CECO Environmental Corp
NASDAQ:CECO
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Good morning, and welcome to the CECO Environmental Conference Call. [Operator instructions] Please also note this event is being recorded.
I'd like to turn the conference call over to Matt Eckl, Chief Financial Officer of CECO Environmental. Please go ahead.
Thank you for joining us on the CECO Environmental fourth quarter 2018 conference call. On the call today is Dennis Sadlowski, Chief Executive Officer, and myself, Matt Eckl, Chief Financial Officer. Before we begin, I'd like to note that we have provided a presentation to help guide our discussion. The call will be webcast along with our earnings presentation on our website at cecoenviro.com.
The presentation material can be accessed through the Investor Relations section of the website. I'd also like to caution investors regarding forward-looking statements. Any statements made in today's presentation that are not based on historical facts are forward-looking statements. Such statements are based on certain estimates and expectations and are subject to a number of risks and uncertainties.
Actual future results may vary materially from those expressed or implied by the forward-looking statements. We encourage you to read the risks described in our SEC filings on Form 10-K for the year ended December 31, 2018. Except to the extent required by applicable securities laws, we undertake no obligation to update or publicly revise any of the forward-looking statements that we'll make here today, whether as a result of new information, future events, or otherwise. Today's presentation will also include references to certain non-GAAP financial measures.
We have reconciled the comparable GAAP and non-GAAP numbers in today's press release as well as the supplemental tables in the back of the slide deck. And now I'll turn the call over to Dennis.
Good morning. And welcome as well for me to our fourth quarter and full year earnings update. I'll begin today by highlighting our stellar fourth quarter results, along with some key successes from what was very impressive, 2018 for CECO. I'll follow that with some comments around our end markets outlook. Matt will then provide a discussion of the financial details for Q4 and 2018. And I'll wrap up with a quick review and summary of why we remain excited about the progress and outlook at CECO Environmental before opening up the call for any questions that you might have.
Jumping right into Slide 3, I'll begin by reminding you all that late in 2017 we updated our commitment to market leadership in industrial air quality, and fluid handling and our approach to organic growth with our 4-3-3 operating strategy. At that time we announced the wide range of commitments and initiatives to fundamentally transform the focus of and the way CECO does business and place a premium on organic growth. A strategy was designed to drive our value proposition of enabling industrial companies to grow with clean, safe, and more efficient solutions that protect our shared environment.
As you're all aware, any strategy and operating plan is only as good as its execution. And I'm pleased to say that our team's execution wasn't just good, it was outstanding. But the definitive proof point being CECO achieved 20% year-over-year increase in organic orders growth for the ongoing business units in 2018, compared to 2017. In short, we were clear about our intensions, we took decisive actions and delivered results. And while we take great satisfaction in that performance, I assure you that we're decidedly not satisfied as we're striving to reach our full potential in delivering top tier returns for our shareholders.
Moving ahead to Slide 4, in the fourth quarter, we continued to deliver big improvements on the financial performance of the company with strength and momentum in nearly all of the key metrics. And with that strength we closed out 2018 on a high point that we expect to build on. In Q4 CECO’s revenue hit $94 million reflecting a 44% increase over the same period last year on an organic basis. Our gross margin was 32% which continues to hold up strong and in line with our expectations based on the OE aftermarket mix and the current market conditions.
The gross margin in Q4 was down about three points from the high point we achieved in Q4 of 2017, when lower revenues included a high contribution of aftermarket offerings. Fourth quarter adjusted EBITDA returned to double digit percent of sales at $10 million in the quarter. Year-over-year EBITDA was up over 104% as the revenue increases continued to provide strong operating leverage. We're very proud of this achievement as it’s the further proof of the strength of our operating strategy and the impressive performance of our team. And most impressive, we generated an outstanding $17 million of free cash flow in Q4. We expected an improvement after a shortfall in Q3 and the team delivered big with strong operational and customer performance throughout the quarter.
Recall that we view cash earnings is the key to generating top tier returns for our shareholders. And believe that this is the hallmark strength of our CECO asset light business model and our operating leaders’ [ph] capabilities. Among disappointment in the fourth quarter was our organic orders, which is nearly $73 million reflected a 14% decline year-over-year.
We did expect fourth quarter organic orders to be down from Q3, but we were thinking a little closer to flat year-over-year. The gap was triggered by capital market volatility and rising U.S. political tensions in Q4 that led to delays in customer decisions. I expect this to be more of a timing issue as our overall sales pipeline remains very robust. That disappointment is considerably tempered and placed into context when we consider 2018 as a whole. Our organic orders totaled $359 million, which as I mentioned earlier, was up an impressive 20 plus percent. In fact across the Board, our 2018 results demonstrate the strength of our business model and stellar performance of the team.
Our backlog on a continuing basis grew $32 million or 21%. And we maintained our robust 33% gross margin rate, which illustrates that the market recognizes the value we offer.
Adjusted EBITDA of $31 million was down slightly year-over-year, was up 56% in the second half of 2018, versus the same period in 2017. And the results include a wide variety of investments aimed at delivering future growth for CECO Environmental.
Finally, through divestitures and strong cash flows from operations we paid down $43 million in debt, a noteworthy for the reduction of 35% in just a single year. We’ve actually reduced our debt by close to $120 million since the closing of the Peerless acquisition back in September of 2015.
I want to thank my team and all the associates at CECO Environmental for this excellent overall result and return to strength.
Beyond the financial results, Slide 5 recaps the systematic execution of our 4-3-3 operating strategy over the past year, which is based on three overarching initiatives. The first is driving the transformation in how we do business across the company through four value creation enablers. The second doing a sharp focus on three compelling end markets that can provide long-term potential, clean energy, industrial pollution control and fluid handling. All three are aligned to our capabilities, all three are big, all three offer significant room for growth. And third, our continuing investment into three platforms aligned to our end markets to drive sustained organic growth.
