Wajax Corporation

Mark Foote - President & CEO John Hamilton - SVP, Finance & CFO Brian Dyck - SVP, Wajax Equipment Steve Deck - SVP, Wajax Industrial Components Michael Gross - SVP, Wajax Power Systems

Charles Perron-Piché - Desjardins Michael Weng - Scotiabank Sara O'Brien - RBC Capital Bert Powell - BMO Capital Markets Michael Tupholme - TD Securities

Thanks very much, Operator. And thanks for joining us today.

Just want to apologize in advance our prepared remarks at the beginning of the call were a little bit longer than they typically are. I think because we've got a couple of important things to cover, so we wanted to do that at the outset and may be set it up for any questions you may have.

So as usual, I'll make some opening remarks and then I'll turn the call over to John to talk about specifics about the quarter. Excluding goodwill and intangible asset impairment, our portfolio results were significantly negatively impacted by the energy sector, slowdown in Western Canada.

Results in the Power Systems and Industrial Components segments were softer than we had expected as reductions in SG&A did not offset lower than expected volumes in gross margins primarily from Western Canada. However in light of the economic pressures in the West, we were pleased with the results from our Equipment segment.

Power Systems continue to progress as expected in executing restructuring plan previously announced in the second quarter of 2015 with anticipated cost savings realized in the fourth quarter. In addition, we generated $22 million of cash from reduced operating working capital, the majority of which was used to reduce indebtedness.

In addition to the 4 Points of Growth strategy, one of our major objectives for 2016 will be the reorganization of the company and the company's business will now be based around the following three main functional groups. Let's start with business development which is the front-end of our business.

This group will have the primary relationship with customers, they represent our products and services, provide solutions, and will assist in the development of market and customer knowledge necessary to drive our new product and services pipeline. The group will include regional and category inside and outside sales teams along with specialized end market teams specifically for mining and for the oil sands, and our major customer teams.

Business development will be accountable for the Core Capability and our strategy of sales force excellence. Second, our service operations team will be the main parts in service operations for our main on-highway and off-highway product categories.

The group includes service branch operations in majority of our technicians and parts and service personnel for both our shop and field services. Service operations will be accountable for the core capability of repair and maintenance operations.

And our vendor development group, third, will create a world class interface between our vendor partners and our main sales and service functions. Working with internal groups and our partners, our vendor development group will be the backbone of our new products development pipeline and will be accountable for the core capability of our product in vendor development program to constantly expand the offering we provide to our customers.

These groups will be supported by centralized functions including supply chain, information systems, human resources, and our environmental, health and safety team and our appliance team. The new structure is intended to improve our cross-company customer focus, closely align resources to our 4 Points of Growth strategy, improve our operational leverage, and lower our cost through productivity gains and the elimination of redundancy that's inherent in our current structure.

We will transition to this new model throughout 2016. Excluding an estimated $12 million restructuring provision that we expect to take in the first quarter of this year and estimated net benefit of approximately $4 million is expected to recur in 2016 with anticipated annual cost savings of approximately $15 million going into earnings next year.

While ongoing cost reduction is necessary due to our current market conditions, it's important to understand it is a by-product of the primary objective which is to realign our organization to enhance the execution of our strategy. Upon successful completion of the restructuring we will have reduced headcount across our Canada-wide organization by above 10% since the beginning of 2015.

Our outlook for 2016 is that market conditions will remain very challenging. We expect that earnings will be under significant pressure due to ongoing market conditions in Western Canada, resource customer capital and operating expenditure reductions and a weak Canadian dollar.

Excluding the impact of the $12 million restructuring provision, in the first quarter, we expect lower year-over-year earnings in the first half of this year. And during the second half, earnings are expected to improve slightly, driven by customer equipment deliveries and cost reductions.

We will continue to manage our balance sheet carefully throughout 2016 and expect our leverage to be within a reasonable tolerance of our target range of 1.5 times to 2 times debt-to-EBITDA. With respect to our dividend, the quarterly amount of $0.25 per share was established in March of last year, at a level that we believe is sustainable through expectations of a negative cycle.

