Good morning, and welcome, ladies and gentlemen to the Gulf Island Fabrication, Inc. Second Quarter 2019 Earnings Conference Call. All participants will be in a listen-only mode for the duration of the presentation. This call is being recorded. At this time, I would like to turn the conference over to Ms. Cindi Cook for opening remarks and introductions.

Cindi, please go ahead..

Thank you, Cassidy. Thank you, and good morning. I would like to welcome everyone to Gulf Island's Second Quarter 2019 Teleconference. Our results were released yesterday afternoon and a copy of the press release is available on our website at gulfisland.com. A replay of today's call will be available on our website later today.

Please keep in mind that the press release and certain comments on this call include forward-looking statements and actual results may differ materially. We would like to refer everyone to the cautionary language included in our press release and to the risk factors described in our 2018 Form 10-K and subsequent SEC filings. Today, we have Mr.

Kirk Meche, President, CEO and Director; and Mr. Wes Stockton, Executive Vice President and Chief Financial Officer. Mr.

Meche?.

Thank you, Cindi, and good morning to all of our listeners. Results for the quarter reflect revenue growth on a sequential and year-over-year basis, continued improvements in the utilization of our facilities and positive cash flow.

During the quarter, we significantly added to our backlog with the exercise of options for two Navy T-ATS vessels and the third research vessel for Oregon State. Last week, we were also awarded a 70 vehicle ferry from the Texas Department of Transportation with delivery in 2021. This award is not included in our quarter-end backlog.

We expect continued improvements from a utilization standpoint in future quarters as newly awarded and existing contracts ramp up within our facilities.

Unfortunately, during the quarter, we did experience additional cost increases on our harbor tug projects and a separate project within our Shipyard Division, which negatively impacted our Shipyard and consolidated quarterly results.

As it relates to our harbor tugs and overall 10 tug program, during the quarter, we completed and delivered the third and fourth harbor tugs and are on schedule to complete the fifth tug in the third quarter. The sixth and seventh tugs will be delivered in the fourth quarter with the eighth tug to be completed shortly thereafter.

The final two tugs are scheduled for completion in the latter part of 2020.

The forecast cost increase on these vessels during the quarter was a result of lower than expected productivity from the use of a higher percentage of contract labor in our Jennings facility and the fact that our initiatives to improve productivity did not take full effect on the vessels that were already under construction at the time the initiatives were implemented.

One of the key initiatives was changes in personnel. Since the initial charges on the tugs in the fourth quarter 2018, we have replaced our facilities, yard operations and project management and enhanced our frontline supervision. We are also beginning to source what we believe to be more efficient contract labor.

We believe these personnel changes and improvements will have a positive impact on remaining vessels and specifically on later vessels, which will reap the full benefit of the changes, including lessons learned from the completion of previous vessels.

With respect to the other project in our Shipyard Division, we were impacted by deficient subcontracted production engineering that resulted in construction labor rework and schedule extension.

With production engineering at approximately 90% complete, future impacts on the project from engineering should be significantly reduced and the project is scheduled to be completed by year-end. The remaining backlog within our Shipyard Division performed well with a higher margin backlog mix.

With respect to our Fabrication Division, we made progress on the construction of projects in our backlog and continued to pursue significant modular fabrication opportunities, primarily in the petrochemical and LNG end-market.

Although the timing of the potential awards has continued to be delayed, we have not yet lost any key opportunities that we are pursuing. With respect to our Services Division, it once again produced a solid quarter, providing support for the offshore sector, along with municipal type work.

With respect to our pending litigation, the trial date for our previously completed jacket change order dispute is still scheduled for January 2020 with mediation scheduled for later this summer. As it relates to our MPSV dispute, a hearing on the customer's motion to take possession of the vessels was held and the customer's request was denied.

Accordingly, we retained possession of the vessels and continue to work through the legal process. With that, I will turn the call over to Wes, who will provide additional details of our results and segment breakdown.

Wes?.

Thanks Kirk, and good morning, everyone. I would now like to provide some additional details on our results for the quarter. Consolidated revenue for the second quarter 2019 was $80.5 million with a net loss of $5.2 million or a diluted loss per share of $0.34.

This compares to revenue for the first quarter 2019 of $67.6 million and net loss of $3 million or diluted loss per share of $0.20. This also compares to revenue for the second quarter 2018 of $54 million and net income of $549,000 or diluted income per share of $0.04.

