Vulcan Materials Company

Good morning ladies and gentlemen and welcome to Vulcan Materials Company's 4th quarter and Fuller earnings conference call. My name is Kevin and I will be your conference call coordinator today. As a reminder today's call is being recorded. During the Q&A portion of this call we ask that you limit your participation to one question plus a follow up. This will allow everyone who wishes the opportunity to participate. Now I will turn the call over to your host Mr Mark Warren, Vice President of Investor and the board of directors for Vulcan Materials. Mr Warren you may begin.

Welcome everyone to the Vulcan Materials 4th quarter and full year earnings call. With me today are Tom Hill, Chairman and CEO and Suzanne Wood, Senior Vice President and Chief Financial Officer. Today's call is accompanied by a press release issued this morning and a supplemental presentation posted to our website. Additionally, a recording of this call will be available for replay later today. Before we begin please be reminded that comments regarding the company's results and projections may include forward looking statements which are subject to risks and uncertainties. These risks along with other legal disclaimers are described in detail in the company's earnings release and in other filings with the Securities and Exchange Commission. You can find a reconciliation of non-GAAP financial measures and other information in both our earnings release and at the end of our supplemental presentation. I will now turn the call over to Tom.

Thank you Mark and thanks to everyone for joining the call today. We appreciate your interest in Vulcan Materials Company. 2019 represented another year of strong earnings growth and demonstrated the strength of our aggregate-centric business model. But before we talk about our accomplishments for the year, I want to spend a few minutes telling you about the good progress we made again in the fourth quarter. Aggregates gross profit was $274 million, a 7% improvement versus a prior year fourth quarter. Aggregate shipments increased by 4% with markets in the southeast and southwest reporting strong growth. For the quarter, freight adjusted average sales prices increased by 5.5%. All key markets reported -over-year price growth. And the 70 basis point benefit from MIX was due in part to above average growth in Gulf Coast markets that are served by our unparalleled logistics network. This growth is noteworthy. The fourth quarter of 2018 made for a tough comparison with a 24% increase in aggregate gross profit, 8% growth in volume, and 5% mix adjusted price growth over 2017. Gross profit per ton in the quarter improved to $5.32 and was negatively impacted by three things, most of which are timing and mix related. First, repair and maintenance costs were higher in the quarter. As we said before, certain types of repairs and maintenance are routine and scheduled. Therefore, the associated costs are more predictable. Other repair and maintenance activities are planned annually. But the exact timing is more difficult to predict with precision. You monitor the situation throughout the year to determine the optimal time to do the work. And as a result, the costs can be lumpier. This quarter included several of these types of repairs. In addition, the rigorous inspection and maintenance protocol that we rolled out as part of our Operational Excellence Initiative in early 2019 grows some of our costs higher in the second half of the year. We expect to continue to see additional repair and maintenance costs in 2020 and have incorporated them in our guidance. Setting high standards is the right thing to do for the long-term health of our business. Our employees are highly engaged and they are focused intently on the mobile equipment and fixed plant inspection and maintenance aspects of this initiative. In doing so, we can preempt or avoid equipment failures, which could result in much more expensive repair costs. The second factor that impacted our gross profit and aggregates was actual geographic mix versus our expectations. Our fourth quarter shipments were robust in markets along the Gulf Coast, which are served by rail and water. Remote serve markets carry higher selling prices but also carry higher costs, particularly if the tons are shipped by rail versus blue water. In the fourth quarter, higher volumes from rail distribution negatively affected margins. The third factor was lower revenue and earnings from certain aggregates locations which also generate tipping fees on Cleanfield. This result was mainly a matter of timing of projects expected to contribute to the fourth quarter. Instead, the projects were delayed but will benefit 2020. Finally, I'll also highlight our fourth quarter asphalt results, where gross profit increased by $4 million compared to the fourth quarter last year. This was driven by 10% improvement in shipments and a 3% improvement in average selling prices. In addition, we experience volume growth in California in spite of wet weather in the fourth quarter. These volume and price improvements, in addition to a 12% reduction in the average unit cost for liquid asphalt, drove a 52% improvement in unit profitability in asphalt. Suzanne will share with you the detailed numbers in a moment. But first, I'd like to summarize our full year 2019 accomplishments and talk about why we're excited about 2020. Let's start with the most important aspect of our business, safety. In 2019, our people led us to another year of world-class safety performance despite being busier than ever. We also completed the rollout of all of our strategic initiatives. Commercial excellence, operational excellence, logistics innovation, and strategic sourcing. We believe these initiatives will help us accelerate growth towards our long-term goals. On the financial side, aggregate shipments grew by 7% and average freight adjusted sales price was .6% better than 2018. Adjudged gross profit increased by 16% and unit profitability grew by 8%. Cash gross profit per ton was $6.74, another step forward on the path to our longer-term goal of $9 per ton. And while our non-aggregate segment gross profit was flat year over year, the second half showed signs of improving trends in the asphalt business. Our adjusted EBITDA for the year grew by 12% and importantly, our return on invested capital increased to 13.9%. As a whole, we were pleased with our annual results, but we aren't satisfied with just setting records. Our focus is on getting better every day and reaching our potential. As we enter 2020, we are well positioned to take advantage of supportive markets and deliver another year of double-digit earnings growth. Our markets will continue to benefit from both public construction demand led by highways and a resurgence in demand on the private side, particularly residential. The public highway demand is there, as are the revenues to support the investment. As we've seen, excuse me, as we said before, it's not a matter of if, but rather when the projects are finally started and shipments begin. To be fair, we've seen, we've been a little bit disappointed over the last couple of months with the speed with which the states are letting work. However, we remain confident that these projects are a go in the near to medium term. With respect to residential demand, which we've been a bit cautious, but now we're seeing a very positive turn in leading indicators with Vulcan markets outpacing the rest of the country. Underlying demand fundamentals, including population and employment growth, remain firmly in place and underpin our expectations of growth in private residential and non-residential construction. These demand characteristics are catalysts for a positive pricing environment in 2020. And demand visibility is also an important contributor. With our geographic footprint focused on the higher growth markets, we are in the best position to capitalize on public and private demand. So what does all of this mean for 2020? We anticipate a 2 to 4% growth rate in aggregate shipments. Aggregate freight adjusted sales prices are expected to increase between 4 and 6%. Additionally, we maintain our longer term view of approximately 60% same store flow through rate to gross profit on a trading 12 month basis. Overall, we are looking at double digit growth in aggregate segment earnings. Moving to our construction product segment, we expect 10 to 15% growth and gross profit collectively. This contemplates relatively stable liquid cost and asphalt. I'll now turn it over to Suzanne for further comments on our 2019 full year performance and 2020 guidance.

