Dan L. Batrack - Tetra Tech, Inc. Steven M. Burdick - Tetra Tech, Inc..

Sean D. Eastman - KeyBanc Capital Markets, Inc. Robert Joseph Burleson - Canaccord Genuity, Inc. Noelle Christine Dilts - Stifel, Nicolaus & Co., Inc..

Good morning and thank you for joining the Tetra Tech Earnings Call. And, by now, you should have received a copy of the press release. If you have not, please contact the company's corporate office at 626-351-4664. With us today from management are Dan Batrack, Chairman and Chief Executive Officer, and Steve Burdick, Chief Financial Officer.

They will provide a brief overview of the results and will then open up the call for questions. During the course of the conference call, Tetra Tech management may make forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

These include statements concerning future events and Tetra Tech's future financial performance. The statements are only predictions and may differ materially from actual future events or results.

Tetra Tech's Form 10-K and 10-Q reports to the Security and Exchange Commission identify certain risk factors that could cause actual results to differ materially from the forward-looking statements. Tetra Tech undertakes no duty to update forward-looking statements.

In addition, since management will be presenting some non-GAAP financial measures as references, the appropriate GAAP financial reconciliations are posted in the Investor Relations section of Tetra Tech's website. At this time, I would like to inform you that all participants are in a listen-only mode.

At the request of the company, we will open the conference up for questions and answers after the presentation. With that, I would now like to turn the call over to Dan Batrack. Please go ahead, Mr. Batrack..

Thank you very much, Regina, and good morning, and welcome to our fourth quarter and fiscal year 2017 earnings conference call.

We had an excellent fourth quarter and close to our 2017 fiscal year; with rapidly growing opportunities in water and environmental projects and a record high backlog, we're entering 2018 fiscal year in a stronger position than ever before.

Now, I'll begin today's call with an overview of our quarterly and annual results and I will follow later in the call with the business outlook, while Steve Burdick, our Chief Financial Officer will provide additional details on our financial performance and our capital allocation.

We had an excellent fourth quarter and record highs for revenue, operating income and earnings per share. For our fourth quarter, our revenue from ongoing operations was $729 million, up 10% from the prior year.

Our net revenue was $533 million, up 9% from the prior year, which generated an operating income of $57 million, which was up 18% year-over-year. $57 million in operating income resulted in a diluted earnings per share of $0.63 for the quarter, which is up 15% year-over-year.

And finally, our backlog or look into the future work for us was up 8% year-over-year at $2.536 billion; the highest in the 51-year history of the company. I'd now like to provide an overview of our customer performance. Our record fourth quarter performance was led by strong growth across end-markets, especially for our U.S.

state and local and our U.S. federal work. State and local revenues were very strong this quarter with an organic net revenue growth of 30% year-over-year.

This growth was a direct result of the work in the high growth areas of the states of California, Texas and Florida, where we're performing water infrastructure work and where we even started performing emergency planning and recovery services in the mid to late September period, which was very near the end of our fourth quarter. For our U.S.

federal clients, which represented about 30% of our net revenue in the quarter, we had grown that by 14% year-over-year; growth in our U.S. federal work was driven by strong year-over-year growth in our Department of Defense and our international development work. Our U.S. commercial work was also up, it was up 10% year-over-year for revenue.

Growth in the industrial, environmental remediation and design services was partially offset by lower revenues in the United States from a reduction in our U.S. oil and gas work. And finally, our international revenue was up 8% year-over-year.

Our Canadian revenue increased as we converted backlog from recently awarded contracts for engineering and infrastructure design projects. I'd now like to present our performance by segment, and I'd like to note our fastest-growing segment was also our highest margin segment in the quarter. It's nice when those two can come together.

The WEI business group had an excellent 17.8% margin in the fourth quarter while growing its net revenue at 17% and total revenue by 13% year-over-year.

