Badger Meter - Earnings Call - Q3 2019
October 17, 2019
Transcript
Speaker 0
Ladies and gentlemen, thank you for standing by, and welcome to the Third Quarter twenty nineteen Badger Meter Earnings Conference Call. At this time, all lines are in listen only mode. After the speakers' presentation, there will be a question and answer session. Please note that today's call is being recorded. It is now my pleasure to turn the conference over to Karen Barroop, Vice President of Investor Relations, Strategy and Treasurer.
Please go ahead.
Speaker 1
Good morning, and welcome to the Badger Meters third quarter twenty nineteen earnings conference call. On the call with me today are Ken Bockhorst, President and Chief Executive Officer and Bob Rockledge, Chief Financial Officer. The earnings release and related slide presentation are available on our website. Quickly, I will cover the Safe Harbor, reminding you that any forward looking statements made during this call are subject to various risks and uncertainties, the most important of which are outlined in our press release and SEC filings. Finally, please note that on today's call, we will refer to certain non GAAP financial metrics.
Our press release and slides provide a reconciliation of the non GAAP to GAAP financial metrics used. With that, I'll turn the call over to Ken.
Speaker 2
Thanks, Karen, and thanks for joining our third quarter earnings call today. We were pleased with the return to growth in the domestic utility market with sales up 2% against a near record comparison last year. You may remember from last quarter's earnings call, we stated we expected to return to growth in the domestic market in the back half of the year. We did begin shipping the three inches and four inches E Series commercial meters about midway through the quarter, and one of the two larger municipal smart water wins began to ramp as well. This, combined with the solid municipal utility market backdrop, provided the return to growth in Q3.
I remain encouraged by customer feedback on the new technologies and the solid funnel of opportunities as we look forward. In addition, our gross profit leverage remains in the upper half of our normalized range. SEA spend was well managed, and we were able to continue working capital initiatives and generate strong free cash flow again in the quarter. Bob will walk you through the details of the quarter and after that, I'll come back and talk about a few key strategic items and our outlook.
Speaker 3
Thanks, Ken, and good morning, everyone. Slide four gives you a snapshot of the financial results for the quarter compared to adjusted results in the prior year. Just as a reminder, the prior year amounts have been adjusted to exclude pension termination settlement and executive retirement charges for comparability. A reconciliation of these amounts is included in the appendix to the slide deck. Starting with sales, total sales for the third quarter were $108,600,000 compared to $110,600,000 in the same period last year, a decline of 2%.
In municipal water, overall sales declined 3%. Focusing on the domestic market, which obviously excludes our more uneven international revenues, we saw utility sales up approximately 2%. This quarter's domestic municipal water sales were the second highest in our history and fell just short of the record 2018. The increase was driven by continued adoption of smart metering solutions, including the newly launched large diameter three and four inch E Series commercial meters and Orion LTE M cellular radio endpoints. Sales mix remained positive with increased sales of ultrasonic meters and meters with radios as well as increased BEACON service revenue year over year.
Flow Instrumentation sales increased 1% year over year with puts and takes across the broad array of industrial end markets served. Operating profit as a percent of sales was 15.1%, down 100 basis points from adjusted prior year results. Taking a closer look at the drivers, gross margin for the quarter was 38.4%, once again in the upper half of what we would call our normalized range of 36% to 40%. In order of magnitude, favorable product mix was the primary driver with a higher proportion of BEACON service revenues, ultrasonic meters and meters with radios as well as favorable regional mix. We continued to experience favorable net pricing as brass input costs were lower year over year, albeit at a more modest pace than the first half of the year.
During the quarter, we did record a discrete warranty provision associated with the sourced system integration module for a previously installed solution sold only outside of North America. Excluding this specific provision, our gross profit margins would have been modestly higher than the prior comparable quarter. SEA expenses in the second quarter were $25,200,000 $900,000 below the adjusted $26,100,000 in the comparable period last year due primarily to lower incentive compensation and effective cost control measures. Our SEA leverage improved to 23.2% of sales from an adjusted 23.6% last year. The income tax provision in the 2019 was 22.1%, essentially in line with the prior year's 22.8% adjusted rate, with the third quarter generally the lowest tax rate quarter of the year.
