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Edited Transcript of WMS earnings conference call or presentation 9-Aug-18 2:00pm GMT

Q1 2019 Advanced Drainage Systems Inc Earnings Call

Hilliard Aug 28, 2018 (Thomson StreetEvents) -- Edited Transcript of Advanced Drainage Systems Inc earnings conference call or presentation Thursday, August 9, 2018 at 2:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Donald Scott Barbour

Advanced Drainage Systems, Inc. - CEO, President & Director

* Michael Higgins

Advanced Drainage Systems, Inc. - Director of IR and Business Strategy

* Scott A. Cottrill

Advanced Drainage Systems, Inc. - Executive VP, CFO, Secretary & Treasurer

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Conference Call Participants

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* Marshall Harrison Mentz

Barclays Bank PLC, Research Division - Research Analyst

* Nishanker Damodara

Robert W. Baird & Co. Incorporated, Research Division - Associate

* Scott Evan Schrier

Citigroup Inc, Research Division - Senior Associate

* Timothy Ian Daley

Deutsche Bank AG, Research Division - Research Associate

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Presentation

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Operator [1]

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Good morning. My name is Lisa, and I'll be your conference operator today. At this time, I would like welcome everyone to the Advanced Drainage Systems First Quarter Fiscal 2019 Earnings Conference Call. (Operator Instructions) Thank you.

Mike Higgins, Director of Investor Relations and Business Strategies, you may begin your conference.

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Michael Higgins, Advanced Drainage Systems, Inc. - Director of IR and Business Strategy [2]

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Thank you, and good morning. With me today, I have Scott Barbour, our President and CEO; and Scott Cottrill, our CFO.

I would also like to remind you that we will discuss forward-looking statements. Actual results may differ materially from those forward-looking statements because of various factors, including those discussed in our press release and the risk factors identified in our form 10-K filed with the SEC. While we may update forward-looking statements in the future, we disclaim any obligation to do so. You should not place undue reliance on these forward-looking statements, all of which speak only as of today. Lastly, the press release we issued earlier this morning is posted on the Investor Relations section of our website. A copy of the release has also been included in an 8-K submitted to the SEC. We will make a replay of this conference call available via webcast on the company website.

With that, I'll turn the call over to Scott Barbour.

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Donald Scott Barbour, Advanced Drainage Systems, Inc. - CEO, President & Director [3]

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Thanks, Mike, and good morning, everyone. With a strong first quarter in both sales and earnings, we saw healthy activity in the domestic construction markets where our sales increased 10%. This strength extended across both the nonresidential and residential end markets. Key markets, such as Texas, Florida and the Carolinas also performed well in the quarter and our order activity is up low double digits compared to the prior year.

In the nonresidential market, our sales increased in each region due to growth of large diameter HP Pipe in our core N-12 pipe products as well as Allied Products. The residential end market continues to be supported by strength in housing starts, especially as multifamily housing has returned to growth, which is a good water management solutions market for ADS. In general, ADS is benefiting from the strong residential development and associated suburban development.

Importantly, the success of our complete water management solutions strategy continue to drive strong growth of our Allied Products, including double-digit growth this quarter of Storm Tech for retention/detention systems and Nyloplast for stormwater capture. We also saw impressive growth of our newer Allied Products, including the DURASLOT product line for the channel drain market, which we recently acquired, and our Barracuda separator water quality product, which we recently developed and introduced.

In our agricultural end market, unseasonably cold temperatures and a wet spring in the Midwest delayed the spring selling season this past quarter. We also believe that agriculture market is being impacted by the ongoing trade rhetoric. While we are not directly impacted by the U.S.-China tariffs, we could face a second-order impact as farmers contend with the potential of a shrinking export market and depressed crop prices.

An increase in sales in Mexico and Canada drove strong performance in our international business this quarter. We were particular encouraged by the strength of our business in Mexico, where we are seeing growth in our N-12 product line as well as improved profitability as we incorporate recycled plastic into the manufacturing process. In Canada, growth continues to be driven by our team's solid execution in the construction end markets.

