Mueller Water Products - Earnings Call - Q3 2017
August 4, 2017
Transcript
Speaker 0
Welcome, everyone, and thank you for standing by. At this time, all participants will be on a listen only mode until the question and answer session of today's conference. This call is being recorded. If you have any objections, you may disconnect at this moment. I would now like to turn it over to your host, Ms.
Marty Zacchus. Ma'am, you may begin.
Speaker 1
Good morning, everyone. Welcome to Mueller Water Products twenty seventeen third quarter conference call. We issued our press release reporting results of operations for the quarter ended June 3037, yesterday afternoon. A copy of it is available on our website, muellerwaterproducts.com. Discussing the third quarter's results this morning are Scott Hall, our President and CEO and Evan Hart, our CFO.
This morning's call is being recorded and webcast live on the Internet. We have also slides on our website to help illustrate the quarter's results as well as to address non GAAP disclosure requirements and forward looking statements. At this time, please refer to Slide two. This slide identifies certain non GAAP financial measures referenced in our press release, on our slides and on this call and discloses the reasons why we believe that these measures provide useful information to investors. Reconciliations between GAAP and non GAAP financial measures are included in the supplemental information within our press release and on our website.
Slide three addresses forward looking statements made on this call. This slide includes cautionary information identifying important factors that could cause actual results to differ materially from those included in forward looking statements as well as specific examples of forward looking statements. Please review Slides two and three in their entirety. As a reminder, we sold Anvil in January 2017. As a result, Anvil's operating results for all prior periods and the gain from its sale have been classified as discontinued operations.
We filed a Form eight ks on February 21, which included the reclassified 2016 results by quarter. During this call, all references to a specific year or quarter, unless specified otherwise, refer to our fiscal year, which ends on September 30. A replay of this morning's call will be available for thirty days at 604-0476. The archived webcast and corresponding slides will be available for at least ninety days in the Investor Relations section of our website. In addition, we will furnish a copy of our prepared remarks on Form eight ks later this morning.
I'll now turn the call over to Scott.
Speaker 2
Thanks, Marty, and good morning. Thanks for joining us today as we discuss our results for the twenty seventeen third quarter. I'll begin our discussion this morning with a brief overview of the quarter, followed by Evan's more detailed financial report. I'll then provide additional color on the quarter's results and developments in our end markets as well as our outlook for the full year. Overall, we are pleased with third quarter net sales growth of 3.3%, highlighted by 4.5% growth at MuellerCo.
Although there were some minor puts and takes, net sales growth was about as we expected. Operationally, we continued to execute on our productivity plans and realized the resulting cost savings. However, higher material costs represented stronger than expected headwinds in the quarter. During the quarter, we completed our $50,000,000 accelerated share repurchase program and also repurchased an additional $5,000,000 worth of shares under our existing share repurchase authorization. All in all, we were pleased with the quarter.
Progress in the market, progress in integrating Singer Valve and progress in operational improvements all met our expectations. Going forward, we will continue to execute on our initiatives to drive productivity improvements, accelerate our product development and deliver exceptional value for our customers. And with that, I'll turn the
Speaker 3
call over to Evan. Thanks, Scott, and good morning, everyone. I will first review our third quarter consolidated financial results and then discuss segment performance. I will only be discussing our results from continuing operations. Net sales increased 3.3% in the twenty seventeen third quarter to 232,200,000 as compared with $224,700,000 for the twenty sixteen third quarter.
Net sales increased due to volume growth at Mueller Company and the February acquisition of Singer Valve. Gross profit, excluding a purchase accounting adjustment related to Singer Valve inventory, was $83,300,000 for the twenty seventeen third quarter compared with $83,200,000 last year. Productivity improvements were largely offset by higher material cost at Mueller Company. Selling,
Speaker 2
general
Speaker 3
and administrative expenses were $38,700,000 in the twenty seventeen third quarter compared with $39,400,000 last year, primarily due to lower personnel related expenses. SG and A expenses as a percent of net sales was 16.7% or 80 basis points lower than the 17.5% in the prior year. Adjusted operating income increased 1.8% to $44,600,000 as compared with $43,800,000 for the twenty sixteen third quarter. Lower SG and A expenses were partially offset by higher material costs. As you may recall, twenty sixteen third quarter adjusted results excluded $21,200,000 of other operating expenses comprised of a $16,600,000 non cash pension settlement charge and charges primarily associated with the demolition of a surplus facility.
Adjusted EBITDA for the twenty seventeen third quarter increased to $54,800,000 compared with $53,600,000 for the twenty sixteen third quarter. For the trailing twelve months, adjusted EBITDA was $163,100,000 or 20% of net sales, an improvement of 70 basis points compared with the prior year period. Net interest expense decreased $900,000 to $5,100,000 in the twenty seventeen third quarter as compared to $6,000,000 in the twenty sixteen third quarter. Income tax expense was $13,400,000 or 35.7 percent of pretax income for the twenty seventeen third quarter and $5,600,000,000 or 33.7% of pretax income for the twenty sixteen third quarter. We grew third quarter adjusted earnings from continuing operations per share to $0.16 from zero one five dollars last year.
