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Edited Transcript of MRC earnings conference call or presentation 16-Feb-18 3:00pm GMT

Q4 2017 MRC Global Inc Earnings Call

TULSA Feb 19, 2018 (Thomson StreetEvents) -- Edited Transcript of MRC Global Inc earnings conference call or presentation Friday, February 16, 2018 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Andrew R. Lane

MRC Global Inc. - President, CEO & Director

* James E. Braun

MRC Global Inc. - CFO & Executive VP

* Monica Schafer Broughton

MRC Global Inc. - VP of IR

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Conference Call Participants

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* Charles Matthew Duncan

Stephens Inc., Research Division - MD

* Nathan Hardie Jones

Stifel, Nicolaus & Company, Incorporated, Research Division - Analyst

* Robert Stephen Barger

KeyBanc Capital Markets Inc., Research Division - MD and Equity Research Analyst

* Sean Christopher Meakim

JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst

* Vaibhav D. Vaishnav

Cowen and Company, LLC, Research Division - VP

* 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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Greetings, and welcome to the MRC Global's fourth quarter earnings conference call. (Operator Instructions) And as a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Monica Broughton, Investor Relations. Thank you. Please go ahead.

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Monica Schafer Broughton, MRC Global Inc. - VP of IR [2]

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Thank you, and good morning, everyone. Welcome to the MRC Global Fourth Quarter and Year-end 2017 Earnings Call and Webcast. We appreciate you joining us today. On the call, we have Andrew Lane, President and CEO; and Jim Braun, Executive Vice President and CFO. There will be a replay of today's call available via webcast on our website, mrcglobal.com, as well as by phone until March 2, 2018. The dial-in information is in yesterday's release.

We expect to file our 2017 annual report on Form 10-K later today, and it will also be available on our website. Please note that the information reported on this call speaks only as of today, February 16, 2018, and therefore, you are advised that information may no longer be accurate as of the time of replay.

In our remarks today, we will discuss adjusted gross profit, adjusted gross profit percentage, adjusted EBITDA and adjusted EBITDA margin. You are encouraged to read our earnings release and securities filings to learn more about our use of these non-GAAP measures and to see a reconciliation of these measures to the related GAAP items, all of which can be found on our website.

In addition, the comments made by the management of MRC Global during this call may contain forward-looking statements within the meaning of the United States federal securities laws. These forward-looking statements reflect the current views of the management of MRC Global. However, MRC Global's actual results could differ materially from those expressed today. You are encouraged to read the company's SEC filings for a more in-depth review of the risk factors concerning these forward-looking statements.

And now I'd like to turn the call over to our CEO, Mr. Andrew Lane.

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Andrew R. Lane, MRC Global Inc. - President, CEO & Director [3]

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Thank you, Monica. Good morning, and thank you for joining us today and for your interest in MRC Global. Today, I will review company performance highlights, and then I'll turn over the call to our CFO, Jim Braun, for a more detailed review of the financial results. I'll then finish with our current outlook for 2018.

We finished 2017 with $3.646 billion in revenue, up 20% over 2016 and in line with our expectations. 2017 marks the end of a first-year recovery after a long 2-year downturn. Adjusted gross profit was $677 million at 18.6%. And we held SG&A steady, resulting in adjusted EBITDA of $179 million for the year, more than double what we did in 2016. We controlled costs, resulting in a healthy incremental adjusted EBITDA of 17%, also in line with our expectations for the beginning of the recovery. Net income attributable to common stockholders was $26 million or $0.27 per diluted share.

The impact from tax reform legislation was a net benefit to our results this year. We recognized the provisional tax benefit of $50 million or $0.52 per diluted common share in 2017. Since we are a taxpayer in the U.S., the new lower corporate tax rate provides positive earnings per share and cash flow benefits. We plan to continue to reinvest in the business for growth as our top priority.

Last quarter, the board authorized a new share repurchase program of $100 million, and we repurchased $50 million under that program at an average price of $15.57 per share. We expect to continue to repurchase our stock. At the end of 2017, we had 91.3 million shares outstanding.

I'm also pleased to report that we are fully operational at our new regional distribution center in Houston. Investing for growth is our top objective, and this regional distribution center positions us to grow -- continue growing in the downstream sector, an important end market where we have a clear leadership position. We have made investments in stainless and higher alloy inventory that is stocked at this new facility, and will help us continue to grow our downstream business.

This facility also houses a 40,000-square-foot valve and engineering center, which has expanded capabilities for large valve automation projects, testing and a larger area for added capacity as well as valve modification shop. We are the premier and largest valve distributor, and this proves our commitment to not only maintain but extend this leadership position.

For the fourth quarter, we reported revenues of $903 million, up 26% over the fourth quarter of last year. The growth was driven by increased customer spending across all segments and sectors. Midstream increased by 40% followed by upstream at 27% and downstream at 8%.

