Kirby - Q2 2018
July 26, 2018
Transcript
Operator (participant)
Good day, and welcome to the Kirby Corporation 2018 second quarter earnings conference call and webcast. All participants will be in listen-only mode. Should you need assistance, please signal conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. As a courtesy, we please ask that you limit yourself to one question and a single follow-up. To ask a question, you may press star, then one on a touch-tone phone. To withdraw your question, please press star, then two. Please also note this event is being recorded. I will now like to turn the conference call over to Mr. Eric Holcomb, Kirby's Vice President of Investor Relations. Mr. Holcomb, the floor is yours, sir.
Eric Holcomb (VP of Investor Relations)
Good morning, and thank you for joining us. With me today are David Grzebinski, Kirby's President and Chief Executive Officer, and Bill Harvey, Kirby's Executive Vice President and Chief Financial Officer. A slide presentation for today's conference call, as well as the earnings release that was issued yesterday afternoon, can be found on our website at kirbycorp.com. During this conference call, we may refer to certain non-GAAP or adjusted financial measures. A reconciliation to the non-GAAP financial measures to the most directly comparable GAAP financial measures is included in our earnings release and is also available on our website in the Investor Relations section under Financial Highlights. As a reminder, statements contained in this conference call with respect to the future are forward-looking statements. These statements reflect management's reasonable judgment with respect to future events.
Forward-looking statements involve risks and uncertainties, and our actual results could differ materially from those anticipated as a result of various factors. A list of these risk factors can be found in Kirby's Form 10-K for the year ended December 31, 2017, as well as the subsequent filing on Form 10-Q for the quarter ended March 31, 2018. I will now turn the call over to David.
David Grzebinski (President and CEO)
Thank you, Eric, and good morning, everyone. I'll start my comments with a summary of the second quarter results, and then I'll turn the call over to Bill to walk through the financials in more detail. Following Bill's comments, I'll provide an update on our third quarter and full year guidance and then turn the call over to Q&A. Yesterday afternoon, we announced 2018 second quarter GAAP earnings of $0.48 a share. These earnings included a previously announced one-time, non-tax deductible charge of $0.30 per share related to the retirement of our Executive Chairman, Joe Pyne. Excluding this charge, our second quarter earnings were $0.78 a share, which compares to $0.48 in the 2017 second quarter, and our guidance range of $0.60-$0.80 a share.
In the inland marine transportation business, we delivered strong improvement in revenue and operating profit as this business started its recovery from the prolonged downturn, and we realized the benefits of recent acquisitions. During the quarter, our team completed the integration of Higman and also moved quickly to capture the benefits of the Targa pressure barge fleet, which was purchased in May. In total, nearly 180 barges and 75 towboats have been added to the Kirby fleet through these acquisitions this year. The dedication and experience of our team to effectively deploy these assets has kept utilization rates high. Additionally, swift and thoughtful action to maintain equipment, realize synergies and cut costs has paid dividends. As a result, I'm pleased to report that both of these businesses are exceeding expectations and contributed favorably to our second quarter earnings.
Operationally, although high water on the Mississippi River hindered our operations in the first month of the quarter, overall operating conditions and efficiencies improved sequentially as the summer months approached. As a result, Kirby, and we believe the industry as well, experienced a modest seasonal decline in utilization, with our rates hovering around 90% throughout the quarter. This slight softening of utilization levels across the industry kept spot market rates in check, with little overall change compared to the first quarter. However, with spot market rates improving 10%-15% year-on-year, term contracts renewed up in the low single digit range on average during the quarter. I believe this is a positive trend that should continue and lead to the anticipated mid-single digit pricing inflection that we've talked about, happening sometime during the second half of 2018.
In the coastal sector, market fundamentals remain challenging, but were stable compared to the first quarter. During the quarter, we did renew a few spot contracts modestly higher, supporting our belief that this market has bottomed. Our coastal fleet utilization rate improved into the low- to mid-80% range during the quarter, and our operating profit margin improved to the negative low- to mid-single-digit range. While we continue to expect it to take another 12 months or so for this market to rebalance, we did take advantage of a strategic opportunity to purchase, at a significant discount, a new 155,000-barrel ATB for $50.1 million, which was being constructed by a competitor. The final construction cost for this unit is expected to be approximately $65 million.
Once this ATB is delivered later this quarter, we expect to retire an older vessel that is currently operating in our fleet. The Distribution and Services segment had another strong quarter, delivering sequential and year-on-year growth in revenue and operating income, particularly in our oil and gas businesses. Despite continued vendor delays on the delivery of new engines and transmissions, our manufacturing teams delivered record volumes of new pressure pumping units and equipment to domestic and international customers, including the new units that were delayed in the first quarter. In our commercial and industrial market, we experienced continued recovery in high service levels for marine engine overhauls and service throughout the second quarter. Improving market conditions in the inland sector, both in liquids and dry cargo, contributed to favorable sequential and year-on-year results, as many of our customers could no longer afford to defer major maintenance on their fleets.
In our power generation business, we began to see higher utilization rates for our specialty rental units in anticipation of summer storms, as well as increased demand for backup power systems. The nuclear business was stable during the quarter. In summary, things continue to move in the right direction. Inland Marine has turned the corner and is expected to continue to improve going forward. Coastal remains stable and has recently experienced some green shoots with improved utilization and a few spot contracts renewing slightly higher during the quarter. In Distribution and Services, although we continue to experience supply chain bottlenecks, our manufacturing teams managed to deliver a significant volume of new pressure pumping equipment to the market and have outperformed our expectations. In a few minutes, I'll talk more about our outlook for the third quarter and the remainder of the year.