Particularly noteworthy is that the WEI's almost 18% margin in the quarter was not driven by a single large project pickup or any one-time event, but rather by a broad-based increase in labor utilization and just plain excellent execution of the projects.

The RME business group's revenue was up 7% and net revenue was up 4% with a 9.5% sic [9.2%] margin, which was in line with our expectations for the quarter. Although RME had strong growth in international development and Department of State work, this was partially offset by continued reduction of oil and gas work, particularly in Canada.

I will say that in the quarter, we did take proactive steps to right-size our oil and gas and energy operations. And without these charges, RME's margins would have been about the same as they were last year or approximately 10.5% for the fourth quarter.

For the full fiscal year of 2017, our ongoing operations also achieved new record highs for us in revenue, net revenue, operating income and diluted earnings per share. Tetra Tech's full year of revenue was $2.735 billion, which is up 10% from the prior year.

Net revenue was $2.034 billion, an all-time high record for us, which is up 8% compared to last year. And operating income for the full year was $191 million, up 15% from the prior year, which generated a diluted earnings per share of $2.13 or up 16% percent from last year – the first time that as a company we exceeded $2 per share EPS.

Our total backlog as we began fiscal year 2018, is now over $2.5 billion, a record high for us and our seventh sequential quarterly increase.

As you can see from the slide, if you're following along on the webcast, our fourth quarter was good for both contract wins and new orders and we added more than a $1.5 billion orders in new contract capacities. The federal government clients driving this primarily with the U.S.

Army Corps of Engineers, Federal Aviation Administration, Department of State, USAID and the U.S. EPA. And notably in the quarter, we were awarded six major contracts that totaled $644 million, which were single-award contracts. This is where we don't actually have to compete individual task orders, we can go to direct negotiation.

Several of these single-award contracts have already begun booking their first orders, such as the recently awarded contracts with the Federal Aviation Administration and USAID.

And I would like to note here that Tetra Tech continues to use the strictest criteria in the entire industry for tracking and reporting our backlog, which is only to add projects to our backlog where we're been awarded the contract, it's received its funding and we're authorized to begin doing the work right now.

At this point of the presentation, I'd now like to turn the time over to Steve Burdick to present the details of our financials both for the quarter and the year.

Steve?.

Okay. Thank you, Dan. So for those following along in the webcast, you can find a full reconciliation of our GAAP results which are presented on this slide to our ongoing results which Dan addressed previously in our fourth quarter earnings press release. So now turning to our financial results for the quarter.

As Dan just highlighted revenue, operating income, and EPS for the fourth quarter 2017 were the highest quarter ever in Tetra Tech's 50-year plus history. In addition, net revenue was $534 million and ongoing earnings per share of $0.63 both exceeded our guidance ranges for the quarter.

It's important to keep in mind that not only have our financial metrics improved, but so has the quality of the work we performed. So our continued focus on front-end differentiated consulting and engineering work has resulted in improved margins for Tetra Tech as well as a decreased risk profile for our overall business.

As a result, our fourth quarter income and earnings per share increased double-digits over last year. So on a GAAP basis, operating income was $54.6 million and our EPS was $0.60. I'd now like to review a few key cash flow metrics for the quarter.

So for the fourth quarter, cash flow from operations remained healthy and totaled $66 million, which is up 27% year-over-year. Due to the strong cash flow, our net debt declined year-over-year and totaled $167 million at the end of the quarter.

Not only did our net debt decline, but our leverage ratio of net debt to EBITDA has also remained $167 million at the end of the quarter. Not only did our net debt decline, but our leverage ratio of net debt to EBITDA has also remained the lower target range of one to two times.

And as a result of this low leverage ratio, we continue to have the ability to invest in organic growth as well as acquisitions while still having sufficient capital to deliver returns to our shareholders. Lastly, our days sales outstanding was 83.1 days for the fourth quarter.