The midstream sector had the strongest performance this quarter. Midstream continues to be our largest sector, fueled by the development of the prolific shale plays with record production in the United States exceeding the last peak production set in 1970. The current regulatory environment is also favorable, which is supportive of new pipelines' increased takeaway capacity as well as gas integrity projects being undertaken by gas utilities across the country.

Our upstream business was up 27% with strong growth across all our geographic segments in the fourth quarter of 2017 as compared to the prior year. North America had the strongest performance with a 28% increase, as the oil market recovery continues. International also had strong upstream results as deliveries for the TCO future growth project began.

Downstream was up 8% in the fourth quarter of 2017 over 2016, led primarily by the U.S., driven by deliveries for the Shell Franklin ethylene project. Deliveries for this project will continue through 2018 and into 2019. We have also captured valuable market share in this sector with previously discussed contracts with ExxonMobil and LyondellBasell, from which we expect to see a full year of sales in 2018.

We continue to focus on driving market share, and we've had success on this front since we last reported. The gas utility subsector within midstream is a customer group that has recognized the benefits of integrated supply. We continue to be a leader in this space through superior service, as we have multiyear contracts with 8 of the 10 largest gas utilities in the United States based on meter count. Recently, we have renewed contracts with several of these gas utilities. We extended integrated supply agreements with Southern Company Gas for 5 years, which acquired Atlanta Gas and Light (sic) [Atlanta Gas Light]; and with Duke Energy for 6 years, who acquired Piedmont. As traditional power companies expand into the gas utility space, it provides us an opportunity to grow our business with new, larger combined power companies.

Outside the gas utility subsector, we recently renewed our contract with our largest Canadian customer, CNRL, for another 3 years, adding scope to include their joint venture, Canadian Natural Upgrading Limited. Finally, we extended our agreement with DCP Midstream for 5 years, another large midstream customer in our transmission and gathering subsector.

In the fourth quarter, we undertook cost-saving measures to restore profitability to our International segment, which has suffered from a third year of depressed customer spending. In contrast to the recovery in North America, the International recovery is lagging by a year. We have reduced headcount significantly in this segment. Since 2014, we have reduced headcount in our International segment by over 500 positions and our operating cost structure is now at a level consistent with what it was back in 2013. With International's current backlog and a positive outlook, we expect that we'll return to profitability in 2018.

We also reduced our local presence in Iraq, which resulted in the write-off of some inventory. The International segment is an important component of our strategic position with integrated oil companies and other international downstream customers as we look to expand our share of their spend and capture new customers. Our recent global contract with ExxonMobil supports this strategy and enforces the value of our global relationships and ability to leverage those relationships into multiple geographies.

With that, I'll now turn the call over to Jim.

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James E. Braun, MRC Global Inc. - CFO & Executive VP [4]

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Thanks, Andrew, and good morning, everyone. Total sales for the fourth quarter 2017 were $903 million, which were 26% higher than the fourth quarter of last year, with all geographic segments and market sectors reporting increases. Sequentially, revenue declined 6% due to normal seasonal decline activity, including 3% fewer billing days.

U.S. revenue was $715 million in the quarter, 30% higher than the fourth quarter of last year. Again, all sectors increased. The U.S. midstream sector increased the most at 40%, followed by upstream with a 28% increase and downstream with a 16% increase. Increased midstream sales were fueled by several large transmission projects, more gathering infrastructure related to higher U.S. production and gas utility spending. U.S. upstream's sales were up 28% due to a higher rig count and more well completions. U.S. downstream increased primarily due to deliveries for the Shell Franklin project as well as maintenance activity and share gains. Sequentially, U.S. segment sales were down from the third quarter by 6% primarily due to a seasonal reduction in midstream sales.

Canadian revenue was $71 million in the fourth quarter, up 29% from the fourth quarter of last year, driven by upstream. Yet all sectors grew as the Canadian markets improved. In the International segment, fourth quarter revenues were $117 million, up 3% from a year ago. Sales in upstream were higher due to future growth project deliveries for TCO and Kazakhstan, partially offset by a decrease in downstream activity.

Turning to our results based on end market sector. In the upstream sector, fourth quarter sales increased 27% from the same quarter last year to $277 million due to growth from improvement in North American market conditions and international project deliveries, as previously discussed. Midstream sector sales were $375 million in the fourth quarter of 2017, an increase of 40% from 2016.

As compared to the fourth quarter last year, sales in our transmission and gathering subsector were up 73% or $89 million, and sales of our gas utilities were up 12% or $18 million. The mix between our transmission and gathering customers and gas utility customers was weighted 57% for transmission and gathering and 43% for gas utilities in the fourth quarter of 2017. And for the full year it was 53% and 47%, respectively.

In the downstream sector, fourth quarter 2017 revenue was $251 million, an increase of 8% as compared to the fourth quarter of 2016, driven primarily by the U.S.

