect to our rental fleet, and we think some of that is coming from oil and gas. We're still -- we're starting to see, I think, internally green shoots with respect to recovery, but we think that any kind of meaningful recovery in oil and gas to positively impact us, because we expect there to be some kind of lag before we would actually benefit from the improvements.

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Operator [8]

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Our next question comes from Ken Newman from KeyBanc Capital Markets.

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Ken Newman, [9]

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Just wanted to go back to the ESG orders. I'm curious, are you seeing big multi-unit orders for ESG, are those higher volume of small orders or is this different from what you've seen in the past order cycles?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [10]

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It really varies year-to-year and during 2017, we haven't seen large fleet orders like we've typically seen in the past with the exception of the Vactor Caltran order, which was a large fleet order. We've also talked about the Middle East, which again typically are the large fleet orders. And although we haven't lost those opportunities, they've been moved out of 2017. So the answer is in general, no, it's been smaller orders that's been driving the increases.

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Ken Newman, [11]

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Got it. And I guess as a follow-up to that, can you maybe talk about what you have in backlog that is set for delivery in 2018, anything beyond 2018 within backlog?

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Ian A. Hudson, Federal Signal Corporation - Senior VP, CFO & Principal Accounting Officer [12]

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Yes, I probably would say that because of the recent strength of the sewer cleaner orders, we have a pretty strong backlog right now for sewer cleaners as well as for vacuum trucks. Just because of some of the momentum in the orders, those will likely extend into the first half of 2018, those deliveries. So that's probably -- in terms of backlog, it's probably strongest for sewer cleaners and vacuum trucks.

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Ken Newman, [13]

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Got it. And then just one more for me and then I'll get back in queue. In terms of the acquisitions, can you maybe just talk a little bit about the number of deals you're looking at that might be considered realistic and maybe a little color on the revenue range of what you're seeing?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [14]

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Yes, although we don't provide specifics, our M&A pipeline continues to be robust. As we sit here right now, we are likely to take a brief pause as we focus on delevering. But we still believe that M&A will continue to be a significant driver of growth in 2018, and I'm pleased that we have a strong team in place to help us achieve those objectives.

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Ken Newman, [15]

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If you kind of look at that pipeline, is it geared more towards ESG vs the muni side?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [16]

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I think that, right now, the opportunities, as you know, really vary. Right now, as we sit here, they probably gear more towards the ESG side.

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Operator [17]

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We have a question from Walter Liptak from Seaport Global.

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Walter Scott Liptak, Seaport Global Securities LLC, Research Division - MD & Senior Industrials Analyst [18]

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Congratulations on the good quarter. I wanted to ask about, it sounds like the acquisitions of TBEI and JJE are going well. And I want to ask if you can just refresh our memories on the accretion that you're expecting in 2018 from TBEI? And if I recall, JJE was a little bit of -- because of the rental fleet, it became more accretive as time goes on, even into 2019. But if you could just refresh us on what the accretion will be for 2018 or is expected to be?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [19]

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Yes, the first thing I'd probably point out is we closed both the TBEI transaction and JJE transaction in June of 2016 and June of 2017, and the way we presented the accretion information was on the anniversary of the closing date. So what we said for JJE is with respect to year 3, third year anniversary would be $0.10 to $0.15. And then TBEI, in the second anniversary would be between $0.07 and $0.12, and we still feel very comfortable with those accretion estimates.

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Walter Scott Liptak, Seaport Global Securities LLC, Research Division - MD & Senior Industrials Analyst [20]

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Okay. All right. So if we -- just kind of round two, the middle round, it sounds like maybe $0.10 for each one accretion in 2018. So working off of a base of $0.80, it looks like you're going to have a nice ramp in earnings from these acquisition and accretion in 2018?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [21]

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Yes, what I would caution you is again the $0.07 to $0.12 is really from June of '18 through June of '19 and we'll be in year 3 beginning in June of '18 for JJE will start year 3. You have to take that six months into account.

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Walter Scott Liptak, Seaport Global Securities LLC, Research Division - MD & Senior Industrials Analyst [22]

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Okay. All right. Fair enough. I want to just switch gears and ask about TBEI and just how that's doing. Some of the truck data that you referenced, it looks like it's picking up for truck orders and the economy is strong for housing, as you pointed out. How would their orders grow year-over-year at TBEI?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [23]

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With respect to the third quarter we talked about, there was $47 million of revenue in the third quarter and $3 million of operating income. The orders for TBEI were $41 million. It gets real noisy trying to do a year-over-year comparison because they acquired Travis during the third quarter of last year. So we're encouraged by where we are. I guess the other thing I would note is we've talked previously about the $3 million to $4 million of synergies that we'll deliver by year 3, and we're on track to deliver those synergies. I talked in the call about we've taken two of our high potential employees from our legacy ESG businesses and now they're in key management roles at TBEI. Today, we're encouraged by where we are.

