Rich Dudley - IR Joe Raver - President and CEO Kristina Cerniglia - SVP and CFO.

Daniel Moore - CJS Securities John Franzreb - Sidoti & Company.

Good morning, everyone, and welcome to Hillenbrand's Earnings Teleconference for the Third Quarter of Fiscal 2018. A replay of this call will be available until midnight, Eastern Time, August 16, 2018, by dialing 1800-585-8367 toll free in the United States and Canada or 1416-621-4642 internationally and using the conference ID number 3388795.

This webcast will be archived on the company's website at ir.hillenbrand.com. If you ask a question during today's call, it will be included in any future use of this recording. Also note that any recording, transcript or other transmission of the text or audio is not permitted without Hillenbrand's written consent.

At this time, it is my pleasure to turn the conference over to Rich Dudley, Director of Investor Relations. Mr. Dudley, you may go ahead..

Thank you, operator. Good morning, everyone, and welcome to Hillenbrand's third quarter fiscal 2018 conference call. I'm joined by our President and CEO, Joe Raver; along with our Senior Vice President and CFO, Kristina Cerniglia. During today's call, we'll discuss third quarter financial results and provide an update on our outlook for the businesses.

After that, we'll open the call up for Q&A. Before we get to the results, let me remind you that our comments may contain certain forward-looking statements that are subject to the safe harbor provisions of the securities laws. These statements are not guarantees of future performance, and our actual results could differ materially.

Also, during the course of this call, we will be discussing certain non-GAAP operating performance measures. I encourage you to take a look at our 10-K and 10-Q, which can be found at our website for a deeper discussion of forward-looking statements and the risk factors that could impact our actual results.

For more information on our use of non-GAAP operating measures and the reconciliation to the GAAP financial measures, please refer to our most recent 10-Q and the slides presented with this call. I will now turn the call over to our President and CEO, Joe Raver..

direct costs, indirect costs and the potential effects on the supply chain. At this point, we do not have a significant direct impact from the tariffs. However, we are seeing the knock-on effects of the tariffs in steel and other commodity cost inflation.

We're working to offset these negative effects, direct or indirect, through pricing actions, and by optimizing the structure of our supply chain over the long term. In summary, we had another good quarter, with strong revenue growth and continued positive momentum, reflected in the backlog.

We've generated strong cash flow through the first three quarters, and believe we're well positioned to continue to execute our strategy and deliver on our commitments for the year. With that, I'll now turn the call over to Kristina for more detail on the quarter..

Thanks, Joe, and good morning, everyone. As you heard from Joe, our revenue growth trend continued in the third quarter. Revenue of $446 million grew 13% over last year, and including a 3% favorable foreign currency impact. That growth was driven by the Process Equipment Group, which was up 22%, including a favorable 5% currency impact.

Batesville revenue was down 6% compared to the prior year. Adjusted EBITDA decreased 1% to $71 million, and adjusted EBITDA margin was lower by 230 basis points at 16%, as both segments experienced lower margins in the quarter. On a GAAP basis, we grew earnings 9% year-over-year with net income of $36 million or $0.56 per share.

Adjusted net income of $37 million resulted in adjusted earnings per share of $0.57, an increase of 8% over the prior year. The adjusted effective tax rate of 29.2% was 320 basis points lower than last year, primarily driven by tax reform, partially offset by a discrete tax item in the quarter.

We generated robust operating cash flow of $95 million in the third quarter, bringing the total to $156 million year-to-date. That is $52 million higher than last year, primarily due to the pension contribution we made in fiscal 2017, that did not repeat. Free cash flow is on pace to exceed our conversion target of 100% of net income for the year.

We've continued to make improvements in our working capital metrics as we drive initiatives to improve contract terms with both our customers and suppliers.

During the quarter, we paid down roughly $50 million of debt, returned about $13 million of cash to our shareholders in the form of dividends, and repurchased approximately $22 million of common stock at an average share price of $46.05.