We will continue to consider the amount of the dividend quarterly, taking into account the Corporation's forecasted earnings, leverage and other investment opportunities. We are pleased to announce on February 12, 2016, we entered into an agreement to acquire the assets of Montreal-based Wilson Machine Company for approximately $5 million with the closing expected to be completed within the next 60 days.

Wilson is a North American leader in the manufacturing of care precision rotating machinery and gear boxes with annual sales of about $6 million. And its major customers in Eastern Canada align very well with our existing customer base.

Wilson service offerings are an ideal fit for our 4 Points of Growth strategy and we believe we can leverage the corporation sales force and larger geographic footprint to significantly grow the business. As a result of the greater than expected decline in the Western Canada economy and the difficulty in predicting the duration of this decline, we will no longer provide a net earnings CAGR target for the 2015 to 2019 outlook period.

While conditions do remain challenging, we are very confident in the growth activities outlined in our 4 Points of Growth strategy and our confidence is strengthened by the enhanced earnings power of the reorganized company and the relationships that we have with our customers, our team, and our vendors. John?

Thanks Mark. Looking at the results for the fourth quarter, the fourth quarter consolidated revenue of $324.4 million that was down 16% from last year.

Revenue declined in all three segments and was adversely affected by reduced activity in Western Canada related to the energy sector downturn. My comments on net earnings and segment earnings will be on adjusted net earnings which exclude the $41.2 million goodwill and intangible asset impairment as well as the 2014 restructuring recovery.

Consolidated adjusted net earnings of $4 million or $0.20 per share were down from $11 million or $0.66 per share recorded last year. The decline in earnings was attributable to the reduction in volume which somewhat offset by $3.6 million of lower selling and administrative cost and a $400,000 reduction in finance cost.

Consolidated backlog of $169.2 million at the end of December increased $13.1 million or 8% compared to September. Turning to the individual segments and starting with equipment.

Total revenue of $160.1 million in the quarter was down 17% compared to last year. Equipment sales decreased $28 million as a result of reduced equipment sales in all categories primarily in Western Canada.

Parts and service volumes were down $3.7 million to $59.4 million compared to last year, on lower Western Canada mining sector volumes which includes the oil sands and lower material handling volumes in all regions. These declines were somewhat offset by higher Central and Eastern Canada construction sector volumes.

Quarterly segment earnings of $9.4 million declined $3 million compared to last year. The negative effect of lower volumes was partially offset by higher gross margins and a $700,000 reduction in selling and administrative costs.

Turning to Power Systems. Revenue in the quarter decreased 20% to $70.8 million.

Equipment revenue decreased $8.5 million on lower off-highway sales to oil and gas customers and lower power generation volumes. Parts and service sales decreased $9 million and that was attributable to lower sales to customers in Western Canada.

Segment earnings before the impairment expense decreased $3.4 million compared to the previous year on lower volumes and margins which is partially offset by $1.7 million decrease in selling and administrative expenses. And then turning to Industrial Components.

Revenue of $94.3 million was down 12% compared to $107.5 million posted last year. Bearings and power transmission parts revenue decreased 7% compared to last year and fluid power and process equipment sales were down 19%.

Weak sectors were oil and gas, oil sands, mining, while the positive area was forestry. Earnings excluding impairment decreased $4 million to $1.9 million.

Lower sales in margins were only partially offset by $900,000 decrease in selling and administrative expenses. We finished the quarter with funded debt of $149 million that was an $18.5 million decrease compared to September on lower working capital levels.

And today, the Corporation declared a $0.25 per share dividend for the first quarter of 2016, and that's payable on April 4, 2016. So operator, I will open up the call to questions now.

Hey good afternoon this is actually Charles Perron-Piché for Benoit. Thanks for taking my question.