Now turning to margins. Gross profit percent decreased 140 basis points to 15.6% in the fourth quarter of 2017 from 17% in the fourth quarter of 2016. The decrease was primarily due to the impact from LIFO. A LIFO expense of $9 million was recorded in the fourth quarter of 2017 as compared to a benefit of $7 million in the fourth quarter of 2016. Excluding the impact of LIFO, gross profit percent increased 60 basis points to 16.6%.

Adjusted gross profit for the fourth quarter of 2017 was $167 million or 18.5% of revenue as compared to $133 million and 18.5% for the same period in 2016. 2017 includes $6 million of pretax noncash charges related to the write-off of inventory associated with reducing our local presence in Iraq. Excluding that charge, adjusted gross profit would have been 19.2% or 70 basis points higher than the same period in the previous year. The increase in adjusted gross profit percentage reflects inflationary prices from increased line pipe sales as well as a favorable product mix.

Line pipe prices increased throughout 2017 with most of the increase in the first half of the year before stabilizing in the fourth quarter. Based on the latest Pipe Logix all-items index, average line pipes spot prices in the fourth quarter of 2017 were 35% higher than the fourth quarter of 2016 and 27% higher for the year. In 2018, we expect more pipe inflation, but not to the same degree we saw in 2017.

SG&A cost for the fourth quarter of 2017 were $148 million or 16.4% of sales as compared to $128 million or 17.8% of sales in 2016. Both periods include severance and restructuring costs of $14 million and $8 million, respectively. Excluding the severance and restructuring charges in both periods, SG&A grew 12% as compared to 26% revenue growth as we continue to control cost. SG&A in the fourth quarter came in slightly higher than our expectations due primary to year-end accrual adjustments for insurance and incentive pay expense.

In 2018, we expect SG&A expense will be about $525 million to $535 million, which is up slightly over 2017, excluding severance and restructuring cost. There are several components driving this, including reduced expense related to the discontinuance of the SAP ERP implementation, which saves about $17 million per year; reduced expenses in our International segment as a result of headcount and other cost reduction, which saves us about $15 million; partially offset by pay increases for employees, higher incentive incruals, increases in technology spend and volume-related increases.

Interest expense totaled $7 million in the fourth quarter of 2017, which was $2 million below the fourth quarter of 2016, due to savings from the refinancing and lower debt levels. With the passage of the U.S. Tax Cuts and Jobs Act in December, the U.S. corporate tax rate was reduced to 21% from 35% and a onetime transition tax on certain unremitted foreign earnings was levied.

As a result of the new tax law, we recorded a provisional tax benefit of $50 million in the fourth quarter of 2017. The provisional tax benefit of $50 million includes a $57 million noncash benefit related to the remeasurement of our deferred income tax liabilities, offset by a $7 million transition tax expense which will be paid over a period of 8 years.

We continue to analyze the full impact of the tax act and any refinements of our estimates will be reflected in income tax expense in 2018. However, as Andrew mentioned, we expect to have both cash flow and earnings benefits from the lower rate in 2018 as we are currently a full taxpayer in the U.S. As such, and based on our current estimate of earnings by jurisdictions, we are estimating an effective tax rate of 27% in 2018.

Net income attributable to common shareholders for the fourth quarter of 2017 was $29 million or $0.30 per diluted share, including the previously mentioned tax reform provisional benefit of $50 million or $0.53 per diluted share, the after-tax severance and restructuring charges of $14 million or $0.15 per diluted share and $6 million or $0.06 per diluted share for the write-off of inventory in the International segment. This compares to a loss of $24 million or $0.25 per diluted share in the fourth quarter of 2016. The fourth quarter of 2016 net loss attributable to common shareholders includes after-tax charges of $7 million related to severance and restructuring charges.

Adjusted EBITDA in the fourth quarter was $43 million versus $17 million a year ago. Adjusted EBITDA margins for the quarter were 4.8%, up from 2.4% a year ago, due to increased revenue and cost control as described earlier.

Our operations used cash of $11 million in the fourth quarter of 2017 and a total of $48 million for the year. Our working capital at year-end 2017 was $756 million, 11% higher than it was at the end of 2016. We continue to efficiently manage the balance sheet as our working capital excluding cash as a percent of sales was 19.4% at the end of 2017. We increased our inventory turns throughout the year to 4.5x in the fourth quarter of 2017, up from 4.2x in the fourth quarter of 2016. We held the gap between our day sales outstanding and days payable outstanding to 3 days, consistent with the previous year. In 2018, we expect cash flow from operations to be approximately $50 million.

Our debt outstanding at year-end was $526 million compared to $414 million at the end of 2016, and our leverage ratio based on net debt of $478 million decreased to 2.7x from 4x. We have no financial maintenance covenants in our debt structure, and our nearest maturity is September 2022. The availability on our ABL facility was $437 million at the end of the year, which gives us ample flexibility, and it too will grow as working capital grows. At the end of the year, we had $129 million drawn on our ABL and $48 million in cash.