Bottom line, adjusted EPS was $0.44 in the 2019, a decline of 4% from the prior year's all time record of $0.46 per share. We again delivered a solid primary working capital performance with third quarter working capital at 27% of trailing twelve month sales, down from 30.4% in the same period last year and on balance with the 26.9% at the end of our second quarter. Working capital management contributed to the 50% increase in third quarter free cash flow from $12,700,000 a year ago to $19,100,000 this year. On a year to date basis, our free cash flow to net earnings conversion is a very robust 159%. With that, I'll turn the call back over to Ken.
Speaker 2
Thanks, Bob. I want to take a minute to discuss one of the areas that frankly doesn't get a ton of attention from our investors, but its fundamental importance to us, and that's cash flow. These charts on Slide five display our free cash flow conversion, our ability to translate our earnings into actual cash flow and our primary working capital as a percent of sales trends. Bob just highlighted one of these, the nearly 160% free cash flow conversion for 2019 thus far. One aspect of our broad continuous improvement program has been focused on working capital management and you can see the early results.
Ongoing efforts to drive reductions in days inventory on hand, improvements in payment terms and tighter collection efforts span not just finance, but purchasing operations and others and serve as a great example of our continuous improvement culture. We are in a net cash position. And so why is this important? Capital allocation is one of our most important jobs, and our strong cash flow is supportive of our efforts to take a balanced approach by investing in Badger Meter's future growth, both organically and via acquisitions and meaningfully returning cash to shareholders as evidenced by the August announcement of our twenty seventh consecutive year of increased dividends. Finally, turning to Slide six.
As we move into the final quarter of the year, we see robust quote activity in a backlog supportive of our growth plans. The key project wins we highlighted earlier in the year are starting to ramp. Demand for the three and four inches E Series commercial meters has been strong and municipal spending trends are solid. From a macro standpoint, while employment is still quite good, trade and other uncertainty appear to be taking a toll on consumer sentiment and overall industrial demand. For Badger Meter, we remain largely unaffected by those particular trends since we are predominantly a U.
S.-centric replacement driven business. We will continue to monitor the environment, but municipal spending trends remain a positive backdrop for our utility water business. Execution on our strategic initiatives continues. We recently held a customer advisory council session, which is a process we use to gain insight on emerging customer trends and how our products and technology roadmap should evolve to meet those needs. Operational metrics and processes are being improved, including the addition of SIOP or sales, inventory and operations planning capabilities.
And finally, the active portion of the M and A pipeline includes some interesting technology opportunities. In closing, I want to express my appreciation to all of our employees for their hard work and dedication. With that, operator, please open the line for questions.
Speaker 0
Your first question comes from the line of Nathan Jones. Maybe
Speaker 4
we could just start on the progress here around the new technologies that are coming into the market. I know we've it's nice to see you guys return to growth in the domestic market here against pretty good comp. So maybe just a few questions around that. Can you tell me if there's more or less customers in pilot testing than there were three months ago? When does the pilot phase peak and customers begin to move more into the ordering phase out of this?
Speaker 2
Yes. Sure. Sure, Nathan. I I think I would characterize it rather than account of what's in pilot versus what moved into orders versus what moved into deferrals. It's probably easier to just think about this more as a phase in, phase out from the LTE M technology to the more robust LTE M.
And really, what we've seen is a return to normal, right? We're always going have people piloting it. We're always going to have people doing different things just the way we did before with the LTE technology. So what we've seen is a return to normal.
Speaker 4
Okay. Maybe you could talk about then I I mean, you're only just ramping up the sales of LTE M. When that radio is at kind of a full run rate, your normal kind of mix, what percentage of sales of radio sales do you think will be LTE M versus other technologies?
