Mueller Water Products - Earnings Call - Q4 2015
November 5, 2015
Transcript
Speaker 0
Welcome and thank you all for standing by. At this time, all participants will be on listen only note. During the question and answer session, please press star and then one for any question. This call is being recorded. If you have any objections, please disconnect at this time.
Now we'll turn the meeting over to your host, Ms. Marti Zakis. Ma'am, you may begin.
Speaker 1
Thank you, Gabby, and good morning, everyone. Welcome to Mueller Water Products twenty fifteen fourth quarter conference call. We issued our press release reporting results of operations for the quarter ended September 3035, yesterday afternoon. A copy of it is available on our website, muellerwaterproducts.com. Discussing the fourth quarter's results this morning are Greg Hyland, our Chairman, President and CEO and Evan Hart, our CFO.
This morning's call is being recorded and webcast live on the Internet. We have also posted slides on our website to help illustrate the quarter's results as well as to address forward looking statements and our non GAAP disclosure requirements. At this time, please refer to Slide two. This slide identifies certain non GAAP financial measures referenced in our press release, on our slides, 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 our forward looking statements made on this call. This slide includes cautionary 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 the year or quarter, unless specified otherwise, refer to our fiscal fiscal year ends on September 30. A replay of this morning's call will be available for thirty days after the call at 9042. 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 want you to note that we have redefined our reporting segment to provide greater transparency to stockholders and to the financial community, as well as to better reflect how we manage our businesses. We are now reporting financial results for three segments: Mueller Co, Anvil, and Mueller Technology. Mueller Technologies is currently comprised of the results of the Mueller Systems and Ecologics businesses, which were previously reported within the Mueller Co segment. We will file an eight ks today, which will provide the quarterly results for these three segments for 2014 and 2015.
After the prepared remarks, we will open the call to questions. I'll now turn the call over to Greg.
Speaker 2
Thanks, Marty. Thanks for joining us today as we discuss our results for the twenty fifteen fourth quarter and full year. I'll begin with a brief overview followed by Evan's more detailed financial report. I will then provide additional comments on the quarter's results and developments in our end markets as well as our outlook for the 2016 full year and first quarter. We continue to improve our operating performance.
For consolidated Mueller Water Products, adjusted EBITDA margin for the twenty fifteen fourth quarter improved 130 basis points to 19.2% as compared with 17.9% last year. We had particularly strong margin improvement at Mueller Company, which now excludes the Mueller Systems and Ecologics business. Adjusted EBITDA margin at Mueller Company was 28.8%. This adjusted EBITDA margin was the highest at Mueller Company for a fourth quarter since 02/2008. For the full year, Mueller Company's adjusted EBITDA margin was 26.2% compared to 24.6% in 2014.
This full year EBITDA margin was the highest also for the fourth quarter. Our consolidated results came in slightly less than expected due to lower growth in net sales at Mueller Company. We believe distributors were able to meet end market demand largely through higher inventory levels they held at the beginning of the fourth quarter, primarily in states impacted by extreme rainfall in the third quarter. By September, however, we believe their inventory levels were back in equilibrium as we saw a significant pickup in orders over the course of the month. Although our orders met our expectation for the quarter, our shipments were lower given the timing of the orders.
We'll discuss this in more detail later in the call. For the fourth quarter, our adjusted net income per diluted share increased 17% to $0.14 With that, I'll turn the call over to Evan for a more detailed discussion of our financial results for the quarter. Thanks, Greg,
Speaker 3
and good morning, everyone. I'll first review our fourth quarter consolidated financial results and then discuss segment performance. Net sales for the $2,300,000 or 2.9% from the twenty fourteen fourth quarter net sales of $320,700,000 largely due to lower oil and gas shipment volumes at Anvil as well as unfavorable changes in Canadian currency exchange rate. Sales grew at both Mueller Company and Mueller Technologies. Gross profit was $97,700,000 for the twenty fifteen fourth quarter compared with $101,300,000 for the twenty fourteen fourth quarter.
Gross margin of 31.4% in the twenty fifteen fourth quarter decreased 20 basis points from 31.6% in the twenty fourteen fourth quarter, primarily due to a less favorable product mix at Anvil. Gross margin at Mueller Company improved 80 basis points year over year and also improved at Mueller Technologies. Selling, general and administrative expenses were lower year over year due primarily to personnel related expenses. Selling, general and administrative expenses were $53,200,000 in the twenty fifteen fourth quarter compared with $58,200,000 in the twenty fourteen fourth quarter. Selling, general and administrative expenses as a percent of net sales improved 100 basis points to 17.1% from 18.1% in 2014.
Adjusted operating income for the twenty fifteen fourth quarter increased 4.4% to $45,000,000 as compared with $43,100,000 for the twenty fourteen fourth quarter, which included a $2,500,000 gain on the sale of Anvil's Bloomington, Minnesota fabrication facility. Excluding the gain from the sale, adjusted operating income improved 10.8% for the twenty fifteen fourth quarter. Adjusted operating income benefited from improved operating efficiencies, lower raw material costs and lower corporate expenses. These benefits were offset by lower shipment volumes at Anvil and unfavorable changes in Canadian currency exchange rate. Adjusted EBITDA for the twenty fifteen fourth quarter increased to $59,900,000 compared with $57,300,000 for the twenty fourteen fourth quarter.
Adjusted EBITDA for 2015 was $189,000,000 or 16.2% of net sales, an improvement of 70 basis points. Interest expense net for the twenty fifteen fourth quarter declined $6,200,000 to $5,800,000 as compared with $12,000,000 for the twenty fourteen fourth quarter. We benefited from lower interest expense this quarter due to lower interest rates and lower amounts of debt outstanding following the refinancing we completed in in the twenty fifteen first quarter. For the twenty fifteen fourth quarter, income tax expense was $16,300,000 or an effective income tax rate of 42.2%. Income tax expense included deferred tax asset valuation allowance adjustments of $300,000 compared with an $8,000,000 benefit included in the 2014, respectively.
