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Q1 2024 Matrix Service Co Earnings Call

Participants

John R. Hewitt; CEO, President & Director; Matrix Service Company

Kellie Smythe; Senior Director of IR; Matrix Service Company

Kevin S. Cavanah; VP, CFO & Treasurer; Matrix Service Company

Brent Edward Thielman; MD & Senior Research Analyst; D.A. Davidson & Co., Research Division

John Edward Franzreb; Senior Equity Analyst; Sidoti & Company, LLC

Presentation

Operator

Good morning, and welcome to the Matrix Service Company conference call to discuss results for the first quarter of fiscal 2024. (Operator Instructions) As a reminder, this conference call is being recorded.
I would now like to turn the conference over to today's host, Ms. Kellie Smythe, the Senior Director of Investor Relations for Matrix Service Company.

Kellie Smythe

Thank you, Josh. Good morning, and welcome to Matrix Service Company's First Quarter Fiscal 2024 Earnings Call.
Participants on today's call will include John Hewitt, President and Chief Executive Officer; and Kevin Cavanah, Vice President and Chief Financial Officer. The presentation materials we will be referring to during the webcast today can be found under Events and Presentations on the Investor Relations section of matrixservicecompany.com.
Before we begin, please let me remind you that on today's call, we may make various remarks about future expectations, plans and prospects for Matrix Service Company, that constitute forward-looking statements for the purposes of the Private Securities Litigation Reform Act of 1995. Actual results may different materially from those indicated by these forward-looking statements because of various factors, including those discussed in our most recent annual report on Form 10-K and in subsequent filings made by the company with the SEC. To the extent we utilize non-GAAP measures, reconciliations will be provided in various press releases, periodic SEC filings and on our website.
Before I turn the call over to John Hewitt, I'd like to share information about several upcoming investor conferences and corporate access opportunities. On November 14, we will hold the Matrix Service Company Virtual Annual Stockholder Meeting. You can register to attend as instructed in the proxy or via the Events tab on our Investor Relations website.
We will present at and hold one-on-one meetings at the Sidoti Micro-Cap Virtual Conference planned for November 15 and 16. And finally, we will hold a Virtual Non-Deal Roadshow hosted by Rose & Company in December. If you'd like additional information on any of these events, I invite you to contact us through Matrix Service Company Investor Relations website.
I will now turn the call over to John.

