ShawCor Ltd. Announces Third Quarter 2019 Results

Source Press Release
Company ShawCor Ltd. 
Tags Capital Spending, Strategy - Corporate, Financial & Operating Data
Date November 12, 2019
  • Third quarter 2019 revenue was $394 million, a decrease of 4% from the $412 million reported in the second quarter of 2019 and 12% higher than the $351 million reported in the third quarter of 2018.
  • Adjusted EBITDA1 in the third quarter of 2019 was $42 million, an increase of 17% from the $36 million reported in the second quarter of 2019 and 11% higher than the $38 million reported in the third quarter of 2018.
  • Net income2 in the third quarter of 2019 was $6.5 million (or earnings per share of $0.09) compared with a net income of $51.0 million (or earnings per share of $0.73) in the second quarter of 2019 and a net income of $10.4 million (or $0.15 earnings per share diluted) in the third quarter of 2018. Excluding the impact of gains on the sale of land and investment in associate, the costs related to the acquisition of ZCL Composites Inc. (“ZCL”) and the adjustment for Argentina Hyperinflationary accounting, adjusted net income1 in the third quarter of 2019 was $6.0 million (or adjusted earnings per share1 of $0.09) compared with $18.9 million (or $0.27 adjusted earnings per share1) in the second quarter of 2019.  
  • The Company’s order backlog was $509 million at September 30, 2019, slightly lower compared to the backlog of $519 million at June 30, 2019.

TORONTO, Nov. 12, 2019 (GLOBE NEWSWIRE) -- Mr. Steve Orr, Chief Executive Officer of Shawcor Ltd. remarked “Third quarter results were in line with expectations and were supported by a continued focus on managing the volatility of our book and turn businesses, securing and executing pipe coating projects and reducing debt leverage. A positive in the quarter was the continued strength of the Company’s backlog and the increase in the number of pipe coating projects the Company has secured pending Final Investment Decision.”

Mr. Orr added “Shawcor’s diverse portfolio is underpinned by supportive long-term fundamentals and we are positioned to deliver sustainable results while maintaining the ability to participate in our customer’s large capital projects. Although Shawcor’s fourth quarter results are expected to decline, we remain confident in the positive outlook for 2020 and beyond as demand for our products and services returns in the U.S. land market and our pipe coating business benefits from increased spending in the offshore and international markets.”

1 EBITDA, Adjusted EBITDA, adjusted net income and adjusted earnings per share are Non-GAAP measures and do not have standardized meanings under GAAP and are not necessarily comparable to similar measures provided by other companies. See Section 6.0 – Reconciliation of Non-GAAP Measures for further details and a reconciliation of these Non-GAAP measures.

2  Net Income attributable to shareholders of the Company.

Selected Financial Highlights

(in thousands of Canadian dollars, except per share amounts and percentages)    Three Months Ended
September 30, 
  Nine Months Ended
September 30, 
    2019      2018(c)      2019      2018(c)   
                 
Revenue  394,015    350,589    1,155,382    1,054,724   
                 
Gross profit    114,618      103,496      330,242      334,289   
Gross profit %    29.1    29.5    28.6    31.7 
                 
Adjusted EBITDA(a)    42,396      38,289      106,854      110,648   
                 
 Income from Operations    17,117      17,057      54,127      41,287   
                 
Net Income for the period (b)  6,520    10,373    48,490    21,510   
                 
Earnings per share:                 
Basic  0.09    0.15    0.69    0.31   
Fully diluted  0.09    0.15    0.69    0.31   
                 
                 
Adjusted Net Income (d)  6,243    13,938    28,463    29,433   
Adjusted Net Income Attributable to Shareholders    6,006      13,736      28,225      28,860   
Adjusted EPS (d)                 
Basic  0.09    0.20    0.40    0.41   
Diluted  0.09    0.20    0.40    0.41   

(a) Adjusted EBITDA is a non-GAAP measure calculated by adding back to net income the sum of net finance costs, income taxes, amortization of property, plant, equipment, intangible and right-of-use ("ROU") assets, cost associated with repayment of long-term debt and credit facilities, gain from sale of land, gain on redemption of investment in associate, ZCL acquisition costs and other related items and hyperinflationary adjustments. Adjusted EBITDA does not have a standardized meaning prescribed by GAAP and is not necessarily comparable to similar measures provided by other companies. See Section 6.0 – Reconciliation of Non GAAP Measures.
(b) Attributable to shareholders of the Company.
(c) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 - Financial Reporting in Hyperinflationary Economies.
(d) Adjusted Net Income is a non-GAAP measure defined as net income before acquisition-related and integration items, including transaction costs and financing fees; cost reduction and integration related initiatives such as separation benefits, retention payments, other exit costs, impact of inventory revaluation adjustment and certain costs associated with integrating an acquired company’s operations; gains or losses from early termination of debt and hedging activities; gains and losses on the disposal of land; gain on sale or redemption of investment in associate; asset impairment charges; hyperinflation adjustment for Argentina and the tax effect of the pre-tax adjustments above at applicable tax rates and certain other tax items. We define adjusted EPS as adjusted net income attributable to shareholders divided by the weighted average number of shares and the weighted average number of diluted shares.

1.0     KEY DEVELOPMENTS

International Offshore Pipe Coating Contracts

On October 7, 2019, the Company announced that its pipe coating division had entered into contracts with Subsea 7 to provide coating services for two offshore pipeline projects, the Johan Sverdrup Phase 2 project offshore Norway and a subsea tieback project offshore Australia.

These projects will be executed at Shawcor’s Norwegian and Asia Pacific coating facilities during 2020. Coating works under these contracts are valued in the range of CAD $30-$50 million.

1.1  OUTLOOK

Shawcor’s financial performance is correlated with oil and gas infrastructure, civil engineering and automotive spending and the resultant demand for the Company’s products and services. Adjusted EBITDA1 for the third quarter of 2019 was in line with expectations, reflecting higher demand for composite pipe and tank products in the U.S. market and improved activity in the pipe coating business in Latin America and North America related to offshore projects. The current quarter was negatively impacted by the ongoing weakness in Western Canada, lower pipe coating and offshore inspection services activity in the Europe, Middle East, Africa and Russia (“EMAR”) region reflecting the completion of several projects during the quarter and the ongoing investments in the pipe coating business for idle assets and project pursuits. In addition, the Company experienced late third quarter softening of demand for girth weld inspection services in the U.S. due to approval delays for land transmission line projects and the slowdown of call-out services for small diameter gathering lines. Although the third quarter results were positive, fourth quarter performance may be challenged due to the typical seasonal slowdown of our businesses and U.S. land customers continued focus on cash discipline, as evidenced by late third quarter softening in drilling and completions and the further delay of pipe coating activity into early 2020. As a result of these headwinds, the Company expects 2019 annual results will be lower than 2018. The extent of the decline in the fourth quarter results are highly dependent on the stability of the base and book and turn businesses in the U.S. and our ability to manage the dynamics of the pipe coating business.

1 EBITDA and Adjusted EBITDA are Non-GAAP measures and do not have standardized meanings under GAAP and are not necessarily comparable to similar measures provided by other companies. See Section 6.0 – Reconciliation of Non-GAAP Measures for further details and a reconciliation of EBITDA and Adjusted EBITDA.

The Company’s base business in North America is heavily tied to the spending programs of exploration and production operators and retail fuel customers. In Western Canada, limited off-take capacity in the region caused by the lack of pipeline infrastructure continues to depress spending by operators and the likelihood of a recovery in the near future seems uncertain. In the U.S. land market, operators continued focus on capital discipline and generating returns for shareholders has created some volatility of demand for our small diameter coating and girth weld inspection services, tubular inspection and repair services, and composite pipe and tank products for oil and gas markets. In addition, typical seasonal slowdowns and customer end-of-year budget exhaustion will negatively impact demand for our products and services in the fourth quarter. The Company’s diversified portfolio of products and services is well positioned to support its customers in this market and should assist in mitigating some of these headwinds. On a positive note, the North American composite tank business is performing as expected with an improved level of retail fuel orders compared to the prior year. The Company also continued to gain positive traction on tank sales in the oil and gas and water and wastewater markets during the quarter, albeit on a small base.

Despite the timing of certain pipe coating awards moving out to early 2020, the Company continues to see positive signs that the offshore oil & gas market is poised for growth. Based on our continued solid level of current bids outstanding and increased industry confidence about the future growth in the international and offshore markets, the Company believes that there is a strong likelihood of projects being sanctioned in the near to medium term that will allow the delivery of stronger results in 2020 and beyond. These project investments are required to replace, maintain and rehabilitate infrastructure that is at or beyond its useful design life, replace production due to reservoir depletion and address geopolitical challenges which are affecting several important producing regions and increased global demand for gas and greener technology, specifically LNG. The Company remains well positioned to capitalize on this continuing positive trend in project activity through its global footprint, technology portfolio and execution history.

