Russel Metals Inc

TSX:RUS

Earnings Call Analysis

Revenue Declines, Gross Margin Remains Strong

In the most recent quarter, revenues dipped to $1.1 billion from $1.2 billion mainly due to seasonal impacts and price declines impacting service center volumes. EBITDA fell to $96 million from $131 million, with margin compression in service centers and steel distributors contributing to the decrease. Despite these challenges, a relatively healthy gross margin of 9% was maintained, and earnings per share (EPS) reached $0.99. The company reported an annualized return on invested capital at a robust 23%. Importantly, a strong balance sheet transition from a net debt of nearly $500 million to a net cash position of $272 million signifies significant financial flexibility. The company remains focused on disciplined capital reinvestment and capital return to shareholders, declaring a steady quarterly dividend of $0.40 per share. Looking ahead, although Q4 traditionally sees a 7% to 10% volume decline due to fewer operating days, demand is expected to stay firm.

Operational Performance and Market Outlook

The company's metal service centers experienced a decline in revenue and margins, while EBIT also decreased. However, the business remains strong historically, and there are signs that the steel market is stabilizing, with recent price increases. The energy field stores segment posted stronger performance, with increased revenues compared to both the previous quarter and the same quarter last year, although margins dipped slightly. Steel distributors faced downward adjustments due to price shifts. On the whole, demand is looking solid as the company heads into the fourth quarter, despite an expected seasonal reduction in volumes.

Margins and Efficiencies

In the third quarter, the company saw a gross margin of $442 per ton, which is well above the historical average of around $300 per ton. A lag effect is noted between steel price changes and their impact on the company's cost of goods sold, which suggests that costs may decrease further in the fourth quarter. Inventory turns across the company improved from 3.9 to 4.0, thanks to disciplined inventory control. Service centers achieved industry-leading performance with 4.6 turns, energy field stores improved to 3.3, and steel distributors improved to 3.2 turns. Total inventory decreased by $65 million compared to the end of the second quarter, demonstrating a countercyclical cash flow that allows for inventory reduction when prices fall.

Solid Returns and Capital Structure

The company has achieved an industry-leading return on capital of 26% in the last 12 months and has a cash position of $569 million – an increase from both the second quarter and the previous year. The growth in cash and the company's equity base, now nearly $1.7 billion with a book value per share over $27, allows for significant financial flexibility. This stability and liquidity position the company well to respond to opportunities and continue investments in a disciplined manner.

Strategic Investments and Shareholder Value

With a target for average returns over the cycle of more than 15%, the company aims to invest wisely and has documented delivering on these targets. About 30 equipment projects across North America, along with five facility modernizations set for completion in 2024, are in motion to potentially increase volume, efficiency, and safety. On the acquisitions front, the company recently integrated Alliance Supply and maintains a lookout for fitting opportunities within its metal service center business. Additionally, it continues to evaluate and adjust dividend distributions and has used its Share Buyback program opportunistically, having acquired 2.8 million shares since August of the previous year to return capital to shareholders.

Earnings Call Transcript 2023-Q3

[Operator]

Good morning, ladies and gentlemen, and welcome to the Russel Metals Inc.'s Third Quarter 2023 Earnings Conference Call. [Operator Instructions] This call is being recorded on Thursday, November 9, 2023.I would now like to turn the conference over to Marty Juravsky, Executive Vice President and Chief Financial Officer. Please go ahead.

[Martin Juravsky, executive]