Speaker 2
Yeah. So so similar to what I was just pointing out there. So the LTE radio has now been phased out, replaced by the LTE M radio. So it isn't like we're still selling the LTE technology and the LTE M. Alright?
So so if you think about technology, mobile reads are always gonna be out there, and we like that. We continue to play on the mobile side. And as people make their decisions to go up to the full AMI systems, they'll be buying our LTE M Orion cellular.
Speaker 4
Got it. That makes sense. Maybe just on the on the new three and four inch commercial meters, maybe talk a little bit about the initial traction you're seeing from those products in the market. What advantages they generate for customers over the prior technology?
Speaker 2
Yeah. So so from a technology point of view, it's really a nice enhancement for customers because, it gives them the ability to, to sense for pressure, temperature, so it gives them more functionality. Also, on these higher flow applications that are that are the larger meters, here's a case where the ultrasonic does have an advantage with the no moving parts for wear, has better accuracy on low flow, and we've seen really strong, customer support out of the gate. I think the thing to remember is the three and four inch is just part of a total product line. So I wouldn't think of the three and four inch as some huge stack bar of growth.
It continues to improve our overall product line and and was a really important, product launch for us.
Speaker 4
Okay. And then just one more on this warranty charge. Bob said gross margin to be up slightly without that, which implies it was about $04 headwind to earnings in the quarter. It sounds like this is a third party component that had issues. Are you confident that this is contained to the third quarter?
Is it likely to see any others? And are there prospects for you to recover these damages from the supplier, given it sounds like just a part you were sourcing?
Speaker 3
Yes. So from the standpoint of the technology, it's very much quarantined to a specific region. So from the standpoint of charges and future charges, we would expect minimal moving forward. As it relates to pursuing recovery at this point in time, that's not something that we're pursuing. So to think about it broadly, in our mind, it's a Q3 event and a Q3 event only.
Speaker 4
Okay. So it's a 1x charge. All right. Thanks. I'll pass it on.
Speaker 2
All right. Thanks.
Speaker 0
Your next question comes from the line of Tate Sullivan. Your line is open.
Speaker 5
Hi. Thank you. On The U. S. Revenue increase, I mean, you had a consistent streak of The U.
S. Revenue growth the last four or five years. I think it's been around 6% a year. I mean, can you talk about I mean, with the positive muni backdrop you mentioned, I mean, any expectations for growth in your primary U. S.
Market?
Speaker 2
Yes. So as we transitioned into this new release on the LTE M, again, we're back we feel like we're back to normal in that phase in, phase out mode. Know of the two large ones that we announced in terms of projects relative to Columbia and Aurora. Columbia kicked off in Q3. Aurora will begin to kick off in Q4.
We are seeing robust demand in general for what we're offering. So yes, I mean, I feel like with how we felt coming out of Q2 and what we indicated on the last call, I feel like we've returned to what we expect.
Speaker 3
And not pitching anything to a specific quarter, I think as we talk long term growth rate, multiyear growth rate, I think we're still very confident in that low mid single digit range for the utility portion of the business as we move forward. So no change in that sentiment, no change in that signaling as we talk longer term.
Speaker 5
Great. And then you mentioned integrating the dFlow technology into the three- to four inches ultrasonic. Are there other future dFlow integration efforts? Or are you done integrating dFlow on all your products?
Speaker 2
No. That's one of the things that I'm actually excited about yet is that we're going to continue to build out the larger sizes. So the three and four was just the first release. We'll start to move into the six and eights and even larger, which will really help build out the full portfolio on the commercial side. And then we still have the opportunity in front of us to incorporate into the smaller residential meters and have a reasonable cost reduction that we'll be able to use, whether that's for taking more share and or improving margins.
So we have two really strong uses of the Deepflow technology still going forward.
Speaker 3
Yes. So, Tate, I would think about the larger size being product line extension and expansion that opens us up to bids we didn't participate in previously. Then I would think of what Ken mentioned in terms of the integration of that into the residential metering as being a cost improvement that will be used for combination of competitive global pricing as well as margin enhancement.