Moving to profitability. We are pleased to report year-over-year margin expansion for a third consecutive quarter. While we continue to see inflationary pressures in transportation, labor and material costs, favorable pricing, our team's disciplined execution, defined mitigation plans and the growing demand for our water management solutions have kept -- have helped keep our margins on target to plan.

Our mitigation plans have been heavily focused on transportation and logistics activities. For example, we are leveraging our own transportation assets to minimize the impact of high third-party freight costs, which remain a year-over-year headwind due to capacity constraints and cost increases. We have also implemented new freight policies, which helped to ensure we are fairly paid for the transportation and distribution services we provide. These include implementing increased order minimums, building diesel fuel cost into pricing in a new way and encouraging customer pickups, among other actions.

We kicked off these actions in the fourth quarter of fiscal 2018 and are encouraged by the initial traction we are seeing in the marketplace. We also continue to focus on securing favorable pricing to cover resin costs, which remained at post-hurricane elevated levels. Lastly, we see the benefit of our restructuring and manufacturing efficiency initiatives.

In summary, we are very pleased with our first quarter financial performance. But as always, there's more work to do. The domestic construction market remains healthy with a solid pace of construction activity expected to continue throughout this fiscal year. We will continue to focus on servicing our customers safely and on time, reducing our cost, driving efficiency throughout our business and executing on the fundamentals to ensure we are delivering the best results possible.

I also want to share that our Green Line Polymers recycling subsidiary recently hit a milestone. In June, they surpassed the 1 billion-pound mark of reprocessed plastic, or an equivalent of 500,000 tons. We continue to lead our industry in manufacturing products that are environmentally friendly and we are more committed than ever to our core mission of advancing sustainable business solutions. I'd like to thank the passionate and dedicated employees who support these efforts as we continue to seek out new ways of increasing the use of recycled plastic in our products.

Lastly, we are planning to host ADS' first Investor Day in York City on November 15. We hope to see many of you there and look forward to sharing a more in-depth discussion of our business strategy and superior performance planned initiatives.

With that, I will turn the call over to Scott Cottrill for a review of the financials.

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Scott A. Cottrill, Advanced Drainage Systems, Inc. - Executive VP, CFO, Secretary & Treasurer [4]

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Thank you, Scott. Moving to Slide 5. Net sales increased 8% to $388 million. Domestic net sales increased 7% to $342 million with growth in both Pipe and Allied Products. Pipe sales growth was driven by both N-12 and HP, where we had favorable price and volume in the quarter. As Scott mentioned, growth at our Allied Product sales was driven by Storm Tech and Nyloplast, both of which grew double digits and continue to be integral to our water management solutions package.

International net sales grew 17%, driven by strong pipe sales in Mexico, where we saw robust growth of our N-12 pipe products. We also had 22% growth in Allied Products, which was largely from Storm Tech sales in Canada, where we continue to execute our complete water management solutions strategy and increase our share in the construction markets.

Adjusted EBITDA increased 25% to $75.1 million, leading to margin improvement of 260 basis points to 19.4% this quarter as compared to 16.8% in the prior year. This strong profitability was driven primarily by volume growth in Allied Products and favorable pricing during the period. Additionally, the benefits of our restructuring actions and SPP initiatives helped to offset the inflationary pressures that Scott mentioned earlier.

Moving to Slide 6. We had a significant improvement in our cash flow provided by operating activities in the quarter, driven by both better operating results and improvements in working capital. As we mentioned on our last call, our working capital initiatives for fiscal 2019 include increasing inventory terms and more closely aligning our customer and supplier payment terms. So far, these initiatives have paid off. And while we are still in the early innings of our rollout, we are pleased with our results to date.

Regarding capital spending, we plan to deploy between $60 million and $70 million in capital this year. This includes a number of projects that have gone through a robust approval process, including plant improvements, new production lines and tooling to support high-growth products in high-demand regions. This will reduce our manufacturing freight and material costs, and allow us to service our customers more efficiently.

We are also increasing our recycling capacity at our Green Line Polymers facilities, where we self-process recycled plastics. We're going to increase that capacity to capture additional cost benefits from using recycled material. These improvements will also reduce the cost of converting the recycled plastic into useful material and improve our production efficiency. These organic investments remain our top priority for capital spending. We also expect contribution from these investments will largely benefit our fiscal 2020 results and beyond.