We have repurchased over $60 million of stock this year, and we anticipate buying additional shares opportunistically going forward. We continue to carry out a balanced approach to capital deployment to drive shareholder value.

Moody's recently upgraded Hillenbrand senior unsecured rating to a Baa3 with a stable outlook, which we expect will provide access to capital at more attractive rates as we execute our strategy. Turning to the next slide, I'll cover segment performance beginning with the Process Equipment Group.

Revenue of $317 million grew 22% exceeding our expectations. The growth was broad-based, as every business was up compared to the prior year, and most, posted double-digit increases. Capital equipment sales were strong, especially those related to large projects. Parts and service revenue was also up double digits in the quarter.

Large extrusion systems and material handling projects for base resin production continue to be among the biggest drivers of growth. Sales of separation equipment also remained strong, as we work through the majority of the remaining proppants backlog.

While the proppants activity has moderated, we are encouraged by the growth that the business is generating in other markets as well as in aftermarket parts. Our outlook for the Process Equipment Group remains bullish. We achieved new record levels for both order volume and backlog.

Backlog of $783 million was up 29% compared to last year, including 1% from foreign currency. Sequentially, backlog grew $30 million or 4%. As we said on our last call, cycle times have lengthened and a significant portion of backlog growth reflects projects scheduled for fiscal years 2019 and 2020.

Process Equipment Group adjusted EBITDA margin was a healthy 18.4%, but was lower by 100 basis points compared to the prior year, which was a record for the segment. As expected, product mix was a primary reason for the lower margin, as we delivered a higher proportion of lower-margin, large systems projects.

We believe winning these projects, and increasing our installed base of large systems, will bolster our strategy to grow the highly profitable parts and service business. We experienced some inflationary pressure in the quarter, but we were able to partially offset that with productivity gains.

We will continue to leverage the Hillenbrand Operating Model to drive strategic pricing and productivity initiatives, as we pursue our margin expansion target of 250 basis points by 2020. Moving to the Batesville business. Revenue of $129 million decreased 6% compared to the prior year. Volume and mix were both lower in the quarter.

The decrease in burial unit volume was primarily driven by the estimated increase in the rate of which families opted for cremation. As Joe mentioned, Batesville renewed a multiyear contract with a key customer. That contract included an upfront incentive, which was fully accounted for in the third quarter.

Despite the effect on net revenue and gross profit in the quarter, we believe this agreement strengthens Batesville's competitive position and contributes to the stability and predictability of free cash flow generated by the business. Adjusted EBITDA margin of 19.8% was 470 basis points lower than the prior year.

The contract renewal contributed to the unusually low margin in the quarter. As anticipated, we also faced residual effects of the supply chain challenges we discussed last quarter.

You heard Joe describe some of the improvements the Batesville team has been making, and we expect those improvements to continue in the fourth quarter to bring us to a more typical level of operational efficiency for the business.

Cost inflation continues to trend higher than our forecast, especially in commodities such as steel, wood and fuel, and we expect that pressure to continue at least in the short term. We continue to take decisive actions to ensure we are managing costs, while at the same time, maintaining our superior customer service and quality.

Batesville realized productivity improvements in the quarter, including benefits from the manufacturing footprint reduction in the prior year, and the leadership team continues to work relentlessly to take additional cost out of the business every year.

These actions helped Batesville generate nearly 20% more free cash flow through the third quarter compared to the same period last year, despite lower earnings. With that, let me turn to our outlook for the rest of fiscal 2018. We are updating revenue guidance for the fiscal year, given our strong third quarter performance.

We now expect revenue growth in the Process Equipment Group to be in the range of 10% to 12%, plus an additional 4% from favorable foreign currency, up from our previous guidance of 7% to 9%, plus 4% from FX. We continue to forecast Batesville revenue down 1% to 3% for the year.

On a total company basis, we now expect to be in the range of 5% to 7% revenue growth for the year, plus 3% from foreign currency. That is up from our previous guidance of 3% to 5%, plus 3% from FX.

