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spk08: Greetings, and welcome to MRC Global's third quarter earnings conference call. At this time, all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to turn the conference over to your host, Monica Broughton of Investor Relations.
spk01: Thank you and good morning. Welcome to the MRC Global Third Quarter 2021 Earnings Conference Call and Webcast. We appreciate you joining us. On the call today, we have Rob Saltil, President and CEO, and Kelly Youngblood, Executive Vice President and CFO. There will be a replay of today's call available by webcast on our website, mrcglobal.com, as well as by phone until November 23, 2021. The dial-in information is in yesterday's release. We expect to file our quarterly report on Form 10-Q later today, and it will also be available on our website. Please note that the information reported on this call speaks only as of today, November 9th, 2021, and therefore you are advised that the information may no longer be accurate as of the time of replay. In our remarks today, we will discuss various non-GAAP measures, including net debt, adjusted gross profit, adjusted gross profit percentage, adjusted SG&A, adjusted EBITDA, adjusted EBITDA margin, and adjusted net income. Unless we specifically state otherwise, references in this call to EBITDA refer to adjusted EBITDA. You are encouraged to read our earnings release and securities filings to learn more about our use of these non-GAAP measures and to see a reconciliation of these measures to the related GAAP items, all of which can be found on our website. In addition, the comments made by the management of MRC Global during this call may contain forward-looking statements within the meaning of the United States federal securities laws. These forward-looking statements reflect the current views of the management of MRC Global. However, MRC Global's actual results could differ materially from those expressed today. You are encouraged to read the company's SEC filings for a more in-depth review of the risk factors concerning these forward-looking statements. And now, I would like to turn the call over to our President and CEO, Mr. Rob Saltil.
spk06: Thank you, Monica. Good morning and welcome to everyone joining today's call. I will begin with third quarter highlights and cover some of the key drivers influencing our business as well as our outlook. I will then turn over the call to Kelly for a detailed review of the financial results before providing a brief recap. The key highlight for the quarter is that we achieved our highest EBITDA profitability in the last two years, both from an absolute dollar perspective at $39 million, and as a percentage of revenue at 5.7%. Focus on bottom line performance remains a key priority for this management team. Compared to last year on a year-to-date basis, we have seen our EBITDA margins improve 120 basis points from 3.8% to 5%. On an absolute basis, EBITDA has improved $24 million compared to last year on a year-to-date basis from $75 million to $99 million. Although we did experience strong adjusted gross margins for the quarter, our profit levels would not have been achieved without our relentless focus on cost control and keeping our SG&A cost structure relatively flat. Furthermore, we achieved our record margins despite revenues being at similar levels to the previous quarter. In the month of September, we experienced delays in activity that shifted some of our revenue into the fourth quarter. A portion of this was related to activity delays in our Canada and international businesses, while the remainder was associated with Hurricane Ida's impact on our U.S. Gulf Coast business, coupled with supply chain related delays that impacted our U.S. growth. We expect these issues to be net neutral for the full year, as we've already seen our October revenue come in higher than September, and November is off to a good start as well. This is not the case, as we usually experience a seasonal decline as we move into the fourth quarter. As a result, we now expect our fourth quarter revenue will be similar to our third quarter, despite the reduced working and billing days due to the holidays. Profitability optimization is vital to maximizing value for our shareholders, and we continue to target higher EBITDA margins for our company. We anticipate double-digit revenue increases in 2022 versus 2021, and this should permit us to increase our margins further from current levels. We plan to provide guidance on our plan for 2022, including our anticipated full year SG&A costs on our February earnings call. As we stated before, balance sheet strength and financial flexibility are also key areas of focus. Our long-term debt at the end of the third quarter was $325 million, while net debt was $278 million. Our leverage ratio was 2.3 times, and while slightly higher than the second quarter, it is well within our preferred operating range. We expect this ratio to approach two times by the end of this year. Consistent with our guidance from last quarter, we used $31 million of cash in the third quarter, but year-to-date, we are still cash positive by approximately $16 million. As mentioned last quarter, we are increasing our inventory position to support our growing business. Looking forward, our growing backlog, expected increases in customer spending, and improving macroeconomic conditions drive our optimism for growth in the business. Our backlog at the end of October was up 20% from the end of the second quarter, led by the upstream production sector, which was up 33%, and the gas utility sector, which was up 25%. The U.S. backlog is the highest it has been in two years. Our largest