Capital expenditures were $30 million in 2017, about 9% lower than 2016. And in 2018, we will no longer have ERP implementation capital expenditures. As such, we expect capital expenditures in 2018 to be approximately $25 million.

And now I'll turn it back to Andrew for closing comments.

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Andrew R. Lane, MRC Global Inc. - President, CEO & Director [5]

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Thanks, Jim. Now let's wrap up with our current outlook. 2017 was the first year of increased E&P spending after 2 years of severe market contraction, and 2018 is expected to be up over 2017 with International finally beginning to show signs of recovery. Spending surveys show increases of around 15% to 20% in the U.S. Also, many E&Ps have expressed the desire to spend within their cash flow. We will watch this as the year unfolds. However, we expect to have double-digit revenue growth.

Production levels are at all-time high, which supports our midstream transmission and gathering business. Our largest IOC customers are announcing plans to focus their spending in the U.S. shale plays, particularly the Permian. And we are well positioned to benefit in 2018 from this shift in spending. Based on our outlook, we currently expect 2018 revenue to be higher for each sector and segment. We expect 2018 total revenue to be between $3.85 billion and $4.25 billion, or an increase over 2017 of 11% at the midpoint.

By sector, as compared to 2017, we expect upstream to be 10% to 20% higher; midstream, 5% to 15% higher; and downstream to be 5% to 15% higher. Upstream is expected to have the biggest increase as global capital spending budgets are higher driven by continued improvement in commodity prices, and an emphasis on completing DUCs due to higher cash flow.

Taking into account $150 million of specific projects or programs in 2017 that aren't repeating in 2018, midstream growth is expected to be up 20% in 2018 compared to 2017. Midstream benefits from this increase in upstream production levels, which creates demand for gathering systems. The longer haul pipeline build-out also has a knockdown effect of creating a need for more shorter-haul tie-ins and laterals, which is where we are positioned best. And gas utilities should continue with their modernization and integrity projects. Downstream benefits from new project spend, market share gains with several new customers as well as a steady base of ongoing maintenance, including turnarounds.

By segment, we expect the U.S. and Canada to grow double digits and International to grow single digits, consistent with E&P spend expectations. Regarding tempo, we expect the pace of growth to follow our normal seasonal patterns and be weighted slightly more toward the back half of the year. We also expect that every quarter will have an increase over the prior year same quarter. All this is a starting point with a caveat that our customers' plans can change quickly and large project deliveries can create swings from quarter-to-quarter.

Sequentially, we expect first quarter 2018 to be up low to mid-single digits from the fourth quarter of 2017. We also expect adjusted gross margins in 2018 to average 19% for the year as we continue to shift product mix to higher-margin valves, measurement and instrumentation products as well as higher alloys. Some modest inflation in line pipe is also expected to be a benefit, offset by a negative product mix dynamic from the project work.

Our backlog was $832 million at the end of 2017, which is 11% higher from a year ago, primarily due to increases in project spend. Excluding the backlog from 2 large customers, backlog increased 29%. The backlog has continued to increase, reaching $887 million as of the end of January 2018, indicative of growing activity levels.

2017 was a strong first year of recovery, and we are looking forward to another year of double-digit growth. All the progress we made maintaining and acquiring new customers is paying off, and we expect this to continue in 2018 as the market continues to improve. We emerged from the downturn an even stronger, more streamlined organization, and I feel very good about our strong competitive position as well as our ability to capitalize on these further improved end markets.

With that, we'll now take your questions. Operator?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first questions come from the line of Sean Meakim with JPMorgan.

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Sean Christopher Meakim, JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst [2]

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Andy, to start off, I was hoping we just take one second to clarify the guidance with respect to SG&A and adjusted EBITDA. It's worth highlighting just given a lot of confusion with the investors we spoke to last night and this morning. The guidance includes adjusted gross profit and SG&A, but SG&A doesn't make any specific adjustments. To get to your adjusted EBITDA measure, you typically exclude stock-based comp among some other items. So if we assumed a similar $4 million type of run rate per quarter looking forward, that would bring up your midpoint of your guidance on adjusted EBITDA to around 2 55 rather than maybe 2 40. Just want to see if that's square with the way you guys see things and anything else that you'd want to note there.

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Andrew R. Lane, MRC Global Inc. - President, CEO & Director [3]

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Yes. Sean, you're exactly right. We didn't specifically call that out in the guidance last year. In 2017, it was -- stock-based comp was $16 million. The year before, it was $12 million. And we're guiding to $14 million for 2018, so you would definitely add the $14 million to the other guidance and get right where you've just mentioned.