But before I do, I'll turn the call over to Bill to give you some more details on the second quarter results.
Bill Harvey (EVP and CFO)
Thank you, David. Good morning, everyone, and thank you for joining us. In the 2018 second quarter, our Marine Transportation segment revenues were $378.2 million, with an operating income of $38.2 million, and operating margin of 10.1%. Compared to the first quarter, revenues increased 11%, primarily due to a full quarter of the Higman assets, the contribution from recently acquired pressure barges, and improved operating efficiencies in the inland market. Operating income increased $22 million sequentially, primarily due to the higher revenue, but also due to $8.3 million of one-time, non-recurring costs related to Higman, an amendment to our stock plan, and severance that impacted our first quarter results.
Compared to the 2017 second quarter, revenues increased $46.9 million, or 14%, and operating income increased $2.6 million, as lower year-over-year pricing in the inland and coastal markets reduced operating margins. In the inland sector, revenues were roughly 30% higher than the second quarter of 2017 due to the Higman acquisition, additions to our pressure barge fleet, and overall improved barge utilization. The increase, however, was partially offset by the full year impact of lower average term contract pricing and the lower average pricing of the Higman contract portfolio. During the quarter, the inland sector contributed to approximately 76% of our marine transportation revenue, compared to approximately 77% in the first quarter.
Long-term inland marine transportation contracts, or those contracts with a term of over one year, contributed approximately 65% of revenue, with 62% attributable to time charters and 38% from contracts of affreightment. Term contracts that renewed during the second quarter were up in the low single digits on average compared to the 2017 second quarter. Spot market rates were largely unchanged sequentially, but went up 10%-15% year-over-year. During the second quarter, the operating margin in the inland business improved to the mid-teens. In our coastal marine market, second quarter revenues declined approximately 15% compared to the 2017 second quarter, primarily due to lower contract pricing and a reduction in volumes transported as a result of barge retirements completed at the end of 2017. These reductions were partially offset by barge utilization improving to the low to mid-80s.
Regarding pricing, while it is contingent on various factors, including geographic location, vessel size, vessel capabilities, and the products being transported, average clean service contract pricing for an 80,000-100,000-barrel barge was down approximately 10%-15% compared to the 2017 second quarter. However, both term contract and spot market pricing were generally unchanged in the second quarter as compared to the first. During the second quarter, the percentage of coastal revenue under term contracts remained at approximately 80%, of which approximately 85% were time charters. The coastal business operating margin improved to the negative low double single digits during the quarter.
With respect to our barge barrel capacity in the inland sector, during the quarter, we retired 20 barges with a total capacity of approximately 452,000 barrels, and we took delivery of 1 specialty barge that had been under construction by Higman with a capacity of approximately 26,000 barrels. As previously announced, we also acquired 16 pressure barges from Targa with a capacity of approximately 258,000 barrels. The net result was a decrease of 3 tank barges and a total capacity reduction of 168,000 barrels. At the end of the 2018 second quarter, the inland fleet had 990 barges, representing 21.7 million barrels of capacity.
During the remainder of 2018, we expect to take delivery of one additional 24,000-barrel specialty barge that was acquired through the Higman acquisition, and we also plan to retire 6 additional barges with approximately 76,000 barrels of capacity. On a net basis, we currently expect to end 2018 with a total of 985 inland barges, representing 21.7 million barrels of capacity. In the coastal marine market, there were no changes to our barge count or barrel capacity during the second quarter. As previously mentioned, we expect to take delivery of a new 155,000-barrel ATB in the third quarter. However, we intend to retire an older vessel with a similar barrel capacity currently operating in our fleet.
We also intend to return two barges to charterers with a total capacity of 135,000 barrels before the end of the year. On a net basis, we currently expect to end 2018 with 53 coastal barges with 5 million barrels of capacity. Moving to our distribution and services segment, revenues for the 2018 second quarter were $424.5 million, with an operating income of $40.2 million. Compared to the 2017 second quarter, revenues and operating income were up sharply, primarily due to the incremental contribution from S&S, strong demand for our oil and gas products and services, and improving market conditions in the commercial marine diesel engine repair business.
Compared to the 2018 first quarter, revenues increased 6%, or $23.2 million, and operating income increased $3.2 million, primarily due to increased manufacturing activity in the oil and gas market. During the second quarter, the segment's operating margin was 9.5%, which is up about 30 basis points sequentially, but down from 11.5% in the 2017 second quarter. In our oil and gas market, favorable oil field fundamentals resulted in a significant increase in revenues and operating income associated with the manufacturing of new pressure pumping units, both sequentially and year-on-year. During the quarter, the manufacturing business delivered a record number of pressure pumping units, which included units that were delayed from the first quarter due to vendor supply chain constraints.
We also experienced continued strong demand for new and overhauled transmissions in our oil and gas distribution business. For the second quarter, the oil and gas businesses represented approximately 72% of distribution and services revenue and had an operating margin in the low double digits. In our commercial and industrial markets, compared to the 2017 second quarter, we experienced increased demand for overhauls and service on marine diesel engines, particularly related to inland towboats, as the tank barge and dry cargo markets recovered. Compared to the first quarter, activity in our commercial marine business was stable. Service activity in the power generation market was unchanged year-on-year, but mixed compared to the 2018 first quarter, as seasonal increases in rentals of standby power generators were partially offset by lower service levels for major nuclear and commercial customers due to the timing of projects.