Great. Thank you, operator. Good morning, everyone. I'll start off and John Reid is also on the call. So as I finish off, we'll both the available for questions.So I plan on providing an overview of the Q3, 2023 results. And if you want to follow along, I'll be using the PowerPoint slides that are on our website. You can just go into the Investor Relations section. If you go to Page 3, you can read our cautionary statement on forward-looking information.So let me begin with just a little bit of a perspective on the quarter. I think that Q3 was a nice example of how we have a lot of inherent flexibility that is built into our business model. And our team really did a great job in navigating through volatile steel market conditions. One of the things that John and I have said multiple times over the past few years, is that the changes that we've made to our portfolio, the low should be higher, the high should be higher, and we've reduced the cash flow volatility through the cycle. And I think this quarter illustrated that very well, as it was one of our best quarters from a free cash flow perspective.We have solid profitability plus the countercyclicality of our business provided for cash generation from working capital. In addition, we realized proceeds in selling our TriMark equity interest and at the same time, we returned about $45 million to our shareholders through a combination of both dividends and share buybacks.So let's turn to market conditions to start off on Page 5. Steel prices have moved around quite a bit over the past few months with hot-rolled sheet prices coming down from around $1,200 per ton in April to a level that was below $700 in late September, in part driven by the uncertainty related to the UAW strike.More recently, though, we have seen a bit of a pickup. There's been a lengthening of mill lead times and an increase in prices in [indiscernible] back over $900 per ton. On the plate side, it hasn't been as volatile. It was over $1,500 a ton through September, and it's now closer to $1,400 a ton as producers have been proactive in managing the marketplace.Overall, it seems like producers have been reasonably disciplined in managing supply, which is constructive for our part of the supply chain. Somewhat related, you can see from the charts that are on the right-hand side of the page related to service center inventories that the industry remains at relatively modest levels at the same time that demand is steady.If we go to Page 6, there's a snapshot of our Q3 results. And if we look across the various charts, starting on the top left. Revenues were $1.1 billion versus $1.2 billion in Q2. The decline was due to both price declines as well as summer seasonal dynamics that impact volumes in the service center segment. EBITDA was $96 million versus $131 million in Q2, due mostly due to margin compression or service centers and steel distributors. That being said, our overall gross margin of 9% was down from Q2, but remained at a pretty healthy level compared to pre-COVID frames of reference 2018, 2019 type time frames.From a bottom line perspective, EPS was $0.99 per share and our annualized return on invested capital was 23%. Even without the nonrecurring gain from the sale of our TriMark joint venture, our return on invested capital was an annualized 20%. As we've always discussed, we have a strong internal focus on return on capital, and that has led to industry-leading results over an extended period of time.Lastly, in terms of capital structure on the bottom right-hand chart, we have a net cash position of $272 million versus net debt of almost $500 million at the end of 2019. This approximately $775 million increase in free cash flow, gives us a lot of financial flexibility going forward. We're disciplined in what we do with shareholders capital, which is why we'll continue to be active in looking at reinvestment opportunities, both internally and externally as well as returning capital to shareholders by both dividends and share buybacks.Going to our more detailed financial results on Page 7. From an income statement perspective, I've covered some of the high-level items on the previous page, but a few other items of note. Revenues of $1.1 billion, which I mentioned before, down 7% from Q2. Price realizations were down in the service center business, and we had our normal seasonal decline in volumes that we get in Q3's in a typical year. On the flip side, we had a sequential increase in revenues from our energy field store business as that activity continues to do well.On margins, all segments were down, and I'll discuss these in more detail in a minute. Interest expense came down to $2 million as the increase of interest rates and the increase of our cash balance is allowing us to generate interest income on our cash reserves. As I mentioned earlier, overall, we had earnings per share of $0.99 per share and $61 million in total.Our Q3 results were impacted by a few nonoperating items. TriMark, on the sale, we picked up again, but overall, it was $12 million, a combination of the $10 million gain as well as $2 million worth of earnings in the period prior to the sale closing. Stock-based comp had a $1 million negative impact versus a $2 million impact in Q2, and we had a $5 million increase in our inventory NRV reserves in the quarter.Now to put this $5 million NRV adjustment in context, many of you are aware that in previous years, we had some very sizable NRV hits. We've always had a very conservative bias in managing inventories by not taking speculative inventory positions. However, more recently, the sale of our OCTG/line pipe business and other capital control measures have substantially reduced NRV risks that we have experienced in the past.If we go further down the page from a cash flow perspective in Q3, we generated $58 million from working capital, primarily driven by a reduction in inventory. And as previously discussed, we picked up $60 million on the sale of our TriMark joint venture interest as it closed in early September. CapEx of $50 million was similar to Q2 as we continue executing on our discretionary projects, our annual CapEx should pick up to around $75 million per year on average over a few years.From a balance sheet perspective, we're in a net cash position with net cash of $272 million. This is $118 million pickup in the past quarter. Our liquidity is almost $1 billion, and we have the strongest balance sheet that we've ever experienced. To put the balance sheet in perspective, we manage the company with a very conservative investment-grade credit type bias, and I think we've demonstrated this approach through market volatility over the past couple of years.In the quarter, we picked up about 500,000 shares under our NCIB, which brings the total to about 2.8 million shares since we put the NCIB in place in August of 2022. Our cumulative average price is $33.42. Our book value moved up again and is now over $27 per share, notwithstanding the share buybacks that we did in the quarter. And lastly, we have declared a quarterly dividend of $0.40 per share.On Page 8, I have included an update of the TriMark transaction that we summarized at the end of last quarter. So this stage monetization is now complete, with the final piece being the $60 million sale. We have repatriated all of our capital back that was tied up in OCTG/line pipe, which when aggregated totaled approximately $375 million. This approach provided for a very profitable exit, including this last tranche that realized a $10 million gain, virtually all of which was yielded from tax.More importantly, our goal with the portfolio changes was to reduce the volatility of earnings, lower the risk profile and enhance our margins and returns over a cycle. Also, we now have a tremendous amount of financial flexibility as a result of that repatriation and capital to pursue a range of alternatives, some of which we have already done, some of which are on the come.On Page 9, you can see our EBITDA variance analysis between last quarter