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Edited Transcript of STN.TO earnings conference call or presentation 7-Nov-19 2:00pm GMT

Q3 2019 Stantec Inc Earnings Call

EDMONTON Nov 14, 2019 (Thomson StreetEvents) -- Edited Transcript of Stantec Inc earnings conference call or presentation Thursday, November 7, 2019 at 2:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Gordon Allan Johnston

Stantec Inc. - President, CEO & Director

* Theresa B. Y. Jang

Stantec Inc. - Executive VP & CFO

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Conference Call Participants

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* Ben Cherniavsky

Raymond James Ltd., Research Division - MD & Head of Industrial Research

* Benoit Poirier

Desjardins Securities Inc., Research Division - VP and Industrials, Transportation, Aerospace, Industrial Products & Special Situation Analyst

* Christopher Allan Murray

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

* Derek Spronck

RBC Capital Markets, Research Division - Analyst

* Devin Dodge

BMO Capital Markets Equity Research - Analyst

* Jacob Jonathan Bout

CIBC Capital Markets, Research Division - MD of Institutional Equity Research

* Mark Neville

Scotiabank Global Banking and Markets, Research Division - Analyst

* Maxim Sytchev

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

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Presentation

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Operator [1]

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Welcome to Stantec's Third Quarter 2019 Earnings Results Conference Call. Leading the call today are Gord Johnston, President and Chief Executive Officer; and Theresa Jang, Executive Vice President and Chief Financial Officer. Today's call is webcast, and Stantec invites those dialing in to view the slide presentation, which is available in the Investors section at stantec.com. All information provided during this conference call is subject to the forward-looking statement qualifications set out on Slide 2 detailed in Stantec's management's discussion and analysis and incorporated in full for the purpose of today's call.

With that, I am pleased to turn the call over to Mr. Gord Johnston.

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [2]

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Good morning, and thank you for joining us. I'll begin our call today with an overview of our third quarter performance. Theresa will then provide details on our results. Following that, I'll review our operations in more detail.

In Q3, we drove a 12.4% year-over-year increase in net revenue, with 7.4% representing organic growth across all geographies. In particular, we saw major contributions from the United States and our global operations. Environmental Services and Infrastructure generated double-digit organic growth and water and buildings delivered strong growth of 7.4% and 4.5%, respectively.

Energy & Resources by contrast, experienced a modest contraction again this quarter, mostly due to major projects nearing completion, but it should be noted that comparative figures for last year were very high.

Acquisitions delivered a 4.8% increase in net revenue, primarily in our global Buildings business. Gross margin, which is a reflection of project mix and the quality of our execution, increased by 13.4%. And at September 30, our consolidated contract backlog remains at a record high, $4.4 billion, that's up 5.4% from the end of 2018 and represents approximately 11 months of work.

We've made very good progress on our organizational reshaping initiative and continue to focus on driving efficiency. We have reduced administrative and marketing costs and improved utilization compared to the first half of this year. Importantly, as demonstrated by the results delivered this quarter, our reshaping initiative has not impacted our ability to achieve organic growth, execute projects or build backlog. In fact, we've won a number of major projects in the back half of this year, and we're actively hiring in regions and businesses with strong organic growth.

We're also on track to deliver annualized cost savings of approximately $40 million to $45 million or $0.26 to $0.29 per share, consistent with our estimates in Q2. And with that, I'll hand it over to Theresa.

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Theresa B. Y. Jang, Stantec Inc. - Executive VP & CFO [3]

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Thanks, Gord. As we've done throughout this year, we've presented Q3 '19 results, both before and after the adoption of IFRS 16. And you will find a reconciliation of our Q3 '19 statements in our MD&A, in the appendix to the slide presentation and in the supplemental information posted to the Investors section of our website. .

Adjusted net income for the quarter increased 29.5% to $66.3 million and adjusted earnings per share increased 31.1% to $0.59 per share. This was largely due to net revenue growth, which increased 12.4% to $952.6 million in the quarter. As Gord outlined earlier, 7.4% of that increase was organic growth and 4.8% was acquisition growth.

Gross margin for the quarter increased 13.4% to $516.1 million. As a percentage of net revenue, gross margin increased from 53.7% to 54.2%, and this reflects our continued focus on improving project executions and our diverse mix of projects.

Admin and marketing costs were $355.6 million, representing 37.5% of net revenue, and that includes a 0.3% impact from severances associated with our reshaping initiatives. If we exclude severance, admin and marketing as a percentage of net revenue was consistent with the prior year on a pre-IFRS 16 basis, which is indicative of our normal cycle.

Adjusted EBITDA increased 46.9% to $159.1 million, representing 16.7% of net revenue. Looking at our year-to-date results, we're within our target ranges for all our measures. I do want to remind you that we typically see a slowdown in activity in the fourth quarter as fields were exposed to the northern climate, and as we approach the holiday season, resulting in higher admin and marketing costs as a percentage of net revenue compared to the third quarter.