Speaker 5
Integration Has been on schedule? Has on the residential effort with D Flow, has that been consistent to your timeline expectation on that since the acquisition?
Speaker 2
Yes, Tate. So when it comes to implementing something that's going to reduce our costs, it's never fast enough in my point of view. But no, I mean, we expected that we would have done it this year, later second half. We're looking more now first half next year.
Speaker 5
First half, okay. Thank you. Have a good day.
Speaker 2
Sure, thanks.
Speaker 0
Your next question comes from the line of Chip Moore. Your line is open.
Speaker 6
Morning. Hey, guys.
Speaker 2
Hi, Chip.
Speaker 6
Wanted to circle back to piloting activity. It sounds like things are normalizing a bit, but how are you thinking about any sort of elongation in the sales cycle? Is that really are we past that? And any seasonal considerations, I guess, as we enter into the harder time of year?
Speaker 2
Yes. Let me break that into a couple of parts. So first, again, reiterating on the LTE M phase in, phase out of the LTE, we're feeling that's into a normalized phase. Again, we're always going to have people piloting. We're always going have people ordering.
So I don't think we're going to see more elongation there. The second part of the question, forgot already. So what was that?
Speaker 6
Well, it sounds like no. But just any in terms of elongation or piloting cycles, I think it's a factor in terms of seasonality.
Speaker 2
Yes. Yeah. That's right. So seasonality, seasonality, can be interesting when it comes to weather impacts and some of the other things. But I think to think rolling forward here now that we've got a couple of really large AMI integrations, The seasonality, I think, as we go through the next year, two years, three years, may not be as impactful as it had been in the past.
Speaker 6
Got it. And another one on SEA leverage, very strong. Any puts and takes there to take into account sustainability as we look forward?
Speaker 2
I think we've been pretty consistent in telling the story here on being able to leverage the SEA, particularly as we transition to higher average selling prices, larger AMI implementation. So I think we're feeling good about the SEA leverage, and I think it's progressing as we expected.
Speaker 3
So I think just to reiterate that Ken mentioned, again, our ability to leverage SCA over time as a large part of our top line story is about average sell price increase. I will say the one thing that won't change and the thing that we will remain steadfast continue to invest in the business organically to stay as a technology leader. So to the extent we find opportunities where we can accelerate new product development to keep us in a competitive advantage or to bump us to the top on a particular technology, we will not waver in that. So that's not meant to buffer or hedge the earlier comment. I still believe in the long term prospects of SEA leverage, but there may be bumps along the way where we decide to put more into organic investment in new product development.
Speaker 6
That's great. And maybe that's a good segue into one last one. You're in a pretty strong net cash position. How should we think about some of those organic investments and then potentially any assets you're looking at?
Speaker 2
Yes. So over the years, we've prided ourselves on the innovation that we brought to the market. So we will continue, first and foremost, to invest in R and D, as Bob just pointed out. We're proud of our twenty seven year history of increasing dividends year over year. That will continue to be a capital allocation priority for us.
And then the third part is continuing to ready the organization with our organizational capability and improving our acquisition funnel and finding meaningful strategic acquisitions to improve the technologies and solutions we bring to our customers. So internal R and D, sticking with our dividend history and investing in M and A. Your
Speaker 0
next question comes from the line of Richard Usman.
Speaker 7
Rick. Just a question. I just want to get maybe your perspective here a little bit. We talked about the domestic business, the municipal business, water meter business being up plus 2% when we pull out the international impact of the comp. Could you just give us a sense of what the residential versus commercial did against that 2% domestic?
Speaker 2
Yes. So the lion's share of the revenue is on the residential side. So the commercial doesn't really swing it that much one way or the other, I guess. I don't have the specific number in front
Speaker 7
of me. But I'm just curious, I mean, the three and four introduced, that kind of would be more of a commercial product. So I'm just curious if commercial was up 10% and residential was flat. I just trying to get some sense of that.