For the second quarter, the commercial and industrial businesses represented approximately 28% of distribution and services revenue and had an operating margin in the mid- to high-single digits. Turning to the balance sheet. As of June 30th, total debt was $1.44 billion, which represented a $450 million increase versus the end of 2017. Compared to the end of the first quarter, total debt increased slightly as strong cash flow was used for $119 million of spending, which included the $50.1 million of CapEx for the new 155,000-barrel coastal ATB and the $69.3 million of cash used to acquire the Targa pressure fleet. Our debt-to-cap ratio at the end of the second quarter was 31.2%.
Looking forward, we intend to prioritize deleveraging with our free cash flow during the remainder of the year. I'll now turn the call back over to David to discuss our guidance for the third quarter and the remainder of the year.
David Grzebinski (President and CEO)
Thank you, Bill. In our press release yesterday afternoon, we announced our 2018 third quarter guidance of $0.50-$0.70 per share, and we provided our full-year 2018 updated guidance of $2.50-$2.90 per share, and that excludes the one-time charges of $0.30 per share related to Joe Pyne's retirement as Executive Chairman, as well as a $0.05 per share impact from a first quarter amendment to our employee stock plan. Overall, we have lowered the midpoint of our range by $0.05 compared to the previous guidance range of $2.50-$3 per share. In the inland transportation market, we expect our utilization to be in the low 90% range for the third quarter and the low-to-mid 90% range in the fourth quarter.
We anticipate that with increasing customer demand as the petrochemical buildout progresses, combined with continued industry tank barge retirements and minimal new tank barge construction, we will keep industry utilization at or above 90% for the duration of 2018 and into 2019. As a result, we continue to expect mid-single-digit pricing improvement on term contracts that renew in the second half of 2018. As stated in prior quarters, the low end of our guidance range assumes minimal term contract pricing improvement in 2018, and the high end assumes mid to high single-digit pricing improvement in the second half of this year. In regards to expenses, there has been a tightening of the labor market, therefore, we have recently implemented wage increases to our inland mariners and shore staff employees.
This will have an adverse impact of approximately $0.05 per share for the second half of 2018, but it is included in our updated guidance. In the coastal market, we expect utilization in the low- to mid-80% range for the remainder of the year. Our guidance range assumes a stabilized pricing environment with no material change in market fundamentals in the near term. Overall, the midpoint of our guidance range assumes that the full-year 2018 marine transportation operating income will be flat to up slightly compared to 2017. This reflects the full-year impact of term contract pricing from last year, lower inherited Higman contracts, and the impact of the inland wage increases.
However, we expect these to be mostly offset, or more than offset, by anticipated term and spot pricing improvements in the second half, plus favorable operational contributions from both Higman and Targa, as well as some lower costs in our coastal operations. For our distribution and services segment, we expect reduced revenue and operating income in our oil and gas businesses during the third and fourth quarters. Vendor supply chain issues are expected to push out deliveries of new transmissions and engines for many pressure pumping units that will be under construction. As a result, many of these new units are not expected to be completed and revenues recognized until the fourth quarter or into early 2019. Additionally, some of our oil field customers are facing supply chain constraints of their own.
Sand and labor availability, as well as logistical challenges, have created a shortage of resources for them. As a result of these dynamics, we have felt some softening in new pressure pumping unit equipment orders. We, we believe that this could have some temporary impact on our manufacturing businesses for the remainder of the year. However, remanufacturing and maintenance activities remain strong, and the longer term outlook is very favorable, and that includes Permian takeaway capacity growing. I will talk about those positives and others in a minute. In our commercial and industrial markets, we expect the third quarter to be in line with the second quarter. Seasonal declines in our commercial marine business related to timing of major engine overhauls should be offset by increased demand for standby power generators during the hurricane season.
Overall, despite the vendor challenges we are currently experiencing and some softening in new orders for pressure pumping units, we expect revenues in the distribution and services segment to be strong and range between $1.45 billion and $1.65 billion, with operating margins in the high single digits throughout 2018. Now to sum things up, our second quarter results were solid. In inland marine, recent acquisitions are generating positive momentum and contributions to earnings. Term contract pricing has recently started to move higher on average, and overall, it appears that a pricing inflection is likely in the second half of the year. Coastal remains stable and profitability has improved.
Green shoots are starting to appear, and although it will be some time before this market reaches balance, I am confident that our recent investments to improve the efficiency of our fleet will pay big dividends in the long term. In distribution and services, we had a very strong quarter, but have short-term challenges ahead of us, as our vendors struggle with timely deliveries of equipment that we need to complete pressure pumping units on schedule, and our customers are still trying to manage through their infrastructure issues. While this could result in a slowing of the pace of new pressure pumping units completed over a couple quarters and into 2019 and beyond, we maintain a very favorable outlook for this business. Drilled but uncompleted well inventories continue to rise, and the near term pause will only allow the underlying supply chains times to catch up.
Ultimately, we think this will extend the cycle and create more ratability in the market. Additionally, under investment in long-term E&P expenditures, both in international and subsea projects over the last few years, coupled with growing world demand for oil, has changed the landscape for U.S. shale and ultimately the frack industry. With numerous new pipelines from the Permian to the Gulf Coast under construction or proposed, including a new 1 million barrel per day pipeline announced by Exxon and Plains, the evidence is mounting that U.S. shale will play a more meaningful role in the supply of world oil going forward. This will not only create higher demand for pressure pumping equipment in the oil field, but it will also translate into incremental liquid volumes for our industry-leading marine transportation business. Finally, our balance sheet remains strong.
