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AEGN > SEC Filings for AEGN > Form 10-Q on 31-Oct-2013All Recent SEC Filings

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Form 10-Q for AEGION CORP


31-Oct-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following is management's discussion and analysis of certain significant factors that have affected our financial condition, results of operations and cash flows during the periods included in the accompanying unaudited consolidated financial statements. This discussion should be read in conjunction with the consolidated financial statements and notes included in our Annual Report on Form 10-K for the year ended December 31, 2012.
We believe that certain accounting policies could potentially have a more significant impact on our consolidated financial statements, either because of the significance of the consolidated financial statements to which they relate or because they involve a higher degree of judgment and complexity. A summary of such critical accounting policies can be found in the "Management's Discussion and Analysis of Financial Condition and Results of Operations" section of our Annual Report on Form 10-K for the year ended December 31, 2012.

Forward-Looking Information
The Private Securities Litigation Reform Act of 1995 provides a "safe harbor" for forward-looking statements. We make forward-looking statements in the "Management's Discussion and Analysis of Financial Condition and Results of Operations" section of this Quarterly Report on Form 10-Q that represent our beliefs or expectations about future events or financial performance. These forward-looking statements are based on information currently available to us and on management's beliefs, assumptions, estimates and projections and are not guarantees of future events or results. When used in this report, the words "anticipate," "estimate," "believe," "plan," "intend," "may," "will" and similar expressions are intended to identify forward-looking statements, but are not the exclusive means of identifying such statements. Such statements are subject to known and unknown risks, uncertainties and assumptions, including those referred to in the "Risk Factors" section of our Annual Report on Form 10-K for the year ended December 31, 2012, as filed with the Securities and Exchange Commission on February 27, 2013, and in our subsequent Quarterly Reports on Form 10-Q, including this report. In light of these risks, uncertainties and assumptions, the forward-looking events discussed may not occur. In addition, our actual results may vary materially from those anticipated, estimated, suggested or projected. Except as required by law, we do not assume a duty to update forward-looking statements, whether as a result of new information, future events or otherwise. Investors should, however, review additional disclosures made by us from time to time in our periodic filings with the Securities and Exchange Commission. Please use caution and do not place reliance on forward-looking statements. All forward-looking statements made by us in this report are qualified by these cautionary statements.

Executive Summary
We are a global leader in infrastructure protection and maintenance, providing proprietary technologies and services: (i) to protect against the corrosion of industrial pipelines; (ii) to rehabilitate and strengthen water, wastewater, energy and mining piping systems and buildings, bridges, tunnels and waterfront structures; and (iii) to utilize integrated professional services in engineering, procurement, construction, maintenance, and turnaround services for a broad range of energy related industries. Our business activities include manufacturing, distribution, maintenance, construction, installation, coating and insulation, cathodic protection, research and development and licensing. Our acquisition of Brinderson, L.P. and related entities ("Brinderson") on July 1, 2013 opens new markets for us through the maintenance, engineering and construction services for downstream and upstream facilities in the North America oil and gas market. Our products and services are currently utilized and performed in more than 100 countries across six continents. We believe that the depth and breadth of our products and services platform make us a leading "one-stop" provider for the world's infrastructure rehabilitation and protection needs.
Our Company is primarily built on the premise that it is possible to use technology to extend the structural design life and maintain, if not improve, the performance of a pipe. We're proving today that this expertise can be applied in a variety of markets to protect pipelines in oil, gas, mining, wastewater, water applications and extending this to the rehabilitation of commercial structures. Many types of infrastructure must be protected from the corrosive and abrasive materials that pass through or near them. Our expertise in non-disruptive corrosion engineering and abrasion protection is now wide-ranging, opening new markets for growth. We have a long history of product development and intellectual property management. We manufacture most of the engineered solutions we create as well as the specialized equipment required to install them. Finally, decades of experience give us an advantage in understanding municipal, energy, mining, industrial and commercial customers. Strong customer relationships and brand recognition allow us to support the expansion of existing and innovative technologies into new high growth end markets.
We originally incorporated in Delaware in 1980 to act as the exclusive United States licensee of the Insituform® cured-in-place pipe ("CIPP") process, which Insituform's founder invented in 1971. The Insituform® CIPP process served as the first trenchless technology for rehabilitating sewer pipelines and has enabled municipalities and private industry to avoid the extraordinary expense and extreme disruption that can result from conventional "dig-and-replace" methods. For over 40 years,


