Kate Lowrey - Director, IR Vic Richey - Chairman & CEO Gary Muenster - VP & CFO.

Jon Tanwanteng - CJS Securities Liam Burke - FBR Capital Ethan Potasnick - Needham Sean Nicholson - SBH.

Good day ladies and gentlemen, and welcome to the ESCO Q3 2017 Conference Call. Today’s call is being recorded. With us today is Vic Richey, Chairman and CEO; Gary Muenster, Vice President and CFO. And now to present the forward-looking statement, I would like to turn the call over to Kate Lowrey, Director of Investor Relations. Please go ahead..

Thank you.

Statements made during this call regarding 2017 and beyond EPS, EBITDA, adjusted EBITDA, growth, profitability, sales, charges, cash flow, orders, success of new products, success in completing additional acquisitions, the results of recent acquisitions and other statements which are not strictly historical are forward-looking statements within the meaning of the safe harbor provisions of the federal securities laws.

These statements are based on current expectations and assumptions, and actual results may differ materially from those projected in the forward-looking statements due to risks and uncertainties that exist in the company’s operations and business environment, including but not limited to the risk factors referenced in the company’s press release issued today, which will be included as an exhibit to the company’s Form 8-K to be filed.

We undertake no duty to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. In addition, during this call, the company may discuss some non-GAAP financial measures in describing the company’s operating results.

A reconciliation of these measures to the most comparable GAAP measures can be found in the press release issued today and found on the company’s website at www.escotechnologies.com under the link Investor Relations. Now I’ll turn the call over to Vic..

Thanks Kate, and good afternoon. Before I give my perspective on the results, and provide an idea of our preliminary outlook for fiscal '18, I’ll turn it over to Gary for few financial comments..

Thanks Vic. In May, we projected Q3 EPS in the range of $0.46 to $0.51 a share and we delivered GAAP EPS of $0.49 a share and adjusted EPS of $0.51 a share when normalizing for a few non-recurring charges. The $0.51 hit the top end of our expected range and was primarily driven by the continued strength of our utility solutions group.

Doble once again outperformed expectations with strong sales and new products such as the DUCe and better than expected software and solutions sales.

PTI and TEQ also exceeded expectations and Test were coming up short on sale due to a customer related project and construction timing delivered a 13% EBIT contribution despite the sales shortfall which I believe confirms our earlier profit margin expectations resulting from its lower cost structure.

On an adjusted EBITDA basis, we significantly increased our current year contributions compared to the prior-year as our Q3 adjusted EBITDA increased nearly 10% to $28 million and our year-to-date adjusted EBITDA increased nearly 14% to $79 million.

Another highlight is the continued strength of entered orders and the resulting growth in our June 30 backlog which is up $53 million or 16% from the start of the year. I'm pleased to report that all four operating segments generated a positive book-to-bill year-to-date which resulted in a consolidated book-to-bill of 111% through June.

On the cash flow and debt front, despite the spending on acquisitions, we continue delivering solid cash flow which puts our June 30 net debt of $216 million with a very reasonable leverage ratio of 2.2.

We remain well-positioned to achieve our stated long-term financial goals as we continue to see meaningful sales and EBITDA growth across each of our business segments and we expect to exceed the sales and earnings growth rates of the broader industrial market in general.

Moving on to the balance of the year, when we provided a detailed guidance at the beginning of the year we called out several factors that would be impacting our GAAP EPS such as non-cash purchase accounting inventory step-up charges and additional amortization of intangible assets.

We also noted that original EBITDA expectations were in the range of $122 million to $124 million which was expected to result an increase of 21% to 23% in '17 over the $101 million of adjusted EBITDA recognized in 2016. This EBITDA range resulted in GAAP EPS of 2.16 to 2.26 a share.

Supplementing that original GAAP EPS we called out $0.30 of inventory step-up charges, an additional depreciation and amortization which negatively impacted GAAP EPS.

The favorable aspect of completing Mayday, NRG and Morgan Schaffer during the year is the sales, earnings, cash, adjusted EBITDA and ROIC contributions they provide on a full-year basis.

The negative aspect of doing these deals at various interim periods throughout the year is the significant amount of non-cash and one-time charges that must be recognized on a GAAP basis coupled with the acquisition fees and costs.