While we have recently used debt to fund a couple of sizable barge acquisitions, we are generating strong cash flow from operations, and this is keeping our debt levels relatively unchanged sequentially. Operator, that concludes our prepared remarks. We are now ready to take questions.
Operator (participant)
Thank you, sir. We will now begin the question-and-answer session. To ask a question, you may press star, then one on your touchtone phone. If you're using a speakerphone, please pick up your handset before pressing the keys. If any time a question has been addressed, and you'd like to withdraw your question, please press star, then two. Again, as a reminder, we please ask that you limit yourself to one question and a single follow-up. At this time, we will just pause momentarily to assemble our roster. The first question we have will come from Jon Chappell of Evercore. Please go ahead.
Jon Chappell (Analyst)
Thank you. Good morning, guys.
David Grzebinski (President and CEO)
Hey, good mrning, Jon.
Jon Chappell (Analyst)
David, if I can start with, D&S, just, some quantification, if we can. I mean, I think the vendor delays mean the backlog doesn't change, and you're just gonna get the revenue maybe a little bit later than you thought, whereas maybe the deceleration of new orders, given the infrastructure issues, could be potentially permanent lost revenue. So is there any way to kind of quantify the new guidance range, how much of that has to do with these temporary and timing issues versus maybe a near-term outlook change, as far as new ordering is concerned?
David Grzebinski (President and CEO)
Yeah, I would say that almost all of this guidance changes is temporary in nature because of vendor delays and a little bit due to revenue recognition. But look, our current backlog as of today is actually a little above where we were at the end of the first quarter. So, you know, business isn't bad. It's actually quite good. I think we're just seeing a little pause in the pressure pumping new orders. But I will say this: we're seeing an increase in remanufacturing orders and maintenance activity. I think this is all positive. Our pressure pumping customers are being very disciplined right now with their capital, and I think that's positive for the longevity of the cycle.
But let me go back to the temporary nature here. You know, with we've had some significant vendor delays, and with the new revenue recognition accounting, it makes things slide out a little bit. Bill, maybe you can bring us add a little color to the revenue recognition piece of this, if you-
Bill Harvey (EVP and CFO)
Sure, sure. And, Jon, one of the aspects of revenue recognition that's front and center here is that I don't want people shouldn't assume that this means that our results will be normally as volatile as this creates. Normally, at the end of every quarter, there are things we have sold, there's units that are just not completed, and under the new rules, instead of under the percentage of completion, we don't get the revenue until it's shipped and the control changes hands. Normally, that would just be a marginal impact at every quarter. It depends on when the units ship, if they're just afterwards or not.
Here, because of the vendor delays that are really coming to play, won't be resolved or start to be resolved, better wording, in September, we have quite a few units that will be built up, and we won't recognize that revenue until they're shipped, and that could will spill into the fourth quarter, and we're being conservative. We think some of that may end up shipping, spilling over into the first quarter. Again, what that does is it moves the revenue out until that point, and, as in any business, there's fixed costs all, all above that, so that aren't absorbed until the revenue we realize the revenue. So that is, that is not normally what you would occur with the shift in accounting, and, normally it would be almost a non-issue, with the shift from a percentage completion.
David Grzebinski (President and CEO)
But let me come back, Jon, to the larger outlook, and that's 2019. Look, the Permian takeaway, which, you know, is some of that's getting blamed on a slowdown in new orders. But again, I would say that our pressure pumping customers are being very disciplined. And in fact, some of the major customers, including one of our big customers, said that essentially they're booking up 2019 now. So, you know, I think it's this is more of a pause, and some of it, well, most of it's temporary, and we're still very bullish, and I think it's, we're in for a good 2019 and probably a good 2020 as well.
Jon Chappell (Analyst)
All right. That's incredibly helpful. Thanks, David and Bill. And just my follow-up, hopefully much quicker. Just trying to rectify some of the commentary on the coastal on front page of the press release, challenging in the outlook section, challenging, but a rebound expected in the next year or so. So I think a lot of people had written this business off as a money-losing business for the foreseeable future, but now you're in the low single digit negative margins. When you say a rebound or so, and just given what you've seen with the pricing and more importantly, the capacity removals in the market, can this business get back to break even or even profitability within the next 12-18 months?
David Grzebinski (President and CEO)
Absolutely. We're seeing the inevitable retirement of older equipment and very few new pieces of equipment coming in. You know, as we said in our prepared remarks, we got a couple spot contracts renewed higher for the first time, and that's a welcome change. Our utilization's still probably in the 80%-85% range, so it needs to tighten up a little more before we can really start to get the business back to positive results. But, you know, everything's marching towards that. If you look at and say the industry's probably needs to tighten up about 5%-8%, you know, that's about 1.5 million barrels of capacity.
But in looking at the retirements that should happen, I think the number's about 2-2.5 million barrels of capacity out there that are 30 years or older. And with ballast water treatment coming, that capacity is gonna come out of the market. We're seeing it. There's some announcements by some of our competitors, or at least some market knowledge that they're retiring some equipment. So we are inexorably marching towards balance. We're not as far off as we were. You know, we're at kind of the low to mid-80s in terms of utilization. It's not gonna take a whole lot more, and we've got these green shoots of being able to get a couple spot contracts a little higher.
So, you know, the short answer is, absolutely, in the next 12-18 months, we'll, this business should be profitable.
Jon Chappell (Analyst)
Great. Thanks so much, David.
David Grzebinski (President and CEO)
Thanks, Jon.
