Paul Jewer - Chief Financial Officer and Executive Vice President Scott Medhurst - President and Chief Executive Officer

Yuri Lynk - Canaccord Genuity Cherilyn Radbourne - TD Securities Jacob Bout - CIBC Ben Cherniavsky - Raymond James Maxim Sytchev - National Bank Financial

Thank you, Valerie, and good morning, everyone. Thank you for joining us today to discuss the results of Toromont Industries Ltd.

for the second quarter of 2017. Also on the call with me is Scott Medhurst, President and Chief Executive Officer.

Before we continue, I'd like to advise listeners that this presentation may contain forward-looking statements and information that are subject to certain risks, uncertainties and assumptions. For a complete discussion of the factors, risks and uncertainties that may lead to actual results or events differing materially from those expected, refer to Toromont's press release from yesterday, which is available on our website.

We assume you had an opportunity to review our press release from yesterday, and as such, we'll focus on key highlights. Scott will begin with a few remarks and some comments on our outlook, after which I'll review the operating group results and financial position.

Then we'll be more than happy to answer your questions. Scott?

Thank you, Paul, and good morning, everyone. Increased demand in mining and power systems is reflected in the strength of bookings and backlog.

CIMCO delivered strong results on product support growth and excellent execution both in Canada and the U.S. Consolidated revenues increased 2% in the quarter and 4% year-to-date and contributed to net earnings of 5% in the quarter and 8% year-to-date.

In the Equipment Group, the long-term outlook for infrastructure spending remains positive from both the provincial and federal governments, in the meantime we have seen increased activity in mining and power systems sectors. The parts and service business although down slightly in the second quarter continues to be active and provides a measure of stability and opportunity for future growth.

Our shops remain busy, and we continue to hire technicians for current needs and anticipation of increase in demand, including the opportunity for increased equipment rebuilds and readying used equipment. In the mining sector, we have been seeing increased enquiries for a few quarters following a period of capital constraint.

We are cautiously optimistic that there is an opportunity for continued growth in this area. Our increased bookings and backlog level bodes well for continued product support growth.

Opportunities exist for sales and support of new mine development, mine expansion and equipment replacement. In the agricultural sector, end markets are currently very weak.

Much work remains, but we are encouraged with the integration of broader product lines and improved market coverage. Focus will remain on sales participation rates and improved operational processes to generate long-term financial returns.

At CIMCO performance continues to be positive and reflects the results of our focused strategies over the last number of years. Strong booking activity and record backlogs bode well for future prospects.

Across all of our businesses, growth in bookings and backlog together with the long-term product support growth trends and the diversity of markets served provide opportunities for continued success. I will now turn the call over to Paul to take you through highlights of the financial results.

Paul?

Thanks, Scott. Let's dive into the group results starting with the equipment group.

Revenues were up slightly by 1% in the quarter and 3% year-to-date, largely reflecting higher equipment sales and rentals. New equipment sales increased 9% in the quarter and 10% year-to-date, while used decreased 11% and 8% for the same periods.

We have previously described the interplay we see between new and used equipment sales. On a combined basis equipment sales were up 3% in the quarter and 4% year-to-date with strong mining and power system sales offsetting lower construction and ag sales.

Rental revenues were up 8% in the quarter and 12% year-to-date on improved time utilization. We continue to invest in this very important market segment to address expected demand, increasing our net rental investment to $310.4 million at the end of June 2017.

Product support revenues were down 4% in the quarter and relatively in line year-to-date. Power systems revenues were lower against a tough prior year comparator, which included good rebuild activity.

Construction revenues were down on lower sales activity in end markets, while on-highway truck revenues decreased on a declining installed base. Margins decreased 60 basis points in the quarter and 40 basis points year-to-date.

The pricing environment across most territories and markets remain tight and continue to dampen equipment and rental margins. Selling and administrative expenses were 40 basis points lower as a percentage of revenues in both the quarter and on a year-to-date basis.