and this quarter. In looking at the service centers, the volumes were down from Q2, but the biggest factor in Q3 was the decline in margins that impacted results by $29 million. In terms of operating costs, that was a positive variance as operating costs came down by $6 million as our variable compensation model is tied directly to financial performance and creates a direct toggle up and down with our financial results.Energy field stores were mostly flat quarter-over-quarter with steel distributors down $8 million due to lower steel prices and margins. In the other category, there was an $8 million favorable variance, which included the pickup of our TriMark gain, a small pickup in our Thunder Bay Terminal operation and lower mark-to-market on our stock-based compensation expense.If we go to Page 10, we have our segmented P&L information. For service centers, revenues were down and margins came off as did EBIT. I'll go through some more detailed metrics for the service centers on the next page in a minute, but our overall revenues and margins per ton remain very healthy by historical comparisons. More importantly, the steel market seems to have found a floor and some price increases have occurred in the past few weeks.In energy field stores, we are continuing to see solid performance. Q3 2023 revenues were up versus Q2 and were up versus Q3 of last year. Margins did come off a bit as one of our divisions moved some volume for project work that was at below normal margins. Our steel distributors revenues, margins and profitabilities were down with the adjustment in steel prices.If we go to Page 11, we are having a deeper dive on some of the metrics for our metal service center business. The top right graph is the past number of years per tons shipped. And the Q3 volumes were down from Q2 because of the normal seasonal summer slowdown, but the volumes were very similar to Q3 of 2022. Demand continues to be solid going into Q4, but we typically have a reduction of operating days in Q4, which results in lower volumes in Q4 versus Q3, and you could see that trend that has occurred over the past few years. It's typically down about 7% to 10% Q4 versus Q3 because of the lost operating days.On the bottom left graph, we have revenue and cost of goods sold per ton. On revenue per ton, our price realizations decreased by $131 per ton versus only a $37 per ton decrease in cost of goods sold, which resulted in a $94 per ton drop in margin. As a reminder, there is usually a 3 to 4 month lag between steel price changes and when that flows through our inventories and into our cost of goods sold. So even though our cost of goods sold came down in Q3, that lag effect should cause our cost of goods sold to come down further in Q4, all of the things being equal.For Q3, our gross margin was $442 per ton, which remains higher than our historical average of closer to $300 per ton. And as I said earlier, and we've repeated over the time, we expect to realize average -- higher average margins and lower volatility over the cycle as compared to pre-COVID margins due to our ongoing investment initiatives.On Page 12, we have illustrated our inventory turns. This chart shows the inventory turns by quarter for each segment with energy in red, service centers in green, and steel distributors in yellow. In addition to black line is the average for the entire company. Overall, our inventory turns improved from 3.9 to 4.0 as we remain focused on tight inventory controls to reduce risk during periods of market volatility. By sector, service centers were 4.6 turns, which again is industry-leading versus our publicly traded peers. Our energy field stores improved from 2.6 to 3.3 while steel distributors also improved from 2.9 to 3.2 in the quarter.On Page 13, we have the impact of inventory turns on inventory dollars. Total inventory declined by $65 million in the quarter compared to the end of Q2. And as mentioned earlier, the countercyclical nature of our cash flows provides for a drawdown in inventory when prices come off. I do expect to see some further declines into Q4, given the lag effect that I mentioned earlier between prices coming in and how that flows into our inventories and then ultimately, cost of goods sold.If we go to Page 14, you can see the overall impact on capital utilization and returns. Our capital deployed came down to just below $1.4 billion because of our working capital reduction. More importantly, our returns continue to be industry-leading. Our last 12-month return stands at 26%.If we go to Page 15, I want to update our capital structure. The continuation of our strong free cash flow and disciplined approach to capital utilization gives us a lot of financial flexibility. On the left table, you can see that our cash position went up to $569 million, which was $119 million increase over June 30, and a $365 million increase since this time last year.We are now realizing return on our cash balance that substantially offset the interest cost on our outstanding notes. Our equity base is almost $1.7 billion, and if you look at the chart on the right, you can see the continuation of our growth in our equity base. Our book value per share is over $27 per share, which is a $0.90 increase since June 30, and at $2.61 per share increase since this time last year.If you go to Page 16, we have an update on our capital allocation priorities going forward. Given our strong balance sheet, we have a multipronged approach to capital allocation. For investment opportunities, we seek average returns over the cycle, greater than 15% and as some of those charts that we've talked about earlier have demonstrated, we have more than delivered on that target.The ongoing opportunities are threefold. 1, we are continuing to identify and pursue new value-added projects. In total, we have approximately 30 equipment projects on the go throughout North America. It is extremely active right now, and we expect to see an impact of those items tail end of this year and into 2024 and frankly beyond.Facility modernizations, we have 5 modernizations underway, some of which we've talked about in the past, and they are tracking for completion at various times in 2024. When combined with other projects on the go, we have a robust series of initiatives that should grow our volumes, increase operating efficiencies, generate attractive returns and in many cases improve health and safety conditions.In terms of acquisitions, we've seen a lot of deal flow over the past while, and we are actively looking at opportunities. In Q3, we closed the acquisition of alliance supply, which is a small tuck-in to our Canadian energy field store business. In addition, we are pursuing a number of opportunities that could fit within our metal service center business.In terms of returning capital to shareholders, as we've talked about in the past, we've adopted a flexible approach. For dividends, in May, we increased our dividends to $0.40 per share, and we'll continue to reevaluate the appropriate level. For purposes of this quarter, we have again done a $0.40 per share dividend. For the NCIB, we acquired 529,000 shares last quarter. And since August of 2022, we have acquired 2.8 million shares at a cost -- average cost of $33.42 and we expect to continue to utilize the NCIB on an opportunistic basis.Overall, given our capital structure, we have the financial flexibility to pursue a variety of alternatives and initiatives, including share buybacks, dividends, acquisitions and internal reinvestments.In closing, on behalf of John and other members of the management team, I'd like to express our appreciation to everyone within the Russel family. We couldn't be happier with how Russel has navigated its way through the markets over the past few years, and we really look forward to some exciting and new opportunities ahead. Thanks to everyone across the company for your contributions.Operator, that concludes my introductory remarks, and if you would now like to open the line for questions, that would be great.