We anticipate the upside from higher revenue to be offset by margin pressure with a higher proportion of revenue coming from large systems projects, in addition to the challenges we faced in Batesville and cost inflation. As a result, our forecast for GAAP EPS remains at $1.06 to $1.16, and for adjusted EPS $2.34 to $2.44.

We continue to forecast our full year fiscal 2018 adjusted effective tax rate will be in the range of 26% to 28%. We've targeted adjusted EBITDA margin expansion of 30 to 80 basis points in the Process Equipment Group for the year. And we now expect to be at the lower end of that range based largely on the projected product mix.

We have discussed the margin headwinds that have affected Batesville this year, including cost inflation, which we expect to continue at least for the near term and the operational inefficiencies, which we believe will be resolved in the fourth quarter.

As a net result, we are forecasting sequential improvement of about 200 basis points in the fourth quarter, and a full year EBITDA margin of approximately 22%. We remain focused on driving strong cash flow performance. Our goal has been to achieve a free cash conversion rate greater than 100% of net income.

As you can see, with our strong third quarter results, we are on pace to exceed that target. We remain confident that the business is on the right track to achieve the targets we have in place. At this time, I'll turn the call back to Joe for his concluding remarks..

Thanks, Kristina. We had a solid third quarter. We've been winning in the market, executing our growth strategy, and holding to the principles that have made Hillenbrand successful.

The progress we've made against our strategic initiatives, and the strong growth we've seen across the Process Equipment Group businesses have us well positioned for future success.

We believe we have a strong management team, and the right tools with the Hillenbrand Operating Model to continue to drive profitable growth and achieve our 2020 targets, with above market revenue growth and double-digit earnings growth. That concludes our prepared remarks, and we're ready to take your questions.

Operator, would you please open the lines?.

[Operator Instructions] Your first question comes from Daniel Moore from CJS Securities..

Wondering if it's possible to quantify the impact of the customer incentive on -- I guess, both revenue and EBITDA margin in the quarter on Batesville? And if not with specificity, just curious, is that type of upfront incentive typical? Is that typically what you've seen in the past? Quick follow-up..

Okay. So we actually won't quantify the impact of the customer renewal incentive on the call. But what I can tell you is, in our guidance, we did guide that we will be, for the fourth quarter, improving our EBITDA by about 200 basis points sequentially over this quarter. And so as we think about that, that might help. As it relates --.

Yes, and I was going to say, this is Joe, Dan. In terms of -- sort of what's normal for a customer contract, again, as you can tell by the size of the impact in the quarter, it's a very large customer. And so the -- each contract varies by customer and we don't talk a lot about it.

But I'd say, generally it's not unusual both for us and in the industry to have these kinds of incentives to lock business in for a period of time. So, again, we believe that this is good for the business. We feel it definitely in the quarter but this is good for the business and provides some stability.

As you know, it's -- the industry is long term in sort of that 1% to 3% decline. This gives us the opportunity to plan our supply chain activities into the future. And that's really important to us as we work there and continue to drive improvements in the supply chain and cost out supply chain to remain inefficient..

Perfect. Very helpful. And one more on that topic.

If we end the year at 22% plus or minus, given the operational challenges this year, and hopefully, recouping some input costs next year, is there any reason to think we couldn't, if not get back to the full 24%, see some improvement in margin in fiscal '19?.

Yes, so I would expect that -- first of all, we're not going to guide for '19, we do that next quarter. But I would expect, exiting the year, that we can anticipate that Batesville margins will improve over this year..

Very helpful. And the Process Equipment Side, obviously, backlogs are strong.

What's driving the parts and service revenue? Is there an aging of systems? Is there just a healthier economy? Any commentary around that, Joe?.

Yes, I think, there are a few things that are driving the parts and service revenue. I think, first, we have done some things over the last few years to continue to focus on the parts and service part of our business. We do believe that we're taking market share in parts and service across all of the Process Equipment Group businesses.