Thanks, Tom, and good morning to everyone. In 2019, our aggregate's volume growth reflected the solid underlying demand fundamentals in our market, including growth in population, households, and jobs that is 2 to 3 times that of other markets over the next 10 years. Shipments in certain markets in the Southeast, Mid-Atlantic, and Texas were particularly strong. Average sales prices and aggregates increased and higher prices were widespread with all major markets reporting improvement. For the full year, our costs were up 4%, contributing to a 48% same store aggregate flow through rate. As Tom mentioned, there were several factors that affected this rate, particularly in the fourth quarter. Our segment gross profit increased by 16%. This continued progression underpins our ability to deliver attractive earnings growth. SAG expenses, while higher in absolute dollar terms, decreased as a percentage of total revenues. Moving on now to the balance sheet, cash flows, and return on investment, we made progress in each of these areas. Our balance sheet structure remains strong, with a weighted average debt maturity of 14 years and a weighted average interest rate of 4.4%. Leverage was reduced from 2.6 to 2.2 times, well within our target range. We generated $820 million of discretionary cash flow, and we followed our capital allocation priorities to determine the most shareholder returns enhancing use of that cash. In 2019, this included investments in attractive growth opportunities as well as return of cash through dividends and share repurchases. And as a result, our return on invested capital improved by 130 basis points on an adjusted EBITDA basis. I'll move on now from 2019 to 2020. Tom has already covered the operational aspects of our segment guidance, so I'll comment on a few other points. SAG expenses are forecast to be approximately $365 million in 2020. This represents a reduction in absolute dollars as well as a reduction in the ratio of expense to revenue. We already have taken steps to ensure we are efficiently leveraging our overhead. We anticipate that interest expense will approximate $125 million and that depreciation, depletion, accretion, and amortization will approximate $385 million in 2020. And our effective tax rate will be approximately 20%. The combination of these assumptions lead us to an adjusted EBITDA range of $1.385 billion to $1.485 billion for 2020. The midpoint of this range represents a 13% increase as compared to 2019. Moving on to our cash flow expectations, remember that our business is an inherently cash generative one and 2020 will be no exception. We anticipate discretionary cash flow of approximately $800 million. As you model our cash flows, I'll share some thoughts to help you fill in the blanks. As guideposts, we will continue to adhere to our unchanged capital allocation priorities in directing our uses of cash and we will stay within our target leverage range. We expect cash interest expense of $120 million, operating and maintenance capex of $275 million, and finally cash taxes of $180 million. The discretionary uses of our cash involve returns to shareholders, internal growth capital and acquisitions. Let me cover each one of those. First, we expect to maintain a progressive dividend, generally growing it in line with earnings, to a level that is fully sustainable through the cycle. Second, we expect to spend approximately $200 million on growth capex for projects that are already largely underway, as we did not spend the full amount of growth capital we projected in 2019. These projects include the opening of a new quarry in California, capacity expansion at other quarries, as well as improvements to our logistics and distribution network and sales yards. And third, we will continue our disciplined evaluation of acquisition opportunities as they arise, only investing in those which fit our strategy and offer superior returns and synergies. And last, we will continuously evaluate the use of opportunistic share repurchases as a means to return excess cash to shareholders. And now I'll turn the call back over to Tom for closing remarks.

Thanks Suzanne. Now before we go to Q&A, I want to take this opportunity to thank the men and women of Volk Materials for their hard work and their dedication. They have taken good care of our customers and have improved our business processes and disciplines. Importantly, they have promoted our strong safety culture and are responsible for delivering our industry-leading safety metrics. As we move forward, we will continue to capitalize on our strengths, our aggregate-focused business, our outstanding geographic footprint, and our local execution capabilities. We will also remain focused on compounding our unit margins through the cycle and improving our return on invested capital. Now we'll be happy to take your questions.

Ladies and gentlemen, as a reminder, if you would like to ask a question, please press star 1 and again we ask that you limit your participation to one question plus a follow-up. Thank you. Our first question comes from Stanley Elliott of Stifle. Please go ahead.

Good morning everybody. Thank you for taking the question. Tom, could you talk a little bit about the cost structure, kind of the puts and takes as we're heading into 2020? You mentioned some of that being planned in the current guide. Does any of this roll off? I'm just trying to curious to see how you guys are thinking about the cost piece.