I will now move on to segment performance beginning with Mueller Company. Mueller Company net sales for the twenty seventeen third quarter increased 4.5% to $207,600,000 as compared with $198,700,000 last year. The increase was largely due to volume growth in both The U. S. And Canada and the addition of Singer Valve.
Adjusted operating income was $54,100,000 in both the twenty seventeen third quarter and twenty sixteen third quarter. Adjusted operating income benefited from volume growth and productivity improvements offset by higher material costs. Adjusted operating margin decreased 110 basis points to 26.1% for the twenty seventeen third quarter compared with 27.2% for the twenty sixteen third quarter. Adjusted EBITDA for the twenty seventeen third quarter increased to $63,000,000 compared with $62,600,000 for the twenty sixteen third quarter, and adjusted EBITDA margin for the quarter decreased 120 basis points to 30.3% from 31.5 last year. However, trailing twelve month adjusted EBITDA margin through the end of the third quarter was 60 basis points higher compared with the prior year.
And now, Mueller Technologies. Overall, Mueller Technologies third quarter net sales decreased $1,400,000 to $24,600,000 compared with $26,000,000 last year. Mueller Technologies net sales of AMI and leak detection and condition assessment products
Speaker 2
were higher year over year,
Speaker 3
but were more than offset by lower AMR and visual read meter shipments. Adjusted operating loss was $1,600,000 in the twenty seventeen third quarter and was $1,500,000 last year. Turning now to a discussion of Mule Water Products' liquidity. Free cash flow, which is cash flows from operating activities of continuing operations less capital expenditures, was $34,200,000 for the twenty seventeen third quarter compared with $54,400,000 for the twenty sixteen third quarter. Timing of disbursements as well as higher income tax payments resulted in lower year over year free cash flow in the quarter.
At June 3037, total debt was comprised of a $479,700,000 senior secured term loan due November 2021 and $1,500,000 of other. The term loan accrues interest at a floating rate equal to LIBOR plus a spread of two fifty basis points. At June 30, net debt leverage was again below one and our excess availability under the ABL credit agreement was $109,500,000 I'll now turn the call back to Scott.
Speaker 2
Thanks, Evan. As I mentioned before, we are pleased to see the increased growth in our end markets this quarter with our overall net sales growth coming in about as expected. I continue to be encouraged by the operating performance of the company as we delivered meaningful productivity improvements in the quarter. These improvements however were not enough to offset the unfavorable material cost environment we are in. It appears that last year at the end of the third quarter materials had bottomed out.
This year prices of brass ingot and scrap metal are on the rise and in the twenty seventeen third quarter were up 1320% respectively from the second quarter and twenty five percent and thirty percent respectively year over year, which unfavorably impacted our margins. We expect material costs to continue to rise, but the impact to be less as we expect to further offset these costs with additional productivity improvements and higher market pricing. With this rising material cost environment, price has been lagging to changes in these input costs. However, we were encouraged to see higher pricing in the third quarter versus the second quarter. Moving on to a more detailed discussion on Mueller Company's results.
Mueller Company experienced solid net sales growth in the quarter despite a difficult comparison with a year ago. Last year, quarter sales growth was the strongest in the last several years. This year, net sales were up in the mid single digits and included growth from both our domestic and international market. Additionally, we experienced growth from the Singer Valve acquisition, which I am pleased to report has experienced a smooth integration into Mueller Water Products. Adjusted EBITDA margins remain at roughly 30%, but decreased 120 basis points year over year in the quarter due to higher material costs.
On a trailing twelve month basis, however, adjusted EBITDA margins continue to improve, up 60 basis points over the last twelve month period. The unfavorable material cost environment led to our decision to announce brass price increases in both The U. S. And Canada during the third quarter. As I mentioned before, we are realizing improved brass pricing and expect this to partially offset significantly higher material costs in the fourth quarter.
The brass price increase announcement also led to strong order volumes in the third quarter. We believe our strong order volume in advance of signal that our end markets outlook remains solid. Our Taking a closer look at sales in the third quarter at Mueller Technologies, results were somewhat mixed. You will recall last quarter, we expected growth to moderate as we enter into tougher comparison period. We are encouraged to have realized sales growth in our higher margin product offerings, fixed leak detection, pipe condition assessment and AMI systems.
However, lower AMR and visual read meter shipments more than offset this growth. As a result, seventeen third quarter net sales decreased $1,400,000 year over year. To close out the third quarter discussion, I am happy to report our fixed leak detection business continues to gain interest in the market. As you will recall, during the quarter, we announced the San Jose project, which could be up to 10,000 nodes. On the strength of that project and due to the success of West Coast trials, we received additional orders from adjacent water authorities in the Bay Area.
Now looking ahead to the full year. For our 2017 full year on a consolidated basis, we expect low to mid single digit net sales growth year over year. We expect adjusted operating income improvement to slightly exceed net sales growth. We expect higher shipment volumes, productivity improvements and better sales pricing to drive this margin expansion, although we also expect to face significantly higher material costs. Evan will wrap up now with some other items.