The Company remains confident that decisions made to maintain pipe coating capabilities and its strategic efforts to position itself as the partner of choice in the pursuit of several projects will deliver stronger results in 2020 and beyond. The trend of operators engaging large global Engineering-Procurement-Construction (EPC) companies on projects continues. In an effort to standardize engineering approaches and lower overall costs, EPC’s are selecting preferred suppliers to participate in the planning process significantly earlier than in the past in order to ensure greater certainty of execution and costs. This new model has allowed the Company to work with several EPC’s on multiple projects and provides greater visibility on future project wins in advance of final investment decisions. During the third quarter, the Company secured additional conditional awards through several EPC’s increasing the total of conditional awards in our firm bids to over $240 million, compared to $150 million in the second quarter. Although the exact timing of when projects are sanctioned is difficult to predict, the Company believes that there is still a strong likelihood that some of these projects will be sanctioned in the fourth quarter of 2019 and early 2020. Along with these conditional awards, the Company believes it is well positioned to win additional work which is expected to drive a build in backlog in the near term and enable the Company to deliver stronger annual results in 2020.

The recently acquired ZCL Composite business is performing well and in line with expectations. Integration efforts continued during the quarter and the Company believes it has now secured over 85% of the $8 million in annualized run-rate cost synergies targeted by the end of the first year. In addition to the cost benefits, the combination of ZCL and Shawcor has increased the addressable market for the Company as a whole and is expected to generate $35 million of annualized revenue synergies by the end of the third year following the acquisition. These synergies are expected to be achieved by the improvement of distribution channels to the market, the linking of discrete components into systems such as pipe and tank, and the leveraging of the Company’s global footprint to extend the reach of tank technology. While still in the early stages, this additional addressable market will provide another lever for the Company’s future growth.

Further detail on the outlook for the Pipeline and Pipe Services segment by region and in the Petrochemical and Industrial segment is set out below.

   Pipeline and Pipe Services Segment - North America

Market demand in Shawcor’s North American Pipeline segment businesses is closely tied to well completions, the build-out of new and the repair/replacement of old transmission pipeline infrastructure and the refurbishment or new construction of retail fuel outlets. These well completion and transmission line activities drive the demand for small diameter pipe coating and joint protection, composite pipe for gathering line applications, OCTG pipe inspection and refurbishment and gathering line girth weld inspection. Demand in North America land activity is expected to be challenging in the near term due to lower customer spending resulting from the greater focus on capital discipline, seasonal budget exhaustion, approval delays for land transmission line projects and the continued market softness in Western Canada. The diversified breadth of the Company’s portfolio is helping to absorb some of these headwinds. Demand for composite tanks in the retail fuel market is expected to remain solid in the fourth quarter of 2019 and an improvement over the prior year’s results. In addition, the Company continues to experience strong demand for its pipe coating capabilities from increased activity in the Gulf of Mexico, which is improving the utilization of our North American based coating facilities.

   Pipeline and Pipe Services Segment - Latin America

The Company continues to expect increased activity in the recently reactivated facilities in Mexico and Brazil related to the continued activity in Guyana and on land transmission lines and smaller offshore Brazilian projects. This is supported by the Liza II project being executed at the Company’s Veracruz facility, where the third quarter reflects the first full quarter of execution of the project, which is expected to continue to contribute positive results in the fourth quarter.

   Pipeline and Pipe Services Segment – Europe, Middle East, Africa and Russia ("EMAR")

Shawcor’s EMAR Pipeline region continues to be negatively impacted by reduced capital spending by national and international energy companies. The third quarter experienced a decline in activity to due to the completion of some pipe coating and field joint projects. Although the EMAR region is expected to be challenging in the fourth quarter, there will be some positive contribution from the continued execution of coating work related to an offshore Qatar pipeline and new work to be started in late 2019 related to a recently announced multi offshore project award with an EPC company. The Company continues to pursue several large projects in the region that, if won, could provide significant work in 2020 and beyond.

   Pipeline and Pipe Services Segment - Asia Pacific

The region’s project activity will continue to be depressed due to the lack of offshore project investments. Although the Company believes activity levels will increase slightly in the fourth quarter, greater contributions from pipe coating activity are expected in the future from several large projects that could be awarded in late 2019 or early 2020 which are related to the development of gas reservoirs in offshore Australia.

   Petrochemical and Industrial Segment

Shawcor’s Petrochemical and Industrial segment businesses continue to deliver stable revenue and operating income supported by the stable European and North American industrial markets and despite some softening of automotive markets. These markets generally follow GDP activity; however, the segment continues to be well positioned to capture the growing trend of electronic content in automobiles with specified sealing, insulating and customized application equipment systems for Tier 1 assembly customers. Demand for automotive products in the short term will be negatively impacted by the U.S. labour strikes that occurred in the third quarter, while orders for wire and cable products are expected to remain solid due to continued spending in Canadian transit and electrical infrastructure.

   Order Backlog

The Company’s order backlog consists of firm customer orders only and represents the revenue the Company expects to realize on booked orders over the succeeding twelve months. The Company reports the twelve month billable backlog because it provides a leading indicator of significant changes in consolidated revenue. The order backlog of $509 million as at September 30, 2019, was basically in-line with the $519 million as at June 30, 2019. This reflects project wins moving from bid to backlog and new orders on the base business, which includes composite tank orders, offset by revenue generated in the quarter from backlog orders. The current backlog does not include secured orders to be executed beyond twelve months, which is also in-line with the prior quarter due to the recent announcement of a multi offshore project award with an EPC company and other smaller awards.

In addition to the backlog, the Company closely monitors its bidding activity, which represents bids provided to customers with firm pricing and terms and conditions against a defined scope. The value of outstanding firm bids is almost $1.0 billion as at September 30, 2019, a decrease compared to $1.1 billion as at June 30, 2019. This reflects the removal of a large bid for an East Africa land project valued at almost $400 million due an operator’s decision to halt all activity, partially offset by continued solid bidding activity for pipe coating in the offshore and international markets. Included in the firm bid, but not in the backlog, are unsanctioned conditional awards between EPC companies and Shawcor for a scope of work that is estimated at over $240 million in revenue beyond 2019, an increase from the $150 million reported in the previous quarter. The Company is also working with customers on a number of other projects where budgetary estimates are provided at an earlier stage than bids to assist the customers in preparing their feasibility studies or to consider different potential execution options on projects. The budgetary estimates at the end of the third quarter have increased to over $1.7 billion compared to the $1.6 billion in the previous quarter. Although the timing of these projects is uncertain, the Company’s bid and budgetary figures represent a diverse portfolio of opportunities to sustain and build the backlog in 2020 and beyond.

2.0     CONSOLIDATED INFORMATION AND RESULTS FROM OPERATIONS

2.1  Revenue

The following table sets forth revenue by reportable operating segment for the following periods:

    Three Months Ended  Nine Months Ended 
(in thousands of Canadian dollars)   September 30,
2019 
   June 30,
2019 
   September 30,
2018(b) 
   September 30,
2019 
   September 30,
2018(b) 
 
Pipeline and Pipe Services  340,588    358,353    302,039    994,034    901,393   
Petrochemical and Industrial    53,809      54,178      49,010      162,910      154,629   
Elimination(a)    (382    (742    (460    (1,562    (1,298 
Consolidated revenue  394,015    411,789    350,589    1,155,382    1,054,724   

(a) Represents the elimination of the inter-segment sales between the Pipeline and Pipe Services segment and the Petrochemical and Industrial segment.
(b) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 - Financial Reporting in Hyperinflationary Economies.

   Third Quarter 2019 versus Second Quarter 2019

Consolidated revenue decreased by 4%, or $17.8 million, from $411.8 million during the second quarter of 2019 to $394.0 million during the third quarter of 2019, due to decreases of $17.8 million in the Pipeline and Pipe Services segment and $0.4 million in the Petrochemical and Industrial segment.

Revenue decreased by 5% in the Pipeline and Pipe Services segment, or $17.8 million, from $358.4 million in the second quarter of 2019 to $340.6 million in the third quarter of 2019, due to lower revenues in EMAR and Asia Pacific, partially offset by higher activity levels in North America and Latin America. See Section 3.1 – Pipeline and Pipe Services Segment for additional disclosure with respect to the change in revenue in the Pipeline and Pipe Services segment.

In the Petrochemical and Industrial segment, revenue was lower by $0.4 million, or 1%, in the third quarter of 2019, compared to the second quarter of 2019, primarily due to lower activity levels in EMAR, partially offset by higher volumes in North America and Asia Pacific. See Section 3.2 – Petrochemical and Industrial Segment for additional disclosure with respect to the change in revenue in the Petrochemical and Industrial segment.

   Third Quarter 2019 versus Third Quarter 2018

Consolidated revenue increased by $43.4 million, or 12%, from $350.6 million during the third quarter of 2018, to $394.0 million during the third quarter of 2019, reflecting a $38.6 million revenue increase in the Pipeline and Pipe Services segment and a $4.8 million revenue increase in the Petrochemical and Industrial segment.

In the Pipeline and Pipe Services segment, revenue in the third quarter of 2019 was $340.6 million, or 13% higher than in the third quarter of 2018, due to higher revenues in North America from the addition of the ZCL business and higher activity levels in Latin America and EMAR, partially offset by lower revenue levels in Asia Pacific. See Section 3.1 – Pipeline and Pipe Services Segment for additional disclosure with respect to the change in revenue in the Pipeline and Pipe Services segment.