Speaker 2
It was really consistent with a normal quarter. So there wasn't spike in commercial that would have covered for residential, very And
Speaker 7
so when I look at that number, the 2% domestic community water, what's your take on that number, that growth rate relative to what a market growth rate would have been in the third quarter?
Speaker 2
Well, I would go back to the point that we expect for the long cycle to grow in the mid single digits, mid 6% to 8% -ish. The fact is we were up 2% this quarter. We're proud of being up 2% this quarter. Last year, year over year, we were up 12%. So it was a really tough comp.
So we still think the market might have been above R2, but we're certainly not feeling bad about R2.
Speaker 7
Okay. Okay. And the international business, I know the swing factor has mostly come from The Middle East. But I'm curious, with that business down, I think the comp was somewhere around 3,000,000 to $4,000,000 in The Middle East. But with that business down as much as it is, what is the run rate of the international business, including Mideast?
I mean if you look at the third quarter here, dollars times four, just curious where that run rate is at?
Speaker 2
Yes. So the interesting thing about the international markets compared to The U. S. Is in The U. S, right, we have 50,000 municipalities yeah, that are that are generally doing replacements, and and you have a lot of people doing a lot of different types of activities, some up, some down, depending on where it's at.
When you look across the world, you're looking at individual countries or cities that are implementing new systems. So the replacement business isn't there. Right? So it it tends it will tend to be more lumpy in the fact that it's more integrations that are large, and then they happen one year, and they may or may not happen the next. Or so it'll it'll continue to be uneven.
It doesn't dampen our enthusiasm for what we're finding for utility water utility opportunities around the rest of the world. But I don't think you're going to see a consistent run rate from us over the couple of next couple of years, right?
Speaker 7
Well, but I'm just curious, when I look at I mean, stated another way. If I look at utility sales in the quarter, around 84,000,000 And I'm just trying to figure out what percentage of that do you count as international? Because my understanding is international is, I think it's Middle East, but isn't it also don't you throw Mexico in there?
Speaker 3
I'm just curious what percentage of that is. Internally, when we talk domestic and when we're using the term domestic here today, it's basically an Americas number, whereas rest of world would encompass Middle East and other countries. But largely, our international presence, when you look across the entire book of business, has historically been more about flow instrumentation than it has utility. So it's a relative it is a very small piece of that full utility number that you just mentioned.
Speaker 7
So if my comp number is right, somewhere around, let's say, it's 3,000,000 to $4,000,000 was the Middle East shipment last year, does that in this quarter, does that 3,000,000 to $4,000,000 number go to zero?
Speaker 3
No. It that lumpy? No. I mean it is I mean, again, we're kind of splitting hairs here. But with The Middle East number of 3,000,000 to $4,000,000 our international number a year ago was modestly higher than that 3,000,000 to $4,000,000 And in current year, it's basically $1,000,000 So the largest part is that non recurrence, but it is very, very small numbers.
Speaker 7
Okay. No, I understand. I'm just trying to get an order of magnitude. And then there was a reference, Ken, to the run rate around Beacon recurring revenue, subscription revenue. Is that number started to register on the scale at all?
I'm sure it's a big growth rate, but I'm curious, order of magnitude, is it a few million bucks? Is it what kind of number has that grown to?
Speaker 3
Yes. So generally, we've been running obviously, you're right exactly because it's running from a small base, you're seeing larger percentage increase, currently operating right around 3% of consolidated revenues being that kind of recurring base. And obviously, we've talked openly about with the adoption of and the migration to AMI systems and also the adoption of cellular as a preferred technology, Internally, we measure to wanting that to be 10% of utility based revenues over our five year strategic plan. So that's not a secret, but we're sitting currently at about 3% of total consolidated sales.
Speaker 7
Of utility sales? 3% of consolidated. Total, okay. Total, fair enough. Yes, I get it.
