Tim Close - CEO Steve Sommerfeld - CFO

Jacob Bout - CIBC Michael Doumet - Scotiabank Steve Hansen - Raymond James Andrew Wong - RBC Capital Markets John Chu - Laurentian Bank Paul Bilenki - TD Securities

Good morning. My name is Joanna, and I will be your conference operator today. At this time, I would like to welcome everyone to AGI's Q2 Results Release and Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions]. Thank you. Mr. Tim Close, you may begin your conference.

Good morning and thank you for joining us this morning to discuss our second quarter results. I have Steve Sommerfeld with me this morning, and we are calling in from Grand Island, Nebraska at MFS, our grain storage business that we acquired earlier this year in the Global Industries transaction. It is a real pleasure to be in Grand Island and spend time with the outstanding team running this business. This facility has top of the line fully automated equipment producing an outstanding product line that we are already leveraging across AGI sales channel and realizing significant synergies on the broader AGI platform. A tremendous amount of work has gone into the integration work streams at all four global businesses. We'd like to thank all employees for their hard work and patience in the course of our 100-day integration learning and planning stage. This business has tremendous potential. And while our 100-day plan has been completed, we're just at the beginning of working as a team to realize full potential of NECO, Sentinel, MFS and Hutchison/Mayrath. We'll jump right into some brief comments on results for the quarter. Then turn the call back to Joanna to field some questions. We achieved record quarterly results in the second quarter. Sales of $222 million and adjusted EBITDA of $40 million were approximately 35% and 11% higher than any other quarter in AGI's history, and both sales and EBITDA were up 54% over Q2 2016. EPS grew to $0.88 per share for the quarter on a diluted basis, and $0.84 on a diluted and adjusted basis, after accounting for non-cash gains on FX, non-cash gain on financial instruments and after expenses related to M&A activity. Our LPM payout ratio fell to 56% versus 94% at this time last year. Overall our businesses are performing well. Our balance sheet is strong and outlook for the remainder of 2017 is very positive. As usual, the Q2 results are a mix of varied performance across regions in our Farm and Commercial business units. Farm and Commercial activity remains strong in Canada and we continue to see recovering sales in the U.S. in the farm and steady levels of sales for U.S. commercial. International markets remain robust with high levels of activity in EMEA and South America. Overall we are pleased with the regional mix of sales in approximately 40% Canada, 40% U.S. and 20% international. However we are confident that our recent initiatives to grow our global commercial platform and our Brazil business will move this mix closer to 30/30/30 in the near-term. Crop conditions in North America are varied as usual with some dry areas. However we are expecting a decent crop across the core growing acres. Pent-up demand in replacement cycles are driving good performance in the farm side in Canada and rebounding sales in the U.S. Inventories are healthy for our portable equipment, as we run harder to keep up with demand in parts of Canada and the key U.S. growing regions. Commercial activity in backlog are strong in Canada and internationally and stable in the U.S. We are gaining traction in Brazil and see continued opportunity in EMEA, Australia, the rest of South America for grain and fertilizer sales. These are good results with strong performance across our platform. I will note that while our acquisitions in 2016 and 2017 added meaningful contribution in Q2, we are just starting to see the potential of our investments in Brazil, our developing Fertilizer and Seed platform, our global Commercial platform and our Food Equipment division. The strong performance in this quarter was almost entirely from our legacy business inclusive of Westfield. We are also continuing to invest in our Seed, Fertilizer, Feed and Food initiatives in terms of people and capital, while exploring new opportunities to expand each platform. These initiatives represent significant upside to our business as we execute on each strategy globally. We have made substantial investments in these initiatives. We are making good progress on each strategy and we are excited about the near-term growth potential as we pursue our field consumer strategy. With that, I'll turn the call back to Joanna for questions.

[Operator Instructions]. And your first question is from Jacob Bout from CIBC. Jacob, please go ahead.

Good morning. So some pretty robust guidance for the second half of the year, given the dryness declining yield that we're seeing. I guess, what gives you this confidence, and can you talk a bit about what could change this, like if we see a very quick harvest. Does that change your outlook a bit?

Yes, sure. Hi Jacob, it's Steve. I mean, what gives us the confidence in our outlook right now is our order backlog and the pace of new orders coming, especially from the U.S. I mean, the crop conditions in the U.S. are variable as you know and there is some dry patches, especially near the Canadian border and North Dakota. But what we're seeing is very heightened activity. Our plants in [indiscernible] particular are growing very strong to meet demand.