sector, gas utilities, continues to perform very well. Our gas utilities customers have increased their activity levels this year through their operations integrity and modernization programs, meter replacement programs, and new line hookups from the robust housing market. This sector is expected to finish the year at approximately $1 billion in revenue, which is two years earlier than we thought coming into this year. Increased oil and gas prices typically translate into higher activity in the U.S. and international oil fields, which has a positive impact on our upstream production business. The IOCs and larger independents, who comprise the largest share of our upstream customers, have generally exercised capital restraint this year. This is why we have not seen as significant an uplift in our U.S. upstream business this year as the rise in crude prices and oil field activity might suggest. However, with both U.S. and international benchmark crude prices above $80 a barrel, we expect to see budgets for E&P capital spending to be up by double digits next year with significant completions activity that is aligned with our customer set and our product mix. Our midstream pipeline business, which includes gathering systems around new production as well as transmission, also benefits as completion activity increases, generally lagging upstream by a quarter or two. These positive data points give us more confidence in the near-term outlook for these two sectors. As I noted on our last earnings call, to better reflect the growing importance of the energy transition to our business, we renamed our downstream and industrial sector to the downstream industrial and energy transition sector, or DIET for short. Our downstream and industrial portion of this business is benefiting from increased turnaround and MRO activity that had been delayed due to pandemic-related restrictions. We expect this activity to increase next year, both for our U.S. and international markets. Although the energy transition portion of our revenue is starting from a small base, it is growing rapidly. and we expect this trend to continue as our customers execute their green energy and decarbonization plans and investment dollars are allocated to this space. We have added dedicated sales resources to aggressively pursue new opportunities and new customers as this market evolves. We have proven product expertise, supply chain management skills, and strong existing customer relationships, which give us a clear advantage and which we intend to use for growth. One of the larger fields where we see the most immediate growth and where we are actively participating is with biofuels projects being undertaken by traditional petroleum refiners. There are several of these projects underway and more expected in the near term. Energy transition is a key strategic growth area for MRC Global, and we continue to be focused on capturing more opportunities. I will now discuss a few of the key drivers that impact our business. Similar to last quarter, we are still experiencing inflation across all product groups to varying degrees. We see the most inflation impact in our carbon steel products, particularly line pipe, as those prices have more than doubled since October of 2020. As we've discussed before, inflation is generally good for our business, especially when we have cost plus arrangements. Our sales team is working diligently with our customers to update our product pricing to reflect our higher costs. We expect inflationary pressures to continue for the near term, supporting our current levels of adjusted gross margins. Now let me address supply chain, which is currently getting a lot of airtime. I will start by saying that we are supply chain experts, and we are navigating these challenges with minimal disruptions. The root cause is the pandemic, which has significantly affected the lead times of certain products, especially those that are manufactured or assembled overseas, or those products that require overseas components for assembly or manufacture here in the U.S. Despite the increases in freight costs and associated delays, the impact on MRC Global's financial results has been minimal thus far. To help mitigate these issues, over the last six months we have focused on building our inventory position in key product categories, along with increasing the amount of forward purchase orders to help provide product availability in the coming quarters. This is one of the key services we provide our customers, having the right inventory in stock. We've also worked with our customers to expand the list of eligible suppliers to increase our flexibility and reduce dependency on a narrow supplier base. With our key suppliers, due to our leadership position in the market, we receive preferential access to products, putting us in a much better position than the majority of our competitors. Supply chain issues are expected to continue for the foreseeable future, but we believe we are well positioned to continue to manage them effectively. Switching gears, we continue to invest in our e-commerce platform, MRC Go, and encourage digital integration with our customers. We made recent enhancements to the platform and we continue to see an increase in usage. Digital revenue as a percentage of total revenue continues to grow and was up more than 400 basis points over the previous year. Digital integration creates efficiencies for both our customers and for us, and it strengthens our customer relationships while providing another value-added offering. I invite you to check out our upgraded website at mrcgo.com. And with that, I'll now turn the call over to Kelly to cover the financial highlights for the quarter.