In the Petrochemical and Industrial segment, revenue was $4.8 million higher during the third quarter of 2019, compared to $49.0 million in the third quarter of 2018, due to increased activity levels in North America, partially offset by lower revenue in EMAR. See Section 3.2 – Petrochemical and Industrial Segment for additional disclosure with respect to the change in revenue in the Petrochemical and Industrial segment.

   Nine Months Ended September 30, 2019 versus Nine Months Ended September 30, 2018

Consolidated revenue increased by $100.7 million, or 10%, from $1,054.7 million for the nine month period ended September 30, 2018 to $1,155.4 million for the nine month period ended September 30, 2019, reflecting a $92.6 million increase, or 10%, in the Pipeline and Pipe Services segment and an $8.3 million, or 5%, increase in revenue in the Petrochemical and Industrial segment.

Revenue for the Pipeline and Pipe Services segment during the nine month period ended September 30, 2019 was $994.0 million, or $92.6 million higher than in the comparable period in 2018, due to higher revenues in North America from the addition of the ZCL business and higher activity levels in EMAR and Latin America, partially offset by lower revenue in Asia Pacific. See Section 3.1 – Pipeline and Pipe Services Segment for additional disclosure with respect to the change in revenue in the Pipeline and Pipe Services segment.

Revenue for the Petrochemical and Industrial segment increased by $8.3 million during the nine month period ended September 30, 2019, compared to the same period in 2018, due to higher activity levels in North America, partially offset by lower revenue in Asia Pacific. See Section 3.2 – Petrochemical and Industrial Segment for additional disclosure with respect to the change in revenue in the Petrochemical and Industrial segment.

2.2  Income from Operations ("Operating Income")

The following table sets forth operating income and operating margin for the following periods:

    Three Months Ended  Nine Months Ended 
(in thousands of Canadian dollars, except percentages)   September 30,
2019 
   June 30,
2019 
   September 30,
2018(b) 
   September 30,
2019 
   September 30,
2018(b) 
 
Operating income  17,117    29,376    17,057    54,127    41,287   
Operating margin(a)    4.3    7.1    4.9    4.7    3.9 

(a) Operating margin is defined as operating income divided by revenue and is a non-GAAP measure. Non-GAAP measures do not have standardized meanings under GAAP and are not necessarily comparable to similar measures provided by other companies. See Section 6.0 – Reconciliation of Non-GAAP Measures.
(b) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 - Financial Reporting in Hyperinflationary Economies.

The Company completed a review of its pipe coating footprint in Western Canada during the second quarter. As a result of this review, the Company sold one of its small diameter pipe coating facilities in Edmonton for proceeds of $40 million and recorded a gain of $32.6 million. These funds will allow the Company to relocate and consolidate its capabilities in a more efficient facility with the latest technology on another owned property in Western Canada. In the third quarter of 2019, the Company sold another facility in Edmonton, to relocate and consolidate its capabilities in a more efficient facility with the latest technology on another owned property in Western Canada and recorded a gain of $5.4 million.

Operating income in the second and third quarters includes the addition of the ZCL business, which had a net negative impact in the second quarter due to higher expenses recorded in the quarter for additional depreciation and amortization and inventory fair market value adjustment resulting from the accounting of the acquisition, and other non-recurring integration and acquisition related costs. In the third quarter of 2019, the ZCL business had a net positive impact due to the absence of non-recurring integration and acquisition costs, though the business continued to record an inventory fair value adjustment resulting from the accounting of the acquisition. 

The Company adopted IFRS 16 in the first quarter of 2019. This new accounting standard requires the Company to recognize a lease right-of-use ("ROU") asset and a lease liability to reflect the benefit the Company obtains from the underlying asset in the lease and the requirement to pay the amounts included in the lease contract. Under the previous standard, IAS 17 Leases, costs relating to operating leases were recognized on a straight-line basis as a selling, general and administrative ("SG&A") expense. Under IFRS 16, the Company records an amortization expense as amortization of ROU assets and records an interest expense relating to the lease liability. The amount of the amortization and interest recorded for the three months ended September 30, 2019 was $4.7 million and $0.9 million, respectively. The standard was adopted prospectively from January 1, 2019, and accordingly the 2018 results have not been affected.

   Third Quarter 2019 versus Second Quarter 2019

Operating income decreased by $12.3 million, from $29.4 million during the second quarter of 2019 to $17.1 million in the third quarter of 2019. The decrease reflects the $27.2 million higher gain on the sale of land recorded in the second quarter and a $2.8 million decrease in gross profit. This was partially offset by decreases of $10.8 million in SG&A expenses and $3.1 million in amortization of property, plant, equipment, intangible and ROU assets and a $4.2 million increase in net foreign exchange gains.

The decrease in gross profit resulted from the $17.8 million decrease in revenue, as explained above, partially offset by a 0.6 percentage point increase in the gross margin from the second quarter of 2019. The increase in the gross margin percentage was primarily due to product and project mix, higher facility utilization and increased absorption of manufacturing overheads.  

SG&A expenses decreased by $10.8 million compared to the second quarter of 2019, mainly due to the absence of non-recurring integration and acquisition costs related to the ZCL business in the current quarter, compared to the $8.7 million incurred in the second quarter of 2019, and $1.6 million in lower compensation and personnel related expenses.

   Third Quarter 2019 versus Third Quarter 2018

Operating income increased by $0.1 million, from $17.0 million during the third quarter of 2018 to $17.1 million in the third quarter of 2019. Operating income was positively impacted by a $5.4 million gain on the sale of land, a $11.1 million increase in gross profit and a $1.0 million increase in net foreign exchange gains. This was partially offset by increases of $8.8 million in SG&A expenses, $7.8 million in amortization of property, plant, equipment, intangible and ROU assets and $0.9 million in research and development expenses.

The increase in gross profit resulted from the $43.4 million increase in revenue, as explained above, partially offset by a 0.4 percentage point decrease in the gross margin from the third quarter of 2018. The decrease in the gross margin percentage was primarily due to product and project mix and the impact of an inventory revaluation adjustment related to the acquisition of ZCL, partially offset by higher facility utilization and increased absorption of manufacturing overheads.

SG&A expenses increased by $8.8 million compared to the third quarter of 2018, primarily due to higher compensation and personnel related expenses, the ongoing SG&A expenses for the acquired ZCL business, and higher insurance and other costs. This was partially offset by a $5.6 million decrease in rental and building costs, due to the implementation of IFRS 16, as lease costs are now reported as amortization of ROU assets and interest on ROU assets.    

   Nine Months Ended September 30, 2019 versus Nine Months Ended September 30, 2018

Operating income increased by $12.8 million, from $41.3 million in the nine month period ended September 30, 2018, to $54.1 million in the nine month period ended September 30, 2019. Operating income was positively impacted by a $38.0 million gain on the sale of land. This was partially offset by decreases of $4.1 million in gross profit and $4.2 million in net foreign exchange gains and increases of $5.5 million in SG&A expenses, $1.2 million in research and development expense and $10.2 million in amortization of property, plant, equipment, intangible and ROU assets.

The decrease in gross profit resulted from a 3.1 percentage point decrease in the gross margin from the prior year, partially offset by the higher revenue, as explained above. The decrease in the gross margin percentage was primarily due to lower large project activity in Latin America compared to a year ago, lower utilization in Asia Pacific facilities, the impact of an inventory revaluation adjustment related to the acquisition of ZCL and the related impact of the lower activity on the absorption of manufacturing overheads, partially offset by higher utilization in EMAR.

SG&A expenses increased by $5.5 million in the nine month period ended September 30, 2019, compared to the comparable period in 2018. The increase was primarily due to increases in compensation and personnel related expenses and ongoing SG&A expenses for the acquired ZCL business. This was partially offset by a $14.4 million decrease in rental and building costs, due to the implementation of IFRS 16, as lease costs are now reported as amortization of ROU assets and interest on ROU assets, and a $4.9 million decrease in equipment costs.

2.3  Finance Costs, net

The following table sets forth the components of finance costs, net for the following periods:

    Three Months Ended  Nine Months Ended 
(in thousands of Canadian dollars)  September 30,
2019 
     June 30,
2019 
  September 30,
2018(a) 
  September 30,
2019 
  September 30,
2018(a) 
 
Interest income  (114  (428  (664  (1,466  (2,293 
Interest expense on long-term debt    5,125      4,469      2,274      11,866      6,759   
Interest expense, other    656      612      1,235      2,647      4,030   
Interest expense on ROU assets    861      830      –        2,421      –   
Finance costs, net  6,528    5,483    2,845    15,468    8,496   

(a) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 - Financial Reporting in Hyperinflationary Economies.

   Third Quarter 2019 versus Second Quarter 2019

In the third quarter of 2019, net finance costs were $6.5 million, compared to net finance costs of $5.5 million during the second quarter of 2019. The increase in net finance costs was primarily due to a $0.7 million increase in interest expense on long term debt and a reduction of $0.3 million in interest income.

   Third Quarter 2019 versus Third Quarter 2018

In the third quarter of 2019, net finance costs were $6.5 million, compared to net finance costs of $2.9 million during the third quarter of 2018. The increase in net finance costs was primarily due to a $2.9 million increase in interest expense on long term debt, primarily due to the increase in indebtedness arising from the acquisition of ZCL in April 2019, a reduction of $0.6 million in interest income and a $0.9 million increase in interest expense on ROU assets on adoption of IFRS 16. This was partially offset by a $0.6 million reduction in other financing expenses.