We called out these charges and cost to provide better visibility into the adjusted operating results in Q3 and year-to-date, as well to quantify their impact on the year in total.

Even though we had a significant amount of M&A activities and related one-time items identified in the current year, the bottom line is that our current outlook for '17 adjusted EBITDA is consistent with the range we provided at the beginning of the year.

By recognizing that our adjusted EBITDA is consistent with the start of the year, our GAAP EPS which bears all of the M&A costs, purchase accounting charges, acquisition costs and fees, and other non-recurring charges is described in the release is now expected to be in the range of 20.5 to 2.10 a share.

The recent acquisitions coupled with our outlook for organic growth driven by our substantial order backlog certainly positions us well as we enter 2018. In closing, while certain one-time charges have a negative impact on our '17 GAAP EPS, our adjusted EBITDA remains very strong and again is consistent with our earlier expectations.

I’ll be happy to address any specific questions when we get to the Q&A and now I'll turn it back over to Vic..

Thanks Gary. As noted in the release, I’m very pleased with the way our M&A strategy has played out this year. Mayday, NRG and Morgan Schaffer have each brought along strong operating results, a solid and well-defined growth strategy, most importantly top-notch management teams truly committed our vision and values.

Integration is going very well and I’m really impressed of how quickly our new partners and embrace their expanded roles within our organization. While it is not an easy task to move from a privately owned company to a public company, you can always ask the reporting, planning and compliance perspective.

I have been impressed with how quickly and professionally our management teams have adapted to this new environment. Mayday has brought an array of new aerospace products and services and has introduced several additional market opportunities for expanding our growth.

Mayday's on time delivery, customer service and customer recognized manufacturing, quality awards are complements to our existing aerospace offerings. To coming in part of a larger platform, include our other aerospace businesses, has afforded Mayday additional bid and proposal opportunities.

Most I'm really excited about our NRG acquisitions as it provides an immediate and scale entry point in this fast growing renewable energy market.

Cleaner renewable and sustainable energy is a $300 billion plus per year global industry with approximately 600 gigawatts of new wind capacity and 700 gigawatts of solar capacity that’s coming online over the next 10 years.

Energy also expands our global reach and provides cross-selling opportunities capable of accelerating the ESG's growth over the next few years.

I'm pleased with NRGs initial results, and after spending time with our management team at the Global Wind Energy conference in San Diego a few months ago, I see a real opportunity to further expanding NRG strong and capable product and solution offerings around wind and solar. Morgan Schaffer has been on our acquisition screen for several years.

As I have always considered they have the leading expertise and there's also gas monitoring our DGA equipment. For many years, the global utility market has recognized Morgan Schaffer providing the most accurate premium DG equipment and related software and services for monitoring the health of mission critical oil field transformers.

Morgan Schaffer not only fits strategically with Doble, but also compliments NRG by offering capable solutions supporting renewable energy generation.

With Doble and RGA Morgan Schaffer joined forces, we now have a world class solution offering - that I'm confident will create additional market opportunities to enhance our corporate wide growth strategies and further our ability to create additional shareholder value.

On the M&A front, we continue to explore additional acquisitions and are encouraged by the opportunities for additional near term non-organic growth. We continue to look at opportunities to further our USG offerings and to expand our filtration segments product line with complementary acquisitions clearly aligned with our current portfolio.

As with any acquisition opportunity we evaluate, we will remain disciplined in our approach and will continue to maintain our focus on generating attractive returns. Since Gary covered the financial, I’ll only supplement the numbers with a brief perspective. Doble continues to perform above expectations and again delivered strong results.

A few products, especially the DUC and gaining strong market share. That is one of the few proven or validated solutions that utilities have to be stringent NERC and FERC compliance requirements. Our software solutions along with increased services are contributing to Doble’s success as well.

And I’m excited about the pipeline of additional offerings we will be introducing over the next 12 to18 months. I’m especially pleased to see Test deliver 13% EBIT in the third quarter despite its lower sales. We’ve been working for quite a while with the cost structure and still I’m more confident each month that we dialed this in correctly.

The sales slip is timing related as the backlog and significant order book support our near-term outlook. We're somewhat at the mercy of a few large key customers who are installing our technology. We continue to be a bit behind their own schedule which obviously impacts our delivery and installation schedules.