Operator (participant)
Next, we have Ben Nolan of Stifel.
Ben Nolan (Analyst)
Yeah, thanks. Hey, guys.
David Grzebinski (President and CEO)
Good morning.
Ben Nolan (Analyst)
Good morning. Following a little bit onto Jon's question, you guys did this acquisition of another ATB in the quarter. I was curious if you could maybe frame that in. Is that you're spending a little over $50 million or maybe $60 million, I guess, after it's fully delivered. But how much would it cost to order one of those new now? And is this sort of a distressed acquisition or, you know, just kind of something that fell to you that is part of normal course of business?
David Grzebinski (President and CEO)
Yeah, this is. Well, in short, the first piece of the answer is, this vessel would have been about $79 million new if we were to go order it. Probably even higher now because steel prices have gone up. Look, this was a great opportunity. This is a competitor building a vessel, and we were able to pick it up at a discount. It's a sister to the two other 155s that we just took delivery of in the last year. It fits perfectly in our fleet, and you know us, we tend to buy at the bottom of the market or invest in the bottom of the market. And so we're excited about this.
We think it fits great into our fleet, and, you know, it'll allow us to actually replace some older capacity ourselves. So we're, we're actually pretty excited about it. It's kind of one of those opportunities that just falls into place sometimes. And with our capital discipline, we think this is gonna be a great acquisition. It's, it's relatively small, but it kind of fits with our normal game plan of kind of buying at the bottom of the market, just before we kind of emerge from the bottom.
Ben Nolan (Analyst)
Okay, that's helpful. And then for my follow-up, this is maybe a little off the beaten path, but David, have you thought through maybe what might be the implications of trade issues and tariffs and those kind of things, specifically around what it might mean for the petrochemical business and your barge movements, and maybe how you're positioning the company in the event that something like that, you know, materializes?
David Grzebinski (President and CEO)
Yeah, sure. Well, the short answer on steel tariffs, we actually think that's a positive for us because it makes the cost of building new barges that much higher. But from our customer's standpoint, clearly, you know, higher steel prices make their plants a little more expensive. But what you really would worry about is some kind of trade war that prohibits the movement of petrochemicals or slows down the export of petrochemicals. A lot of, a lot of the petrochemicals, particularly polyethylene, are being built for the export markets.
Also, with the crude market, you see there are 6 new pipelines coming to the Gulf Coast from the Permian, and then there's also been a recent announcement to put essentially an offshore LOOP facility that will allow VLCCs to load, and that's for export crude. So if the trade war got pretty ugly or got worse, I'm not sure we're in a trade war just yet. It's kind of a lot of bantering and negotiation, but if it escalated and somehow impinged the export of chemicals and the export of crude, that would not be a positive, clearly. But in terms of shortage of steel, we're actually not disappointed in that.
You know, we certainly don't want a trade war, but having more expensive to build barges is actually a good thing for us.
Ben Nolan (Analyst)
All right, great. Thanks.
Operator (participant)
Next, we have Jack Atkins of Stephens.
Jack Atkins (Analyst)
Hey, good morning, guys. Thanks for taking my questions.
David Grzebinski (President and CEO)
Hey, Jack. Good morning.
Jack Atkins (Analyst)
So David, I guess kind of going back to the, the D&S segment for, for a moment, and, and when we think about sort of the puts and takes of, of your, consolidated guidance, it, it sounds like the marine businesses are sort of better than what we were thinking about three months ago. And, you know, obviously, there are these vendor issues on the, on the D&S side. So when we think about the, the changes to the guidance, could you kind of help us quantify how, how much of the earnings were sort of pushed out of, of 2018, if you will, out, out of that 2018 guidance, due, due to those vendor, bottlenecks? And, and Bill, if I, if I heard you correctly, it sounds like you would expect those to be resolved in, in September.
Is that, is that correct?
David Grzebinski (President and CEO)
Well, yeah, Jack, when I say resolved, that's when it's gonna begin to be resolved. Remember, we have partially completed units that won't be completed.
Jack Atkins (Analyst)
Okay.
David Grzebinski (President and CEO)
So that will push those units, the revenues associated with those sales to the fourth quarter and through the fourth quarter. So some of that will end up in 2019. So there are units that won't be that we expect, and again, this is more art than science, we expect there will be spillover to 2019. And the guidance change reflects some of that, but quite a bit of it is some of it is just to reflect it's a very modest change, and it reflects the wage increases and various things. It's not strictly related to that, but it's a very modest change, as you know.
Jack Atkins (Analyst)
Okay. No, that's right. I was just trying to see if there was a way to sort of quantify how much is related specifically to that one issue, because it seems like that's, those are earnings that you should expect to get back at some point.
David Grzebinski (President and CEO)
Yeah. No, those aren't lost earnings. In essence, what's happened is we've done some work. The guys did a tremendous job already of working as far as they could to get things as almost ready, but we don't—we can't finish the sale.
Jack Atkins (Analyst)
Yeah.
David Grzebinski (President and CEO)
The sale's done, but we... In other words, we can't recognize the sale is better wording.
Jack Atkins (Analyst)
Okay, makes sense. And then just as my follow-up, on the marine side, particularly the inland marine side, you know, given the tight labor market, you know, it shouldn't surprise anyone that, you know, there's some wage inflation there with your crews. Could you just sort of help us think about, and how you all are thinking about incremental margins, you know, in the marine business? You know, obviously excluding, you know, any impact from acquisitions, but just sort of how we should be thinking about incremental margins on price as we sort of move forward with the recovery in that market.