Sure. If you look at the fourth quarter, the average cost or unit profitability was, as I said, was impacted by three unique items and pretty much equally. All three of those items are somewhat a combination of mix and timing. The first one is a large clean fill project, which we take dirt into the quarry for a tipping fee. The job was temporarily stopped, but it will start back up in 2020. So we'll see that again. We'll get that back. The second item was really geographic mix. It was increased volumes to remote distribution rail yards on the Gulf Coast, which is a good thing. It just comes at a higher cost with a simple reason that you experience not only the quarry cost, but also the yard costs. And you couple that with, we had a little bit lower volumes in the mid-Atlantic states really due to the timing of work. And then the third item was increased equipment maintenance cost. It was really driven by our equipment inspection efforts as part of our operations excellence efforts, which we kicked off in February last year. And this is really to prevent catastrophic equipment failure. It improves operating efficiencies. It actually improves customer service. And while the costs were higher in Q3 and Q4 because of these efforts, a long-term focus on maintenance is just the right decision for the company. Now, those efforts will benefit us later this year, as over time it improves costs by helping to eliminate expensive failure costs and really the expense of downtime. And I would expect some of these costs to continue for a bit into 2020. But all of that is built into our full year 2020 guidance. And I got to tell you, I'm very pleased. This takes a lot of work and a lot of effort and I'm pleased with our operators' performance here.

No doubt. And then sticking on the cost side, can you guys speak to the leverage you're seeing on the SAG line? I wanted to call it SAG, but I feel like that tracking below 7% of sales may be one of the best in the company's history. Talk a little bit about how you're driving that down when your revenues are going to be up double digits.

Yeah, sure. I'm happy to do that and good morning to you. The SAG area, which is predominantly corporate and administrative type cost, is an area where we are continually focusing our attention. If you look at the fourth quarter and you look at the full year of 2019, while the absolute dollar amount is higher, we did reduce it as a percentage of revenue. And that's something that we have been really focused on as part of our budgeting process and as we move into 2020. We want to make sure that we are delivering the appropriate services to our operational folks and we have looked across the footprint, particularly in those corporate and admin functions, for ways to be more efficient and effective in delivering those important services to people. Sometimes that is just finding more efficient ways to do things. Sometimes it's using technology. You just use a number of things at your disposal to try to affect some change. You'll see those efforts, which have already begun. Some are completed as we speak. You'll see that reflected in the 2020 guidance and we are absolutely driving toward not just a reduction of those costs as a percentage of revenue, but also a reduction in the absolute dollar amount and we have plans in place to do that.

Perfect. Thank you very much for the time and best of luck. Thank you.

Our next question comes from Trey Grooms of Steven Zink.

Good

morning, Trey. Good

morning.

I guess I'm going to talk more, or my first question is more around the volume. On the 4Q volume, you did see a little bit of a deceleration there relative to what we saw in some of the other quarters. Seeing the volume going from 7% or so, I guess, that you put up in 19 in aggregates to the guidance this year of 2 to 4, as my first question, can you talk more specifically about how we get there, what your in-market expectations are, or your assumptions for your in-markets, public, private, non-resident, residential, that you have baked into that?

Hi, good morning. That's a good question. I'll just start off with a gentle reminder about the tough comp that we had year over year in 4Q and then Tom can address some more specific comments. If we look at the 4Q of 2018 from the revenue perspective, it was just a really strong quarter. We had an 8% growth in volume, which led to a 24% in aggregates growth profit. I think with the volume increase of about 4% in the quarter this year, I think that's pretty decent growth. It's well within our guidance range that we set forward at the beginning of the year and coming off the very good fourth quarter we had last year, I'm not completely surprised by that.

Yeah, I would add to that. The 2 to 4 growth in 2020, I think is our trying to be thoughtful about taking everything into account, demand, timing of shipments, weather, comparing it to 2019. So remember that we saw a little bit slower starts and leading indicators on the private side in the third quarter, kind of July to October. That has now picked up and picked up dramatically. And it could flow through in part of 2020 as a short lull or it could just, what we're seeing right now could blow through. We just don't quite know yet. On the highway side, funding is up, demand is up, and public works for the first time, non-highway public works is picking up. Still there's quite a bit of unknowns about, again, about how fast the DOTs can get jobs let and to work. The funding is there, but it's going to be about timing, I think. We're also not going to have, as Suzanne said, we're not going to have a first quarter of 2019. Last year we had a windfall, we were up 13% as we had pulled forward from the prior year. And then 2019, we didn't have any hurricanes or tropical storms that impacted us in any material way. I think the two to four volume growth in our guidance is a thoughtful approach as we pull all those factors together. I would point out in all of this that we will see growth in all four end markets. And the one that's coming on and we're pleased to see is that the non-highway infrastructure pieces is now growing.

Got it. Okay. And Tom, you mentioned the one queue of 19 having a pretty good showing there with some windfalls. How should we be thinking, and maybe this is for Suzanne, but how should we be thinking about the cadence there, the volume, as we look in 20 in light of things like tough comps and things of that nature? I

think as always, it's going to be timing related. It will have ebbs and flows with that, but it will be timing of weather and timing of large projects.

Okay, fair enough. Thank you. I'll pass it on. Thank

you.

Our next question comes from Katherine Thompson of Thompson Research Group. Please go ahead. Good morning, Katherine.

Good morning. Thank you for taking my questions today. First, focusing on Illinois, we are seeing a pick up of lettings in Illinois. You talked about lettings and prepared commentary, but focusing on that, how do you expect towards your scene work, what type of projects, and how big of an impact could we build Illinois have in a state that has relatively underperformed over the past several years?

I think it's hard for me to hear you. Was your question, first of all, how is it in Illinois, and what should we expect from highway work and what type of work?