Maybe talk a bit about your backlogs?

Well, they are up - in our portable business in the U.S. they are up significantly. It's over a relatively low base. As you know, 2016 was quite soft but we are very pleased with pace of new orders. For the first time in a long time, we are really ramping up production at Westfield to meet the demand. So what could change, sure Q4 could come in with a very quick harvest, which in particularly in Canada, but that will impact region sales and perhaps some storage sales. Right now where we sit today, given our backlog, given our pace of new orders, we don't believe the impact on Q4 will be significant. If it is a dramatic close to the year, especially in Canada, we may see an impact in the 2018 but currently we don't anticipate that to be significant rather.

Okay. And then the Brazil operations, no contribution in EBITDA in 2017. Maybe just give us an update there? I know you mentioned the commercial projects have not materialized. Can you just talk a bit about what you're seeing on the commercial side on Brazil, and then maybe talk about a bit what you're seeing with the farmers. I thought yet done some of the shows previously and surprised it wasn't some sales into that market?

Certainly there are sales on both the Farm and Commercial side. The guidance wasn't meant to be a negative or a statement that things are progressing as we had hoped. I'm trying to give some guidance as far as analyst modeling more than anything. On the Farm side, our order backlogs are increasing, our sales are increasing. It's still a relatively tough market in Brazil but improving. The general economy in Brazil is improving, especially with interest rates and - to the Brazilian farmer that matters a lot. On the Commercial side, we had some nice wins. We're introducing some new products which are - it takes some time in the developing market but the products that we're bringing down are very well accepted to those who are - for early adopters. And there is a bit of a curve to get that more widely adopted. But generally, we're very excited about our opportunity in Brazil. So the statement that really was provide guidance for the balance of '17 and that we feel quite good about 2018.

Okay. And are you seeing any pressure on pricing because in other markets or businesses where you have someone new coming into that market, lot of time there can be quite aggressive pricing side to try to keep you out of the market. Are you seeing any of that type of behavior, specifically from say Kepler Weber?

No, I think there is something that's going on Jacob and probably not sustainable long-term but we're pretty happy with our positioning right now and we're not chasing pricing lower. We're focusing on prices where our products have a good fit where we have done good relationships already where we see good potential in the long-term with commercial customers. So we're taking a good sort of incremental approach to Brazil and we did - I think you'll note from previous quarters, we stepped up our investment in terms of people in Brazil a little bit sooner and probably a little bit more than we - our initial business modeling. And that will have a cost in the near-term but will pay dividends for us in the near and longer term going forward if that strategy starts to gain traction. We'd be very pleased with where Brazil is at right now.

And your products is very differentiated and there certainly has been, at least in the crops anyways, complaints about lack of on-farm storage?

Yes, that's right. And whether it's - at least you will see a lot of pictures of corn, piles of corn, sand dunes of corn on the ground in Brazil and there is environment is as good as ever in Brazil for our business. So yes, some near-term competitive but overall I think those competitors will be disappointed over the longer term in terms of their approach to markets.

Okay. Thank you.

Thanks Jacob.

Thank you. Your next question comes from Michael Doumet from Scotiabank. Michael, please go ahead. Michael, your line is open. You can proceed with your question.

Sorry guys, was on mute. Good morning. So my first question, just trying to parse out your guidance for the second half of the year. It seems to suggest that you anticipate this year gaining growth in most segments. So would it be fair to assume that you expect organic revenue and EBITDA growth in the second half excluding acquisitions?

Yes, absolutely, Michael. Hi, it's Steve again. We spoke a little bit about our firm outlook on the first question. We expect a very good Q3 and indication for Q4 are strong. We'll see some very serious organic growth in the second half in our international business and 2016 was need a bit of a pause on some of the larger projects and those are all coming together now with new contracts in Black Sea region in South America, ex Brazil, and in particular in Q4, you will see these some decent sales from those areas. And our Commercial business also with the existing business in the U.S. is steady kind of more mature over these regions such as Europe, some parts of the Middle East also we expect some gains.

And I hope my calculations here are correct but it seems that your international sales declined organically in the quarter. I mean, was that largely due to timing of projects as you sort of ramp into the second half or was this something else there?

Yes. Well, I think they actually increased but only slightly on an organic basis. And it was - I think we spoke to it in our Q1 guidance, where our international sales again they were - we felt very positive about the outlook for our international project sales at that time. It's really been in recent weeks that they've really - the backlog has grown significantly. These things take the time they take and the customer will sign the contract when they are ready I suppose so. That's happened in the last few weeks and that's why we expect now in Q3 and especially in Q4 to realize significant revenue gains on those international projects.