Operating income decreased 10 basis points in the quarter and was relatively unchanged year-to-date mainly reflecting the impact of lower gross profit margins. Bookings were strong in the quarter and year-to-date mainly on higher mining and power systems orders.

Backlog of $253 million, more than doubled from this time last year with increases across all market segments. Backlogs can vary significantly from period to period on large project activities especially mining and power, the timing of orders and deliveries and the availability of equipment from inventory.

Now let's talk about CIMCO. Package revenues were relatively unchanged in both the quarter and year-to-date.

In Canada, revenues were down 2% in the quarter, but up 2% year-to-date. Market conditions were good in Ontario, but weaker in Quebec.

In the U.S. revenues were up 6% in the quarter, but we're down 5% year-to-date.

In both Canada and the U.S. recreational markets have been stronger while industrial markets have been somewhat softer.

Product support revenues increased 14% in the quarter and 11% year-to-date on continued growth in both Canada and the U.S. Margins increased 290 basis points in the quarter and 380 basis points year-to-date on higher package margins and a favorable sales mix of product support revenues to total.

The higher package margins were mainly as a result of lower warranty costs and improved execution. Selling and administrative expenses increased 5% in the quarter and 13% year-to-date, reflecting investments made to support the growth of the business.

Operating income increased 57% in the quarter and 62% year-to-date largely reflecting the higher revenues and gross profit margins. Bookings were up 7% in the quarter and 20% year-to-date reflecting higher Canadian orders partially offset by lower U.S.

orders. Consequently backlogs of $169 million surpassed the previous all-time high set last year on higher industrial and recreational levels.

More than three quarters of backlog are expected to revenue over the remainder of the year. On a consolidated basis, net earnings increased 5% in the quarter and $40 million to $40.5 million and 8% percent year-to-date to $67.5 million.

Basic EPS increased to $0.52 cents in the quarter and $0.86 cents year-to-date both records for the respective periods. Our overall financial position remains strong.

At June 30, our net debt to total capitalization ratio was just 3%. The higher inventory levels are mainly as a result of equipment inventory held for customer specified delivery dates later in the year and record work in process levels at CIMCO.

That concludes our prepared remarks and we will be pleased to take any questions. Valerie?

Good morning, guys.

Good morning Yuri.

Good morning, Yuri.

Maybe for Paul, how much of the gross margin pressure we saw in the equipment group was related to incremental pricing and rate pressure versus the fact that you had a lower mix of product support revenue in the quarter?

The bigger factor in total would be the mix of product support total go up in sales. There’s certainly we continue to see increased rate pressure in rental space, so at Battlefield and Cat Rental Store, we certainly saw continued and increasing pricing pressure.

Pricing pressure is significant certainly across the construction markets. But on mix I would say certainly the – on mix, the mix is a factor.

Okay. So most of the pricing pressure and rate pressure is in the Battlefield and the construction end markets, the mount mining and power is performing okay?

Yes.

Okay. How do we think about that going forward given the big move in and the C-dollar, should that be – that should be a margin tailwind going forward as you purchase more equipment and run it through?

The key thing Yuri is as I’ve said in the past is that we would be concerned about would be rapid movements in FX. The absolute level and the relative levels that we're dealing with are less important because we have proven that our ability to work through them over time.

So it’s a little bit of a tailwind, but again if you look back at past history, it really wouldn't – you wouldn’t see that as a significant factor coming through.

Yeah, I'm only asking because I think it looks like a pretty dramatic quick move that we've had since May. But yeah, point taken.

Can you just describe how the tone of your conversations with your mining clients has evolved? Mining is clearly a nice driver of the parts and service business and as well as booking so – how's the tone changed and the conversations regarding replacement versus new mine built?

Yeah, it’s – obviously, when you look at those bookings in the quarter, it was a good progress. Our teams did a nice job in there.