David Grzebinski (President and CEO)
Yeah, the, Jack, as you know, when you get price increases, the incremental margins are very high. You know, we had a little bit of labor inflation here, but to be fair, it's been a couple years since our mariners had raises, so it's good to give them those raises. But, yeah, incremental margins on pricing are, you know, 80%+. So, I would say, you know, as pricing rolls through here, it should be very positive. You know, our margins in the inland business now are kind of mid-teens, which is pretty much as low as they've ever been. We, a quarter or so, we've been lower than that. But, we're coming out of the bottom.
As you recall, we hit prior peaks were in the high 20s, so almost 30%. I would say a normalized margin for our business should be kind of low-to-mid 20% range, and there's no reason we're not gonna get back to the normalized margin. Now, again, you ask me what date and time that'll happen, I can't give you that answer. But as pricing progresses, we will march towards those higher margins.
Jack Atkins (Analyst)
Okay, great. Thank you again for the time.
David Grzebinski (President and CEO)
Thanks, Jack.
Operator (participant)
Next, we have Randy Givens of Jefferies.
Randy Givens (Analyst)
Hey, guys. Thanks again.
David Grzebinski (President and CEO)
Hey.
Randy Givens (Analyst)
Congrats on completing the integration of the Higman and Targa acquisitions there. So now with those behind you, should we expect additional inland tank barge acquisitions in the back half of this year?
David Grzebinski (President and CEO)
You know, predicting acquisitions is a, is a tough game. I can tell you many times we thought we were there on some deals, and then they fell away. But, it's always about bid-offer spread. But look, until something comes together, we'll use our cash flow to delever, which has always been kind of our game plan. We would love to do another inland acquisition. We'll see what happens, but, you know, predicting it is difficult, and until something happens, we'll just use the cash flow to delever.
Randy Givens (Analyst)
Okay, so not, not in, extended negotiations currently?
David Grzebinski (President and CEO)
Yeah. It's probably best I don't comment more than that.
Randy Givens (Analyst)
All right. That's fair. The follow-up question: So looking at your guidance for 3Q 2018, $0.50-$0.70 per share. So I guess two questions. First, what would cause it to be on the 50-cent range and then on the 70-cent range? And then second, even at the high end of the range, it sounds like 3Q 2018 EPS will be lower, obviously, than 2Q 2018 EPS of $0.78. So, why is that? And do you see the 3Q 2018 as kind of the bottom before EPS increases in 4Q 2018 and beyond?
David Grzebinski (President and CEO)
Yeah. Look, the biggest factor is the delivery of frack units, as Bill talked about, with respect to percentage completion accounting and the delivery of units. You know, we can't recognize revenue until we get the unit shipped, and that was the big driver from Q2-the sequential drop from Q2 to Q3. And if anything, you know, marine's better in Q3 versus Q2. So, you know, that's what's leading to it. But I would say Q3 should be the low. Q4 would be above-
Randy Givens (Analyst)
Mm-hmm.
David Grzebinski (President and CEO)
Look, again, I'm focused on the long-term positive here. This is everything we're seeing and hearing in the build-out of pipeline capacity takeaway, what's happening in the shale plays, the underinvestment in international and subsea, E&P. This is gonna be a long-term, very positive, ramp up for the shale play. And, I think, you know, we're actually very excited. I know it doesn't feel that way this quarter with that guidance that we just gave, but, it is very, very positive. You know, our customers are being very disciplined with their capital. I think that's extending the cycle and, making it more ratable. But all the trends are headed in the right direction.
Randy Givens (Analyst)
Okay. Then just to clarify, the biggest driver of a $0.50 3Q or a $0.70 3Q would be on the deliveries of the equipment?
Bill Harvey (EVP and CFO)
Yeah.
David Grzebinski (President and CEO)
Yeah.
Yeah, anything you add to that?
Bill Harvey (EVP and CFO)
Just that one, we can't forget that Q2 was a very good quarter, and that, the guys did a tremendous job of getting units out, and we're not, we're not trying to smooth anything. If they can get it out in Q2, and we realize it, we do it then.
Randy Givens (Analyst)
Yep, makes sense. All right. Well, thanks so much.
David Grzebinski (President and CEO)
All right, thanks, Randy.
Operator (participant)
Next is Mike Webber of Wells Fargo.
Michael Webber (Analyst)
Hey, good morning, guys. How are you?
David Grzebinski (President and CEO)
Yeah, good morning, Mike.
Bill Harvey (EVP and CFO)
Very good, Mike.
Michael Webber (Analyst)
Hey, Bill, just to jump into, back to D&S, I think there was a question earlier on, like, I'm trying to quantify it, but if you move the top end of the guidance down by $0.10 and $0.05 of that is wages, you know, it implies, you know, roughly $0.05 of that is kind of the cascading revenue recognition and bottleneck issue. And if I kind of back that out of, and kind of tax effect, the operating income from Q2-
Bill Harvey (EVP and CFO)
Yeah
Michael Webber (Analyst)
and the D&S line, I mean, it basically seems like about 10% of, of that, I guess, EBIT, if you will, from that, from that business that you think is kind of rolling on a continual basis. I'm curious, one, how long is the average delay for both engines and transmissions? And obviously, since you moved the annual guidance, this extends into Q1 of 2019. Is this something you think that could, you know, perpetuate through most of 2019? And then-
Bill Harvey (EVP and CFO)
No
Michael Webber (Analyst)
Along those lines, how should we think about the integrity of that backlog in that context? How much flexibility is baked into those contracts? Do you think there's a risk that if you miss those delivery delays, those days, that it rolls up on you? And then, what kind of recourse would you have to your suppliers?