Our strategy was launched with a wide variety of immediate actions and long-term efforts. Some of our most significant accomplishments are highlighted on Slide 5 and I'd like to offer some thoughts on a few of those. Executing the strategy required us first to get our house aligned for success by removing complexity and driving simplification because we had to become more agile, efficient, and resilient in attracting and retaining customers in a competitive marketplace. For example, we’ve reorganized our segment set up and reporting the markets and are steadily simplifying our organization by reducing legal entities, ERPs and bank accounts.
There's more work to be done here. And we’ve recognized removing complexity and driving simplification remains a never ending process as we grow and our markets evolve. It was also clear that CECO needed to develop a more market-oriented posture in all of our day-to-day business, which required the reshaping and strengthening of our leadership team. That effort is complete. And I'm confident that we have a first great leadership team to inspire and guide the organization forward in gaining share and creating value.
A commitment to organic growth, improving operating margins and adhering to the asset light business model, led to the divestiture of three non-core business units during 2018, Keystone, Strobic and Zhongli. These divestitures help to sharpen our attention on growth markets and the proceeds were used to improve the balance sheet through accelerated debt reduction payments.
We also executed other facets of the strategy to ready CECO for sustained organic growth and prepare us for opportunities that arise to further consolidate a fragmented industry. We've been and continue to make investments in much-needed modernization of our specialty pumps business enabling us to continue to grow the business with competitive lead times and high-quality production.
We also established and filled the position of the Chief Technology Officer to reinvigorate our product development to meet today's customer needs and drive innovation to anticipate and even lead markets.
It takes awhile to get the innovation pipeline rolling, but we're now seeing some early green shoots with the introduction of our new dual seal RTA pump and our new high flow RA pump which already appeared to have big hits with several customers.
We’re fully committed to transforming how CECO does business and therefore committed to aggressive three-year financial targets that we believe will generate top tier returns for our shareholders. We're making progress towards those targets and Matt will provide an update during the course of his comments.
And finally, we've updated our criteria for potential acquisition targets going forward. These criteria are straightforward and aligned with our operating strategy and our three-year financial targets, vibrant businesses that are oriented on growth, strong EBITDA margin, strong cash earnings and low asset intensity. Our team is intensely focused on driving the organic strategy while we're prepared if opportunities arise to strengthen our market positions.
Turning to Slide 6, we had a number of great customer wins in the fourth quarter and I want to highlight two that helps define where we play and why we're the best choice. These examples are a proxy for many other customer wins. It demonstrate CECO’s powerful combination of talent, products and our unique value proposition of enabling customers to grow with clean, safe and more efficient solutions that protect our shared environment.
The first win occurred at a Texas facility producing polypropylene, which is one of the top three polymers produced and used in a variety of automotive, industrial and consumer applications. Our customer produces about $1 million of product a day and was facing a three-part challenge where they needed to improve SCR catalyst life, while increasing production allowing for greater product mix flexibility.
In simple terms, our job was to make the air cleaner by overcoming emissions challenge that allows the plant to efficiently increase production. Because Peerless had a track record with its customer on a series of successful projects our team was called upon to help the customer address its complex challenge and solve their emissions issues. And supporting our $5 billion install base is a part and parcel of our aftermarket and recurring revenue strategy.
Our team came up with a unique solution that couples our patented EDGE AIG technology within the filter frame design. Based on the depth of the CECO Peerless experience in ammonia vaporization, the innovative designs for the new filter frame, increased throughput, increased catalysts life and reduced ozone depleting NOx. A challenging problem to all representing another clear demonstration of strong technical leadership combined with excellent teamwork, this time with both the customer and a supply chain partner to enable growth and clean the air. We stand alone in our ability to deliver a win like this because we can provide an integrated, complete customer solution.
The second customer win involved a customer operating an asphalt terminal in my home state of California. The customer was struggling to solve ongoing challenges with emissions, creating an excess of unwanted smells and fumes near neighboring residential area. Specifically, they were receiving complaints about mist and visible fumes along with odors from hydrogen sulfide, which smells like rotten eggs. Our customer wanted to be a good neighbor and made attempts to remediate the issues using conventional carbon absorption, but no cigar [ph]. The customer reached out CECO based on a positive and memorable impression that a member of our CECO team had made during an onsite sales call almost a year prior.
A reminder of being active and visible in the market is important. The customer appreciated that CECO could take on the dual challenge of visible and foul smelling fumes with our in-house technologies and technical capabilities. They certainly called the right team. We designed an innovative two-state system using CECO filters, mist eliminators to knock out the liquid particles and invisibleness and we combined that with an HEE-Duall carbon wet scrubber to remove the hydrogen sulfide which was causing that intolerable smell.
It's a unique combination of systems that delivered on target for this customer. The result was greatly appreciated by the neighbors improving the relationship between them and our customers. And these are just two examples that show the trust customers have in our strong brands product breadth and technical capability to apply customized solutions for unique problems.
That in conjunction with the consistent customer support of our global install base creates real value differentiation in the markets we serve. Our competitors didn't have the capability for one-stop shopping like this and would likely have been forced to resort to vastly more expensive solutions. All of this demonstrates the competitive advantage of CECO Environmental.
I also like, as I mentioned in the past, the internal collaboration within the company, leveraging our technologies and capabilities is a competitive advantage that we're seizing upon. Clearly the organizational silos we’ve broken down over the past year are paying off in our ability to fully, quickly and seamlessly deliver the outcomes that customers are seeking.
Moving on, we know that the outlook for our end-market segments is an area of interest for our shareholders, so we've moved it up to Slide 7. I will begin with a polite reminder of what I mentioned during last quarter's call that my sense towards the market we're going to be a bit more challenging. And during the fourth quarter we did see just that as capital market volatility, a shadow of pending and then actual U.S. government shutdown and the global trade tensions led to delays in capital decisions related to new OE project orders. Unbalanced, the overall pipeline of activity in front of our sales team remains strong.
The pie chart depicts the diversified and balanced mix of end-markets that are served by CECO Environmental. We've updated the chart for our actual 2018 revenue mix for continuing ongoing operational business units. Overall, our markets continue to grow. It's on trajectory it's less steep than a year ago. Our power gen has been an extended market slump there are signs that it may have bottom out as some of our customers are in the early stages of planning some significant work. All of the big three gas turbine OEMs are working on new projects that should turn active in the coming months.