Our increase in revenue for the quarter relative to both the trailing period and the same period of 2018 reflects an increase in activity across all our divisions.

With respect to our consolidated operating results, the loss for the second quarter 2019 was due to the partial under-recovery of our overhead costs associated with the underutilization of our facilities, charges of $2.3 million related to the previously referenced projects in our Shipyard Division, and legal and vessel holding costs associated with our MPSV and jacket change order disputes discussed in previous quarters.

Such legal and holding costs totaled approximately $1 million for the quarter.

With respect to the utilization of our facilities, while we realized improvement during the quarter, such improvement was not at the levels anticipated as construction activities in our large projects are just beginning to ramp up and should contribute to improved utilization by the end of the year.

The increase in operating loss for the quarter relative to the trailing period was due to the shipyard project charges, higher legal fees associated with our customer disputes and a lower margin backlog mix for our Services Division, offset partially by lower incentive compensation costs.

The operating loss for the quarter compared to the operating income for the same period of 2018 was due to the prior period benefiting by $6.6 million, primarily from gains on the sale of our Texas South Yard and insurance recoveries associated with our former South Texas properties.

Excluding these gains in the prior period, we realized a reduced loss in the current quarter relative to the prior year. The decreased loss was due to higher revenue, increased recoveries of overhead costs due to improved utilization of our facilities and lower incentive compensation, Board of Directors and legal costs.

These benefits were offset partially by the Shipyard project charges and a lower margin mix for our Fabrication and Services division. To provide a little more clarity regarding our quarterly operating results, let me provide some additional details by operating segment.

For our Fabrication division, revenue was $22.4 million for the quarter versus $12.6 million for the trailing quarter and $9.5 million for the comparable period of 2018.

Operating loss for the quarter was $1.2 million, compared to an operating loss of $1.5 million for the trailing quarter and operating income of $4.2 million for the same period of 2018.

The significant increase in revenue relative to both the trailing period and comparable period of 2018 was due to progress on our paddle wheel riverboat project and several smaller fabrication projects in backlog.

However, the increase versus the prior period was partially offset by the prior year including revenue for our module fabrication project that was completed in the second quarter 2018. With respect to operating results, the loss for the second quarter 2019 was largely due to the partial under-recovery of our overhead costs.

The decrease in operating loss relative to the trailing period was due to higher revenue, and the operating loss for the quarter, compared to operating income for the second quarter 2018, was due to the prior period benefiting by $6.6 million from the previously mentioned gains associated with our former South Texas properties.

Excluding these gains in the prior period, we realized a reduced loss in the current quarter relative to the prior year. The decrease in operating loss was due to higher revenue, increased recovery of our overhead costs and lower legal fees associated with our change-order dispute, as such costs are reflected within our Corporate division in 2019.

These benefits were partially offset by a lower margin backlog mix for the current quarter. For our Shipyard division, revenue was $37.6 million for the quarter versus $36.6 million for the trailing quarter and $23.6 million for the comparable period of 2018.

Operating loss for the quarter was $3.6 million compared to an operating loss of $904,000 for the trailing quarter and $3.4 million for the same period of 2018.

The slight increase in revenue relative to the trailing period and significant increase in revenue relative to the comparable period of 2018 was due to progress on our first two regional-class research vessels and our first towing salvage and rescue ship for the U.S. Navy.

These increases were offset partially by lower revenue for our harbor tug projects, and in the case of the prior period, revenue for an OSV project that was completed during 2018.

With respect to operating results, the loss for the second quarter 2019 was due to the partial under-recovery of our overhead costs, charges of $2.3 million associated with the previously referenced projects and vessel holding costs associated with our MPSV dispute.

The increase in operating loss for the quarter relative to the trailing period was due to the project charges and higher vessel holding costs.

The increase in operating loss for the quarter relative to the comparable period of 2018 was also due to the project charges, offset partially by higher revenue, increased recoveries of our overhead costs and a higher margin mix for the balance of our backlog.

For our Services division, revenue was $24.1 million for the quarter versus $19.6 million for the trailing quarter and $22.2 million for the comparable period of 2018.