Yeah, really. We've seen lettings. Are you starting to see work come from rebuild Illinois, and what are your expectations for future volumes as a state from this past act?

So, I think that Illinois, we're not expecting a lot of that funding to flow through in 2020. I think it's going to be more 21. We still have some of the toll work and airport work, which will benefit us in Illinois in 2020. On the private side in Illinois, it's probably not one of our strengths. It's probably one of the few places we're probably seeing some weakness on that. So, while the team in Illinois did a good job improving unit margins, they're not getting the benefit of big volumes, and I don't think we're going to see the highway work in Illinois, much of it, until 21. Am I answering your question? Okay,

perfect. Yep, yep, yep. No, that's helpful. That's helpful. And then also just following up on the rail network, assume that most of the volumes are out of your South Georgia ops. Could you give, confirm just any work call in terms of the type of projects that you're seeing that are driving demand in the Gulf? Thank you.

Yeah, so it was, you know, in the fourth quarter, the rail work was really widespread and it was really more timing. We were pleased with it. It's good work. It just comes at a higher cost, but it was across the board. I mean, it was Texas. It was the Mississippi, Louisiana, excuse me, Panhandle out South Alabama, even into Florida. We really just had a good solid fourth quarter. The weather helped it.

All right. Thanks very much.

Our next question comes from Jerry Revik of Goldman Sachs. Please go ahead.

Yes, hi. Good morning, everyone. Good morning.

Hi, Jerry.

I'm wondering if you could talk about the pricing cadence as we think about 2020 versus 19. Any differences in timing of price increases that we should keep in mind? And, you know, can you comment on how broad the price increases is in terms of breadth of markets as we think about 20 versus what you put through in 19?

Yeah, I would describe it as very similar. 2020 will be very similar to 2019. You know, we're continuing to see solid price improvements at this point in 2020. We're very confident in guiding that 4% to 6% price improvement for the year. Our bid work, our backlogs would support this and our discussions with our fixed plant customers would support this kind of pricing momentum. Again, and we always point this out, but we'll do it again. It's really underpinned by that visibility of the rapidly growing highway work. And a solid, we think a solid performance will be seen in growth in the private side. And then again, now we're starting to see growth in the non-highway infrastructure while it's the smallest piece of it. It's healthy. And I would tell you that we're going to see price increases across, it's really widespread, it's across every one of our markets.

As it was in 19. Yep.

And you know, we'll have, if you hit the pricing guidance, we'll have two straight years of 5% or so pricing gains. Is that sustainable in the medium term? And obviously you're looking for lower volume growth in 20 than in 19. I'm wondering as we think about the medium term outlook, how would you counsel us to think about sustainable level of long term pricing gains?

You know, obviously we're not going to give guidance past 2020, but you saw it in 19. You're going to see it in 20. I think the, again, we've got long term substantial highway funding coming and that visibility will continue to grow. So that just supports the kind of pricing we're seeing.

Okay. And lastly, you know, in the past, when you had pricing momentum in aggregates in your asphalt markets, you were able to achieve gross margin expansion, you know, I think at a faster rate than we've seen so far in the cycle. Can you just comment on what's holding you back from achieving historical levels of gross margins in asphalt in this cycle compared to the past?

Yeah, well, I think as far as asphalt is concerned, we are guiding to non-arid product lines being up 10 to 15%. Asphalt prices and unit margins are going to drive the big improvement in that asphalt. We would expect gross profit in asphalt to be up double digit. That would be probably a slight improvement, flat to a slight improvement in liquid costs. You know, I think the good news is that the good highway work where we experience the big funds and the timing of that line up with our asphalt business. So, you know, the story in asphalt, I think, is this is we said we all last year, we would catch and bypass liquid prices or liquid costs to improve unit margins. You saw this happen in the fourth quarter, more to come.

Thank you.

Thank you.

Our next question comes from Anthony Pettenary of Citi. Please go ahead.

Good morning. Good morning. Good morning. Tom, I think you mentioned being disappointed over the last couple of months with regards to the speed with which some states are letting work. I was wondering if you could just give a little more color on which states you're seeing this and maybe the magnitude of the delays, you know, relative to what you were initially expecting.

Yeah, I would I would describe it this way. I think at this point where we are in the year right now, we would expect highway demand at this point be up predict low single digit. Now that could move to mid single digit, depending on the timing of large projects and really states ability to get work left and get work started. As I said earlier for asphalt, the good news is states where we have asphalt probably have the strongest demand going into 2020, Texas, California, Virginia, Florida, Tennessee. But if the flip side of that is, you know, places like Georgia and South Carolina, they struggled at the end of last year to get work, to get funding's let and work started. You know, if you look at Georgia, we're still shipping three mega projects in Georgia, so that's helping. But I would tell you that highway awards data starts have been a little slower. But then again, lettings, they do ebb and flow. They come and go. All that said, I think that single digit, that low single digit could turn quickly to push us to mid single digit. You got Georgia in the second half of 19 where lettings were slow. Now Georgia in the first half of 20 is going to let a billion dollars worth of work. Texas is looking to double their lettings going into 2021. That's already healthy. It's at 7 billion going to 14. California, we'd expect fund spending to go up some 13 percent. Embedded in that is a 25 percent increase in maintenance funding. And that maintenance funding could go very fast. All in all, we'll experience growth in highways in 2020 and for years to come. And I would give you a reminder that highway starts right now while they've been maybe a little bit slower or up 20 percent versus where they were two years ago. So it's growing. It's just how fast can the states get it to work? Got it. Got it. That's very

helpful. And then in the release, I think you made some reference to concrete project delays. Can you talk about where you saw these project delays and the magnitude and whether you expect this to kind of continue into 2020?