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Sean Christopher Meakim, JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst [4]

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Got it. Okay. I think just -- so we're staying with the guidance on gross margin. It'd be great to hear -- well, first, how much did mix versus pricing drive the improvement in the fourth quarter? And then, really, we're looking forward to 2019, the 19% guidance, how do we think about mix with respect to valves versus line pipe? And just thinking about the flex of that gross margin assumption within the range of the revenue guidance that you offered?

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Andrew R. Lane, MRC Global Inc. - President, CEO & Director [5]

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Yes, Sean. And Jim may want to add some comments, so let me start. The way I think about this, we've been working on this several years. And as we guided last year in '17, we had improvement every quarter through the year as we tended to guide to. And when I think about our margin as part of adjusted gross profit margins, from a historical perspective, the previous peak for our company was 19% in '12 and 19.3% in 2013. So we had higher pricing in the market for our general products offset by lower margin OCTG at that time. So we've been working for several years to change that mix to a higher margin blend. We made progress all the way through 2017. Pricing across a lot of categories are improving. And when you think 19% is a good, solid, conservative place to start for 2018, knowing that the back half of '17 we were slightly higher than that, but we want to start there for the year. I certainly see everything we've been working on to add to that. Lower margin cover and pipe projects and then E&P projects tend to be slightly lower, our MRO tends to be higher, the mix and shift towards the major valve company, which we've become now after several years of transitioning, all of that should be positive and lead us to better margin. I certainly see us being above this 19% guidance in both '19 and '20 as I look out -- as the rest of our implementation takes effect and the growth in the market comes, but we feel solid guiding you to that and with no downside to that.

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Sean Christopher Meakim, JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst [6]

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Got it. That's very helpful detail. I guess, one more piece just to the guidance, if you don't mind. Just thinking about the earlier comments on SG&A that we talked about, the guide is pretty flat year-on-year alongside pretty good top line growth. So just curious how we should think about SG&A intensity going forward and then just how you -- the flexibility of having that spend depending on what type of volume the market gives you.

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James E. Braun, MRC Global Inc. - CFO & Executive VP [7]

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Yes. So Sean, this is Jim. So as we mentioned in the prepared remarks, we've got the benefit of a couple of the large items coming out of the SG&A expense, the SAP implementation cost reductions in the International business. When you look at the increases that are coming from salary increases, some additional headcount to support the volume growth in the U.S., that tends to offset those benefits so we do end up rather flat on a year-on-year basis. In terms of the cadence of that, on a quarterly run rate, we ought to run within that average of the SG&A expense. We'll see a little build as we go through the year as we bring on some of those heads as the business continues to pick up. But for the most part, we ought to operate on a quarterly basis within that range.

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Operator [8]

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Our next questions come from the line of Matt Duncan with Stephens.

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Charles Matthew Duncan, Stephens Inc., Research Division - MD [9]

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So I want to come back to gross margin for a minute. And you look at where it was in the back half of last year at 19.1%. You talked about prices expected to rise this year. You talked about the mix benefit you expect to get. Why should we not think that you would do better than 19.0%? I mean, it just seems like you've got tailwinds there that should help as we move through this year. I appreciate that you don't know the exact mix and cadence of the year yet and maybe that's why you're being a little conservative. But is it fair to say that if the year breaks the way you think it will, you should do better than that?

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James E. Braun, MRC Global Inc. - CFO & Executive VP [10]

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Yes, Matt. I mean, we're certainly coming into this year in a better position than where we were a year ago, and all those things you said are true. The one thing that balances those or counters that is the fact that we do have some very large project deliveries in 2018 for those things that Andy mentioned between TCO as well as Shell Franklin. And by their nature, those margins are lower than the overall average. So that will be the counterweighing influence. But again, going into 2019, we feel as good about the 19% as we have had any number going into the beginning of the year.

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Charles Matthew Duncan, Stephens Inc., Research Division - MD [11]

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Okay. That helps. Just a point of clarification real fast, gentlemen. The fourth quarter SG&A, you mentioned some catch-up accruals that were in that line item. How much were those in total?

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James E. Braun, MRC Global Inc. - CFO & Executive VP [12]

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Yes. Those were in the SG&A, not -- that did impact margin, but those totaled about $2.5 million. Those were top-ups or catch-ups for incentive accruals and then truing up our insurance liabilities at the end of the year.

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Charles Matthew Duncan, Stephens Inc., Research Division - MD [13]

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Okay. And then last thing I've got, Andy, on the M&A environment. What are you guys seeing there right now? You've got the balance sheet flexibility, I would think, to do some deals if the right things come along. Are we at the right point in the cycle for you to be making acquisitions? And are there things available?

