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CECO Environmental (CECE) Q3 2018 Earnings Conference Call Transcript


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CECO Environmental (NASDAQ: CECE)
Q3 2018 Earnings Conference Call
Nov. 7, 2018 8:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good morning, and welcome to the CECO Environmental conference call. [Operator instructions] Please also note today's event is being recorded. At this time, I'd like to turn the conference call over to Matt Eckl, chief financial officer of CECO Environmental. Please go ahead.

Matt Eckl -- Chief Financial Officer

Thank you for joining us on the CECO Environmental third-quarter 2018 conference call. On the call today is Dennis Sadlowski, chief executive officer, and myself, Matt Eckl, chief financial officer. Before we begin, I'd like to note that we have provided a slide presentation to help guide our discussion. The call will be webcast along with our earnings presentation on our website at cecoenviro.com.

The presentation material can be accessed through the Investor Relations section of the website. I'd also like to caution investors regarding forward-looking statements. Any statements made in today's presentation that are not based on historical facts are forward-looking statements. Such statements are based on certain estimates and expectations and are subject to a number of risks and uncertainties.

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Actual future results may vary materially from those expressed or implied by the forward-looking statements. We encourage you to read the risks described in our SEC filings on Form 10-K for the year ended December 31, 2017. Except to the extent required by applicable securities laws, we undertake no obligation to update or publicly revise any of the forward-looking statements that we'll make here today, whether as a result of new information, future events, or otherwise. Today's presentation will also include references to certain non-GAAP financial measures.

We have reconciled the comparable GAAP and non-GAAP numbers in today's press release as well as the supplemental tables in the back of the slide deck. And now I'll turn the call over to Dennis.

Dennis Sadlowski -- Chief Executive Officer

Good morning. Thank you for joining us. And I hope your top candidates came through in the U.S. elections yesterday.

As in the past, we've divided this morning's call into several parts. First, I'll highlight our strong third-quarter results. In fact, let me say upfront that we performed very well. Matt will then follow up with a discussion of financial details.

And finally I'll wrap up with a review of our end market outlook before we open up the call to your questions. I'll begin this morning where we left off last quarter. I continue to be very excited about our growing momentum, providing for excellent results with a very strong third quarter across CECO Environmental. Turning to Slide 3.

I want to mention that today's call marks the one year anniversary since we launched our 4-3-3 operating strategy. When our 4-3-3 operating strategy was launched, I was confident that it would set us on a path to win share and create value. At that time we announced a range of commitments and initiatives with the intent of fundamentally transforming the way CECO does business and placing a premium on organic growth. The strategy was designed to help us genuinely deliver on our value proposition of enabling industrial companies to grow with clean, safe and more efficient solutions that protect our shared environment.

Transforming CECO involve three major strategic initiatives, which included several tough decisions and aggressive steps. First, we changed how we do business through our four value creation enablers and involved both subtle and disruptive actions. Second, we actively shaped our portfolio and organizational structure to more efficiently and effectively address our compelling end markets. And third, we invested into three growth platforms aligned to winnable and compelling end markets.

I want to emphasize that all three of our target end markets are aligned to our capabilities. All three are big. All three offer significant potential. Coincidentally with the launch of our 4-3-3 operating strategy, we took a couple of immediate and consequential actions.

Without a doubt, they represented an inflection point in our outlook. We restructured our Energy segment to address the near-term market conditions that could not be ignored, and did so while supporting focused resources to capitalize on opportunities that address the long-term needs of our end markets. And we curtailed our dividend to fund long overdue investments into programs and infrastructure that generate benefits to our customers and create value for our shareholders. A year into our updated strategy, I'm convinced that we're on the right path because we're building increasing momentum and posting impressive results.

Turning to Slide 4. You can see our strategy and team are delivering solid results. Our team generated new organic orders in the third quarter of nearly $98 million, which is a robust 48% over last year's third quarter. Moreover, I'm pleased to say that while we were just shy of another quarter of sequential orders growth, all three our CECO operating segments delivered a positive book-to-bill ratio above 1.0.