Operating income for the quarter was $1.7 million or 7.2% of revenue, compared to operating income of $1.3 million or 6.6% of revenue for the trailing quarter and $2.8 million or 12.8% of revenue for the same period of 2018.

The increase in revenue relative to both the trailing period and comparable period of 2018 was due to the timing of new awards and materials representing a greater percentage of revenue. With respect to operating results, operating income for the second quarter 2019 was negatively impacted by the partial under-recovery of our overhead costs.

The increase in operating income for the quarter relative to the trailing period was due to higher recovery of our overhead costs, offset partially by a lower margin project mix.

The decrease in operating income for the quarter relative to the comparable period of 2018 was due to a lower margin project mix and reduced recoveries of our overhead costs, offset partially by lower general and administrative expense.

For our Corporate division, operating loss for the quarter was $2.3 million, compared to an operating loss of $2.1 million for the trailing quarter and $2.9 million for the same period of 2018.

The increase in operating loss for the quarter relative to the trailing period was due to higher legal costs associated with our customer disputes, offset partially by lower incentive compensation costs.

The decrease in operating loss for the quarter relative to the comparable period of 2018 was due to lower incentive compensation and Board of Directors’ cost, offset partially by higher legal fees due to changes in the classification of certain legal costs between our Corporate and Operating segments, and increased professional fees and other costs associated with the evaluation of strategic alternatives and initiatives to diversify and enhance our business.

Now let me provide a few comments regarding our income taxes, backlog and liquidity as of quarter end. Consistent with previous quarters, our tax expense for all periods reflects only state income taxes as we have not recorded any federal income tax benefit for our losses due to GAAP limitations on recognizing deferred tax assets.

As a reminder, although we have not recorded a tax benefit, we will receive a cash tax benefit on future taxable income. With respect to backlog, at June 30, 2019, our backlog totaled approximately $476 million, representing an increase of $142 million from March 2019 and an increase of $120 million from year-end 2018.

Our quarter-end backlog by operating segment was $410 million for our Shipyard division, $54 million for our Fabrication division and $13 million for our Services Division. As mentioned by Kirk, our backlog excludes the Texas ferry project awarded last week and excludes customer options on contracts for the U.S.

Navy, which if exercised would increase our backlog by an additional $333 million. With respect to our liquidity, we ended the quarter with cash and short-term investments of $76 million, an increase of $5.7 million from March 2019, and a decrease of $3.2 million from year end 2018.

The increase in cash compared to the first quarter of 2019 was due to a decrease in working capital during the quarter, primarily associated with advanced payments on projects in our Shipyard division.

We anticipate ongoing quarterly variability in our project working capital requirements, including a potential increase in working capital during the third quarter.

With respect to our overall liquidity, and as discussed on our previous call, in May we amended our $40 million credit facility to extend its maturity to June 2021, and at quarter-end, we had $10.7 million of outstanding letters of credit and no borrowings on the facility, providing $29.3 million of availability for additional letters of credit or borrowings.

As a result of the aforementioned, we continue to have a very healthy liquidity position with total cash, investments and availability under our credit facility of approximately $105 million at June 30, 2019.

As a reminder, this current liquidity excludes any potential proceeds from the sale of machinery and equipment totaling $18.7 million that remains held-for-sale at quarter-end and is being actively marketed for sale. So with that, let me now turn the call back over to Kirk for final comments..

With the addition of the OSU and Navy T-ATS options, we have our highest quarter-end backlog since 2012. We are also encouraged by the level of bidding activity during the quarter as it relates to opportunities for our Fabrication division.

While award timing is always uncertain and there are no guarantees that we will be successful in our pursuits, based on the status of our proposals and customer feedback, I remain increasingly optimistic.

However, we are always aware of the risk versus reward equation as it relates to taking on new work and we will not assume any undue risks just to add new awards to our backlog.

Lastly, while we are confident in our strategic plan and the growth opportunities available to the company, as stated last quarter, our Special Committee has initiated a process to conduct a thorough evaluation of all options reasonably available to the company to enhance shareholder value.

This process is ongoing and we do not intend to publicly discuss, nor disclose further developments of the review unless and until our Board has approved a specific course of action or we have otherwise determined that further disclosure is appropriate. Cassidy, you may now open the line for questions..

Thank you. [Operator Instructions] The first question comes from Mart Malloy with Johnson Rice and Company..

Good morning..

Good morning, Marty..