On Slide 7, we provide updated financial targets for fiscal 2019. Based on our order backlog and current market trends, we are maintaining the previously communicated range for net sales of $1,375,000,000 to $1,425,000,000, representing a year-over-year growth of 3% to 7%. For adjusted EBITDA, we are raising the low end of our guidance range by $5 million and now expect adjusted EBITDA to be in the range of $225 million to $240 million, representing growth of 7% to 14%. These ranges represent adjusted EBITDA margin of 16.4% to 16.8%, our margin expansion of 60 to 100 basis points.

Our guidance contemplates more difficult comps as we move into the third and fourth quarter. As you may recall, our fiscal third quarter 2018 adjusted EBITDA was favorably impacted by the price increase we took ahead of material cost increases resulting from the hurricanes last summer. The price increase took effect in the third quarter, while the impact of the material cost increase did not meaningfully hit our P&L until the fourth quarter last year. Today, we continue to hold on to favorable pricing in the marketplace as the cost of resin remains elevated. However, as we approach the anniversary of the initial price increase, the year-over-year comparisons will start to flatten out.

Turning to Slide 8. We provide our market outlook. Overall, we expect current market trends to continue. We expect domestic construction markets to grow at low- to mid-single digits in fiscal 2019 supported by healthy demand in each of our end markets. We are experiencing healthy demand in our nonresidential and residential end markets. And though the infrastructure market was not as robust during the first quarter, we believe this is related to the timing of projects and not the health of the market itself. Internationally, we expect low to mid-single-digit growth supported by the Canadian construction markets and Mexico.

With that, we'll be happy to take your questions. Operator, please open the line.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And our first question comes from the line of Nish Damodara from Baird.

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Nishanker Damodara, Robert W. Baird & Co. Incorporated, Research Division - Associate [2]

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On the demand side it looks like the year is developing pretty nicely, I was hoping you could just give us a bit of color on how things have tracked sequentially from fiscal 1Q and with fiscal 2Q. And also, could you give us a quick update on any acceleration you might be seeing in your guys' conversion trends. That would be great.

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Donald Scott Barbour, Advanced Drainage Systems, Inc. - CEO, President & Director [3]

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So this is Scott Barbour. And I would say that your -- to answer your question kind of sequentially how things are going in the order rates, I would say they're very consistent. I think we said they're kind of low double digit in order rates, and I think that's been very consistent throughout kind of the first quarter, our first quarter into what we're seeing right now. And I think of our demand side as being pretty consistent line of sight, so certainly through the end of the calendar year and into next year. I don't -- I feel pretty good about that, too. So the demand side, I think, is in good shape. On the conversion, I think you're talking about conversion from competing materials to plastic pipe?

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Nishanker Damodara, Robert W. Baird & Co. Incorporated, Research Division - Associate [4]

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Right.

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Donald Scott Barbour, Advanced Drainage Systems, Inc. - CEO, President & Director [5]

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And I think last year might -- we felt like there was a couple of points of conversion, maybe 2 points above what we were normally doing even. We tried to do 1 point of market conversion year, I think we were in that 2.5 to 3. And the numbers -- some of the numbers we looked at, just as of yesterday with our board, I think we're in that range of conversion from competing materials. So I think that story or that strategy remains very consistent, that initiative remains at the very top of our list, along with our solutions in Allied Products strategy for growth. And I would tell you that probably stronger today than it was 12 months ago given the penetration in the market of our HP polypropylene-based pipe product.

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Nishanker Damodara, Robert W. Baird & Co. Incorporated, Research Division - Associate [6]

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Got it. That's really good color. Just a follow on the margin side. So the financial is pretty impressive in the quarter, it looks like a big chunk of outperformance on that price/mix materials bucket. Could you just give us a sense for how sustainable that is on a go-forward basis? And any commentary around -- and your guidance with resin and materials outlook would be great.