Okay, great. Thank you very much. Yes, you're welcome.
Speaker 0
Your next question comes from the line of Richard Verdi. Your line is open.
Speaker 8
Hi, thank you for taking my call. So basically, my company level inquiries have been addressed, but I just have a couple of broad questions remaining. I kind of heard from a few clients, they feel the Orion LTE M technology is somewhat inferior to other technologies. And so can you kind of address why the company feels choosing the Orion LTE M technology was best and kind of compare it to your peer offerings?
Speaker 2
Yeah. So I'm I'm certain that the people who express that to you aren't our customers. So because because the benefits are are many. Right? So so initially, there's zero infrastructure investment required to be able to ramp up an AMI system.
There's no time based limit where you have to build out that system first. You can continue to improve at the rate of technology with cellular, evolves faster than a fixed network. And and specific natural disaster communication issues, if you have a problem with with, your fixed network getting damaged, cellular comes up faster. There's a different rate at with which you can pay your subscription fee for the software as service, a which our customers really value. So I'd love to spend a lot more time with you to explain that in more detail, but it is in no way inferior to the other options.
Speaker 8
Okay. Okay. Great. You you kind of answered my second question there. I'm going to jump out.
Thank you very much for your
Speaker 7
Yes, you're welcome.
Speaker 0
Your next question comes from the line of Andrew Buscaglia. Your line is open.
Speaker 2
Andrew, that was close, right?
Speaker 5
Okay. That's a new one. Can you guys talk a little bit more about you're saying you had some commentary in the call that municipalities are showing interest. You're encouraged by their interest level. How much of this is related to new technologies like five gs coming online?
How much of it is a function of how they feel about the environment? I'm just trying to get inside the mind of what municipalities are thinking right now and looking out to 2020, kind where you get confidence that things will improve?
Speaker 2
Yes. So I think the way that municipalities are looking at AMI adoption is that it's helping them solve a lot of their problems, right? So it's helping them be more efficient in how they're able to do their billing reads. It's making them more in tune with supply demand within their system. It's helping them identify leaks and conserve water, which is really important in several parts of the country and the world.
There's many benefits to an AMI solution that are driving customers that way. And then on top of that, generally, they're feeling pretty good about their ability to spend money. So I think it's a convergence of the technology really is solving problems for customers at a time when they can spend money to do it.
Speaker 5
Okay. Okay. I see. And then, you made a point on, the prepared remarks to talk about your cash flow, And it really has been building over the last year. What are your thoughts of maintaining or letting that continue to build just to fortify sort of your balance sheet?
Or what are you if you are spending outside of M and A, what kind of R and D or what kind of stuff would you be spending on exactly?
Speaker 2
Yes. So we can start from the R and D front. And one of the things that we will continue to do is build out our ultrasonic large meter line to have the full line on the ultrasonic side. Second piece that we'll continue to work on is building the rest of world meter portfolio that we need. Third thing, there will continue to be evolutions in cellular technology.
LTE M was last. NB IoT is also coming. We are working on releasing in the early half of next year our flow limiting valve, which we're getting a lot of great feedback from our customers. So there's a lot of great R and D actions and continuing to build out our software as a service platform. If you recall, we acquired AquaQ in 2013.
We've got a great team of software engineers out in Silicon Valley, and we continue to develop new ways to help utilities be more efficient and real time with software. So we have a full plate of R and D activities that we're excited about. And then on top of that, we're gonna continue to look for really nice M and A tuck in and technology extensions like we've done before with dFlow and that we've done, really good work with and similar with AquaQ. So we have plenty of great things that I think we can continue to invest in at the appropriate rate that our customers are looking for.
Speaker 5
Got it. Maybe just one last one. We talked a little bit about the international markets, and you guys focus on a lot of discussions around The Middle East. What about The U. K?
Can you talk a little bit about that market and if you see that as a good opportunity for you too?
Speaker 2
Yes. So The U. K. Is certainly interesting to us. It's a market with 15 utilities.