Also, the 41% rate in the 2015 was higher than our full year effective income tax rate in the prior year. However, adjusted net income per diluted share for the twenty fifteen fourth quarter improved to $0.14 from $0.12 in the twenty fourteen fourth quarter. As a reminder, the primary adjustment in the 2,000 and tax expense by $8,000,000 I'll now move on to addressing each of our now three reporting segments beginning with Mueller Company. Net sales for the twenty fifteen fourth quarter increased $3,200,000 to $192,000,000 compared with $188,000,000 for the 2014 for earlier this year and $3,000,000 from unfavorable changes in Canadian currency exchange rate. Excluding the impact of the divestiture and unfavorable changes in Canadian currency exchange rates, shipment volumes would have increased 5.2%.
Adjusted operating income for the twenty fifteen fourth quarter improved to $45,600,000 compared with $40,400,000 for the twenty fourteen fourth quarter. The 5,200,000.0 adjusted operating income improvement was largely due to operating efficiencies, lower raw material costs and lower selling, general and administrative expenses. Adjusted operating margin of 23.8% for the twenty fifteen fourth quarter improved two forty basis points from 21.4% for the twenty fourteen fourth quarter. Adjusted EBITDA for the twenty fifteen fourth quarter increased to $55,300,000 compared with $50,100,000 for the twenty fourteen fourth quarter. And adjusted EBITDA margin for the quarter increased two thirty basis points to 28.8% from 26.5% last year.
I'll now turn to Anvil. Net sales for the twenty fifteen fourth quarter decreased $14,000,000 to $93,700,000 compared with $107,700,000 for the twenty fourteen fourth quarter. As expected, net sales decreased due to lower sales of oil and gas related products, which were down approximately 60% or $12,900,000 Additionally, Amble was impacted by approximately $1,100,000 and unfavorable change in income for the twenty fifteen fourth quarter was 8,900,000 compared with $16,800,000 for the twenty fourteen fourth quarter. Adjusted operating margin decreased to 9.5% compared with 15.6% for the twenty fourteen fourth quarter. As previously mentioned, twenty fourteen fourth quarter adjusted operating income included a 2,500,000 gain on the sale of its Bloomington, Minnesota fabrication facility.
The decline in operating income was also impacted by fewer shipments of higher margin products to the oil and gas market. Adjusted EBITDA for the twenty fifteen fourth quarter was $12,800,000 compared with $20,400,000 for the twenty fourteen fourth quarter. Adjusted EBITDA margin for the twenty fifteen fourth quarter was 13.7% compared with 18.9% for the twenty fourteen fourth quarter. I'll now turn to Mueller Technologies. Net sales for the twenty fifteen fourth quarter increased $1,500,000 to $25,700,000 compared with $24,200,000 for the twenty fourteen fourth quarter.
Adjusted operating loss for the twenty fifteen fourth quarter was $1,800,000 compared with $2,100,000 for the twenty fourteen fourth quarter. Adjusted EBITDA for the twenty fifteen fourth quarter was a loss of $600,000 compared with a loss of $1,300,000 for the twenty fourteen fourth quarter. Corporate expenses for the twenty fifteen fourth quarter were 7,700,000 compared with $12,000,000 for the twenty fourteen fourth quarter. The decrease was due primarily to lower personnel related expenses. Turning now to a discussion of our liquidity.
Free cash flow, which is cash flows from operating activities less capital expenditures, was $57,400,000 for the twenty fifteen fourth quarter compared with $75,200,000 for the twenty fourteen fourth quarter. For the full year, 2015 free cash flow was $50,300,000 compared with $110,700,000 in 2014. Free cash flow was lower in 2015, primarily due to the timing of purchase and disbursement activity mostly related to inventory. Purchasing was relatively high late in 2014 and the related disbursement occurred in 2015. In 2015, purchasing activity was weighted for the earlier part of the year.
At September 3035, total debt was comprised of $486,600,000 senior secured term loan due November 2021 and $2,400,000 of other. The term loan accrues interest at a floating rate equal to LIBOR subject to a floor of 75 basis points plus a margin of three twenty five basis points. Our total debt outstanding at the 2015 was down $52,000,000 from the 2014. I'm also pleased to report that during the quarter, Moody's upgraded our corporate family rating to BA3 and our term loan rating to BA3. Net debt leverage was two times at September 3035.
And our excess availability under the ABL agreement was approximately $170,000,000 I'll now turn the call back to Greg.
Speaker 2
Thanks, Evan. I'll now elaborate on our twenty fifteen fourth quarter results and end markets and provide an overview of our expectations for 2016 and an outlook for the first quarter. As you recall, on our last earnings call, we highlighted certain areas of the country that were impacted by heavy rainfall in May and June. In those areas, particularly Texas, Colorado and parts of the Midwest, our distributors ended the third quarter with about ninety days of inventory, more than double their target. We believe distributors in these areas were largely able to meet recovering end market demand from their existing inventory.
As a result, our shipments to distributors in these areas during the quarter were down on a year over year basis. While we expected to continue see weather impact on our fourth quarter results, it took longer for distributor inventories to reach their desired level. September orders were up notably year over year, reinforcing our belief that distributors are positive about continued growth as we look to 2016. Total domestic orders of valves, hydrants and brass products increased 7% year over year. However, as I just mentioned, orders were heavily weighted in September, which affected our shipment timing.
In addition, we experienced particularly strong year over year shipment growth for Henry Pratt's plant and water treatment valves with net sales up about 30%. As we have discussed in the past, a lot of Pratt's business is project oriented and we can experience a significant swing in net sales on a quarter over quarter basis. As Evan mentioned, we again delivered excellent operating performance at Mueller Company. Greater manufacturing efficiency through our lean initiatives and lower raw material costs helped drive a two thirty basis point improvement in adjusted EBITDA margin. At Anvil, as expected, we continued fall off of sales into the oil and gas market, which were down approximately 60% in the fourth quarter year over year.