By focusing on front-end consulting and engineering work, we have been able to lower our DSO. We remain committed to a DSO target of less than 75 days and we'll continue to work towards this goal in fiscal 2018.

While our strong financial results are certainly of utmost importance – it's these results, in a combination of Tetra Tech's differentiated business model that's enabled us to consistently deliver industry-leading results. Our focus on Leading with Science has resulted in improved margins for the company.

In fact, our EBITDA margins increased 70 basis points in 2017, as compared to the previous fiscal year. In addition, our cash flow position remains very strong, while our CapEx requirements remain low. We've continued to generate free cash flow in excess of our net income for the year.

And due to our exit from fixed price low-bid construction work, our capital expenditure requirements have declined significantly over the past three years, and with this lower CapEx comes a stronger free cash flow. So for 2017, our CapEx totaled approximately $10 million or about 0.4% of our revenue.

Whereas historically, our CapEx has equated to roughly 1% of our total revenue. Ultimately, our strong free cash flow provides us with sufficient capital to return that to shareholders through buybacks and dividend. For the fiscal year, we paid out $22 million in dividend and bought back $100 million in stock.

As a result, for the year, we returned over 90% of our free cash flow to our shareholders. And just this week, our board of directors approved our 15th consecutive dividend to be paid in December.

So delivering significant return to our shareholders remains a key part of our balanced capital allocation strategy and we continued to provide strong return to our shareholders in the forms of buybacks and dividends through 2018. So I want to thank you for your time today and I'll now hand the call back to Dan..

We anticipate $17 million of intangible amortization during the year which would represent a $0.20 non-cash charge that's included in this guidance.

We anticipate a 32% effective tax rate, we anticipate approximately 57 million shares outstanding of stock, and as in past years, we have not included contribution of acquisitions that would be completed during the year. As they are announced, announced, we will provide updates to our guidance in the following quarter's investor conference call.

In summary, we had an excellent fourth quarter with record revenue, income and earnings per share. Our backlog reached an all-time high with the highest quality of book of business that we have in the history of the company.

Our focus on high-end consulting and engineering services consistent with our company's Leading with Science approach is resulting in new opportunities that we've never seen before, just as we're entering 2018. And in closing, I'm very pleased with how we completed the fiscal year.

We have excellent visibility and our growth markets are very well aligned with today's market drivers in water, environment and infrastructure and the very core of the company. And at this point, I'd like to open up the call for questions.

Regina?.

The question and answer session will begin now. Our first question comes from the line of Sean Eastman with KeyBanc Capital Markets. Please go ahead..

Hi, team, nice quarter. I just wanted to start on the backlog trajectory.

Would it be fair to say that the number we see here at the end of fiscal 4Q is somewhat understated, just given the notable contract capacity you guys added during the quarter? And is it reasonable to assume that the sequential increases in backlog will continue for the next few quarters?.

Well, thank you very much, Sean, and thanks for joining us today. We think we had a very good fourth quarter. The backlog had a better than 1.0 book-to-bill. Our – well, our backlog grew 8% year-over-year. Our contract capacity as you've noted actually grew at even a faster rate, so our contract capacity did grow at a double-digit rate.

So as those two typically do move in tandem, it would give an indication that our backlog should grow a bit quicker as we convert our contract capacity to backlog. But I will say that we feel pretty good with the largest revenue incurred in any single quarter in the history of the company.

We still replaced all of that work and grew the backlog even further. So I think they have a greater than book-to-bill in a quarter where we had really been an outsized revenue than even our own guidance we still feel pretty good about. But we do expect our backlog will continue to grow as we move into 2018..

And it seems like the visibility is pretty solid in backlog in terms of being able to achieve this initial guidance you have set forth.

I was just wondering is there any areas where you might need to see a pickup in awards in the near-term to hit those growth targets?.

No, I don't like to use the word conservative because this is our best estimate for the ranges that we anticipate, both for the first quarter and for the year. But I will say if you take a look at what we've been performing for example in state and local.