With Slide 7 as a reference, I'll offer a few thoughts on each of our segments beginning with our Energy Solutions end-market. The served energy solutions end-market represents close to 62% of CECO’s revenue and the team performed exceptional in 2018.
Starting at the top of the chart with our refinery segment, the market remains robust with most customers reporting solid profitability and a number of ongoing projects appear to be shaping up. As you might recall, we were ready when this segment rebounded at the end of 2017 and it paid off with last year orders up 210% year-over-year. We intend to continue to making the most of our technical advantages with our FCC cyclone sales to refineries with a solid pipeline of future prospects.
Working counterclockwise, the midstream oil and gas market segment continues to improve with good activity and opportunities for us in the areas of gas pipelines, LNG, processed water and gas separation. This is the global market and our presence and teamwork enable us to deliver valuable solutions for customers in all regions of the world.
Moving down to gas power gen, it's been a tough area for the last couple of years. The most recent industry data is calling this as the longest down cycle on record and new gas turbine orders in terms of Gigawatts were down 15% in 2018. Fortunately, our team outperformed the market in 2018 and there are signs that we are coming off the bottom with several customers working on significant future activity.
The market will remain intensely competitive but the CECO team continues to stand out with technical solutions, application depth and excellent customer project execution and until this segment fully rebounds we will continue to place our emphasis on brownfield wins and strive to gain share there.
Moving to the bottom of the pie chart and still in the energy solutions area, we've reduced our exposure to coal power gen to just 4% of CECO revenues. As a reminder, late last year we closed on the sale of CECO’s Zhongli business which serves the China market for coal power gen. This action further reduced our reliance on the coal market for future growth. In this area, our team is focused almost exclusively on servicing a large install base with aftermarket upgrade and they continue to perform well as bookings were up significantly in 2018
Moving to the right half of the pie, both fluid handling and our industrial solution segment serve a diversified set of industrial customers predominantly in North America. Overall the North American industrial markets remain healthy, although market growth is likely to be at a lower rate than what we've seen recently.
More specifically, we remain optimistic that the fluid handling end-markets will continue to grow and our customers will remain optimistic in the near term. Our results have been solid over the last few years and remain well positioned with our targeted niche offerings in the segment.
The final slides of our pie, is on Industrial Solutions segment serving the air quality improvement needs across a broad array of production environments. The inherent regulatory requirements and societal demand for improved air quality will continue to offer solid potential for this segment.
Having said that one of the speed bumps in this market can be that sometimes lengthy and unpredictable regulatory permitting process, involved with clean air retrofits at larger production facilities. This can tend to result in an order flow that at times is a bit lumpy. It's frustrating, but it comes with a tariff. Our orders in Q4 were unsatisfactory, but I suspect this was more of a timing anomaly than anything else as the pipeline remains healthy and our team is very active with customer projects.
Internationally, we're also seeing a growing air quality market opportunity. There's clear indication that the governments in China and India have become more serious about air quality standards and their enforcement. Our teams are ready to pursue the opportunities in these two countries aggressively as we have a very comprehensive product line to offer our customers.
So in sum, our served end markets are large and generally healthy. We're working very hard to achieve our target of two times the market for growth and I'm confident we have the team in place that will deliver.
At this point, I'll turn it over to Matt Eckl, who will discuss our financial results in the quarter. In doing so, let me reemphasize that CECO team delivered another excellent quarter of impressive results. We've established a stronger position from which we'll build because it's our job at CECO to raise the bar of success every quarter and every year. Matt?
Thanks Dennis. Like Dennis, I'm very pleased with and proud of our excellent fourth quarter results, as well as the impressive performance for the full 2018 calendar year. Momentum is continuing across the organization as we strive to deliver consistent top tier returns.
Starting on Slide 9, it's clear that with the exception of orders, our fourth quarter results were excellent and further proof of the capability of our organization. Starting with our singular soft point, fourth quarter orders were lower than our expectations. We expected orders to come in below Q3, but to be more on par with Q4 of 2017. The refinery market and Industrial Solutions performance both contributed to the shortfall as a few project awards drifted into 2019 or disappointingly into the hands of our competitors.
Despite Q4 orders results, we feel good about an improved first half and feel confident about our 2019 outlook. All other results in Q4 were exceptional. Organic revenues grew 44% as both energy and fluid handling grew year-over-year and gross margins were down year-over-year as our original equipment business grew as a larger percentage of sales. We posted $8.4 million of non-GAAP operating income in the quarter, which is up 141% year-over-year and 30% sequentially. This is evidence of our increased operating leverage, which I'll touch on in a later slide.
EBITDA margins also expanded by four points year-over-year to 10.6% as our volume grew on lower SG&A. Lastly, non-GAAP diluted earnings per share was up $0.13 year-over-year on volume and restructuring savings.
Turning to Slide 10, it's clear that 2018 represents a big improvement across the Board and CECO’s financial performance. Organic orders totaled $359 million, representing a substantial 20% increase year-over-year. Drivers of this performance include our Emtrol-Buell cyclones bouncing back significantly in 2018, strong market share gains in a depressed and power gen market and strength in our Fluid Handling segment offsetting underperformance in our Industrial Solutions segment.
Excluding divestitures, organic revenue grew 5.7% in 2018 on the strength of our growing backlog. Gross margins remain robust at 33% and ended the year ahead of our 32.5% guidance. 33% represents a healthy mix of original equipment versus aftermarket, a clear demonstration of the value we provide customers.
As we look at non-GAAP operating income and adjusted EBITDA, 2018 reported results were down 15% and 11% respectively. This decline is primarily due to the exits of three non-core businesses and the long cycle nature of our business. What is important to note is that our go-forward business is up close to 50% and adjusted EBITDA second half over first half as we execute our growing backlog.