   Nine Months Ended September 30, 2019 versus Nine Months Ended September 30, 2018

For the nine months ended September 30, 2019, net finance costs were $15.5 million, compared to $8.5 million in the comparable period in the prior year. The increase in net finance costs was primarily due to a $5.1 million increase in interest expense on long term debt, primarily due to the acquisition of ZCL, a reduction of $0.8 million in interest income, and a $2.4 million increase in interest expense on ROU assets on adoption of IFRS 16. This was partially offset by a $1.4 million reduction in other financing expenses.

2.4  Income Taxes

The following table sets forth the income tax expenses for the following periods:

  Three Months Ended  Nine Months Ended 
(in thousands of Canadian dollars)  September 30,
2019 
   June 30,
2019 
  September 30,
2018(a) 
  September 30,
2019 
  September 30,
2018(a) 
 
Income tax expense (recovery)  3,562    (18,750  3,237    (15,792  9,262   

(a) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 - Financial Reporting in Hyperinflationary Economies.

   Third Quarter 2019 versus Second Quarter 2019

The Company recorded an income tax expense of $3.6 million (35% of income before income taxes) in the third quarter of 2019, compared to an income tax recovery of $18.8 million (58% of income before income taxes) in the second quarter of 2019. The increase reflects the recognition in the second quarter of previously unrecognized deferred taxes in the U.S. and Canada associated with the ZCL acquisition purchase accounting, the gain on the sale of land, the gain on the redemption of investment in an associate and the future outlook for the mix of jurisdictions where income is expected to be earned. The effective tax rate in the third quarter of 2019 was higher than the Company’s statutory income tax rate of 26%, primarily due to the mix of jurisdictions where the income was earned and improved results in jurisdictions where the Company is benefiting from previously unrecognized deferred tax assets.

   Third Quarter 2019 versus Third Quarter 2018

The Company recorded an income tax expense of $3.6 million (35% of income before income taxes) in the third quarter of 2019, compared to an income tax expense of $3.2 million (23% of income before income taxes) in the third quarter of 2018. The effective tax rate in the third quarter of 2019 was higher than the Company’s statutory income tax rate of 26% primarily due to the mix of jurisdictions where the income was earned and improved results in jurisdictions where the Company is benefiting from previously unrecognized deferred tax assets.

   Nine Months Ended September 30, 2019 versus Nine Months Ended September 30, 2018

The Company recorded an income tax recovery of $15.8 million (48% of income before income taxes) during the nine-month period ended September 30, 2019, compared to an income tax expense of $9.3 million (30% of income before income taxes) during the nine-month period ended September 30, 2018. The effective tax rate for the nine month period ended September 30, 2019 was lower than the Company’s statutory income tax rate of 26%, primarily due to the recognition of previously unrecognized deferred tax assets in the US and Canada associated with the ZCL acquisition purchase accounting, the gain on the sale of land, the gain on the redemption of investment in an associate and the future outlook for the mix of jurisdictions where income is expected to be earned.

2.5  Foreign Exchange Impact

The following table sets forth the significant currencies in which the Company operates and the average foreign exchange rates for these currencies versus Canadian dollars, for the following periods:

    Three Months Ended
September 30, 
  Nine Months Ended
September 30, 
    2019    2018    2019    2018   
                   
U.S. dollar     1.3203    1.3046    1.3289    1.2851   
Euro    1.4640    1.5196    1.4931    1.5325   
British Pounds    1.6228    1.7063    1.6936    1.7330   

The following table sets forth the impact on revenue, operating income and net income (attributable to shareholders of the Company), compared with the prior quarter and the prior year period, as a result of foreign exchange fluctuations on the translation of foreign currency operations:

(in thousands of Canadian dollars)    Q3-2019
versus
Q2-2019 
    Q3-2019
versus
Q3-2018 
    Q3-2019
YTD versus
Q3-2018
YTD 
 
Revenue   (6,580    (627  (1,011 
Income from operations  (702  (1,725  (3,669 
Net income (attributable to shareholders of the Company)  (341  (1,270  (1,887 

In addition to the translation impact noted above, the Company recorded a foreign exchange gain of $3.2 million in the third quarter of 2019 (nine months ended September 30, 2019 – gain of $3.4 million), compared to a foreign exchange gain of $2.2 million for the comparable period in the prior year (nine months ended September 30, 2018 – a gain of $7.6 million), as a result of the impact of changes in foreign exchange rates on monetary assets and liabilities and short term foreign currency intercompany loans within the group, net of hedging activities, primarily in Latin America.

2.6  Net Income (attributable to shareholders of the Company)

   Third Quarter 2019 versus Second Quarter 2019

Net income decreased by $44.5 million, from a net income of $51.0 million during the second quarter of 2019 to a net income of $6.5 million during the third quarter of 2019. This decrease was mainly due to the $12.3 million decrease in operating income, as explained in Section 2.2 above, the impact from the $9.5 million in net gain from investment in associate and $21.8 million income tax recovery from recognition of previously unrecognized deferred tax assets recorded in the second quarter. Please also refer to Section 6.0 Reconciliation of Non-GAAP measures for Adjusted Net Income Attributable to Shareholders.  

   Third Quarter 2019 versus Third Quarter 2018

Net income decreased by $3.9 million, from $10.4 million during the third quarter of 2018 to $6.5 million during the third quarter of 2019. This was mainly due to an increase of $3.7 in net finance costs, as explained in Section 2.3 above. Please also refer to Section 6.0 Reconciliation of Non-GAAP measures for Adjusted Net Income Attributable to Shareholders.  

   Nine Months Ended September 30, 2019 versus Nine Months Ended September 30, 2018

Net income increased by $27.0 million, from $21.5 million during the nine-month period ended September 30, 2018 to $48.5 million during the nine-month period ended September 30, 2019, mainly due to the $12.8 million increase in operating income, as explained in Section 2.2 above, and the impact from the $9.5 million in net gain from investment in associate and $21.8 million income tax recovery from recognition of previously unrecognized deferred tax assets recorded in the second quarter. This was partially offset by a $7.0 million increase in net finance costs and a $12.3 million charge recorded in the first quarter of 2019 for costs associated with the repayment of long term debt and the establishment of a new credit facility. Please also refer to Section 6.0 Reconciliation of Non-GAAP measures for Adjusted Net Income Attributable to Shareholders.

3.0     SEGMENT INFORMATION

3.1  Pipeline and Pipe Services Segment

The following table sets forth, by geographic location, the revenue, operating income and operating margin for the Pipeline and Pipe Services segment for the following periods:

    Three Months Ended  Nine Months Ended 
(in thousands of Canadian dollars, except percentages)  September 30,
2019 
   June 30,
2019 
  September 30,
2018(b) 
  September 30,
2019 
  September 30,
2018(b) 
 
North America  250,611    245,461    229,527    693,859    602,761   
Latin America    34,223      26,252      17,403      90,278      83,352   
EMAR    52,068      77,686      42,665      186,195      141,520   
Asia Pacific    3,686      8,954      12,444      23,702      73,760   
Total revenue  340,588    358,353    302,039    994,034    901,393   
                     
Operating income  11,775    33,568    12,329    49,896    28,920   
Operating margin(a)    3.5    9.4    4.1    5.0    3.2 

(a) Operating margin is defined as operating income divided by revenue and is a non-GAAP measure. Non-GAAP measures do not have standardized meanings under GAAP and are not necessarily comparable to similar measures provided by other companies. See Section 6.0 - Reconciliation of Non-GAAP Measures.
(b) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 - Financial Reporting in Hyperinflationary Economies.

   Third Quarter 2019 versus Second Quarter 2019

Revenue in the third quarter of 2019 decreased by $17.8 million to $340.6 million, from $358.4 million in the second quarter of 2019. Revenue was impacted by the translation of foreign operations, as noted in Section 2.5 above, and lower activity levels in EMAR and Asia Pacific, partially offset by higher volumes in North America and Latin America:

  • In North America, revenue increased by $5.2 million, or 2%, primarily as a result of increased activity levels in flexible composite pipe and tanks and small diameter pipe coating revenue. This was partially offset by lower demand for large diameter pipe coating, girth weld inspection and engineering services and tubular management services due to the capital discipline focus of exploration and production operators, approval delays on U.S. land transmission line projects and the market softness in Western Canada.
  • Revenue in Latin America increased by $8.0 million, or 30%, primarily as a result of higher activity levels in Mexico from the execution of the Liza II project in the Veracruz facility, partially offset by lower revenue in the Company’s Argentina facilities and the accounting for IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina – refer to Section 7.0 - Financial Reporting in Hyperinflationary Economies.
  • EMAR revenue decreased by $25.6 million, or 33%, primarily due to lower activity levels at the Orkanger, Norway, Ras Al Khaimah, UAE ("RAK") and the Company’s Italian facilities, lower revenue from field joint coating projects and decreased offshore girth weld inspection activity in the region.
  • In Asia Pacific, revenue decreased by $5.3 million, or 59%, primarily due to lower pipe coating project activity at the Kabil, Indonesia and Kuantan, Malaysia facilities.