So for the full year, we expect our key financial metrics will be within our target ranges and won't materially change from where they sit at the end of Q3. Our DSO remained unchanged from Q2 at 104 days or 91 days, including deferred revenue. We have placed a major effort on reducing this metric, and it remains a priority for us.

Having said that, our analysis indicates that the return we generate on our working capital is comparable to that of our peers and relatively consistent with prior years, so in other words, on the whole, we are being compensated for the longer period of time it takes to invoice and collect our receivables, but nevertheless, we [know] the constraints in this return by reducing the number of days outstanding.

So moving on to liquidity and capital resources. Operating cash flow from continuing operations increased 115.8% from $64.4 million to $139 million. This is mainly attributed to increased cash receipts from clients and IFRS 16, partly offset by higher supplier and employee costs related to acquisition growth. This brought year-to-date operating cash flow to an inflow of $212.8 million.

Looking at our uses of capital for investing activities, we used $29.9 million in the quarter, which included payments of $14.8 million related to past acquisitions and our typical spend on property and equipment. Cash used for investing activities was $165.5 million for the year-to-date.

We used $54.7 million for net financing activities, and this includes $26 million in repayments on the revolving credit facility, $16.2 million for dividends and $12.2 million in share repurchases. For the year-to-date, we've used $56.7 million of cash for financing activities.

We continue to strengthen our balance sheet as we progress through the year, with net debt to adjusted EBITDA on a trailing 12-month basis at 1.6x at the end of the quarter, well within our internal target of less than 2x. So our liquidity remains strong. At the end of the quarter, we had approximately $160 million in undrawn capacity on our credit facility.

The July amendment to our credit facilities resulted in improved terms, such as lowering our interest spreads and increasing our access to additional funds from $400 million to $600 million, while extending the maturity date of the revolving facility by 1 year. And with that, I'll turn the call back to Gord for highlights from Operations.

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [4]

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Thank you, Theresa. In Canada, results continue to be in line with expectations for slower economic growth. Net revenue increased 2.9% in the quarter, 2.2% of which was organic growth. Our Environmental Services, Mining and Transportation businesses led growth in the quarter. Our work on LNG projects and in the midstream oil and gas sector drove growth in Environmental Services.

Progress on major projects in the Prairie provinces drove growth in mining, and growth in Transportation was largely due to continued work on large light rail transit projects.

Energy & Resources retracted as several power and oil and gas projects wrapped up or neared completion, but we continue to work on TransMountain and LNG projects and anticipate ramping up our efforts there.

As for key wins in the quarter, our team will complete preliminary design and environmental assessment for our road widening project along the 401 in Ontario. And we were also retained by one of Canada's largest telecom providers to deliver design improvements at up to 1,300 locations across North America.

In the United States, project opportunities remained strong. Net revenue grew 12.1% in the quarter, and that's almost entirely organic growth with double-digit growth in Transportation, Environmental Services and Water.

Our transportation practice continues to be driven by work on major rail and transit projects, work in renewables and hydro power led growth in our environmental services. And in water, our efforts to expand market share in California and Texas are proving successful. And from a sector perspective, we're seeing increased opportunities in conveyance and wastewater work.

Key projects in the U.S. included a 3-year master services agreement for environmental and permitting services at solar power sites across the country, and we were also awarded construction and capacity improvements to one of Florida's turnpike roads.

We achieved strong growth in our global business. Net revenue was up 34.8% in the quarter. A large portion of that growth is due to acquisitions, mostly Wood & Grieve in Australia and Peter Brett in the U.K., which both strengthen our global buildings and infrastructure practices. We also achieved 6% organic growth. All our global businesses grew organically, with the exception of the WaterPower and Dams sector where some major projects neared completion.

Our mining exports business continues to perform well as do our water and buildings practices in the Middle East. We also won a sizable project for the city of Gold Coast, Australia. A partnership we're involved in was selected to deliver new and improved planning, design and management of water and wastewater infrastructure. And before we start the Q&A, I'll add that Theresa and I will share our 2020 strategic plan publicly in early December. We will offer insights into our growth opportunities and provide additional details on our 2020 guidance and our targets through to 2023.

And with that, I'll hand it back to our operator for the Q&A.

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Questions and Answers

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Operator [1]

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We'll take our first question from Mark Neville with Scotiabank.

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Mark Neville, Scotiabank Global Banking and Markets, Research Division - Analyst [2]

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Maybe just want to talk about the workforce reshaping. So just sort of curious sort of where you're at, what's left to do? Maybe just start there.