Clearly our customer orientation and solid execution is fueling momentum and our strong performances companywide. Since we launched the 4-3-3 operating plan, we've built a sizable backlog, adding $65 million to up over $210 million of backlog, which is a leading indicator of future revenue increases. Moreover, the strength of our value proposition continues to allow us to generate gross margins of 32.5%, which is in line with our expectations as the market conditions tighten. Our adjusted EBITDA was just over $8 million and came in at 9.4% of sales, which is a 51% improvement over last year, and up 20% sequentially.

Free cash flow went negative in the quarter, a lone disappointment after posting great results in Q2. We expected a challenge after the great numbers we posted in the second quarter but did not anticipate a negative $6.7 million. Our asset-light business model is set up to do better and I'm confident that we'll demonstrate that once again going forward. Our free cash flow conversion over the trailing 12 months remains close to 50% of EBITDA.

So, again, I'm pleased with the progress across the company. Finally, I want to highlight our recent announcement from just a few weeks ago that the Jiangsu Zhongli Environmental Technology Company has agreed to acquire CECO's Zhongli business unit. The Zhongli unit primarily serves the China coal-fired power generation market, so it should not be a surprise to anyone that we are continuing to reduce our end market exposure here. We anticipate the transaction to close in the next 90 days, subject to Chinese regulatory approvals.

Now I want to cover the financial implications of the sale as the agreement does trigger a GAAP impairment against our otherwise strong Q3 operating results. As we stated, active portfolio management is a part of our 4-3-3 operating strategy. And, together with the two previously announced divestitures of our Keystone and Strobic units earlier this year, the sale of Zhongli brings a further sharpening of focus for CECO on our large and winnable target markets. The sale will also reinforce our emphasis on organic growth, improving operating margins and our asset-light business model.

The Zhongli sale sets up a good segue into Slide 5, which recaps a number of moves we've made in the last year which were guided by the clarity of our 4-3-3 strategy to transform CECO Environmental. We began and are continuing to execute a series of operational changes. These changes were, and are, aimed at resetting and reaffirming our commitment to the transparency with our shareholders. There are remaining changes and three stand out.

In competitive markets there is no substitute for leadership. And with that in mind, we've made significant additions to our leadership team, including the new position of chief technology officer, bringing in individuals that are both commercially oriented and agents of change. We began removing complexity and driving simplification throughout the organization. The process is still under way because we had to become more agile, efficient and resilient in attracting and retaining customers in a competitive marketplace.

This range from breaking down long-standing organizational silos to reducing our legal entities and ERPs. And through the sale of non-core business units that I previously mentioned, we've reduced our debt by more than $35 million. We began making investments in some much-needed modernization of our specialty pumps business to enable us to continue to grow the business with competitive lead times and high-quality production. Several innovation programs have been initiated around advancing our technology leadership in the market.

These will require time before they are ripe for commercialization, but we're on a good pathway. Finally, once we've got the 4-3-3 operating strategy rolling we made a commitment to our investors and the investment community to aggressive three-year financial targets that should provide top-tier returns for our shareholders. It's with great pride that I can sum up our notable progress over the past year by calling out that new orders are up 34% on a trailing 12-month basis, which led to the addition of $65 million to our backlog. We've been clear about our intentions, taking decisive actions and most importantly, delivering results.

Slide 6 provides an opportunity to highlight our engineering and application depth that has led to some impressive wins during the third quarter and a 48% increase in new orders from a year ago. We're not waiting for customers to come to us. We're seizing the initiative and oftentimes going directly to them to leverage our expertise. And I'm really excited about the teamwork as well because it validates the elimination of many organizational silos that we've broken down.

But the big differentiator, and final decision influencer, has often been our technical competence. I'll note right away that our sales team often gets the glory of closing orders with customers. Like goalscorers in soccer, it's natural for them to shine when we win. But I'd be remiss in failing to note the very significant contributions from our technical team.

Customers rely on us for deep engineering capability and applications know-how, and it's the basis for many of our market wins. Today I'm taking a moment to applaud their efforts and acknowledge that it's a big part of our success. And with that in mind, let me describe a few notable market wins from the third quarter. CECO Busch are leaders in the metal industry with rolling mill fume exhaust system installation references around the world.