In the third quarter of 2019, operating income was $11.8 million compared to $33.6 million in the second quarter of 2019, a decrease of $21.8 million. Operating income was negatively impacted by a $27.2 million decrease in the gain on the sale of land and a $2.7 million decrease in gross profit due to the lower revenue, as explained above, partially offset by a 0.7 percentage point increase in gross margin. The increase in the gross margin percentage was primarily due to product and project mix and higher facility utilization and increased absorption of manufacturing overheads. This was partially offset by lower amortization of property, plant, equipment, intangible and ROU assets and a decrease in SG&A expenses in the third quarter of 2019, as explained in Section 2.2 above.

   Third Quarter 2019 versus Third Quarter 2018

Revenue in the third quarter of 2019 was $340.6 million, an increase of $38.6 million, or 13%, from $302.0 million in the comparable period of 2018. This was primarily due to higher revenues in North America from the addition of the ZCL business and higher activity levels in Latin America and EMAR, partially offset by lower revenue in Asia Pacific.

  • North America revenue increased by $21.1 million, or 9%, primarily as a result of the acquisition of ZCL. This was partially offset by lower activity levels for small and large diameter pipe coating, engineering, tubular management and girth weld inspection services and lower volumes for flexible composite pipe, primarily due to the capital discipline focus of exploration and production operators and the market softness in Western Canada.
  • Revenue in Latin America increased by $16.8 million, or 97%, primarily due to the execution of the Liza II project in the Veracruz, Mexico facility in the current year and the accounting for IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina – refer to Section 7.0 - Financial Reporting in Hyperinflationary Economies.
  • In EMAR, revenue increased by $9.4 million, or 22%, primarily due to higher activity levels at the Orkanger, Norway, RAK, Leith, Scotland and the Company’s Italian facilities, higher revenue from field joint coating projects and increased offshore girth weld inspection activity in the region.
  • Revenue in Asia Pacific decreased by $8.8 million, or 70%, mainly due to lower pipe coating project activity at the Kabil, Indonesia and Kuantan, Malaysia facilities.

In the third quarter of 2019, operating income was $11.8 million compared to $12.3 million in the third quarter of 2018, a decrease of $0.6 million. Operating income was negatively impacted by an increase in amortization of property, plant, equipment, intangible and ROU assets and SG&A expenses, as explained in Section 2.2 above. This was partially offset by a $5.4 million gain on the sale of land and a $10.1 million increase in gross profit. The increase in the gross profit was primarily due to the higher revenue, as explained above, partially offset by a 0.4 percentage point decrease in gross margin. The decrease in the gross margin percentage was primarily due to lower utilization in Asia Pacific facilities and the related impact on the absorption of manufacturing overheads.

   Nine Months Ended September 30, 2019 versus Nine Months Ended September 30, 2018

Revenue in the Pipeline and Pipe Services segment for the nine month period ended September 30, 2019 was $994.0 million, an increase of $ 92.6 million, from $901.4 million in the comparable period in the prior year. Segment revenue increased due to higher revenues in North America from the addition of the ZCL business and higher activity levels in EMAR and Latin America, partially offset by lower revenue in Asia Pacific:

  • In North America, revenue increased by $91.1 million, or 15%, primarily as a result of the acquisition of ZCL, improved large diameter pipe coating revenue and increased activity levels in pipe weld inspection services. This was partially offset by lower activity levels for small diameter pipe coating and tubular management services and lower volumes for flexible composite pipe due to the capital discipline focus of exploration and production operators and the market softness in Western Canada.
  • Latin America revenue was higher by $6.9 million, or 8%, mainly due to the start of the execution of the Liza II project in the Veracruz, Mexico facility, higher revenue in Brazil and the accounting for IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina – refer to Section 7.0 - Financial Reporting in Hyperinflationary Economies. This was partially offset by lower large project load-out activity related to the completion of the Sur de Texas project in 2018.
  • Revenue in EMAR increased by $44.7 million, or 32%, primarily due to higher activity levels at the Orkanger, Norway, RAK, Leith, Scotland and the Company’s Italian facilities, higher revenue from field joint coating projects and increased pipe weld service activity in the region.
  • In Asia Pacific, revenue decreased by $50.1 million, or 68%, mainly due to lower pipe coating project activity at the Kabil, Indonesia and Kuantan, Malaysia facilities.

Operating income for the nine month period ended September 30, 2019 was $49.9 million compared to $28.9 million for the nine month period ended September 30, 2018, an increase of $21.0 million. Operating income was positively impacted by a $38.0 million gain on the sale of land. This was partially offset by a $4.5 million decrease in gross profit due a 3.4 percentage point decrease in gross margin, partially offset by the higher revenue, as explained above. The decrease in the gross margin percentage was primarily due to lower large project activity in Latin America compared to a year ago, lower utilization in Asia Pacific facilities and the related impact on the absorption of manufacturing overheads, partially offset by higher utilization in EMAR. In addition, amortization of property, plant, equipment, intangible and ROU assets and SG&A expenses were higher in 2019, as explained in Section 2.2 above.

3.2  Petrochemical and Industrial Segment

The following table sets forth, by geographic location, the revenue, operating income and operating margin for the Petrochemical and Industrial segment for the following periods:

    Three Months Ended  Nine Months Ended 
(in thousands of Canadian dollars, except percentages)  September 30,
2019 
   June 30,
2019 
  September 30,
2018 
  September 30,
2019 
  September 30,
2018 
 
North America  33,332    31,866    27,653    96,853    87,717   
EMAR    17,752      19,759      18,600      58,407      58,435   
Asia Pacific    2,725      2,553      2,757      7,650      8,477   
Total Revenue  53,809    54,178    49,010    162,910    154,629   
                     
Operating income  8,593    8,472    7,888    26,414    25,492   
Operating margin(a)    16.0    15.6    16.1    16.2    16.5 

(a) Operating margin is defined as operating income divided by revenue and is a non-GAAP measure. Non-GAAP measures do not have standardized meanings under GAAP and are not necessarily comparable to similar measures provided by other companies. See Section 6.0 - Reconciliation of Non-GAAP Measures.

   Third Quarter 2019 versus Second Quarter 2019

In the third quarter of 2019, revenue decreased by $0.4 million, or 1%, to $53.8 million, compared to the second quarter of 2019, primarily due to decreased shipments of heat shrink tubing products, particularly in the automotive sector, partially offset by higher activity levels for wire and cable products.

Operating income of $8.6 million in the third quarter of 2019 was $0.1 million higher than in the second quarter of 2019. The increase in operating income was primarily due to a decrease in SG&A expenses, as explained in Section 2.2 above, partially offset by a reduction in gross profit of $0.1 million resulting from the decreased revenue, as explained above.

   Third Quarter 2019 versus Third Quarter 2018

Revenue in the third quarter of 2019 increased by $4.8 million, or 10%, compared to the third quarter of 2018, primarily due to increased shipments for wire and cable products in North America, partially offset by lower revenue for heat shrink tubing products, particularly in the automotive sector.

Operating income in the third quarter of 2019 was $8.6 million compared to $7.9 million in the third quarter of 2018, an increase of $0.7 million, or 9%. The increase in operating income was primarily due to an increase in gross profit of $1.1 million resulting from the increase in revenue, as explained above, partially offset by a 0.6 percentage point decrease in gross margin. The decrease in gross margin was primarily due to unfavourable product mix.

   Nine Months Ended September 30, 2019 versus Nine Months Ended September 30, 2018

Revenue increased in the nine months ended September 30, 2019 by $8.3 million, or 5%, to $162.9 million compared to the comparable period in 2018, primarily due to increased shipments of wire and cable products in North America.

Operating income for the nine months ended September 30, 2019 was $26.4 million, compared to $25.5 million for the comparable period in the prior year. This was mainly due to lower SG&A expenses, as explained in Section 2.2 above, and a $0.5 million increase in gross profit as a result of the increase in revenue, as explained above, partially offset by a 1.2 percentage point decrease in gross margin. The decrease in gross margin was primarily due to unfavourable product mix.

3.3  Financial and Corporate

Financial and corporate costs include corporate expenses not allocated to the operating segments and other non-operating items, including foreign exchange gains and losses on foreign currency denominated cash and working capital balances. The corporate division of the Company only earns revenue that is considered incidental to the activities of the Company. As a result, it does not meet the definition of a reportable operating segment as defined under IFRS.

The following table sets forth the Company’s unallocated financial and corporate expenses, before foreign exchange gains and losses, for the following periods:

    Three Months Ended  Nine Months Ended 
(in thousands of Canadian dollars)  September 30,
2019 
   June 30,
2019 
  September 30,
2018(a) 
  September 30,
2019 
  September 30,
2018(a) 
 
Financial and corporate expenses  (6,429  (11,555  (5,326  (25,535  (20,672 

(a) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 - Financial Reporting in Hyperinflationary Economies.

   Third Quarter 2019 versus Second Quarter 2019

Financial and corporate costs decreased by $5.1 million from $11.6 million during the second quarter of 2019 to $6.4 million in the third quarter of 2019. The decrease primarily reflects that $5.0 million of ZCL acquisition related costs were incurred in the second quarter of 2019. Excluding the impact of the ZCL acquisition costs, financial and corporate costs decreased by $0.4 million, primarily due to a decrease in compensation and other related personnel costs.