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [3]

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Great. Thanks, Mark. Good question. So the -- our workforce reshaping initiative, the lion's share of that is complete. We got a jump on that really early and hard in the beginning of Q3, and we believe that we're on track to achieve that $40 million to $45 million in annualized cost savings that we spoke about in Q2.

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Mark Neville, Scotiabank Global Banking and Markets, Research Division - Analyst [4]

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Right. Sort of on that $40 million to $45 million. Is there any way maybe to ballpark sort of how much has hit the P&L at this point, if any. I'm sort of just trying to think sort of what's incremental to 2020. And sort of what's sort of already been reflected in the numbers, if you can do that.

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Theresa B. Y. Jang, Stantec Inc. - Executive VP & CFO [5]

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Yes. So Mark, we have estimated that for the second half of the year, we would achieve savings in that $16 million to $20 million range before tax and before severance. And so I'll say that we are on track for that. And because the initiatives started a little bit later in the year, that's why it's not just a simple doubling when we get to the $40 million to $45 million for next year. But we are on track for the second half of this year to be in that $18 million to $20 million range. .

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Mark Neville, Scotiabank Global Banking and Markets, Research Division - Analyst [6]

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Okay. But I guess sort of just by math and sort of progress, there wouldn't be much in Q3. You'll see more of it in Q4 and probably a bigger chunk sort of next year, at least in the P&L, am I thinking about that right?

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Theresa B. Y. Jang, Stantec Inc. - Executive VP & CFO [7]

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Yes, that's right.

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Mark Neville, Scotiabank Global Banking and Markets, Research Division - Analyst [8]

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Okay. Okay. And just maybe just on the organic growth. You touched on -- or you said you'd talk about plans for 2020, I guess, next month. But I just -- I'm just curious if you're seeing any sort of anything that would sort of materially change either up or down, sort of what the business is doing sort of now into next year.

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [9]

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We're feeling good about the backlog that we've had all year, which is still at record levels. So as we move into next year, I think we're still looking at that low to mid-single digits.

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Operator [10]

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(Operator Instructions) We'll take our next question from Derek Spronck with RBC.

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Derek Spronck, RBC Capital Markets, Research Division - Analyst [11]

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Okay. Congratulations on the nice quarter there. Just on the A&M front, how should we be thinking about the range next year? Do you -- should we continue to see that lower as a percent of sales and any color around where that could be? I'm assuming, mathematically, we could kind of reverse engineer it, but...

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Theresa B. Y. Jang, Stantec Inc. - Executive VP & CFO [12]

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So I appreciate the question, Derek. And it might not be the most satisfying answer, but what we really want to do when it comes to 2020, is provide that commentary when we roll out our strategic plan. I think it will be important for us to put some context around what we're expecting for those financial metrics. And so if you don't mind holding off that -- and you're right, you can do some backwards math and probably come up with something. But really from our perspective, we'd like to hold off on commenting until December when we roll out the strategic plan.

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Derek Spronck, RBC Capital Markets, Research Division - Analyst [13]

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Okay. Yes, no, fair enough. Just -- you had a nice pickup in organic growth. Was that just pent-up demand that was released? Or are you seeing more sustainable, higher organic growth trends here?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [14]

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We saw, as you say, pretty good organic growth, certainly in all of our geographies, good organic growth this quarter. And in all of our business lines, with the exception of Energy & Resources. As we look at a couple of the sectors, in environmental services, we saw strong growth across all the geographies. Will that mute a little bit going into 2020? I would think it probably would a little bit. In infrastructure, we saw a great pickup in our transportation practice this year -- in this quarter, sorry, up double-digits in all of our geographies. And so as we've talked about over the last little while, we've had some strong backlog generation in transportation. We've talked about some of the large projects we're working on. And yes, those are all in the midst of heavy design at this point. I think the one that we're most -- that we are most pleased with this quarter would be the water organic growth.

We've talked for several quarters that while we are generating good backlog in water, we felt that we -- we hadn't seen that translate into organic growth yet. Certainly, we did see that in Q3, it was 7.4% overall, with really strong growth in the United States, really as a pickup to a number of those projects that we've been focusing on in California and in Florida.

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Derek Spronck, RBC Capital Markets, Research Division - Analyst [15]

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Okay. That's great. Just maybe one last one for myself. Are you seeing any sort of negative headwinds from the divestiture of the construction in water? Or is it still feeling relatively bifurcated between the design and construction side on the water side?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [16]

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Sure. Good point. And just before I answer that, the operator just asked if I could say, everyone who is in queue, for some reason, those people who are in the queue have been dropped from the queue. So looks like Mark's in the queue again. There's Jacob now. So if you need to add yourself back to the queue, please, please do so.