Based on our current expectations for the full year, corporate expenses will be $33,000,000
Speaker 3
to $35,000,000 depreciation and amortization will be $42,000,000 to $43,000,000 and interest expense will be $22,000,000 to $23,000,000 We expect our adjusted effective income tax rate to be 31% to 33% and capital expenditures to be between $36,000,000 and $38,000,000 Finally, we expect 2017 free cash flow to be less than the $83,000,000 generated in 2016, primarily due to larger income tax payments in 2017. We expect 2017 free cash flow to approximate adjusted income from continuing operations. Operator, would you please open the call for questions?
Speaker 0
Speakers, our first question is coming from Mr. Mike Wood. Mike, your line is now open.
Speaker 4
Hi, good morning guys.
Speaker 2
Good morning.
Speaker 4
Good
Speaker 5
morning. Thank you for the full year guidance. Just curious if you could provide some color on fiscal fourth quarter profit margin guidance, I guess, particularly at Mueller Co.
Speaker 2
Well, I think that we continue in the fourth quarter to expect to get margin expansion as we have in every other quarter except the third quarter, mainly due to the fact that we're experiencing somewhat better price environment and we believe that the rapid rise in materials that we saw in the third quarter will kind of slow down a little bit like we're not expecting 30 points of brass increase or 25% in the base steel metal. So ballpark, think kind of 20 basis to 40 basis points kind of margin expansion overall at Muirco and kind of still wait and see where we are with Teck.
Speaker 5
Okay, great. Thank you. And then when will you know if the price increase that you implemented on brass, when that would be successful and what's your early read to date on that price increase?
Speaker 2
It's we believe it's been successful. The order book that we're taking in through the month of July, it was sticking and we're realizing our book. If you look at our backlog right now, we're realizing price to offset cost increases. To not overly complicate this, we are expecting almost 100% coverage from price in the fourth quarter, but not quite. There's a little bit less there.
But we measure our bookings coming in to see what they're yielding and those yields all are encouraging, especially in hydrants, brass and valves.
Speaker 5
Thank you. And just finally, can you give that regional performance again like you did last quarter in terms of sales? And was there any lingering impact from things like West Coast potential price mix impact? Thank you.
Speaker 2
No, but I think we did see a little catch up in the West, but basically we were at our kind of forecasted performance by territory.
Speaker 5
Great. Thank you.
Speaker 0
And our next question is coming from Mr. Brian Lee. Brian, your line is now open.
Speaker 6
Hey, guys. Thanks for taking the questions. Maybe first off, just to clarify, Scott, the 20 to 40 basis point improvement that you just commented on for Mueller Co, that's sequential. Is that I just wanted to clarify, is that a sequential improvement you're speaking to?
Speaker 2
No. And let me be clear, was speaking to kind of a consolidated performance. So I know he asked Mueller Co, but in my mind, I'm looking at consolidated. So that's more in that line. And we're thinking that the kind of that 20 to 40 basis points in the fourth quarter will be overall and basically coming from the recovery of price and the continued productivity performance.
Speaker 6
Okay. And just to be clear, baseline for the improvement is off of fiscal Yes, off of fourth quarter.
Speaker 2
It's year over year. Year over year.
Speaker 6
Year over Just wanted to be clear on that. Okay. Thank you. And then again on the pricing commentary, super helpful and also encouraging to hear that a lot of the brass pass through seems to be sticking here in the fiscal fourth quarter. Can you speak to the price increases that you implemented earlier this year, sort of what you've seen in terms of those price increases sticking?
And then what sort of visibility you have for the rest of the year, if you're still looking for feedback on customers from those earlier price increases?
Speaker 2
Okay, sure. So one of the things I think I did in the last quarter is probably scare too many people or something. Certainly that was not my intent. Sequentially, so Q3 versus Q2, we experienced exactly what I expected to experience, which was price improvement as rising material cost inputs forced all producers to look at their market pricing and we see this lag. And so as we had the squeeze in Q2 where we had a poor price environment coupled with rising costs, we've seen that reverse in Q3 where we've started to see a pickup in the price environment.
So after a prolonged bottoming of decline and then bottom in Q3 of last year in raw material world, we started to see this uptick. We've seen all through Q3 sequentially month by month a better price environment. We have seen through the first month of Q4 sequentially over June in July a better price environment. And we have seen it everywhere. So valves, hydrants, brass, every single category has seen price.
The question that remains and I guess I've made too much of a big deal about is that I'm watching very closely to ensure that we get as much price in Q4 as we have inflation. Will we catch it all up at once? Currently, we think there will still be a little bit of breakage. It's up to operations then to countermeasure that with their productivity plans, so that we can then have the margin expansion and continue the growth and cost reduction programs that we had. But I want to reiterate, bookings in the quarter exceeded shipments by like $13,000,000 $14,000,000 So we had a strong order book and everything we took in was at a higher price with each sequential month.
And so we've seen price in all of the major categories and we've seen a good demand environment, which is why I am encouraged. I'm encouraged and I thought we had a good quarter because we've seen the improvement in the order book. We finally got some growth and we finally have started to see the materials and price get back into lockstep with each other that as materials go up, so do prices.
Speaker 6
Okay. That's great context. A couple of last ones from me and I'll pass it on. Specifically on Mueller Tech, I'm assuming at this point the 15% targeted growth for the year, you're going to be changing that. Is there a new number to report there?