   Third Quarter 2019 versus Third Quarter 2018

Financial and corporate costs increased by $1.1 million from the third quarter of 2018 to $6.4 million in the third quarter of 2019. The increase was primarily due to an increase of $0.6 million in professional consulting and legal fees and $0.5 million in research, development and other costs.

   Nine Months Ended September 30, 2019 versus Nine Months Ended September 30, 2018

Financial and corporate costs increased by $4.9 million from the nine month period ended September 30, 2018 to $25.5 million for the nine month period ended September 30, 2019. The increase was primarily due to $5.5 million of ZCL acquisition related costs incurred in the first half of 2019. Excluding the impact of the ZCL acquisition costs, financial and corporate costs decreased by $0.6 million, primarily due to a $1.9 million decrease in management information systems and insurance costs, partially offset by a $1.4 million increase in compensation and other related personnel costs.

4.0     FORWARD-LOOKING INFORMATION

This document includes certain statements that reflect management’s expectations and objectives for the Company’s future performance, opportunities and growth, which statements constitute "forward looking information" and "forward looking statements" (collectively "forward looking information") under applicable securities laws. Such statements, other than statements of historical fact, are predictive in nature or depend on future events or conditions. Forward looking information involves estimates, assumptions, judgements and uncertainties. These statements may be identified by the use of forward looking terminology such as "may", "will", "should", "anticipate", "expect", "believe", "predict", "estimate", "continue", "intend", "plan" and variations of these words or other similar expressions. Specifically, this document includes forward looking information in the Outlook Section and elsewhere in respect of, among other things, the achievement of key performance objectives, the potential for growth in capital expenditures in the offshore oil and gas sector, the achievement of annualized run-rate cost synergies and revenue synergies arising from the acquisition by the Company of ZCL and the timing thereof, the timing to complete certain pipe coating projects, including the Liza II project, the likelihood that projects will be sanctioned in 2019, early 2020 and beyond, and the impact thereof on the Company’s business, the level of financial performance throughout the balance of 2019, the effect of the Company’s diversified portfolio of products on revenue and operating income, the demand for the Company’s products in the Pipeline and Pipe Services segment and the Petrochemical and Industrial segment of the Company’s business, the sufficiency of resources, capacity and capital to meet market demand, to meet contractual obligations and to execute the Company’s development and growth strategy, the sufficiency of the Company’s processes and systems to operate its business and execute its strategic plan, the expected development of the Company’s order backlog and the impact thereof on the Company’s revenue and operating income, including the award of contracts on outstanding bids, the impact of global economic activity on the demand for the Company's products, the impact of continuing demand for oil and gas and prior years’ absence of investments in larger projects on the level of industry investment in oil and gas infrastructure, the impact of global oil and gas commodity prices, the impact of changing energy demand, supply and prices, the impact and likelihood of changes in competitive conditions in the markets in which the Company participates, the adequacy of the Company’s existing accruals in respect of environmental compliance and in respect of litigation and tax matters and other claims generally, and the level of payments under the Company's performance, bid and surety bonds.

Forward looking information involves known and unknown risks and uncertainties that could cause actual results to differ materially from those predicted by the forward looking information. We caution readers not to place undue reliance on forward looking information as a number of factors could cause actual events, results and prospects to differ materially from those expressed in or implied by the forward looking information. Significant risks facing the Company include, but are not limited to: the impact on the Company of changes in the strategy by U.S. oil and gas operators to heighten focus on capital discipline and shareholder returns, the impact on the Company of reduced demand for its products and services, including the suspension or cancellation of existing contracts, as a result of lower investment in global oil and gas extraction and transportation activity following the previous declines in the global price of oil and gas, long term changes in global or regional economic activity and changes in energy supply and demand, which with other factors, impact on the level of global pipeline infrastructure construction; exposure to product and other liability claims; shortages of or significant increases in the prices of raw materials used by the Company; compliance with environmental, trade and other laws; political, economic and other risks arising from the Company’s international operations; and fluctuations in foreign exchange rates, as well as other risks and uncertainties described under "Risks and Uncertainties" in the Company’s annual MD&A and in the Company’s Annual Information Form under "Risk Factors".

These statements of forward looking information are based on assumptions, estimates and analysis made by management in light of its experience and perception of trends, current conditions and expected developments as well as other factors believed to be reasonable and relevant in the circumstances. These assumptions include those in respect of global oil and gas prices, including increases in expenditures on natural gas infrastructures, increased capital expenditures in the global offshore oil and gas segment, modest global economic growth, softening demand in the automotive market and stable demand in the European and North American industrial markets as such apply to the Company’s Petrochemical and Industrial segment, the Company’s ability to execute projects under contract, the continued supply of and stable pricing for commodities used by the Company, increases in rail and transportation costs, the availability of personnel resources sufficient for the Company to operate its businesses, the maintenance of operations in major oil and gas producing regions, the continued successful integration of the business and operations of ZCL, and the ability of the Company to satisfy all covenants under the Credit Facility. The Company believes that the expectations reflected in the forward looking information are based on reasonable assumptions in light of currently available information. However, should one or more risks materialize or should any assumptions prove incorrect, then actual results could vary materially from those expressed or implied in the forward looking information included in this document and the Company can give no assurance that such expectations will be achieved.

When considering the forward looking information in making decisions with respect to the Company, readers should carefully consider the foregoing factors and other uncertainties and potential events. The Company does not assume the obligation to revise or update forward looking information after the date of this document or to revise it to reflect the occurrence of future unanticipated events, except as may be required under applicable securities laws.

To the extent any forward looking information in this document constitutes future oriented financial information or financial outlooks, within the meaning of securities laws, such information is being provided to demonstrate the potential of the Company and readers are cautioned that this information may not be appropriate for any other purpose. Future oriented financial information and financial outlooks, as with forward looking information generally, are based on the assumptions and subject to the risks noted above.

Shawcor will be hosting a Shareholder and Analyst Conference Call and Webcast on Wednesday, November 13th, 2019 at 9:00 AM ET, which will discuss the Company’s Third Quarter 2019 Financial Results. 

To participate via telephone, please dial 1-877-776-4039 or 1-315-625-6955. Conference Call ID: 4383744; alternatively, please go to the following website address to participate via webcast: 
https://edge.media-server.com/mmc/p/4r3p49kj

Shawcor Ltd.
Interim Consolidated Balance Sheets (Unaudited)

      September 30,      December 31,   
(in thousands of Canadian dollars)    2019      2018(a)   
             
ASSETS             
             
Current Assets             
Cash and cash equivalents  82,266    217,264   
Short-term investments    –      2,046   
Loans receivable    1,126      2,492   
Accounts receivable    282,435      241,497   
Contract assets     72,551      31,404   
Income taxes receivable    31,662      27,476   
Inventories    169,083      136,997   
Prepaid expenses    24,161      22,116   
Derivative financial instruments    51      1,102   
Total current assets    663,335      682,394   
             
Non-current Assets             
Loans receivable    –      545   
Property, plant and equipment    439,737      442,941   
Right-of-use assets    80,846      –   
Intangible assets    323,196      155,454   
Investments in associates    10,007      30,219   
Deferred income tax assets    29,207      31,290   
Other assets    6,395      8,880   
Goodwill    430,674      350,402   
Total non-current assets    1,320,062      1,019,731   
TOTAL ASSETS  1,983,397    1,702,125   
             
LIABILITIES AND EQUITY             
             
Current Liabilities             
Accounts payable and accrued liabilities  225,483    206,860   
Provisions     18,696      23,924   
Income taxes payable    20,571      26,139   
Derivative financial instruments    430      226   
Contract liabilities    36,471      23,603   
Lease liabilities    19,025      1,155   
Other liabilities    11,850      7,339   
Total current liabilities    332,526      289,246   
             
Non-current Liabilities             
Long-term debt    445,259      267,781   
Lease liabilities    66,853      10,388   
Provisions     25,692      34,979   
Employee future benefits    15,131      15,190   
Deferred income tax liabilities    30,628      4,632   
Other liabilities    13,388      10,259   
Total non-current liabilities    596,951      343,229   
Total liabilities    929,477      632,475   
             
Equity             
Share capital    710,287      708,833   
Contributed surplus    31,979      30,187   
Retained earnings    285,334      271,429   
Non-controlling interests    4,795      5,418   
Accumulated other comprehensive income    21,525      53,783   
Total equity     1,053,920      1,069,650   
TOTAL LIABILITIES AND EQUITY  1,983,397    1,702,125   

(a) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 - Financial Reporting in Hyperinflationary Economies.