While we had to lower our GPS, our GAAP EPS for the full year, given the result in purchase accounting items, other non-recurring cost and certain product push-outs which impacted Q3 and Q4, I’m confident that this is merely a stack up of various one-time items which is in a very short period of time.

Given the diversity and strength of our end markets, we will manage around the negative impact from the acquisition related and purchase accounting charges, as well as manage around the normal operational and project timing issues, thereby providing us with several alternative paths to achieve success.

So ramping up, I’m pleased with our Q3 results as well as our M&A successes. I’m confident that our near term growth outlook remains solid. Our focus remains constant, continue to improve our operational performance and execute on our growth opportunities both organically and through acquisitions as this is how we will increase shareholder value.

I'd be glad to answer any question you have now..

[Operator Instructions] And our first question is from Jon Tanwanteng from CJS Securities. Your line is now open..

Can you quantify the revenue impacts of the delays and push-outs that you’re seeing? How much came out of Q3 and how much is pushing out of the year into 2018?.

Well, the Test business it’s about 6 or 7 million moved out of Q3 into Q4, but it kind of just pushes that same amount out of Q4 into the first quarter of next year. So from a second half of the year, it's about 7 million, I guess, in round terms would be a fair assessment at Test.

And then at Plastique, we had about $0.5 million move out of Q4 over in Europe as the customer timing thing. And then maybe about a million dollars at Mayday just based on some customer requirements that they wanted after September 30th and before.

So in round terms, you could magnify that $10 million out of Q3 into Q4,and stick with the $7 million or $8 million from Q4 into next year..

And then just on Morgan Schaffer and Energy, how much accretion do you expect from those two in 2018 when you get past these one-time costs? Are there revenue synergy opportunities, cost synergy opportunities? Just help us understand what you expect to get out of these acquisitions..

The numbers are around it, Jon. And I'll let Vic talk about the synergies what he sees in the market side. So just to remind you on relative size, Morgan Schaffer is about 25 million in U.S. dollar currency in revenues, and Energy is about 45 million. Both of those margin contributions what we’re seeing is in the mid-teens.

So I think energy right now has some opportunities going forward that are greater than the past. So I would be comfortable putting them at 16% to 18%. And then Morgan Schaffer kind of in the 13% to 15% based on some things there. So if you do that math, inhibited 35% tax and 26 million shares we would be able to get what the GAAP EPS is.

And a good point is, both of those entities, they are not - the inventory step up does not repeat, it does hit Q4 which is another impact to the way we reflected the guidance because there is another carry over there. But then we go into '18 claims all you have there is the incremental depreciation and amortization.

So we'll again talk about '18 on an EBITDA basis but they’re both extremely profitable. So refer to Vic on what he sees in the synergies..

The thing I’d say particularly with Morgan Schaffer, we’ve been able to consolidate the right network and distributors and so we’re able to share some there. So that will help, and I think it will also help with the volume side that was from a revenue generations just because Doble obviously had a larger sales force out there.

And I think Doble will push more products. It's hard to quantify at this point, but we know something is there, we just don’t know exactly how much. The other thing is that we are already buying equipment from Morgan Schaffer to put in one of our product. So we will get a little pick up there.

And then the other thing, there were some product development that was underway at Doble that we now don’t have to do. So we’re still on process of quantifying how much of all that is. But I think the way I would look at that is, kind of takeaway of what Gary talked about because that's to give him, because we got them for a full year.

And so then we’re still trying to define how much upside we’ll accrue to that as well..

You also mentioned you’re active with the MA pipeline. What end markets are you looking at now, what kind of leverage are you willing to bet if you find something suitable? And then any concerns ever been given that you’re still digesting Mayday and Energy and Morgan Schaffer..

I would say if things weren’t going so well with those integrations. I would have some concern. But I’d say that the integration efforts have really gone very well. And a lot of the reason for that is these companies were I think we're all private companies. I think they’re all extremely well-managed.

And fortunately, we’ve been able to maintain the management teams that we have in place. But that’s something that we do talk about and look at as we’re making the acquisition. But the areas that we look in are the ones that we talked about earlier, that be the utility solutions group and our aerospace group..