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Donald Scott Barbour, Advanced Drainage Systems, Inc. - CEO, President & Director [7]

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So this is Scott Barbour, again. And I think Scott Cottrill will hop in here, too. But I think we got on top of this pricing pretty effectively post-hurricane last year. And that created a really nice spread for us between kind of the resin -- elevated resin prices kind of flowed through our P&L. And we continue to look at that and manage that very closely and well. And I think we'll -- the comparisons for us, as Scott Cottrill said, will be pretty nice here through the first 2 quarters. That will flatten out some in the third and fourth. We're going to go work that. I mean we have a lot of different things in motion around that, so I think it will kind of change as we get to the back half of the year. It's not a reflective of any change in pricing that we're doing in the market. It's just kind of how the things are flowing through our P&L, if you will. The other thing I would say about the pricing element and sustainability of it is we are looking at more than just resin when we are looking at our pricing. We are looking at how our competitors are pricing -- competitive materials are pricing

(technical difficulty)

That they are seeing, some common to us like transportation and labor. Some not common to us because they have different inputs, like steel or cement and things like that. And I think we've seen opportunities with respect to that, that kind of dynamic to get our pricing up in the market. And we don't -- it's a very regional thing. You don't get it in every single region. You got to really look at that in a very granular and regional level, which we do

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Committed to working our pricing in a very -- in a manner that allows us to continue to convert and keep that story going with conversions or competing materials, and be responsible relative to our -- kind of protecting our margins. So we're going to play both sides of that game. Cottrill, what do you think?

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Scott A. Cottrill, Advanced Drainage Systems, Inc. - Executive VP, CFO, Secretary & Treasurer [8]

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I think Scott did a great job of that. I mean, as it plays out, we're -- especially on the polypropylene side, I mean, we're seeing a little bit of the polyethylene go up, but it's a story about 2 halves. And when you look at the second half of this year versus last year, we'll see, which we predict, that we'll see that polyethylene coming a little bit favorable to last year, but polypropylene is going to stay up a lot higher than where it was last year. So those are the items that we're managing last year and, hence, the comment about some of the comps as we get to the second half of the year and get flattening out a little bit.

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Nishanker Damodara, Robert W. Baird & Co. Incorporated, Research Division - Associate [9]

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Great. That's very helpful. If you guys don't mind me sneak one more in here. Free cash flow looks pretty strong in the quarter, certainly, above normal seasonality and with the leverage kind of reaching pretty low levels, I think, 175 on the deck. Just give us an update on how you guys are thinking about your M&A pipeline and how actionable it is today?

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Scott A. Cottrill, Advanced Drainage Systems, Inc. - Executive VP, CFO, Secretary & Treasurer [10]

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Again, it's one of those things. We're trying, as we've talked about on these calls, to develop a more proactive, if you will, pipeline for our M&A. We've always got targets that we're thinking that are in various levels of that pipeline, of that funnel. It's active. I mean, there's always things that we're looking at, at different levels within there. Obviously, we look at the multiples and we have a disciplined process to make sure that we hit our strategic and our financial objectives and targets that we have in place, but it's active. And from a capital allocation, capital deployment standpoint, it's one of those areas that we really want to emphasize as we move through this year.

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Donald Scott Barbour, Advanced Drainage Systems, Inc. - CEO, President & Director [11]

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We've had quite a bit of discussion with our Board of Directors on this over the -- we just met this week and there's a lot of conversation outside of the board meetings around that. So very high on our agenda is how we go forward with that part of our capital allocation strategy. I think the internal capital has come together nicely over the last 9 months. And the spending is a little down on the chart, but that's going to catch up here. There's really some timing issues in that. But this next leg around the acquisition piece is certainly the next part of the strategy coming together, very active with -- Cottrill and I, in and a lot of different conversations with our board, how to structure that process and accelerate it.

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Scott A. Cottrill, Advanced Drainage Systems, Inc. - Executive VP, CFO, Secretary & Treasurer [12]

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Scott had a good point. I mean -- and that favorable cash flow, we're very pleased with it. But half of that is timing when it comes to our CapEx favorability and our tax favorability. The other piece of that would be kind of the working capital and EBITDA performance running through our cash flow.

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Operator [13]

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(Operator Instructions) Our next question comes from the line of Scott Schrier from Citi.