And then what's the mix between AMI and legacy at this point? And should we expect legacy deployments rolling off to remain a drag here on organics? Or when do you get to a point that you start lapping those?
Speaker 2
It's a great question. I mean, the demand was fell off on the visual read and the AMR a little faster than we expected. And we're still evaluating that. But I think long story short, if you were to look at just the meter business, I would say that that's probably going to be a little bit north of 2,000,000 kind of growth instead of 15% at this point. Based on what I've seen in the order book based on the size of the backlog.
We were expecting frankly two projects to have closed in the quarter that we think we're in good shape to win. And those decisions continue to get delayed. And so I'm not going to sit here and say the order book is going to be as strong at the end of this year as it was at the end of last year when we had Lea County and others. So I think are I think it's realistic that we won't be in that 15% range. We'll have some growth, but nowhere near as much as we had hoped.
With that said, I think there's a little upside in tech as a result of how quickly we get these nodes, the DX nodes deployed at Echologics. And we're going to be pushing to get as much of that out as we can in the fiscal year. But at the same time, want to ensure that we have as much value add there as we possibly can. So we're going to be kind of trying to balance that. All in all, I expect the Technologies business to kind of be up in that 5% to 7% range, certainly well below our expectations at the beginning of the year.
Speaker 6
Okay, that's great. Last one, can you maybe just speak to this recent Landis and Gear announcement, the relationship there? Just curious if you can walk through some of the dynamics of what hardware or software do you guys provide versus them? And then also what is it how does it integrate or how does it work with the MyNet given their protocol and their platform that they have there, which I believe is mesh? Thanks.
Speaker 2
Yes. So first, let me back up a little bit before we talk about that and talk in general about technologies and this notion of an open architecture radio. We will communicate with anybody who allows us to communicate with them. We believe our radio ranges, our power utilization, whether we are something like a LoRa technology or we're using our own fixed network technologies that we are open to having our meters and our radios interface with any fixed network. Atlantis and Gear RF mesh program is just more of that.
It's us making sure that our systems can communicate with where fixed networks exist. And a portion of municipalities that LNG have, serve electricity and water and they have strength in the channel with especially from their electricity position. And so we thought it'd be a great way to get some volume for our meters using their fixed network and using their channel power. So I expect that we'll have 50,000 to 80,000 units as a result of this agreement and we certainly look forward to working with them closer. But long story short, a channel play, a technology play and right in line strategically with our view to an open architecture world.
Speaker 6
Okay. Thank you.
Speaker 2
Thank you.
Speaker 0
And our next question is coming from Mr. Seth Weber. Mr. Weber, your line is now open.
Speaker 7
Hey, thanks. Good morning.
Speaker 2
Good morning, Seth.
Speaker 7
A couple of quick clarifications first. Can you give us what the organic Mueller Co. Revenue was without Singer or currency?
Speaker 2
Yes, it was about 2.5%.
Speaker 7
Okay. And then just going back to the last question. Were systems and ecologics sales in the third quarter about as you expected or I'm just trying to kind of separate.
Speaker 2
No, no, think no. I mean, echo was right where I thought it would be. But if you think back to what I said in the second quarter, we're not going to duck. I was expecting more flat sales, but certainly at the time did not want it to be down. We booked enough that we could have been flat year over year.
We had a couple of bumps along the way, a couple of push outs and but no, I'm not going to sit here and say Seth that we were expecting it to be down $1,400,000 I was expecting it to be flat to slightly up. And as the quarter developed, it was small. What I think I'm most pleased about though, I guess, of by roots and the way I think about it is once it became apparent that we were going to have a few operational issues there, the challenge went out to make sure we covered that and that we countermeasured and that we did the things we had to do as a well operated business to make sure we met our commitments. And I was pleased to see the Mueller Co. Performance kind of cover what needed to be covered and get us to where we had said we would be.
And so I think when you think about an environment where you are implementing lean manufacturing, where you are focusing on margin expansions through your productivity initiatives, we are trying to manage the market and get in front of price and things like that, that you hit those levers to make sure you make your commitments. So I would say the systems business kind of fell below expectations. You recall and Echo were there to pick up the slack and all in all, I think a solid quarter. The thing I will tip my hat to the systems guys on is that we did book about $3,000,000 or so more than we shipped and could have pulled it out if we hadn't had some late quarter problems.
Speaker 7
Okay. And then so Scott, just kind of doing some math here. I mean, it looks like your guides, I mean, it's not real guidance, but for Tech, it looks like revenue should be up a little bit sequentially from 3Q to 4Q. And so my question is, that's, call it, dollars 100,000,000 kind of run rate into next next year based on 3Q, 4Q. Is that a high enough revenue number for that business to be profitable if that, let's say, revenue is $100,000,000 next year, can Teck be profitable at that level?
Speaker 2
That's a great question. And one that I'm not trying to duck on Seth, but I know I'm very sensitive to the fact that at the beginning of the year, we had guided you to $10,000,000 improvement on about that level of sales. And then I think that that with a quarter to go is something that we're going to have to reckon with because I don't think it's within reach now. In theory, yes, of course, it should be possible. Dollars 100,000,000 business should be profitable.