And we were pleased to assist a significant North American aluminum producer who is expanding their rolling mill capacity. Our Busch high-efficiency oil mist collection technology will keep them running clean as they increase the output of high-quality aluminum. The engineering team provided customer support from the early project development stages, including technical specifications, environmental permitting support and detailed system design engineering. The customer's confidence in CECO Busch's experience was a key point of differentiation in closing this win.

Our Kirk & Blum team, thanks to great technical leadership from Wade Kojima also won a sizable project to redesign two oil mist systems for a large Korean auto manufacturing plant in Alabama. A couple of great wins for the industrial segment, based on strong market references. In our Energy segment the team continues to show distinctive leadership in NOx reduction solutions, with another major brownfield win at a gas power plant in Michigan. Nitrous oxides are a byproduct of carbon-fueled combustion.

It can cause ozone depletion, leading to a variety of harmful effects. CECO offers multiple technologies for reducing, and in certain combinations virtually eliminating, NOx emissions. So when our customer decided to invest in upgrading their gas turbine power plant output, our engineers were the obvious and best choice for this emission solution. In the refinery market, our very capable technical team led by Gary Maurer with our Emtrol-Buell business unit continues to shine.

As part of an upgrade at a refinery in Spain, the customer pushed into advanced territory with their FCC regenerative process design. Our team had a detailed analysis of the particle size distributions for the catalysts entering those stages of the cyclones. These calculations led to numerous iterations with the customer's process to optimize the system and our cyclones. Extensive design iterations [indiscernible] the project timeline on the critical path.

So our supply chain team came forward with alternative recommendations for efficient fabrication to deliver this innovative design on timetables required for the upcoming turnaround. A big team effort and a huge technical win. And finally, the new tandem seal RTA pump products are gaining traction in the market. As a reminder, the tandem seal innovation protects pumps from leaking high-temperature oil into the operating environment.

A newly engineered line extension eliminates the need for added water cooling required by competitors' pump solutions. We've had several repeat orders for these new RTA pumps. Again, these are just a few representative wins that contributed to our third-quarter success. And they all provide for future aftermarket add-ons from CECO through their operating life.

As I turn to Slide 7 I want to reinforce that transforming CECO Environmental is still a work in process. While we maintain a full core thrust in all areas, there's a few priorities that are worth highlighting as we head into 2019. As I've emphasized, we're operating in compelling end markets. But they're also competitive markets.

So we're going to take steps to deepen our account management capability to beat the competition. First, we've established a preferred partner supplier program, which makes us the first call when customers have a need. In fact, we'd like that first call to be the last call that the customer makes. And second, we're increasing our focus on the lucrative aftermarket by adding long-term service programs, which provide economies of scale and added responsiveness for customers and certainly for CECO.

These programs showcase our engineering depth and application expertise in providing unique value to customers from procurement to long-term operations and maintenance. I already mentioned our progress on simplifying our operating environment. And going forward, we will continue down the road map to further reduce both ERP systems and legal entities. The fact is that reduced complexity and streamlined organization will make us more agile, efficient and resilient going forward as we drive for profitable growth.

We've begun priming the new product and innovation pipeline and should be seeing more output. Most of our new products and innovations will be evolutionary, but our engineers are testing a few ideas that could prove to be quite compelling. I'll keep you posted. Finally, we're relentlessly building our brand awareness.

We have a powerful combination of talent, products, and value proposition that not only solve client needs but protect people and the environment. It's cliche, but it's true. We've got to get our message out and be as accessible as possible to customers. Here's two examples of what we're going to be doing.

First, we're improving our digital content and intend to use this communication channel more in all phases of our sales and service. It will complement our person-to-person interactions. And we'll be more creative, with more efforts like our Breath of Fresh Air campaign which we've recently launched. And second, we're striving to be a globally recognized thought leader in air quality and fluid handling through active and provocative blogs, white papers and prominent speaking engagements at trade and professional conferences.

Let me assure you that we haven't come this far to only go this far. We're aiming high, and that's to provide our investors with top-tier returns. With that, I'll turn it over to Matt Eckl, who will discuss our financial results in the quarter. I'll be back with you to close out the call with a few comments on our served markets before we take your questions. Matt?

Matt Eckl -- Chief Financial Officer

Thanks, Dennis. Like Dennis, I'm very pleased with the great progress we have made in the last year and the momentum building across the organization. Starting on Slide 9. I'll comment on some of the key points surrounding what was a very solid quarter for CECO.