John R. Hewitt

Thank you, Kellie, and good morning, everyone. Here at Matrix, we continue to pursue and expect zero injuries across our platform. Broadly, our focus is around accountability, communication and training to drive better outcomes.
Each of us need to be accountable to ourselves and each other as we think about our behaviors, decision-making and risk awareness in not only our professional lives, but at home as well. We need to communicate our expectations, why safety is important and support each other.
As a learning organization, training is critical to improve awareness, decision-making and ultimately, outcomes. Above all, each employee has the authority and the obligation to stop work when they see or feel uncomfortable with the task they or a coworker are about to perform. Three simple questions, what am I about to do? How can I get hurt? What am I going to do about it? A key to keeping yourself and your coworkers safe.
Turning to the quarter. We're pleased to update you on the continued momentum in our business and our end markets. We generated awards of $497 million in our fiscal first quarter, surpassing our fourth quarter of fiscal 2023 awards of $464 million. This is our highest project award total in 5 years. Project awards resulted in a book-to-bill ratio of 2.5.
Our Storage and Terminal Solutions segment was the standout in the quarter, recording a book-to-bill of 4.6 on the back of a large capital project award. This award is a midsized LNG liquefaction and storage facility in the Eastern U.S., similar to previous small to mid-sized LNG projects completed in the past. This is a project for a client, we've done a good deal of work for over the years, which is a testament to our ability to deliver complex projects safely, on time and with high quality.
In our last earnings call, we referenced another LNG project we were awarded in the fourth quarter of fiscal 2023, an LNG peak shaver in our Utility and Power Infrastructure segment. Together, these projects are in line with our strategy of leveraging our strong cryogenic storage brand and our capabilities in engineering, fabrication, procurement and construction.
Our strategy to offer complete solutions to the growing small to midsized LNG facility market is creating awards and growth for the company as we expand our brand and capture market share. This market covers a range of uses, such as peak shaving units, backup power plant fuel supply, ship bunkering, rocket fueling and export facilities.
Our teams have a great reputation executing these types of projects and have built strong client relationships over the years, made clear by continued awards like the most recent one, I mentioned above. The pipeline for opportunities in the small to mid-scale LNG market remains strong with both new and repeat clients. Matrix' capability to wrap the complete facility around the storage is unique in our markets and among our competition.
Considering our current position in a robust market and with the numerous project proposals and bids in progress as well as the ongoing FEED studies, we expect to keep adding similar projects to our backlog over time. Adjacent to this strong position in the small, the midsized LNG market, our strategy extends to other specialty vessels and facilities for ammonia, ethane and other natural gas liquids.
In addition, our brand and skill sets extend the hydrogen storage facilities as well as development of large-scale storage solutions for various clients. We have several clients that are part of the 7 hydrogen hub teams recently selected by the Department of Energy to receive funding under the Bipartisan Infrastructure Law.
We are in discussion with these clients on how we can assist them in these programs. We believe there will be significant opportunities for our company in not only these hubs, but also a variety of other projects that are taking advantage of the changing energy mix and federal clean energy funding and tax credits.
As we look out into the future, we fully expect our backlog and specialty vessel storage and related facilities to continue to grow with a diversified mix of energy projects. In addition to our storage market strategy, the vision for the rest of the business creates opportunity for growth, expansion and sustainability and revenue. For example, our position for electrical infrastructure services from substations to transmission and distribution and other industrial electrical work, presents a strong growth potential for the company in a market that has significant demand of expansion, upgrades and repair across the country.
We are working with technology providers on an increasing number of project opportunities across the country for carbon capture. We continue to be a leading contractor in traditional energy for refinery maintenance and repair, turnarounds and projects, many of which are focused on lower carbon process improvements such as renewable fuel refining. We remain active in crude and refined product storage tanks and terminals, both new build and repair and maintenance.
And finally, midstream gas compression, mining and minerals, chemical and petrochemical and aerospace projects on an E-only, C-only or full EPC basis, leverage our engineering capabilities, project skills and construction experience. These service lines, offerings and skill sets, complement each other and support the growth aspirations of the entire business, market capture and geographic diversity of our operations.
All these end markets continue to be supported by the strong tailwinds and macroeconomic drivers we have discussed before, which include global energy security, domestic energy supply assurance, clean energy transition goals, commodity demand to support renewables and infrastructure upgrades and industrial reshoring of manufacturing as well as federal infrastructure investments that will start to meaningfully flow into the project phase during calendar year 2024.
I can confidently say that we're executing our strategy from a position of strength. Our backlog has grown by 27% from the end of the fourth quarter of fiscal 2023 and 126% from a year ago. At $1.4 billion, our backlog is at its highest level since June 30, 2015. Even with $1.6 billion of awards these past 4 quarters, our opportunity pipeline remains steady between $5 billion to $6 billion, providing a strong indication of the potential in our markets and ability to continue our long-term trend of backlog growth.
Organization has been meaningfully transformed over the past few years. We are focused on the end markets that present the best opportunity for us to leverage our decades of experience. We have restructured our organization to be more cost efficient, while maintaining our skills, expertise and strong brand. We are positioned to safely execute projects with improved operating processes while continuing to deliver best-in-class quality for our customers, and we continue to invest in digital solutions to improve our administrative and project execution performance.
While the company is well positioned with a high-quality backlog that contains larger long-term capital projects. It is important to note that our traditional small-cap projects and recurring repair and maintenance work, which is strategic to our overall portfolio come in and out of backlog in a shorter timeframe. And this work has historically represented on average over 50% of our annual revenue.
So to be clear, our strategic market focus and positioning, the macroeconomic and industrial drivers, and the steady opportunity pipeline, combined with our transformed organization, we'll continue to build on our diversified backlog portfolio, which will lay the foundation for the business to grow and be sustainable well into the future.
With that, I'll hand the call over to Kevin to review the results.