Okay. Now we see it's there. Thanks, everyone, for that. So as to your question with regards to Constructors. In fact, Theresa and I are in the U.K. this week and meeting with a number of our clients and staff here. And certainly, one of the questions that we've talked about quite a bit was the impact of the divestiture of construction here. Certainly, we have not seen that. But in fact, we still work with our construction business here when it makes sense. And we have recently won an AMP7 recompete with them for one of the clients here.

So where it makes sense, we'll work together with them, but neither in North America nor here have we seen a significant negative headwind as a result of that divestiture.

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Operator [17]

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We'll take our next question from Mark Neville with Scotiabank.

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Mark Neville, Scotiabank Global Banking and Markets, Research Division - Analyst [18]

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Sorry, I guess I didn't want to steal all the questions here, but I guess since I'm on the line. I guess just on M&A, it's been a bit quieter in the last few quarters. So I'm just curious if that's sort of related to the workforce reshaping or if there's sort of something else happening or just sort of just a coincidence, I guess, on the M&A front now.

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [19]

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Yes. Yes. Certainly, the slowdown in M&A this year was not intentional in any way. We did close with Grieve Engineers in March and it has been quiet since then. But as we always are, we're always involved in numerous discussions. And really, we're just waiting for one to hit. We just haven't had the right mix of cultural fit and opportunity yet, but there's no -- been no change to our M&A program.

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Operator [20]

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We'll take our next question from Devin Dodge with BMO Capital Markets.

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Devin Dodge, BMO Capital Markets Equity Research - Analyst [21]

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I just wanted to come back to the organic growth in Q3. I'm just trying to get a sense for what was the driver? I think you addressed what verticals and where that strong strength came from. But just trying to understand whether it was like project-specific revenue recognition changes or a higher headcount or utilization? Or what was driving that outsized organic growth in Q3?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [22]

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Certainly, a number of the projects that we've been waiting to fully engage in really kicked into high gear. There is certainly a seasonality component in Q3 as well as we have more people out in the field, and those programs are going a bit stronger. So it really wasn't due to any one of those issues, but pretty broad-based across all the geographies, and we felt good about the quarter.

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Theresa B. Y. Jang, Stantec Inc. - Executive VP & CFO [23]

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And just to confirm, we did not change any of our revenue recognition approach for the quarter. So there wasn't -- there wasn't anything from an accounting perspective that caused that. I think there is probably a bit of that too, I mean, we -- we have commented that we were slow getting out to the field this year because of the colder winter and so on and we saw that in our results in the first and second quarters. So I think there is, in some respects as well a bit of that sort of pent-up ability to move forward, and it was more pronounced in the third quarter because of that.

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Devin Dodge, BMO Capital Markets Equity Research - Analyst [24]

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Okay. Okay, that makes sense. So maybe just kind of continuing on that theme. But organic growth in the Canadian business was positive in Q3 but remains lower or a bit lower on a year to date basis. Just with what you see in the backlog and what you're seeing in the bid pipeline, just wondering how we should be thinking about the pace of organic growth in Canada over the next, say, 2 to 4 quarters? .

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [25]

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I -- as we look at Canadian organic growth going forward. This quarter, we were at just above 2%. We start to sort of see it in a similar number going over the next couple of quarters. If we -- that will bring the year in reasonably flat. And I think that's sort of in line with our expectations for Canada this year. Next year, I would see us going forward in a similar number to that, slightly positive organic growth, but not huge, certainly not in the high numbers.

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Devin Dodge, BMO Capital Markets Equity Research - Analyst [26]

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Okay. And maybe just one last one probably for Theresa, but just DSO reduction progress? I mean, I think we're stuck at 104 days. It just seems like that target of 98 days is becoming maybe less likely. What is -- how should we be thinking about a reasonable target by the end of the year?

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Theresa B. Y. Jang, Stantec Inc. - Executive VP & CFO [27]

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Sure. So the target at 98 days that we set at the start of the year, I would agree with you, it's increasingly unlikely that we will achieve that by the end of the year. From the work that we've done, and there has been a tremendous effort put towards this, it would indicate to us that maybe a day or 2 improvement at best over to the end of the year. The reason that it's the same as I've pointed out in earlier calls, a lot of it centers around our operations outside of North America. And for some of it, it's just needing some of those contracts to roll off.

And certainly, as we go forward, and as Gord mentioned, we're in the U.K., we're talking with our global leaders. And as we're entering into new contracts, there is a very keen focus on payment terms as we enter into new work, but it's just going to take a while for those other contracts to roll off.

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Devin Dodge, BMO Capital Markets Equity Research - Analyst [28]

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Okay. So 1 day or 2 by year-end. And there's -- it sounds like there's a little bit more room to go maybe in 2020, is that fair?

