Good day, ladies and gentlemen, and welcome to the Kadant Inc. Fourth Quarter 2018 Earnings Conference Call. At this time all participants in a listen-only mode. Later there will be a question-and-answer session and instructions will be given at that time. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to turn the conference over to Michael McKenney, Executive Vice President and Chief Financial Officer. Sir, you may begin.

Thank you, Shannon. Good morning, everyone, and welcome to Kadant's Fourth Quarter and Full Year 2018 Earnings Call. With me on the call today is Jon Painter, our President and Chief Executive Officer. Before we begin, let me read our safe harbor statement. Various remarks that we may make today about Kadant's future plans and expectations, financial and operational results and prospects are forward-looking statements for purposes of the safe harbor provisions under the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to known and unknown risks and uncertainties that may cause our actual results to differ materially from these forward-looking statements as a result of various important factors, including those outlined at the beginning of our slide presentation and those discussed under the heading, Risk Factors, in our annual report on Form 10-K for the fiscal year ended December 30, 2017, and subsequent filings with the Securities and Exchange Commission. In addition, any forward-looking statements we make during this webcast represent our views and estimates only as of today. While we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so even if our views or estimates may change. During this webcast, we'll refer to some non-GAAP financial measures. These non-GAAP measures are not prepared in accordance with generally accepted accounting principles. A reconciliation of the non-GAAP financial measures to the most directly comparable GAAP measures is contained in our fourth quarter and full year earnings press release and the slides presented on the webcast and discussed in the conference call, which are available in the Investors section of our website at www.kadant.com under the heading Investor News. With that, I'll turn the call over to Jon Painter, who will give you an update on Kadant's business and future prospects. Following Jon's remarks, I'll give an overview of our financial results for the quarter and the year, and we will then have a Q&A session. Jon?

Thanks, Mike. Hello, everyone. Thank you for joining us this morning to review our fourth quarter and full year results and discuss our business outlook for 2019. The fourth quarter was an extraordinary finish to a record-setting year with solid execution and record adjusted diluted earnings per share. We also had record performance for the full year 2018 in bookings, revenue, adjusted EBITDA as well as GAAP and adjusted diluted earnings per share. I'll begin my review with the financial highlights of the quarter. As you can see on Slide 5, our financial performance in Q4 was extremely strong. Revenue was up 10% to $164 million. Gross margin remained healthy at 43%. Adjusted EBITDA was up 20%, just $32 million or just under 20% of revenue. GAAP diluted earnings per share was a strong beat at $1.61. On an adjusted basis, EPS was up 46% to a record $1.66. There are several factors contributing to our strong earnings per share performance, which Mike will review in his remarks. Cash flow from operation was $10 million, leaving us with net debt at the end of the quarter of $130 million and our leverage ratio, as defined in our credit facility, was 1.2. Of course, this does not include the $180 million of borrowings we made in early Q1 of this year to finance the Syntron acquisition. Including the Syntron acquisition, we expect our leverage ratio under our credit facility to be approximately 2.4%. Now let me turn to our full year results. Our full year 2018 financial performance exceeded our record setting 2017 performance as a result of excellent execution of our existing businesses, strong contributions from our prior year acquisitions and favorable market conditions. Bookings were outstanding, up 29% to a record $670 million. Revenue was up 23% to a…

Thank you, Jon. I'll start with our gross margin performance. Consolidated product gross margins were 43.3% both the fourth quarter of 2018 and 2017. The consolidated gross margin in the fourth quarter of 2017 were negatively affected by the amortization of acquired profit in inventory related to acquisitions, which lowered consolidated gross margins by 120 basis points. Adjusting for this amortization, our gross margins were 44.5% in the fourth quarter of 2017. Comparing the fourth quarter of 2018 to the adjusted fourth quarter of 2017, gross margins were down 120 basis points. This decrease was primarily due to lower overall percentage of Parts & Consumables revenue, which represented 55% of total revenue in the fourth quarter of 2018 compared to 62% in the fourth quarter of 2017. For the full year 2018, product gross margins were 43.9% compared to 44.9% in 2017. Excluding the amortization of profit in inventory in 2017, gross margins were 45.9%. The 200-basis-point decrease from 2017 to 2018 is due to the inclusion of a full year from the businesses acquired in 2017 and the 2018 mix being more heavily weighted to capital. Looking ahead, we expect that full year 2019 consolidated product gross margins will be approximately 41.5% to 42.5%. The 190-basis-point decrease from 2018 compared to the middle of the guidance range is due to Syntron having a lower gross margin profile than Kadant and 60 basis points due to the estimated amortization of acquired profit in inventory related to the Syntron acquisition. In the first quarter of 2019, we expect approximately 175-basis-point reduction in gross margins due to the estimated amortization of acquired profit in inventory. Now let's turn to Slide 19 and our quarterly SG&A expenses. SG&A expenses were $43.6 million in the fourth quarter of 2018, down $0.2 million from the…