Bill Harvey (EVP and CFO)
For Mike, it-
Michael Webber (Analyst)
It's a lot of questions, but no.
Bill Harvey (EVP and CFO)
Yeah. I'll try to answer it as succinctly as possible. The actual delay was 6 months, but we had the guys had done a very good job of being in a position that they could work through it for a couple months. And it's September, when we start, we believe we'll start to see the resolution. And your numbers hang together to some degree. It's hard, it, I would say it's not gonna perpetuate once the supply side is complete, is in process. We do have to complete the orders. These are firm orders. There's no risk-
Michael Webber (Analyst)
Mm-hmm
Bill Harvey (EVP and CFO)
of them falling away. So there will be some. And we're with one thing we wanted to build in the guidance and to be conservative, but also realistic, that things don't just change overnight.
Michael Webber (Analyst)
Sure.
Bill Harvey (EVP and CFO)
We're gonna have to work through the fourth quarter, and there could be some of it, and probably will be some of these units not shipped until the first quarter of 2019, but it won't perpetuate through. And again, revenue rec- this business is not, this is due to supplier delays. Revenue recognition adds some volatility, but not a lot. It would normally be a few cents either way.
Michael Webber (Analyst)
Mm-hmm
Bill Harvey (EVP and CFO)
Unless there's some untypical big order. Remember, we're talking about units, units here. We're not talking about $50 million-$60 million things being shipped. We're talking about frac units.
Michael Webber (Analyst)
Right. Okay. So you're not concerned with your indemnification from, from, you know, late delivery-
Bill Harvey (EVP and CFO)
No
Michael Webber (Analyst)
due to supplier constraints? Okay, that's helpful.
Bill Harvey (EVP and CFO)
No, no, we work very closely with our, with our customers. This is-
Michael Webber (Analyst)
Okay
Bill Harvey (EVP and CFO)
... this is, there's nothing hidden here.
Michael Webber (Analyst)
Okay, that's helpful. You know, I guess, looking at the wage inflation, you know, it makes sense that that market is tightening up. You know, the $0.05, which I guess $0.10 annually, it's hard for me to get a sense on. I guess, can you give us a sense on where that stacks up, David, to last cycle? Like, if I just think about where nominal wages are or even inflation-adjusted wages are today, for that segment of your workforce versus last cycle, is this something you think there's more of this to come as we move through the recovery? Or are you kind of getting ahead of it? Just some context around that would be helpful.
David Grzebinski (President and CEO)
Yeah, I would say we got ahead of this. You know, we're probably one of the first ones to give wage increases in the industry. Actually, it puts a little pressure on our competitors, too, which isn't necessarily a bad thing. But, you know, it was a bit preemptive. Look, we've been through these cycles before, and we just wanna keep our mariners. I would say this is kind of normal increases in wages that were probably a little earlier as we preempted it, and others are following our increases. You know, will there be more? You know, I think it'd be more like GDP-type raises going forward, which I think is normal.
Michael Webber (Analyst)
Okay. All right. That's helpful, guys. Thanks for the time.
David Grzebinski (President and CEO)
Thank you.
Yeah, thanks. Thanks, Mike.
Operator (participant)
The next question we have will come from Kevin Sterling of Seaport Global Securities. Please go ahead.
Kevin Sterling (Analyst)
Thank you. Good morning, David and Bill.
David Grzebinski (President and CEO)
Hey, good morning.
Kevin Sterling (Analyst)
So to David, on the coastal side, you guys were opportunistic, bought an ATB. And, you know, this business, as you kind of indicated, it's going to still be a challenge heading into 2019. Would you want to get bigger in that business if, for say, a competitor becomes distressed and you could buy a larger fleet, or are you content with your size right now in the coastal market? I know you want to get bigger in inland, but would you look to grow coastal if, you know, if a larger fleet possibly came available, if this continued downward trend continues?
David Grzebinski (President and CEO)
Well, you know us, we're very disciplined in our capital deployment. I would tell you this, we would prefer right now another inland acquisition. But, you know, if the right opportunity came along coastal lines, we would do it. We're pretty happy in the coastwise business right now, and this asset just kind of dropped right in, perfectly for us. So, you know, in terms of preference, I would say an inland acquisition would be a higher preference than the coastal. And, you know, frankly, it wouldn't be bad for us to deliver a little longer here and shore up our balance sheet a little more. But, look, you know, in our business, you got to kind of take the opportunities when they come.
When the bid-offer spread kind of narrows, and you got to take the deals when they come. But right now, I would say our preference would be an inland acquisition over a coastal acquisition.
Kevin Sterling (Analyst)
Gotcha. Okay. Switching gears to the inland business, and obviously, we were seeing pricing improve, both spot and term pricing. What, you know, outside of stronger demand, what else is driving that? You know, in the past, there had been an irrational competitor and, you know, brought in some other irrational pricing. You know, are we seeing that main competitor become a little bit more rational with pricing, you know, put some of the equipment on term, you know, keep out of the spot market? You know, I guess, at the end of the day, are we seeing a little more pricing rationale in inland versus some of the sloppy practices we were seeing just even a year ago?
David Grzebinski (President and CEO)
Yeah, the short answer is, yes, we're seeing a little more discipline, and also people are a little busier. Look, every summer we get a little drop in utilization. That happens all the time. But as we head into the fall, we're going to get even tighter, and then we've. You know, there's some lock delays happening right now, and they look like they'll be persistent for 12, 12+ months. So, you know, I would say that utilization is only going to get tighter from where we're at, and we're already pretty tight. So, the market's becoming more disciplined, and across the board with all of our competitors, which, look, it's needed. We've had a very long downturn.