Kevin S. Cavanah

Thanks, John. Overall, the first quarter of fiscal 2024 was in line with our expectations, highlighted by the strong project awards, John previously discussed. Revenue of $198 million during the first quarter was lower than the $206 million in the fiscal 2023 fourth quarter, primarily related to the decrease in the Process and Industrial Facilities segment, which I will discuss shortly, as well as seasonality in our business.
The contribution to revenue of newly awarded projects is beginning to benefit the Storage and Terminal Solutions segment but is still currently limited as the projects progress through engineering and planning stages. Gross margin was 6% in the first quarter of fiscal 2024 compared to a gross margin of 7.1% in the fourth quarter of fiscal 2023.
Despite generally strong project execution, gross margins in the first quarter experienced a 470 basis point impact from the under recovery of construction overhead cost. Some of these construction overhead resources have been more actively involved in the pursuit and planning of future work.
With the improved backlog, more resources will now shift to the execution of projects. On a consolidated basis, we expect to achieve full recovery of construction overhead costs on higher revenue volumes in the second half of fiscal 2024. Consolidated SG&A expenses were $17.1 million in the first quarter compared to $17 million of SG&A expense in the fourth quarter of fiscal 2023.
The first quarter expense includes an additional accrual of $1.6 million associated with the variable accounting for cash settled stock-based compensation, which increased due to a significantly higher stock price. The improved stock price is obviously a positive, we have all been working to achieve, but it does increase expense related to certain stock-based awards that are subject to variable accounting. This increase was offset by various other lower costs as we manage our cost structure, which includes our continued streamlining of the business as well as delaying certain costs based on the timing of revenue.
Other income during the first quarter included a gain of $2.5 million on the sale of a previously utilized facility, which was no longer strategic to the future of the business. This transaction is just one of many steps we have taken as we focus the business to its core offerings, improve efficiency and manage our cost structure. As expected, the effective tax rate for the first quarter was 0 and we expect the effective tax rate to be around 0 throughout fiscal 2024.
So for the first quarter of fiscal 2024, we had a net loss of $3.2 million or $0.12 per share, compared to a net loss of $0.3 million or $0.01 in the fourth quarter of fiscal 2023.
Now let me briefly discuss the operating segments. In the Storage and Terminal Solutions segment, revenue increased to $90 million in the first quarter as compared to $64 million in the fourth quarter of fiscal 2023. Revenue for this segment was positively impacted in the first quarter by the procurement of materials and components for capital projects awarded in the prior fiscal year. We expect revenue to significantly improve in the second half of fiscal 2024.
Gross margin of 5.5% improved over the fourth quarter of fiscal 2023 due to strong project execution, but was still negatively impacted by the under-recovery of construction overhead cost. We have allocated additional resources to this segment to support recent awards and additional revenue in the second half of fiscal 2024. As these revenues increase, we expect to eliminate the under-recovery of construction overhead costs in this segment.
In the Utility and Power Infrastructure segment, revenue was $32 million in the first quarter compared to $39 million in the fourth quarter due to lower volumes of power delivery work during the summer months. LNG peak shaving work added to backlog over the past year, is expected to positively impact revenue as we move through fiscal 2024.
Gross margin of 11.4%, was positively impacted by strong project execution, which led to favorable project closeouts, as well as LNG peak shaving projects, which have a better margin profile.
In Process and Industrial Facilities segment revenue decreased to $75 million in the first quarter of fiscal 2024 compared to $103 million in the fourth quarter of fiscal 2023, primarily due to the completion of certain gas processing work, lower refinery volumes during the summer months and the sale of a non-core business during the fourth quarter of fiscal 2023. Despite generally strong project execution, first quarter gross margin of 6.8% was negatively impacted by low revenue volumes, which led to the under-recovery of construction overhead cost.
Now let's move to the balance sheet. During the first quarter, we utilized $28 million of cash for working capital purposes, this was expected and primarily related to the timing of cash flows on projects. We ended the first quarter with total liquidity of $80 million and $10 million in debt.
Our liquidity is comprised of $27 million of unrestricted cash and $53 million of borrowing availability under the credit facility. We also have $25 million of restricted cash to support the facility. We expect to see cash and liquidity increase as we move through the rest of the fiscal year. In fact, an event subsequent to the end of the first quarter also benefits our financial position.
In October, we reached a favorable resolution on a long-standing legal dispute with an iron and steel customer that resulted in the receipt of $16.8 million. The amount collected represented the full amount owed under a reimbursable contract which the company had pursued for a number of years.
Another subsequent event that warrants mention is that, with the improving financial position of the company, we repaid all outstanding borrowings under the credit facility in early November. We will continue to proactively manage the balance sheet to support the improving business.
On our last call, we provided an outlook for fiscal 2024, which is substantially unchanged. Overall, the results for the first quarter were in line with our expectations. We now expect revenue to be at a similar level in the second quarter and then show strong growth in the second half of the fiscal year as a result of the improved backlog.
For the full year, this will create significant year-over-year revenue growth.
The bottom line results will follow a similar pattern as the revenue was significantly stronger results in the second half of the fiscal year. We also anticipate accelerated movement toward the longer-term financial targets in the second half of the fiscal year.
This concludes my prepared remarks, so I'll turn it back to John.