Yes, that's helpful. Thanks Steve. So maybe just turning to your EBITDA margins, which were pretty impressive in the quarter, given some potentially margin dilutive acquisitions completed recently. Now I can appreciate that the Canadian dollar is still current [ph] and mix may have helped and you're now also anticipating higher synergies at Global. So lots of moving parts here particularly with the stronger Canadian dollar in the second half of the year. So how should we think of EBITDA margins compared to last year in the second half?

So yes, you're right. There are a lot of moving parts, lot of pluses and minuses and a lot of variables. If you look forward for the balance of 2017, I think you should think of them of being relatively flat to what we've seen year-to-date and in the second half of last year. Typically our Q3 will be heavy on affordable equipment side, which obviously is a higher margin business for us but gives and takes as you suggested - I would suggest that our EBITDA margins will be similar to the first half.

Okay. That's really helpful. Thanks guys. Well done.

Thank you. Your next question comes from Steve Hansen from Raymond James. Steve, please go ahead.

Yes, good morning guys. Just wanted to circle back on the earlier question by Jacob on the dryness and just trying to understand how you think the potential impact of this back half dryness relative to the pent-up demand. You described already your backlog as being higher but are you accounting for some degree of this dryness impacting the back half sales and just sort of what magnitude? And then just how do you again offset that relative to the opportunity of all this pent-up demand in the recent years?

Yes, good morning, Steve. Yes, I think it's important to look at really break down our market regionally and while the dryness - there is some dryness in regions in the Dakotas and in Southern Saskatchewan that make up maybe 10% of acres in our markets. There is still a lot of decent crop in parts of those regions as well. So we're seeing the heavy activity that the demand, that Steve talked about coming from the core run regions and seeing really healthy demand there. So that then cascades down to inventories in those regions and production across the whole market overall. So for us it's - if we look at it regionally and then on a consolidated basis and what we see are good signs at the end of this year setting up for a decent spot into next year.

That's helpful. That sometimes probably answered what were the entire reasons together. Just one more from me, if I could. Just on the ability or as you look at your portfolio as it stands today, you guys have been acquisitive in the past. Where do you feel that you're lacking today? You described your new strategy in some detail here. But just give me a sense now with some of these new sort of whole plug with the Global acquisition. Where do you really feel the portfolio is lacking today relative to in the next year?

Yes, I think we talk about the five different parts of our business starting with seed and fertilizer, beginning at the crop and then feed and food on the backend of the crop after the grain segment. And all four of those regions are in those initiatives where we're concentrated on in terms of a new opportunity. There are some parts of grain that are still interesting some product lines and/or geographies that are interesting worldwide but pretty robust platform in directionally right in the grain segment. So seed and fertilizer are interesting. Feed and food are interesting for us and that's where we're looking at new opportunities.

Okay. Very good. Thank you.

Thank you. Your next question comes from Andrew Wong at RBC. Andrew, please go ahead.

Hi, good morning. Thanks for having me on the call. So we've seen some pretty significant movement in the Canadian dollar exchange rate recently. So maybe just first, what kind of impact do you see that having on your earnings? And then second, what sort of hedging strategy or hedges do you have already in place right now? Thanks.

Okay. Hi Andrew, it's Steve. So as you know we are long USD that obviously benefit from a weaker Canadian dollar. I think what's important to remind everyone is when the Canadian dollar strengthens let us to steel purchasers in Canada as well surprised to steel. And for us especially since the acquisition at Westfield it's a very significant natural hedge, I guess, against changes in the USD-CAD exchange rates. Net-net, we do prefer a weaker Canadian dollar. We haven't quantified the impact. You can anticipate, based on prior years, that it's meaningful but we're certainly able to operate very profitably at current level from well below current levels.

And do you guys have any significant hedges in place because I recall over the past, I would say, year or two years you had some hedges that affected your cash flow on the opposite side. So could we see any of that?

We have some puts in place for the balance of 2017, not significant. It's disclosed in the MD&A. It's roughly $18 million USD of puts at 1.25 strike. But we don't have any foreign exchange contracts in 2018.

Okay. That's good. And then just on the G&A costs, I mean, a slight uptick because your acquisitions were overall pretty steady. As a percentage of sales, it looks pretty good. What are the expectations going forward? Should that still see more upticks or is this steady state?

