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Edited Transcript of SOX.TO earnings conference call or presentation 8-Aug-19 2:30pm GMT

Q2 2019 Stuart Olson Inc Earnings Call

CALGARY Aug 17, 2019 (Thomson StreetEvents) -- Edited Transcript of Stuart Olson Inc earnings conference call or presentation Thursday, August 8, 2019 at 2:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Daryl E. Sands

Stuart Olson Inc. - Executive VP & CFO

* David J. LeMay

Stuart Olson Inc. - President, CEO & Director

* Michael UnRuh

Stuart Olson Inc. - Finance Director

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Conference Call Participants

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* Christopher Allan Murray

AltaCorp Capital Inc., Research Division - MD of Institutional Research for Diversified Industries & Senior Analyst

* Frederic Bastien

Raymond James Ltd., Research Division - MD & Equity Research Analyst

* Maxim Sytchev

National Bank Financial, Inc., Research Division - MD & AEC-Sector Analyst

* Michael Tupholme

TD Securities Equity Research - Research Analyst

* Yuri Lynk

Canaccord Genuity Corp., Research Division - Director and Senior Engineering & Construction Equity Analyst

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Presentation

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Operator [1]

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Good morning, ladies and gentlemen, and welcome to the Stuart Olson Inc. Second Quarter 2019 Financial Results Conference Call. (Operator Instructions) I would like to remind everyone that this call is being recorded. At this time, I'd like to turn the conference over to Mike UnRuh, Finance Director for Stuart Olson. Please go ahead.

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Michael UnRuh, Stuart Olson Inc. - Finance Director [2]

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Thank you, Pam. Good morning, and welcome, everyone. We're going to start today with some introductory remarks from our President and CEO, David LeMay; followed by a review of our second quarter financial performance by our Executive Vice President and CFO, Daryl Sands.

David will then return to discuss our business outlook prior to opening the call to questions.

The presentation accompanying today's conference call can be viewed on the webcast.

I would like to remind listeners that several statements made today will be forward-looking in nature, and that there are risks that actual results could differ materially from what is discussed.

Any forward-looking statements made in this presentation represent the views of management and are presented for the purpose of assisting shareholders and analysts in understanding our financial position, objectives and priorities and anticipated financial performance and may not be appropriate for other purposes. In addition, our presentation today includes references to a number of financial measures, which do not have standardized meaning under IFRS and are therefore considered non-IFRS measures.

In that regard, I would strongly encourage you to review the forward-looking information and non-IFRS measure section of our second quarter 2019 MD&A and Slide #2 of our webcast presentation.

I will now turn the call over to David LeMay.

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [3]

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Thanks, Mike. Good morning, everyone, and thank you for joining us. Before I discuss the second quarter, I want to briefly touch on the $70 million 70% convertible debenture financing agreement we announced yesterday. Slide #3 provides highlights of this announcement.

I want to say we are pleased to have an agreement with a reputable and sophisticated portfolio manager like Canso Investment Council. Having them as a significant stakeholder represents a very strong endorsement of our business and our abilities to execute on our growth strategies and create value for all our stakeholders.

I also want to highlight, as we are required to have a shareholder approval for this financing agreement, that we have voting support agreements with 3 of our major shareholders. These voting support agreements collectively represent approximately 33% of shares outstanding. We will be holding a special meeting of shareholders in late September to seek the required approval.

Daryl will provide further details on this financing agreement in his remarks.

Now turning to the second quarter of 2019 on Slide 4.

The quarter brought continued challenges related to more competitive market conditions and the continued slowdown in oil sands capital spending resulting from the mandatory Alberta production curtailment policy and the overall regulatory environment.

These impacts are reflected in our second quarter financial results. But even as we faced these tougher market conditions, we continued to make good progress.

I'm pleased to report we secured nearly $270 million of new project awards in the second quarter as we capitalized on the strong pipeline of opportunities. Combined with our first quarter wins, we've added a total of almost $600 million to backlog in the first half of 2019, which represents a first half book-to-bill ratio of 1.24. This brings our backlog to $1.7 billion in its highest level in 6 quarters.

We also continued to successfully pursue our diversity in growth strategies across our operations. In fact, in 2019, we expect to deliver the most geographically diverse revenue profile in Stuart Olson history. And year-to-date, we've delivered $15 million of consolidated adjusted EBITDA.

I'm also pleased to report that the Board declared our 34th consecutive quarterly dividend, which eclipses $100 million of cumulative dividends returned to shareholders since its introduction. As we pursue our strategies, we are continuing to return capital to our investors.