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Scott Evan Schrier, Citigroup Inc, Research Division - Senior Associate [14]

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Just wanted to start off with the guidance, and you kind of talked about it on the last question. Your sales are flat, obviously, it seems like you've gotten some more confidence in your margins, especially after 1Q. I'm curious, is that due to just better cost out than you had previously thought? And is the guidance just due to this quarter' performance or is there any anticipated improvement throughout the year relative to your prior expectations?

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Donald Scott Barbour, Advanced Drainage Systems, Inc. - CEO, President & Director [15]

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Scott, this is Scott Barbour. We feel like we need to identify all Scotts. I would say that raising the bottom end is, to me, is the confidence we have in the execution of our plan for this year. And like any time you're going your way through the year, you're always kind of worry about something that comes and hits you that you don't see. But everything we see right now, we've got a good line of sight on, they're working and more and more confident in our plan today.

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Scott Evan Schrier, Citigroup Inc, Research Division - Senior Associate [16]

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Got it. And then a follow-up, a little bit more on the material conversion. Maybe it's -- I don't know if -- it still looks good, but maybe it's tailed off a little bit. I'm curious if, one, if maybe with higher resin cost and you having to push pricing, it takes away in some people's eyes some of that -- the benefits of the material conversion theme. And more on that, I guess with infrastructure, due to timing coming in a little lower, I was wondering if you could talk a little bit about that Senate Bill 31-21, which seems like it would really open the doors from the water infrastructure perspective for material conversion.

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Donald Scott Barbour, Advanced Drainage Systems, Inc. - CEO, President & Director [17]

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Okay. So the material conversion piece is not slowing down. I think we're on a really good case with our material conversion. We're -- in the relative segments, I think we're growing faster than our competitors that we kind of see numbers on which -- in the stormwater market. Our construction activity, which is pure stormwater, is up 10% year-over-year in the quarter. So we're not -- I wouldn't back off at all on the success of that material conversion strategy. And relatively unimpacted by resin price moves and our price moves because our competing products have had price moves, too. That said, it's always regional, Scott. I mean, what you see in North Carolina might be very different than what you're seeing in California because you have different competitive dynamics, different jobs and those things. But in aggregate, we're very confident in our conversion story. The Senate Bill is the infrastructure bill -- the transportation bill. It's the one that gives equal things for all materials, right? And that, in general, is good for us because it's an open competition type of arrangement where any equivalent material could be used in those products. And actually, we have people that have been working in conjunction with, I think, it's the chemical institute or the chemical guys, the resin guys trade arm, along with our trade arm, the Plastics Pipe Institute to promote what we would call that open competition among materials in the transportation bill, so we will be highly in favor of that. And there was a third piece that you kind of packed in there...

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Scott Evan Schrier, Citigroup Inc, Research Division - Senior Associate [18]

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No. I mean, I think you hit the major points what I really wanted to get out, and I definitely appreciate the color on that Senate Bill. It seems like a real positive for material conversion.

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Operator [19]

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Our next question comes from the line of Matt Bouley from Barclays.

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Marshall Harrison Mentz, Barclays Bank PLC, Research Division - Research Analyst [20]

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This is actually Marshall Mentz on for Matt. Just a quick clarification, first, on your market outlook. It looks like you lifted your international outlook and it's not completely apparent where the offset is, but I imagine maybe agriculture came in a little weaker than anticipated.

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Scott A. Cottrill, Advanced Drainage Systems, Inc. - Executive VP, CFO, Secretary & Treasurer [21]

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Yes. Marshall, that's spot on. And again, we say market performed there. Again, when you look at our agriculture market being down 17%, it's one of those things that once you miss that spring kind of planting season, it's unlike construction where you can make it up the next month or 2. Once they plant, they plant, so you've missed it. So your weakness in ag is being offset by strength in international.

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Marshall Harrison Mentz, Barclays Bank PLC, Research Division - Research Analyst [22]

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Great. That's helpful. And then on the last call you highlighted a few regions that you wanted to do invest for growth just based on underlying economic factors, I think Texas, Florida and the West.