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Theresa B. Y. Jang, Stantec Inc. - Executive VP & CFO [29]

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We're going to keep trying. And I think DSO is clearly one of those things that every organization, particularly as a professional services company, should be working on to reduce. I made the comment earlier around the work we've done on looking at our return on working capital. And that would indicate to us that over the last couple of years, even when DSO has moved up and by a fair number of days that we're still -- the return we're generating has been consistent. So I don't want to downplay the issue. I don't want to say that we're not going to focus on it anymore because we certainly are. But I would also say that given the return is good, that it's important for us to bring the number down, but it's more important for us to focus on generating profitable earnings. And that moves the metric, moves the return far more than shaving 1 day or 2 off our DSO. If that makes sense to you. So it's still important to us, but from a more broad perspective, the metric that matters to me a lot around our returns, that number is in good shape.

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Operator [30]

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We'll take our next question from Chris Murray with AltaCorp Capital.

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Christopher Allan Murray, AltaCorp Capital Inc., Research Division - MD of Institutional Equity Research for Diversified Industries & Senior Analyst [31]

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Just, Gord, turning back into growth in the Canadian business. Energy & Resources, I mean we've kind of had a bit of a recovery and now kind of looking a little concerned about what's going on. So I was wondering, can you maybe talk about how we should be thinking about that business? And as well, can you give us any updates on how you guys are progressing along some of the pipelines? We've just been hearing different stories about pacing on things like TMX and Coastal GasLink and some of the challenges. I'm just wondering if you can shed any color on that from your perspective.

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [32]

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Sure. No, absolutely. And great question. So Energy & Resources, you're right, we were down 2.7% in Q3. But again, that's coming off a comp of just about 26% in Q3 '18. So it was a pretty high comp. But to your point specifically about some of the pipeline jobs, on Coastal gas, in addition to the environmental work we've been doing for some time. We've also -- we've just recently been engaged on some compression type projects there.

And on TMX, we continue to support that project or the TransMountain Expansion Project. We continue to support it going forward. We have had a number of spread kickoff meetings to get going. And so right now, we continue to work on detailed engineering, we're working on project management, construction monitoring and inspection and permitting work on -- on TMEP. So pretty busy there. And as that job or as those jobs continue to increase the pace, our involvement will increase as well.

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Christopher Allan Murray, AltaCorp Capital Inc., Research Division - MD of Institutional Equity Research for Diversified Industries & Senior Analyst [33]

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Okay. Are you seeing anything unusual in the regulatory environment? Because I know you guys -- like you're sort of at the front end of that. We've just been hearing like there's been a lot of issues around getting some of the construction actually going?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [34]

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Yes. I think that we're pushing forward with our clients as fast as we can, but I don't see anything unusual there at this point.

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Christopher Allan Murray, AltaCorp Capital Inc., Research Division - MD of Institutional Equity Research for Diversified Industries & Senior Analyst [35]

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Okay, fair enough. And then just turning back, I'd ask the 2020 organic question, but I guess you guys -- I'll hold it. But just for expectations, can you just give us some more color on what your plan is on releasing your strategic forecast? Should we be expecting just a press release and a conference call or a mini Investor Day? And any kind of more granularity on exactly when you expect to release this would be great.

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [36]

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Yes, yes, great question. We're just checking some schedules, and we expect to do that early in December, and we thought it would be a webcast type of an event, where we would just would lay out our 3-year vision for the company, where we're planning to take the firm as well as financial metrics, both for 2020, but also where we see we might be able to take some of those metrics moving forward over the 3-year period.

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Operator [37]

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We'll take our next question from Jacob Bout with CIBC.

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Jacob Jonathan Bout, CIBC Capital Markets, Research Division - MD of Institutional Equity Research [38]

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I had a few questions on the water business. It sounds like you're executing on the backlog. Maybe talk about the issue of the staff shortages in the U.S., I know you were talking about utilizing Canadian staff and in India delivery center. Have some of those issues been resolved?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [39]

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Yes. Well we certainly -- while we've always been working on using our staff in a cross-border way and taking advantage of even folks in the water business from Australia or from the U.K. In addition to our Pune, India operation, we've really ramped that up over the last couple of quarters. So certainly, that did help us, as we continue -- as those projects launched, that did help us to get the resources that we needed to continue to drive them forward.

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Jacob Jonathan Bout, CIBC Capital Markets, Research Division - MD of Institutional Equity Research [40]

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And then, obviously, strong organic growth in the quarter. But it sounds like it might start to average down as you go forward. But do you think you're going to get back to where the industry is growing at, at kind of 4% to 5%?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [41]

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From the water in particular?

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Jacob Jonathan Bout, CIBC Capital Markets, Research Division - MD of Institutional Equity Research [42]

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Correct.

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [43]

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Yes, absolutely. The backlog of projects is there and a number of the projects that we're just beginning to engage with are large multi-year projects. So once they get rolling, we feel confident in that type of a range going forward, that 4% to 5%.