Looking at some of the highlights from our operating groups. Our Industrial Group continued to feel the effects of a capital spending slowdown by the group's oil sands customers as well as the effects of the increasingly and competitive environment.

However, the group's prospects for the back half of the year remain very good. The Industrial Group has increased backlog in each of its past 3 quarters and, in the second quarter, added $105 million of new projects. These reflect projects from a diverse -- from diverse industries and geographies, including a mine facility construction project for a new client in Saskatchewan, an infrastructure project for a mining customer in Ontario, a maintenance and turnaround master service agreement extension in Alberta and a facility construction project for a food company in Manitoba.

And we continue to see a good pipeline of additional opportunities ahead. I'll talk more about those a little later in the call.

In our Buildings Group, a year-over-year shift in projects staged to completion tempered second quarter results slightly, but the group's year-to-date results remain strong. In the first 6 months of 2019, the group's -- the group generated $11.7 million of adjusted EBITDA and achieved an adjusted EBITDA margin of 5.4%. That's above the range we ordinarily target for this group.

In terms of new project awards, the Buildings Group added approximately $95 million to backlog during the second quarter, including a new fire hall in Ontario and the modernization of a seniors care center in Alberta.

The Commercial Systems Group had a solid second quarter, increasing revenue and adjusted EBITDA as it executed on its sizable backlog. In terms of new awards, the Commercial Systems Group is reporting a near record backlog, having added $70 million to backlog during the quarter. The new projects include a health care facility and an events center in Alberta as well as 2 agricultural facilities, one in Ontario and one in Alberta.

All 3 of our operating groups are doing a good job of building backlog, and we continue to look forward to improve financial results in the second half of the year.

I'll return to talk more about our outlook in just a few minutes, but, first, I'll ask Daryl to review our second quarter and first half financial results with you in more detail. Daryl?

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Daryl E. Sands, Stuart Olson Inc. - Executive VP & CFO [4]

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Thanks, David, and good morning, everyone.

Starting with our second quarter consolidated results on Slide #5. We generated consolidated contract revenue of $239.5 million, which was 4% lower than the same period last year. Although Commercial Systems Group revenue improved, this improvement was offset by lower revenue from the Industrial and Buildings Group.

Second quarter adjusted EBITDA was $6.9 million or $2.1 million lower than a year ago. This mostly reflects the market challenges faced by the Industrial Group as well as last year's completion of major Industrial Group projects that contributed significant closeout margins to Q2 2018 results.

These impacts were partially offset by the positive impact of adopting IFRS 16 in 2019.

On the bottom line, we reported a consolidated net loss of $2.2 million or a diluted loss of $0.08 per share. This compares to net earnings of $1.1 million or $0.04 per share in Q2 2018.

Looking more closely at second quarter results from our 3 operating groups on Slide #6. In the Industrial Group, revenue of $71.4 million was 14.4% lower year-over-year. Keep in mind that last year, we were completing 2 very large projects that boosted revenue, and this year was a more challenging year for oil sands capital spending as well as a slower year at certain times in the normal cycle of spring turnaround activity.

Adjusted EBITDA of $4.8 million with an adjusted EBITDA margin of 6.7% reflects the lower revenue partially offset by changes related to the adoption of IFRS 16.

The Buildings Group generated second quarter revenues of $109.8 million, which was 3.3% lower year-over-year. This mostly reflects a shift in project stage of completion between the 2 periods.

The Buildings Group also generated adjusted EBITDA of $4.2 million with an adjusted EBITDA margin of 3.8%, which was a little lower year-over-year. Again, this mostly reflects project stage of completion with more projects in earlier stages when margins are lower.

The Commercial Systems group achieved second quarter revenue of $59 million, up 3.7% from Q2 2018. Adjusted EBITDA of $2.6 million and an adjusted EBITDA margin of 4.4% from this group also improved year-over-year, reflecting higher contract income and some lift from IFRS 16.

Turning to the results for the first half of 2019 on Slide #7. Consolidated revenue was impacted primarily by Industrial Group results, but also reflects a little lower revenue from the Buildings and Commercial Systems Groups.

Administrative costs were $2.7 million higher year-over-year. This was mostly due to restructuring costs, investing and one-time activity-based costs during the first half of 2019, partially offset by a reduction in share-based expense accruals.

First half adjusted EBITDA of $15 million was $2.1 million lower year-over-year while adjusted EBITDA margin remained stable at 3.3%.

And we reported a consolidated net loss of $4.7 million or a dilutive loss of $0.17 per share. The loss was primarily due to restructuring, investing and other costs during the first half of 2019.

On Slide #8. First half revenue from the Industrial Group was $125.1 million, reflecting weaker market conditions and the reduced level of spring turnaround activity at some oil sands sites this year.