We had recognized more than 20% organic growth rate over the 2017 timeframe and we have moved this down to 10% to 15%. So I just felt that coming in and forecasting a greater than 20% organic was being aggressive, but the reality is we have achieved those numbers and in fact 30% this last quarter, so I don't believe that we need any upside there.

And in fact we've included very little contribution from oil and gas in Canada at all, and we actually have assumed even a reduction in the U.S. on oil and gas. So any type of incremental move that would be positive, I think would be incrementally up with respect to our guidance.

That's also true with the mining where we've seen contributions, so we've tried to be prudent as we move into the first quarter. It would give us an opportunity to update it quarterly as we go and as we actually see bookings and performance.

But no, I don't think there's anything that we need to see as a particular – a special award or success in order to achieve this guidance at this time..

Okay. And on the state and local side, you mentioned you're building in a bit more conservative growth rate for this year versus what you achieved in fiscal 2017. But you know it's still a pretty impressive number to be targeting.

So I'm just wondering if there's any incremental drivers for state and local this year or whether it's kind of more of the same? And I was also curious on whether you've seen growth rates like this in this end-market in previous cycles in your experience?.

That's a good question, Sean. We – there isn't a particular single driver, it's really been very broad; I identified California, Texas and Florida but I don't want to be dismissive at all and other states are major contributors. We've actually done quite well and have a building business in the State of Washington, New York.

States of Michigan and the Upper Midwest have actually been nice drivers for us and even in places like Oklahoma, we've had some nice wins. I will say there's been – not everyone in this market has seen the same upside.

But our clients have actually been investing and doing studies on very high end, new innovative water treatment supply, water reuse, new management techniques and tools that have actually moved their spending closer in alignment to what we've been doing for decades.

So I'd say this moved substantially away from run of the mill work and has moved itself to very high-end work, which has moved it to our marketplace and we feel it's really moving toward – the market's sort of moving toward us or where we've been.

So, no, I don't think it's been any one thing, and there are upsides that I think can be – could provide a material opportunity for our performance across the company. And some of those areas are in disaster response that I had mentioned.

We saw a little bit of contribution at the very end of September, which helped drive a 30% year-over-year growth rate for the quarter.

But I'll tell you as these move forward and they move toward long-term resilient design and actually evaluation of shoreline protection from barrier islands to drainage systems to all these other items, we think that that could be a material upside that's not been included in our guidance currently..

Thanks for the helpful responses..

Great. Thank you, Sean..

Your next question comes from the line of Bobby Burleson with Canaccord. Please go ahead..

Hey, good morning and congratulations on a nice quarter..

Thank you, Bobby..

I'm curious about the long-term kind of resilient design in terms of the disaster recovery in preventing disasters. Back, I guess, several years ago or more, after Katrina, you guys had a $20 million plus design project for a floodwall.

I'm curious what kind of, at the early stages here, long-term preventative design work is being discussed in the Houston area?.

Well, you know, it's just starting. I would – if you follow along on the webcast and I know you certainly can access from our website, if you went back to page 16.

We look at the emergency planning and recovery in three distinct phases and we see – essentially from the event, we see from the first year, essentially beginning at about a month, the first 30 days is roughly emergency response; picking people up, getting the power turned back on, that's construction and that's not our business.

But starting at about a month to a year, monitoring and environmental response, going out and actually determining what's there, doing an initial assessment of what's even present and doing monitoring and expedited response. And these types of work are a $10 million to $100 million sort of addressable market.

We think we can actually have a sizable part of it.

These things thing go out and in the instance of Superstorm Sandy, we're just doing work now on resilient design work with respect to moving up critical infrastructures that have electrical power or are otherwise critical to above or otherwise hardening them, setting up different flood protection areas.

We did, and actually a number of the design turned out to be substantially greater than $20 million, that number turned out to be between $50 million and $100 million for the largest barrier protection wall in the United States and the largest Army Corps of Engineer civil project ever undertaken.