John R. Hewitt

Thanks, Kevin. Before we go to questions, I'd just like to reiterate some key takeaways for today.
First of all, our strategic approach to the energy and industrial end markets we serve is being validated given the strength of our awards and ultimately backlog. This is supported by a steady opportunity pipeline across these markets. The timing and volume of project awards will not be linear and there will be some lighter award quarters. But overall, we believe our strategic approach will lead to further backlog growth and strong performance into the future.
In the long-term, the reshaping of global energy markets, energy supply security, push towards lower carbon activity and industrial reshoring, all create opportunities that we expect will drive our business for years to come. We are well positioned and structured to maximize our profitability and generate value and growth for stakeholders.
With that, I'd like to open the call for questions.

Question and Answer Session

Operator

(Operator Instructions) Our first question comes from Brent Thielman with D.A. Davidson.

Brent Edward Thielman

I guess first off, John, I wanted to get just your feel for look, higher cost of capital environment looks to be sustaining going forward. You're still looking more at an elevated pace. Maybe your customers' reaction to that, how that might be impacting the overall kind of business or bookings pipeline? I imagine maybe the 50% of the business that smaller project work could potentially be susceptible, but love to get your sense on that.

John R. Hewitt

Probably two comments there. One is that we do hear from some customers that they have -- that they're relooking at their portfolio of projects, capital projects that they're doing, based on the cost of debt. But I would say that's a pretty small percentage of our entire client base that we're kind of hearing those things from.
And a lot of that may be mixed up with individual things that they've got going on within their organization of how they have spent or overspent their capital in the past year or two. So we're not hearing a lot of that.
Two is that it's probably not a great market right now for a developer, mid-project, because of the cost of capital but the majority of our clients and the clients that where we're seeing a lot of our backlog growth from are more blue-chip companies that they've got a heavy piece of their personal balance sheet and their own cash flows that are funding the projects.
And they have a -- those companies have a tendency to look much longer term on interest rates, the price of energy, demand in the market and then appreciating that some of these larger projects take upwards of 3-years to get put in place. So currently, I would say we're not seeing a major effect on our business on this award cycle.