Let me take a moment on the call to highlight our Chief Accounting Officer, Paul Gore, Tax Director, Mike Murphy and Controller, controller Kevin Deters for extraordinary efforts in 2018 navigating CECO through a series of complex tax changes. The U.S. Tax Cuts and Jobs Act has made 18 difficult for tax professionals everywhere. Coupled with three divestitures and 10 legal entity closures to drive simplification, this team has done a fantastic job of getting our non-GAAP tax rate to 25% for investors while also making it easier for customers to do business with CECO. Thank you each for your leadership.
Slide 11 outlines are trend for orders in sales. Left-hand chart shows that after a series of wins and taking market share in 2018, fourth quarter orders dipped. The drop was partially triggered by uncertainties in the capital markets and global trade issues, which delayed several project awards in the industrial segment. That being said, we feel good about an improved first half and feel confident about 219.
Energy orders in Q4 were lighter than expected, while fluid handling was up 5% year-over-year. As a bright spot our fluid handling business did grow organic orders approximately 10% year-over-year.
Revenue chart on the right shows better results with our revenue reaching $93.9 million in the fourth quarter. This was in line with our backlog expectations and wrapped up a steady climb throughout 2018. I'm very pleased with the execution of our project management and engineering teams across energy including Brian Ralph and Dave Forney. As our backlog is growing, they continue to execute well for our customers.
Touching on Slide 12, we are entering 2019 with a healthy backlog of $182 million. That is up $32 million year-over-year. That's a 21% increase. I'm extremely proud of CECO’s growth despite the subtraction of three divested business units and we ended the year with a favorable 1.1 book-to-bill ratio.
Slide 13 shows the trends of our three primary profitability measures, all of which have improved sequentially with the increase in volume and with investments in our core growth platforms.
Non-GAAP gross profit climbed on volume with the gross margin rate declining slightly, but still reflecting a healthy mix of aftermarket. Over 2018 operating income rose a notable 140% and a solid 29% sequentially as we continue to reduce admin costs in favor of investments in sales and marketing.
Finally, adjusted EBITDA reflected the exceptional operating leverage that we've established by rising 104% year-over-year and 19% sequentially. I want to pause here and mentioned that such results only happen with a full-court press by our highly motivated and capable team. The team is first rate and they delivered on their commitments in 2018.
Moving to Slide 14, it's not an overstatement to say that we achieved an excellent quarter of free cash flow. With repeatable processes and customer-driven metrics, we continue to squeeze working capital. As an example, divisions that have introduced weighted average days to collect and pay metrics for our project milestone billing have realized outsized free cash flow performance in Q4. Where appropriate, we will replicate these measures further across CECO.
The outcome of our effort shows up on the left-hand side where we've achieved what I'll term best-in-class working capital. Our trade working capital at $32 million or 9.4% of sales is exceptional and a testament to our asset light business model.
If you look back at Q3, we wrote down the asset heavy Zhongli business and subsequently sold the unit, driving four points of improvement. In Q4 organic growth coupled with project milestone collections drove our asset intensity even lower, which is the optimal goal of achieving a high return on tangible capital. Over 2018, we've demonstrated that we're steadily on our way to becoming a more efficient working capital machine and reinforce our preferred variable cost structure as an asset light company.
On the other side of the ledger when working capital was reduced by the ops team, free cash flow becomes the benefactor. We made good on our promise from our last earnings call by driving better air collections in Q4.
I want to call out our auditing team led by Lars Theunissen for an exception of Q4 along with our Treasurer, Jennifer Turner for working through a lot of international red tape to help the ops team deliver. As evidenced in the right-hand chart, our free cash flow is influenced by the inherently lumpy nature of our projects. But what’s spread out over time, our project cash flow is extremely favorable. It's for this reason that I prefer free cash flow to EBITDA conversion on a TTM basis for measuring CECO. And at 71% our conversion was quite simply excellent.
Moving along to Slide 15, I'm proud to report that we achieved a significant reduction on our leverage ratio over the course of 2018 yielding a strong and healthy balance sheet. Our debt levels continue to climb and we continue paying down our debt well ahead of the principal schedule. Since the Peerless acquisition in 2015, we have paid down over 60% of our debt.
Over to the right, our growth leverage is that a comfortable 2.2x EBITDA and at the lower end of our target range. With cash of $44 million on hand, our net debt leverage ratio is now sub one putting CECO in a fantastic position to see the appropriate opportunities for the future.
Turning our attention to 2019, we'll use our strength in balance sheet improve performance to capitalize on a competitive banking market. With interest rates continue to be at favorable, historic levels and our debt turning current in 2019 we'll look to refinance our debt with an eye on better pricing, increased borrowing capacity, and improved flexibility for growth within our facility.
Lastly on slide 16, I want to cover our continued progress towards exceeding our three year financial targets. We've committed ourselves to aggressive targets that are aligned to generate top tier returns for our shareholders.
Starting in the upper left quadrant, our goal was to organically outgrow our markets to 2X over time. Driven by your outstanding leadership, we continue to sizably outgrow our market in the quarters for the trailing 12 months. Regarding revenue, it has been increasing and it entered into the targeted green zone. The goal is of course to maintain and improve these results that we consistently meet or exceed the green range over time.
Moving to EBITDA, margins expanded again during the fourth quarter at 10.6% but clearly we still have ways to go. We're certainly trending in the right direction and I don't know that these results include a range of investments in our future in the form of marketing, brand awareness, people training, systems and innovation. It also reflects the results of our ongoing efforts to simplify our organization.
Next is return on tangible capital, which is the hallmark metric of our asset light business model. We improved significantly this past quarter to 39% with a healthy balance of growth and working capital reduction. Finally on the lower left hand side, our free cash flow conversion grew to 71% on a TTM basis. This is an incidence where we're already in the green zone, well ahead of schedule. The challenge that we were taking head-on is to execute this metric consistently. That requires repeatable growth and smoothing out our quarterly cash flows.
To wrap up, I'm pleased and proud to say that CECO is moving in the right direction with considerable momentum having just come off an excellent fourth quarter and an impressive 2018. There's still much more to do, but we're up to the challenge and remain locked into delivering top tier returns. With that, I'll turn it back to Dennis.