we have maintained our leadership position in the CIPP market from manufacturing, to technological innovations and market share. In order to strengthen our ability to service the emerging demands of the infrastructure protection market and to better position our Company for sustainable growth, we embarked on a diversification strategy in 2009 to expand our product and service portfolio and our geographical reach. Through a series of strategic initiatives and complementary acquisitions, we now possess one of the broadest portfolios of cost-effective solutions for rehabilitating and maintaining aging or deteriorating infrastructure and protecting new infrastructure from corrosion worldwide.
We are organized into four reportable segments: Energy and Mining; North American Water and Wastewater; International Water and Wastewater; and Commercial and Structural. We regularly review and evaluate our reportable segments. Market changes between the segments are typically independent of each other, unless a macroeconomic event affects the water and wastewater rehabilitation markets, the oil, mining and gas markets and the commercial and structural markets concurrently. These changes exist for a variety of reasons, including, but not limited to, local economic conditions, weather-related issues and levels of government funding.
Our long-term strategy consists of:
• expanding our position in the growing and profitable energy and mining sector through organic growth, selective acquisitions of companies, formation of strategic alliances and by conducting complimentary product and technology acquisitions;

• growing market opportunities in the commercial and structural infrastructure sector through (i) continued customer acceptance of current products and technologies; (ii) expansion of our product and service offerings with respect to protection, rehabilitation and restoration of a broader group of infrastructure assets; and (iii) leveraging our premier brand and experience of successfully innovating and delivering technologies and services through selective acquisitions of companies and technologies and through strategic alliances;

• expanding all of our businesses in key emerging markets such as Asia and the Middle East; and

• optimizing our water and wastewater rehabilitation operations by; (i) improving project execution, cost management practices, including the reduction of redundant fixed costs, and product mix; (ii) identifying opportunities to streamline key management functions and processes to improve our profitability; and (iii) strongly emphasizing higher return manufacturing operations.

Acquisitions/Strategic Initiatives/Divestitures See Notes 1 and 9 to the consolidated financial statements contained in this report for a detailed discussion regarding acquisitions, strategic initiatives and divestitures.


Results of Operations - Quarters and Nine-Month Periods Ended September 30, 2013 and 2012
Overview - Consolidated Results
Key financial data for our consolidated operations, as updated for discontinued operations, was as follows:
(dollars in thousands) Quarters Ended September 30, Increase (Decrease)

                                         2013                 2012               $               %
Revenues                           $      307,665       $      262,867     $    44,798          17.0  %
Gross profit                               69,411               62,931           6,480          10.3
Gross profit margin                          22.6 %               23.9 %           n/a          (130 )bp
Operating expenses                         47,956               42,351           5,605          13.2
Earnout reversal                           (2,844 )             (6,892 )        (4,048 )       (58.7 )
Acquisition-related expenses                2,267                  607           1,660         273.5
Operating income                           22,032               26,865          (4,833 )       (18.0 )
Operating margin                              7.2 %               10.2 %           n/a          (300 )bp
Income from continuing operations          14,623               21,170          (6,547 )       (30.9 )


(dollars in thousands)                 Nine Months Ended September 30,            Increase (Decrease)
                                          2013                 2012                $               %
Revenues                           $       775,741       $       745,236     $    30,505           4.1  %
Gross profit                               176,116               177,722          (1,606 )        (0.9 )
Gross profit margin                           22.7 %                23.8 %           n/a          (110 )bp
Operating expenses                         130,112               125,314           4,798           3.8
Earnout reversal                            (2,844 )              (6,892 )        (4,048 )       (58.7 )
Acquisition-related expenses                 4,175                 2,594           1,581          60.9
Operating income                            44,673                56,706         (12,033 )       (21.2 )
Operating margin                               5.8 %                 7.6 %           n/a          (180 )bp
Income from continuing operations           37,277                40,703          (3,426 )        (8.4 )