But with that said, there's things that have to happen structurally in the business in order for that to be achieved. I'm not really prepared at this time to say next year's profitability outlook for Tech is extra wide, but we'll go through our AOP process. We're going to press for a significant margin expansion even at the price. I think there's opportunity. Even if we don't get a single penny of price in the systems business, I believe there's opportunity for margin expansion.
So yes, don't want to duck it, at the same time, don't want to sit here and say we can be profitable at $100,000,000 I would certainly say we should be profitable at $100,000,000 Okay.
Speaker 7
Thanks, Scott. And if I could just ask a follow-up. Your leverage here is below one turn. I think you've talked about wanting to kind of look at the M and A landscape a little bit in your first year. But how are you thinking about share buyback here given the leverage ratio and you haven't announced any M and A so?
Speaker 2
Right. I think the answer we gave before is the one will it will be balanced. It will be continuing to look at our dividend, continuing to look at share buyback, continuing to look at the opportunities in the M and A pipeline. I think the whole capital allocation discussion is a fair one to have. I would say given where we are, we went through with our Board the strategic review, if you will, strategic business review to look at where we thought the attractive spaces were both in potable and non potable water, where we thought the attractive spaces were from a geographic basis and looking at that M and A pipeline.
And I would say we'll probably be more active in the near future than we have been. I think we said did $5,000,000 over and above the $50,000,000 ASR. And I would say we'll be more active than $5,000,000 as I think the cash flow and cash generation looks good for the business. And there's still plenty of powder dry for acquisitions. But balanced approach, probably a little more stock buyback and go from there is kind of how I'd like to frame it for you.
Speaker 7
Okay. I appreciate all the thoughts. Thanks guys.
Speaker 2
Thank you.
Speaker 0
Our next question is coming from Mr. Brent Thielman. Brent, your line is now open.
Speaker 4
Thanks. Good morning.
Speaker 2
Good morning.
Speaker 4
Hey, Scott, maybe on that last question on Mueller Technologies, because I know you come in with a strong background here, but as you spend more time with the business, are you finding things you can do to markedly improve the cost structure of the business?
Speaker 2
Yes, I think so. I think this quarter there's two quarters now we're kind of right at the end. I don't want to get into too much detail, but suffice it say with four days left in the quarter, we had a couple of machines down that were not anticipated and all hands on deck ended up throwing some overtime at it, ended up throwing some more costs out of it. I think it sounds like a repeat of what I told you last quarter. So I'm a little bit sensitive to always having some kind of late quarter excuse for not making a number.
And but certainly there is plenty of things there to answer your question directly, both from a sourcing point of view, what do we outsource, what can we cast ourselves, look at assembly processes, look at automation, look at a lot of things there that I think we can structurally take cost out of the cost of producing a radio or the cost of producing a meter. So I am I do see it and I also want to kind of say that operationally the team has already taken out quarter over quarter a significant amount of OT, a significant their first pass yields and quality costs have come down like 70% quarter over quarter. So there is operational improvement there, but there's still things we can do.
Speaker 4
Okay. And those investments, maybe a new automation, are those things you're still evaluating or you plan to put those to action over the course of the next twelve months?
Speaker 2
Well, our planning cycle is that this quarter we're in right now is what we call our annual operating plan cycle and we'll make our allocation decisions as regards to capital at that point. And we're not going to sign up for CapEx that doesn't pay for itself. And so as long as the resulting cost improvements more coming as people think about capital and when we think about capital plans, it will get through our screen. If it doesn't, then it won't get through our screen. That's kind of the process we're in right now.
Speaker 4
Got it. Okay. Then Scott, it seems like we keep hearing about more activity in residential project, kind of land development across the country, which should be good for Mueller Co. I know it's difficult to pinpoint exactly where the products are going. But I guess I'm a little surprised just given what you hear out there from developers, construction companies, volumes don't have a little more momentum behind them.
Guess question, are you still seeing some pullback in municipal repair replacement? Is there maybe an inventory overhang out there with distributors? Is it activities just not coming around as much and kind of where the newer brands are really strong? Any color there based on context of what you're hearing out there?
Speaker 2
Yes. I think everybody's basically gone before us and you're looking at municipal spending that's either flat. I think the census data would even say the pipe and hydrant part of municipal is actually down year over year. So I think that what we're seeing is if it wasn't for the lift we're getting in the resi construction space, repair and replace would be slightly down year over year. And it has muted the growth that we would have expected otherwise.
And if you look at everybody else who's reported in the quarter, I think flat to down is kind of where we are muni wise. And if it wasn't for the growth in residential construction, we too would be. There's not a lot of share shift going to go on here in these markets.
Speaker 4
Right. Okay. And then one last one, I guess. If I recall, Canada had been a headwind for some time, certainly for other industrial manufacturers out there. Does this kind of volume improvement look sustainable?
Is it sort of some year on year comps to think about? What are you seeing there?