Thanks Matt. Turning to slide 17, I want to quickly recap our 2018 progress and performance before opening up the call for your questions. For CECO, 2018 was the year of excellent progress and strong results. We entered 2018 with a comprehensive strategy to transform the way we do business and we follow through with stellar execution throughout the organization.
Our portfolio and in turn our focus was significantly sharpened with the divestiture of Keystone, Strobic and Zhongli business units. Our efforts are now centered on gaining share in three compelling end-markets and investing in three growth platforms. Removing complexity and driving simplification throughout the organization was a big undertaking that's still underway. We reorganized the segment reporting to the market and began reducing legal entities, ERPs and bank accounts. Our increased agility, efficiency and resiliency allow us to be more aggressive in pursuing market opportunities and responding to customer needs.
We placed the premium on our organic growth and that meant a commitment to reinvest in the company. While all of those efforts will continue to gain traction during 2019 they've already helped us to consistently improve our performance throughout 2018. We had an impressive performance scoreboard last year with organic orders up 20% and organic backlog increasing 21% in 2018. Our adjusted EBITDA was down slightly year-over-year, primarily due to divestitures but was up 56% during the second half of 2018 in comparison to the same period in 2017.
And through divestitures and strong cash flows we’ve reduced our debt by 35%. As Matt just mentioned, we also made a commitment to our investors with aggressive mid-term targets. CECO’s improved balance sheet means we're in a much better position to seize opportunities in the marketplace for further industry consolidation. In short, we're in a better position to be masters of our success. There's no doubt in my mind that we're hitting on our stride with plenty of opportunity and capability to outperform our end-market and deliver top tier returns for our investors. And now we'd like to welcome your questions. Operator?
We will now begin the question-and-answer session. [Operator Instructions] The first question will come from Carter Driscoll of B. Riley FBR.
Hi Good morning Dennis. Good morning, Matt. Congratulations on a very strong year.
Thanks Carter.
First question, so obviously power gen has been in a multi-year downtrend, just wanted if could maybe push a little further in terms of what you're seeing obviously one of the big three, GE publicly talking about massive restructuring in their power gen business. Can you talk about, maybe the effect of larger scale renewable projects in terms of taking share or competing versus natural gas had to have and then just the outlook in terms of the size of the turbine market you think might come back first versus if you could kind of parse that segment. And just overall give a few more comments about where it was such a big part of your business in 2017, why you feel comfortable it might be bottoming?
Yes, sure. I'll just offer a few data points because you're right, the power gen end-market for new gigawatts in particular really it has come down hard and stayed down for awhile. It has affected the big three OEM significantly, including GE as you mentioned, they were all a very large customer of ours in 2016. In 2016 that’s diminished some with the downturn in new business. Our team in the meantime has focused on our brownfield, a lot of upgrades, a lot of service contracts and really had an outstanding year of picking up share in that part of the world.
And right now we see that the bigger guys actually with quite a bit of project activity starting to boil, things that they're chasing, they've been working on for a while, that we think could start to turn around. So my comments about seeing a bottoming are related also to activity that we have with all of them in the pipeline looking ahead.
And just a fruit of that in terms of the brownfield opportunities, obviously probably a bit more of a competitive segment, but leveraging your installed base seems to be a big opportunities, anyway you could think about quantifying what the Brownfield opportunity is at a high level?
We've tried to put a hard metric on that, but it's been a little more challenging because what we've been able to accomplish in mining both our install base and then other times changing-out competitors equipment, it's largely dictated by the operational need on that particular site. So if they're looking to ramp up and down their power, in response to things like renewable and things like that, that can drive higher requirements for emissions where we get called in to do some upgrades.
If they're trying to drive more efficiency or more power out of a particular power island, that will bring reasons for us to come in and then there are just things where there is wear out or other activity that we can serve its install base. I'm trying to put that into a predictive analytic, it’s pretty difficult, but there is a large install base of gas turbine power production in North America and throughout the world that we are still getting some good opportunities on.
Is it fair to assume like one of your earlier comments, your prepared remarks about just regular sales calls provides an advantage because of that large install base that you have? Is that fair comment?
Yes, absolutely. One of that big wins that I spoke about a few quarters ago, what was as a result of being onsite and doing some new product upgrades, our guys were asked to come in and consult on a bunch of turbines that had some problems on their emissions equipment from competitor and we managed to not only turn that into some engineering support, but they actually decided to tear out the competitors equipment completely and we came in behind that and put all new Peerless SCR equipment in and out of the site and that really enhanced the production, allowed them to continue to drive high levels of power out of the site. And the owner actually then sold the entire power plant in the coming months, its good win for all of us.
Excellent. Shifting gears a little bit, can you talk about how do you think about reinvestment? Obviously you now have filled the Chief Technology Officer position, I imagine they're going to see a greater pipeline of new introduct, new product introductions but how do you think about what you could? You're trying to build internally versus potentially through consolidation, is your consolidation strategy more geared towards kind of share gains or product acquisition or bolstering a specific geography or some combination there, I am trying to get kind of the build versus buy decision when it comes to that and obviously the debt reduction you've done, you've certainly better financial position to eventually be a consolidator again?
Yes, so I think, first thing I'd like to say is we're down the path at successfully transforming how we do business and one of those things is to reinvest. And one of those areas to reinvest is innovation. Last year in 2018, we spent more time in the area of portfolio management, for example on divesting of business areas that don't fit our vision for the future of the company.
At the same time the leadership team and the Board have also discussed quite a few opportunities to enhance the portfolio better, fully serve our customer base. And this is where that can be accomplished be innovation, strategic M&A, or at times a combination of both. So we do have few green shoots on what we're doing, it's early in the development, but bringing that focus, bringing the customer dialogue, I think, is going to help us continue with the long-term growth targets that we have set for ourselves, which is to outgrow the market like two times.