Our sales into this market have generally correlated with rig counts, which were down 58% year over year at the end of the fourth quarter. We saw low single digit percentage growth in sales to the nonresidential construction market during the quarter. At Mueller Technologies, our new reporting segment, net sales were up 6.2% year over year. Adjusted operating results improved slightly as the mix of our metering products continue to shift towards AMI metering systems from AMR and visual read meters. Mueller Systems was essentially breakeven for the quarter.
This improvement was largely offset by investments scalable technology and business development activity related to leak detection and pipe condition assessment. Over the last four months, we have seen a significant year over year increase in AMI projects awarded to Mueller Systems as the overall market for AMI Systems has shown improvement and we have introduced new longer range capabilities. In fact, Mueller Systems began 2016 with AMI backlog and award of $36,000,000 compared with 13,000,000 at the 2015. During the fourth quarter, we continue to make small investments at Ecologics to support the long term growth of our leak detection and condition assessment business. The market is still in the early adoption phase of these technologies, but interest from municipalities and water utilities continue to increase.
Ecologics began 2016 with $6,200,000 under contract, the highest such amount at the beginning of the year in its history. As we look at 2016, I'll discuss each segment and let you know what we expect to see with our end markets and our performance. We expect our three primary end markets repair and replacement of water infrastructure, new water infrastructure driven by residential construction and non residential construction to grow in 2016. We expect the residential construction market to be the fastest growing market segment. We expect solid growth in municipal spending and we expect spending in the non residential construction market to grow, but not as much as our other two end markets.
At Mueller Company, we estimate that in 2015, about 70% of net sales were associated with the repair and replacement of municipal water distribution and treatment systems, 25% with residential construction and 5% with natural gas utility. Overall, at Mueller Company, we expect net sales growth in the mid single digits for 2016, which includes the expected unfavorable impact from changes in Canadian currency exchange rate and the divestiture of the municipal castings business in December. Given our current outlook for product mix, we expect to see conversion margins of about 40%. At Anvil, about 85% of 2015 net sales were associated with non residential construction, 10% with oil and gas, down from 20% in 2014 and five percent with the power generation market. For fiscal twenty sixteen, we expect Anvil's overall net sales percentage growth to be in the low single digits.
As we look to 2016, there is a general expectation among industry forecasters that spending for non residential construction will increase in the mid single digits, which should drive demand for Anvil's product. However, we believe Anvil's overall growth will continue to be impacted by an expected decline in net sales to its addressed oil and gas market due to tough comparisons in the first half of the year, especially in the first quarter. As a reminder, Anvil's net sales into this market grew 14% year over year in the 2015. Based on the current market conditions, we would expect Anvil's net sales into this market during the second half of the year to be flat on a year over year basis. Given our current outlook with respect to product mix, we expect to see a conversion margin of anvil of about 15 to 20%.
Although the municipal market is the key end market for Mueller Technology, the drivers of demand are different than those from Mueller Company. Mueller Technology is a more project oriented segment and depends on customer adoption of its new technology products and services. As we have previously discussed, our strategy is for Mueller Systems to be a leading provider of AMI systems. For '16, we entered the year with significantly higher AMI backlog and projects awarded for Mueller Systems and higher projects under contract at Ecologic. We are encouraged by the increased interest we are seeing in marketplace.
Overall, we expect Mueller Technologies to show year over year net sales growth of about 10% to 15% and for its operating results to improve about 7,000,000 to 10,000,000 to $8,000,000 depreciation and amortization, which is expected to be $56,000,000 expected to be $23,000,000 to $25,000,000 We expect our adjusted effective income tax rate to be 37% to 39% and capital expenditures to be $38,000,000 to $40,000,000 For 2016, we expect free cash flow to be driven by improved operating results and improvement in working capital. We also expect to make only minimal cash contributions to our pension plan. Our target is for free cash flow to exceed adjusted net income. Turning now to our outlook for the twenty sixteen first quarter. I'll begin with Mueller Company.
We expect twenty sixteen first quarter net sales percentage growth in the low single digits. In our core domestic valves, hydrants and brass products, now that we believe distributor inventories are back at their targeted levels, we expect to see high single digit growth driven by strong residential construction and solid municipal spending. We expect this growth will be partially offset by the divestiture of our Canadian municipal castings business in December 2014 and unfavorable changes in Canadian currency exchange rate. Additionally, shipments of Henry Pratt water treatment valves are expected to be down in the first quarter due to the timing of projects in our backlog. As we said earlier, this business can be choppy as we saw in our twenty fifteen fourth quarter shipments were up 30% year over year.
We expect first quarter adjusted operating income to be up between 1015%. We expect Anvil's twenty sixteen first quarter net sales to decline in the high single digits largely due to the tough comparison with its oil and gas business. Based on current market conditions, we expect net sales to the oil and gas segment to be down 60%, which is approximately $12,000,000 offset some of the operating income decline from the lower revenue with cost reduction actions we have been implementing in our Oil and Gas business. We expect to see the benefit of lower raw material costs and increased adjusted operating income from growth in shipments to the nonresidential construction market. In total, however, we expect adjusted operating income will be down approximately 40% this quarter.
As you recall, we began seeing a significant drop off in our oil and gas business in our second quarter last year. Therefore, we don't expect adjusted operating income impacted due to the downturn in the oil and gas market beyond this quarter as compared to the prior year. We expect twenty sixteen first quarter net sales at Mueller Technologies to be be down slightly with a slightly higher year over year adjusted operating loss. While we are entering 2016 with a higher AMI backlog, we do not expect to benefit from this higher backlog until the second half of the year. For Mueller Water Products as a whole, we expect twenty sixteen first quarter net sales decline slightly year over year as growth at Mueller Co.