Adjusted EBITDA of $6.4 million reflects the lower revenue and decreased operational leverage resulting from lower activity levels.

Buildings Group revenue for the first half of 2019 was down 8.4%, primarily due to a shift in project stage of completion. However, adjusted EBITDA was up 19.4% year-over-year to $11.7 million, and adjusted EBITDA margin increased to 5.4%. The improved profitability reflects projects nearing completion, bringing in higher margins, as well as lower administrative costs as the group worked to reduce costs.

And in the Commercial Systems Group, first half revenue was 3.7% lower year-over-year with adjusted EBITDA 6.9% lower. This mostly reflects new projects being in earlier stages of completion.

Turning to Slide 9, where we have set out key balance sheet and cash flow metrics. The change in our LTM adjusted free cash flow dividend payout ratio from year-end is due to the temporary decline in LTM-adjusted EBITDA, and we expect these to improve as we close out the year.

As they do every quarter, our Board of Directors continues to review the dividend to ensure we're running the business on a sustainable basis and making appropriate use of capital while also providing a meaningful return to shareholders.

Yesterday, the Board declared a quarterly dividend of $0.06, which represents our 34th consecutive quarterly dividend and more than $100 million returned to shareholders.

Our cash balance at quarter-end was $17 million, and we had additional borrowing capacity of $33.2 million, providing us with combined available liquidity of $50.2 million. This compares to combined available liquidity of $97.4 million as of December 31.

The change in liquidity from year-end primarily reflects a decline in LTM EBITDA, as defined by our revolving credit facility, as well as an increase in our long-term debt balance related to investing in noncash working capital related to increased activity levels for our Industrial and Commercial Systems Group.

Our long-term indebtedness to adjusted EBITDA ratio was 3.3x on a pro forma basis, including Tartan's last 12-month adjusted EBITDA. This is up from year-end and reflects the draw on our revolver to fund investments in operational working capital combined with the reduction in LTM adjusted EBITDA.

We are pleased to report that subsequent to the quarter end, we secured amendments to our revolving credit facility, which include changes to the number of terms and, importantly, includes an amendment to our required interest coverage ratio covenant.

You can find further details on the new interest coverage ratio covenant in our second quarter earnings press release and MD&A.

In addition, as Dave mentioned earlier, we're very pleased to announce a $70 million 7% convertible debenture financing agreement with Canso Investment Funds. We expect to close this financing subject to regulatory and shareholder approval in the third quarter, and then use the net proceed, together with available cash and a draw on our revolver, to pay our outstanding $80.5 million 6% convertible debentures that mature on December 31, 2019.

With that, I'll now turn the call back to David.

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [5]

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Thanks, Daryl.

Turning to our outlook on Slide #10. While we continue to anticipate a stronger second half of 2019 with year-over-year increases in contract revenue, adjusted EBITDA and net earnings, we have updated our full year 2019 outlook to year-to-date results and current market conditions.

In terms of the second half of the year specifically for adjusted EBITDA, we see the fourth quarter of 2019 as our busiest and third quarter of 2019 being below the third quarter of 2018.

On a full year basis, we expect consolidated revenue to be meaningfully higher with modestly higher adjusted EBITDA and a stable EBITDA margin. We expect adjusted EBITDA for the full year of 2019 to increase between 5% to 10% or in the range of $38 million to $40 million.

In the Industrial Group, we continue to expect revenue to be meaningfully higher. This reflects a healthy pipeline of construction projects together with the added revenues from our new Tartan business, which is performing well. However, we're forecasting modestly lower adjusted EBITDA with a significantly lower adjusted EBITDA margin due to last year's completion of 2 major projects that contributed significant closeout margins to 2018 results.

In the Buildings Group, we anticipate modestly higher revenue and adjusted EBITDA as compared to 2018, but with a slight decline in EBITDA margin.

This reflects having more projects and higher activity, but lower margin stages of completion.

In the Commercial Systems Group, our revenue outlook has improved as a result of new awards, and we now anticipate slightly higher revenue in 2019. We continue to anticipate significantly higher adjusted EBITDA and adjusted EBITDA margin as the group benefits from its focused improvements to project execution.

And in our Corporate Group, we expect adjusted EBITDA to decline meaningfully in 2019 primarily due to an expected increase in share-based compensation due to the significant 2018 reduction in share-based compensation expense following a decrease in our share price last year.

Our backlog, which is shown on Slide 11, has increased to $1.7 billion with the addition of new awards secured so far this year. As I referenced earlier, we've added almost $600 million of new projects to backlog in the first half, and we continue to see a strong pipeline of project opportunities, which we expect will benefit backlog throughout the balance of the year.