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Andrew R. Lane, MRC Global Inc. - President, CEO & Director [14]

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Yes. Matt, we've looked -- we continue to look at lots of deals. We've been very conservative. Up to this point, we have prioritized our investment in growth and also our share repurchases as the top priority. I certainly think things will become even more attractive and will -- we would tend to lean in harder when we are really confident that the full recovery is in place and feel good about all the other growth initiatives that we have funded. But certainly, I think '18 is the best year we've had in the past 3 years for sure as far as attractive opportunity. Some of the smaller companies are still struggling to recover. There's been a couple of recent bankruptcies in the field, so I still see there's room for a couple of quarters out that gets even better. We certainly are not in a rush to acquire anyone with low or negative EBITDA, so I think that's our timing.

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Operator [15]

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And our next questions come from the line of Vebs Vaishnav with Cowen and Company.

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Vaibhav D. Vaishnav, Cowen and Company, LLC, Research Division - VP [16]

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I guess, just following up on last question on SG&A. So if fourth quarter SG&A was, call it, up $2.5 million because of the year-end accruals and then you guys spoke about $15 million savings coming from International restructuring. If I just -- a portion reflect relatively $4 million, are we saying that SG&A should be down $6 million quarter-over-quarter?

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James E. Braun, MRC Global Inc. - CFO & Executive VP [17]

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No. Vebs, I wouldn't say that's right. Again, the things that offset that starting in the first quarter right away will be salary increases. As you know, we've not been able to pass on any salary increases to our employees for the last 3 years. We were able to do that for the first time effective January 1 as well as restored or reinstated some of the annual cash incentive plans at the beginning of 2018 that we had to adjust for the last 3 years. So I don't expect us to be down fourth quarter to first quarter on SG&A.

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Vaibhav D. Vaishnav, Cowen and Company, LLC, Research Division - VP [18]

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Got it. Okay. Okay. On the stock buyback deal, you already bought back like half of the authorization. Can we speak about like how should we think about that going forward? I mean, at that pace, you can finish it off in the [fourth] quarter itself. I don't want to get ahead of myself, but just wanted to think how you think about share buybacks.

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Andrew R. Lane, MRC Global Inc. - President, CEO & Director [19]

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Yes. Vebs, this is Andy. I'll take that one. I would expect us to be back in the market and we are buyers at our current stock price. And that -- I wouldn't say all in the first quarter, but in the near term. And then the Board of Directors will revisit our capital allocation and look at the share repurchase program at our next board meeting. So I still think that's the best use of our cash in the short term, and we feel the outlook of our company is very strong. And right now, that over M&A is our preference. So you should expect to see us exercise that.

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Vaibhav D. Vaishnav, Cowen and Company, LLC, Research Division - VP [20]

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Got it. Okay. The fourth quarter revenue was modestly lower than what we thought. We have heard from companies talking about weather impact and all. I was wondering if there's any weather impact in your first quarter guidance or is it just seasonal -- typical seasonality that's driving it? Like still higher, but lower than what we expected.

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Andrew R. Lane, MRC Global Inc. - President, CEO & Director [21]

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Yes. Vebs, we feel it will be as we guided, mid- to high single -- I mean, not -- mid-single digits from the fourth quarter. But no, I mean, there's always some seasonality with weather impacts. But I think the bigger thing, our customer base is the majors, then IOC, then -- they tend to be in the budgeting process early in January. Tend to be a ramp-up after that point. And as I think that has a bigger impact on us than other things. We certainly see the first quarter as the low point for the year. We expect, clearly, third quarter will be our best quarter of the year. And as we said, we expect every quarter to be up over last year. So I think it's just that. And then in the U.S. especially, minor weather impacts, but I would say some in Canada. And in Canada, I think the bigger impact is all the changes that have occurred in the last 2 years with the ownership of the assets up there in CNRL, Cenovus and Suncor and Husky all buying assets, I think, both -- some of the slowdown in the fourth quarter in Canada and also a little bit of slow pickup in the first quarter is related to getting new budgets and spending levels around a lot of assets that changed hands up there. So I really see it just as a little bit of a timing issue. We still feel very good about the growth in the year and the first quarter would come in right on plan the way we're forecasting it.

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Vaibhav D. Vaishnav, Cowen and Company, LLC, Research Division - VP [22]

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And if I can squeeze in just one last. So the downstream and midstream 5% to 15% revenue growth, so call it like 10% revenue growth in each of those 2 end markets. You had spoken about like double-digits growth even in the third quarter for midstream. Just wanted to see if like how much of this, call it, 10% growth in downstream and midstream you already have in backlog versus what you will need to win to hit that target?

