On May 8, we issued an updated research report on Aegion Corporation AEGN. The company is likely to benefit from strong order flow, demand in the North America CIPP (cured-in-place pipe) rehabilitation business and improving margins in cathodic protection business. However, while its restructuring actions will lead to cost savings, restructuring charges will dent margins in the near term. Higher labor cost also remains a concern.
 
Aegion reported first-quarter 2018 adjusted earnings of 13 cents per share, which declined 28% year over year. However, earnings beat the Zacks Consensus Estimate by a penny. Total revenues in the quarter remained flat year over year, at $325 million, as record revenues of the Energy Services segment were offset by lost contribution from the large deepwater pipe coating and insulation project. The revenue figure beat the Zacks Consensus Estimate of $299 million.
 
Strong Order Flow, Upbeat Earnings View for 2018
 
In first-quarter 2018, Aegion witnessed an increase of 1% in new orders to $353 million, overcoming the impact of exiting the Fyfe North America structural construction business in fiscal 2017. As of Mar 31, 2018, the company’s contract backlog improved 9% year over year to $718 million. Despite the impact of inclement winter that affected parts of the United States and Canada for the first four months of the year, Aegion’s order flow remained strong.
 
The company anticipates recovering the lost volumes in the first quarter due to harsh weather within the Infrastructure Solutions segment and noted positive momentum in its U.S. and Canada cathodic protection businesses. For 2018, total revenues are expected to be essentially flat with 2017’s record results, due to the non-recurrence of more than $90 million in revenues in 2017 from the large deepwater project. Gross margin and adjusted operating margin improvement is projected to lie between 50 basis points (bps) and 100 bps. The company expects year-over-year improvement of more than 30% in earnings in 2018. Management anticipates the full-year adjusted effective tax rate in the range of 23-24% including the impact of the tax reform.
 
Segments Poised for Growth
 
For the Infrastructure Solutions segment, further penetration into the pressure pipe market driven by new product development, investments in underserved North America CIPP regions and improved product sales will bolster results. Moreover, the increasing need for pipeline rehabilitation supports a long-term sustainable market for segment.
 
In the Corrosion Protection segment, significant contributions from large international robotic field joint coating projects will aid the segment’s growth. Further, ongoing momentum in the U.S. and Canada cathodic protection businesses bodes well for the segment. The cathodic protection business’ margins are gaining from the multiple leadership changes in the first half of 2017 and the aggressive focus on improved project execution and labor utilization. The design and installation of cathodic protection systems to help prevent pipeline corrosion have historically contributed around 50% of the revenues for the segment. There are over one million miles of regulated pipelines in North America, which remain the safest and most cost-effective mode of oil and gas transmission. It remains an attractive and growing market which Aegion plans to invest in for future growth.
 
The Energy services segment has delivered improved year-over-year performance for five consecutive quarters which is anticipated to continue in the near term. Restructuring efforts undertaken in the past are also yielding results. Aegion has long-term relationships with oil refinery and industrial customers on the West Coast through the Energy Services segment and plans to leverage those relationships to expand services. There are opportunities in other industries on the West Coast such as oil and oil product terminals, chemicals, industrial gas and power to leverage its experience in maintenance and construction services.
 
Restructuring to Drive Long-Term Benefits, Hurt Near-Term Margins
 
The company is currently implementing its realignment and restructuring plan. The plans include the divestiture of the pipe coating and insulation businesses in Louisiana. It also involves the exit of non-pipe related contract applications for the Tyfo system in North America. Further, the company intends to reduce corporate and other operating costs as well as right-size its cathodic protection services operation in Canada. These actions will reduce exposure in the North American upstream oil and gas markets and generate more predictable and sustainable long-term earnings growth. During 2017, the company also concluded a detailed assessment of the Infrastructure Solutions’ CIPP businesses in Australia and Denmark.
 
These restructuring actions will help reduce consolidated annual expenses by over $20 million. Cost reductions are anticipated to be fully realized in 2018. However, Aegion anticipates total restructuring and impairment charges to be between $117 million and $120 million. Most of this is expected to be completed before the end of the second quarter of fiscal 2018.
 
Cost Concerns
 
Aegion is witnessing a tighter labor market across North America. It is expected to become more challenging as it enters the peak of construction season in the upcoming months. The company is reviewing options to simplify its operating and tax organizational structure under the new U.S. tax laws. Consequently, it may incur additional restructuring charges related to changes to its legal entity structure and related intercompany transactions.
 
 
The company has outperformed the industry in the past year. The stock has gained 22.5%, while the industry recorded growth of 9.5%.
 
Aegion carries a Zacks Rank #3 (Hold).
 
Some better-ranked stocks in the industry include PGT Innovations, Inc. PGTI, Armstrong World Industries, Inc. AWI and Installed Building Products, Inc. IBP. While PGT Innovations sports a Zacks Rank #1 (Strong Buy), Armstrong World and Installed Building Products carry a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.
 
PGT Innovations has a long-term earnings growth rate of 19%. The company’s shares have been up 54% in a year’s time.
 
Installed Building Products has a long-term earnings growth rate of 17.3%. Its shares have gone up 26% in the past year.
 
Armstrong World has a long-term earnings growth rate of 17.3%. The stock has gained 28% in a year’s time.
 
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