It should be steady state. We don't anticipate anything new in back half of 2017. That will be significantly different than what we experienced in the first half.

Okay. And just last one is on Global. I don't think we talked too much about it. I'm guessing that the process review is still ongoing. If there is anything you can provide on that, that would be great. The commentary sounded like it was good.

Yes, we're very pleased with our progress at Global. It's a fantastic business. It's what we anticipated we would see when we got inside. When we - when modeled the acquisition of Global - and we almost never did. We didn't bake in significant synergies. We obviously want to be able to buy a business without realizing synergies and still be happy with the metrics. Now that we're inside, what we have found are there is some low-hanging fruit on the purchasing side, and not just steel but on other components really that we're a much larger business and able to make some gains there. There were some overlaps, which we anticipated but didn't model again on for executive team and sales teams. And the sales synergies are really yet to come. The U.S. market is still quite soft on the storage side. When all is set and done, when the U.S. market on the storage side begins to see, we're seeing today on affordable side, the synergies here should proximate what we saw with Westeel.

Okay. And can you help quantify that now or do we have to wait a little bit more for the process to...

That's right. Yes, it's really too soon to quantify. But we will - that's sort of a general guidance. It's maybe a bit of a longer term guidance on synergies.

Okay. Thank you.

Thank you. Your next question is from John Chu of Laurentian Bank. John, please go ahead.

Hi good morning. So just got really a couple of questions here. Just keeping on with the sort of dryness in the U.S. and in Canada, then more to U.S. though. Is the process we're a replacement cycle kicking in now irrespective of how the condition there in the U.S., or is it bit of both in terms of just continued strong volumes and replacement cycle?

Sure, yes. Hi John, it's Steve again. So let me try again here. So, again let's talk Canada and U.S. separately. So in the U.S., I mean, the crop conditions, as you guys all know, are not as good as they were last year. So the total crop volume estimates today are still quite high. We can at least say that this is far from a poor crop. So you are seeing, I believe, a pent-up demand factor in the U.S. that's more than offsetting for the year-over-year crop conditions I suppose but it's far from a very weak crop in the United States. And the same to be said in Canada. I mean, there are some regions of Canada that are very poor but it's a fairly small geography that's Southern Saskatchewan, Southern Alberta. You get outside of those regions and it's variable. There is some soft spots and there is some good spots. And we can't forget that most of Western Canada came into 2017 was with very good moisture levels in the soil, which is different than some other years where we've seen dryness. So I think in our opinion, the crop yield in Canada maybe surprise to the upside. We'll let play it out. Yes, there is an opportunity for an early harvest in Canada and it probably will happen in early harvesting today in Southern Saskatchewan which will have an impact in Q4 but that's noted in the outlook. We don't expect today that that impact will be significant.

Okay. And just on the Global Industries acquisition. You mentioned that there is an opportunity on the lean manufacturing and process improvements to improve Global's margins. So I'm curious, can you quantify in a sense of can we see once you've been plan all this Global's margins be significantly higher than the high-single digits that they were reporting when times were pretty good?

Yes, that's right, which we anticipated when we bought Global. So there is number of reasons - and we're not prepared to quantify precisely what that gain will be. But what Ag Growth brings to any of its acquisitions, it's a platform perspective, where we can employ best practices manufacturing from our various divisions that looks like similar to Global, find areas of weakness in opportunity and improve their margins that way in addition through the purchasing synergies that I mentioned earlier. So on the flat floor, they are very talented group here at Global. We hope to be able to just to bring a little more perspective, I guess, from having similar businesses with longer experience at AGI.

Is it fair to say they don't have any lean manufacturing in place at any of their plants?

No, that's not fair to say. They do use lean manufacturing. Everybody uses a slightly different brand of a lean, I suppose. So we'll bring our lean expertise to Global, work with their lean people and we believe we can - we believe we can do it across our entire businesses, not only Global, improved margins through to continued application of lean.

And then just lastly, regarding Brazil. Any sense of the breakdown of how you're focusing commercial versus on-farm? And most of their storage is off-farm in Brazil, but sounds like you might be getting equal weight to both groups?

I mean, I think that's a fair assessment. Both are huge markets for us and our focus is probably evenly split between those two areas.

And how do you propose to help the on-farmers with the - when it comes to where the interest rates are and whatnot and changing the mindset that farmers needs to have on-farm in the capital that's required of that? It's a bit of a new different mindset for them.