Maybe just the last one from me before I pass along, so obviously one disappointment in the quarter was the orders in 4Q, maybe in particular, is there a way you think you could quantify the political disruption versus kind of the normal course of business in terms of lengthening decisions to pursue particular projects? Was it kind of 50-50, 20-80, just trying to get a sense relative to what your expectations were 4Q orders that were impacted by factors outside of your control?
Yes, so we did expect fourth quarter closings to be down a bit and the pipeline would have suggested that at the outset of the quarter, but 73 million was below our expectations. And if you recall, we had a host of uncertainties going on in the quarter the capital markets dropped 20%, oil prices went from $70 to $40 a barrel, U.S. Government shutdown and trade tensions. So there's a lot of things that were causing people to want to rethink one or two more times some of their work.
So, we were thinking we would be closer to last year’s orders number and probably the shortfall was 50% push outs and delays and maybe 50% projects that were lost. But our pipeline looks pretty good right now, we're pretty happy with what we're seeing, there's a lot of activity, still a lot of work to do to secure it. But our markets are essentially large and generally healthy. So we're pleased in spite of that myth in the fourth quarter where we're pleased at what we're seeing going on in the market.
Appreciate you taking all questions. I’ll get back in queue gentlemen. Thank you.
Thanks Carter.
Thanks Carter.
The next question will come from Amit Dayal of H.C. Wainwright. Please go ahead.
Thank you. Good morning Dennis, Matt.
Hi, Amit.
In the context of the lower backlog in the fourth quarter relative to the third quarter, how should we expect revenues to play out on a quarterly basis in 2019? And maybe a follow-up to that is, are you seeing better backlog activity in the first quarter of 2019 relative to the fourth quarter of 2018?
We are seeing a strong and healthy pipeline. I would say that as we think about revenue we'll even to 2019.
And should we be looking at favorable year-over-year comps on a quarterly basis or does that play out in a stronger fashion in the future quarters in the year?
Yes year-over-year we feel very confident about the first half of the year – the first half. And we feel very confident about 2019, but your comp versus 2018 first half are pretty low. So that's why we feel a little bit more comfortable about the year-over-year comparison there Amit.
Thank you so much for that. Your cash flow was very impressive. Your days on hand has gone down to the 50s from 70s previously. I know there is probably going to be some fluctuations, but is this sort of a new trend has there been anything done to keep this steady state, or should we expect some variations in cash flow and working capital management?
Yes, so this quarter’s strong performance is due primarily to some – AR collections that we talked about in that Q3 earnings call. In a project business, you got to be tight on project billings and collections. And we've introduced some new metrics that shown really early wins by the team and that helps to drive a fantastic Q4. But looking back over the history of CECO with a project-oriented business, our free cash flow is lumpy. That's our goal, is over time to be consistent in that. But that means we have to keep growing and we have to be tight. And I like to think about it on a TTM basis. Why? Because it smooths out over time. We'll have some bad quarters like Q3, we’ll have some great quarters like Q4, but all in all a great business model tight or asset light nature.
Understood, just one last one from me in terms of sort of growing the aftermarkets business are there any concrete milestones or plan of execution that we should be looking for, or are you just going with the four three, three effort to maybe grow that business a little bit more this year?
Well with respect to aftermarket, we have close to $5 billion install base of CECO products and related, probably larger slice at times when we can service some of the competitive product out in the market and we've done so. Our goal is to maintain that, to make that a part of our recurring revenue. We have dedicated sales individuals and service individuals throughout the company where we've made investments throughout the past year. The number right now is about 30% of revenue roughly within the way that we look at aftermarket today. We think that’s reasonably healthy mix as we drive for new OE as well that creates new aftermarket that creates new opportunities.
And we're also building more wraparound opportunities on some of the equipment successes. Our full solution-oriented projects with multiproduct or even some support and startup within our contracts. So aftermarket is important. It's an area we've invested in over the last several years, it's one that continues to get focused. And we're pretty pleased with the ongoing results.
Thank you, Denis. That's all I have. I’ll get back in queue.
Thanks Amit.
Thanks Amit.
The next question will come from Sean Hannan with Needham and Company.
Good morning Sean.
Yes, thanks. Good morning folks. Want to see if I could go back to bookings again here and try to understand this a little bit better. So I think there are a few comments that we’re in there. And I'm not sure if I fully understand the delta and where we stand right now. So one thing I heard was that there's some viewpoints of there being a temporary nature, which I think is logically understandable given the factors Dennis you'd explained for Q4. And I think we’ve seen that with some other companies as well.
So given that now that we've got two months on record here in 2019, is the cadence of bookings coming back? I understand some of those that may have pushed, may have now rolled on and you've been able to take those orders, but is the cadence actually picking up? So that's the first part of the bookings.
The second is on the competitive front, it sounds like you lost some and that that was a factor of partly why you missed where you had expected your bookings to come through. Why did we lose any more color that you can provide there would be helpful.
Yes, so first I think yes you heard correctly, the bookings were below what we expected and were planning to deliver. And yes a lot of that was market and things where when the world becomes even more uncertain, people are concerned on their capital projects, it's one more round, let me see one more month of results in my business before I pull the trigger to make some of those investments. And we saw some of that. And as I mentioned, maybe 50% of what we were expecting to do in the quarter was just rolled forward and still in the project activity and therefore our pipeline remains very healthy in the outlook, I would say, suggest that we still have a large and healthy growing end markets for the most part.
We don't – we have competitors in most of our fields. You can imagine the power gen area has been particularly challenging in the last year and a half and the like, with the downturn and the like and so that remains the case. And so we do a great amount on significant work of assessing anything that is lost because if we put the effort to go after it to work with the customer, we'd like to think what are the best source and do quite a bit of work. So we have an understanding, enroll those learnings into future opportunities, into future bids, into future set up throughout. It’s disappointing anytime when we lose an important order. But we work really hard to never lose a customer even when we lose an order.
Okay. I think I'm going to have to see if I can follow up offline.