There's a lot of growing, I think, need and discussions there around AMI type solutions. The fact that we have and are continuing to build out our rest of world meter offering, I think that will be an opportunity for us rolling forward as well as building on Middle East, some pockets of Southeast Asia. I mean that's just one area that we think we can play. But yes, I think you're right about that.
Speaker 3
And certainly, the legislative and regulatory environment there is definitely driving toward more smart metering applications. And so, yeah, ripe overall. Think what we've done internally is obviously had to rally the resources, infrastructure and channel to support that market, which is very early stages for us.
Speaker 5
Your
Speaker 0
next question comes from the line of Nathan Jones.
Speaker 4
Still despite highlighting it in your slideshow, nobody's talking about cash flow. So I'll talk about cash flow. It looks like a lot of the improvement here has been in payables and receivables. You did have pretty high levels of both in 3Q 'eighteen. Can you talk about a little bit more about the kind of process improvement that you've made, terms and conditions potentially that you've made on both the payables and receivables side that's driven that primary working capital number down to that kind
Speaker 5
of 27% level?
Speaker 3
Yes. I really just think it's a bit more focused than has historically existed. And that's not to throw anybody else under the bus. I think it's just with new perspective come new processes. And so I think it's a little bit of motherhood and apple pie on the receivable side.
It's just staying closer to collection status, having more frequent touch points with customers, really identifying pockets of payer behavior that we could improve, area being on the flow instrumentation line of business in Europe, just having a renewed focus on historic agreements and terms. So very much motherhood and apple pie as it relates to receivables. And I would say the same holds true from a payable standpoint. I think we've long prided ourselves on being a good payer, and we'll continue to do that. I would just rather be a good payer at sixty days than I would at thirty days.
And so we've taken a targeted approach with our supply base to identify top 100, top 150 type suppliers and pursue at what I'll call advantageous terms discussions about extending our payment terms, which I think is clearly very common within manufacturing, just an idea we're bringing to the table now. But you're exactly right. Those are the two pockets of improvement, and that's a big part of what we've been able to do here in the last really three quarters of that focus, and that's been a tailwind for cash flow and is certainly contributing to the 159% free cash flow conversion and net earnings perspective that we just talked about. Yes. And if I
Speaker 2
could add, Nathan. So we I mentioned also that we've kicked off a sales inventory and operations planning system. So, you know, we're really investing and trying to make sure that we optimize our inventory, so we can continue to keep the the the service levels that we have, but we certainly think we can do better on the inventory side yet as well.
Speaker 8
So that that was
Speaker 4
gonna be where I was going next. I mean, I normally think of, you know, world class primary working capital management being at about 20% of sales. I would imagine Badger Meta, given the type of business, given that, you know, short turnaround that you can have on some of these meters, would require a higher level of inventory than that. So I don't think, you know, 20 would probably be too low, and your service levels would suffer at that point. But 27 probably still feels a little bit high as well.
If you were operating optimally, where would you think that that primary working capital number should be?
Speaker 2
Well well, first, let me tell you why you're right, that we would that we would generally have a higher number. So, as we believe, we pride ourselves on the choice that we offer our customers. We have the full line of mechanical meters and whether that's in brass or polymer. We have the ultrasonic. So we generally are gonna carry more inventory to support our customers of choice.
So that's one. Two, as we ramp up the Columbia's and the Aurora's, there are gonna be specific times where we're ramping up inventory to handle some of these large integrations where we've not received any revenue yet. So those are a couple of factors that are pretty large on it. I think we can continually improve as a percent of revenue over the next few years. What the endpoint is, I don't know.
But I do expect to get better every year.
Speaker 3
Yes. Would say rearview mirror, we've operated in the high 20s, sometimes even at 30%. We'll never I'll never give you a 22.6% is the ideal level, but what we will be committed to is that continuous improvement. And just so happened that in the last three quarters, we've been able to move that number down 200 basis points, and we're pleased with that progress, but we're going to keep growing to enhance that each year through a little bit of motherhood and apple pie and then some systematic implementation of SIOP and other things that will drive impact further.