Consolidated income from continuing operations was $14.6 million for the quarter ended September 30, 2013 compared to $21.2 million in the prior year quarter. The decrease in consolidated income from continuing operations for the third quarter of 2013 was primarily the result of increased acquisition-related expenses incurred in 2013 of $1.7 million and the $4.0 million pre-tax difference in earnout reversals between the two periods. Operating income, excluding earnout and acquisition-related expense, increased by $0.9 million, or 4.3%, due principally to improvements in our global water and wastewater businesses, specifically North America and Asia. In North America, we experienced a 23% revenue growth in the third quarter of 2013 compared to the third quarter of 2012 from improved backlog and a shift to more large diameter projects, which have allowed us to leverage our operating structure to improve the operating margin from 8.1% in the third quarter of 2012 to 10.8% in the third quarter of 2013. In Asia, improvements were driven by significantly lower operating losses in Singapore as major loss producing projects have substantially been completed, along with successful project execution on projects in Malaysia during 2013. Partially offsetting these increases were declines in our Energy and Mining and Commercial and Structural segments. Within Energy and Mining, the decline compared to the third quarter of 2012 was primarily related to low backlog levels in our coating operations in the United States, lower profitability in our Canadian cathodic protection operations and less contribution from the large Moroccan project, which was substantially completed in the third quarter of 2013. Brinderson, which was acquired on July 1, 2013, contributed $2.6 million in operating income in the third quarter of 2013. Excluding acquisition-related costs, our Commercial and Structural segment declined $3.4 million, or 136.4%, quarter over quarter due to lower workable backlog, isolated project performance issues and project delays in North America and Asia.
For the first nine months of 2013, consolidated income from continuing operations decreased $3.4 million, or 8.4%, compared to the first nine months of 2012. The decrease was attributable to declines in our Energy and Mining and Commercial and Structural segments and the impact of severe weather related delays throughout the first quarter of 2013 and into parts of the second quarter of 2013 throughout all of our segments. Partially offsetting these declines were increases in our global water and wastewater


businesses, profit generated during the third quarter of 2013 by Brinderson and the $7.9 million (post-tax) gain on sale we recognized in the second quarter of 2013 in connection with the sale of our 50% interest in our German joint venture.
For the third quarter of 2013 compared to the same quarter of 2012, revenues increased $44.8 million, or 17.0%. For the nine months ended September 30, 2013 revenues increased $30.5 million, or 4.1%, compared to the prior year period. These increases were primarily due to the addition of Brinderson, which contributed $47.9 million in revenues during the third quarter of 2013. Exclusive of Brinderson, revenues decreased during the nine months ended September 30, 2013 compared to the prior year period primarily due to lower workable backlog levels within our Commercial and Structural segment and our Energy and Mining segment's coating operations coupled with project and weather delays throughout North America.
For the third quarter of 2013 compared to the same quarter of 2012, operating expenses increased $5.6 million, or 13.2%. For the nine-month period ended September 30, 2013, operating expenses increased $4.8 million, or 3.8%, compared to the prior year period. Again, these increases were primarily due to the addition of Brinderson, which contributed $5.9 million in operating expenses during the third quarter of 2013, partially offset by decreased incentive compensation and operational efficiencies gained in our cathodic protection operations as well as continued improvements in leveraging our fixed cost structure in our North American Water and Wastewater operation.

Contract Backlog
Contract backlog is our expectation of revenues to be generated from received, signed and uncompleted contracts, the cancellation of which is not anticipated at the time of reporting. The Company assumes that these signed contracts are funded. For its government or municipal contracts, the Company's customers generally obtain funding through local budgets or pre-approved bond financing. The Company has not undertaken a process to verify funding status of these contracts and, therefore, cannot reasonably estimate what portion, if any, of its contracts in backlog have not been funded. However, the Company has little history of signed contracts being canceled due to the lack of funding. Contract backlog excludes any term contract amounts for which there are not specific and determinable work releases and projects where we have been advised that we are the low bidder, but have not formally been awarded the contract. The following table sets forth our consolidated backlog by segment (in millions):

                                       September 30,       June 30,       December 31,       September 30,
                                           2013              2013             2012               2012
Energy and Mining (1)                $         172.5     $     193.0     $       240.8     $         246.9
North American Water and Wastewater            241.7           221.1             185.0               167.3
International Water and Wastewater              43.0            44.1              56.6                55.6
Commercial and Structural                       48.2            52.2              50.8                46.7
Total hard backlog                             505.4           510.4             533.2               516.5
Brinderson(2)                                  209.2               -                 -                   -
Total backlog                        $         714.6     $     510.4     $       533.2     $         516.5

(1) All periods presented exclude Bayou Welding Works ("BWW") backlog, as this business was discontinued in the second quarter of 2013.