First question can you talk a bit more about the benefit of this strategic organization and how is it going to change the way you will be reporting. And also if you could discuss the timing of the announced headcount reduction and their expected impact on each of the three current divisions?

Thank you.

It's Mark speaking; I will answer two of those three questions and ask John to comment on the segment reporting. I guess when we look at how we're reorganizing if you check the company strategy and the three things that we're working toward making sure which distinguish us in the market being the sales force and repair and maintenance operations and our product and vendor development program.

If you look at the way we're organizing, it's in lock step with what we've said. The biggest differentiators of us in the market are.

So I think that's probably the most obvious connection. I think in addition to that there is a lot of operational similarities across our current divisions and that we do think that particularly under the market conditions we're operating under right now that it's really, it's very, very important for us to accelerate a number of our internal programs to drive some growth despite what's happening in the market.

So we felt more comfortable that realigned, we're going to be able to do that more quickly than we could in our divisional structure. As far as the headcount reductions are concerned, the estimates right now are about roughly about 6% of the workforce so that's about 150 roles.

They are -- the impact is going to be felt across a number of levels of our company particularly in the middle management area and almost equally in each of the divisions. So that's kind of a summary.

John, do you want to take the segment reporting stuff?

Sure the segment reporting will change for the company but for the foreseeable future. So for probably most of 2016, if not all of 2016, we will continue to report on the existing three segments.

We're in the middle of looking out from an external reporting standpoint what it's going to mean to us and either towards the end of this year or early next year, we will have -- we will be rolling out with the new segment of reporting would be.

Great. Thanks for the color.

And then looking at the Power Systems as you said EBIT margin of approximately 0.2% in the fourth quarter, just wondering how we should think about the first quarter and same quarter 2016 with the recent restructuring and what you also have announced this morning, is it fair to expect margins to materially above what you reported in fourth quarter or should we see some kind of similar performance to the fourth quarter during the first half of the year and may be with an improvement during the second half afterwards.

I think the guidance we gave is an overall guidance to suggest that the first half of the year the results would likely be less than the previous year, difficult to really pinpoint Power Systems because the margins there on a quarter-to-quarter basis can be relatively lumpy. But certainly we should be getting some positive effect from the reductions that we made probably to last year and as we go into more towards sort of the mid to the second part of 2016 we should be seeing some benefits in that business from this current restructuring we're doing.

Okay, okay. And can provide more color about the rationale for Wilson Machine acquisition.

Notably if you believe you could generate material revenue or cost synergies through it and also if you could discuss whether you see opportunities to make more sizable acquisition given the current market environment?

Yes, this is Steve Deck, and I'll take the first part and then I'll John talk to the costing of it. But as far as the market synergies it's perfectly with our ERS strategy that we outlined when we began 4 Points of Growth.

In that it gives us a pretty good service opportunity in Northern Quebec in the resource business and alliance with our target strategy in that area. As far as other potential acquisitions, we're currently having discussions with several of them but there are all owner-managed type companies that we're talking to in the process takes a while but we are currently talking with other opportunities.

Okay. And can you provide more details to know if these acquisitions could be more sizable in terms of revenue for your company?

The pipeline of acquisition opportunities that we have ranges and does include some that are more sizable than this one, yes.

Okay, okay. And may be lastly if you can discuss about marketing environment across other geographies, we all know that the main weakness is coming from Western Canada.

But I was wondering if you can provide an update on the current market environment that you see in Central and Eastern Canada across your businesses?

You mean in general not specific to the acquisitions right.

Yes, exactly.

Okay. Well not speaking any further with Western Canada because I think we told that story as have others.

I think our Central Canada markets have continued to be significantly more stable for us and offer some growth opportunity. And I think in Eastern Canada we've had some pretty solid success in our Power Systems and Industrial Components businesses and we are working hard to capture some additional opportunities in our equipment business.

So as it relates to the anticipated annual cost savings less the $15 million. Would you be able to discuss its breakdown between COGS and SG&A and may be how much of that is volume related versus non-volume related?