Should be more than offset by a decline at Anvil. We expect adjusted net income per diluted share to be essentially flat as the benefits of lower interest expense will likely be partially offset by lower adjusted operating income. Reflecting on 2015, we are certainly pleased with the increase in both our overall adjusted operating margin and adjusted EBITDA margin as well as with the 30% increase in our adjusted net income per diluted share to $0.39 from $0.30 We also both of which gives us more flexibility in managing our business and in pursuing growth opportunities. We were negatively impacted by the decline of sales into the oil and gas market at Anvil and unfavorable changes in Canadian currency exchange rates. Our consolidated net sales growth was negatively impacted by two sixty basis points due to the lower sales market and by 90 basis points due to unfavorable changes in Canadian currency exchange rates.
Net sales of our products into the oil and gas market represented about 7% of our consolidated net sales in 2014, but only about 4% in 2015. In 2015, we continued to focus on enhancing value for our customers and expanding our intelligent water technology offering. We continued to invest in new products and services that are designed to help water utilities improve their operations and better manage their water assets. At Ecologics, we expanded our worldwide sales force and continue to invest in our fixed new technology in our AMI offering that significantly increased our radio range and reduced the infrastructure required for our system. We believe this development contributed to us winning AMI awards in recent months.
We also entered into the LORA Alliance, which is focused on bringing the Internet of Things to a number of municipal applications, including water infrastructure. Our technology businesses have seen an increase in backlog and contracts, which leads us to believe our investment in these areas will pay dividends as more municipalities and water utilities focus on improving their ability to accurately measure water usage, enhance customer service and detect leaks as a means of conserving water and extending the life of their water infrastructure. As we just discussed, we believe the outlook for our key end markets, new water infrastructure driven by residential construction, repair and replacement of existing water infrastructure for municipalities and non residential construction remain positive. However, as we mentioned, the spending decline in oil and gas markets will result in tough comparisons for part of our business, especially in the first quarter. As our capacity utilization increases, we believe we will continue to demonstrate improved operating leverage, which should lead to expanding margins and improved returns for our stockholders.
With that operator, I'll open this call up for questions. Operator, if you would open up the call for questions, please.
Speaker 0
Thank you. We will now begin the question and answer session. The first question comes from the line of Kevin Metter. You may ask your question.
Speaker 4
Thanks. Good morning.
Speaker 2
Good morning, Kevin.
Speaker 4
Greg, can we first start on AMI and the better awards? I think you said in the last four months you've seen an uptick there. You've got a better backlog now entering the New Year. Can you just talk about what's driving that? Is there anything that you I know this is project oriented and lumpy, but is there anything driving that?
I know budget has been an issue and extended pilot time frames What's really turned that business?
Speaker 2
I think two things, Kevin. I look externally, and I think we were pretty consistent through 2015 mentioning that we're starting to see more and inquiries. So I do think that utilities are being able to justify the higher capital expenditure on AMI because the AMI systems just keep getting better. And I think that they can build a better business case and they're seeing the benefit. I think for us specifically, and I mentioned this in our prepared remarks, that I would say for the last eighteen months, we entered the AMI market about four years ago.
It's been a learning curve for us, both in terms of what we needed to do to not only enhance the solutions we were offering the end user, but we needed to find, reduce our cost get a better cost system, I mean cost for our system. And I think we had a nice breakthrough in 2015. We were able to significantly increase the range of our radios, which reduces the number of repeaters and collectors, which in turn reduces the cost of the infrastructure. I think that that certainly has contributed to the uptick that we've seen in the last several months of the awards we've been winning. But I think it's a combination.
It's certainly been slow, much slower than our original expectations in terms of adoption of AMI by the water utilities in The U. S. I we're starting to see more and more of that because they're seeing the benefits. And then again, I think we have a system that is not only is it much more competitive, but overall it's a better system offering a year ago.
Speaker 4
Okay. And just to be clear, you said the backlog entering the year was $36,000,000 and it was 13,000,000 the prior year?
Speaker 2
Yes. And that's a combination of backlog and award. Sometimes we may have a two or three month lag between the time we're given the award and the contract actually sold. But fortunately, we've never had an award not turn into a contract. But we feel pretty comfortable adding those two together to come up with $36,000,000 And that's the way the $13,000,000 was calculated, too.
Speaker 4
Got it. And then on the oil and gas side, so that was under pressure all year post Q1. I think it's down to, did you say about 4% of total sales now. You mentioned some new cost actions there. I'm just wondering I know that's a smaller piece of business now, but can you talk about that?
And are there any other larger cost actions going on elsewhere beyond oil and gas that we should know about? And I understand you have growth in most of the other
Speaker 2
I think you referenced these, I think, in the last quarter too. When we look at our manufacturing operations, and we do have at Anvil two plants that are dedicated to the manufacturing products directly going to oil and gas, our headcount is down about 50%. So we're doing, obviously, the normal things that need to be done when you see the volume come down. We have not really addressed or taken any action on our field sales force. When we look at our oil and gas business there, we only have four or five sales people dedicated directly to the oil and gas market, and we don't want to lose cost reduction actions.
I think our cost reduction actions aren't going to be driven by, I think, any big event. It's just going to be, I think, what we have been seeing. And that's a continual improvement of our efficiencies as our lean initiatives become more and more of the culture. I think when we look at the improvement that we've seen year over year, certainly at Mueller Co, by far our largest operation, where we had a two forty basis points improvement on just a slight increase in sales. Certainly, benefited from lower raw material costs.
We benefited because the divestiture of our Canadian business was in a loss position, the municipal casting business. But also because we're seeing, I think, ongoing and pretty quarter to quarter improvements. So nothing that I would say would be a large event or a big event for cost reduction. But we're continuing to focusing on quarter over quarter, year over year efficiency improvements that are giving up.
Speaker 0
Thank you. The next question comes from the line of Seth Weber. You may ask your question.
Speaker 5
Hey, good morning.
Speaker 2
Good morning, Seth. Good morning.
Speaker 5
Hi. So just on the Technologies business, I think what I heard you say was for 2016 operating improvement of 7,000,000 to $10,000,000 The business lost, it looks like $13,000,000 in 2015. So does that mean that you're still going to be at an operating loss for 2015?