I think we're up over 300% on the bookings and certainly the – it was a big contributor to the backlog that we’re proud of for the quarter. And going in the second half, a lot of it was to – it wasn't so much replacement, there was some of that, but it was mainly to increase the production levels and seeing some of the projects advance, which was encouraging.

Without getting too far ahead of ourselves, we were pleased with the activity in the first half of mining compared to where we were and there was a shift in new there as well. The other thing that we saw in the quarter is on the product support side and this is where again I keep emphasizing we're lumpy, we shouldn't get too focused on quarter to quarter, our labor activity in mining really picked up.

I think we’re up like 14% on the labor. Now the parts was in there, but that's just because we have tough comps on year-over-year component purchases and large rebuilds, you just don't get those every quarter.

There is unevenness in there. So I mean I think that was a nice signal and what we're seeing in mining.

Okay.

See how it goes from here.

Okay. I will turn it over.

Thanks very much.

Thank you.

Thanks, Yuri.

Thank you. Our next question is from Michael Doumet with Scotia Capital.

Please go ahead.

Yeah, hi, good morning, guys.

Good morning, Michael.

Good morning.

Just in terms of what we are from Cat in terms of price realization, I mean, are we seeing at least an improvement in the equipment sequentially, I mean is some of that or maybe if some of that margin pressure is explained by mix as well?

Yeah, there is mix in there. But I – in terms of Cat, I mean, they are a global company, so you've got a lot of other factors in there and I think they comment on where some of their stimulant is.

We're still in a very competitive environment, but we've been here for awhile and our teams are operating and again you see it in the bookings and the backlog there. So that's where it is right now.

I could appreciate that, Scott. Thanks.

So maybe just on the rental business, so we saw again this quarter higher time utilization, but I believe lower financial utilization, rentals certainly been a tough business, but what's your sense on the trend – I mean like how much longer can we see increased utilization before we see improvements in rental rates.

Well, I don't know how to speculate that doesn't work, we like the rental business and in this first half quarter, our utilization improved. Power was flat, but power we've invested little more in there because of the trends, but our revenues were up in power.

So we saw revenue increases really, really pleased with the heavy equipment trend. That's starting to get real traction.

We saw great improvement in the time utilization there and the contributions we had. We are starting to get the cycle moving because our disposition was up nicely in the heavy rents as well.

And in terms of the rental services, we continue to invest and improve on the time. What we saw was particularly in that light equipment like we were really monitoring these rates, it was down like 3.75% year-over-year on that rates.

So that's putting pressure on your financial, but we're pleased, the teams are executing the strategy. And you are seeing that shift, customers were very conservative in the first half on construction, so we saw some uptick in rental.

Okay, perfect. I mean is your sense that competition is continuing to intensify in this category or is there some release there?

It’s a competitive environment, but we've been in that for a long time. That’s – it's all about the execution part and we keep investing.

All right, perfect, thanks guys.

You are welcome.

Thanks very much and good morning.

Good morning, Cherilyn.

Good morning.

Wanted to dig into the modest decline in product support revenue and just get a better understanding of how much of that was a function of difficult prior year comparables and it sounds like power systems and mining versus the lower activity levels you noted in construction?

Yeah, we are lumpy. The encouraging part is like again the mining labor demand was really strong.

I mean it's up 14%, even the power systems had an uptick in demand on the labor. We had large rebuilts and large component sales in both those areas and you just don't repeat on a quarter by quarter basis.

The other thing that was very interesting in the quarter that impacted parts was, we hate to use weather, we don't like it, buts here, however, we track obviously thousands of units of equipment now that were connected with. And what we saw in the construction side was a dramatic change in the hours utilization on these construction fleets.

I mean with the higher production equipment, we were down up to 20% utilization. We head that from customers.

I mean they just – we are struggling to get traction on projects. So when you see a shift 10%, 20% on utilization on a year-over-year basis your parts consumption levels are not going to be the same.