spk04: Thanks, Rob, and good morning, everyone. My comments today will primarily be focused on sequential comparisons comparing the third quarter of 2021 to the second quarter of 2021, unless otherwise stated. Total sales for the third quarter were $685 million, consistent with the previous quarter, as growth in the U.S. segment was offset by a decline in our international business. Our Canadian segment for the third quarter was also relatively flat compared to the previous quarter. Gas utilities were $271 million in the third quarter, 1% higher and in line with our guidance, as customers continued to execute on their integrity upgrade plans. Compared to the third quarter of 2020, revenue was up $63 million, or 30%. This quarter, the gas utility sector represented 40% of our total revenue, and as mentioned by Rob, this business is positioned to hit approximately $1 billion by the end of this year. And as we've discussed previously, the activity levels in this sector are independent of commodity prices and is expected to have steady annual growth for many years to come, helping to offset volatility in other parts of our business. Diet sector sales were $197 million for the third quarter of 2021, up 3%, driven by refinery turnaround activity and biodiesel projects in the U.S. segment. This sector now represents 29% of our total revenue. Upstream production sales for the third quarter of 2021 were $132 million, an 8% decline resulting from lower MRO and project activity in Europe and Asia Pacific, followed by non-recurring projects in our Canada segment. This sector is now 19% of total revenue. Midstream pipeline sales, which were primarily U.S.-based, were $85 million for the third quarter of 2021, a 2% increase, due to increased maintenance and additional project activity. This sector now represents 12% of total revenue. Now I will cover sales performance by geographic segment. U.S. revenue was $570 million in the third quarter, up 2% with increases in all sectors as activity levels improved, driven by the diet sector, where revenue increased $7 million, or 5%, driven by an increase in refinery turnaround and maintenance activity, as well as new biodiesel projects. U.S. upstream production sales were up 1 million or 1% as a result of increased line pipe sales for well completion infrastructure. The U.S. midstream pipeline sector revenues increased 2 million or 3% for maintenance and small project activity. Canada revenue was 30 million in the third quarter of 2021, consistent with the prior quarter due to the net effect of a stronger Canadian dollar and an increase in line pipe sales offset by non-recurring projects. International revenue was $85 million in the third quarter of 21, a decline of 13% due to the net effect of delayed MRO and project activity in the upstream sector and non-recurring projects in the downstream sector, partially offset by stronger foreign currencies. Now turning to margins. Adjusted gross profit for the third quarter was $137 million, or 20% of revenue, 50 basis points higher than the second quarter, in part due to the beneficial impact of inflation. We often get asked about guidance related to gross margins, but there are many variables that can influence this percentage. Examples include inflation and product mix along the sector, segment, and customer mix. Inventory adjustments and the ability to pass on the recent increases in logistics-related cost can also have a material impact. In the current quarter, we managed through these factors very well, which ultimately translated into a 20 percent margin, the highest seen in two years. In the near term, we expect to continue to see the puts and takes just described, but we are not expecting any material fluctuations to our margins in the near term. Product prices may continue to rise throughout the year, which would result in further LIFO expense in 2021. Although a very difficult number to predict, we're currently expecting an additional 30 to 40 million of LIFO expense in the fourth quarter, which, combined with the amount already incurred this year, has a significant impact to our GAAP-based accounting results. For example, our gross profit was 13.9 percent in the third quarter of 2021, as compared to 16.3 percent in the second quarter of 2021. The difference is a result of LIFO expense, which came in at $32 million in the third quarter, compared to $11 million of expense in the second quarter. SG&A expense in the third quarter was $102 million, or 14.9% of sales. On a normalized basis, adjusted SG&A for the same period of 2020 was $97 million, or 16.6% of sales, adjusting for severance and other items. On an absolute dollar basis, The year-on-year increase in adjusted SG&A expense was a result of higher activity levels and the reinstatement of certain benefits. However, as a percentage of revenue, our adjusted SG&A improved by 170 basis points, and sequentially, our adjusted SG&A increased only 1 million, relatively flat. Adjusted EBITDA in the third quarter of 2021 was 39 million, or 5.7% of sales, versus 36 million or 5.2% of sales in the second quarter. Stronger adjusted gross margins and our continued focus on cost control drove the improvement. Our ultimate focus is on achieving higher EBITDA margins through EBITDA accretive businesses. For example, our highest adjusted EBITDA margin business is our gas utility sector, despite having adjusted gross margins below the company average. Our effective tax rate was 15% due to the mix of global earnings for the quarter. However, our normalized effective tax rate remains unchanged in the 26% to 28% range. For the quarter, we had a net loss attributable to common shareholders of $17 million or a $0.21 loss per share. However, normalizing for LIFO expense recorded in the quarter, our adjusted net income attributable to common shareholders was $8 million or $0.09 per share. Our percentage of net working capital sales was 17.9% at the end of the third quarter of 2021, significantly better than our historical averages and an improvement compared to 19.5% in the same quarter a year ago. We used $31 million of cash from operations in the third quarter of 21, resulting from an increase in inventory in anticipation of increased activity levels as well as an increase in net receivables due to the timing of cash receipts. Depending somewhat on inventory deliveries received before year end, we