Speaker 6
'20 Yes. '15
Speaker 2
Overall, Seth, we think we will still be. We think that when we look at it, we expect our Mueller systems to be profitable. And we're still, I think, in the early stages of growing the Ecologics business where we have our sales infrastructure to support a larger business because we're moving in that direction. And secondly, we still have some investments to make on fixed leak detection. That has been, we have had our end users respond very favorably to the pilot that we have completed on fixed leak detection.
Again, just to remind everyone, this is where we connect sensors to the system. They're there full time. And then we're taking readings and communicating that either over a cellular network on transmission lines. And our objective is to be able to move distribution, reading distribution lines both over a cellular network and an RF network. So we're able then to inform a utility or the utility can make their own assessment as to what's happening, you know, or any leaks developing.
And we still have more investment set on that fixed leak detection technology because we think that that is key to drive growth. So, yep, we do expect that this business will be slightly will lose slightly lose money next year. And that negative the loss will be more in our Ecologic business because given the backlog we just talked about of our AMI systems, we expect our systems business to be profitable.
Speaker 5
Okay. So just two follow-up questions. I mean, that consistent with what you had said last quarter? Because I was under the impression that the whole category would be profitable this year. And then I guess the follow-up is, do you expect the Technologies business to be profitable at any quarter during the year?
Or is it losing money for all four quarters?
Speaker 2
I think it's consistent with what we've said. I think we were talking more about separately last year. I mean, last quarter I think we were talking about Mueller Systems being profitable. And specifically because of the higher backlog and the awards we were receiving on the AMI. And I think that we were always of the belief that we had more R and D spending and we were in the ecologic business.
Right now, it's tough for me to give a quarterly outlook for 2016.
Speaker 5
Okay. And then just really quickly on the 7% increase in orders for the base business, hydrants, brass and valves. Was there any change in pricing timing that contributed to that? Or is it kind of an apples to apples? I mean, was there a pricing with the calendar that might have caused any sort of
Speaker 2
decrease in orders? No. Apples to apples. And we did receive one nice award for New York that will ship later in the year. And last year, we also received an order for New York for $2,500,000 This year, it was $5,000,000 That's almost some of their annual requirement.
So that was I wouldn't say that was out of the ordinary, but that was nice that that that order was expanded this year versus last year. That was as I said, that will ship later in the year. Other than that, I think it was just normal business.
Speaker 5
Okay. Thank you very much. I'll get back in queue.
Speaker 2
Okay. Thanks, Seth.
Speaker 0
Thank you. The next question comes from the line of Kevin Bennett. You may ask your question.
Speaker 7
Hey there, good morning everybody.
Speaker 2
Morning, Greg,
Speaker 7
I wanted to start with a question about Texas. I know certainly the weather in third quarter was a disaster and I get there's a lot going on in the channel. But I'm wondering if you have any comments on kind of underlying demand in Texas, if you've seen it slowing given the oil and gas downturn or if that continues to perform well?
Speaker 2
Kevin, from what we can see, it continues to perform well. But I think that when you and that's certainly reasonable question and something we're watching because I think there was pent up demand. I think when you go back in the there were especially when we took it on the housing development, there were developments that builders just couldn't start because they couldn't get labor earlier in the year. So I think they may still be working through that backlog of opportunities. But I would say it's something we need to keep an eye on.
And because certainly the energy markets, the oil and gas market is a big driver of the economy in Texas. I can say we haven't seen it yet, but it is something that could impact it and something we're watching as close as we can.
Speaker 7
Got it. Okay. And then a question on Echologics. I know part of this long term strategy is to move internationally. I was wondering if you've had any success on that yet or if it's still a little too early?
Speaker 2
No, we've had some success. We've had it more specifically in Malaysia. And actually what we've learned in that particular project is giving us some opportunity to actually what we learned in Malaysia to bring it back to our product offering in The United States. And our inquiry level is up in Asia. Malaysia, there's different other utilities in Malaysia looking to do more work and we're in the process of quoting that right now.
And I would say that Singapore is another area that we've been in a lot of discussions. It hasn't turned into, what I would say, any substantial order, but we think the groundwork is being laid, as well as Australia has been moving, I think, in a positive direction for us. But we're seeing more activity in Asia than we are in Europe right now. But we are gaining some traction. And Kevin, just let me give you a little more insight into Texas.
We talked about how our orders were up big time in September actually. Our orders were up 60% in Texas for the month, but up 9% for the quarter. So when you realize that that was the area that had most of the inventory, we were pretty pleased that overall orders grew 9% coming out of that state. Got it. That's helpful.
Speaker 7
And then one last quick question for Evan. I was wondering, can you remind us what the sales impact was of the castings business that you sold, I guess, the year ago first quarter?
Speaker 3
Yes, Kevin. That was about $11,000,000 on an $11,500,000 on an annual basis. Can you give it for the
Speaker 7
first quarter just so we know what the comp is?
Speaker 3
If you look at the first quarter, that was roughly around $2,000,000
Speaker 8
Okay.
Speaker 7
Exactly what I wanted.
Speaker 2
Thank you, guys. Thank you. You.
Speaker 0
The next question comes from the line of David Rose. You may ask your question.
Speaker 6
Good morning. Thanks for taking my call.
Speaker 2
Good morning, David. I had a couple
Speaker 6
of questions. One was a follow-up on an earlier question regarding progress on AMI. I know you had some significant challenges with Port Angeles on the service side. And I was just getting a better sense of what you've done so that we get comfortable that from a service or from an execution standpoint going forward, those products you have are more smoothly implemented?
Speaker 2
Yeah. I think that Port Angeles was our very first AMI project. I think our learnings from that project, certainly on project management, we've gotten a lot better on the project management side. Secondly, I think a lot smarter on how we need to educate the customer about an AMI system and what they expect to receive out of the AMI system. And so, I think that those were our two greatest learnings.