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Walter Scott Liptak, Seaport Global Securities LLC, Research Division - MD & Senior Industrials Analyst [24]

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okay, great. So it sounds like is TBEI is growing?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [25]

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Yes. We would expect through the cycle that TBEI would have GDP plus growth rates.

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Walter Scott Liptak, Seaport Global Securities LLC, Research Division - MD & Senior Industrials Analyst [26]

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Okay, great. And then maybe if I could ask one more, just on material costs have been coming up and I wonder what your pricing strategies have been, have you implemented a price increase during the quarter and what do you -- have you announced anything for next year yet?

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Ian A. Hudson, Federal Signal Corporation - Senior VP, CFO & Principal Accounting Officer [27]

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Yes, well, we typically have a price increase at the beginning of the year. So in most of our ESG businesses, the price increase will go into effect January 1, 2018.

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Operator [28]

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Moving on, we have a question from Marco Rodriguez from Stonegate Capital Markets.

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Marco Andres Rodriguez, Stonegate Capital Markets, Inc., Research Division - Director of Research & Senior Research Analyst [29]

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I kind of wanted to follow-up some of the prior questions here. Just first kind of talking a little bit about the end-market demand. It seems like if I understood you correctly, the muni is kind of pretty stable, but some good growth on the sewer side of the utility side, and the industrial seemed to be picking back up. Can you maybe parse those areas a little bit more and kind of talk a little bit about where the strength is coming from as far as -- especially on the industrial side, what sort of end markets?

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Ian A. Hudson, Federal Signal Corporation - Senior VP, CFO & Principal Accounting Officer [30]

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Yes, Marco. If we look at just Q3 kind of quarter-over-quarter, industrial is up pretty, $47 million in orders, 97%. Some of that's the addition of TBEI, as Jennifer mentioned, that added $41 million of orders to the quarter. But outside of that, as we think about kind of the organic improvement, where we're seeing strength, in particular, is on vacuum trucks. That would include our hydro products as well as the ParaDIGm in the utility market. As we talked about previously, we launched the ParaDIGm product in Q3 of last year. Sales of that product are up year-to-date 60%. So we're seeing some real momentum in that market as we execute on our strategic initiatives to expand into that space, which is, as we've talked about it, it is a new market for us. So we're really encouraged by that.

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Marco Andres Rodriguez, Stonegate Capital Markets, Inc., Research Division - Director of Research & Senior Research Analyst [31]

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Got you. And so the strength that you've seen in the utility markets, I mean, I know you guys have talked about in the last few quarters where you have seen some positive movements there, but it kind of seems like it's picked up here in this last quarter where you've now called out a dedicated sales team. Is that just the groundwork you've put in over the last year or so has finally started to kind of take shape or were there any other sort of circumstances that kind of drove that strength there?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [32]

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You know, as we've previously talked about 3 years ago, we started the work with respect to entering the utility market because we wanted a suite of products. ParaDIGm, we launched last July. The sales force was not complete until the beginning of this year. In addition to that, where we've been encouraged is not only with respect to sales of the ParaDIGm, but the pull-through of some of our other hydro products, particularly the Prodigy and our larger HXX. So it's a really a combination of all of those things, that we're starting to see the momentum. And as we move forward, we continue to look for additional channel partners. So we think there's more opportunities as we go into 2018.

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Marco Andres Rodriguez, Stonegate Capital Markets, Inc., Research Division - Director of Research & Senior Research Analyst [33]

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Got you. And your movement to looking for these additional channel partners. I mean, how should we be thinking about that from a timing perspective?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [34]

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It's ongoing right now. It won't be one partner, it will be a series of partners as we move forward.

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Marco Andres Rodriguez, Stonegate Capital Markets, Inc., Research Division - Director of Research & Senior Research Analyst [35]

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Got you. And you had mentioned in your prepared remarks that you guys had some, I guess, some orders that pulled through in Q3 that I guess you were expecting for Q4. Were they in a particular segment or industry?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [36]

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Yes, on our SSG side of the business, we had a customer demand that pulled forward a series of orders from Q4 to Q3 that represented about $0.01 of earnings.

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Marco Andres Rodriguez, Stonegate Capital Markets, Inc., Research Division - Director of Research & Senior Research Analyst [37]

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Got you. And keeping on the ESG side, you mentioned adding or at least thinking about adding an additional $20 million in investments to the rental fleet side. Can you maybe talk a little bit about the timing of that potential investment?