Thanks, Mike. Before I turn the call over for questions, I just want to make a few remarks about the other press release we issued yesterday regarding my upcoming retirement and the appointment of Jeff Powell as my successor. I'm delighted that the Board has selected Jeff as the new CEO. Jeff and I have known each other for over 30 years and worked together at Kadant for over 10. Jeff's run Material Processing group, which is about 60% of our business and includes our Stock-Preparation and Wood Processing product lines. Under Jeff's leadership, the Material Processing group has grown four-fold through a combination of strong internal growth and acquisitions, while improving operating margins. In addition, Jeff has led our largest and most successful acquisitions, including Carmanah in 2013, PAAL in 2016, the Forest Products business of NII in 2017 and Syntron in 2019. Jeff and I think very much the same about what makes a good acquisition, what it should cost and how it should be integrated into Kadant. I feel Kadant is as strong and stable as it's ever been and well positioned to prosper in the coming years under Jeff's leadership. Let me now open the call up to the operator for questions. Operator?

Thank you. [Operator Instructions] Our first question comes from Chris Howe with Barrington Research. Your line is open.

Good morning, everyone.

Hey, Chris. A - Michael McKenney Morning, Chris.

Hey, good morning. I have a few questions here just to start off. The first in regard to Syntron, can you give us some more granular detail into their performance in 2018 and what your expectations are for its performance in 2019 within your guidance?

So what - you might recall that on the last call, we said they did $89 million and a little under $19 million of EBITDA for the 12 months ended October. Like a lot of acquisitions that we do relative to us, they have lower gross margins, I would say kind of in the sort of lower 30s, but better SG&A leverage, and hence they have EBITDA margins in the 20%, 21% range versus us - we're aspiring to the 20% range. Their CapEx is similar to us. It's an asset-light business. I think you can expect CapEx in the $1.5 million to $2 million range, good cash flow characteristics. And of course, they have this - probably because they're 100% U.S. based and probably because of the structure, they have really terrific tax attributes, if you will, their tax rate.

Essentially, cash taxes will likely be zero in the short term.

So that's - we're not - how's that?

Next question, it was mentioned on the last call about Nine Dragons and their plan within the U.S. in regard to linerboard. Any update to their strategic plans for linerboard that will go to China or it's still wait and see basis?

We haven't heard - no change has been announced for what they're doing. They're still moving forward. I haven't heard anything about whether they're going to make pulp and ship it to China or make linerboard. It probably makes more sense to make linerboard, would be my guess. But I don't - there's really nothing to update on that.

Okay. And then my last question is just a follow-up to your comments on Jeff Powell, who will be the new CEO. You mentioned, he comes from Material Processing with a good background in acquisitions. Who will be running Material Processing once Jeff assumes his new role?

So we have - and actually it's one of the things I'm most proud about Kadant. There are two - the person who is running the U.S. Stock-Preparation business, our Black Clawson subsidiary is taking over the Stock-Preparation aspect of this business. And Michael Colwell, who was running our strander business, our OSB business, is taking over the Woodside of his business. So we're essentially – two people are taking over his job, well, only one is taking over mine. But anyway, yes, so we have all internal people and they were the presidents of their operations. They have kind of long tenure running the larger operations within their sector and people are stepping up sort of behind them. So it's good to do it internally. I think it speaks well of our -- of the depth of our group.

That’s all I have for now. I’ll hop in the queue and thanks for your comments.

Okay. Thank you, Chris.

Thank you. Our next question comes from Dan Jacome with Sidoti. Your line is open.

Good morning.

Hey, Dan.

Good morning, Dan.