It's Mark speaking, the $15 million is essentially all SG&A. Now all may be its 95% but there is -- there is really nothing from COGS or volume standpoint.

It's -- we look at as essentially reduction in fixed cost.

Okay. And if we do get a tick back up in volume do those cost come back of it somewhat partially or how we should we think of that?

I think if for business was to experience, a really nice upturn and like in any other point I think we would consider adding some expenses back. But generally the changes we're making are volume dependant.

Okay, thanks. And turning to inventory you sold that down nicely this quarter.

Would you also determine how much of your inventory today you would consider excess or overstock inventory? I just guess in the market conditions how much could we expect the company need to sell down in let's say the couple of quarters?

I think a safe number across all three businesses would be $30 million to $35 million worth of inventory in excess.

Okay. And the timeline of next couple quarters since that?

Well, it's there is we will see some reductions in the upcoming quarters. We do have some mining orders to -- with some of the product we have is mining.

It's difficult to say which quarter is actually going to fall into and which quarter is the rest of it will fall into. But certainly in our own projections by the end of the year we should see a pretty sizable reduction in that kind of overstock situation.

Okay, thanks, John. And I'll try to sneak one in, another one here.

So you helped us last quarter so I'll ask again but how should we share our expectations for Q1, the outlook states slower results in the first half but should we expect a particularly difficult comp in Q1?

I think as far as we’re ready to go right now is we did give some directional guidance with regard to the first half and that's just kind of as far as we can go. We know the first half of this year is going to be difficult on a comparative basis.

And so I think you can read into that that would be a combination of Q1 and Q2. So that's all, as far as we're prepared to go at this point.

Hi. Can you comment a little bit again on the SG&A savings the $15 million.

I'm just wondering if the provision is being taken in Q1, why is it going to take so long to realize the $15 million benefit since 2017.

Well because the savings are going to come in a number of different process, it's not all going to happen the minute that we announced the restructuring and book it. The reductions will occur in through -- March through to September or October.

So it's going to take that long for all of the restructuring to take place.

Okay. And then may be just in terms of free cash flow outlook for 2016 and typically Q1 is sort of a cash outflow on inventory restocking, how do you view that the kind of inventory you have now for sale, do you need to still go after new OEM inventory build in 2015 or do you kind of look at is more of an orderly liquidation year?

No, I wouldn’t say it’s a liquidation and we will still follow the normal pattern where there would be -- and you see it even with our numbers. We did bring in product for the selling season towards the end of last year, which we will do some again from the beginning of 2016.

And so we do have inventory though as a carryover from some of the stuff that we talked about last year particularly in the mining side that we're making progress on and we will continue to make reductions. So and I think we'll see better reductions in 2016 than we would have the last quarter of last year.

So it’s not like it's -- this isn't a fire sell or anything, we're just naturally trying to bring this down and we had mentioned last year was going to take us some time given the nature of the inventory.

Yes, I didn't mean to imply a fire sell but just in terms of restocking basically you come to know what the inventory you have on the books now is what customers are looking for at this point.

Yes, generally speaking outside of some mining equipment and some engines and power systems basically in our equipment division, if you look at the base construction inventory, we have the forestry equipment, material handling et cetera that business is usual and we're bringing in equipment to restock for the selling season like we normally would.

Okay. And may be if you can comment on the market share opportunity in equipment group in construction to help offset some of the oil and gas weakness.

Just wondered what kind of point spreads you could go after and may be what categories you are looking at in particular?

Hey Sara it’s Brian. There is some opportunities in Ontario and Quebec where our share probably isn’t where it should be and there is some infrastructure spending in Canada this year that we will have some opportunity at.

We are also successful in Western Canada and we serve the client in Western Canada, we’re going to have to make that up in the East but the markets just aren’t the same were the same sizes as they were in the West. So there is some challenges there.

But we definitely have some room to grow in Ontario and even more so in Quebec.