Yeah, we got delayed two places. It was timing of big projects in Virginia. And then it was both weather and fires in northern California where we got hit with on the volume piece of this. I would expect volumes in concrete in 2020 up mid-single digit and recovering in both those markets. I would expect prices up probably mid-single digit and I would expect unit margins in concrete up double digit. OK, that's helpful.

I'll turn it over.

Thank you.

Our next question comes from Mike Dow of RBC Capital Markets. Please go ahead.

Morning. Thanks for taking my questions. Just to follow up on one of the prior questions around the state lettings. What's your sense of just the underlying fundamental cause for the slower pace of lettings? Is it a worker shortage? Is it something in terms of just getting things through the regulatory bodies, just a little more color on the underlying root cause there?

Yeah, I don't think it's external factors outside of the DOTs. It's really them being able to, you know, they got a huge slug of funding. They got to mature into that and you got to get it estimated, permitted, let. We got engineering that goes into it. So there's a lot of work for those DOTs to put projects out. While everybody has the pressures of workers and employment, this is not what's holding up the lettings. It's just holding up the states. It's just their ability to get that work planned and out and let and put to work.

Particularly as some of the projects are larger than they have been in the past, the larger the projects, that just adds a degree of complexity to the process. Will soon.

Okay, thanks. Second question, just thinking about the incremental margins. If I look at 2019 on the whole, the difference, if my math is right, in terms of the incremental margin and what you would target on as 60% would be about $60 million in EBITDA. Understand some of the one time issues or transitory issues that you've been talking about. It's a pretty big number and this is in a year where you had everything kind of working for you in terms of volume, price and your internal initiatives. As we go into 2020, I guess what I'm getting at is really just what's giving you the level of confidence that you can get back to the 60%. Is it actually volume was too hot in 2019 and so as you go into 2020, the stripping costs aren't as high or just trying to understand that bridge a little.

Yeah, I will comment first and then I'm sure Tom will have a follow-up comment. I can't say I'm quite sure about your math on the 60 million, but with respect to the 60%, that is, we say this often, that is a long-term average. You're going to have some quarters and some years when you hit it, some quarters you're below it. We have had a couple of years where we were just above that. In fact, if you just look at 2019, for the trailing 12-month period ended in September, we were right at 60%. I think when you look at the flow through for this year, it really does revolve around those three items that Tom called out. Had it not been for those, we would have been much closer to that number. Some of those were timing and mix-related and to the extent it's timing and mix-related, you won't have that pressure into 2020.

Yeah, I think fundamentally this is not an inflationary issue. It's more about timing. We talked about the remote distribution. That's really good because it's more volume for us. The fieldwork will come in 2020. As far as what we did in Q3 and Q4 with stripping and preventive maintenance, I think those are just good operating disciplines. First of all, stripping is an investment. While it's cost, it's a one-time thing for a while as you develop kits and get ready for future volumes, which we think are going to grow. On the maintenance side, it's really about we want to control our equipment, don't have the equipment control you, and make sure you do it in a timely manner. Let me just give you a real-life example of that. If you were to take a seven-foot cone crusher down due to oil samples, it would cost you $50,000. If you wait until it failed, it would cost you $150,000, and that's just the tip of the iceberg cost because now you're taking the plant down, which is very expensive. If you look at underneath that where we are from really important metrics like tons per hour through a plant downtime or tons per man hour, you're seeing improvement. It's an investment. We started a favorite with investment in our people operations through this Operations Excellence Program. It allows us to maximize the long-term efficiency of our operations. I tell you that I'm confident that these efforts will improve our profitability of the company, and I think our folks have taken those into account as they created their plan and their guidance for 2020.

Okay.

Thanks

for the call.

Our next question comes from Rohit Seth of SunTrust. Please go ahead.

Hey, thanks for taking my question. Just curious on if residential construction grew faster than you expected in 2020, would there be any ASP or mixed benefits or maybe on the cost side?

No, I think it would. Residential has a good mix of both base and clean stone. I think it would flow through like everything else, although that is something we'd love to see, so we've got our fingers crossed. I wouldn't expect any big price mix change or unit margins mix change.

Okay. Then on your incremental margins, just kind of building on some of the things you've already said, but the last three years it's come under the 60%. I'm curious how much of equipment failure has been part of that issue.

Well, I think as we do that, we talk about same store, and same store in 2018 finished 65% in 2019. So we have years that are up and we have years below, I think, as you look at it. And I would point out to you that same store, and you're going to have times when it's higher, you're going to have times when it's lower, and we'll guide you back to the 60%. I think the other

thing, I'm sorry, I was just going to add, I think the other thing for us is, the real question as we look through some of these fourth quarter costs is, is there something there that is indicative of a significant shift in the cost performance of the company? Is something going on there that has materially changed the cost structure of the company? And that to me would be the real important sort of carry forward question into 2020. And again, as we go back through those items, our view internally, as we've talked a lot about them, is no, that there isn't something that is a significant change in the cost structure of the company. And for that reason, even though there can be some volatility in it between quarters or years, we on the long-term basis guide back to a trailing 12 of 60.

Understood. And then on the M&A pipeline, can you maybe provide any thoughts on what you're seeing out there, maybe your appetite?

Yeah, as always, we've got some projects, both large and small, that we're working. Again, as we always tell you, it's discipline. Everything does not fit us. It's got to be unique to have synergies for us, have the discipline that if it's too expensive, be able to walk away from it. And really importantly is, once you get it, make sure you integrate it very fast and very accurately. So we've got a number of them working. We'll just, you know, again, all of them don't fit us, so we'll be picky about what we buy.