First congrats, Jon, Jeff, on the announced transition. Excited to see how that unfolds the next couple of years. Just wanted to learn a little bit more about Syntron assets. They look - it looks like third of the revenue is coming from the mining minerals industry. And I wanted to see if you can give us a little bit more color on some of their end markets, how much is going to the coal, copper and potash market? Seeing - and just wondering if you've seen any industry-wide maybe projects on the copper side, the potash projects, that could potentially help the company? I'm only asking because like it's mostly U.S.-based revenue, and then for example, with the potash markets, I think, a lot of the production is outside of the U.S. I'm just wondering a little bit about that? That was my first question.

Sure. One of the things - a good question, Dan. One of the things, I would say, we like about Syntron is they have a pretty diverse end market mix. So you can - even a descent hump, let's say a third is mining related, there's a big difference in the end markets whether you're mining copper, potash or met coal. So they all have kind of, I would say, different drivers. Something around 15% of their business is in the aggregates. And that is - there is a fair degree of optimism. They're actually having a showdown at Atlanta right now, and people are pretty optimistic. One, about a potential infrastructure build, but also states are also moving forward on infrastructure type projects. So that's, I would say, fairly positive. The mining as a generalization, it's had a couple of years of strong growth. People are expecting it to be pretty much flattish in 2019 as far as production, but we actually think in terms of investment in the minds, we're going to have some good years going forward, primarily because they are under invested in that - in those facilities for a number of years and you sort of expect to catch up. The other side of their business, the - what I call the Syntron, the vibratory feeder side, that there's a light industry part of that, which is involved in things like food packaging, that kind of stuff, quite healthy, good - all these are, I would say, stable growth areas.

Okay. But the aggregate part is definitely interesting - is that - how does that work?

I would put the aggregates as probably that the 1 - in the short term, I would say, we're most optimistic about and food is also right up there, food and packaging, generally.

Okay. How do the aggregates exposure work exactly? Do they have - is there like linked belt conveying some sort of ready mix concrete or something like that? I'm not an expert in that...

No. It's just big sand and gravel pit, for example. They got to move the sand and gravel out from the ground back to local facilities.

Okay. And another question maybe - you called out the internal growth going forward would be modest and maybe I'd be lucky enough to get a little bit more color on that, how do you define modest - would it be modestly closer to mid-singles or can - look, I know on a couple of calls ago, you said 10% was unreasonable, but then looking at your underlying business, strong in so many aspects, 3% is too conservative. So I'm just seeing where you guys sit on that?

Well, we - on our last Investor Call in 2016, we kind of said, we expected internal growth of 2% to 3%. And with the benefit of hindsight, that certainly has proved conservative. That said, I think the 2017 and 2018 were extraordinarily strong years, and I don't expect to have that level of internal growth; whether something along the lines of global growth, which people are putting in 2% to 3% range, I think, it's probably a reasonable number. We're going to put in our Investor Meeting that we're going to have on March 7, we will give another look at what's coming up in 5 years and give you -- in fact, Jeff will give you his 5 year thoughts about internal growth and acquisition growth going forward.

Okay, terrific. I’ll see you there.

That’s great.

Thank you. [Operator Instructions] Our next question comes from Walter Liptak with Seaport Global. Your line is open.

Hi, thanks. Good morning, guys.

Hey, Walt.

Good morning, Walt.

Morning. So I wanted to ask, I think you guys gave an EBITDA range of $128 million to $131 million, is that right compared to $115 million?

Yes.

Okay. And the Syntron deal looks like it will add $15 million or $16 million in EBITDA. I wonder if you could help us with the math on organic core growth to EBITDA versus acquisition growth?

Well, Walt, are you talking the margin -- the margin growth?

No, just in dollars. I mean, to get to the $128 million to $131 million, that's $15 million, $16 million of EBITDA. And it looks like from M&A alone, that will get you there. So I'm wonder what you're thinking about for EBITDA growth for the core business?

We are losing some EBITDA in China for sure. So that's a drag on EBITDA. I think it speaks a little bit of the resilience of the company that other regions kind of offset that. But I would say, EBITDA out of China, we have lower, definitely lower expectations for 2018, I mean, 2019. So that factors in there as well.