[Operator]

[Operator Instructions] First question comes from James McGarragle from RBC Capital Markets.

[James McGarragle, analyst]

So on the M&A front, which completed some plugged in acquisitions and successive quarters. You said you're evaluating some deals and your U.S. peers also made some similar commentary during reporting that the pipeline was very strong. So can you just talk a little bit about what you're seeing in terms of target multiples in the market, and kind of how that's evolved during the last year?

[Martin Juravsky, executive]

It's hard to make a reference for the market as a whole, because there's not that many data points, it's not that liquid a market. All I can say is how we look at it. And we look at it the same regardless of whether the market is up, down, sideways, which is we're trying to generate an appropriate return on capital, and we're very public of our target return on capital over a cycle is over 15%. So you can reverse engineer into multiples for that.Sometimes vendors meet those criteria and sometimes they don't. One of the fascinating things, I think, for John and myself over the last little while is, when we look back to 2022, for example, there was a lot of -- a lot of opportunities that we had looked at, and we didn't complete a single acquisition in 2022, and it wasn't for lack of looking. It was -- we couldn't find the right opportunities that made either economic sense, commercial sense or in some cases, they just weren't cultural fits.There have been a lot of deals that have come back to market a second time a third time, and sometimes it's not the first kick at the can that allows vendors and buyers to find an alignment. So for us, we stick to our criteria regardless of what the macro economy is and regardless of what vendor expectations are. We don't chase stuff for the sake of chasing stuff. And so sometimes things come back to us at values that work for us.

[James McGarragle, analyst]

And as a follow-up to that, clearly, you have lots of cash available. Are you limited in any way from a management perspective in terms of evaluating deals and potentially integrating acquisitions versus the amount of dry powder that you have available on the balance sheet?

[Martin Juravsky, executive]

The short answer is, no. I mean, we're in really good shape from a capital structure perspective to look at a variety of things. We are sensitive to making sure that things that we look at can be properly brought on from a systems people, cultural fit perspective. So we're very conscious of that, but we don't see any significant limitations for the things that we're looking at right now. We're set up very well if they make sense.

[James McGarragle, analyst]

And just one more follow-up for me before I turn it over. On infrastructure spending and nearshoring. I know the U.S. steel producers were highlighting during reporting that they expect to benefit from infrastructure spending starting early in 2024. I know you have a little bit more towards Canada, but do you see a similar line of sight as to when we should start seeing an uptick in volumes at your company related to some big infrastructure projects in Canada and the U.S.?

[John Reid, executive]

James, this is John. Good question. And again, we're about 60-40 split, Canada, U.S., but we're seeing benefits on both sides. I think early in 2024, there's some anticipated infrastructure spend, especially when you look at clean energy solar, wind. We'll be heavy users of steel, along with other infrastructure spends that are being government-funded when you shift to Canada. We're seeing some of that in energy as well, and there's some large energy projects that we're looking at right now that we'll participate in through our energy field stores as well as our Western Canadian Service Centers. So we see a really nice opportunity going into 2024 for that spend to impact our business in a positive way.

[Operator]

The next question comes from Devin Dodge from BMO Capital Markets.

[Devin Dodge, analyst]

Within the service center segment, I believe activity levels in BC and Quebec have been a bit slower than maybe some other regions in your network. Just can you speak to some of the drivers behind that, and if you see any signs of these markets are starting to improve?

[John Reid, executive]

Thanks, Devin. It's John. In Quebec, again, when you look through Q3, keep in mind, you have the construction holiday. So again, they took 2 weeks off. And so that's some of the impact that we saw in demand during that period. Again, we've seen import put some pressure in that market. But overall, we think that's improving. Actually, we think the construction backlogs are very stable. And so we're anticipating a good Q4 and really going into 2024 being very strong for Quebec.When you move out to BC, it's a different market out there. We've seen, again, a lot of changes to the market as far as our carbon-based business. Our nonferrous business has been very strong out there. But again, there has been some manufacturing that's left, some pulp and paper industry has slowed down or actually idled or closed facilities. And so we've seen some market degradation out there. But overall, we're pleased with where we are in BC as far as end market perspective on demand. And our model is so flexible, we can adjust what is very positive. We just don't see that as a big growth market for us in the near future.

[Devin Dodge, analyst]

Okay. That makes sense. Okay. And then I was going to ask about M&A. Obviously, lots of dry powder based on your earlier comments, optimism around putting some of that capital to work. So within Russel, is there a desire or is this an openness to expand your energy field store business in a more meaningful way? And if so, was there a preference between Canada and the U.S?