anticipate positive cash flow from operations in the fourth quarter, resulting in a net neutral cash flow from operations for the second half of the year. Our long-term debt outstanding at the end of the third quarter of 2021 was $325 million, and net debt was $278 million. This is $91 million, or 25%, less than the third quarter of last year. Our leverage ratio was 2.3 times, significantly better than our peak in the third quarter of last year of 3.8 times. As Rob stated earlier, we expect this ratio to be around two times by the end of the year. We expect to continue to make progress on our leverage ratio as our EBITDA continues to grow with the market recovery and we continue to reduce net debt. At the end of the third quarter, the availability on our ABL facility was $445 million. We had $47 million of cash, and our total liquidity was $492 million. In September, we refinanced our ABL with similar terms and interest rate as the previous credit agreement and extended the maturity date to 2026. There are also no material changes to interest or amortization expenses going forward. A positive data point that signals growth and future improvement is our backlog, which has continued to build. As of the end of October, our backlog was 472 million, up 20% over the second quarter across all segments led by the U.S. and Canada. And from a sector perspective, our gas utilities and upstream production sectors are up the most, followed by the diet and midstream pipeline sectors. Which brings me to our outlook. Our current expectation is for the fourth quarter revenue to be consistent with the third quarter, much better than our normal seasonal decline of 5% to 10%. This revised outlook is largely based on our growing backlog position that has increased significantly over the last few quarters. In addition, as mentioned by Rob, our October revenue came in higher in September. Both of these data points provide us with confidence in our increased fourth quarter guidance However, there is always some level of risk related to inclement weather, year-end budget constraints, or other seasonal delays. Looking ahead to 2022 and beyond, our optimism that we are in the early stages of a cyclical recovery continues to grow as the economy continues to strengthen. While there are moderating forces such as customer capital discipline, customer mix, inflationary pressures, and the possible reinstatement of pandemic restrictions, We believe our solid performance this year, improving backlog, and encouraging dialogue with customers all contribute to a positive outlook, suggesting a double-digit level of growth next year. Now, I'll turn it back over to Rob for closing comments.
spk06: Thanks, Kelly. I want to recap a few highlights from the call today before opening up for Q&A. We achieved our highest EBITDA and EBITDA percentage margins over the last two years during the third quarter. even as our revenue stayed stable with the prior quarter. We have increased our revenue outlook for the fourth quarter based on strong October results and a growing backlog position. Our largest sector, gas utilities, is on track to hit $1 billion in revenue this year, two years earlier than originally anticipated. Improving fundamentals give us increasing confidence of a multi-year recovery that we are well positioned to take advantage of with our leading market position. We are successfully navigating the supply chain challenges and serving our customers with limited disruptions. We are in the early stages of working with our customers on energy transition opportunities, which we believe will become a significant driver of our business in the coming years. And finally, we have a solid balance sheet with sufficient liquidity to invest in organic growth and to consider strategic inorganic opportunities. And with that, we will now take your questions. Operator?
spk08: Thank you. Ladies and gentlemen, we will now be conducting a question and answer session. If you'd like to ask a question, please press star 1 on your telephone keypad, and a confirmation tone will indicate your line is in the queue. You may press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Our first question comes from Doug Becker with Benchmark Research. Please proceed.
spk03: Thanks. I wanted to start off on EBITDA margins. I was particularly struck that margins improved in the third quarter, even with the international revenue down, and that's typically accretive. So I wanted to get a little more context on the fourth quarter, but really 2022 And have we really seen a new base kind of in the upper 5% and what that means for a high single-digit target longer term?
spk06: Yeah, thank you, Doug, and good morning. We were very pleased, as you point out, with the EBITDA margins coming in at 5.7% and $39 million of EBITDA for the quarter, both our highest that we've experienced in two years. And As we mentioned in our prepared comments, some of this, of course, is due to inflation that we're seeing in all of our product classes, which allows us to get to higher gross margins, which Kelly can elaborate on when questions come his way. But in addition to that, we continue to manage our costs very closely and try to keep SG&A reined in. And it's really the combination of those two things that have really assisted our growth in EBITDA margins. Now, as we think about the future, we believe that inflationary times are likely to persist for the next two or three quarters. And as a result of that, that'll be very supportive of healthy gross margins. And to the extent that we maintain and manage our cost position as we go into 22, which we plan to do, especially as we're anticipating double-digit growth in revenues, this should put us in a really good position to take our EBITDA margins in 2022 up 50 to 100 basis points over where they are in 2021. So just as you pointed out, we are very excited about our margin generation and and very optimistic about our revenue, not just for the fourth quarter, bucking the seasonal trend of normal declines, but also as we look in 2022 for double-digit growth there.
spk03: It's kind of implied in some of your comments, but I wanted to ask it directly. When supply chain issues, the inflationary pressures relax a little bit, should we be expecting a little bit of degradation in the margin? or are there enough moving parts that you'd be able to offset that?