Speaker 2
Well, the price environment in Canada improved. It was a net positive for us and we started to see some volume improvement year over year. I think we're keeping our eye on it. There's some reports that maybe their residential cycle is a little overheated right now and could draw back in 2018. But we're keeping our eye on it, but it's certainly been for Q3 a good news story after kind of dragging in the exchange problems etcetera, kind of dragging on the business through first couple of quarters.
But good news Q3 and hopefully sustains through the rest of the Q4.
Speaker 4
Okay. Thank you.
Speaker 3
Thank you.
Speaker 0
Our next question is coming from Mr. Jose Garza. Jose, your line is now open.
Speaker 8
Hey, good morning, guys.
Speaker 2
Good morning, Jose.
Speaker 8
Scott, just you kind of touched on it a little earlier, but I guess you guys had a board meeting in July and just wanted to see any updates on kind of capital allocation with the Anvil cash and kind of how you're going to communicate that to the investment community?
Speaker 2
Well, as I said, we're going to stick with what we said, which is we continue to look at the capital allocation. We want to take a balanced approach. That balanced approach will look at dividend policy and look at share buyback and look at M and A. I think that the refocusing of the M and A pipeline, I think it had been primarily focused on potable water. We're going to be looking at some other adjacencies that we think are also attractive, but I really don't want to get into what they would be.
But we're looking for alignment with channel or we're looking for alignment with our manufacturing capabilities or we're looking for geographic alignment. So that's kind of where the M and A pipeline is. But I think in the near term, you can expect in the next by near term, I mean the next three to four quarters kind of thing. A little more participation with stock buyback than you had seen from us in the third quarter where I think after the ASR was done, we did $5,000,000 or something. So I think you'll see some of that cash be used there.
Also, I was pretty happy with the cash generation for the quarter as well. So I think it gives us some flexibility that we have that we wouldn't have had before.
Speaker 8
Yes. I guess tied to that, I mean, it's just kind of the puts and takes on kind of reducing, I guess, kind of the gross debt on that term loan. And maybe this is a better question for Evan. But how do we think about that here in the short term since the cash, I guess, it's just the interest is, I guess, a negative carry there?
Speaker 2
Yes. I mean, certainly, we're talking about it. I'll let Evan give you the full answer. But if you look at what we're earning on the cash versus what the spread is on the debt, certainly it's something that we're talking about. It doesn't give us anything to pay that down and what's the economics of it.
But go ahead, Evan.
Speaker 3
Yes. That's right. I would say we're in the evaluation stage really across the board when we look at the capital allocation and specifically with respect to the term loan B. We have about $480,000,000 outstanding with three fifty little over $350,000,000 in cash. So we're in a solid position.
But I think that's all tied into this share repurchase, debt retirement overall discussion, and I think we'll be balanced as we move forward.
Speaker 8
Okay. And I guess just in terms of how you guys would approach a share repurchase, I guess what's your preference in terms of an ASR versus just out in the open market?
Speaker 2
I don't really want to say one way or the other. I mean, we do an ASR, obviously we'll announce it. But I think it just causes some front running and I have a bias for open market activities, but I think that there's greater financial minds of my own that will say this is a better way to do it or not. Certainly it will be something we take in concert with the Board as we go forward. But I'm not sure that the ASR and having that does any good for you.
So I have a bias for open market, but we'll see as we go forward.
Speaker 8
Okay. And then just one more. Just kind of your sense on kind of hydrants and pipes kind of I guess year to date, I guess in your market you did talk a little bit about the quarter, just any kind of bigger picture there?
Speaker 2
I'm not sure what you mean Jose. Do mean in terms of the overall market growth or?
Speaker 8
Yes, for Mueller Co. Yes, mean
Speaker 2
valves and hydrants are going to be up and we originally came into the year talking in terms of mid single digits. You'll recall last quarter, I had said no, that's probably low to mid single digits. I think that's all being driven by what has been a little less strong muni environment than we anticipated. A little bit stronger resi market, but not enough to offset. So I still think we're going to end up in that kind of 3% range with a fairly strong fourth quarter for valves, hydrants and brass, what we talked about in terms of core.
And the fundamentals about still needing to retrofit the existing infrastructure along with an improving resi environment. We're still not back to what I would consider equilibrium. If you think about us being around 1,200,000 housing starts and you say, we kind of need to be between one point four million and one point six million housing starts kind of be in our long term equilibrium. So there's 10% or 15% growth opportunity there. Plus you take the need for the retrofitting, if you will, of the existing infrastructure, you come up with a growth number that says our long term growth on valves, hydrants and brass, what we consider our core should be a little bit stronger than GDP kind of growth.
There is no reason that I've seen nothing that would make me change my mind in that direction. So I think that the long term growth for those businesses should be like that. I think in the near term, we'll get a little lift because there was a low. And I also think that all the Washington situation is one that continues to perplex, not a political comment one way or the other, but I do think that we have to say what we're going to do about infrastructure so that people all start moving in a direction because right now it feels kind of confused and a little choppy out there.
Speaker 8
Yes. Okay. Thanks very much guys.
Speaker 2
Thank you.
Speaker 0
Our next question is coming from Mr. Jim Janekauskas. Jim, your line is now open.
Speaker 9
Hi, good morning.
Speaker 2
Good morning, Jim.