[John Reid, executive]

We'll look at again on a business-by-business perspective, as Marty said, again, we're very comfortable with our energy field stores. It's really a distribution model. But again, we exited OCTG line pipe as a different model. It is frankly underperformed for years on our capital, and our return on capital. But when we look at the field stores, we think there's a great opportunity both in Canada and the U.S. to continue to grow. But we'll be very strategic about how we do that, being able to use the existing networks that we have to share inventories to make sure that we're hitting the return metrics that we want is critical for us, another -- there's really not a bias one way or another, we just look at a deal or deal perspective to make sure they do the right things for our metrics for our company and our shareholders.

[Operator]

The next question comes from Michael Doumet from Scotia Bank.

[Michael Doumet, analyst]

So on the Metal service centers, you highlighted the impact of the higher cost inventories on the segment margins. Given the 80-day age of inventory, the recent price action for steel, is that mostly behind you? Marty, I might have missed this, but just how are you thinking about gross margin percentage, Q4 -- dollar margin for Q4?

[Martin Juravsky, executive]

Yes. It's an interesting inflection point, because we're in the middle of 2 things moving in 2 different directions. So our inbound inventories have been coming down and will continue to come down. At the same time, we are starting to see some price increases on new orders and product going out the door. So Q4 -- it's a long-winded way to say there's a bunch of moving pieces happening. All things being equal, cost of goods sold would have come down in Q4 just because of that lag effect that we're still seeing with lower cost inventory coming in versus our average cost of inventory that we have in place.The pickup that we're starting to see in prices, that's -- we're probably going to see a little bit of that starting to take place on the top line, but that's probably more of a Q1 phenomenon before we start to see that show up in margins.

[Michael Doumet, analyst]

Got it. Okay. So all else equal, I'm assuming steel prices don't move around in time. It feels like Q1 margins should be presumably a little bit better than Q4. Is that the right way to think about it?

[Martin Juravsky, executive]

Spot on. That's exactly spot on.

[Michael Doumet, analyst]

Perfect. Okay. And then $440 gross profit per ton this quarter. Just wondering how you think about that versus what you'll be earning on average going forward. And I know you talked about the historical average, but you're also talking about value add. So any way you can contextualize how much gross profit is coming from value add today, where that can go in the next couple of years and maybe where that was before?

[John Reid, executive]

Michael, as we bring these products on, and again the value-add services as they come on, we think so far, we picked up about 2 points of gross margin over a cycle. Again, steel prices will move up and down, but as we continue to do these performing at or above expectations. And we've got several of these projects will come on in Q4 will continue throughout 2024 and beyond with these projects. So we think it will continue to make an impact on that gross margin. Again, as those projects come on, they move up very quickly into profitability within the quarter that they come on.So we see that continuing to expand that out. We've said before, we don't -- we think we're less than halfway there on this overall project on the spend for the value added. So we're very optimistic, that will continue to spread our gross margin, ultimately, our bottom line margin over time. So I would anticipate that continuing to grow in 2024 and 2025 as these projects come into production.

[Michael Doumet, analyst]

And maybe just a third. On the share repurchase, I might be reading into this too much, but I guess that's probably my job. But you [ split ] the level of repurchases this quarter versus last. So does this quarter's level of repurchasing, does that reflect maybe more of a steady state of what you'd like to do? Again, understanding that it is opportunistic or does the lower amount maybe reflect potentially better uses of capital elsewhere?

[Martin Juravsky, executive]

It's a good question. And I wouldn't characterize we have a steady state frame of reference of -- there's not a cadence that we're going to be hardwired to. It really is a flexible, adaptable, opportunistic approach to it. So it's -- I mean, to be blunt, it's going to be price dependent, and we will be more aggressive at certain price points and other price points.

[Operator]

The next question comes from Jonathan Lamers at Laurentian Bank.

[Jonathan Lamers, analyst]

With the steel price softness early in the Q4 around the UAW strike situation. Are the metal service centers or the steel distributor business taking on any additional inventory? Or have they continued to maintain discipline there?

[John Reid, executive]

Jonathan, yes, our approach over the long haul is again not to be exceptive inventory buyers. We stated our returns. We may buy a little bit more, a little bit less. But overall, we're going to try to turn our inventory faster than the industry. We think that mitigates the risk, and so our approach did not change during that timeframe. Unfortunately, some of the industry approach did and we saw an overstocking, people got caught pricing dip due to the UAW that you mentioned in hot-rolled coil. So we saw the industry as a whole in a little bit of an overstock position, which is now rebalanced and Marty alluded to it earlier in his comments, and you can see the charts and graphs the inventory position for the service center industry as a whole was in a very good position right now. So there's not a lot of slack in the supply chain. So as these increases start to take effect, take hold scrap prices continue to increase, drive up the HRC prices. We think that will move into the market very quickly. We're highly transactional. So we'll move into the market very quickly with that.