(2) Brinderson backlog represents expected unrecognized revenues to be realized under long-term Master Service Agreements ("MSAs") and other signed contracts. If the remaining term of these arrangements exceeds 12 months, the unrecognized revenues attributable to such arrangements included in backlog are limited to only the next 12 months of expected revenues.

Although backlog represents only those contracts and MSAs that are considered to be firm, there can be no assurance that cancellation or scope adjustments will not occur with respect to such contracts.
Within our Energy and Mining and Commercial and Structural segments, certain contracts are performed through our variable interest entities, in which we own a controlling portion of the entity. As of September 30, 2013, 9.9% and 0.4% of our Energy and Mining hard backlog and Commercial and Structural backlog, respectively, related to these variable interest entities. With the exception of Brinderson, a substantial majority of our contracts in these two segments are fixed price contracts with individual private businesses and municipal and federal government entities across the world.
Within our Water and Wastewater segments, all of our projects are performed through our wholly-owned subsidiaries and a substantial majority of those projects are fixed price contracts with individual municipalities across the world.


Energy and Mining Segment
Key financial data for our Energy and Mining segment, as updated for
discontinued operations, was as follows:
(dollars in thousands)           Quarters Ended September 30,          Increase (Decrease)
                                   2013                 2012              $             %
Revenues                     $      168,708       $      137,386     $   31,322      22.8  %
Gross profit                         37,118               33,710          3,408      10.1
Gross profit margin                    22.0 %               24.5 %          n/a      (250 )bp
Operating expenses                   24,821               19,176          5,645      29.4
Earnout reversal                     (2,844 )             (6,892 )       (4,048 )   (58.7 )
Acquisition-related expenses          2,267                    -          2,267          n/m
Operating income                     12,874               21,426         (8,552 )   (39.9 )
Operating margin                        7.6 %               15.6 %          n/a      (800 )bp


(dollars in thousands)                 Nine Months Ended September 30,            Increase (Decrease)
                                          2013                 2012                $                %
Revenues                           $       385,991       $       377,610     $     8,381            2.2  %
Gross profit                                87,678                93,466          (5,788 )         (6.2 )
Gross profit margin                           22.7 %                24.8 %           n/a           (210 )bp
Operating expenses                          61,866                57,456           4,410            7.7
Earnout reversal                            (2,844 )              (6,892 )        (4,048 )        (58.7 )
Acquisition-related expenses                 4,175                     -           4,175             n/m
Operating income                            24,481                42,902         (18,421 )        (42.9 )
Operating margin                               6.3 %                11.4 %           n/a           (510 )bp

Revenues
Revenues in our Energy and Mining segment increased by $31.3 million, or 22.8%, in the third quarter of 2013 compared to the third quarter of 2012. This increase was primarily due to our acquisition of Brinderson, which contributed $47.9 million in revenues during the third quarter of 2013. Exclusive of Brinderson, revenues decreased $16.6 million, or 12.1%, primarily due to low production at our coating operations in New Iberia, Louisiana where revenues fell $10.9 million, or 43.8%. This decrease was due to a lack of project activity available in the market, coupled with certain projects shifting to 2014. Our industrial lining operations revenues fell $9.7 million, or 22.9%, compared to the third quarter of 2012. This operation has experienced more difficult market conditions in certain of its international markets, notably with mining customers, along with significantly less revenue from our large project in Morocco, which decreased $8.9 million, or 65.6%, compared to the third quarter of 2012 as this project was substantially completed in the third quarter of 2013. Partially offsetting these declines was a $3.0 million, or 65.7%, increase in the revenues from our robotic coating operations due to the start of the Wasit gas field project in Saudi Arabia.
Revenues increased by $8.4 million, or 2.2%, for the nine months ended September 30, 2013 compared to the prior year period primarily due to the addition of Brinderson, which contributed $47.9 million in additional revenues. Exclusive of Brinderson, revenues decreased by $39.6 million, or 10.5%, in the nine months ended September 30, 2013 compared to the prior year period primarily due to reduced revenue in our industrial linings operations in Morocco as the project nears completion, lower revenue at our coating operations in New Iberia, Louisiana, due to aforementioned factors, and lower revenues in our robotic coatings operations due to the delays on the Wasit gas field project. In Morocco, revenues declined $18.0 million, or 53.3%, as work has slowed down and the project was substantially completed in the third quarter of 2013. Additionally, our industrial linings operations experienced weakness in Mexico and South America compared to the prior year period. Collectively, revenue in these markets declined by $12.7 million, or 40.4%. Our robotic coating operations recognized $4.9 million less revenues in the first nine months of 2013 compared to the prior year period. These declines were partially offset by $6.7 million, or 4.1%, growth from our cathodic protection operations due to stronger market conditions in 2013, particularly in Canada, certain regional markets in the United States, and the Middle East.
Our Energy and Mining segment contract backlog, excluding Brinderson, at September 30, 2013 was $172.5 million, which represented a $20.5 million, or 10.6%, decrease compared to June 30, 2013 and a $74.4 million, or 30.1%, decrease compared to September 30, 2012. Backlog for our industrial linings operations declined sequentially and on a year-over-year basis primarily due to our substantial completion of the Moroccan project, which represented 36.8% of our industrial linings backlog at September