Slide #12 looks more closely at the opportunities we are pursuing across our business groups.

While the Industrial Group has been very successful winning new work in 2019 and continues to have near-term opportunities of approximately $460 million in new industrial MRO and general contracting projects that span many sectors, including the alternative energy, midstream, mining, agricultural, food processing and petrochemical sectors.

As I have stated before, there are also significant opportunities for our industrial business to be part of the LNG Canada project in British Columbia with a value of about $40 billion. We conservatively think we can bid on at least $2 billion of that work in key service areas.

The Buildings Group has an estimated near-term project pipeline of opportunities exceeding $600 million. These opportunities include building on recent successes in the horizontal infrastructure sector as well as selectively expanding our pursuit of projects as a design build contractor or a dedicated design build subcontractor on P3s.

I also want to reiterate that while we are looking into more lump-sum and design build project opportunities, we still see construction management as the majority source of work for the Buildings Group. As I've stated before, we are targeting a long-term run rate of about 70% construction management versus 30% design [build].

And our Commercial Systems Group has been very successful in 2019 in adding new projects to backlog. The group remains focused on expanding its reach in both its existing markets in Western Canada as well as in its new markets of Saskatchewan and Ontario, where it expects to continue to build on momentum.

We have a significant project pipeline of approximately $600 million with several projects in the $20 million to $35 million range.

We also continue to see tremendous opportunities and partnerships going forward and continue to pursue a number of these strategic opportunities across our businesses. Our recent partnerships have had contract values totaling approximately $600 million across the 3 groups.

In summary, our project pipeline is very healthy. And combined with our growing backlog and strong project execution, we're setting the stage for improving results, both in the second half of 2019 and beyond.

With that, I'll now turn the presentation back to Mike.

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Michael UnRuh, Stuart Olson Inc. - Finance Director [6]

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Thank you, David. Pam, can you please provide the instructions for the question-and-answer session again?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from Frederic Bastien from Raymond James.

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Frederic Bastien, Raymond James Ltd., Research Division - MD & Equity Research Analyst [2]

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There's been a marked slowdown in the procurement of projects in Ontario with last year's government change. Is that impacting your pipeline of opportunities in that province?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [3]

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I don't disagree, Frederic, but I think the projects that we're targeting haven't been as negatively impacted from a macro perspective. If we think of what we're targeting in Ontario, it's kind of really that $50 million to $150 million CM type project. These can be student residents, student facilities. We do have a pretty significant focus on the post-secondary market there. And we're not seeing the impact, I think, as broadly as the market -- general market is, and I think that's because of our sort of niche focus. And particularly in Ontario, if we're thinking 70-30 kind of split CM to DB, CM is really the core focus in our Ontario expansion.

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Frederic Bastien, Raymond James Ltd., Research Division - MD & Equity Research Analyst [4]

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Okay. And then we just had a government change in Alberta. Do you expect any impact coming from that? Do you see any slowdown in the procurement as well?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [5]

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Well, I think we're feeling the effects of that already. I think you're seeing some of that in our business already, so I don't think it's more. As we know, the Alberta government has not come out with the new capital plan. But in speaking with the government, as we -- certainly, when new governments come in, we spend a lot of time meeting with them and talking about strategies and how -- what we think can be helpful to the sector. I think they understand the impact that infrastructure can have on the province as a stimulus.

Given the challenges in the oil and gas and energy sector right now, I think the government -- my view is that they will be focused on continuing the infrastructure spend. How that comes out, what the procurement models look like and everything, I think that's yet to be seen. But I think there were some cancellations of projects, but -- or deferrals, I guess, but I think that's a bit about just taking stock and understanding where the spend is going to be and just knowing what the balance sheet looks like for the government.

I think, generally, those are responsible things to do. But I think they understand the benefit of infrastructure stimulus, and I think we're going to see continued -- at least to the levels of what was there previously. That's my view.

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Frederic Bastien, Raymond James Ltd., Research Division - MD & Equity Research Analyst [6]

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Okay. You mentioned the centralization of asset management as a source of incremental costs. Can you provide a bit more color on that, please?

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Daryl E. Sands, Stuart Olson Inc. - Executive VP & CFO [7]

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Sure, Fred. It's Daryl. Yes, I mean, previously, we've operated with all of our assets sitting out in our various operating groups and not leveraging off of a combined asset base. So what we've done is we've consolidated all of the assets into an entity we called asset co, which is a corporate group. And we're now sharing those assets out among our various operating groups and being as efficient as we can with our capital in terms of utilization and also in terms of what we have to invest. And then I think that's why you've seen a pretty low run rate of our capital investment over the last couple of years.