Any deals of size out there?

Um, you know, it's both some large ones and some small ones. I don't think there's any mega ones out there, but I would, it's full gambit.

Understood. All right, thank you.

Thank you.

Our next question comes from Michael Wood of Nomura InstaNes. Please go ahead.

Hi. Hi, good morning. I was hoping you could quantify the repair maintenance a little bit more. I'm curious if you could tell us how much it is as a percentage of cogs. And should we think about this as a purely variable next year in terms of increasing alongside volume, or could it maybe decline after being elevated this year?

I think what we would guide you to that, this, is that I think you may see a little bit more of this in the first few months of the year, and then I would expect it to level off to meet the guidance that we've given you. And I would call that out as both some stripping and some repair and maintenance. But I think we're confident as we look at our hand for the full year guidance of how that flows through, our cost flows through for the year.

Okay. In 2019, I know you were talking about throughout the year or earlier in the year, some lower mixed stone going in on some of the larger highway projects. I'm curious if you can give us an update on that. Is that continued, or are you seeing kind of mix-up as those projects mature?

I think what we saw in the mix that we saw in the quarter was a little bit of geographic and a little bit of product mix. As we would call it out, I think was that for the year, our performance was right in line with guidance. The full year was 5.5, mix adjusted 4.8, and it was an impact of asphalt sizes really driven by highway work, geographic mix, a little bit higher volumes on the Gulf Coast and the southeast.

Okay, thank you.

Our next question comes from a Phil from Jeffries.

Hey, guys. Morning. Morning. Morning. Appreciate that there's some delayed lettings and potentially some downdraft from private. A couple of tougher cops. It'd be helpful to give us some color how to think about the shape of the year from a growth standpoint.

Yeah, good question. I would expect the first of all, you've got a really tough comp in Q1 because volumes last year were up 13%, and it was really that you had to pull forward from 18 into 19. Other than that, I would call it one of timing of large projects and timing of weather. We also had a very, the weather in the first quarter of last year was, with the exception of California, was quite good. You guys can look outside and see what's happening right now with the weather in the first quarter of this year. All in all, I think it's timing of weather in large projects. And Tom,

you're not calling for any delay of larger project at this juncture, which we just can't predict at this juncture, if I'm interpreting your comment.

Yeah. So, you know, we're shipping a lot of big projects right now. We called out three in Georgia. We've got a number of them going to different places. I believe it's going to be how fast the highways can get the jobs let into work. And we talked about that a little bit, whether it was fast and whether it was slow. What we called out was Georgia and South Carolina, which saw the second half of last year's lettings, which flow into 2020 and slow. But the first half of this year, they got huge lettings. So we'll see how fast the work gets started. Got

it. And

then

based on your guidance for your downstream business for 2020, it's a touch below what you thought actually coming into 2019 initially. Just given some of the project delays you saw last year and, frankly, a more manageable liquid asphalt price environment, I'm a little surprised you're not expecting more strength. Can you give us some of the -and-takes?

Yeah. I think what we see is real strength in unit margin improvement in asphalt and up double digit. We're calling for liquid being flat to slightly down, and our volumes are just up slightly. And that, again, will be determined by the timing of this DOT work and how fast it gets started. You've got to remember we had two, we had big projects in asphalt in Tennessee, and we had the big 202 project in Arizona, which neither one of those are repeating going into 2020. So they were windfalls of 19. They're not going to repeat. Even with that, we're seeing slight improvements in volume. And for that to get much bigger, they'll have to accelerate work in some of the lettings that I talked about. Got it. The thing I'm encouraged about, I said, in asphalt is you saw those margins turn in the fourth quarter. We had been predicting that, kind of chasing that through the year 19. Now we see it. We carry that momentum into 2020.

And just one cleanup question, Tom. When you said flat to down liquid costs, are you calling sequentially or is that more on a -over-year?

But I think importantly with that, we're going to manage, no matter what happens with asphalt, we're going to manage that unit margin and asphalt appropriately. So if the liquid prices fall, we'll see that accretive unit margins. And like I said, the good news is we've caught it and keep going it. And I think we'll see that as we continue to perform in 2020. Okay. Thanks a lot. Thank you.

Our next question comes from Felden Clark of Deutsche Bank. Please go ahead.

Hey, thanks for the question. Sure. Could you just give us a sense of how the margin differs on your shipments by rail? And is this a dynamic that's coming solely from higher demand in these particular areas or has the cost or service provided by the rails changed with some of the ongoing initiatives that they've been putting into place?

Okay. I would point out this way. In general, the rail tons is usually going to be a little lower margins. And higher price, higher cost, a little bit lower margins, but very good margins. So it's good work. I mean, the volume being up is a good thing. I would point out that in contrast, the blue water tonnage is at much higher margins. It would be higher price, higher cost, and higher margins than the whole. And what we saw in the quarter was just the timing of good work along the rail that happened to ship at a high rate.

Okay. So nothing to do with them putting precision-tasks or railroading

in place? No, and the simple thing with quarry cost versus rail distribution, you have the rail distribution plus the quarry cost. It just comes at a higher price and a higher cost.

Got it. Okay. And then just a question on the 2020 guidance. There's about 700 basis points of differential on the high and low end as relates to year and year growth. Could you just give us a sense of maybe what's embedded in the low end of guidance and what would you really need to see to hit the higher end of that range?

I think, you know, I would tell you it's probably going to be mostly volume. I'd go back to timing of shipments. I'd go back to, you know, do you get hit with a tropical storm or two or three? Those would be the big variables, I think, between the high end and the low end and how it lines up would be the delta.