Speaker 4
Okay. So maybe inventory is a little bloated at the moment as well based on Columbia and Aurora ramping
Speaker 6
up,
Speaker 4
and that might last through, you know, I guess, early next year kind of thing, and we should maybe expect to see the inventory roll down a little bit after those two fifty run rate?
Speaker 3
Focused on all three elements of primary working capital, Nathan. So
Speaker 2
I'm filled with a 160% free cash flow conversion year to date.
Speaker 4
No. I I I you know what Wall Street's like. We all walk we're well far. I just thought I'd remind you of the just
Speaker 2
thought I'd come back and remind you of that for a while. But no. I your point your points are valid, but I think, the thing that you should recognize is Bob and I, and the rest of the team here, we, you know, we've spent the majority of our career working on maximizing our cash. And so that's when Bob just talked about new processes and different things. It's something that's in our DNA, and we'll continue to work to improve it.
Speaker 0
Your next question comes from the line of Tate Sullivan. Your line is open.
Speaker 5
Thank you. Thank you for the follow-up. And I think just can you give a little more clarity on the warranty provision in the quarter? And I mean, just it's outside The U. S.
Can you talk about what a system integration module is? And last, sorry for the list of questions. Last, when was the last time you took a warranty charge in The U. S, if you can disclose, too, please?
Speaker 2
Yes. So first, I would just say that this is definitely an outlier, as Bob mentioned before. It's a part that goes into a system that unfortunately didn't work. We moved on, and we don't expect it to repeat. And in terms of US, I mean, yeah, I mean, we generally don't disclose.
There's nothing large enough to disclose. I think we I'm looking at Bob now,
Speaker 3
but Let me just come back. Just modify one thing, what Ken just said in terms of we moved on. He says that, when we moved on is we're still supporting our customer. We're going above and beyond to support that customer and make sure we can make right the performance of that system and the communications of that system. So we're doing what's right and we're encouraged by the fact that even with that, our gross margin profile still landed at 38.4% in the quarter, still in the upper half of our normalized range.
But then to your secondary question, of course, just like any other manufacturer, we have warranty provisions. It's just this tends to be an outlier versus our normal rate of accrual.
Speaker 5
Is it a unique system to the foreign client and country?
Speaker 2
Yes. Yes. It was a unique system to that foreign client. And we've come out with a new product, and it's behind us.
Speaker 5
Okay. Great. And just on that guided, I think you've guided before our gross profit margin range, or I don't want to say guidance because you don't put up, of about 38% to 40%. But your comments, I mean, without the warranty charge, you get back up close to last year's gross profit margin level of 40%. And then you have Beacon growing, which I imagine is higher margin.
I mean, should we just stay with that 38% to 40 expectation?
Speaker 3
So what we've talked about openly is a normalized range historically of 36% to 40% with copper where it's at today and some of the margin enhancement initiatives that we're focused on. We've talked about being able to tighten that historic range. But I continue to reinforce with investors and others and the like that we're still operating in primarily a North American oligopoly. And so the expectation that, that range or that tight range continues to move to the right, I'll always use It's not a stairway to heaven. We're still competitively in the marketplace with a four player oligopoly here in North America.
And while we're rational and we're all good competitors, to think that we can keep stringing together margin expansion into the 40%, 4142% range is just not realistic over time. So I would keep you laser focused on the upper end of the upper range of that range, if you will, particularly with where copper is today.
Speaker 5
There
Speaker 0
are no further questions at this time. I turn the call back over to the presenters.
Speaker 1
Great. Well, thank you all for joining our call today. For your planning purposes, our fourth quarter year end twenty nineteen call is tentatively scheduled for February 5. I'll be around all day to take any follow-up questions you may have. Have a great day.
Speaker 0
This concludes today's conference call. You may now disconnect.