And that type of work will be discussed in more detail along the Gulf Coast and the Florida Coast, the Southeast, but that probably won't happen for about a year where you'll actually go through the alternatives and evaluation. Currently it's how do you identify the rapid recovery.

How do you actually monitor the debris removal and how can you begin initiating the feasibility studies and evaluation of alternatives. And so, we do think that this could be individual projects for us out a year or two or three.

We start sort of in year two through 10, where they could represent tens of millions of dollars for just the design component. But we think between now and then working for 30, 40, 50 different cities and counties on smaller projects, it could actually be quite substantial. So I would take you to the Phase 1, 2, 3.

This is actually what we have experienced and we're quite busy in the first phase of this right now. And for us, I do want to make one point, Bobby – this isn't we're hoping to compete for, this isn't hoping we're to be included.

We are on the ground, contracts in place, already awarded and we have had an existing $30 million a year practice for literally 100 different cities and counties across the country where we've been doing the emergency preparedness planning such that when these events take place, we can go to work immediately and that's what we've done..

Okay. Fantastic. And then in terms of the U.S. commercial, it sounds like a good outlook for the ex oil and gas parts of the business.

I'm wondering with oil and gas, yeah you've got nice decline built in to your 2018 expectations, what are you seeing in the permitting environment these days in terms of how that could drive work for you next year? Are you being exceptionally conservative? Do you think you're there at this point, given it seems like the backlog of projects is now starting to move through the permitting process fairly rapidly here in the U.S.?.

Well, we have seen – I would say we've seen a steady flow of front-end consulting projects that includes permitting and I would say it's steady. We haven't said, by any means, that our U.S. business has gone away in oil and gas.

We've just said that the amount of work that we've seen go to design and actually any type of design and actually any type of field oversight has declined significantly.

We are not making the assumption that design and permitting work is directly a indicator that it is going to go to – that the permitting is going to go to design and/or implementation.

If that happens, we're prepared to move quite quickly, but we've not included any of that flow-through or pull-through from the front-end permitting work that we're doing. I have heard from peers in the marketplace, I've even heard from our own individuals that that is what's going to happen and when it happens, we'll make a move.

But I'll point to what we did in the fourth quarter. We took substantial charges and actually adjusted our staff and resources to be reflective of the work that we have in hand. It's just the nature of how we do it. We don't hold resources through downturns waiting for the markets to come back.

I'd rather be a little bit late in responding to a market that really exists than to be too early and actually hold these costs and resources through a downturn that's uncertain when it's going to come back.

So if it comes back, if we do see the upside, it is an incremental upside and could be substantial and certainly would cause us to be at the high end of our range or even cause us to adjust our ranges up and we'll do that when we see the work come through. We still are very close with our clients. We're still working with them.

We've not exited any of the markets, but we are adjusting our staff and reflecting our forecast based on what we have in hand..

And I'm assuming if that work does flow-through, there's nothing that's changed there but the margin profile is still some of your highest margin work, correct?.

Yeah, absolutely. Absolutely, Bobby..

Thank you..

Thanks, Bobby..

And our next question comes from the line of Noelle Dilts with Stifel. Please go ahead..

Thanks again and congratulations on a nice quarter. So I just wanted to dig into margins a little bit more, particularly given that strong 17.8% margin you saw in WEI in the quarter.

So I guess, my first question would be, how do we think about with the new segments, GSG and CIG? How do we think about the margin profile of those two businesses moving forward, given this strong fourth quarter margin that you saw? And just some general thoughts there on 2018..

So I think what we see in there and we've included this on our website for you – the analysts to take a look at is, the – first of all, the revenue and the net revenue is a bit more evenly dispersed between the two groups in terms of our GSG and CIG.