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Donald Scott Barbour, Advanced Drainage Systems, Inc. - CEO, President & Director [23]

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Correct.

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Marshall Harrison Mentz, Barclays Bank PLC, Research Division - Research Analyst [24]

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If you could provide any additional color on what you're doing to address those markets or better serve those markets.

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Donald Scott Barbour, Advanced Drainage Systems, Inc. - CEO, President & Director [25]

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So -- this is Scott Barbour. In Florida, we continue to have very good success with Florida driven by our conversion strategy, by the way, of substituting for alternative materials and very good approvals and acceptance work in that state. Great coverage of really good team down there with very well run team. So we saw a lot of success in Florida. We also did some things in Florida this past year to try to increase our production. And more effectively, move our product in the logistics and transportation. And we saw -- so a lot of good results from that in the first quarter. So I would say that not our complete story, still work to do, but the initiatives that we undertook in Florida starting last fall, I think it paid off big for us. Texas had a good quarter. Again, a really solid team in Texas. We're trying some new initiatives there around gaining approvals and what I would call lobbying activities in the state. We're very, very encouraged by the pace at which that program is progressing. I still think the best days are ahead of us in Texas. And in terms of our sales -- because we're having a good -- we're doing pretty well right now, but I think we could do better in the future. If we can recreate kind of in Texas, market share-wise, what we're doing in Florida, we're going to like that picture a lot. California, a little slower, quite frankly. We've added a lot of feet on the street there. We like our team. I think we need to give them a bit of time to mature in the region. There are some work that we have to do. We, meaning, Cottrill and I, the corporate people, to probably get some assets and some distribution points better situated to serve, particularly the Southern California market. It's a different type of beast in that market from a transportation logistics thing, and we're working to kind of the tweak that. But in general, lots of focus by me and the team here in Ohio on those markets and we're very pleased with the kind of initiatives that we got in flight there. Some are -- or yet to fully bloom, but I have every reason to believe they will.

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Operator [26]

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Our next question comes from the line of Nishu Sood from Deutsche Bank.

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Timothy Ian Daley, Deutsche Bank AG, Research Division - Research Associate [27]

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This is actually Tim Daley, on for Nishu. So my first one is, Scott B., I think you mentioned some changes in the handling of transportation cost, particularly in the way that you're handling -- I guess, charging customers for diesel fuel. Could you just kind of help us understand that a bit more and maybe kind of help breakout how much of the 50 basis points in manufacturing transportation bucket that was in the EBITDA bridge came from that this quarter?

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Donald Scott Barbour, Advanced Drainage Systems, Inc. - CEO, President & Director [28]

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Yes. I don't know if I could breakout exactly the kind of like you asked there. But basically, what we did in our -- look, when we started looking at our logistics and transportation, as we went and said, look, we need to be fairly paid for the services we are providing, whether they be kind of logistics, loading, unloading, delivery with our trucks and things like that. So I try to look at what were market rates for those types of activities and get that reflected in our quotation and pricing activities with our customers, and our sales force did a great job of kind of grabbing the bit on that with us in getting those kinds of things implemented. So where it really shows up is kind of offsetting inflationary pressures and netting out in that manufacturing transportation kind of thing. And relative to the diesel fuel, we simply went to kind of a standard industry way of building diesel fuel changes in price into the pricing of freight. We have been a little less than what the market was doing there, and I just kind of brought it up to the market again where we have a lot of assets, a lot of people, a lot of activity doing logistics and transportation. And I think it's only fair that we are paid adequately on a market-based way for that service we provide our customers. I'm happy to provide it, love to provide it, but I just need to be paid fairly for doing it, and that's what those initiatives were all around. And we started those back in November and December by the time I kind of -- the team got them in the market, we started really in February and March, so we kind of got it ramped up as we move into this year. And while not perfect, we can do better. Certainly, accretive and in the right direction, and probably things that we work on every day. Scott Cottrill and I tease it's like, there's been 15 minutes since we've talked about transportation and logistics, something's wrong. So we constantly got that on our minds.