Shawcor Ltd.
Interim Consolidated Statements of Income (Unaudited)

    Three Months Ended
September 30, 
    Nine Months Ended
September 30, 
 
(in thousands of Canadian dollars, except per share amounts)    2019     2018(a)     2019     2018(a)  
                 
Revenue                 
Sale of products  189,423    154,206    507,549    468,242   
Rendering of services    204,592      196,383      647,833      586,482   
    394,015      350,589      1,155,382      1,054,724   
                 
Cost of Goods Sold and Services Rendered    279,397      247,093      825,140      720,435   
                 
Gross Profit    114,618      103,496      330,242      334,289   
                 
Selling, general and administrative expenses    77,398      68,640      233,488      227,959   
Research and development expenses    3,716      2,779      10,411      9,173   
Foreign exchange gains    (3,178    (2,166    (3,352    (7,547 
Amortization of property, plant and equipment    14,100      12,584      40,806      49,665   
Amortization of intangible assets     6,170      4,602      19,342      13,752   
Amortization of right-of-use assets    4,681      –      13,414      –    
Gain on sale of land    (5,386    –      (37,994    –   
Income from Operations    17,117      17,057      54,127      41,287   
                 
Income from investments in associates    234      452      8,976      629   
Finance costs, net    (6,528    (2,845    (15,468    (8,496 
Cost associated with repayment of long-term debt and credit facilities    –      –      (12,308    –   
Net monetary loss    (504    (852    (2,391    (2,075 
Income before Income Taxes    10,319      13,812      32,936      31,345   
                 
Income tax expense (recovery)    3,562      3,237      (15,792    9,262   
                 
Net Income  6,757    10,575    48,728    22,803   
                 
Net Income Attributable to:                 
Shareholders of the Company  6,520    10,373    48,490    21,510   
Non-controlling interests    237      202      238      573   
Net Income  6,757    10,575    48,728    22,083   
                 
Earnings per Share                 
Basic  0.09    0.15    0.69    0.31   
Diluted  0.09    0.15    0.69    0.31   
                 
Weighted Average Number of Shares Outstanding (000s)                 
Basic    70,152      70,075      70,137      70,050   
Diluted    70,434      70,199      70,420      70,197   

(a) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 - Financial Reporting in Hyperinflationary Economies.



Shawcor Ltd.
Interim Consolidated Statements of Comprehensive Income (Loss) (Unaudited)

    Three Months Ended
September 30, 
  Nine Months Ended
September 30, 
(in thousands of Canadian dollars)    2019     2018(a)     2019     2018(a)  
                 
                 
Net Income  6,757    10,575    48,728    22,083   
                 
Other Comprehensive (Loss) Income to be Reclassified to Net Income in Subsequent Periods                 
                 
Exchange differences on translation of foreign operations    (2,150    (19,898    (36,983    13,373   
Other comprehensive (loss) income attributable to investments in associates    (2    22      (17    (103 
Cash flow hedge gains    –      –      3,869      –   
Net Other Comprehensive (Loss) Income to be Reclassified to Net Income in Subsequent Periods    (2,152    (19,876    (33,131    13,270   
                 
                 
Other Comprehensive Income (Loss) not to be Reclassified to Net Income in Subsequent Periods                 
                 
Actuarial gain (loss) on defined benefit plans    39      (11    (9    15   
Income tax (expense) recovery    (13        21      (3 
                 
Net Other Comprehensive Income (Loss) not to be Reclassified to Net Income in Subsequent Periods    26      (8    12      12   
                 
Other Comprehensive (Loss) Income, Net of Income Tax    (2,126    (19,884    (33,119    13,282   
                 
Total Comprehensive Income (Loss)  4,631    (9,309  15,609    35,365   
                 
                 
Comprehensive Income (Loss) Attributable to:                 
Shareholders of the Company  5,126    (8,911  16,232    36,111   
Non-controlling interests    (495    (398    (623    (746 
Total Comprehensive Income (Loss)  4,631    (9,309  15,609    35,365   

(a) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 - Financial Reporting in Hyperinflationary Economies.



Shawcor Ltd.
Interim Consolidated Statements of Changes in Equity (Unaudited)

(in thousands of Canadian dollars)    Share
Capital 
  Contributed
Surplus 
  Retained
Earnings(a) 
  Non-controlling Interests    Accumulated
Other
Comprehensive
Income 
  Total
Equity(a) 
 
               
Balance - December 31, 2018    708,833    30,187    271,429    5,418    53,783    1,069,650   
Adjustment for IFRS 16, Leases    –    –    (3,023  –    –    (3,023 
Adjusted balance – January 1, 2019    708,833    30,187    268,406    5,418    53,783    1,066,627   
                 
Net income    –    –    48,490    238    –    48,728   
Other comprehensive loss    –    –    –    (861  (32,258  (33,119 
Comprehensive income (loss)    –    –    48,490    (623  (32,258  15,609   
Issued on exercise of stock options    357    –    –    –    –    357   
Compensation cost on exercised options    139    (139  –    –    –    –   
Compensation cost on exercised Restricted Share Units    958    (958  –    –    –    –   
Share-based compensation expense    –    2,889    –    –    –    2,889   
Dividends declared and paid to shareholders    –    –    (31,562  –    –    (31,562 
                 
Balance - September 30, 2019    710,287    31,979    285,334    4,795    21,525    1,053,920   
                 
                 
Balance – December 31, 2017    704,956    27,651    302,206    5,848    4,123    1,044,784   
Hyperinflation adjustments for Argentina(a)    –    –    (14,624  (369  19,307    4,314   
Adjusted balance – January 1, 2018    704,956    27,651    287,582    5,479    23,430    1,049,098   
                 
Net income    –    –    21,510    573    –    22,083   
Other comprehensive loss    –    –    –    (1,319  (4,706  (6,025 
Comprehensive income (loss)    –    –    21,510    (746  (4,706  16,058   
Issued on exercise of stock options    1,792    –    –    –    –    1,792   
Compensation cost on exercised stock options    694    (694  –    –    –    –   
Compensation cost on exercised Restricted Share Units    1,070    (1,070  –    –    –    –   
Share-based compensation expense    –    3,476    –    –    –    3,476   
Dividends declared and paid to shareholders    –    –    (31,526  –    –    (31,526 
                 
Balance – September 30, 2018    708,512    29,363    277,566    4,733    18,724    1,038,898   

(a) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 - Financial Reporting in Hyperinflationary Economies.



Shawcor Ltd.
Interim Consolidated Statements of Cash Flows (Unaudited)


(in thousands of Canadian dollars) 
    Three Months Ended
September 30, 
  Nine Months Ended
September 30, 
      2019     2018(a)     2019     2018(a)  
Operating Activities                   
Net income    6,757    10,575    48,728    22,083   
Add (deduct) items not affecting cash                   
Amortization of property, plant and equipment      14,100      12,584      40,806      49,665   
Amortization of intangible assets      6,170      4,602      19,342      13,752   
Amortization of right-of-use assets      4,681      –      13,414      –   
Amortization of long-term prepaid expenses      59      45      258      136   
Impact of Inventory revaluation adjustment      3,612      –      7,000      –   
Interest expense on right-of-use asset leases      861      –      2,421      –   
Decommissioning liabilities expenses (recovery)      93      130      (1,530    340   
Other provision (recovery) expenses      (875    3,955      3,416      3,722   
Share-based compensation and incentive-based compensation      2,674      2,816      12,479      9,429   
Deferred income taxes      (4,449    826      (28,535    (1,627 
Loss (gain) on disposal of property, plant and equipment      702      (479    389      (290 
Gain on sale of land      (5,386    –      (37,994    –   
Unrealized (gain) loss on derivative financial instruments      (50    1,264      1,255      (2,058 
Income from investments in associates      (234    (452    (8,976    (629 
Cost associated with repayment of long-term debt and credit facilities      189      –      5,542      –   
Other      –      –      –      (4,112 
Settlement of decommissioning liabilities      (152    –      (889    –   
Settlement of other provisions      (2,805    (1,393    (13,748    (7,551 
Net change in employee future benefits      1,036      122      750      (71 
Change in non-cash working capital and foreign exchange      (18,838    (54,626    (58,980    (103,567 
Cash Provided by (Used in) Operating Activities    8,145    (20,031  5,148    (20,778 
                   
Investing Activities                   
Decrease in loans receivable      612      579      1,824      1,420   
Decrease in short-term investments      –      –      2,046      –   
Purchase of property, plant and equipment      (10,038    (18,775    (34,589    (50,990 
Proceeds on disposal of property, plant and equipment      6,988      841      47,659      1,490   
Decrease (increase) in other assets      128      300      366      (2,691 
Proceeds from redemption of investments in associate      –      –      29,171      –   
Business acquisition, net of cash acquired      –      –      (291,477    –   
Cash Used in Investing Activities      (2,310    (17,055    (245,000    (50,771 
                   
Financing Activities                   
Decrease in bank indebtedness      –      –      (17,608    –   
(Repayment) increase of long-term debt      (29,000    –      175,693      –   
Repayment of lease liabilities      (5,238    (309    (18,677    (855 
Issuance of shares      –      352      357      1,792   
Dividends paid to shareholders      (10,522    (10,510    (31,562    (31,526 
Cash (Used in) Provided by Financing Activities    (44,760  (10,467  108,203    (30,589 
                   
Effect of Foreign Exchange on Cash and Cash Equivalents      (1,219    (4,014    (3,349    3,324   
                   
Net decrease in Cash and Cash Equivalents      (40,144    (51,567    (134,998    (98,814 
Cash and Cash Equivalents - Beginning of Period      122,410      241,818      217,264      289,065   
                   
Cash and Cash Equivalents - End of Period    82,266    190,251    82,266    190,251   

(a) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 - Financial Reporting in Hyperinflationary Economies.