So the good part is the iron hasn't gone away and with our bookings and backlog, we’re encouraged and we currently are higher in tax. So that's a bit of the story on what's going on there in the quarter.

Last year what we had as well Cherilyn is a major rebuilding that we did. That’s one area that can certainly be lumping.

So both on the power and the mining side with mining customers even on the power side, we had some substantial rebuilds [indiscernible] if you recall in Q2 last year, we had a substantial beat. So we are coming off of a tough comparator basically.

And our quoting activity on rebuilds remains very positive, [indiscernible] but there's quoting activity there.

Yeah, I certainly understand the lumpiness in the business.

For sure.

Yeah.

Just in terms of the weakness that you called out in the construction market more generally, it does sound like weather was a contributor to that, that’s not altogether surprising. Can you talk about where industry unit sales are tracking year-to-date?

They are actually up a bit, but that's again you're seeing the smaller iron is really the driver rate down particularly on the [indiscernible] the numbers are jumping a bit in there so. That's what we see.

And then this is the second quarter in a row that we've seen a bit of a pivot to new equipment demand versus used equipment, which I would interpret as a healthy sign. So, I’m curious whether you would share that point of view and whether you could just talk a little bit more about what you are seeing in terms of that interplay between new and used demand?

Yeah, that's a good question. So we are encouraged and pleased with the shift to new, up 9% in the quarter and as we've been talking for a few quarters we've been very focused on used because there was opportunity in there and we really focused on the purchase part.

Even first quarter was strong in use. There was shift, use was down, but part of that is due to the tightening of good used iron.

Our guys – these guys know how to buy and it’s got a little more challenging, but we replaced the shift to new. So that’s sort of what's going on in.

We’re still trying to be very optimistic because there is good demand for used, but it's just getting tighter to buy good used iron.

And the bottom line is we are happy servicing both sides of the market place, right. So, both components are important and it depends on the point you are in the cycle as to which actually dominates the demand.

And you’ll remember last year, there was a fairly significant swing to used and I would look at that as being more of an aberration last year a little bit as folks were dealing with continued sticker shock on currency price movements that had happened prior to that period and continued into then, so we're able to service with them. Right now it's healthy that we're moving into a new gear, but we continue to stand poised, ready to serve both aspects of the market.

Great. And then I don’t want to leave CIMCO out, that business posted a very strong EBIT margin for Q2.

I think revenue mix was probably a contributor there and I know sometimes project mix on the package side can have an influence. I just wonder about your level of optimism as revenue scales up in that business [indiscernible] EBIT margins have the potential to gravitate to a new normal for CIMCO?

What we – again it was – we’re very pleased in the quarter what we saw was the execution on some of these projects, some of the recoverables as well as the mix. So, we continue to be very focused on that area and the team is executing similar strategies and that's the key that we see right now.

You’d also see some variability from quarter to quarter Cherilyn. So one of the things that we’re extremely pleased with is given the increased revenue base that CIMCO has been able to generate, they're able to generate increased operating leverage off the fixed cost components of engineering and the other aspects of the key USP of what CIMCO delivers.

At the same time, you can get a little bit of bouncing up and down and you can in any given quarter have great project execution, sometimes you will have challenges, sometimes you will have good close outs, sometimes you won’t. We did have a good experience in the quarter and we think it's an overall general trend, but one quarter doesn't define that trend.

Yeah, and as Paul said, it's really driven by some of the type of projects that you are in on the industrial and recreational side so, the complexities that are in there.

Understood. Thanks.

That’s all my questions.

Thanks, Cherilyn.

Thanks, Cherilyn.

Good morning.

Good morning.

Good morning, Jacob.

Wanted to continue the line of questioning on CIMCO. So you make the comment about in the U.S.

markets the recreational markets generally been stronger than the industrial markets. I thought there was a major push there into the industrial markets in the U.S., maybe you can just comment a bit on how that’s progressing?