Last two quarters, you've been pretty close to becoming EBITDA-positive and with the revenues increasing, utilization increasing and the backlog providing visibility on further revenue increases, I mean, can you help us maybe understand what you are thinking about in terms of when you might turn EBITDA-positive here? Is it possible during the second half of this year?.

Yes, Marty, this is Wes. Absolutely, that's what our expectation is at this point, it’s that by the back half of the year, and in the fourth quarter in particular that we would be EBITDA-positive..

Okay. And then, just with respect to the Oregon State University vessels and the U.S.

Navy vessels, could you may be comment about where you are in terms of engineering? And maybe how confident that you are that you've got sufficient – you’ve had sufficient time to make sure the engineering is complete before you begin the vessels construction?.

Sure, Marty. This is Kirk. So as we said in our previous calls, we did have a delay in the startup of the first OSU vessel and it was due to two factors. One was the vessel increased in size due to the amount of equipment that went into the facilities and two was, the amount of engineering that's going into it.

So, again, I think that from an Oregon State University standpoint, the engineering is far ahead of the production aspect of it. Again, we slowed production down in the first quarter of this year and we are just starting ramping up as a result – as a result of the engineering that is ongoing as we speak.

As it relates to T-ATS, the same processes we are going through. We are performing engineering as we speak. Construction should begin to ramp up during this third quarter of this year. Again, during the timeframe when the protest was actually being done, engineering was continuing on, on the T-ATS program.

Again, so I thought that was, in some respect, it gave engineering a little more time to proceed as opposed to just trying to get started on production standpoint.

Again, I know it pushed our utilization of the facilities down with moving those man hours into the third and fourth quarter and as Wes said earlier, that's why we think we are more confident as we get in the latter part of the year and our hours start continued to increase that utilization will be taken care of..

Great. Thank you..

Thank you, Marty..

Our next question comes from JP Geygan of Global Value Investment Corp..

Hey, good morning and thank you for taking my question. You've done a very nice job increasing your backlog. However, low margins and problems with executing on existing projects has been a persistent impediment to profitability and as Marty mentioned, it looks like you are just about to turn EBITDA-positive, which is a good thing.

But I am hoping that you might elaborate on the margins in your backlog relative to the margins that you realize this quarter? And Kirk, I know you briefly alluded to that by saying you had a higher margin backlog mix, as well as elaborate on what's being done to improve execution?.

Okay. Go ahead, Wes..

Thanks for the question. Yes, when you think about margins for the quarter, we have talked in the past about lower margin backlog. But for the quarter in particular, the project charges obviously were the challenge. Absent those were, it really is more of a volume issue for us right now in terms of getting to that EBITDA-positive.

I hate to use the old, but for or absent comment, but absent the charges in the quarter, we would have been very close to EBITDA-neutral.

So, even with the lower margin work, JP, as the volume starts to kick in, we should find ourselves, as long as we execute the way we think we can, finding ourselves in that positive EBITDA land in the third and fourth – potentially in the third quarter and in particular, the fourth quarter..

And JP, I'll address the productivity issues. As I said in my opening statements, we have made – a mass majority of the changes we made have been in the Jennings location all the way from the facilities operator, all the way down to the frontline supervision.

The changes we made were really just getting implemented on the vessels that had or that were 50% and below in terms of completion. Some of the vessels were too far along in terms of some of the changes we made to have a significant impact on the vessels. So I think that's what you are seeing here.

We got new management in there that we are able to implement the new plans. And that we began to see some stabilization within those projects. Again, the challenge quite frankly is the contract labor situation in that facilities. There is a lot of pressure from the Lake Charles locations with the petrochemical boom that's happening.

So we are going through a different process in terms of value weight and subcontracted labor when it gets into facilities. All those have been implemented and we expect to see those changes result in a positive direction as we process boats five through ten..

You've talked about underutilization of your facilities since really it seems like the oil and gas downturn. You now have the largest backlog you've had since 2012. I think backlog needs to be viewed through the lens of margin included in that backlog.

But do you feel that you have the volume and the margin in your backlog right now to increase facility utilization and become EBITDA-positive on a consistent basis?.

Yes, the short answer to that is, yes. The longer answer is, as you think about each division, in the Shipyard division where the lion share of our backlog resides, we were EBITDA positive in the first quarter and again, absent the project impacts would have been so in the second quarter.