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Frederic Bastien, Raymond James Ltd., Research Division - MD & Equity Research Analyst [8]

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Okay. And then how much of those costs were kind of split between just straight admin and SG&A costs versus depreciation?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [9]

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Well, because it's an asset base, most of that is interest and depreciation. We're still kind of working through to make sure that we're --the costs that are being pushed back into the operating groups from the Corporate Group that you have an allocation that deals with about 100% of the costs. We're not quite there yet, but we certainly have tightened up our processes. And I think it's going to show, going forward a, real advantage for us in terms of being able to have an asset base that everybody can use. We've gotten rid of a lot of equipment and generated some cash proceeds from that. And so we're not expecting to see big variances down the road in the corporate group from the asset co centralization.

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Frederic Bastien, Raymond James Ltd., Research Division - MD & Equity Research Analyst [10]

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Okay. My last question, with respect to debt levels, I mean, you're -- it's pretty high up right now, but you do expect to have better second half. So where do you think you can bring the net debt-to-EBITDA levels to by year-end?

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Daryl E. Sands, Stuart Olson Inc. - Executive VP & CFO [11]

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You're right, we're at 3.3x at the end of the second quarter with our forecast of higher revenue and EBITDA in the second half of 2019, and also as typical with every December, where we basically, especially on the industrial side, stop working really the first part of December. So we got a significant amount of working capital come back into the business. I think you're going to see us closer to that 2.5x versus the 3.3x we're at today.

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Operator [12]

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Your next question comes from Chris Murray, AltaCorp.

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Christopher Allan Murray, AltaCorp Capital Inc., Research Division - MD of Institutional Research for Diversified Industries & Senior Analyst [13]

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Dave, can you -- you talked a little bit about Alberta and the change in government, but one of the things I know that they've been working on is dealing with some of the curtailment issues. And I think there's been some discussion around what that means for activity levels. Very unusual early part of this year in your industrial business, and I know you've got higher levels of activity because of Tartan, but just wondering what your customers are saying about, would you get back into kind of a normal turnaround season as we go back into 2020? And then the other question is if with the amount of maintenance that was deferred, does that mean that there's got to be some sort of catch-up period as we move forward?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [14]

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So, for sure, it was definitely a different first half of the year. I think all of our customers are working through what are some certainly the challenges and just sort of rationalizing the curtailment impact, certainly, the volatility, even with the current conditions today and the China/U. S. trade wars, the impacts on commodity pricings from that ---- those challenges, that all has effects. I think the upcoming election, federal election in October also has an effect. So I think where companies can conserve cash, they are looking to conserve cash just because of uncertainty candidly.

With respect to maintenance cycles, we see 2020, and this is because of our particular customer base, and that's sort of a blended base. If every other year that we see increased activity, we're already starting to plan for that activity next year. So we have people on the ground. Those scopes of works are being planned today, so we see that moving ahead. So therefore, we see increased MRO spend in 2020 in our portfolio. Certainly, if we look at our sort of our work in hand and backlog heading into the second half of this year, it's up from last year. That's why we think our activity is going to be increased this year over last year -- or increased in the second half.

So there -- it always surprises all of us, I think, just how quickly the oil sands companies can move to cut costs, how far they can stretch maintenance cycles. Is there a catch-up there? I think, naturally, you would think, at some point, there's got to be. But certainly, I think as an industry, we're doing a better job of being more efficient [to the] spend as well, but there will be some of that catch-up in the 2020 cycle, for sure.

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Christopher Allan Murray, AltaCorp Capital Inc., Research Division - MD of Institutional Research for Diversified Industries & Senior Analyst [15]

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Okay, great. And then just turning to other parts of your business. It's been interesting. There's been a few of your competitors have talked about exiting fixed price contracts. And I know you're referencing the whole construction management versus design build, but you've also previously talked about wanting to be more in horizontal infrastructure. And I'm just -- typically, those are the types of projects which are more fixed-price, or at-risk projects.

Are you starting to reconsider that type of business? Or is it something that you think you can mitigate or just maybe do in a different fashion than a lot of other folks?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [16]

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Well, I think -- if you think of the scale at which we're considering it, I think the risk profile is not much different. I mean, we're not talking about $1 billion and $2 billion rail contracts here, we're talking about kind of $30 million to $80 million lane extensions, overpasses. We're not talking about, I think, the level of complexity, which creates a higher level of risk that you are in the other -- in some of the others that are reconsidering that sector.

So no, we're not reconsidering. We're continuing to be disciplined, however. We're continuing to be disciplined with the opportunities we pursue and the margins we expect. I can tell you, of the projects that we've announced and are executing, all of them are hitting our target margins. So we're quite happy with the group.