[Jonathan Lamers, analyst]

Great color. And one follow-up, John. When you were mentioning that you think the value-add processing has added 2 points to the gross margin above and beyond the cycle, just to confirm, are you talking on the overall revenue of, say, $4.5 billion for this year or on the revenue just from the metal service center business?

[Martin Juravsky, executive]

Just for service centers.

[Jonathan Lamers, analyst]

Okay. And one more, Marty, you mentioned that you're very busy with new value-add processing projects. Does the budget you've spoken to about $50 million per year for growth CapEx remain appropriate into 2024?

[Martin Juravsky, executive]

It does for now. But just, well, technically, a budget is for an annual period, it's a constant rolling project list that we have. And so things are getting added to it all the time and the exact timing of which sometimes moves around depending upon order to lead time. But for planning purposes, $75 million for next year, $50 million of discretionary. That's a good frame of reference.

[Operator]

The next question comes from Maxim Sytchev from National Bank Financial.

[Maxim Sytchev, analyst]

I'm not sure if it's John and Marty who want to take this, but I guess my question is a bit more sort of broader based. I mean, historically, when sort of the business is quite good, we had in prior cycles sort of lots of working capital investments and so forth. I mean typically would be negative free cash flow right now, but we're actually seeing the opposite. Do you mind maybe hypothesizing a little bit in terms of why the cycle is different and maybe sort of any thoughts on kind of sustainability of the underpinnings, that's supporting the dynamic right now.

[John Reid, executive]

A good question again, and it's -- there's some unique things going on right now. We freed up cash flow throughout with the OCTG line pipe departure and then look at ultimately the final selling the JV here with TriMark. So that freed up cash flow during the cycle when we typically would have been using cash flow, then we had a little bit of a downturn with steel pricing things started to come off, we go off, again, being countercyclical, we'll throw off cash. So we threw off cash again on top of that to put us in a very favorable position in the cycle.And so again, I think it's cleaned our balance sheet up. It's eliminated a lot of the volatility that has caused us some issues in the past in downturn. So when you look at what we took inventory provisions when we struggled and used a lot of cash in the past, that was typically related to OCTG line pipe as Marty mentioned earlier. Some of the capital discipline we put in some of our other divisions. So those things are keeping our balance sheet in a much better position over a cycle and really kind of smoothing out that cash flow.

[Maxim Sytchev, analyst]

Helpful. And then maybe if you have any thoughts on kind of the sustainability of the rebound we've seen very recently in HRC pricing. Obviously, I fully realize that you're much more exposed to plate that certainly stock correlates to the former as well. Just curious kind of what you're hearing from clients kind of on the ground if it's possible.

[John Reid, executive]

Sure. And again, we start always with scrap pricing being the major input cost into both HRC and plate. We're seeing scrap pricing across North America and the world market improved right now. So that will drive the pricing. When you look at HRC, the recent increase, as Marty mentioned, we were just under $700 a ton. If you look at the list prices that are out there now but moved up between $950 and $1,000 a ton lead times have stretched out.Typically, they're around 4 weeks now, they're 5 to 8 most mills are booked out through the end of the year. So we think that's been a nice impact. Part of the interesting dynamic was in anticipation of the auto workers' strike that happened to our industry. So I think there was a surge of people getting inventory, getting prepared, making sure they have plenty of product and the strike lasting longer than was anticipated. I think caused some bottlenecks in the chain. I think that's now worked through. And so we're in a good place. So I think that is sustainable going forward. I think we'll see a good Q1. all things are pointing towards a very strong Q1 for demand.On the plate side, there was an adjustment during the quarter. Nucor led, but again, that was really to bring the list price just down to market price. There were some things that were going on in negotiating. So there isn't a big change. It's highly anticipated throughout the market. So I think they were just clean enough where the list price should be. The interesting thing is if you look at the spread historically between hot-rolled coil and plate, it's typically been between $180, $200 a ton and $300 a ton spread between the 2 products. We're getting very close to that alignment again, they'll probably be a little bit higher than it's been historically just due to some of the inflationary pressures that are sticky that we'll stay around and that driven cost at the mill level.So overall, we're talking to our clients to your final part of the question about demand. We feel really good about demand going into Q1. When you look at the reshoring that continues, you look at the infrastructure and the clean energy government initiatives on both sides to the border. We think those are going to really start to see some fruit in Q1 pro, so the non risk construction has great backlogs that are out there right now.The only thing we're seeing on the backlogs that are pulling back in construction is really related to speculative building or housing will be more inflation sensitive -- or I'm sorry, interest rate sensitive. So we're just seeing that impact a little bit, but that's something that we don't participate in a lot be it housing and then be a little bit on the speculative construction, and that's pulled back some. But overall, our fabricators are booked pretty solid for 2024. And so we see that being a good year on that product as well. And user demand is very steady and a lot of optimism around next year from our natures.

[Operator]

The next question comes from Ian Gillies at Stifel.

[Ian Gillies, analyst]

We're heading into that point of the business cycle where people tend to worry a bit more about small private businesses rather than larger enterprise. Is there any way you're able to articulate the exposure on the metal service center side to call it, medium and larger businesses versus smaller businesses, acknowledging this is tough given the volume of transactions you do?