That's right. And that's a very similar approach to what we took at the beginning of 2019 when we gave the volume guidance then, you know, a range of three to five. And, you know, luckily and happily, we wound up being ahead of that for the year. But Tom's right. It really comes down to what happens with the timing of shipments and whether as to whether you're at the lower end or the higher end. And then as Tom said, you know, we'll continue to, you know, watch with interest how, you know, residential, you know, how those starts, you know, continue to improve throughout the year.

All

right. Thanks for the time.

Thank you.

Our next question comes from Garak Schmoyce of Loop Capital. Please go ahead. Oh,

hi. Thanks. Good morning. Hey, good morning. So just wanted to follow up just on the highway outlook, just being in an election year with the fast stack expiring in the fall. Do you think that could lead to additional letting delays in 2020? Just curious as to how these factors might play into the highway outlook and some of the sluggishness that you've been seeing.

Yeah, you know, we've talked about the cadence and the highway lettings and some that have been slow and now coming on strong and the timing of it. I wouldn't think the election year would have any impact on state DOT lettings in the least. I don't think it's going to have it won't for sure will have any impact on the fast act or funding from the feds. I think people in Washington are working hard towards the highway bill. A lot of progress made on that, both on the both on the bill side and the funding. I don't expect to get a highway bill in 2020. At the same time, when the fast act expires, I don't expect any of that funding to go down. We'll just do extension. So I don't see a big impact on on it. I don't see any impact on state DOT lettings due to the election year.

OK, thanks. And then just given some of the repair maintenance costs here and some of the other items that you've called out, is this all just to be clear within your plan? As you think about your two billion dollar target, you laid out your investor day and thinking about how that could be potentially achievable once you reach two hundred thirty to two hundred forty million tons of volume.

Yeah, if anything, I think that the four strategic initiatives, including the operations, excellent initiative are give me more and more confidence in our ability to get to the nine dollars that we planned. I think that our operate, if you look, if you were to look beneath the surface in our operations while the headline is higher stripping and repair maintenance costs behind that, I think you're doing the right things in investing in the business for the long term. Really importantly, though, is you're starting to see the key operating parameters, which we measure things like tons per hour throughput through individual plants, downtime in individual plants, tons per man hour in individual plants. We're starting to see improvement. I think we are teaching our young people the right things to do. We are leveraging the collective knowledge and experience of Vulcan across three hundred fifty plants. So while, you know, while we see some headline things, the ultimate work that goes into this from those initiatives is starting to gel. The commercial excellent initiatives is mature. It is working and we're very pleased with our progress there. Great,

thank you. Our next question comes from David McGregor of Longbow Research. Please go ahead.

Yes, morning. Just getting back to the two to four percent volume guide and just a question, I guess, on construction capacity and we get a large increase in awards and lettings. What are the downstream bottlenecks that most concern you as a constraint to your volume growth? And how have you accounted for that as a potentially conservative element within your guidance?

Well, first of all, for Vulcan internally, I don't think we see any bottlenecks. We can handle it. We'd love to see it grow as much as it could. And we'll be we'll be we'll be there both from an aggregate perspective and asphalt perspective or a concrete perspective on as far as is if lettings were to increase dramatically. I think what you see is the work would happen. The big bottleneck is always that people ask about is labor and are the labor shortages. They answer that question is yes, I don't think it's going to hold up work getting done, but I think it'll hold up is ability to catch up once work gets delayed. So if you had, you know, a month in the wintertime, which was all raining really cold trying to catch that up or if you had a big tropical storm come through, it's going to take you a little longer to catch it up just because they don't have the firepower to do it fast. That's how I would describe it.

OK, have you factored that into your guidance? Is that there's an element potentially the discrepancy between two to four, which seems fairly conservative versus the story, which seems pretty bullish?

I think that I think when it comes to volume, as I said, we tried to pull all those factors in as compared to last year, the pull through the weather aspect of it. You know, a little bit of a of an air pocket and leading indicators in the red side and then timings of highway lettings and states ability to get that work. And we put all that together and and the upside potential, the risk piece of it. That's what we got. We try to be thoughtful about the two to four. Yeah, that makes sense.

And then just second question on mix. And if you could talk about the pace of growth in your backlog and if your backlog building faster in your higher margin products and geography,

I think I would describe this, I think when we looked at the four to six as best we can, you take mix of product of when I say mix, both geographic and product mixed together. I think we have seen good improvement in base in our backlogs. We've seen good improvement in clean stone in our backlogs and our booking pace right now as we look at it, both in price and in volume, will support our guidance. Thank you very much. Thank you.

Our next question comes from Adam Palheimer of Thompson Davis. Please go ahead.

Hey, good morning, guys. Hey, what did Chalky of Ibadan was flat down in Q1?

Well, we can't give Q1 guidance. I think, as we said, you know, we are copying over a year in the first quarter of 19 with which was very good weather. And we had the windfall pull forward of 13 percent volume from the year before. I don't think you'll see that pull through. You guys can look outside and know what the weather is doing in the fourth in the first quarter. So, again, it will just we're halfway through it. We just have to wait and see.

And then, Tom, can you walk us through the demand you're seeing right now in California and Texas?