spk06: Yeah, there's certainly potential for that. I think one thing I want to point out is that we continue to monitor the inflation situation very, very closely. And even as we've been building our inventory this year, we've been building our inventory with high-turn products. So we want to make sure that in the event that there is some relaxation in inflation or even some deflation, as supply chain bottlenecks get resolved, that we're not in a position to have to move inventory at prices that are less advantageous to us. But we really do believe that this level around 20% gross margin is sustainable. We could even come in north of that as we move through further inflationary quarters. But it's certainly something that our supply chain team takes a very close look at and manages for us. Kelly, you want to add to that?
spk04: Yeah, Doug, maybe I'll just add a little bit to that. I mean, Rob covered it well. But, you know, obviously the inflation can help or work against you, as you're pointing out. But there's other things. We touched on some of this in our prepared remarks, that product mix is obviously very helpful. And, you know, as we have higher valve sales and, you know, stainless products, that's very helpful to our margins. And, you know, international results are somewhat down this year. But going into next year, we think we'll see an improvement. and the international margins are accretive to our overall business. And so that's going to be supportive. And then the last thing I would mention is our gas utility business that we pointed out, I think, over the last couple of quarters, that it is accretive to the overall EBITDA margins of the company, even though it may seem dilutive to gross margins. It has less, you know, SG&A requirements around it. And so gas utility is something that's really helping our EBITDA margins as well. So inflation is a component, but we've got a lot of other things that are pushing it the right direction.
spk03: Got it. And then on the cash flow from operations guidance, it sounded like cash neutral for the year versus the second half of the year before. Did I catch that properly?
spk04: No, no, Doug. Correction there. Neutral for the second half of the year. So year to date, we're 16 million positive, and that includes the 30 million burn that we had in Q3. So when we say, you know, cash neutral for the second half, that implies we should generate or expecting to generate at least 30 million in Q4, you know, which will, you know, be neutral for the second half, but, you know, get you to kind of a 40 plus number for the full year.
spk03: That's what I was hoping to hear. Thank you.
spk06: Great. Thanks, Doug.
spk08: Our next question is from Nathan Jones with Stifel. Please proceed.
spk05: Good morning, everyone.
spk06: Morning.
spk05: I just wanted to get some more colour on the shift in revenue here between 3Q and 4Q. I mean, I think people are fairly used to seasonally 3Q being higher than 2Q and then 4Q being lower than 3Q. So you talked about some international delays, Canada delays and impact from Hurricane Ida. Can you give us a bit more colour on that? Have you already caught up on those shipments? What are the risks that, I guess, especially in international and Canada, you see some slippage out of the fourth quarter into the first part of next year? And does that account for all of this kind of below seasonal revenue number that you saw in 3Q?
spk06: Yeah. One of the things that really gives us confidence is the increase in the backlog that we're seeing in Canada and international from the low points. Canada in particular is up significantly over where it was, let's say, at the end of the second quarter. And you're right. I mean, it is bucking a seasonal trend. Normally, as a company, we would see a dip from third quarter to fourth quarter. I think the good news here and maybe lost in the press release is that we're going to be net neutral for the year in terms of overall revenue. So we're going to basically make up in the fourth quarter what we think that we may have missed in the third quarter. And obviously, looking at October numbers and even early November, those are very supportive of this position that we've got on the two quarters lining up nicely. So, you know, that's really kind of the nuts and bolts of it. And, you know, we continue to believe that the guidance of flat revenue for the fourth quarter is going to be good. And then coming off of off of the good finish to the year, we see a very positive outlook for 2022 really across all of our sectors, and we're excited about that.
spk05: Yeah, I think important to get that point across. I think that's what the stock's reacting to today. And my follow-up question here is on inventory. You've talked about increasing the inventory levels in certain high-run products, but your absolute dollars of inventory come down each quarter since the end of 2020, while the pricing of that inventory, I assume, has gone up quite a bit. So it would seem that in terms of volume, you have reduced inventory here in 2021 while you're growing. Is that related more to supply chain and not being able to get the supply of everything that you want, or is there structural changes here that are increasing the inventory chance?
spk04: Yeah, Nathan, this is Kelly. Let me kind of, you know, give some color on that. You're right. If you look at the net inventory on the balance sheet, that implies that inventory is slightly decreasing, but that net inventory includes the LIFO reserve, okay? So we've booked $47 million year-to-date in LIFO reserve, which is included, you know, which basically lowers that inventory value on the balance sheet. So our gross inventory purchases have actually been growing. I think in Q3 we grew about $23 million in inventory, if I remember right, and will grow even more in the fourth quarter. But that LIFO effect kind of distorts that net inventory number and makes it misleading.
spk05: That makes sense. Would you anticipate kind of inventory growing in line with revenue in 2022, so maybe a 10% or more increase in inventory in 2022?