And Jon, just to circle back on the second part of your question on the leverage, as I said in my prepared remarks, there were about 2.2 leverage into trailing EBITDA. And we’ve made commitments that we’re not out there looking to swallow a whale. So these would be sized about the size of the companies we just purchased.

And so we would not be pushing ourselves much over 2.5 to 2.55 leverage. So these aren't 100% million dollars deal they’re going to put us up close to three.

And then the other part of it is relative to the cash flow that we anticipate by having Morgan and Energy for the whole year and the way the cash profile looks then we’ll be able to delever relatively quickly over the next couple of years so that let’s call it a peak at about 2.5 and then assuming we don’t do anything on the backend of that we should be able to delever in about two and a half to three years it’s not our goal to go to zero obviously but there's plenty of flexibility on the back end of that..

And then just one final Gary, what’s the expected tax rate going forward that you’re using?.

Well the nice part of picking up Morgan Schaffer for the Canadian and they carry a lower rate than the U.S. obviously they’re not 50% of the business obviously but they have a very nice tax treaty they are plus as we see growth in Plastique and some of the investments we’ve made there whether it’s in U.K. or Poland has a lower tax rate.

So we're getting comfortable at 33.5 to 34.5 which is a point lower than our projections have been in the past. So moving this foreign contribution benefits also in the tax rate again that's all assuming there is no tax reform that’s kind of holding like next year and beyond..

Our next question comes from Liam Burke with FBR Capital. Your line is now open..

On the Test front, you mentioned projects being deferred to fourth quarter, possibly first quarter '18.

Does that dramatically - or once those projects come in, do they dramatically affect your profit margins based on product mix? Or have you done enough to reduce costs to hold that current margin?.

I think the margin will be okay if you have - mix is always a little bit of an issue but I’d say certainly in the near-term it’s not going to be a big issue because we’ve already kind of dialed in what our expectations are.

And the other thing is getting some of the cost out particular in Europe has helped a good bit on the cost structure and I think that’s what we have seen in the third quarter and then what we’re looking for in fourth quarter as well..

And on - in Filtration side, aerospace is a large percentage business. The market seems to be doing pretty well.

Do you see any pricing softness at all?.

Really we've not seen a lot of that, I mean the reality is once you get on these big projects you are on and the contracts are usually pretty long-term and you have the causes in there for escalation or in some cases de-escalation as the volumes go up.

But the competition you really see is getting on those projects upfront and how much is non-recurring cost you’re willing to take and how much I’m sure on the share that type of thing. So the real pricing is getting on the projects..

[Operator Instructions] Our next question comes from Ethan Potasnick from Needham. Your line is now open..

This is Ethan Potasnick filling for Sean Hannan. I was wondering if you’ll go back to just about commercial aerospace.

I was wondering if you could elaborate on the business momentum you guys are seeing and whether or not it's accelerating at all in the near and medium-term or should we kind of assume that the recent business levels are going to persist..

Yes, I would say we see an acceleration, I mean we’re seeing a little challenges just on some of the timing of the delivery ramps the A350 we have orders but they’re not building as fast as what we had projected. I would not anticipate there will be a big ramp up versus what we are seeing today.

The orders are there with the aerospace manufacturer so we are confident those things are going to happen because they both Boeing and Airbus has huge backlogs.

And so the business is out there so really just comes out of the timing but honestly I don’t see any changes - just going to say Boeing is going to grow a lot faster then what we seen over the past year so..

And then with regards to Doble performance has been a little up and down so with the current activities and leadership you guys have in place today.

When do you feel you have high confidence this business is securely on a more stable 10% like growth path or do you guys kind of feel like you’re in that position today?.

Yes I’m very comfortable with the management team we have there with the focus we have. Of course we don’t have a lot of big one-off projects at Doble there is a few there are larger than others obviously. But it's not like our Test business we’ll have our project it could be 10% of sales for a year.

I mean these are typically much smaller contracts either for prior services. So I think we're in a position to really move the business forward with good cost controls in place and then with the addition of the - with the acquisitions I think we’ll build leverage on that as well..

Our next question comes from Sean Nicholson from SBH. Your line is now open..

Just a couple questions on M&A just going back to that from a valuation perspective and just the pricing that you guys are seeing I don’t know if the pipeline is filled up enough to where you feel like these are reasonable valuations that make sense.

And maybe talk to how they compare to NRG and Morgan Schaffer?.