Yeah, last year we are really proud of the team. I mean we went in with more of a narrow strategy there and how we were going to approach quoting and had some targets in there and gain some traction.

Our industrial quoting tapered off a bit in the first half, but still it started to pick up a bit in the later part of Q2, so you know we hit a bit of a wall in there, but still very much a key strategic focus for us.

And then maybe a question on the mix between bookings and backlog. So, if you look at bookings, mining was up quite sharply, construction basically flat, but then you take a look at the backlog, they are both up, is that telling us that the outlook for construction improves as we get into 2018 or am I just reading too much into it?

Well, I think a conservative – I will frame it as we saw a conservative approach in the construction side. I think again with – I hate using [indiscernible] but weather impacted I think how some of the customers were approaching things, but there was a shift to rental.

The other thing that shows conservatism, on a year-over-year comp, we had – we're down about 75% on RPO conversions new and that's a big shift, that's about $26 million. So again I just think it shows a conservative nature, our RPO fleets are still very healthy, I think we are over $33 million out, so that just reflects what the mindset I think in that first half, but there's work there, it was a slow start with this weather.

Last question just on the ag equipment. You’re saying backlog results fairly weak, but when I take a look at industry stats within Canada, tractors sales are up 19% year-to-date, combine is up 28% and I'm wondering is this a Toromont ag west specific event or what's going on?

Yeah, I think we're a bit different in Manitoba right now compared to balance of Western Canada. There was – again it was funny that the smaller horsepower tractors – there was some uptick in there, like we saw the spray industry, which is very important to us, like that was down I think 40% on a year-to-date basis.

So a little bit different in there. We did have some slippage in some of our order got pushed out, but it’s been a weaker market overall in the aear we operated in and we're still early stage in there executing with some of our strategy particularly on the operational side.

We got some more work to do in there and so that's where we are focused.

Thank you.

Thank you.

Good morning, guys.

Good morning, Ben.

A lot of my questions have been answered. Maybe that I just take a step back and ask a few higher level questions about the market.

Because I'm – I guess I'm trying to reconcile a lot of different moving parts at the moment I mean we're hearing more about lead times getting tighter and clearly your order book has increased dramatically, United had different comments to say about Canada and the rental rates couple of weeks ago from what you guys are saying. And then you know from your perspective the market remains very competitive.

What's it going to take to get – is this is the new normal or what's it going to take to get a little bit more pricing power in the market because I would think at this point with all those other indicators the supplier should have a little more pricing power. What am I missing there?

Well, I think -- I can't comment on United perspective, I mean, they have maybe a bigger picture perspective on it, but certainly from a geographic perspective.

Different trends in western Canada.

Yeah, exactly. Eastern Canada has been different right now probably.

In terms of the lead times, we are tracking that very closely right now on the availability side, that's why we’re satisfied with our inventory levels Ben and how our pipelines projections are, we try to stay very focused on that. We’re monitoring that closely.

Things are – but I think – but as you said instant dynamics in play right now, we don’t like to speculate, we will see how it plays out, but currently from what we've seen in our area, it still remains very competitive.

But [indiscernible]. Sorry, go ahead.

We were pleased with how the team has executed to create that strong booking and backlog, I mean that was – really please with that.

I just – how do we moderate that against the competitive environment, not as a gesture giving product away, but you – how do you – how do we keep our margin expectations realistic when we see your order book go up that much while you're telling us the market is still very competitive?

Well, we think – again, we’ve seen this before. I think it's – there's still some variables in there that create some uniqueness as well with some tier 4, tier 3 engine and you get some movement there.

So we're pleased with how we are executing right now.

And sort of why I asked the question because I know you guys have seen this plenty of times before and I just wonder how does that normalize or is there something that structurally different, can we expect margins to get back to where they were? How are the OEMs – how are they managing their pound of flesh through this process because you know surprisingly Cat keep trying the most strong price realization and the dealer channel keeps telling us it's very competitive so how are all those moving parts influencing the margins in the competitive nature of market?