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Jacob Jonathan Bout, CIBC Capital Markets, Research Division - MD of Institutional Equity Research [44]

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And then maybe just on the U.S., so seeing some outsized growth there. It sounds like a pretty big step-up in Transportation, Environmental. You've got a couple of projects here. The Long Island, the Red, Purple Line, how are those projects, when are they expected to end and how are you thinking about the continued growth in the U.S.?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [45]

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Yes. Yes, no, great question. We have -- those projects are certainly in the midst of full design. We have resources from throughout the United States and Canada working on them. But they are large projects, so those will certainly be going for the next couple of quarters in the case of Long Island and in terms of full flat out design. And for Chicago, even longer than that. But as that winds down, we talked about during the prepared comments the roadway project in Florida comes on, and we have other light rail projects that we're working on in Canada. So we see good backlog in transportation overall.

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Operator [46]

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We'll take our next question from Benoit Poirier with Desjardins Capital Markets.

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Benoit Poirier, Desjardins Securities Inc., Research Division - VP and Industrials, Transportation, Aerospace, Industrial Products & Special Situation Analyst [47]

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Congrats for the good quarter. First question on Energy & Resources, I mean, when we look at Q4 last year, the growth was more pronounced. So would it be fair that you could probably turn the corner in Q4 and show some positive organic growth for Energy & Resources?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [48]

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Our Energy and Resources group is made up of a number of different components, one of which, of course, is oil and gas. So if those pipeline projects get engaged in a larger way, certainly, we'll see an uptick in that type of work in Canada.

Our mining space is also within our Energy & Resources group, and we're seeing good growth in mining in Canada and Australia, in particular, as a result of our involvement in both gold, but also some of the battery metals. So that feels good going forward over the next little bit as well.

So I don't see Energy & Resources having a significant change to the positive in Q4. But I think we're hoping to see some good growth there going forward.

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Benoit Poirier, Desjardins Securities Inc., Research Division - VP and Industrials, Transportation, Aerospace, Industrial Products & Special Situation Analyst [49]

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Okay. And for Environmental Services, you already provide some color, but if you look at the organic growth, it's been in the double-digit over the last 2 quarter, would you feel -- or is it reasonable to expect double digit in Q4 again. But maybe kind of a more moderate growth for 2020 in the mid to high? How should we be thinking about 2020 for Environmental Services?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [50]

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Yes, I would expect to see that growth to moderate, 17% from this quarter was very high. So I would expect to see that growth to moderate. We're still hopeful for double-digit growth going forward. But certainly, it will moderate from that number.

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Benoit Poirier, Desjardins Securities Inc., Research Division - VP and Industrials, Transportation, Aerospace, Industrial Products & Special Situation Analyst [51]

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Okay, perfect. And if we look at the province of Ontario, they recently released the market, the P3 market update. They highlighted about $65 billion of opportunity. So could you provide some color on the potential upside for Stantec and whether it could boost the growth prospect in Canada for Stantec for the years to come, Gord?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [52]

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Yes, certainly, some great projects were identified on that list in Ontario. And so for a number of them, we have begun working on teaming discussions already. And certainly, we believe we've got some strong positioning for those. So we believe that, that would bode well for us into the future. But like the industry, in general, we're waiting for these projects to come to market, and we're looking forward to competing for them.

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Benoit Poirier, Desjardins Securities Inc., Research Division - VP and Industrials, Transportation, Aerospace, Industrial Products & Special Situation Analyst [53]

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Okay, perfect. And for Theresa, maybe a question about the DSO. You mentioned already some color both -- on what we should expect by year-end. But when we'll be looking at the next 3 years, is it fair to assume that 98 is still a number that could come out in the -- and be part of the plan? Or given the focus on profitability, it's less the end goal?

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Theresa B. Y. Jang, Stantec Inc. - Executive VP & CFO [54]

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The number for the 3 years note is something that we'll share when we roll out our strategic plan in December. .

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Benoit Poirier, Desjardins Securities Inc., Research Division - VP and Industrials, Transportation, Aerospace, Industrial Products & Special Situation Analyst [55]

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Okay, okay. That's great. And for free cash flow conversion in Q4, anything unusual we should expect or it will be kind of a normal seasonality here, Theresa?

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Theresa B. Y. Jang, Stantec Inc. - Executive VP & CFO [56]

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Yes, I expect it to be pretty normal. As you know, Q3 is -- tends to be the high point for us. Generated really solid cash from operating activities and free cash flow for the quarter and for the year-to-date and really strong conversion of cash from operating activities to net income. So it should moderate some as we go into the fourth quarter, but I would expect that, from a cash flow perspective and an overall leverage perspective, that those will both be in good shape in the fourth quarter. .