So the Morgan Schaffer was little more competitive than some of the others I would say and so they would pay poor price for that, but it was really something that we needed to have on our portfolio. As you may know there is really only three DGA manufacturers in the world that really have substance and they were the last one that was available.

I would say other than that the other acquisitions that we’ve made have been probably a little more reasonable from a multiple perspective then what we've seen in the past. And a lot of that has just been finding the right company with the right time. As for things you were looking at today, I will see more consistent with that.

So while there is always competition out there, I would say that the multiples that we're seeing are not that obnoxious and I would say probably we’d better than they were even six or eight months ago..

And then just on the EBITDA growth, obviously you’ve been growing EBITDA looks like double-digits over last year obviously - the backlog there are going into 2018, I mean from an EBITDA growth perspective on just the organic that’s in place today how should we think about that going into 2018 particularly just putting M&A aside.

Is that trend sustainable with this backlog and kind of the book-to-bill you guys been putting up?.

Obviously we’re not fully ramped up on our planning stuff for 2018 but I’ll say there's optimism there relative to what we’re looking at across the platform for the beauty of our diversity is that while everything doesn't go great at the same time, it doesn't go brown at the same time either.

So we nice pockets of growth across the platform and while the organic growth is reasonable, I think what's really going to benefit us on the full year basis is having acquisitions in organic side from an EBITDA perspective while getting dinged this year for having these extraordinary costs in a short period of time.

The beauty of it is they are behind us next year and then you get a 12-month contribution on those deals that we just acquired.

So when you look at EBITDA just on apples-to-apples basis and at the moment don't bifurcated between organic and inorganic there's going to be substantial EBITDA growth provided by the new partners having them for the full year supplemented by the organic growth, so I think as we frame up 2018 just pick the favorable calendar and having these things for 12 months versus 3.5 or 4.5 things like that will sure benefit.

And then some of the noise goes away and then as Vic said little things that that end up not having to spend money on R&D at Doble on things we're doing that now Morgan Schaffer has. So there's some costs that kind of just go away naturally by attrition by some of the other things we’re doing.

So while we don't have a stake in the ground yet it's a pretty attractive feeling as we’re seeing 2018 shape up and we’ll have that tied down here in the next month or so as we have a planning in mid-September. So we feel pretty good about it..

That’s great and I was kind of looking at just - kind of maybe an opinion just the multiple you guys trade at discount seemingly to kind of the peer group and from EBITDA multiple and obviously if you're growing double-digits and clearly there is even if you shipped out to 2018 there's quite a bit of upside just applying a normalized EBITDA for peer group and some deals and M&A are getting done at much higher levels.

I mean do you guys feel like there's still a disconnect between the valuation that you get in the market versus kind of the growth you’re putting up in the margin profile..

Yes I think it's getting better than it has in the past. I think we’re getting to recognize for the growth. And so we are seeing businesses trade over the last 12 months at 14 and 15 times EBITDA. And we’re below that.

But as a growing concern that it seems okay for the moment, but I think if we can replicate some growth here in '18 based on the things we just talked about, it would be hard-pressed for your side of the film to not appreciate that value and see that there is something sustainable there.

So whether that's 14 times EBITDA or 15 times relative to peer group trading, that’s kind of your guy’s decision, not ours.

We’re going to demonstrate one part of the equation which is getting the EBITDA up at a meaningful level and then make it sustainable and predictable, all that fun stuff, and then we would hope that the market appreciates that and sees what peers trade at as we get larger.

I think we get on more people's radar screen and just simple function of having sales at - not it’s a billion dollars, but we’re a lot closer to a billion as we migrate forward and get the EBITDA it make sense that the multiple auto increase commensurate with the other growth we have. But that kind of mobilize on your side of the formula.

But we are at a discount to our peers. I think if you look across the sell side universe and the people whether it's our definition of the peer group or their definition of the peer group, we would be in the lower half on valuation of EBITDA into a multiple. So it certainly feels like there is upside to that, but that's your guy’s decision..

And I'm showing no further questions at this time. I’d like to turn it back to the speakers for closing remarks..

Okay. Thanks everybody, and I look forward to talk to you on the next call..

Ladies and gentlemen, this does conclude the program for today. You may all disconnect. Everyone, have a great day..