Speaker 9
Price increases in brass, similar magnitude to what's been introduced in hydrogen valves or how should we be thinking about magnitude there?
Speaker 2
I think it was I think the hydrogen valves back in February went after seven, it was delayed. Can't even I can't remember off the top of my head what the yield looks like right now. I think in brass, we went after five and the yield will be something less than that. So I should say the yield should be around five and I think we went after 10 and expect to get five or six. These yields with exchange and everything else are a little bit, I don't know, choppy is I've used that word for demand, it's uneven.
So we've seen an ever improving booking condition on brass, but brass costs have continued to go up. I think if you look at going off the top of my head here, but if you look at Q3, I think our average brass was $2.78 I think in Q4, we expect that number to be around $2.87 so another $09 So if you think about a yield in the five range and you think about a cost probably going up another $09 $0.10 a pound, you'd be kind of right there with where I think the quarter is going to come out. The announced price increase and the yield price increase are always something that moves around for us. And I think in the past we've guided that when we announced a price increase, we generally expect the yield around 50%. And I think that's where we are modeling brass right now and that's what we think we're going to yield.
Speaker 9
Okay. Thank you. That's helpful. And since we're on that, I mean, puts and takes on Mueller Co. Margin progression, obviously, liking that prices there offsetting inflation.
But can you frame for us or size base incremental margins on volume growth? And how much in productivity benefit should we be thinking annually? I mean, what are you guys targeting there? Thanks.
Speaker 2
Well, there's a lot to that question. I think Mueller Company full year, I'm expecting somewhere to be a little south of $20,000,000 total productivity. And if you were to do that math and what they've delivered so far versus what's left to be delivered, I think there's probably another couple of million dollars in the quarter in Q4 as some of the bigger projects like Project Bear come off year over year comparison because they were implemented in Q3 of last year. So probably a couple of million more to come from Muirco in cost out, probably think about it in the context of maybe a couple of million in price in the quarter. And so all in all, that 30 basis points I was talking about improvement on a consolidated basis, I think that Mueller Co.
Could be anywhere from up similar numbers to kind of down 40 basis points depending on what you assume for steel scrap and brass. So if you hold us flat kind of that 2.78% number, we'd be up. If it runs all the way to $2.87 in the quarter or $2.9 we could have a few more headwinds and we're not contemplating that all of the price yield will come in, in one great swoop here in August. So that's kind of the best way I can dimension it for you, Jim, is that it's going be a range of outcomes. But where we think we are right now is that there's a couple of million left to get in price, couple of million left to get in productivity.
There'll be a little bit of volume absorption. And depending on what happens with and scrap brass will kind of be the determinant.
Speaker 9
Okay. So that $20,000,000 is an FY 2017 number.
Speaker 8
I mean,
Speaker 9
is there a productivity or cost takeout figure that you're contemplating for on an annual basis? Is it 5,000,010 million dollars that you typically target? It sounds like you had some heavier lifting coming into this fiscal year. But is there something when we're modeling out years, how we should be thinking about your productivity initiatives?
Speaker 2
Sorry. Yes, I think we should be looking I generally say 100 basis points forever. And then you have to reinvest in the business and you have to have a steady drumbeat of new products coming in. So if think about total productivity at, let's call it $20,000,000 and then net inflation at takeaway, then you would expect to see about 100 basis points of productivity from the combined plant operations every year. And that contemplates though for your out year modeling that we grow our new product or our vitality index to something approaching 15% to 20%.
So that you have 15% to 20% of the products you're making year one, year two, year three that you're going to have the steepest productivity curve on. The notion that when you start a new product, its highest cost is its first year of production and its lowest cost is its last year of production. That's kind of as you manage the product lifecycle where the bulk of your productivity comes from. And so we haven't yet achieved a vitality index in anywhere near the 20s, but it's something we have to. And then at
Speaker 3
the same
Speaker 2
time, as we're getting those new products across our machines and through our foundries, we should be able to give 100 basis points of productivity. Next year, I think it will be a little heavier than that. Next year, I believe that we should have kind of this year kind of productivity, of $20,000,000 ish and then a little bit of inflation, but the net flow through to be a little higher because I do believe we've underinvested in engineering. As I said in the end of Q2, I think it's something we have to invest in, in order to kind of prime the pump on new products.
Speaker 9
Got it. That's very helpful. And one last one, if I may, a quick one on Middle East. I know it's small, but there have been hiccups there. Has that stabilized or still declining
Speaker 2
quarter over I would call it up, but it is kind of bumpy. I mean, it was up Q3 versus Q3 last year. There's a couple of big projects going on over there in Oman. There's some big investments and they continue in Saudi and some other places where there's desal projects that could be of interest to us. But I would say it's bumpy and but it was a good quarter internationally overall.
Speaker 9
Got it. Thank you.
Speaker 2
Thank you.
Speaker 0
Our next question is coming from Mr. Joe Giordano. Joe, your line is now open.
Speaker 10
Hey, guys. Good morning. This is Tristan in for Joe today. Thanks for taking the questions.
Speaker 4
If I look at
Speaker 10
your distributors, how do they forecast the level of inventory that they need to carry you and what kind of visibility do they have there?