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Benoit Poirier, Desjardins Securities Inc., Research Division - VP and Industrials, Transportation, Aerospace, Industrial Products & Special Situation Analyst [57]

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Okay, perfect. And depreciation of lease assets is $29 million, $30 million, a good number on a run rate basis? Or is the number should accelerate a little bit as you grow revenues, Theresa?

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Theresa B. Y. Jang, Stantec Inc. - Executive VP & CFO [58]

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Yes, I don't think it would be that far from the guidance that we gave at the start of the year.

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Benoit Poirier, Desjardins Securities Inc., Research Division - VP and Industrials, Transportation, Aerospace, Industrial Products & Special Situation Analyst [59]

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Okay, okay. And last one for me. When we look at the strategic plan that you're going to be providing in December, I'm wondering whether -- how should we be thinking about management compensation and whether the compensation will be aligned with the plan?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [60]

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Well, I think that our management compensation has always been aligned with our plan. We have, from our LTIP, our long-term incentive metrics certainly are driven by, specifically by financial metrics in the plan. So I don't see that, that would change going forward.

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Operator [61]

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We'll take our next question from [Newman Setti] with [Laurian Bank].

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Unidentified Analyst, [62]

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So just on the M&A side, I understand that you're going through a workforce reshaping and then there is cost saving initiatives there as well. How comfortable are you from an operational perspective to absorb M&A activity in the future.

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Theresa B. Y. Jang, Stantec Inc. - Executive VP & CFO [63]

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Is your question around funding?

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Unidentified Analyst, [64]

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From an operational perspective, bringing those M&A new companies in and making sure that they're aligning with the rest of the business?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [65]

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The -- in fact, that's an area where we are very comfortable. Certainly, within North America, we have well-established operations. The biggest part for us with our -- when we look for M&A firms to join us is cultural alignment. And so when we find firms that are very culturally aligned with Stantec, we do find that the -- that integration flows fairly smoothly. So now that we've got here in the U.K. where Theresa and I are, MWH has been with us for 3 years now. Peter Brett and Associates we were in their offices today. Very good alignment. And in fact, the team is really looking forward to having other firms to join and to continue to grow our presence here.

So from an operational and integration perspective, we feel good about that. That would be a similar statement in Australia and New Zealand, where also geography where we continue to look. So yes, we feel very comfortable from an operational perspective, in terms of bringing new firms into the fold.

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Theresa B. Y. Jang, Stantec Inc. - Executive VP & CFO [66]

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We have as well spent all of last year, we completed our ERP system integration in Australia and New Zealand and in the process of integrating systems here in the U.K. And so again, that just adds to our capacity and capability of being able to operationalize acquisitions and get them on the same system.

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Unidentified Analyst, [67]

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No, that's great. And just if you could comment on the M&A pipeline? And if you've seen any changes to the valuation or the prices has gone up?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [68]

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Yes, I would say that the pipeline is still -- remains very robust in terms of both firms in North America, Australia, New Zealand, the U.K., Western Europe, Nordics, we're always talking to the firms in these areas.

From an overall valuation perspective, we're not seeing significant up-creep in valuations from where we typically have seen over the last number of quarters. But it is a very active market, it is a very active market.

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Operator [69]

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We'll take our next question from Maxim Sytchev with National Bank Financial.

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Maxim Sytchev, National Bank Financial, Inc., Research Division - MD & AEC-Sector Analyst [70]

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I was wondering maybe if you can comment, please, about the U.K., the operating environment, some of the global peers have witnessed some slowdown in the market. Maybe any type of color you can provide, please?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [71]

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Yes, great question. And so as I said, we -- that's where we are this week. And so we've met with a number of the water clients. And I'll start with water. And as we transition between AMP6 and AMP7, a number of those awards, as we've talked about before, we've been awarded a number of AMP7 contracts already. And -- but in general, as the industry transitions from AMP6 to AMP7, 2019 is seen to be sort of the lower year from an overall industry revenue generation perspective. And next year, we're looking to see an uptick. So our water business was solid this year, and we see that only continuing to improve next year and into AMP7, as that gets rolling.

From a buildings perspective, we've met with a number of our property development clients here. And there is no concern with regards to projects being -- or certainly, we've heard none, of projects being canceled. But there is a little bit of a -- let's just hold on for a bit and see what happens with Brexit.

So we're seeing projects move to the right a little bit, still perhaps moving forward with a bit of planning and getting planning permissions and consents, but not moving into the next stage. So a little bit, I think, of trepidation, a little bit of a wait-and-see on some of those property development projects.

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Maxim Sytchev, National Bank Financial, Inc., Research Division - MD & AEC-Sector Analyst [72]

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Okay. No, that's fair enough. And the other question I had was just in terms of capital allocation priorities. Do you have any thoughts, incrementally speaking, in terms of deploying capital via M&A versus share buybacks, just in terms of if you have evolved your thinking over the last little while. Just maybe any thoughts there, please.