It's been painful to a lot of companies, and we, as an industry, kind of need this cycle to continue up, and we are seeing our competitors be more disciplined about it. Look, we can't have the rates as low as we had for as long as we had, and they've got to move up. And the utilization is where it needs to be to make that happen. Supply and demand continue to tighten. There's not a lot of new builds. There's the continued retirements, and then we've got some demand growth with these plants coming online and just more liquids on the system. So yeah, everything's moving as we had hoped, and if not, a little better.
Kevin Sterling (Analyst)
Gotcha. Okay. Thanks for your thoughts today. Take care.
David Grzebinski (President and CEO)
All right. Thanks, Kevin.
Bill Harvey (EVP and CFO)
Thanks, Kevin.
Operator (participant)
Next, we have David Beard with Coker & Palmer.
David Beard (Analyst)
Hey, good morning, gentlemen.
David Grzebinski (President and CEO)
Hi, David.
David Beard (Analyst)
Obviously, a lot of questions have been asked, but I thought I'd just ask a bigger picture question, kind of relative to, you know, earnings guidance variability. And I'll just cherry-pick a couple of examples. You know, if I look back in 3Q 13, you guys were kind of ±$0.05 on a $1.10 in earnings, and now it seems we're ±$0.10 on a $0.60 base. Obviously, your sales per share have jumped up about 1.5 times, but you could argue the variability jumped up threefold. You know, we got a couple of cents from the revenue recognition impact.
Do you think this is really the variability is really just a couple of, you know, one-time items, or do you think there has been an increase in, or I guess, a sort of a decrease in visibility, increase in variability as just the company has grown? Again, kind of bigger picture thoughts on that.
David Grzebinski (President and CEO)
Yeah, I would say, look, when you're integrating a company like Stewart & Stevenson and Higman, you give yourself a little more cushion. As we get, you know, further integrated and the predictability will go up for us, and but there is some variability with revenue recognition, as Bill said, you know, if you ship—if you've got several units that are supposed to ship in September, but they move to October, that impacts you. So revenue recognition, unfortunately, the accountants have added variability to the equation by removing this percent of completion ability. But it is what it is. But a big part of what we do, too, is to try and predict our businesses, and integrations make it hard.
You gotta give yourself a little more room in that. So, you know, inherently, we've bumped out the size of the range that we give. Mm-hmm.
David Beard (Analyst)
No, that's helpful. That makes sense, that we probably didn't appreciate the, just that acquisition integration variability, just looking at the trend in, in guidance variability, so appreciate it.
David Grzebinski (President and CEO)
All right. Thanks, Dave.
Operator (participant)
Yeah, at this time-
Eric Holcomb (VP of Investor Relations)
Hey, Mike, we have time for one more caller.
Operator (participant)
No problem, sir. That caller or the question will come from Ken Hoexter of Merrill Lynch.
Ken Hoexter (Analyst)
Hey, great, thanks for squeezing me in. Just a quick one on pricing, just following up on Kevin's question. Just the pace of new contracts, you noted spot rates were flat sequentially, still up year-over-year, double digits, but is that any indication of kind of something smoothing out, just given your positive commentary there, Dave?
David Grzebinski (President and CEO)
No, I think you'll see spot rates moving up with contract rates here going forward. We had a pretty quick move in spot rates. I mean, they jumped up pretty healthily in the first part of the year, and then we had a little pause in utilization with the summer months, so I think the market took a little breather. I think you know, as we come out of these easier summer months, and with some of these lock delays, you're gonna see the spot pricing moving up again. And yeah, I would say it's all heading in the right direction as we had anticipated, and what's important is it leads to term contracts renewing higher, and we saw a little bit of that in this quarter, and that's very positive from our perspective.
Ken Hoexter (Analyst)
Yeah. Thanks, David. And just a quick follow-up, I don't know, for you or Bill, but the can you just remind us the impacts of the hurricanes last year? Did it cause a tightening, or was it more of the lock shutdowns? And, you know, so are comps easier or tougher for you as you go through that August-September period?
Bill Harvey (EVP and CFO)
Well, the hurricane with it, post-hurricane, there was a lot of catch up, and that kind of changed the mindset in the market a little bit, but we were on the verge of tightening up anyway, without the hurricane. But when the hurricane happened, everybody got a little short of equipment because there was such pent-up demand, and that just kind of started the process of recognizing where the market was in terms of tightness.
Ken Hoexter (Analyst)
Got it. Helpful. Thanks, guys. Appreciate the time.
David Grzebinski (President and CEO)
Thanks, Ken.
Operator (participant)
Again, this concludes our question and answer session. I will now turn the conference call back over to Mr. Eric Holcomb for any closing remarks. Sir?
Eric Holcomb (VP of Investor Relations)
All right. Thank you, Mike, and thank you, everyone, for your interest in Kirby and for participating in the call today. If you have any questions or comments, you can reach me directly at 713-435-1545. Thank you, everyone, and have a great day.
Bill Harvey (EVP and CFO)
Thank you.
David Grzebinski (President and CEO)
I'm gonna give Bill a call.
Operator (participant)
All right, and we thank you also, gentlemen, for your time this morning. Again, the conference call is now concluded. At this time, you may disconnect your lines. Thank you, everyone. Take care, and have a great day.