And the margins are still relatively a little healthier on the GSG side even with the realignment, and that's – and some of that is due to like we've been talking for the last year so, the lower margins on the oil and gas and some of the commodity areas that are still below where they have been. And so that's how we see the overall two groups..

Yeah, Noelle. So I'll add some quantification to that. So in 2017, for the year, we saw 13.9% for WEI. Most – the Water, Environment & Infrastructure business or reporting segment, was about 75% government, so we've just taken that in and moved it to 90%, 95%. We re-casted this in the materials that we posted on our website.

So if you re-cast it 2017 as Government Services Group 2017 with the pieces moving, on a pro forma basis it would have been 13%. So some of that work had moved over. So you would have seen that number come down from 39% down to 13% and Army from 9.4% to 9.3% that would be essentially very similar, if not the same.

So that's the – that's what a realignment would look like, and we will include both re-casted numbers in our future filings so you can see exactly what that would model like with our historical segmentation to what we now have reported..

Okay. So I guess my question is also how do we think about the margins that you guys are assuming in your 2018 guidance; either kind of under the old methodology or the new segments, and I mean just given this very strong WEI margin in the fourth quarter, I think it probably exceeds levels that most folks were looking for.

I mean is this – do you see this level as sustainable? Is it how we should think about the business moving forward with obviously some seasonal sort of changes, but could you just give us some thoughts there?.

Yeah. I think – I think so. I think that while I'm very happy at a 17.8%. Last year, they were quite high too.

They were up around 16% and I know one of the line of questioning is that 12 months ago on this call is, wow, your WEI business is up at 16% – is that sustainable? And I believe my comment was this is not unusual and we're not hitting on all cylinders and I'll say that again now – things have gone well, but we are not hitting on all cylinders.

We can perform at this rate and I think we can actually perform at a better rate. Most certainly in our Commercial/International because of the headwinds with the commodity prices.

But I would say even – even in our government work, we can do better because we did see a flat or even a slightly declining revenue in a component of our federal work and that would be in our civilian work.

So FAA was down through the re-procurement cycle, EPA was down as part of the administration change but we can do better as our revenues pick up in those areas. So, will we hit 17.8% next year with the fourth quarter which is our strongest? It certainly is achievable and I think if everything went well, it could even be eclipsed..

Okay. Great.

And then could you just give us an update on how things are progressing at Coffey and kind of in that region overall?.

Yeah, Coffey, we're very happy.

We've – Coffey when they first joined us, we, of course, we think about it here in Tetra Tech as really two components; it's international development work which is the work they do at USAID, UK Aid and Australian Aid and those have joined – co-joined our existing international development practice and they have actually exceeded our expectation, emerge (42:00) and has worked quite well and so they've come in at well better than 10% and we have gone back for our own evaluation to take a look at how that transaction has contributed to the company.

And I will say and I'm very glad to report that our goal was to get them within their first full year of the company to be the 10% margin on net revenue and they actually exceeded that. And so I would say that's gone quite well.

The portion that actually exists within Australia proper and I call the Asia-Pacific region, because it's New Zealand, Australia and the surrounding areas which has been largely tied when they joined us to the commodity markets where mining has, I would call it, stabilized and we're actually looking for it to begin increasing as we've added environmental and municipal work which has actually worked for us.

And so, collectively though, it has actually met every one of the expectations that we anticipated and it was over 10% in 2017..

Perfect. Thanks..

Thank you, Noelle..

This will conclude the Q&A session. I will now turn the conference back over to Dan Batrack to conclude..

Well, I want to thank every one of you for your questions and your interest, and for attending this call. We're really glad to be starting 2018. We're about six weeks into it.

We're off to a good start and I really look forward to reporting back to you at the end of our first quarter, and giving you an update of how we've started 2018 and updating our forecast for the rest of the year. And thank you very much for being supportive of the company and I'll talk to you next quarter. Thank you..

Ladies and gentlemen, this concludes our conference for today. Thank you all for participating and have a nice day. All parties may disconnect now..