And again, this is pretty targeted for us. The civil opportunities that we're pursuing today are all in British Columbia. And certainly, we continue to believe that we'll be successful moving forward in a measured way, but we're very happy with the team we have on the ground there and the job they're doing and the opportunities that are ahead for them.

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Christopher Allan Murray, AltaCorp Capital Inc., Research Division - MD of Institutional Research for Diversified Industries & Senior Analyst [17]

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Okay, that's helpful. And then last one for me. Just on this new convertible debenture, so you've basically done it on a private placement basis, and I don't -- I'm just curious about a couple other details. So first of all, sometimes, with investments like this, I was wondering if you can kind of go through maybe the structure more in detail. Curious on a couple of points. One, does this give them any sort of Board representation or other votes as part of this investment? Second, do you have the right to actually call it or force a conversion if you actually get to the exercise price, and just any other color you can provide on sort of the thought process around going this direction to refinance the debentures?

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Daryl E. Sands, Stuart Olson Inc. - Executive VP & CFO [18]

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Sure, Chris. Yes. So we announced yesterday that we've completed a $70 million private placement as a convertible debenture with Canso. it's got a 7% coupon, 40% conversion premium. So the conversion price is $4.87.

Stuart Olson has the ability to call it in its final year. Up until that time, we do not, regardless of what the share price is, so Canso doesn't have or we don't have a call option at a certain share price in year 3 and 4, which is somewhat typical of the number of convertible debentures. In terms of governance, the convertible debenture does not give Canso any Board control and no special rates.

Canso, by reputation, is a very excellent investor. We consider that to be smart money, very strategic for us, and then very, very happy they're on side.

Also, with having locked up 3 of our largest shareholders and already having 33% of the vote, I would suggest it's almost a fait accompli when we get to the shareholder vote at the end of September. We'll get that done. We'll receive the funds. We'll put the redemption notice out on our 2014 convertible debentures and settle those early in Q4 of this year.

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Christopher Allan Murray, AltaCorp Capital Inc., Research Division - MD of Institutional Research for Diversified Industries & Senior Analyst [19]

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Okay. And then I assume that just the differential on the debentures will just -- you'll eat that up in the credit facility?

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Daryl E. Sands, Stuart Olson Inc. - Executive VP & CFO [20]

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In terms of the interest costs, yes. I mean, that's one of the reasons why we went and got the amendments to our revolving credit facility and the interest covenants. We knew that we were going to be paying a higher interest rate on the new facility, and that's one of the reasons why we thought it appropriate to get that interest coverage -- covenant down.

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Christopher Allan Murray, AltaCorp Capital Inc., Research Division - MD of Institutional Research for Diversified Industries & Senior Analyst [21]

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Okay. And your comment earlier that being about 2.5x net debt-to-EBITDA at the end of the year, that takes into account all these different transactions?

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Daryl E. Sands, Stuart Olson Inc. - Executive VP & CFO [22]

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Absolutely. I mean, it includes taking $10 million off of our revolving credit facility and paying down that -- the balance of that $80.4 million 2014 convertible debenture.

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Operator [23]

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Your next question comes from Maxim Sytchev, National Bank Financial.

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Maxim Sytchev, National Bank Financial, Inc., Research Division - MD & AEC-Sector Analyst [24]

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David, I was just trying to get a bit more color in relation to why Q3 of this year you expect the EBITDA to be down year-on-year? Is it still in relation to slippage of contracts? Or is there anything else going on specifically?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [25]

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Well, it's really just timing, Max. It's -- as we look at how the work is unfolding in 2019 versus 2018, it's really just timing. We had a strong first half in our Buildings Group, and it's -- that, too, is really about timing. As you have projects completing or components of projects completing and risks coming off, margins coming in, it doesn't always line up with the quarter, so it's really just the way the portfolio is unfolding.

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Maxim Sytchev, National Bank Financial, Inc., Research Division - MD & AEC-Sector Analyst [26]

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Okay. And I guess, maybe do you mind maybe commenting on the confidence around Q4 not seeing any slippage to kind of make up the annual numbers?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [27]

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Yes. I mean, certainly, if we think of the second half backlog work in hand this year over the last year, that's part of what gives us confidence. Also, if we think about what we always have as a procure-and-execute piece, we're moving on a number of the projects that were awarded. The mining facility in Saskatchewan and things like that are now mobilized, and we're moving. So that's what gives us the confidence, Max.