Brent Edward Thielman

That's encouraging. I guess second was question was on LNG peak shaving projects. You've been really active there. And it sounds like the pipeline is pretty busy there with maybe some forthcoming opportunities as well. I think you mentioned the margin profile attached to these is pretty attractive. I was wondering if you could just kind of give us a sense what those look like, maybe relative to kind of the long-term averages you expect from the business from a gross profit perspective. Can these be sort of accretive beyond those targets as you kind of get deeper into execution on them?

John R. Hewitt

Those projects certainly support our consolidated long-range forecast for gross margins. And as we've said in the past, in the 10% to 12% range. I think one of the things that support that for those projects is it's a smaller competitive set for us and the risk and margin profile embedded in the entirety of the project gives us an opportunity to deliver on the margins we need to support the consolidated margin profile of the business.
So the levels of contingency and escalation, projects were -- these are projects that are getting to be more competitive, so we're able to appreciate the risks better and to manage the execution better that we're able to deliver on those margins. So I think those are a couple of reasons that help us drive the overall business to this more of a consolidated margin profile.

Kevin S. Cavanah

And I think what's key here is the consolidated margin profile. As John said, these projects have good margins, but it -- one of the other added benefits is that we've talked about under-recovery of construction overhead has been a big driver towards our margins not being where we want them to be. And so the volume from these projects will benefit us on that recovery of overhead.

Brent Edward Thielman

I guess the last one, I'll get back in queue. Kevin, I think you've sort of indicated look, as you start ramping up on these projects you should see increase in cash generation potential. You're essentially debt-free at this point. It seems like you could be building some cash on the balance sheet. I guess a 2-part question would be, what do you start to think about doing with that cash, John or Kevin?
And two, how do we think about kind of the conversion to cash or cash conversion, as again, you're start ramping up on these projects, just to get a feel for the cash potential this year?

Kevin S. Cavanah

So I do believe that our balance sheet position is going to improve as we move through the rest of the year. I think that's going to come from a couple of places. Number one is the improved financial results, just producing positive earnings is going to produce positive cash.
Secondly, if you look at the mix of work we're going to do, certainly, there'll be increases in repair and maintenance work, that's reimbursable that we'll have to fund, but I think that will be more than offset by just the timing of cash flows on the capital projects. So I think that we'll be able to build cash.
And I think our initial focus on the use of that cash is going to be more internal making sure that we've got the right equipment needed for us to support that business. And as we've said before, we've been focused on really returning the company to profitability before we get too aggressive on either any other actions such as M&A, stock buyback, dividend, any of that stuff. So those will be things we consider in the future, but focus this year is really about rebuilding the company's profitability, getting back to the financial targets that we've set.

Operator

Our next question comes from John Franzreb with Sidoti.

John Edward Franzreb

John, congratulations on another great bookings quarter. I want to start right there. You mentioned in your prepared remarks that you've relocated -- reallocated resources from procurement to execution, does that kind of suggest that we should think that the incoming booking profile will be a little bit more muted in the next quarter or 2 as you move to execution especially in light of the fact that you also mentioned there are some large projects out there you think that are certainly near-term opportunities?

John R. Hewitt

I don't think, we have not taken our foot off the gas pedal as it relates to continuing to book projects and awards. These things have a tendency to come in like waves on the ocean. And we've certainly had a strong wave here in the past couple of quarters. And we've seen it coming, right? So we appreciate the timing of when our clients are going to be making decisions on some of these larger projects.
And so we're not taking our foot off the gas pedal, right? We're continuing to pursue projects, to build backlog. We're looking out into the future. How we're going to continue to take a bigger share of that market related to our storage, brand position in that market.
But to effectively chase some of that work, we do engage our project teams and to not only to help plan and create the estimates and the budgets for that work, but also to talk to our clients, our potential client, about the projects, about how we're going to execute it. Very important for us to put our project and field management in front of our clients.
But yes, they will -- they are starting to transition over into the execution phases. We continue to have proposal specific people that that's what they do for the organization. And so that doesn't change. And so they will -- combine with our business development teams are continuing to pursue projects to build backlog out in the future.