spk04: It certainly is going to grow because of the double-digit revenue that Rob talked about. You know, I hesitate quantifying it exactly, but, yeah, I think, you know, we've done a lot of building this year in inventory and that gross inventory number that I just spoke about. And I think if you're modeling it and keep it somewhat in line with revenue projections next year. But keep in mind, as we pointed out on the call, working capital as a percent of revenue, we've been trending lower. We were below 18% this quarter. And I know, Nathan, you remember we used to be more like 19.5% to 20%. So total working capital, we expect to continue to keep it under that 18% level.
spk05: One last question on SG&A. you guys have talked about controlling those SG&A costs. Could you give us some kind of estimate for, you know, how many cents of SG&A you need to add back or intend to add back for each dollar of revenue growth as we go forward here?
spk04: Yeah, Nathan, good question. You know, if you go back and look at previous periods, you know, when we've had growth years, it's essentially fluctuated anywhere between two to five cents of incremental revenue dollars. If you take the average, it's about 3.5 cents for those different periods. That's probably a pretty good gauge as we move forward.
spk05: Great. Thanks for taking my questions.
spk04: Thank you.
spk08: Our next question is from Cameron Lowridge with Stevens. Please proceed.
spk07: Hey, good morning. Thanks for taking my questions. Good morning. Good morning. So guys, I was hoping we could start on the, uh, on the top line commentary, um, and expectations going forward. So, uh, some constructive commentary, uh, given the backlogs, uh, where it's at, I was hoping maybe we could, um, we could help, you could help us kind of quantify where that backlog stands today. Um, whether it's, you know, in terms of revenue dollars or weeks or whatever that, that you could do to help us frame that. And then on the supply chain side, again, some constructive commentary, You guys seem to be handling the current environment well. To the extent those headwinds abate, perhaps maybe sooner than expected, could that also provide maybe a little bit of upside to revenue in 2022? Anything you can give us on that would be helpful as well.
spk06: Yeah. I mean, as we said in our prepared comments, you know, our backlog has moved up nicely, about 20% from – June to the end of October. The end of October, it's about $470 million of backlog. And it's really up over September numbers across all sectors and across all geographies. So we're excited about that number because we can talk about forecasts and things like that, but this backlog is ultimately going to turn into revenue. And it's really given us a lot of confidence that, as we said, the fourth quarter will really make up for the third quarter shortfall, and it'll put us in a really good position as we head into 2022. The comment about supply chain headwinds, you know, to the extent that we do see a loosening up of the supply chain, there's no question that gives us more opportunity to serve our customers in the current quarters. I would say that the biggest issue we've had with supply chain is it's pushed some things to the right. as opposed to lost sales altogether. Obviously, we're always focused on quarterly results and making sure that things come in. So to the extent that we do get some relief on supply chain challenges and we can get our material in when we need it for our customers' projects, that'll just keep things kind of more front-loaded rather than back-loaded.
spk04: And Rob, if I could just add one point to that, just to highlight again the backlog. The U.S. backlog, where we're at today, is the strongest it's been or the highest it's been since August of 2019. Okay, so way before COVID, you know, we're getting back into those 2019 levels from the U.S. backlog perspective. And just between September 30th and the end of October, it went up over 30 million. Again, kind of supporting that timing issue that we talked about between Q3 revenues and Q4 revenues. And even here in November, it continues to climb as well. So it's a very supportive number as we go into next year.
spk07: That's great. That's great. Thanks, guys. On the gas utility side of the business, maybe just talk a little bit more about the project pipeline you guys are seeing going forward in 2022. And then in terms of customer conversations, how have those conversations been going? And do you see any potential to maybe add any customers as we go forward from this point? Thank you.
spk06: Yeah, look, our gas utility business continues to be a real shining light for our company. And we're really proud of the fact that we reached our $1 billion revenue goal two years prior to when we had originally set that goal. this business just continues to be a very successful business for us. And as Kelly pointed out, it's a profitable business for us on a bottom line EBITDA margin basis. We've been growing the business roughly 8% per year over the last 12, 15 years. And as we look forward to 2022, we can certainly see growth rates at around that level. Our customers continue to have a number of integrity and upgrade projects planned for their existing systems. And then, of course, with housing starts and activity there, that adds a lot of new demand on material for natural gas distribution systems. So everything we're hearing from customers is very positive as they look toward 2022 and the projects there. In terms of serving other customers, we do already have a nice market share of the largest utilities, but in some cases there are particular geographies where we haven't fully penetrated and there are a handful of utilities that we don't currently serve. Our sales and marketing team is obviously very actively seeking that additional work because as experts in this industry, we've really figured out what gas utilities need in terms of how they outsource their supply chain to us, and we basically manage that for them in a very efficient and effective way. So they have the material when they need it, and they're getting it at a much lower cost than they could do themselves, which is why they've outsourced it. So we're very excited about growth in this space, and everything that we're hearing from our customers suggests that this is going to be another good year in 2022 for gas utilities.