And so that's a positive thing. Generally, the economy is strong around the world. And so that, certainly helps. And then I think the third piece is -- well, I -- a third piece is also certain end markets, for example, screens using proppants, demand is high, and so that's also driving it.

But I think, the -- and then the final piece I would just say is, as -- particularly in the Coperion business, as their equipment continues to get more efficient and more sophisticated using less energy, higher volumes and outputs, we're seeing more projects related to upgrading and modernizing equipment.

And so I think, that cycle is probably happening faster, based on a lot of the innovations and the improvements that are coming out in the new equipment.

From Coperion, we can upgrade some of the older equipment and so I think that cycle has shortened a little bit as companies are striving to get more efficient and use less energy and improve output..

Perfect. Lastly, and I'll jump out.

But with the addition of Mike Whitted, is it possible to rank order the end markets in terms of, if not attractiveness, then relative opportunity that you're seeing as far as M&A is concerned?.

Yes, sure, Dan. Certainly, obviously, we're always trying to build our plastics business, but we have a pretty solid footprint there. We offer many steps in the value chain around both base resin production, income, engineered plastics.

So while there's opportunity because it's close to what we do, I think that opportunity is not as big as some of the other markets where we have a less of a presence. And I would speak specifically to processed food, which is a large market where we do have some presence, but we think we can expand that presence significantly.

Say the same with pharmaceuticals, pharmaceutical production, we play in that market, but also, a market where we think we can continue to grow our business, both organically and also through M&A.

And then I think, screening and flow control, both of those end markets are also places where we have a presence, but they're relatively large markets where we can continue to add. So I would kind of put them in that order in terms of opportunity for us to continue to grow, particularly through M&A..

[Operator Instructions] Your next question comes from John Franzreb from Sidoti & Company..

Just on Batesville, the recovery back to the 22%, normally around that 24% to 25% is the biggest difference there commodity cost? Or is it the inefficiencies that's preventing you to get back to that 24%, say, range for the fourth quarter?.

Yes, John, it's Joe. I think the biggest driver is commodity prices. We've seen relatively significant increases in commodity prices that we continue to see through -- expect to see through the end of the year.

The tariffs, it's through the indirect impact on tariffs have hit us pretty -- even though we do have some protection, we are seeing steel prices go up. As you know, we use a lot of steel, three quarters of our products that we make are metal and the vast, vast majority of that is steel. So that's really the big issue.

We also had just sort of the ongoing pressures from volume and mix as the market continues to decline slightly in mix is – year’s long decline in mix as well. But really commodities is the big driver..

Joe, can you talk a little bit about the competitive landscape in Batesville? With the trends being what they are, is it getting more cutthroat out there?.

Well, I would tell you that, I think, it's been cutthroat for a while. We're not seeing a significant shift in the competitive landscape. We have a very strong number two competitor, and then a number of other competitors as well. So it's definitely a challenging environment.

Anytime you have an industry that is relatively high fixed cost and is in sort of modest decline at a challenging competitive environment, but we haven't seen any significant shift in the competitive environment in the last few quarters or this year..

Some of the smaller players, have they started to drop out? Can you talk a little bit about some of the guys that are under the radar that we don't see?.

We do track sort of everyone who manufactures caskets and everyone who then distributes and sells caskets. So this is a sort of two levels of competition. I think we saw a shake out over the last couple of decades in terms of small manufacturers.

And there are very few number of people who make caskets, stand for the metal, paint the caskets, et cetera. But we also though compete against in the -- with the customer -- at the customer -- point of customer with smaller distributors. We sell direct to our customers.

And so those over the years have also declined significantly over the last few decades. I wouldn't say that we're seeing any change in the pace of decline. But there's kind of this slow, steady decline of the smaller players in the industry, particularly as volumes decline and cost pressures mount.

It's just a challenging environment and smaller players tend to have a more difficult time..