[John Reid, executive]

When you -- and again, I'm understanding your question correctly, Ian. Again, when we look at the service centers that are medium to larger typically balance sheets are in a good position, lines are in good position of credit. And so they can gain run the cycle. Smaller service centers, again when they go through these cycles, the use of capital, then they have the trailing 12 months, if there's a downturn, that constrain their lines on ABLs. So there are opportunities then for M&A transactions pop up.So we'll look through those at the cycle again, as Marty said earlier, we'll state our discipline, looking over a longer term, what the return is what we do for our shareholder base. But I think there'll be opportunities, again, for more M&A for the medium to larger service centers that are well positioned on their balance sheet. Some have been aggressive, some have not. But again, I can only speak to where we're sitting. We feel like we're in a really good position to do virtually anything we want to do at this time. And so if those opportunities present themselves will be aggressive.

[Ian Gillies, analyst]

John, the way I was thinking about that question was more so on the customer base. I'm just trying to maybe assess the risk to tonnage as we move forward and so on and so forth.

[John Reid, executive]

Yes. I think customers -- again, they're going to label based on their size and scale. Again, you can have small customers medium large. But based on their size and scale, they've got the meeting the larger service centers are going to have a deeper breath of inventory that's out there that's available. There's an easier transaction. The smaller service centers can get caught on that side of it. So -- and then as we move into the value add when the industry changes, the more value add, the scale and the size and the liquidity it takes to do the value adds, just want to buy and implement the machinery. The footprint it takes up an additional capital that takes up really gives me advantage, I think, to the larger services centers.

[Ian Gillies, analyst]

Okay. And then with respect to where metal service centers is today on percentage of sales type to value-add products, can you maybe give us where that would have been, call it, 2 or 3 years ago, where it is today, and where you'd maybe like it to be by the end of '25?

[John Reid, executive]

service centers versus 2 or 3 years ago, and we've more than doubled from where we are on value added. We've been doing it for a while, but we've got -- we really can put these in almost franchise these type of things. We've got the footprint, so we can put them in. So we've more than doubled in the last 2 to 3 years. By the end of '25, we'd like to more than double that again.

[Operator]

The next question comes from Michael Tupholme from TD Securities.

[Michael Tupholme, analyst]

First question relates to energy field stores gross margin. Just looking at the quarterly margins. So you mentioned in your prepared remarks that it was weaker, a little bit in the quarter due to a specific project, I think you said. I'm just wondering if you can give us a little bit more detail around that situation of that dynamic.

[Martin Juravsky, executive]

Yes. It was basically -- there was some -- we have 3 businesses, 2 in Canada, one in the U.S. and one tends to be a little bit more project oriented. The one company tends to be more project oriented, and a little bit lumpier. And oftentimes, it's moving that volume at a little bit lower margin than we get in some of our other areas. So there was a little bit higher of that activity in this quarter with some of that project-oriented work from that one business segment and comes in and it's a profitable business. It just comes in at a lower margin. And so that brought our weighted average margins down for this quarter for energy field stores relative to what is typical through multiple quarters.

[Michael Tupholme, analyst]

So it sounds like really was sort of a mix issue in the quarter.

[Martin Juravsky, executive]

Yes. That's a good way to characterize it, Mike.

[Michael Tupholme, analyst]

Okay. Do you see that dynamic carrying on into the fourth quarter?

[Martin Juravsky, executive]

Probably not, I mean the rest of the business is still making the same margin as it was last quarter. It's just not being pulled down by that lumpy stuff. The lumpy stuff does pop up every now and again, and I don't think there's a ton of it coming in Q4. There's probably a little bit coming in Q4. It was a little bit more disproportionate in Q3. Or said another way, Mike, our normalized margins should be -- for energy field stores should be higher than they were in Q3.

[Michael Tupholme, analyst]

Got it. Okay. That's helpful. John, you made a number of comments earlier about some of the movement in steel prices we've seen and talked a little bit about what's been driving those movements. I guess going forward from here, do you -- what you see happening sort of over the foreseeable future, the next little while in terms of HRC and plate, directionally? Do you think there's further room to go on HRC and does plate come down any further or is this sort of level now that these moves have occurred, where do you see things stabilizing?

[John Reid, executive]

Yes, I do think there's further room to run on HRC. And again, the scrap continues to go up, as I mentioned earlier, but I think there's further room to run there. I think inventories are imbalanced throughout the supply chain. I think the mills are very disciplined as to what's coming forward. And this is contractual bidding season for the mills. So they'll do everything they can to continue to keep that price going forward, but the automotive demand now coming back. You'll see that build. We don't participate in it, but it does use HRC.On the plate side, again, I think there's a large preparation as we've had new mills come on in North America, getting ready for the wind and the wind is a significant impact as this starts to move in 2024. The tonnage is going up 5, 10x what it's been in the past. So there'll be significant plate moving into the market. Also as energy continues to stay steady, that's a big driver for the plate market.So I think for the plate end-use market, there's really good demand that's on the horizon for 2024, and we feel like it's got room to start to move in a lot more unlock stuff over HRC. So again, that spread that I mentioned, I think, will hold more consistently it kind of disconnected in '21 through early part of '23. I think it's come back in line. So I think we'll see that in $200 to $400 range between HRC and going forward.