So, from a Shipyard perspective, even though we haven't seen the full ramp up that we had been anticipating just because of the timing of the – of when construction activities commence, we are continuing to see improvement there. The bigger challenge is on the fabrication side right now.

And, although we have added to our backlog, we are dependent on to a degree on some of this new work that we are chasing and we've seen some slippage in terms of timing. But over the – I think the answer to your question is, we do believe there is a point here where we can continuously be EBITDA-positive.

And at some point in the near-term, once we sell some of this fab work that we are chasing or if we are successful in winning some of this fab work we are chasing, then get to a full utilization on our facilities as a whole..

Yes. And JP, one follow-on comment on that, I guess, for all the listeners. We announced that we had gotten the Texas ferry and we had said in previous calls that we were going to get our margins up. I am happy to report the margin on that project in particular is higher than what we've seen traditionally in the shipyard world.

So, as Wes said, we are pursuing projects that have a little bit higher margins. Again, no guarantee at the end of the day and we do final negotiations of those margins hold, but we are processing additional shipyard work in particular, at higher margins than we have in the past..

Okay. You've talked about the petrochemical or LNG renaissance along the Gulf Coast for the better part of the past year and I’d agree that there is a notably higher level of activity.

When should we expect to see awards? And what might the economic characteristics of some of those awards look like?.

Well, the awards, again, what we've been bidding and again, there is no guarantee that, when we process our bids and submit them to our customers, customers are giving us potential start dates. And we were at their mercy quite frankly in terms of when the project actually gets kicked off.

But the ones that we've been chasing, and I'd say the kickoff should happen in the first part of next year. Project awards – we’re hoping to have project awards within the third or fourth quarter of this year. Again, but no guarantees as they continue to do negotiations and refresh on pricing and what not..

Okay. And one final question. I realize that you've said you're not going to comment publicly on your strategic alternatives process.

But does this process have an indefinite life? Or at some point, will this be concluded and you'll say, definitively, we decided to do something or we decided to not to do anything?.

Well, I can't speak on behalf of the Special Committee. But I think that we are all in tune as to – we're going to see what's out there, see what the processes needs are there for us and what opportunities. But I don't think it's a lifelong type exercise. We are going to come to some definitive conclusions before year-end is my hope..

Okay. Thank you for your time..

Okay, JP. Thank you for the questions..

[Operator Instructions] And next question comes from John Deysher of Pinnacle..

Good morning everyone..

Good morning, John..

It sounds you are making good progress, Kirk. I was just curious, I want to make sure, I have a handle on the total amount of the non-recurring charges. You called out $2.3 million of Shipyard, and another $1 million of legal and holdings, which come to $3.3 million.

Is that the total of the non-recurring charges embedded in the quarter?.

This is Wes. About half. I would tell you about half of that legal and holding cost. At this point, I wouldn’t necessarily deem as non-recurring. I don't think it's permanent, but we may see some of that and have seen some of that over the last 18 months. But about half of that is what I call, truly non-recurring.

And then, the $2.3 million of charges, yes, that is the totality of the non-recurring project charges..

Okay. And that $2.3 million shipyard versus with respect to two projects, one of which was the tugs you highlighted.

What was the other project that was problematic?.

Yes, that's the icebreaker tug that we anticipate will be completed by the end of the year..

Okay. All right.

So that’s – and the changes that you've made, you are confident that these issues will not crop up in the future?.

Well, John, there is no guarantee, but certainly, we believe that we've taken the right steps to mitigate any future risk. The contract labor issue that exists today, we really can't control that other than trying to make sure we got the proper folks in place when we hire contract labor.

But from a management standpoint, I am very confident with the management staff that we have currently within that facilities, there is a lot of years of experience dealing with this type of processes.

Again, we've seen most of the changes they have made have a positive impact, in particular, in the last – the latter part of the quarter for this quarter and I expect those changes continue on as we process the projects and as Wes said, we've delivered four vessels, the fifth vessel will be delivered at the end of this month.

So, we will be halfway through the process by the end of this month..

Okay. Got you.

And back to the $1 million of legal and holding costs, and you said one half is non-recurring, I presume that's the holding costs related to the MPSVs?.

There is an element of that. It's a combination of the two. We do have some holding costs that just are ongoing but we did have incremental holding costs this quarter in support of our litigation activities.