6.0     Reconciliation of Non-GAAP Measures

The Company reports on certain non-GAAP measures that are used to evaluate its performance and segments, as well as to determine compliance with debt covenants and to manage its capital structure. These non-GAAP measures do not have standardized meanings under IFRS and are not necessarily comparable to similar measures provided by other companies. The Company discloses these measures because it believes that they provide further information and assist readers in understanding the results of the Company’s operations and financial position. These measures should not be considered in isolation or used in substitution for other measures of performance prepared in accordance with GAAP. The following is a reconciliation of the non-GAAP measures reported by the Company.  

EBITDA and Adjusted EBITDA

EBITDA is a non-GAAP measure defined as earnings before interest, income taxes, depreciation and amortization.  Adjusted EBITDA is also a non-GAAP measure defined as EBITDA adjusted for items which do not impact day to day operations. The Company believes that EBITDA and Adjusted EBITDA are useful supplemental measures that provide a meaningful indication of the Company’s results from principal business activities prior to the consideration of how these activities are financed or the tax impacts in various jurisdictions and for comparing its operating performance with the performance of other companies that have different financing, capital or tax structures. The Company presents Adjusted EBITDA as a measure of EBITDA that excludes the impact of transactions that are outside the Company’s normal course of business or day to day operations. Adjusted EBITDA is used by many analysts in the oil and gas industry as one of several important analytical tools to evaluate financial performance and is a key metric in business valuations. It is also considered important by lenders to the Company and is included in the financial covenants of the Company’s debt agreements.

    Three Months Ended
September 30, 
  Nine Months Ended
September 30, 
(in thousands of Canadian dollars)    2019     2018(b)     2019     2018(b)  
                     
Net Income  6,757    10,575    48,728    22,083   
                     
Add:                     
Income tax expense (recovery)    3,562      3,237      (15,792    9,262   
Finance costs, net    6,528      2,845      15,468      8,496   
Amortization of property, plant, equipment, intangible and ROU assets    24,951      17,186      73,562      63,417   
Cost associated with repayment of long-term debt and credit facilities    –      –      12,308      –   
EBITDA(a)  41,798    33,843    134,274    103,258   
ZCL acquisition costs and other related items    3,674      –      16,357      –   
Hyperinflation adjustment for Argentina(b)    2,310      4,446      3,904      7,390   
Gain on sale of land    (5,386    –      (37,994    –   
Gain on redemption of investment in associate    –      –      (9,687    –   
ADJUSTED EBITDA(a)  42,396    38,289    106,854    110,648   

(a) Adjusted EBITDA and EBITDA are used by many analysts in the oil and gas industry as one of several important analytical tools.
(b) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 - Financial Reporting in Hyperinflationary Economies.

The Company adopted IFRS 16 in the first quarter of 2019. This new accounting standard requires the Company to recognize a lease ROU asset and a lease liability to reflect the benefit the Company obtains from the underlying asset in the lease and the requirement to pay the amounts included in the lease contract. Under the previous standard, IAS 17 Leases, costs relating to operating leases were recognized on a straight-line basis as a SG&A expense. Under IFRS 16, the Company records an amortization expense as amortization of ROU assets and records an interest expense relating to the lease liability. The amount of the amortization and interest recorded for the three months ended September 30, 2019 was $4.7 million and $0.9 million, respectively. The amount of the amortization and interest recorded for the nine months ended September 30, 2019 was $13.4 million and $2.4 million, respectively. The effect of this new accounting standard increased EBITDA by $5.5 million and $15.8 million for the three months and nine months ended September 30, 2019, respectively. The standard was adopted prospectively from January 1, 2019, and accordingly the 2018 results have not been affected.

Adjusted Net Income and Adjusted EPS

Adjusted net income is a non-GAAP measure defined as net income before acquisition-related and integration items, including transaction costs and financing fees; cost reduction and integration related initiatives such as separation benefits, retention payments, other exit costs, impact of inventory revaluation adjustment and certain costs associated with integrating an acquired company’s operations; gains or losses from early termination of debt and hedging activities; gains and losses on the disposal of land; gain on redemption of investment in associate; asset impairment charges; hyperinflation adjustment for Argentina and the tax effect of the pre-tax adjustments above at applicable tax rates and certain other tax items. We define adjusted EPS as adjusted net income attributable to shareholders divided by the weighted average number of shares and the weighted average number of diluted shares.

    Three Months Ended
September 30, 
  Nine Months Ended
September 30, 
(in thousands of Canadian dollars, except per share amounts)    2019      2018(a)      2019      2018(a)   
                 
Net Income  6,757    10,575    48,728    22,083   
                 
Add:                 
ZCL acquisition costs and other related items    3,674      –      16,357      –   
Hyperinflation adjustment for Argentina    2,636      4,514      5,832      8,627   
Cost associated with repayment of long-term debt and credit facilities    –      –      12,308      –   
Gain on sale of land    (5,386    –      (37,994    –   
Gain on redemption of investment in associate    –      –      (9,687    –   
Tax effect of the above adjustments    (1,438    (1,151    (7,081    (1,277 
Adjusted Net Income  6,243    13,938    28,463    29,433   
Adjusted Net Income Attributable to Shareholders    6,006      13,736      28,225      28,860   
Adjusted EPS                 
Basic  0.09    0.20    0.40    0.41   
Diluted  0.09    0.20    0.40    0.41   

(a) Includes the impact of the adoption of IAS 29, Financial Reporting in Hyperinflationary Economies for Argentina as of January 1, 2018. See Section 7.0 -Financial Reporting in Hyperinflationary Economies.

Operating Margin

Operating margin is defined as operating income divided by revenue and is a non-GAAP measure. The Company believes that operating margin is a useful supplemental measure that provides meaningful assessment of the business performance of the Company and its Operating Segments. The Company uses this measure as a key indicator of financial performance, operating efficiency and cost control based on volume of business generated.

7.0     Financial Reporting in Hyperinflationary Economies

In July 2018, the Argentine three-year cumulative rate of inflation for consumer prices and wholesale prices reached a level in excess of 100%. As a result, in accordance with IAS 29, Financial Reporting in Hyperinflationary Economies ("IAS 29"), Argentina was considered a hyperinflationary economy, effective January 1, 2018. Accordingly, the presentation of IFRS financial statements includes adjustments and reclassifications for the changes in the general purchasing power of the Argentine peso.

On the application of IAS 29, the Company used the conversion coefficient derived from the consumer price index ("CPI") in the Greater Buenos Aires area published by the National Statistics and Census Institution in Argentina. The CPIs for the current quarter and prior year quarters and the corresponding conversion coefficient were as follows:

Year    Index    Conversion
coefficient 
  CAD/ARS
exchange rate 
2018 – September    616.55    1.5222    0.031353 
2018 – December    707.26    1.3270    0.036229 
2019 – March    777.07    1.2078    0.030804 
2019 – June    864.23    1.0860    0.030809 
2019 – September    938.54    1.0000    0.022995 

Monetary assets and liabilities are not restated because they are already expressed in terms of the monetary unit current as at September 30, 2019. Non-monetary assets, liabilities, equity, revenue and expenses (items that are not already expressed in terms of the monetary unit as at September 30, 2019) are restated by applying the index at the end of the current reporting period. The effect of inflation on the Argentine subsidiary’s net monetary position is included in the interim consolidated statements of income as a net monetary loss.

The application of IAS 29 results in the adjustment for the loss of purchasing power of the Argentine peso recorded in the interim consolidated statements of income. In a period of inflation, an entity holding an excess of monetary assets over monetary liabilities loses purchasing power, which results in a loss on the net monetary position. This loss/gain is derived as the difference resulting from the restatement of non-monetary assets, liabilities and equity.

As per IAS 21, The Effects of Changes in Foreign Exchange Rates, all amounts (i.e., assets, liabilities, equity, revenue and expenses) are translated at the closing foreign exchange rate at the date of the most recent interim consolidated balance sheet, except that comparative amounts are not adjusted for subsequent changes in the price level or subsequent changes in exchange rates. Similarly, in the period during which the functional currency of a foreign subsidiary becomes hyperinflationary and applies IAS 29 for the first time, the parent’s consolidated financial statements for the comparative period are not required to be restated for the effects of hyperinflation.

The impact of IAS 29 for selected items on our consolidated statements of income was as follows:

    Three Months Ended
September 30, 
  Nine Months Ended
September 30, 
(in thousands of Canadian dollars, except per share amounts)    2019      2018      2019      2018   
                 
Revenue  (4,582  (7,053  (3,790  (11,324 
Gross profit    (1,375    (2,102    (1,126    (3,200 
Foreign exchange loss    1,171      2,772      992      3,958   
Loss from operations    (2,001    (3,670    (3,330    (6,559 
Net monetary loss    (504    (852    (2,391    (2,075 
Loss before income taxes    (2,636    (4,514    (5,832    (8,627 
Income tax recovery    (607    (1,151    (114    (1,277 
Net Loss  (2,029  (3,363  (5,718  (7,350 
                 
Earnings per Share                 
Basic  (0.03  (0.05  (0.08  (0.10 
Diluted  (0.03  (0.05  (0.08  (0.10 
Source: EvaluateEnergy® ©2019 EvaluateEnergy Ltd