Yeah, Cat again is speaking globally.

Yeah.

But we'll see how it all plays out, you know us, we don’t speculate. We only go execute.

Okay, fair enough. Just one last question if I could on – just on the mining side sort of in a similar theme, trying to get a state of – a sense of where we are in the market.

You seem big increases in the recovery here. Certainly the commodity markets aren't behaving like it.

2012 all over again. Not that we necessarily would want that, but what's driving – is it just pent up demands that's been deferred for many years in this environment that’s driving a lot of the rebuilds and the current order book.

And if so how do we expect that – how do you manage that sort of and looking out a few more years that you sort of get the step up of demand but is there a normalized rate that we should anticipate barring another surge in commodity prices?

The key thing that I will say first and then I will turn back over to Scott is, we are not talking about replacement equipment in terms of driving us demand. So we are talking about new mine development and mine expansion more substantially.

That is the key factor that’s driving it. And obviously that up portends well for future opportunities for product support and good continued growth.

So we're seeing somewhat of a rebound and we've been talking about for several quarters, we’ve been talking about in our outlook increased enquiries and now what we're seeing is we're seeing some of those enquiries actually translating into bookings and orders and to certain extent on deliverables.

But even some of the new mine development can be a function of mines having sort of exhausted some of their resources and just maintaining – try to maintain production by expanding the mine. So I mean I don't expect you to comment on the global state of the mining industry, but I'm just -- it's kind of an interesting dynamic that the commodity prices themselves haven't [indiscernible] huge recovery but you guys are seeing the spending to come.

The other thing that I will add is mines don't generally make long term investment decisions based on pricing. So it’s based on the longer term outlook and to a certain extent we – hits this quite a bit as well, we have been – a lot of these customers had been capital constrained for a long period of time, right.

So they do have a bit more of an open market at this point, a little bit more support. So they have that opportunity to expand.

Yeah.

Okay, great. That’s helpful.

Thanks guys.

Thanks, Ben.

You are welcome.

Hi, good morning, gentlemen.

Good morning, Max.

Good morning, Max.

Just a quick question, Scott or Paul, in terms of what percentage of your machines are connected right now because I mean it's interesting that you see you right the – obviously the read through in terms of utilization from your clients on the such granular level?

Yeah, we are – we look at we're tracking that now like market share and we're very careful exposing some these [indiscernible]. I will say we're improving and that is a key focus area is the connectivity part of this and we’re pleased with the trend that we're seeing on the connectivity and the activation of those systems because it is helpful to provide good solutions for customers and to track things like we just noted on utilization things of that nature.

Yeah, okay, fair enough. And then in terms of circling back to used market, I mean last year obviously we still had some spillover effect from western Canada into east.

Right now has this dynamic fully been absorbed, any commentary there?

Yeah, we saw that trend I think it slowed down – I’m careful not to say it has stopped, but it has slowed down.

Okay. And then jut maybe last question.

Any updates or thought in terms of incremental capital deployment opportunity just given the health of the balance sheet?

Well, we continue to focus on operation, Max, we do look at continuing to increase the penetration of the rental market places. We will probably invest a little bit higher than we talked about last quarter.

So my current guess on net investment basis for rental will be about $70 million this year if we deploy all those assets and you’ve seen increase time utilization and we are certainly seeing increased demand across those places. So other than that there's really nothing has changed from our perspective.

Right. But I guess you're still keeping a close eye in terms of any opportunities that might arise right?

For sure.

And Paul just very briefly on rentals, is this heavy rents, lighter equipment what exactly – where exactly are you deploying capital?

So both to a great extent. So Battlefield light brands is seeing a significant portion of the increased investment, but heavy is seeing a percentage of that as well.

All right. That’s it for me.

Thank you very much.

You are welcome.

Thanks, Ben.

Thank you Valerie and thanks everyone for the participation today That concludes our call. Have a great day.