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Ian A. Hudson, Federal Signal Corporation - Senior VP, CFO & Principal Accounting Officer [38]

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Yes, I think we say over the kind of next couple of quarters. One other thing, obviously, it's not all adding units to the fleet, it's predicated on us selling units out of the fleet. We've see some pretty strong demand for used equipment out of the fleet as we sell that equipment. So it's going to somewhat be paced based on how we sell the units out of the fleet, the replenishment. So it's not going to be -- in terms of the cash flow impact, it's not going to be one big slug of $20 million, it's going to be gradually paced over the next couple of quarters depending on when we sell the units out of the fleet.

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Marco Andres Rodriguez, Stonegate Capital Markets, Inc., Research Division - Director of Research & Senior Research Analyst [39]

--------------------------------------------------------------------------------

Got you. And last quick question, just kind of a housekeeping item. On your gross margins, I don't think I caught the gross margins by segment, but it looked like aggregate-wise, you got about 100 basis point improvement if you add back in the inventory step up. Can you maybe talk a little bit about that as far as the buckets that helped improve that?

--------------------------------------------------------------------------------

Ian A. Hudson, Federal Signal Corporation - Senior VP, CFO & Principal Accounting Officer [40]

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Yes, sure, Marco. So the gross margins, they'll be in the Q, you will be able to see them in the Q, but just to give you some idea of the improvement, ESG improved 22% versus 19% last quarter and SSG was up 39% this quarter versus 37% last year. I talked a little bit about the benefits that we're seeing on the SSG side from the material and labor reduction actions we took in the prior year. And then on the ESG side, it's really kind of a mix and a volume impact that we're seeing that's helping drive that improvement in the margin on the ESG side.

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Operator [41]

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(Operator Instructions) We'll take a follow-up question from Walter Liptak from Seaport Global.

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Walter Scott Liptak, Seaport Global Securities LLC, Research Division - MD & Senior Industrials Analyst [42]

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Just a couple of quick follow-ups on SSG, the timing of the public safety orders. Are you expecting those in fourth quarter or is that something where it would come through in 2018?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [43]

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A couple of orders from our large U.S. municipal customers have been deferred. Right now, it's unclear whether it'll be Q4 or early next year. And then the other thing I would add, as I mentioned on the call, although a small part of our business, as you know, our Vama business is located in Catalonia, and typically the fourth quarter is one of their strongest quarters, and we're currently monitoring the political situation to understand what impact, if any, it might have on the fourth quarter and going into 2018.

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Walter Scott Liptak, Seaport Global Securities LLC, Research Division - MD & Senior Industrials Analyst [44]

--------------------------------------------------------------------------------

Okay. Did Vama, did you see some disruption with Vama this quarter?

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Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [45]

--------------------------------------------------------------------------------

We haven't seen a lot of disruption yet, but we're continuing to monitor it going forward.

--------------------------------------------------------------------------------

Walter Scott Liptak, Seaport Global Securities LLC, Research Division - MD & Senior Industrials Analyst [46]

--------------------------------------------------------------------------------

Okay, great. And then I wanted to ask about the body video camera that you referenced and it looks like you're making some investment into. I wonder if you could talk about just the timing of commercialization, how do you do that? What the market opportunity could be for this product?

--------------------------------------------------------------------------------

Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [47]

--------------------------------------------------------------------------------

We're still in early days. We've partnered with a company in Europe, Edesix, who is a leading provider of body camera equipment in U.K. We just got our channel in place in July of this year. We think 3 years out, this could be a $15 million to $25 million opportunity, but we're still in early days. And this is typically a pretty long sales cycle. So it's something that we're encouraged by the product that we have, it's differentiated from our competitors. But we'll keep you updated as we go forward.

--------------------------------------------------------------------------------

Operator [48]

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(Operator Instructions) It appears there are no further questions at this time. Ms. Sherman, I'll turn the conference back to you for additional or closing remarks.

--------------------------------------------------------------------------------

Jennifer L. Sherman, Federal Signal Corporation - CEO, President and Director [49]

--------------------------------------------------------------------------------

Sure. Thank you. In closing, I'd like to reiterate that we are confident in the long-term prospects for our business in our markets. I'd like to express our thanks to our stockholders, employees, distributors, dealers and customers for their continued support, not only of the company, but during the recent Hurricane Harvey. Thank you for joining us today, and we will talk to you next quarter.

--------------------------------------------------------------------------------

Operator [50]

--------------------------------------------------------------------------------

And that does conclude our conference today. Thank you for your participation. You may now disconnect.

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