Hey Sean, if I give some numbers that might help. So year-over-year Q4 2017 organic was 85 million of orders, we had 73 million organic in Q4 of this quarter so that's a Delta of 12 of what Dennis was saying. So six of that 50-50, six of it was delayed six if it was likely lost.
Yes, I get it. And that's the history of Q4. I'm trying to figure out why did we lose on the competitive front because it seemed like there was a surprise factor there versus what you were expecting. So I'm not sure if I heard an answer around that.
And then number two, here we are in 2019 I don't understand where the cadence of orders are. We viewed it as a temporary hurdle in the fourth quarter and here we are now and it's March in 2019, has the cadence, the pace of ordering, actually been coming back that temporary factor now behind? I'm not sure if I heard anything around that. If we don't want to get into it, we can take it offline and I can move on to another question.
Well, I will just describe what we're seeing today. As you know we don't give formal guidance on unaware, with precision because the lumpy nature sometimes of our end-market and our end-market projects, but we're seeing a very healthy overall pipeline meaning projects that are moving into the direction to close at a reasonable clip. So we're optimistic that will continue out into the quarter and into the year. I don't see any signs of the market slowing, if anything, maybe slow our growth, but we have big, healthy and growing markets for the most part and with few green shoots in new gigawatt type activity in power gen that should also be a plus.
Okay. That's helpful. And so I'm going to switch gears now to product development. I'm really encouraged to hear that there is a stepped up focus here, clearly validates where a lot of the portfolio kind of reconfiguration has gotten too in the efforts you've taken, where specifically in your portfolio our incremental dollars and resource allocation are focused among your segments. How should we think about how you're putting your time into this and dollar is attributed?
Yes. So in the area of innovation and product development, we have incremental resources deployed in all three of the segments. I don't know if that was your question in the area of fluid handling and specialty pumps, some of the areas where we've gotten actual market releases on some new products that are getting good uptake with customers, our dual seal RTA pump or large flow RA pump. These are kind of line extensions that have real benefit to customers and are starting to get some traction in the market, I think you heard and know that we appointed a CTO for the company, we've also added a Head of Product Development in our industrial segment to enhance and bring some focus there.
And in the energy segment where we have a lot of long cycle equipment that also can be designed to enhance our aftermarket, the number of ideas being worked as well. So it's really across the board, both with redeployed resources as we've been able to squeeze out of more admin into more areas that we think will drive long-term growth.
Sean, I have some numbers to that, $3 million in CapEx mostly in production, related equipment for the pumps business and roughly $2 million tied to sales and innovation investments around product management, business development, customer service, marketing and brand awareness.
Well, that's very helpful. Great, it looks you folks have been exceptionally diligent and very focused, congratulations. Thanks so much for addressing the questions here.
All right, thanks Sean.
Thanks Sean.
The next question will come from Gerry Sweeney with Roth Capital.
Hey. Good morning, Matt and Dennis, thanks for taking my call.
Hey, good morning Gerry.
Just a couple of quick questions, I'll be brief. The pump business I think saw some pretty good growth in the quarter you mentioned and before you've discussed reinvesting in that business, drawing down lead times, et cetera. Is that growth that you saw in the quarter a direct result of some of those investments and is there an opportunity for that pump business maybe to see a little bit – I don't know catch up growth is the word or maybe continue on the trend that we saw in the quarter.
Yes. So the truth is we're getting some of that growth ahead of and I think I mentioned that 90 days ago as well, kind of a head of really being able to put in a lot of the benefits from capital that has been allocated and both on the front-end and in the system side and into the production environment as we modernize some of the operations within our plants. And so we're still early on getting the benefit of that and that's why we're optimistic, that is we do we will be even more aggressive in the market, trying to gain share and use those niche product lines that we have that are very focused on key applications where there's a lot of activity right now.
Okay. And just expand on the pump side for a second, it just got great margin. So I always like to pay attention to it. You mentioned some innovation on the pumps in there is it just the first real innovation you've seen or actually performed on the pump side is some time or is this anything worth noting on that front?
Well, I think in a number of areas, there's been innovation in some of the portfolio ahead of maybe ahead of CECO acquisition and the like. And so some of these are a part of the strategy to really think and drive organic growth and the Greenfield as I mentioned, earliest on our shortest cycle product line that makes perfect sense. The guys are doing a good job. We've upgraded our engineering leadership there as well and not just on pumps but on our fluid handling business and in some of our specialty filtration line as well, but there were some ideas that are out working with customers, trying to bring back the input so that we can standardize on some really good ideas that the team has that customers seem to like and turn the corner around in commercializing some of those.
Got it. And then, Matt just may be a little bit more of a question for you. Obviously you talked about leverage. Now we're seeing now on the EBITDA margins et cetera, you also talked about removing some of the complexity in the company. Looking at SG&A maybe as percentage of sales is there an opportunity for this to drop or should we look at or is there a – should we look at it as steady, just how should we look at that on a go forward basis?
Yes. SG&A reported, excluding stock comp and depreciation down $2 million year-over-year. I would say SG&A as a percentage of sales continues to shrink because of the operating leverage. We're taking all the savings from the ERP reduction, the bank account reductions, et cetera, and feeding that right into sales and marketing and making those investments. The net is a savings of $2 million year-over-year though, Gerry but we do want to continue to make investments in sales and marketing.
Got it. And then finally, I think I know the answer, but it may be helpful in the call, cash in the $40 million range. How much cash do you need on the balance sheet to actually run the company? And there's some of that cash may be I don't want to say stranded overseas, but maybe just getting overseas over, outside the U.S., what could it be, should it be just from your perspective?
Yes. We have a really strong revolver and we have roughly $23 million outside the U.S. today, of which 25% to 50% is eligible for repatriation. So to run the business across the globe, I really only need, let's say, somewhere in the range of $15 million globally depending upon where that cash is. Obviously with the new jobs and tax act, it helps to remove a barrier to moving cash into the U.S. so repatriation has been a lot easier and, we were able to do it around $15 million. Gerry.
Got it. I appreciate it. Thanks. And catch up soon.
Thanks Gerry.
The next question comes from Tom Radionov of Corre Partners.