spk09: Thanks, guys. I'll turn it back. Thanks.
spk08: Our next question is from John Hunter with Cowan. Please proceed.
spk02: Hey, good morning. Thanks for taking my questions. Good morning. So the first one is, you know, if you use your guidance for the fourth quarter of kind of flat-ish revenues, looking at consensus, you know, it implies 12% growth. next year. You're talking about double-digit growth, so I'm curious if that 12% is kind of where you're thinking revenue growth could be next year. And then as part of that, I mean, you were just mentioning gas utility growth of maybe 8%. We've heard some larger OFS companies talk about 20% spending growth in upstream North America next year. Just curious about the moving pieces between, you know, your upstream, midstream pipeline, gas utility, and downstream and energy transition segments. Which of those maybe grow the most versus the least in your double-digit outlook? Thank you.
spk06: Yeah, thanks. The double-digit outlook basically crystallizes our confidence in a 10% or more improvement in revenue next year. We would say 10% to 15% is certainly significant. a fair range, and 12% is right toward the middle of that range, so the 12% number is certainly a feasible number for revenue growth. We're still putting together some of our information for 22 around particular customers and segments and sectors, so we didn't feel that we could be more definitive than the double-digit number, but certainly 10 to 15% is reasonable as we look forward. Your comment is exactly right, that we're seeing a lot of spending especially on the upstream side, looking toward a 20% increase in 2022 over current levels. And just keeping in mind where we are today with $80-plus oil, $5-plus natural gas, we're in a completely different place than we were last year when budgets were being set for 2021. So as we look forward, we do share the view that our upstream and our midstream business could be on the higher end of the growth rates and revenue of our, if you look at our four sectors, just on the basis of the confidence and the optimism that there is in the U.S. oil and gas field. And then closely followed by the gas utilities and downstream business, which we think will have strong increases, but may not see quite the boost that we expect in upstream and midstream.
spk02: Thanks, Rob. That's helpful. And then kind of the second part of that is just a look at your EBITDA incrementals you expect next year. Clearly, your margins are doing well, and you've got G&A under control here, kind of in that 15% or a little bit below 15% as a percentage of sales. I'm curious if 15% incrementals are the right way to be thinking about it, Or could you do a bit better than that in 2022? Thanks.
spk04: Yeah, John, great question. You know, typically, if you look historically, you know, in a growth period, our incremental margins do kind of average in those mid-teens. This year, if you look at 21 versus 20, because of all the costs we took out, we're going to be pushing close to 40% incrementals year on year, right? So tremendous progress here over this year. But going forward with a more kind of normal growth rate, and keeping our costs under control. I think that mid-teens at least, hopefully we're certainly achieving to do better than that. As we go forward, that's a good historical marker.
spk02: Thanks for that, Kelly. And then one unrelated follow-up is, just as it relates to your energy transition opportunities, we talked about biofuels being one of those earlier. Last call, you talked about 30 new biofuel, 21 carbon capture, 12 hydrogen-related projects that could be opportunities for MRC. I'm curious what that opportunity set looks like today, if it's changed at all, and if that $40 million opportunity is still the right way to be thinking about it.
spk06: Yeah, I mean, in the current quarter, our revenues from the energy transition are relatively small. But if you look at our backlog of business that we've already really lined up, it's in the tens of millions. And as we look out, let's say, five years, you know, we certainly plan to be in the $100 million-plus range in terms of that revenue. But I don't think the mix has really changed very much. I mean, we're seeing a lot of activity on biodiesel. But, you know, carbon capture, even wind opportunities are – For offshore wind, we've got opportunities there as well. So we're going to have to see how this whole market develops. Obviously, there's tremendous stimulus that continues to come in to support renewables. Obviously, the climate conference has been very supportive of reducing greenhouse gases, which is going to give a further boost to this business. Technology continues to make renewable and energy transition opportunities more affordable. So we're very excited about this space. I think we just all have to be patient that projects, because this is a project business, it's going to have a longer gestation period to go from agreement to actual booking of the revenue. And then there's permitting and other things involved. But look, we're really excited about this. And we think that our preeminent position with pipe valves and fittings, our relationships with existing oil and gas and other industrial players who are going to be in this space puts us in a great position to capture more than our fair share. And again, the early returns are positive, but it's early days yet.
spk09: Appreciate that. I'll turn it back. Thank you.