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Andrew R. Lane, MRC Global Inc. - President, CEO & Director [23]

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Yes. Vebs, so let me talk to both the midstream and then downstream both. Midstream, last quarter when I was talking, for sure, double-digit growth, I could have added less the project. So as Jim mentioned in his remarks and my comment, we had $100 million in gas pipelines in the U.S. that we counted as project revenue and we had the $50 million gas project Jemena in Australia. So we took -- if you take our 2017 midstream results, you back out those 2 what we call onetime projects of $150 million, and as we guided, we'll be up -- our expectations are to be up 20% in our base midstream business. And I mentioned this a little bit on the last call, but if you look at our midstream environment, it's the most active we've ever had due to deregulation. Two things, both production growth and takeaway capacity from Permian to the Gulf and from the Northeast to the Gulf, but we have currently tracking over 70 midstream projects and we're active on 22 and we're pursuing another 30. So when we think back on our look at midstream, it is certainly the best environment we've had in a long time and -- so steel pricings are firm. The project activity is definitely there. So we feel good about that. And I think from a level set base midstream revenue, the 20% growth, we feel good about that starting the year too. On downstream, we already -- and so midstream, I would say, is already in-house with TransCanada and DCP and others in projects that we're already focused on. In downstream, I would also characterize it as in-house with the Shell Franklin downstream project. And also with the contract wins we mentioned, ExxonMobil, a full year; LyondellBassell, a full year, where we ramped both those contracts into mid- to late 2017. And also Chemours and BASF are nice for us. So the another big thing is downstream turnarounds in the refining side. These continue over the last couple of years to customers tend -- have been underspending forecasted turnaround spend. I give you an example for what we thought was going to occur in fourth quarter from customers. They actually only spent about 58% of the total. But we think a lot of indicators are that the upstream -- I mean, the turnaround in the first quarter is going to be strong and the year, as a whole, is going to be stronger than 2017. So if you add in downstream, the project we already have in Shell Franklin, the contracts we already have and our really strong position in downstream refining turnaround, should that materialize finally the way it's been forecasted into '18, we think all of those tend to give us good insight into our downstream growth.

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Operator [24]

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And our next questions come from the line of Nathan Jones with Stifel.

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Nathan Hardie Jones, Stifel, Nicolaus & Company, Incorporated, Research Division - Analyst [25]

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I'd like to follow up on that downstream turnaround expectation there. These kinds of projects and turnarounds have been getting pushed out for a number of years now. And it seems like every 6 months, expectations for the next 6 months get pretty high and then the spending doesn't come through and you noted there are only 58% of the expected total in 4Q. What is your degree of confidence that these projects are actually going to come through? Like are you hearing firm plans from customers? Are customers still talking about this stuff but not placing orders? Just any color you can give us on what your degree of confidence is that spending on turnarounds is actually going to pick up in '18.

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Andrew R. Lane, MRC Global Inc. - President, CEO & Director [26]

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Yes. Nathan, I would say it's higher than previous years. But every time we talk to the turnaround data we get, it tends to be a little disappointing. It was really disappointing in the fourth quarter and they had utilizations back up to 91%, 92%. And some of that was a recovery, especially in the Gulf Coast, although we've moved on. A lot of that was trying to get refinery capacity back up after the impacts of Harvey. And so I think they deferred a lot of turnaround activity trying to get production back up. So I have a higher degree of confidence. So if I look at the whole year of '17, they spent about 78% of what they forecasted. And so even given that environment as a full year, forecast for '18 is up conservatively over that. So we tend to have a higher confidence in that, but we've certainly lived through the experiences that you've mentioned of the deferral. We are -- this is a busy time for us in Gulf Coast. We stage a lot of downstream turnaround activity 1 to 2 months ahead of that, so we have good indicators from our core customers. But I would say we're cautiously optimistic that this is going to be better than it has been and we'll see how it turns out, but we certainly don't see any downside from what it was last year. We're looking for upside on 2018 in the spring turnarounds.

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Nathan Hardie Jones, Stifel, Nicolaus & Company, Incorporated, Research Division - Analyst [27]

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If you -- just to give it some context, you said they spent 78% of what you planned in 2017. If they spent 80% of what you plan in 2019, how much impact would that have on your downstream forecast and for the revenue forecast for the company overall?

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James E. Braun, MRC Global Inc. - CFO & Executive VP [28]

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Yes. So the stats we gave you were industry stats in terms of across the whole number of companies, not all of them which we serve. But our turnaround business has typically been anywhere from $10 million to $15 million, $20 million sometimes in a quarter. So it can be -- it could be significant if they all spend what they said they were going to do.

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Nathan Hardie Jones, Stifel, Nicolaus & Company, Incorporated, Research Division - Analyst [29]

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Okay. That's helpful. And then I just got a question on labor inflation. You talked about putting through some pay increases. We've certainly been hearing about labor shortages in areas like the Permian. Are you finding that you're having to make incentive payments to get the required number of people out where you need in certain places? And how is that impacting your outlook for SG&A spending this year?

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James E. Braun, MRC Global Inc. - CFO & Executive VP [30]

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Yes. No, you're exactly right. The Permian is a very hot market, not only to attract people but also to retain them. So part of the increases that I referred to in the operating expense comparison was to be competitive all over the country, but particularly in the Permian. That's where we're seeing the tightest labor market.