This is -- as we've talked about, this is a pretty challenging environment, particularly in our industrial sector, and it's given some volatility to the forecasting, we understand that. But as I think everybody is aware, this has been a pretty abnormal year. And given the conditions of commodity prices and certainty, capital spending, I don't think the correlation between our forecast and that market is unexpected completely.

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Maxim Sytchev, National Bank Financial, Inc., Research Division - MD & AEC-Sector Analyst [28]

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Yes, yes, for sure. And do you mind maybe providing a bit of an update in terms of Tartan, how that integration is going, how the asset is doing kind of maybe year-on-year or any type of color on that, please?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [29]

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Sure, sure. No, we're very happy with the integration of Tartan. There's some really great people that we've brought over. We were able to reduce costs. It certainly made up for a drop in some of the traditional spending with our existing customers. We've actually got a -- over the -- in part of our backlog is an extension of the piece of the MRO work that was specific to Tartan.

We just finished the Imperial oil turnaround with a 0 recordable injury frequency. We're very proud of that. That's something that from a cultural perspective is so important that you can command and make a difference with both at Stuart Olson and -- the legacy Stuart Olson Industrial Group and Tartan and together really be a top performer on that site. So we're excited about that. It's going well.

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Operator [30]

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Your next question comes from Yuri Lynk, Canaccord.

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Yuri Lynk, Canaccord Genuity Corp., Research Division - Director and Senior Engineering & Construction Equity Analyst [31]

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Just some housekeeping for me. Daryl, what did IFRS 16 add to EBITDA in the quarter, please?

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Daryl E. Sands, Stuart Olson Inc. - Executive VP & CFO [32]

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The impact, Yuri, was about $1.7 million across the entire organization similar to what it was in the first quarter of this year.

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Yuri Lynk, Canaccord Genuity Corp., Research Division - Director and Senior Engineering & Construction Equity Analyst [33]

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Okay. and we're still tracking for, I think, you said last quarter about $7 million full year?

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Daryl E. Sands, Stuart Olson Inc. - Executive VP & CFO [34]

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Yes, I think we're going to become very close to that.

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Yuri Lynk, Canaccord Genuity Corp., Research Division - Director and Senior Engineering & Construction Equity Analyst [35]

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Okay. And Dave, in your outlook section, I was taking notes, but I want to make sure I got it. The EBITDA of $38 million to $40 million, is that the number you gave?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [36]

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That's correct, yes, 5% to 10%, $38 million to $40 million.

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Yuri Lynk, Canaccord Genuity Corp., Research Division - Director and Senior Engineering & Construction Equity Analyst [37]

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Okay. And then last one for me. Just some color on the conversations you're having with your MRO customers. I mean, I personally thought that it would have been a bit more resilient this revenue stream, given that it's pretty essential work. And oil sands output, at least from the mining side, is up quite strongly. So I mean, what are your customers pushing back on in terms of giving you more work? Is it -- are there more competitors? Or is it just we're just seeing massive deferrals of MRO?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [38]

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Well, I think it's a couple of things when it comes to our industrial business. So if you look at the cycle and if you go back over the last 4 years in that business, you can see where we have one year is -- we call it almost a planning year. They're spend, but it's significantly less than the next year. So I there's a couple of things affecting this year's activity. One is that. This is more of a planning year than an activity year.

The activity is still ongoing, but it's -- next year would be the bigger year. Last year was the bigger year. This is the planning year. These projects are -- they're massive projects that require a ton of planning a year in advance to ensure that we meet the oil end dates. All those things are critical to make sure we do them safely. They require that sort of lead time and intensity on planning. So that cycle has worked well for not just us, but the oil sands companies themselves. So that's the first impact, that this would have been a down year regardless of sort of commodity pricing or political requirement.

Secondly, the environment isn't friendly. You've got curtailment on production. You've got a election in October. You get approval for Keystone, but I think everybody's a bit -- wait and see to make sure we see some shovels in the ground, which I think we're going to, but I think that's what they're waiting for. So every opportunity they can to defer, they're deferring.

I think with some positive sentiment around Keystone -- or sorry, around Keystone, too, but Trans Mountain and other pipelines, and just from, I think, less uncertainty from a political perspective, I think we could see things turn pretty quick. But overall, we know next year we'll be busier than this year in that sector.

I think to your point, Yuri, the spend is -- it is resilient, but there are somewhat of an ability to turn some things off. You can -- I've talked about this before. You can push pumps longer, and you can -- the maintenance cycles can be stretched. And we're seeing a bit of that. I think, largely, it's just the planning versus execution year, but what we are seeing is our level of planning for next year is consistent with 2 years ago. So that's something that we're positive about.

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Operator [39]

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Your next question comes from Michael Tupholme, TD Securities.