Switching to process. Backlog, again, was up nicely. I guess two questions. Firstly, in fiscal 2018, we saw an unusual amount of shipments delivered in the first half of the year relative to the second half. So I'm curious, if the deliveries look similar to that in 2019. And I know, Kristina you kind of mentioned some of them are elongated out to 2020.

So I was just wondering if you'd just give us some color on the timing of deliveries in the composition of the backlog..

Yes. So John, it's Kristina. The biggest reason for the kind of change in 2018 where our first half was stronger than our second half is primarily because of proppants. So we had the proppants cycle, and a fair amount of that was delivered in the first half.

So now as we go forward, thinking into '19, we don't expect the proppants to continue again, as we've talked about that, that we've eaten through that backlog, proppants is moderated. So we would expect from -- on a go-forward basis, that we would kind of go back to our typical trends where the back half is more favorable than the front half..

Great. And then on the proppants front, it's -- we've kind of switched from an OE-type sale to an aftermarket-type sale.

I get the volume might be down, but how about the profitability of that business now, as they're using more screens, I guess, because of uses it's going on right now?.

Yes. I think, you're right, exactly right in the sense that we're now -- we've worked through that backlog, so we'll see less capital equipment as we go forward. The consumable part continues to grow as more machines go into place, there's high demand for proppants in the market, and so we'll see the screens continue to grow.

From a profitability standpoint, that capital equipment is a pretty profitable business for us. So I don't think you'll see a big shift in profitability from capital goods to screens. Screens, while we do have proprietary features, screens are not all that difficult to make.

So the margins are relatively similar between the screens and the capital equipment. So you won't see a big shift in margin related to that shift from capital to more spare parts..

Okay. That's helpful. And one last question.

Joe, on -- in the pump and valve side of the business, can you talk a little bit about what's going on there? And what you're seeing in the municipal spending marketplace?.

Yes, so I guess a couple of things. So municipal spending sort of remains challenged. It's kind of GDP kind of growth that we're seeing in municipal spending. It's relatively consistent, North America is pretty good, as you know.

And then, really on the -- both of those markets, we've -- both of those businesses, both the pump business and the valve business, where we have seen success, is really internationally. So we've had success in Latin America, for example, with mining and some larger wastewater projects.

And then on the valve side, we've grown the industrial part -- industrial wastewater part of the business as well. So municipal is sort of that, kind of, GDP-type, steady growth. Where we've seen more growth is, again, in mining, particularly in Latin America, and then on the industrial side, really industrial wastewater here in North America..

[Operator Instructions] I have John Franzreb from Sidoti back on..

One other thought. Typically, your backlog, has a step down function at the end of the fourth quarter as your book-to-bill rates, kind of -- you have good shipping quarter in the fourth quarter, so drop down.

Do you expect that process to happen in the fourth quarter? And also, could you give us a thought on the backlog? It's relatively strong, how is it shaping up relative to prior years? How would you kind of compare the two?.

Yes. So we are seeing a strong market in the plastics industry. And so we've had some years where we've really drawn backlog down significantly in the fourth quarter as the teams are working to sort of hit their year-end numbers. I don't expect to see the typical drawdown in backlog in the fourth quarter.

We have relatively high demand, we're full, right? We're working to get jobs out, the market is still strong, it's really hard to tell because these large projects are coming in big chunks, right? These are big orders and so you either win them or you don't win them, or they get pushed out.

And so it's hard to predict the fourth quarter, but I would say, generally, I would expect that we will end with a relatively strong backlog and you won't see the big drawdown in the fourth quarter. But again, with that said, we still need to close some projects for that to happen..

[Operator Instructions] I have no further questions at this time. I'd like to turn the call back over to the presenters for closing remarks..

Thank you, operator. And once again, I want to thank everyone for joining the call today, and thank you for you continued interest and support of Hillenbrand. We look forward to talking with you again in November, as we report our fourth quarter and fiscal 2018 results, and we'll also going to be discussing guidance for fiscal 2019.

Have a great day, everyone. Thanks..

Thank you, everyone. This will conclude today's conference call. You may now disconnect..