And Brian, do you expect the infrastructure spend in some of these larger projects will deliver sales actual sales opportunity versus booking opportunity in 2016?

I think so. I mean we were the share -- the actual market in Montreal in January wasn't that encouraging in construction excavator.

So it will take some time. But I think there is still some business there and we will -- we’re looking at it fairly positive in Ontario.

Thanks. Just in terms of the new reporting or the reorganization how that impacts reporting can you just give us a sense in terms of what that's going to look like in the future.

It's kind of you got business development service and vendor as you major heading. How do you fold the current three reporting segments and each of the sub segments in the kind of different line items, and can you just give us a sense of how you are thinking about that?

I'm sure I can give you a little bit of color on that. I think the -- the business development function we'll call will generally have the sales and the expenses that would be included in there, would be the sales and expenses for the equipment and the power systems, equipment sales business as well as the industrial components sales and expenses related to those sales.

The service operations function will be generally speaking the parts and service businesses for the equipment in the power systems group. And within the vendor development area there will be our power generation business and our marine business will be in there.

Okay. So you're going to capital to capital sales [indiscernible].

In the parts and service effort and then the marine and power in the net result, that sort of.

Correct. Okay, so between here and there how do we think about allocating that $15 million sales between the thing which you're going to report this year between I'm assuming mobile equipment not going to be as impacted as let’s say power systems, industrial components at a corporate cost.

Can you give us some guideline how do think about spreading that $15 million for '17 until we get the definitive segment reporting.

The $15 million will be spread relatively evenly between the three existing segments with the slight bias towards power systems.

Okay. And what about corporate costs, John?

Corporate costs would remain essentially unchanged.

Okay, Mark -- Brian just in terms of the mobile equipment can you just give us the timing in the magnitude for an update in terms of shovel deliveries this year and your backlog was up, heading into, relative to Q3 in terms I guess you highlighted occurring [ph]. Just give us the sense of how those flow for revenue for you through '16.

I believe we’ve stated that we have a couple -- two larges shovels yet a 1,000 plus shovels for Q3 and Q4. And we look like we have a another large shovel for delivery in Q2 this year.

Okay. So can you just give us a sense how to think about those should be $15 million each?

Yes, the -- the two 8,000 will be in that range and the one smaller shovels are probably in that $10 million range.

Okay and that's the Q2, Brain? Sorry, there is still lot of background noise, really hard to hear you guys.

Sorry, yeah that’s in Q2.

Okay, thanks. And then sorry just back to Industrial Components do a $6 million -- sorry, these inventory obsolescence $6 million in a year that was loaded in Industrial Components in the quarter.

Just give us a sense of how much inventory obsolescence impacted the operating profits in the industrial components in the quarter.

The year-over-year increase in obsolescence was about, little over $800,000 and but recognizing last year in the quarter was a little unusual where we essentially didn't have any. So you can say roughly 4 to $500,000 would have been incremental obsolescence.

Thanks. And just a couple quick ones the just a clarification on the cost savings the $4 million is to fair to assume $4 million you get in '16 is pretty much in the back -- on the back half of the year?

Yes, it would be skewed towards the back half. There would be a little bit in Q2 but most of it would be skewed for back half.

Okay. And then when we think about the '17 savings of $15 million.

Just to be clear on a year-over-year basis are we really looking at an incremental $11 million is that [indiscernible]?

That would be correct.

Okay, great. And then I know huge but the acquisition you announced, you talk about the margin profile of that company and then may be just to sort of a couple or further some of the other opportunities you’re looking at if they would be similar margin profiles?

Yes, I think we've stated in the past.

Customer basis.

Yes it's Steve here. Their customer base lines up with our, they are heavily resource based in the Northern Quebec area especially in mining and a little bit in forestry so kind of lines with us.

Okay. Well thank you very much for joining us on the call.

And we look forward to speaking to you again in at the end of our first quarter. Thanks again.