[Michael Tupholme, analyst]

Okay. And any commentary around import activity and what has been happening recently and what you see happening over the foreseeable future there?

[John Reid, executive]

I don't see a lot of change due to the 232, again in this personal opinion, but I don't see the 232 changing meaningfully. There may be some [ window dressing or posturing ]. But again, especially moving into an election year in the U.S. with Pennsylvania being a swing state, I just don't see a lot of change in the 232. So that will keep the limit of the imports at Bay.In Canada, we've actually seen a little bit of an increase. The share and imports primarily driven by OCTG and line pipe. So again, the product there does not impact us any longer. But overall, we think it's in a very healthy situation that the imports are at the right level to come in. We have the right supply and we're in balance in North America, both in Canada and the U.S. So we think the imports will still play an important role, but it just will not have a role as it had historically where it could come in and really create wild market swings.

[Michael Tupholme, analyst]

Perfect. There was some discussion earlier about gross margins for service centers, which I think it sounds like you're optimistic that there'll be some improvement maybe back to kind of more normal levels in the first quarter of next year. Marty, I think your point that there are a lot of moving pieces at play in Q4, but I'm not sure I totally understood if you did suggest where you see margins in service centers going in the fourth quarter versus Q3? Like is there some improvement, but maybe not back to kind of more normal levels or is it still flattish given the various pieces versus Q3? Just not sure how you're thinking about that.

[Martin Juravsky, executive]

Yeah. So if you look at Q4, you're right, a lot of moving pieces, and that is the right way to characterize it. Given we're sitting here, halfway through the quarter on what are we November 9, give or take. The reality is, the first part of the fourth quarter saw continuing challenges on pricing before we saw the recent uplift. So what you'll probably see in Q4 is a little bit of margin compression into Q4 because of that dynamic and the pickup back will be in Q1. So Q4 -- the way I'd characterize Q4, probably below normal, below expectations on a trend line basis.

[Michael Tupholme, analyst]

Okay. That's helpful. And does the same hold true for scale distributor? I mean, I know there's some back-to-back business, obviously there, but not everything is. So is it sort of following service center margins just in terms of the movements quarter-to-quarter directionally? Is that how to think about steel distributors as well for Q4?

[Martin Juravsky, executive]

Short answer is yes.

[Michael Tupholme, analyst]

Okay. And then just very lastly, the gain on sale on an after-tax basis, is it identical to what it was on a pretax basis?

[Martin Juravsky, executive]

Pretty close. There was a little bit of tax leakage, a few hundred thousand dollars, but by and large, most of it was shielded from tax. So for all intents and purposes, pretax, after tax were very similar.

[Operator]

The next question comes from Frederic Bastien from Raymond James.

[Frederic Bastien, analyst]

Your energy field stores business has been pretty consistent from both a revenue and margin standpoint since the monetization of the OCTG/line pipe business, which was by design. I think that's what you've been aspiring to for a number of years. As you look forward, what are your goals for this business over the next 4, 5 years? Are there opportunities to grow it meaningfully either organically or through acquisition or are you just happy to hold the line on that business?

[John Reid, executive]

Yes. No, Fred, you're spot on your comments. We've been looking to make this shift, and it is impacting overall for Russel you see the gross margin they've been able to perform. When we look at it organically, there are growth opportunities that are out there again, Alliance was a nice tuck-in or a bolt-on there in Canada. We'll continue to look at opportunities like that within both the Canada and the U.S. There's also room for growth in value added on that side through value fluctuation and other areas that are out there.If there's a meaningful opportunity, again, we'll look at it on a stand-alone basis. There's competition for capital within Russel that meet those criteria to fit into our cultural criteria that we have for the company. And so we're not restricted to say we're not going to grow in that area of service centers. Again, it's something that's a larger part of our business, and there's opportunities to grow there as well but we'll take a look at all of them equally based on their own bars.

[Frederic Bastien, analyst]

Okay. You touched on -- sorry, value-added opportunities within that segment. Can you expand on that a bit?

[John Reid, executive]

Yes. So there's things that we can do in [ valve actuation ] is one we can do field services that are very similar to the same concept that we use in the service centers, and we're doing that in Canada now, which we're starting to grow that in our U.S. operations. And so those just to add to the gross margin profile. And so again, it stabilized in the business is very stable in margins, it actually allows us to enhance those margins going forward. And it's something we have all the products right now. We just have to put in the facilities and then be in the right locations to perform that value-added process for the end users.

[Operator]

We have no further questions. I will turn the call back over for closing comments.

[Martin Juravsky, executive]

Great. And thank you, operator. Appreciate everybody very much for joining the call. Thank you for that. If you have any questions, please feel free to reach out directly. Otherwise, we look forward to staying in touch during the balance of the quarter. Take care, everyone.

[Operator]

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating, and we ask that you please disconnect your lines.