Hey guys, thank you for taking my questions. I quickly wanted to go back to the question on orders and bookings. And the reason for that is obviously your business, if I kind of look at it historical pattern here, your revenue trends typically mirror your booking trends, your order trends with – so it maybe to three quarter lag. So it's a pretty good indicator, which I think is why some of the previous questions were focusing on this item.
So I guess my basic question is as follows: if I look at the history of this business over the past number of years, I have not seen so many other quarters where there was a seven in front of that number on a quarterly basis. So should we expect on a go forward basis then that maybe this is a bit of a sort of the new normal or is the number likely to be in the 80s, 90s. I know it's difficult for you to get super specific, but in the past three or four quarters you were basically doing anywhere from 80 to 90, or I'm sorry, from, from 90 to a 100. So this is a pretty meaningful step-down. So any sort of incremental color you can provide there will be super helpful.
So let me just open with a couple of things and, and Matt, maybe will add. I'll say again that we have very large and healthy end markets. We have a good pipeline in front of us. And so there's a lot of reasons for us to be optimistic about the outlook. Our long-term targets that we've committed to or to try and outgrow the market, two times what we're seeing in market growth. And we have estimated that to be market growth an aggregate across all of our segments maybe be around GDP or around the industrial growth area. And so we still think that that is the right way to think about it, starting with new orders. And so there's a lot activity there.
And so while there is a lag through our POC accounting for a number of our longer cycle businesses, from orders to revenue, we do see a good bit of activity in the market and do see the team executing well on that activity.
Tom, I'll add some numbers to that. So you can go back in time in our presentation and see our orders per quarter split out. And I would say that – I wouldn't say that 70 is the new normal. You can back out the divestitures from the path, as well and we've been in 70. What I point out is that to Dennis’ comments, there's what I call the top of the funnel. So there's a couple of jobs that come in and out of the top of the funnel that can range anywhere from $3 million to $7 million can happen a year push out by given a quarter. So this is – we feel right now very optimistic about 2019 and the first half especially. So I wouldn't say it's the new normal.
Okay, I appreciate the color. And the quick follow-up question around M&A. Curious as you think about the various segments. Where are your priorities in terms of beefing up your business via M&A? And also from a balance sheet perspective, what sort of leverage targets are you willing to entertain in the context of maybe looking to either use some of the cash on the balance sheet or raise incremental debt for M&A?
Yes, so when we think about anything inorganic there, we first off think about how do we better provide good solutions within the target markets that we’re competing and how do we become a better supplier for our end customers, for other new customers in related space, whether they are in North America or other parts of the world. And so it's where innovation, or is that external target and the like, which is the better path for us, for our shareholders, that's where we look at it and how we think about it. And there's a number of areas that we still have very large markets that we compete in product lines that we think can add to the portfolio better impact customers and long-term improve.
We have, as I mentioned, updated the criteria and we like and think we would like businesses that have a growth orientation, that have positive end market drivers, that have strong EBITDA margins and cash flows and are asset light. And in the same context of our long-term organic targets that we put forward.
Matt, did you want to add something to that?
I would just add that, our current credit facility is tied to the 2015 Peerless acquisition and so as I mentioned in the prepared remarks we'll be looking to refinance that here in 2019 ahead of it coming current, reason being is we'd like to take advantage of the lower interest rates, the better pricing and obviously increased borrowing capacity and better let's call it negative covenants associated with M&A.
And just a very quick follow up question on this. So as you think about M&A, again, in that hypothetical scenario, are you thinking about tuck-ins or could there be actually something that is more transformative in nature?
Right now I would say that there's nothing immediate or the like on the plate. If there was it probably wouldn't be able to speak on it anyway. And we look at the world again and against that backdrop of how do we help our customers in air quality and fluid handling, be more efficient producers and be good stewards of safety and the environment, that's what they're asking for us and that's where we would think of extending the portfolio.
Okay. Thank you again.
Yes.
Thanks Tom.
The next question will come from Tate Sullivan with Maxim Group.
Hey, thank you Dennis. Hey good morning Matt, sorry for keeping it little longer. Just real quickly on the free cash flow quarter and thanks for those comments on what you are doing to credit facility to Matt, but then just can you talk more and sorry if I missed it earlier on refinery order cadence and I mean I don't think your comments about timing was some of that timing up related to refining orders? Are we talking more natural gas or can you get more context for how that can come back?
Yes, so our end-market refinery that is outlined within our – on page seven, about 15% of the total company revenues in the past year. That's a segment where our customers are strong, they're investing and we see a good, outlook for both the medium and longer term. Nothing but you know good output. We are a high share player in the product lines that we participate in that segment. And so we do tend to go with the market. It can be a little lumpy and in this case, the comments that Matt made and then I made, yes, they contributed to the lumpiness if I am right.
The activity is good. Most of our customers are reporting good financial numbers don't have any reason to believe that anything but a solid market outlook there as well.
And then just real quickly, we'll to finish up the blend of international versus U.S. opportunities and refining. Is it half and half or can you give a general scale?
Yes, I don't know if I would be able to give you a precise number now, but our business there is very global. I went back and looked at a five, six year history and in some years it's 90% North America and the following year it's 10% North America just based on the demand and we participate around the world with nearly every customer and are on the specification refineries in every part of the world and every part of the country.
We're prepared to continue to do that. We had great success with balanced globally last year with the strong orders results that the team generated. Don't see any reason that's going to change.
Okay, great. Thank you for that detail and to have a good rest of the day.
Got it. Thanks Tate.
This concludes the question and answer session.
Okay. Well thank you all for joining us and appreciate the questions. I think I'll just close by again saying that, I think we're making great progress at successfully transforming how we do business at CECO Environmental. We're very pleased with the big improvements and financial performance both in Q4 as well as all of 2018. Outlook, we have large end-markets, they're generally healthy and we're making good progress towards our three year financial target. So thank you all for joining the call and we look forward to meeting with you again next time.
The conference is now concluded. Thank you for attending today's presentation. You may now disconnect your lines, have a great day.