One, don't overestimate the customer's understanding of what they're going to get right up front. Spend more time, I think, during that process. And then secondly, I think that we have become a lot
Speaker 6
Better profitability going forward out of the AMI business.
Speaker 2
Well, yes, we would think that we would see better profitability out of the AMI business going forward. I think just coming up the, as I said, coming up the learning curve, we're a lot better than we were several years ago.
Speaker 6
Okay. And then maybe kind of on a high level view in terms of any of the product gaps you're missing on the technology side. I mean, obviously, was a great fit in. What else do you need to do from an M and A standpoint to add to your capabilities?
Speaker 2
As we look at it, we're pretty comfortable with the products we've developed in our current suite of products. I think that there are always opportunities, I think, on the meter side. We don't have a solid state meter. That's a small portion of the market. So we think that that could grow at a faster rate.
We have decided to go down the route of a solid state register, but we do see benefit meters. When we look at from an acquisition standpoint, I think just getting access to some of the markets outside The United States. I think certainly the market in Europe. We've talked in the past that how that market may be developing faster than any region around the world. I think they have a better spent.
I think we've mentioned in the past where The U. K. Alone spends $100,000,000 a year on leak detection. That's as much as we are able to identify that's being spent in The United States. So I think there, I think we have most of the technology.
I think we could add to our technology, but perhaps getting access to the market would be opportune for us. So, I think from where we are today that we're pretty pleased and satisfied with the technology we have. I think if we think more on the acquisition front, it would be getting a better access to a market.
Speaker 6
Okay. Thank you. That's very helpful. And then last one, just on the inventory levels. Can you provide just some quick thoughts on where you should be on inventory?
And how are you going to drive the working capital performance, the improvement going forward in 'sixteen?
Speaker 2
Yes. Evan and I will team up on this. Our inventory grew this year. Think And one of the biggest drivers for that in the third quarter, we were building to a forecast and we were very surprised by what happened in the third quarter, we think related to the excess rainfall. So we built inventories at our Mueller Co.
Business that we're still working through and we brought them down in the fourth quarter on a year over year basis. But we still have inventory to take off there. And on the oil and gas side, we also at Anvil, I would say in the mid year didn't expect much of the drop off that we've seen there. So we have inventory to take out the steel to bleed off related to oil and gas. I think when we gave our outlook for cash flow, free cash flow for next year, we said that would be driven by both improvements in operation operating improvements as well as working capital coming from working capital.
Evan, anything to
Speaker 3
And as add Greg outlined, inventory did decrease in the fourth quarter and I think came down about $6,000,000 So it was related to timing of purchasing and disbursement activity related to the inventory. I will note when you look at our fourth quarter free cash flow, which was down about $18,000,000 on a year over year basis, there was roughly about an 8,000,000 to $10,000,000 impact relative to cash taxes. We became a federal tax payer in 2015 and the taxes that we did pay were heavily weighted toward the fourth quarter compared to minimal last year. And then there was also some timing on interest payments that impacted our fourth quarter about $5,000,000 to $7,000,000 as well. So the purchasing activity was a big driver of cash flow, but the inventory, but then in the fourth quarter, we had those two other items in the tax and interest area.
Speaker 2
Okay. Thank you. Thank you.
Speaker 0
Thank you. The next question comes from the line of Brent Thielman. You may ask your question.
Speaker 9
Hi, good morning.
Speaker 2
Good morning, Brent.
Speaker 9
First is a clarifying question. I'm sorry if you reported this somewhere. Didn't see it. But on Mueller Co, the operating income growth and sales growth numbers you provided for Q1, do you have last year's revised sales and EBIT numbers just given the segments have changed?
Speaker 1
Brett, we will be providing an eight ks later this morning. And in that eight ks, we will be having the quarterly information for the three segments for the years 2014 and 2015. So you will have that broken out everyone will have that broken out shortly.
Speaker 9
Okay, great. Thank you. And then in terms of Anvil, how did the oil and gas piece do on a sequential basis? Did you see further pressure there?
Speaker 2
On a sequential basis, I think that Brent, for the most part, it leveled off. Now, I would say that we may have seen a little more pricing pressure. But from a volume, we saw about a 60% drop off in the third quarter. We saw that drop off in the fourth quarter.
Speaker 9
Okay. Then shifting to Muaco again. How has any of the order timing shift you've seen recently, I guess, changed your plans for timing of price increases over the next six to twelve months
Speaker 2
What pricing actions we should be taking? And we're in that evaluation right now. I would say that nothing probably has surfaced that would alter our thinking from previous years, especially now since we think that distributor inventories are back at their targeted levels. So right now, we're a But nothing that I would say that has surfaced in the last four, five or six months that would really impact our thinking about timing, at least currently. Okay.
And then your business up
Speaker 9
in Canada, aside from currency, I know it's small, but I think it's been a bit of a headwind for you. Do you see activity stabilizing up there?
Speaker 2
Actually, we saw growth when you look in Canadian dollars, that business grew for us in 2015. So the real headwind has been currency. So, when we look in the first quarter, as we've said, we will be impacted by the divestiture that Evan just referenced. We think that we may be flat or maybe see some slight growth in the first quarter. But for the full year 2015, Canada, again, in Canadian dollars grew nicely for us.
Speaker 9
Okay. That's encouraging. And then, Greg, in terms of the CapEx for 2016, can you remind me how much is kind of the sustaining recurring spending versus, I guess, investment for building out the Technologies business?
Speaker 2
Brent, about $27,000,000 $28,000,000 we think is for sustainable CapEx. And a lot of our CapEx above that has been going into our core businesses for efficiency improvements. For instance, in the middle almost completely automating the assembly of hydrants. So we've been investing the kind of money where it gives a pretty quick payback and improves our efficiency and lowers our cost. We've also, for instance, still in the midst and still have a little more spending, putting in a new ERP system at Anvil.
So we gave guidance that probably shows capital spending about $10,000,000 above our sustaining. And those are going to efficiency improvement, cost reduction, and some of that is going to the new technology businesses. But I would say more of what's above sustaining is still going into our core businesses for efficiency improvement.