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Nathan Hardie Jones, Stifel, Nicolaus & Company, Incorporated, Research Division - Analyst [31]

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And you feel that the increases that you put in place there are sufficient to keep you competitive and keep the labor that you need?

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James E. Braun, MRC Global Inc. - CFO & Executive VP [32]

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They have worked so far.

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Operator [33]

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Our next questions come from the line of Steve Barger with KeyBanc.

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Robert Stephen Barger, KeyBanc Capital Markets Inc., Research Division - MD and Equity Research Analyst [34]

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You said the International segment is running a year behind the U.S. I'm wondering what percentage of those international regions or product categories are EBIT positive right now? And do you think that segment turns profitable by year-end in terms of the EBIT line?

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James E. Braun, MRC Global Inc. - CFO & Executive VP [35]

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Yes. You're right. So it wasn't EBITDA positive in 2017. And the steps we've taken, including the $15 million of cost reductions, we've got it forecast and planned to be profitable in 2018.

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Robert Stephen Barger, KeyBanc Capital Markets Inc., Research Division - MD and Equity Research Analyst [36]

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Is that in the first half and the back half? Or just towards the back half as the year progresses?

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James E. Braun, MRC Global Inc. - CFO & Executive VP [37]

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No. I think we should see some profitably in the first half because the actions we've taken were here in the fourth quarter in terms of headcount reductions. So it's likely to ramp up a little bit towards the back, but we should be profitable the first half of the year.

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Robert Stephen Barger, KeyBanc Capital Markets Inc., Research Division - MD and Equity Research Analyst [38]

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Okay. And then a question on the free cash flow guidance of $25 million. Working capital, obviously, will be a big factor there. So when you think about your forecast and your understanding of customer and demand patterns right now, are you confident in your ability to generate positive free cash flow at either end of your guidance over the revenue guidance range?

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James E. Braun, MRC Global Inc. - CFO & Executive VP [39]

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Yes. I mean, I think, if we push the high end of the guidance range and the working capital growth becomes a lot bigger, it may come into -- it may fold over the short end or the narrow end of the range. We grew 20% this year. And of course, we used about $48 million of cash from operations. Most of it is working capital. So at the midpoint of our guidance, we should be fine. Towards the higher point, it might get a little tight.

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Robert Stephen Barger, KeyBanc Capital Markets Inc., Research Division - MD and Equity Research Analyst [40]

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And so, obviously, you can't tell what the revenue is going to be like for the year. That thought process doesn't change your appetite for the buyback in the front half?

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James E. Braun, MRC Global Inc. - CFO & Executive VP [41]

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No.

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Operator [42]

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And our next questions come from the line of Walter Liptak with Seaport Global.

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Walter Scott Liptak, Seaport Global Securities LLC, Research Division - MD & Senior Industrials Analyst [43]

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Wanted to ask -- go back to the gross margin questions and ask about some of the downstream, midstream pricing. How competitive is the market at this point? Are you seeing any of the downstream get less competitive?

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James E. Braun, MRC Global Inc. - CFO & Executive VP [44]

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Yes. I don't necessarily think that the downstream is becoming less competitive. It still remains competitive, particularly when you have new work coming up. Certainly, in the midstream on some of the projects that gets bid, that's competitive. And then the most competitive is still going to be in the upstream, particularly in the hot markets like the Permian.

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Walter Scott Liptak, Seaport Global Securities LLC, Research Division - MD & Senior Industrials Analyst [45]

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Okay. You commented that line piping that -- still going to see some inflationary pressure, but you don't think it's going to be quite as much. I wonder if you can provide some color on them. What you meant by that? And is it getting a little bit easier to pass along price?

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Andrew R. Lane, MRC Global Inc. - President, CEO & Director [46]

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Yes, it is. And a lot is going on in that area. One of the things we watched in -- currently, hot rolled coil was up 15% in Q4, so that usually relates to increases in our ERW, our welded pipe, especially the smaller diameter sizes. So while we talked about 20% to 30% spot increases in '17, I think we'd be looking at 5% to 10% price increases especially in ERW and welded pipe as we look in 2018. So definitely positive. We're at a much higher level than we were. We were $1,000 a ton at the start of '17. Now we're at $1,500 a ton with some more positive inflationary pricing aspect that helps us because we buy our stock ahead of that. So I think it's positive. And as Jim said in his comments, not to the magnitude of '17 because we were coming off a really low historical price that ended '16, but still in the right direction for us.

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Operator [47]

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Thank you. This concludes our question-and-answer session. I'd like to turn the floor back to Monica Broughton for closing comments.

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Monica Schafer Broughton, MRC Global Inc. - VP of IR [48]

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Thank you for joining our call and for your interest in MRC Global, and this concludes our call today.

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Operator [49]

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Ladies and gentlemen, thank you for your participation. This does conclude today's conference. You may disconnect your lines, and have a wonderful day.