John Edward Franzreb

And clearly, the under-absorption issue has been a problem for some time. Kevin certainly said that the second half of the year is where we'll probably migrate to a much better situation. It seems to me that's largely going to be led by Storage and to a lesser extent, the Utility business, but the Process will be lagging a bit.
Can you kind of review the outlook on the Process side, when do you expect that business maybe to turn the corner? I know the expectation is for it to be down this year, but what's the depth and duration of that?

Kevin S. Cavanah

So first thing, I think we'll see pretty good growth in both Storage and the Utility segments. For Process and Industrial Facilities, we've got a number of things that are impacting the topline for that segment. We completed some work that previously have been trying to get done, but that was pretty significant for the company, an important step. We did sell a non-core business that in the fourth quarter of last year that impacts that segment.
But we've also had some good bookings in that segment. If you go back to -- I think it was the third quarter of fiscal 2023, we booked a large capital project, that project is a little unique. It's got a -- there's a longer runway before we really start seeing revenues on that project. It won't really start benefiting until the first quarter of fiscal '25. So we have visibility to seeing these revenues increase, but most of that will happen in the very first part of fiscal 2025.

John Edward Franzreb

And in regards to your long-term financial targets, I'm most interested in the 4.5% operating margin target. What kind of revenue profile and gross margin profile are you using to get that 4.5% op margin target? It's certainly better than what I was expecting by the end of next year.

Kevin S. Cavanah

There's a number of things that are going to -- that will go into us getting to that target. So we need to get revenue volume up. And we've talked previously that, to get to where we're fully recovering our construction overheads, we probably need at least $250 million of quarterly revenue to get there. But we also want to get the SG&A percentage down to 6.5% or lower. So in order for that to happen, we probably need that revenue to be even higher than that, getting it up to $275 million or so in a quarter. So those are 2 big drivers.
And then the third one is just what's the margin opportunity in the full backlog of the business between the capital projects and the repair and maintenance projects, and that needs to be north of 10%. So the combination of those three things are what's going to get us to the 4.5%. And as I said in my comments, all three of those areas are going to improve and be helping us move toward that, make a significant step for those financial targets as we complete the fiscal year.

John Edward Franzreb

And I guess one last pesky question. Regarding the tax rate, you mentioned that you expect it to be approaching 0 this year. How does that look in 2025, what's the step function up?

Kevin S. Cavanah

So I think it will be near 0 this year. I mean there's always unique tax issues that could adjust that. So it could be 0% to 5% somewhere this year. Next year, we'll still be utilizing a lot of reserved tax assets. So, currently back the envelope projecting that to be somewhere around 10% next year. That's my best guess at this point.

John Edward Franzreb

That's fair enough. Congratulations again on that strong bookings number.

John R. Hewitt

Thanks, John.

Operator

I would now like to turn the call over to John Hewitt for any closing remarks.

John R. Hewitt

Couple of things real quickly. First of all, I want to thank all of our employees for your hard work for your dedication to quality and the teamwork that's gone into delivering on the -- not only on the strong awards but also to our execution strategy and improvement in the business overall.
I certainly want to thank our shareholders for your support through this period. And we'd leave everybody, again, with a reminder on your personal safety awareness to ask those three questions; What am I about to do? How can I get hurt? What am I going to do about it? And to remember for our employees that you do have the authority to stop work and you have the obligation to do that as well, if you see something or feel something that is unsafe.
Other than that, I'm glad to have spend time with everybody today and look forward to seeing you in future conferences and calls.

Operator

Thank you. This concludes today's conference call. We thank you for your participation. You may now disconnect.

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