Speaker 3
Brent, for the technologies for fiscal twenty fifteen for those businesses, we spent around $6,000,000 on capital spending.
Speaker 9
Got it. Okay. And last one if I could. So it sounds like Mueller Systems will hit the profitability threshold this year. It sounds like you get some nice momentum in Ecologics.
What level of business or how do we think about timing of that business kind of getting to a break even point?
Speaker 2
Yes. I think that I'll put it more in terms of that we're moving away in the process of moving away from that business having more revenues coming from doing field work to what we're calling leverageable business. And that is where we don't want to be involved in having a lot of people tied up in doing field work. We want to sell the technology such as fixed leak detection that we talked about. And we think that is much more leverageable.
So it depends really on the adoption of that kind of technology. But given the pilot that conducted in 2015, I think given some of the inquiries and additional discussions we're having with new potential customers, that I'm right now looking at it. I think that if that technology is adopted on the time that we think it will be, I think we're pretty right now optimistic about 2017.
Speaker 9
Great. Thank you.
Speaker 2
Thank you.
Speaker 0
Thank you. The next question comes from the line of Joe Giordano. You may ask your question.
Speaker 10
Good morning, everyone.
Speaker 2
Good morning, Joe.
Speaker 10
I just wanted to clarify something on the cash conversion. I know your goal for 2016 over 100%. You've typically been way, way above that. And it looks like on a trailing twelve month basis fourth quarter with going to a cash payer on taxes, what's better normalized view to think about going forward?
Speaker 2
Kevin?
Speaker 3
Yes. No, Joe, certainly our fourth quarter was not as and did fall a little bit below. And as I mentioned, you know, we had, you know, roughly about a $10,000,000 impact, you know, relative to cash taxes that were paid in the fourth quarter this year compared to the fourth quarter last year. And there's about a 6,000,000 or $7,000,000, you know, cash interest payment made this quarter that we didn't see in the last quarter. We but before we moved into the term loan, we paid interest about twice per year.
Now we're paying it on a monthly basis. So it's just timing, albeit overall interest was down on a year over year basis. But specifically, if you look at all of 2014 free cash flow, about $110,000,000 very strong and around $50,000,000 for this year. You kind of almost need
Speaker 2
to kind of look at
Speaker 3
the average of the two years because we did pay quite a bit of the payments related to purchasing activities last year in our first quarter. And then with the operating activity and the timing of purchases this year, it just had a fairly significant impact on us, you know, for the year. So, you know, I still believe as we go forward, our free cash flow should be greater than adjusted net income. It was just a bit of a timing between 2014 and 2015 that led to a lower amount this year.
Speaker 10
Okay. Fair enough. I want to shift over to on the metering side, and see if you had any updates on the American Water contract. I think it's up in January. I just wanted to understand the margin profile of what you've been booking recently versus that and how critical you look at that?
How big is that as a percentage of that business? And how critical is it to maintain that despite maybe a less favorable margin profile there?
Speaker 2
Yeah, business, our AMI business have higher margins than the American Water business. American Water business is primarily AMR. And, of course, what we've been referring to is AMI. And AMI, by its very nature, has higher margins. I will say that that request for proposal has been issued.
We're in the midst of responding to that request for proposal. So it'd be difficult for us to actually give any more detail, relatively about this specific proposal. But I will say that our objective has always been to become a leader in AMI. So as we move to a greater percent of our business being AMI, I would let me put it this way. That's really our focus to grow that business.
And given its margin profile, we're a lot better off having a greater percentage of our business being AMI.
Speaker 10
Okay, great. And then maybe lastly on capital allocation priorities. I was a little surprised to not see any activity on the buyback given the shares dipped below $7 there for a bit. Given, I guess, the revenue underperformance of some systems over the last couple of years, how are you viewing the best way to deploy capital here over the next couple of years on versus buybacks versus businesses that are kind of operating at the breakeven operating level?
Speaker 2
Yes. Well, you bring up a good point. If these businesses continue to operate at a breakeven even level, I think that we will certainly change our thoughts on capital allocation. I think that right now, as I said, that we made assumptions four or five years ago about the AMI business market. And it's been slow to develop.
However, I think if we look at the last twelve months, we've been pretty encouraged by both the movement in the marketplace and certainly with our technology. I think still based on our current outlook that we can believe that Mueller systems can achieve an ROIC in the range of 35% to 40%. We're very bullish about the leak detection because we're moving that to be a very asset light, an asset light business. But I would say that if we find that our assumptions about either the adoption of the technology in the marketplace or the competitive dynamics change, we'll adjust our strategy. But I just would say, as we look at it today, that we think in the mid term to long term, that we can generate better returns by investing in that business.
But certainly, as I said, that if we see that it's not playing out that way, then we'll make the adjustments in our strategy.
Speaker 10
Great. Thanks, guys.
Speaker 2
Thanks. Thank you.
Speaker 0
Thank you. The next question comes from the line of Mike Wood. You may ask your question.
Speaker 7
Hi, good morning. First, I was hoping you can give us some color in terms of the Anvil nonres trend, sort of what growth you had this quarter, excluding currency and what you're seeing in your orders and backlog that underpins your 2016 view?
Speaker 2
Yeah. Mike, I would say that we have been somewhat disappointed relative relative to our expectations on the non res construction side. In this quarter, I think we were somewhere between the 12% range in our growth outside oil and gas. And I think as we continue to look at some of the forecasts for non res construction spending throughout the year, they continue to come down. When we look at 2016, the general forecasts are for mid single digit growth.
When we look at the ABI Index, certainly for most of the year, was positive. I would say that our outlook, when we gave the outlook for 2016, it was based on the assumption that we'll see non residential construction growing mid single digits. But I will say that we're probably a little less confident in what's happening in that market as we are in what's happening in residential construction and municipal spending.