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Michael Tupholme, TD Securities Equity Research - Research Analyst [40]

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With respect to the commentary about Q3 being lower year-over-year, I know you mentioned a few moments ago that part of the reason for that is just timing. Is that in any particular area? Or is this fairly broad in terms of the timing across different segments?

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Daryl E. Sands, Stuart Olson Inc. - Executive VP & CFO [41]

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Mike, it's Daryl. We're looking for Q3 revenue to be significantly above what our Q3 revenue was in 2018. What we're seeing though is -- primarily for the Buildings Group and the Commercial Systems Group is they are on very early stages on a number of projects, very active projects, so the revenue is there, but we're being very cautious in terms of the margin that is being brought in. And so we would expect that as these projects proceed in later quarters and into 2020, we would see these projects start to deliver that higher margin. So we're expecting the revenue absolutely in Q3 and Q4, but we're not going to have the same EBITDA margins as we did last year.

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Michael Tupholme, TD Securities Equity Research - Research Analyst [42]

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Got it, okay. And then a question regarding the increase in MRO activity for 2020 that you would expect. At what point would we expect to see those awards come in to backlog?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [43]

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Those awards are in backlog. They're in our MSAs already today. So if you think about how that spend comes out, it comes out -- if it's a $500 million contract, it doesn't necessarily roll out $100 million a year. It depends on the planning cycle and the activity levels. So a lot of that is in backlog already. We could see some modest increases next year, but it will be kind of part of our procure-and-execute component over the 12-month period.

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Michael Tupholme, TD Securities Equity Research - Research Analyst [44]

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Okay. And then you talked a little bit about LNG Canada and opportunities there. We've seen some of the other companies in the sector have started to announce some additional awards there. At what point could we start to see -- do we get to the stage where Stuart Olson's potentially getting involved?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [45]

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Yes. Well, If you think about the services that we'll offer to that project, it's going to be the insulation, the electrical, the instrumentation, some of the general contracting. But that's -- it's all process-related. So if you think of the awards that have happened, it's kind of anchor bolts and down now some structures and buildings and things like that. So we're actually excited to see that because that means that things are progressing. And that that next stage of work, as I call, that's kind of like a stage 2 contractor. In order for us to go in and start executing on those services and insulating pipes, we need buildings up, and we need process being installed. So I could see it in kind of the second half of next year.

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Michael Tupholme, TD Securities Equity Research - Research Analyst [46]

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Okay. And then on the topic of diversity, and you mentioned that this will be one of the most diverse years in terms of the revenue profile of the company, regionally, can you just talk about Ontario? Are you still seeing growth in Ontario? Or are you sort of now at the point where you're lapping some tougher comps and the growth is slowing down?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [47]

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No, we're still -- candidly, we still see Ontario as a very significant growth opportunity for us. And we're not talking about the $30 billion go train expansion. We're talking about post-secondary. We're talking about seniors care. We're talking about that kind of project size. So call it 50 to 150 construction management. We're seeing some warehouses and things like that, too, that we've worked with other partners on that we're competing for, but, again, construction management. And we're -- just given the funnel and the number of opportunities, we think we're pretty well positioned to continue to see some really good growth in Ontario.

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Michael Tupholme, TD Securities Equity Research - Research Analyst [48]

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And Dave, I think maybe in the past, you were maybe reluctant to give a lot of detail on this, but any way to sort of give us a sense for how significant Ontario is in the portfolio for you now I guess specifically within the buildings segment?

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [49]

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You know what? Candidly, I just don't have that in front of me. But I would say, if I just looked at it broadly, it's -- I would frame it this way that as we look out over the next year or 2, you could see it growing to kind of potentially even 1/3 of the business actually.

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Operator [50]

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There are no other questions at this time. I would now like to turn the conference over to Mr. David LeMay, Stuart Olson's CEO, for concluding comments.

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David J. LeMay, Stuart Olson Inc. - President, CEO & Director [51]

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Thanks, Pam. Overall, we're happy with our project wins. We are positive about our prospect opportunities, and we are looking forward to achieving stronger results and continuing to build our backlog in the second half of 2019. We're also continuing to pursue our growth and diversification strategies, managing costs throughout our operations and working to strengthen our balance sheet while returning capital to shareholders.

The announced financing provides a strong foundation to support our growth strategies going forward.

I look forward to telling you more about our progress in our third quarter earnings call, which will be in November. With that, I want to thank everyone for joining us today. We appreciate your interest and your questions. Please do not hesitate to contact any of us directly if you have follow-up questions. Thank you very much, and please have a very safe day.

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Operator [52]

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Ladies and gentlemen, this concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.