30, 2012, but only 3.3% of our industrial linings backlog as of September 30, 2013. Excluding the project in Morocco, our Energy and Mining segment contract backlog at September 30, 2013 was $170.6 million, which represented a $17.2 million, or 9.2%, decrease compared to June 30, 2013 and a $46.3 million, or 21.3%, decrease compared to September 30, 2012. The decreases were due to a temporary curtailment in capital and maintenance expenditures for our industrial linings operations coupled with depressed backlog for our coating operations in New Iberia, Louisiana because of timing of pipe coating activity supporting oil and gas offshore projects in the Gulf of Mexico. Brinderson backlog represents estimated revenues to be generated under long-term MSAs and other signed contracts. If the remaining term of the arrangements exceeds 12 months, the unrecognized revenue attributable to such arrangements included in backlog are limited to only the next 12 months of expected revenues. At the date of acquisition, July 1, 2013, this backlog was $201.0 million and has increased 4.1% during the third quarter of 2013 to $209.2 million at September 30, 2013.
Gross Profit and Gross Profit Margin
Gross profit in our Energy and Mining segment increased by $3.4 million, or 10.1%, in the third quarter of 2013 compared to the third quarter of 2012. Gross profit decreased by $5.8 million, or 6.2%, for the nine months ended September 30, 2013 compared to nine months ended September 30, 2012. Brinderson contributed $8.5 million of gross profit and 17.7% gross margins in the third quarter of 2013. Gross margins declined by 250 basis points to 22.0% during the third quarter of 2013. The primary drivers of the decline in gross margins from the same period in the prior year were the addition of Brinderson's lower profit margin work, project wind-down activities in Morocco and the third quarter of 2012 containing a large, higher gross profit concrete job for our coating operations in New Iberia, Louisiana that was not present during the third quarter of 2013. Gross profit on the industrial lining work in Morocco declined $2.7 million, or 183.0%, compared to the third quarter of 2012 and the coating operations in New Iberia, Louisiana declined $3.0 million, or 147.5%. Partially offsetting these declines were improved results from our robotic coating operations due to the large project in Saudi Arabia (Wasit), which increased its activity during the third quarter of 2013. For the nine months ended September 30, 2013, however, gross profit from our robotic coating operations decreased $5.9 million, or 57.5%, due to customer-directed delays on the Wasit project and other large projects being moved into 2014.
We believe the end markets for our Energy and Mining segment remain robust. Project delays and timing of project activity for the coatings operations in the Gulf of Mexico and linings operations in some international markets have slowed the momentum in 2013. For the fourth quarter of 2013, we expect (i) a pick up in production in November 2013 of the large robotic project for the offshore Wasit gas field; (ii) growth from our cathodic protection operations, specifically in Canada, from capital investments in North America and growth in new geographies for engineered pipeline integrity systems; (iii) higher margins for the projects expected to be completed in our industrial linings operation with the completion of the lower margin Morocco project; (iv) the seasonally strongest quarter of the year for our coating operations in Canada; and (v) increased contributions from Brinderson due to expected strong maintenance and turnaround service increases. . . .

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