spk08: Our next question is from Ken Newman with KeyBank Capital Markets. Please proceed.
spk10: Hey, good morning, guys.
spk08: Morning.
spk10: Good morning. So, is there any way that you can help us quantify how much pricing was a contributor to sales in the quarter? I'm also trying to get a better sense of what your expectations for price cost would be in fourth quarter and into 2022. I know that there can be a lag in terms of price adjustments for some of the pass-through agreements that you have, particularly on line pipes. So, any help with the moving pieces there would be helpful.
spk06: Yeah, I mean, certainly on the gross margin side, the pricing has helped us quite a bit, you know. And, you know, we will continue to expect that gross margins will be supported by inflation across all product classes that when compared to, you know, the cost of what we have in inventory gives us higher gross margin numbers. There's no question that that is certainly a factor. I do think the other thing that we've done, though, as a company is we've we've really transformed our inventory from a lot of slow moving stuff to stuff that is now much more active in the marketplace. And that's certainly giving us benefits in terms of our revenue stream given a particular level of inventory. We took the opportunity during the pandemic to liquidate a lot of inventory. We took some impairment on slow moving inventory And now we think we really got our inventory position in a very efficient way. It's very efficiently allocated now to support a growing revenue stream. So, again, going forward, gross margins will be supported by pricing increases across all product groups, and that will be supportive of higher margins for us. Okay. Okay.
spk10: And then you mentioned October sales kind of trending above September, November off to a good start. Is there any way that you can help us understand what average daily sales were in those months and just how we should think about the trend of growth sequentially from the end of the last quarter?
spk04: Yeah, you know, I'm trying to do the math in my head here quick, Ken. But I think, you know, these are single-digit improvements, right, when you talk about month on month. You know, we, if you look at it on a daily basis, the October revenue trend on an average daily basis is actually higher than what we had in both August and September. Let's just, you know, say that's kind of a single digit percentage type improvement. I don't want to get, I don't want to give too much detail at this point.
spk10: Understood. And then just lastly, and forgive me if I missed this, but as we kind of think about the moving pieces for revenue to be consistent with third quarter, Help us kind of understand, would you expect similar revenue across all the segments to kind of mirror 3Q levels on a sequential basis? Just trying to make sure I kind of understand all the moving pieces here as we think about you kind of catching up on the backlog here.
spk06: Yeah, we think, if you're talking about fourth quarter versus third quarter, we actually think Canada and international will pick up from third quarter levels. U.S. might be down slightly due to... some of the weather patterns that will impact gas utilities, for example. But as we've said before, our Canadian business has seen a dramatic increase in the backlog, and obviously we had some project delays there that pushed revenue from third into fourth quarter. Same really on our international side. We had some delays in projects, and we see that international business picking up as well. U.S. could surprise to the upside, but But in that flat revenue forecast for us, obviously if Canada and international are up, we expect U.S. to be down slightly.
spk04: And Ken, I would just add from a sector perspective, upstream is going to drive a lot of that sequential improvement is the current expectation.
spk10: Right. One more, if I could just squeeze it in here. You talked about the availability that you have on the balance sheet. It looks like leverage is still pretty manageable here. Maybe just talk a little bit about the M&A pipeline and just the opportunities for capital deployment and how you think about free cash flow conversion in 22.
spk06: Yeah, look, we've really been committed over the last six or seven quarters to really strengthening the balance sheet. And last year, being the tough year that it was, we converted a lot of our inventory into cash and really got our cost structure in line with a lower revenue base. Our leverage ratio has improved quite a bit. You know, we have our lowest, last quarter we had some of our lowest net debt we've ever had as a public company. So we really like where the balance sheet is today. I would say in the near term we want to continue to improve that balance sheet. because we want to have as much flexibility as we can for inorganic opportunities. And so that's really going to be our primary form of capital allocation going forward. As it relates to M&A, we continue to scan the market for opportunities that make sense for MRC Global, opportunities for businesses that are complementary to what we do today. that'll make sense as part of our overall business mix. So, you know, we are certainly focused on figuring out how to transform the company's fortunes in terms of revenue and earnings, and certainly Inorganic's an opportunity for that. But in the meantime, we're going to do everything we can to shore up the balance sheet and have as much financial flexibility as possible.
spk09: Very helpful. Thanks. You're welcome.
spk08: Thank you. Ladies and gentlemen, we have reached the end of the question and answer session, and I would like to turn the call back to Monica Broughton for any closing remarks.
spk00: Thanks, everyone, for joining us today, and we'll talk to you again in February. Have a good day.
spk08: This concludes today's conference. You may disconnect your lines at this time. Thank you very much for your participation.
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