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Theresa B. Y. Jang, Stantec Inc. - Executive VP & CFO [73]

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Sure. And it's really pretty consistent, Max, from what I shared in the earlier part of the year. From our perspective, allocating capital to make accretive acquisitions is our biggest priority. It drives growth and drives returns. And so that remains a priority.

Having said that, so long as there are opportunities that present itself, where our share price gets dislocated as it has been and we remain well within our leverage metrics, then for me, that is also a good use of capital.

So we have been active in the NCIB market for this past year, which is -- it's been an appropriate and valuable way for us to create shareholder value. But as I said, acquisitions are our priority. And so at the moment, I'm not making one trade-off over another.

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Operator [74]

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We'll take our next question from Ben Cherniavsky with Raymond James.

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Ben Cherniavsky, Raymond James Ltd., Research Division - MD & Head of Industrial Research [75]

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Most of my questions have been answered, and there have been a fair number of questions about organic growth. But if I could just maybe ask it in a different way. I mean, the confidence you have in the sustainability of the kind of growth you put up, it's sort of at odds with a lot of the leading indicators out there, I think, Maxim asked about Brexit and the ABI index has been slowing. There have been other indicators, not just in Alberta, but elsewhere, that activity is slowing. And so how -- what do you think explains your ability to sort of go against the grain with some of those trends?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [76]

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I do think that Q3 was a particularly good quarter for us. We had good seasonality, got people out in the field, a lot of the projects that we've been waiting to get going have -- got started. And so you can see that from a quarter-on-quarter basis throughout the year, organic growth increased significantly in Q3 over the previous quarters. Our guidance, I think, is still in that low to mid-single digits. So would we expect to see the type of growth that we saw this quarter in all of our quarters going forward? I don't think that, that would be an accurate statement.

I think our guidance would still be in that low to mid-single digits as something that is sustainable in the long term.

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Ben Cherniavsky, Raymond James Ltd., Research Division - MD & Head of Industrial Research [77]

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Yes. Okay, that's helpful. And I mean there's no question that you guys have put up some good numbers here, and it's also no secret the last couple of quarters, if not the last couple of years, you've been a little beaten up on your results. So before expectations get too far ahead of themselves, what -- do you feel like this is a turning point for you guys that things just sort of -- the work you've been doing have been -- is coming together here, beyond just a few projects getting released, what would you explain in -- as the sort of -- or would you see this as an inflection point in your performance?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [78]

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Yes, so -- and that's a good point, Ben. And you know that we've been focused on a number of things for some time. Certainly, the divestiture of Constructors was important for us, working through the reshaping initiative, working on some of the other internal efficiency type things that we've been working, we're building backlog.

We do feel like we're -- that we're ready to continue forward with more sustainable delivery, not spiking up, but not spiking in a negative direction either. We do feel like we've turned the corner, really certainly added a lot of focus from all of our leadership and employee base on that -- just that long-term sustainable delivery.

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Ben Cherniavsky, Raymond James Ltd., Research Division - MD & Head of Industrial Research [79]

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But can you point to a couple of things that -- if there are any catalysts or anything in particular that was -- that's been working for you lately, you feel better about? Or is it all -- is it a bunch of -- a whole bunch of little things that are projects you've been focused on that are coming together?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [80]

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Yes, it's a combination. It certainly is any number of a number of small things. But we certainly have seen that our reshaping initiative, in addition to achieving that $40 million to $45 million of annualized cost savings that we talked about, it also has reenergized the organization to a large degree. There's been a number of people who now have stepped out into the sunlight, sort of, for lack of a better word, that have an opportunity to really shine and show us what they can do. And we've seen really a number of people step up to do that. So I think that while that was something we needed to do from a cost efficiency perspective, I think from an organizational perspective, it was also very positive.

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Ben Cherniavsky, Raymond James Ltd., Research Division - MD & Head of Industrial Research [81]

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And what work remains to be done? What are you guys focused on? I mean, I guess, we'll hear more about this in the strategic plan. But what's occupying your focus right now, Gord?

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [82]

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For now, we're continuing to focus on getting ready to roll out our strategic plan to -- both internally and externally in early December. We're continuing to focus on the M&A pipeline and spending a lot of time there. And then just overall, working with the teams to ensure that, that long-term efficiency, long-term operating ability is there.

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Operator [83]

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We apologize for the technical difficulties, and thank everyone for their patience. There are no more questions in the queue at this time. I would like to turn it back over to today's speakers for closing remarks.

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Gordon Allan Johnston, Stantec Inc. - President, CEO & Director [84]

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Well, thank you, everyone, for taking the time to join our call today. We look forward to providing you with some additional information in the near future about the timing and the dates for our -- when we roll out our strategic plan to you in early December. So thank you very much.