Okay. Kind of along those lines, last year, I think, we are looking for China to slowdown, which again, but then there was a step up, I think, in the second quarter with some orders coming in. I wonder how concerned should we be about China for this year? And is there a chance that this is just lumpiness that typically happens and that we could ever repeat in 2019 with orders coming in later in the year?

So that's a great question, which I can muse on, but I don't think we have a crystal ball on that. But we've been saying for a while now, going on two years, that we expected on the pulp and paper capital side that the second half of '18 would be slower because - just because of the capacity that they're adding and generally the economy there is slowing for sure. You're absolutely right, Walt, that the orders in Southeast Asia in response to this wastepaper thing offset that, and also the OSB activity was new. As I look forward into 2019, I guess, I have two comments. One is, if you looked at that chart on Asia, it looked like we obviously had a pretty significant drop in bookings in Q4, and my comments about getting $9 million of orders in Q1, I think, should make it seem less dramatic than that chart might have set. I think that frankly, we expect again a little higher bookings in Q4 that I think, some of that slipped into Q1. I'll say that's number one. Number two, I do think we will get some -- have some OSB activity in '19 for sure. And number three, which is the one that's a total wildcard is what is going to happen with this wastepaper situation. They're either - if they go through at then, they're going to have to either build a lot of sort of the smaller mills in China to process that wastepaper - and around China to process that wastepaper or it would have another positive for us in the sense that there will be more demand for exports coming out of the U.S. primarily, but also Europe. So that - I would say that's a $64-question. It's - that burst of activity that we saw in building mills around China, I would say, has paused a little bit. And it doesn't mean that won't restart, I would say, we don't know.

Okay. Is China is getting any linerboard shortages or they're pretty much in balance?

They are, I think, right now importing linerboard. Certainly, I would say that the bigger mills tend to be getting the permits for wastepaper. So that's a little bit favoring our people. But they're also taking downtime for fiber shortages and just, I would say, slowing demand as the economy is slowing a bit for sure. And then the other question, of course, on that is that what - if trade relations normalize with the U.S., what impact will that have on their general economy and sort of consumer demand, those kind of questions. So it's a bit of a - there was some uncertainty regarding it, but one way or another, I think, they're going to get -- they're going to make those boxes.

Okay. What about the pension. It sounds like with the settlement in the fourth quarter, there's going to be some kind of an impact. Is it an income statement impact or is this a cash impact that we're talking about?

Both, it will be both, Walt. The timing is a little uncertain. And so just to be clear on the technical, this settlement is what's going to come. We froze and terminated the plan. The settlement is going to happen later in 2019. So there maybe a cash impact, $0.5 million to $1.5 million. It's possible, there will be no cash impact. We're still working through that. But there will be some cleanup on the bookkeeping side, that will be non-cash.

Okay. Great. Okay. And then the last one for me. Just congratulations on the change in CEO succession planning. I just want to make sure that as we're - in your comments, you were talking about kind of strategically that you guys think the same around M&A. I just want to ask the question, is there any strategic changes to the company, whether on an operational bases or M&A or the way you're approaching the business with this change in the CEO role?

So Jeff and I have worked together a long time, including at Thermo Electron. I do not expect that on acquisition since we've been - we've done a bunch together, our thinking is quite similar. So don't expect much. He is frankly better operating guy than I am. So I would expect to see some - probably the only good things in terms of getting more profit out of the revenue that we got.

Okay, great. All right. Thank you.

Thank you. [Operator Instructions] And I'm currently showing no further questions at this time. I'd like to turn the call back over to Jonathan Painter for closing remarks.

Okay. Thanks, Shannon. Before I let you go this morning, let me summarize what I think are the key takeaways from the quarter and the year. Number one, we are in excellent financial and operating performance in 2018 with record revenues, bookings, adjusted EBITDA and GAAP and adjusted diluted earnings per share. Number two, although we do see weaker conditions in China and FX headwinds, we do expect a strong 2019 with record revenue and adjusted EBITDA. And finally, please join us for our Investor Day at the Grand Hyatt in New York on March 7. The event will be a good opportunity to meet Jeff and hear his thoughts about our goals for the next 5 years. You can RSVP for the event by contacting Joanne at the e-mail address shown on the slide. Thanks for joining us on the call today. I look forward to updating you next quarter.

Thanks very much. Bye.

Ladies and gentlemen, this concludes today's conference. Thanks for your participation. Have a wonderful day.