Does that answer your question?.

Sort of. What is the holding cost per quarter or per month on the MPSVs? I think you've called that out in the past but I don’t recall..

Well, we did not really talk about – we prefer not to call that out in isolation. But the cost, it's hundreds of thousands, low hundreds of thousands per quarter, not $0.5 million per quarter, put it that way..

Okay.

And that $1 million ran through gross profit or was that part of SG&A?.

A little bit of both. Our legal costs go through G&A and our holding costs go through gross profit..

And roughly, what's the breakdown of that?.

50-50. It's pretty good. Pretty close, order of magnitude..

Okay. All right.

So, the majority of it went through gross profit as did the $2.3 million in Shipyard?.

That's right..

Okay. Fair enough. You mentioned working capital - possible working capital increase in the third quarter.

How much do you think that's going to go up by?.

Well, I hate to guide to a specific number, just because we don't provide that.

But listen, I wouldn't – the nature of this business is such that we are going to have working capital variability on a quarterly basis and I would tell you don't get overly exuberant when we generate cash from working capital like we did this quarter and you shouldn't get overly concerned when we consume working capital in a given quarter.

We are not – our working capital stands at about $4 million to $5 million this quarter. So it's fairly low. I think that we talked about the potential to be able to run this business over the longer-term at breakeven working capital. I don't think we are there yet in terms of this backlog mix and the competitive nature of how some of this work was bid.

So I think we're doing a decent job of managing that. But we are going to continue to have some fluidity there. So, if we use some working capital in the back half of the year, we may get it back in the first half of the year. So, what is that target number? Again, zero at some point. Not there yet.

But don't let the quarter in, quarter out variability here of $5 million or even $10 million scare you too much or worry you too much. But I know I didn't answer your question specifically and you are trying to get a sense for that usage would be. But we just typically don't provide that type of guidance..

I understand. And finally, on the legal front, you still have the Hornbeck vessels in your care. What's the status of that? I mean, there has been a suit and a countersuit.

How long should we anticipate that this is going to drag on, because obviously you've got money tied up in those vessels and kind of what’s your thinking there?.

Well, John, again, I can't give you too much of guidance in that respect. We are at the mercy of the courts quite frankly. We have not set the trial date yet. We always are in discussions with the bonding company, and are hopeful that there may be some resolution on it going forward. But there has been no talks to this point coming with a resolution.

So, again, I don't know I can give you specific guidance on it, because quite frankly, I really don't know. Right now, we are in discovery period with all these suits that have been filed. I think as we progress along, maybe we can give you little more guidance and update. But, right now, there is nothing to provide..

Okay. That's fair. And on the Walker trial it has been pushed back again to January 2020 from I think this month August of 2018. This has been ongoing for several years.

Why should we believe that it's actually going to go to trial in 2020?.

Well, you are right. But I think the dates may be off. I think the original trial date was sometimes in the second half of the first quarter or second quarter. But we have discover – mediation as we said, mediation is set for the end of this month. But the trial date has been pushed by the judge, not us. There was a case that got in front of us.

The judge requested or told us quite frankly, that he was moving our trial date to the first part of January. But in the motion that was made with the judge, he said that he would not move the date any further now. Take that for what it’s worth.

We are planning to have that court date and I think the date is January 13th of next year or mediation at the end of this month..

Okay.

And mediation, does that imply that a settlement could be made by the end of this month? Or what exactly does that involve?.

Well, I think it's non-binding. So it's at least an attempt to get the parties together to discuss. I don't think we can give you any assurance that there will be any agreement made at that mediation. So, we will see. It's an effort on both parties part to try and get this thing resolved as quickly as possible.

But again, there is no guarantee what the outcome may be. We may just end up agree and then disagree and let it head to trial on January 13, 2020..

Okay. It’s a step in the right direction.

What’s the date for the mediation, Kirk?.

That's at the end of August, is August 26..

All right. Thank you very much..

All right, John..

At this time, I would like to turn the conference back over to Ms. Cindi Cook for any additional comments..

Hey, so this is Kirk. We thank you for joining us this morning and your interest in Gulf Island. And we'll speak to everyone next quarter. Thank you..

Thank you, ladies and gentlemen. This concludes today’s teleconference. You may now disconnect..