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Timothy Ian Daley, Deutsche Bank AG, Research Division - Research Associate [29]

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Now that's -- I do appreciate the color. And then just quickly, just a clarification. Scott C., I think you mentioned that the outlook for domestic construction demand is consistent with recent trends. How should we think about that going into that rest of the year? I know you did mention that your sight -- line of sight into, I guess, fiscal year '20. So is that kind of -- should we take that as that results in 1Q kind of on a year-over-year volumetric basis should carry through for the rest of the year?

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Scott A. Cottrill, Advanced Drainage Systems, Inc. - Executive VP, CFO, Secretary & Treasurer [30]

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Yes. Thank you. I think the comment is that the fact that when we look at our order rate and we look at the strength of the end markets, we're very confident in how that leads to our guidance ranges that we've got out there. And as we extend that vision or view beyond and look at third-party indicators and indices and data that we have as well as our sales force and our internal and our -- again, our order rates, we're very comfortable with that. So again, when you look back at 10% growth in our construction end markets in the first quarter, it really tells you the strength of the end market, it tells you the strength of the ADS conversion story and our order rates activity, plus all the independent third parties we look at, we're very confident in what that leads for the remainder of the calendar and fiscal year. So very confident in the outlook.

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Operator [31]

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(Operator Instructions) Our next question comes from the line of Scott Schrier from Citi.

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Scott Evan Schrier, Citigroup Inc, Research Division - Senior Associate [32]

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I'm curious if you could give a little bit more color and elaborate on the expansion of the recycling operation, and I know you said it should benefit more in fiscal '20 and beyond. I'm wondering if you could bracket maybe the order of magnitude of the savings we can expect from this.

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Scott A. Cottrill, Advanced Drainage Systems, Inc. - Executive VP, CFO, Secretary & Treasurer [33]

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Scott, Scott C. here. Let's go with that. Yes, I think there's a couple of different benefits there. We see some things on the horizon that might drive additional use of recycled in our products. We're getting ready for that. We've also got some what we call optimized pellets, if you will, where we'll take our flake and making it into pellets. That optimized mix, if you will, is leading to better throughput and productivity on the operation side. So it's a little bit of capacity. It's a little bit of having more of these what we call pelletizing lines. So again, when we talk to our GLP operations, if we take post-consumer bails and grind it and wash it and make it into flake, we then have these pelletizing lines that make it into these pellets, that actually help us get a lot of productivity and throughput. And now we're going the next step, if you will, in optimizing that blend and really creating the capacity for better throughput and productivity with our current operations and production lines. So a little bit of capacity as well as a little bit of the productivity side.

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Donald Scott Barbour, Advanced Drainage Systems, Inc. - CEO, President & Director [34]

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This is Scott Barbour. I would like to add one thing, but this is part of our superior performance initiatives. I mean, we're committed to investing capital and executing programs that help us perform better. And as Scott described, we're making these investments to get better throughput in our pipe extrusion assets, get better performance out of those, which drives our conversion cost down, which drives our cost of goods sold down. So I mean, that we're trying to make really intelligent capital investments that have the right paybacks on the right time lines, that are kind of low risk. We know how to do this. We've been doing it for 10 years with these recycling assets. So very, very, very solid program that will have a very quick low risk, high payout, and that's what we're trying to do here over the next couple of years as we step up that capital investment piece.

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Operator [35]

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(Operator Instructions) We have no further questions in queue. I'll turn the call back over to Scott Barbour for closing remarks.

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Donald Scott Barbour, Advanced Drainage Systems, Inc. - CEO, President & Director [36]

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All right. Thank you. Again, I appreciate everyone joining us today. In closing, our financial results in the first quarter had positioned us well for a solid fiscal 2019. We are ready for the low end of our adjusted EBITDA guidance range, reflecting the confidence we have in our ability to meet our financial targets for the year. We expect that demand in the construction markets to continue at a steady pace we are seeing, currently experiencing, and we expect ADS to outpace those markets with our conversion strategy. We will continue to focus on the fundamentals and drive improvements in profitability through operational excellence. We look forward to speaking with many of you very soon as we look forward to another promising year. Operator, that concludes our call.

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Operator [37]

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Thank you, this concludes today's conference call. You may now disconnect.