Speaker 2
Gosh, how do I answer that? They don't. They give you some point of sale information. They have their financial targets, our two largest Ferguson and HD Supply. Well HD Supply has just been purchased by Clinton, Dublier and Rice.
But Wolseley, Ferguson, they have their cash metrics that they're trying to manage. They have their turns that they're trying to manage. It's a negotiated discussion region by region based on what sell through looks like. So our visibility quarter to quarter is relatively short.
Speaker 10
All right, thanks. And then if I look at your AMI meters, don't know if you can tell, who are you gaining share from? And I don't know if you have any colors on what region you're gaining share the most? Thank you.
Speaker 2
Tristan, that's I would say that the market is in an adoption phase and so you're not taking share from anybody. This is an emerging market. The AMI space, whether it be kind of that AMR upgradable or fixed network AMI that as people adopt, you battle it out with all of the traditional players. There's only a few people in fixed network. We are growing faster there we believe than the market is actually growing.
So we should have at the end of it a higher participation in the AMI market than we have in the traditional markets. That's been the strategy. So I wouldn't characterize it as taking share from anybody. I would characterize it as AMI being adopted, replacing visual read or drive by AMR and us participating in that emerging market. With that said, I think that one of the things we're not doing as an industry perhaps others are doing it better than us is, if you think about the fixed networks, I think the fixed network in a 50,000 person city and below, you can see maybe some economics for people like us and people that traditional competitors to put in a fixed network.
But I think if you get to a New York City or even Philadelphia, which is out there now or one of these top 25 MSAs, to think they're going to deploy a fixed network for the water electrical infrastructure, deploy a fixed network for policing, deploy a fixed network for street lighting, deploy a fixed network for all of the things that will ultimately need to be automated in a metropolis. I think it's unrealistic to think that water is going to be at the locust or some kind of reserved bandwidth is going to be at the locust of those deployments. And that's why we commit ourselves to being in this open architecture environment. That's why we are in LoRa. That's why we will look at IEEE, 802.11 in every communications method, whether it be a WAN system or whatever, because we know that in the large scale deployments in the future, the person that's positioned to integrate into fixed networks that are, let's call them open architecture, we'll be well positioned.
And we believe that that's the path we're on with our product development and we'll continue to believe that that's the right path to take share in the emerging market.
Speaker 10
I appreciate the comments, Scott. Thank you so much. When I was talking about share take, I guess I was just referencing you integrating or implementing AMI technology where maybe some of your competitors have a visual read that sort of thing. With that being said, are you seeing any pockets of strength at different locations in The U. S?
Speaker 2
I don't I can't answer that. It's not that I won't answer that I can't answer, but I'd be happy to get back to you when we look at the regional data. But I think pretty broad based. I know the West Coast, Southern Cal probably had the greatest adoptions so far, kind of the early adopters. But I can't answer because I don't have the data in front of me, but certainly it's not something we'd be unwilling to share.
So I'd be happy to get back to you or Joe.
Speaker 10
Fair enough. Thanks.
Speaker 0
Our next question is coming from Seth Weber. Mr. Weber, your line is now open.
Speaker 7
Hi. Thanks for Just real quickly, we've been hearing more recently about China trying to make some progress with water leakage in their systems. I'm wondering if you have any initiatives to try and push into that market. Do you have feet on the ground there? Have you had any conversations with any potential customers there?
Thanks.
Speaker 2
So to answer the question, I know this came up on another call. China is not a focus for Echo right now. I mean, it is something that we're interested in and something we'll be following up. We do have feet on the ground in China. We actually have assets capable of having the discussion in Shanghai, in Beijing, in Guangzhou.
But right now, as we think about where Echo is in its deployment and especially as it relates to pipe condition assessment and fixed leak detection, China has not been one of the Southeastern Asian cities that have been focused for us. I think that the biggest thing has been kind of that Malaysia, Singapore, the island nations that have relatively limited access to fresh water and extremely high marginal cost of water. That's kind of how we focus the Ecologics businesses around that marginal cost per gallon of water is more than kind of digging another well, then it's well positioned for people to be willing to spend for a fixed leak detection network. But to answer the question directly, Seth, it's not a focus area for us at this time, but it could become in the future.
Speaker 7
Great. Thanks again. Appreciate it.
Speaker 2
Thanks. So I see nothing else in the queue. What I'd like to kind of summarize saying is, look, I was pleased with the quarter between the growth that we were able to show from shipments along with the increase in backlog, which as I said to you in the Q and A was around $15,000,000 along with the improvement we saw in performance from the plants offsetting what was some pretty stiff headwinds in the material environment along with an improving sequentially price environment, I was happy. And as some will tell you, that's difficult. So I thought we had a solid quarter and I thought the team responded well to the challenges that you have in the quarter.
I thought operationally we were on point and I was happy with the sales team's ability to put through the price increase and deliver volume. So all in all, I'm positive and I thought it was a good quarter and I'd be happy to talk to any of you after the fact as we have some calls lined up. But in summary, pleased with Q3. And on that note, with nothing left, I think Marty, we're good. Operator, I think we can And
Speaker 0
that concludes today's conference. Thank you all for your participation. You may disconnect at this moment.