Speaker 7
Got it. And then could you quantify for us the incremental leak detection and just general Mueller Systems investment you're making next year? Maybe just also comment on why the incremental in the quarter of Mueller Systems was 20%, whereas I imagine you're seeing a richer mix come through from AMI.
Speaker 2
Yes. AMI, certainly, let me ask that. The AMI is lumpy and project oriented. We did see some AMI this quarter, but the bulk of what we received will come through the second half of the year. I think that relative to investment, we haven't put a dollar amount on that.
But when we look at where we think the real investment in these two businesses next year beyond just day to day, will probably still be, as I answered the question a little earlier, in the development on our fixed leak detection. So that will be on the R and D side. And more specifically, to be able to communicate data over a cellular network. And we still have some improvements in our RF network. But I would say most of the investments that we saw in 2015 are behind us.
We've built our worldwide sales force. There may always be some adjustments. We started the development of the fixed network. I think in 2016, what we will see is continued investment in developing the I think relative to Mueller Systems, from an investment standpoint, that were probably mid-twenty fourteen through mid-twenty fifteen. We were spending development money on increasing the range of our radio.
We've introduced that to the market in June. So, I think a lot of those investments are behind us. So, when we compare 'sixteen to 'fifteen, much more investment in 'fifteen than what we expect to make in 'sixteen. Great. Thank you.
Thank you.
Speaker 0
Thank you. The next question comes from the line of Jose Garza. You may ask your question.
Speaker 8
Good morning,
Speaker 2
Good morning. Good morning.
Speaker 8
Thanks for fitting me in.
Speaker 2
Absolutely. I
Speaker 8
just had a question about kind of the longer term. Now you guys have broken out some of the economics on the Mueller technology. It's just the longer term to kind of get you to some of the numbers that you've talked about, especially as you kind of, like you mentioned, make the business a little bit more leverageable to get you to 20% EBITDA margins down the road?
Speaker 2
Yes. On the Mueller system side, it's increased penetration of the AMI market and that market picking up its growth trajectory. Jose, as I said, we think we saw both of those happening in 2015. We've seen more and more inquiries for AMI coming in from municipalities. And we've increased our win rate.
We need to continue on that path. Relative to Ecologics, I answered this in the previous question, that we think that 2017 we see that business being profitable based on the adoption of a greater adoption of fixed leak detection. So I think where we're positioned right now, it will be driven by the top line. I think Systems, we have our cost of our system where it needs to be. I think on Ecologics, we now need to lever the sales force that we put in place as well as the technology that we're developing.
And to me, I think that that happens we start seeing that in 2017 and 2018.
Speaker 8
Okay. But I guess the assumption is a large increase in your gross margins in that business.
Speaker 2
Yeah. The gross margins though will come from the volume, the volume growth. And when I look at Ecologics, we have the fixed cost. When you look at our gross margin on that business, I mean, it goes between, on a project by project basis, 50% to 70%. We need the volume there to absorb the fixed cost we put in that business so it would grow.
On Mueller Systems, we think margin improvement comes by a shift to the greater mix of AMI.
Speaker 8
Okay. Very helpful. And then I know you talked about the first quarter for Henry Pratt, but what's kind of the overall outlook for 2016 in that part of the business?
Speaker 2
Yeah. When we look at 2016, right now and a lot of that comes out of our current backlog, we think it will be up in the low single digits. Our distribution, our products that go to water distribution. We will have a little bit of a tough comparison because as you know, we've discussed this in the past. From time to time, we have orders that go to retrofit to a nuclear plant.
We shipped some of those this year. We don't see that coming back. We're replacing that in 2016. That's a long lead time item. So we know pretty much now if it's not in our backlog today that we won't probably see it over the next twelve months.
And then the other is we made some nice shipments to water treatment facilities in the fourth quarter of this year. Our quotation activity is up on water treatment facilities. But based on that timing, that could be down a bit. So, sorry, that is trying to give you all the different components.
Speaker 8
Okay. Very helpful. Thanks, guys.
Speaker 2
Thank you.
Speaker 0
You. The next question comes from the line of Walter Lipton. You may ask your question.
Speaker 11
Hi, thanks. Good morning. Sorry for the call is running a little bit late. So I'll just ask Juan. The Mueller Co operating leverage was very good this quarter and the 40% that you had in your 2016 guidance.
I wonder what assumptions go into that, if you can give us any color on pricing or mix into that 40%? Or is that just sort of the normal run rate for the business?
Speaker 2
The 40%, Walt, would be that and this ties in with the little bit on Jose's question that we expect in 2016 probably to see a mix shift more to our valves and hydrants, less from fracs because we think valves and hydrants are going to grow at a greater rate. So that certainly contributes to a better conversion margin. So it's based on right now our expectation for the overall mix and timing of shipments. I will say that, of course, if you look at the last two quarters, we've had conversion margins above that. But that's because of, and Evan referenced this a little earlier, the divestiture of our municipal casting business.
That was around 11,000,000 to $12,000,000 of revenue for us in 2015. It was only $2,000,000 this year and it lost 'fourteen, I'm sorry, lost money in 'fourteen. So we're getting so you'll see that the divestiture negatively impacts our overall revenue growth rate, but has a nice positive impact on our margin. So I would say that the 40% right now is based on how we think our mix will play out. And it's one that unless there's a chance, Paul.
Thanks.
Speaker 0
Thank you. And next question comes from the line of Seth Weber. You may ask your question.
Speaker 5
Hi, thanks. Sorry, just a quick clarification. The $36,000,000 backlog and awards, is that a next twelve month number? Or is that get extended over a longer period of time?
Speaker 2
Good question, Seth. That's entering backlog for 2016. The majority of those today would be are scheduled to ship in 2016. A little of that could move into 2017. But by far, the vast majority is currently scheduled for 2016.
And we certainly hope to add to that because we still have quotations outstanding that if those turn into awards the next couple of months, we would still have opportunity to ship those in 'sixteen.
Speaker 5
Okay. Thank you very much.
Speaker 2
Thanks, Thank
Speaker 0
you. No question at this time.