Sure. I would describe California this way. I think that the well, let me start with Texas. The public side is very strong. The text has done an excellent job of lettings and getting work out. There's big work. This this this shipping right now, this big work on the horizon. And as we said, next year, they're going to go from a wow factor of seven billion to 14. On the private side, I would describe North Texas is being driven by non-res. I'd say res is fairly flat with some exceptions, some big development, North Fort Worth, South Texas, housing strong, non-res a little bit soft, coastal Texas, everything strong. And you could see some LNG work start on coastal Texas in the second half of 2020, a little bit going now. California, northern Cal, public is very strong, both for agri and asphalt. Private side looks good, maybe a bit flat in the Bay. Non-res is a bit soft, but leading indicators were improving. Public's on southern California, again, public very strong, highway strong, non-highway is strong on on private single private in southern California. Probably a little bit of watch rust with leading indicators a bit were a bit soft, but the last three months of indicators were up over 20 percent. So all in all, I think, you know, pretty healthy growth in both states. And I would tell you that I would expect good margin improvements, unit margin improvements in both locations, both in aggregates and in asphalt. Good color. OK,

next time.

Thank you.

Our next question comes from Adrian Huerta of JP Morgan. Please go ahead.

Hi, good morning, everyone, and thank you for taking my call, Tom and Suzanne. Good morning. Good morning. Quick question on cash taxes. Can you can you tell us how they ended last year? Because I believe they probably ended way below what you were expecting early, early last year. And why now you're back into expecting a 200 million? And is there any chances that that could be lower than than your guidance?

Sure. And the main reason for the reduction in cash taxes through the year was that as we started the year, we had not made a determination as to whether we were going to take advantage of the bonus depreciation or not. That's a calculation that we have to go through each year because there is some interplay between it and a depletion allowance that that we get when we file our tax returns as well as some other things. So there's an actual while it might seem obvious you would want to take advantage of the bonus depreciation. There's actually a calculation that you need to go to to ensure you are selecting the calculation methodology that gives you the most tax benefit. So we started out the year under one assumption we determined in the second quarter and called this out at the time that we were indeed going to take the bonus depreciation. That resulted in for 2019 us paying quite a bit less tax than we had initially intended. And the estimated the cash tax rate was between seven and eight percent. As we start off in 2020, we are guiding to an effective tax rate of 20 percent. We'll go through the same process again and make a determination as to what depreciation methodology we're going to use. So there's some chance the cash tax may be lower, but we will work through that process in a similar fashion that we use this year, you know, even under the, you know, even under the assumption of having higher cash taxes in 2020 as compared to 2019, I just point out we still, you know, would throw off about eight hundred million dollars of discretionary cash flow. So very, very healthy, very substantial. And that, you know, eight hundred million, you know, could be put on a discretionary basis toward growth projects, potentially M&A. If something comes along that meets all the criteria that Tom outlined, your dividends and share repurchases.

That was very clear, Suzanne. And if I may ask another question, can you share with us any details on the query that is expected to open in California in terms of when and the size and the potential volumes on an annual basis that that query could take?

Yeah, so it's it's in Frisco. We're not going to probably won't open until the beginning of next year, probably first or second quarter of next year size. We're not going to actually disclose that at this point. We get a little closer to it. We'll talk about those things. It's in a very good market. It was taking us some 10 plus years to get this done. The team has worked very hard and now they're working hard to build it out into a market that is very healthy and quite profitable.

Excellent, Tom. So it's a totally new market for you.

No, it's a market we've been in before.

OK, excellent. Thank you so much, Tom and Suzanne. Appreciate it. Thank you. Thank you.

Our next question comes from Paul Chabran of Enfield Investment Research. Please go ahead.

Hello everyone. Good morning. Thank you for taking my questions. First of all, I can think the rail deliveries. I think you talked about that extensively already. So my apologies if you already answered, but how should we think about it for 2020? The evolution of rail deliveries, is there any chance that it could impact your margins as it did in Q4 2019?

I'm sorry, at the beginning of your question, I couldn't hear.

Oh, sorry. The question was related to the evolution of rail deliveries in 2020. How should we think about that? Is there a chance it could impact your margin as it did in Q4 2019?

The repairs and maintenance, is that what you're asking about? The connection was a little poor. I just couldn't hear. I'm sorry.

Yeah, my apologies. It's concerning the rail deliveries, the long-distance rail deliveries that had an impact on your margin in Q4.

Oh, I wouldn't expect it. The rail happened to be a timing issue of big shipments in the fourth quarter. I think we've got the volumes that we do out of that rail distribution network embedded in our 2020 guidance that I would see very little impact.

Okay. Thank you very much.

Thank you.

Our next question comes from Brent Teelman of DA Davidson. Please go ahead.

Good morning. This one's just for you, Suzanne, just on the SAG expense. Can you help us understand the sensitivity to growth this year? In other words, if things really line up well through the year, you start seeing 5%, 6%, 7% volume growth, can you sustain SAG below 2019 levels?

Yeah, I think we can. As I said, this is a matter of what's driving that cost reduction year over year or the changes we talked about. Some of that is being more efficient in the way we do things, so it's not like it's a variable kind of expense. It's more what I would call on the fixed side that we are making some changes, and so I think that that would be sustainable, yes.

Thank you. That's all I

have. Our next question comes from Michael Dudas of Vertical Research. Please go ahead.

Good morning. Good, I think afternoon. I think we might have gone until 12 o'clock. So in light of that, you've done a very good job in answering and being very descriptive today, so all my questions have been answered. Appreciate it. Thank you. Good luck.

Thank you. There are no further questions at this time. I would like to hand the call back to Tom Hill for any additional or closing remarks.

Well, thank you for your interest and support of all the materials. We've enjoyed talking to you today. As you can tell, Suzanne and I are very excited about 2020, and we look forward to sharing the team's news of how we continue to make progress to those long-term goals of $9 a ton, cash gross per ton. We'll talk to you throughout the months to come. Thanks.

Thanks. Goodbye. This concludes today's call. Thank you for your participation. You may now disconnect.