Yes and no. I mean, I think generally they do understand the benefits, so of on-farm storage. Where things that softened in the last couple of years, has been through government-sponsored loans and very high interest rates. As we see those interest rates come down and they are coming down significantly. As you've been watching they've - at the most recently they cut 4 percentage point of their base rate. I believe that alone will start to incentivize some farmers to get more interested on on-farm storage. But the issue they face are well documented. You cannot read an article on Brazil in Brazil that doesn't talk about the lack of on-farm storage and real pictures and videos that blow your mind as to show how the corn on the ground and logistically are struggling and the market is ideal for our products. The farmers do understand it and I think the improving economic conditions are going to make a big difference.

Okay, great. Thank you.

Thank you. Next question is from Paul Bilenki from TD Securities. Paul, please go ahead.

Thank you. It's Paul here for Damir. Just a couple of questions from me. I guess on those secondary untapped verticals, the fertilizer, seed, feed and food. What's your sense on the size of those markets relative to the grain equipment market? So they would be comparable size or how are they measure up?

Yes, good morning. Directionally speaking, I think each of them are very unique but yes, seed, fertilizer good huge global markets and while the total amounts of seed processed removed, it would be less than grain obviously. But still in terms of the equipment require, specialized equipment required and the growth in those markets, huge markets but very small percentage. So represents lots of upside and growth for us in both feed - sorry, seed and fertilizer. And likewise in feed and food, just massive markets that we're just scratching the surface on. So each of those represents a lot of upside and lot of growth potential for us.

And presumably you'll look to grow in these through acquisitions?

Little bit of both actually. Some good organic initiatives in all four of those and then kind of emulate our 20 years sort of strategy of 50-50 in terms of organic and acquisition growth.

Okay, perfect. And I guess on the international backlog, you've said that you've had some recent project signed in Black Sea region in South America. I guess just wondering how we should think about modeling this, whether it's sort of evenly split between Q3 or Q4, or whether kind of you will see a bigger increase towards the end of the year. How should we think about that trending?

I think it's the latter. It's we'll see a bigger increase Q4 versus last year.

And we'll see a very healthy backlog from these international projects entering 2018, which is something we did not have entering 2017. So yes, that's right. In the recent weeks that backlog has increased significantly and the shipping schedules now are being laid out and we're shipping today. But you will see more of it in Q4 and into next year.

Okay. And maybe one more. Just have you seen any changes recently on the steel pricing side, or is it pretty stable right now?

It takes a little bit influx. It's not widely fluctuating but there is, I suppose, different views on correction on which way it will go. I think the fear maybe that Trump would introduce the 232 Bill. That risk seems to have diminished. Right now we see it as being somewhat flat over the short-term.

Okay, perfect. Thanks.

Thank you. Your next question is a follow-up from Steve Hansen from Raymond James. Steve, please go ahead.

Yes, hi guys. Just quickly here on the Brazil issue I just want to circle back. Certainly very clear I think you've got the facility complete and it sounds like the team has been invested in this high quality. I'm just trying to understand exactly what it will be or what the catalysts are to get the sales accelerating in the positive EBITDA territory? Is there any sort of - is it just time, is that what it's going to take, or is it individual projects, is it just better extension at sales force? I'm trying to understand what the key milestones you're looking to accomplish here in the next six months as we get into next year?

Fair enough. Right now we're commissioning equipment lines throughout that plant, and so as you can imagine, there is a bit of overlap of running two plants at the same time, our old plant and our new plant. And so the focus is getting all of the lines operating and at appropriate volumes and then rolling out all our product lines across Brazil. So it's - we expect to see all that coming together backend of '17 and then some nice contribution coming in or starting to come in in '18. We just repeat our incremental approach to Brazil. We're going to get the right products in the right places, the right sales team in place and start building relationships on-farm and in the commercial space with a long-term perspective in Brazil. So we'd like to be disciplined about how we build that from a product perspective rolling out the right products across the right regions getting the right partners, selling those with us and the right pricing, right margins, right costing for that business. So we'll take it slow and steady in order to have the right foundation for decades to come in Brazil.

Okay. Very helpful, guys. Thanks.

Thank you. There are no further questions at this time. You may proceed.

Okay. Well, thank you very much for joining us this morning and all the great questions. I look forward to talking again soon. Take care.

Ladies and gentlemen, this concludes today's conference call. We thank you for participating. And we ask you that you please disconnect your lines.