As a quick point of reference, like-for-like comparisons have been provided to exclude the impact of divestitures in prior periods. Comparables on a reported basis are available in our 10-Q. That being said, revenues from core operations grew 13% year over year in the third quarter and 9% sequentially. Non-GAAP gross margins at 32.5% were in line with our expectations as we are managing input cost pressures as well as seeing the balance of our margin mix shift slightly to a greater portion of new original equipment lines.

We posted $6.5 million of non-GAAP operating income in the quarter, which was up 67% year over year and 25% sequentially. EBITDA followed through by growing 51% year on year and 20% sequentially. We are clearly building momentum. For both operating income and EBITDA, you will see margin expansion of 4 points, which is indicative of the operating leverage we get when we grow.

In October we signed an agreement to divest the Zhongli business, exiting the China coal power generation market. With this pending divestiture, we booked a non-cash impairment charge of $15 million in our Q3 financials, reducing the Zhongli assets to fair value based on the sale agreement and moving the business to an asset held for sale status on the balance sheet. This charge is reflected in our GAAP operating income, which drove the negative $10 million operating [Audio gap]. The Zhongli unit has been an asset-heavy business within CECO and with the structurally challenged served end market we see this transaction as having limited impact on our future operating performance, and more importantly, we expect it to be value accretive to CECO shareholders.

We are working expeditiously to finalize closing in the next 90 days. Concluding the headline financials, our normalized tax rate year to date was 25.5% and non-GAAP diluted earnings per share was $0.10, which is up $0.07 year over year and up $0.05 sequentially. Turning to the left side of Page 10. Orders continued to be strong at $97.5 million as all three segments grew year over year and contributed to increased backlog with a favorable book-to-bill ratio.

Keeping with transparency, we've split up Zhongli to highlight the materiality as it relates to all of CECO. Looking to our reporting segments. Energy solutions continued to be the biggest driver in the quarter, growing 80% year on year. Our Emtrol-Buell refinery business that we've highlighted in previous periods remained healthy, booking $20 million in the quarter.

Remarkably, our power gen nat gas product lines continued to take share, growing at 133% in Q3 and up 18% on a TTM basis despite the headline news coming from the Big Four power OEMs. I want to give a quick shout out to Jeff Roderick on our energy team that booked an exceptional large brownfield SCR upgrade win in the quarter, displacing a competitor purely based on our superior technical knowledge. The Industrial segment put up a stellar quarter at $21 million, growing 10% year over year and 11% sequentially. And our fluid handling business also grew 14% year over year, which is above most of its larger publicly reported pump peers.

Hats off to both of these teams in Q3. Briefly, on the right side of the page. Revenue, at $88.3 million, continues to grow for the third consecutive quarter as we successfully execute on both new orders and our backlog. Touching on Slide 11.

I'm pleased to report our fourth consecutive quarter of growing backlog and a book-to-bill ratio eclipsing 1.1x in the quarter. Looking back, backlog for CECO is near an all-time high and will provide us a comfortable mix of production to execute in the coming quarters. Slide 12 shows the trends of our gross profit, operating income and adjusted EBITDA, all of which have improved sequentially with the increase in volume, coupled with the benefits of our restructuring actions. On a year-over-year basis, all three profitability measures have improved on a dollar and a percentage basis in Q3.

Non-GAAP gross margins are a key indicator of our team's ability to generate differentiated value for our customers. At 32.5% in the quarter, we are well within our expectations for strong results. However, the trend over the past few quarters is down from a recent high in Q4 '17. As we dive in, the modest downdraft is driven by a mix of factors.

First, as our backlog has grown our margin profile has shifted to more new original equipment and major brownfield wins from aftermarket revenues. Second, there's no doubt that we have pressure on our input costs. Inflation, predominantly in the form of steel and freight, are rising. We are offsetting most of that through our competitive pricing actions and revisiting our qualified vendor base.

And third is the pricing pressure that still remains in the highly competitive power generation space, where capacity, at 4x the current demand, is weighing on the market. Despite the headwinds, our gross margins are at 33.6% year to date, which are flat year over year and in line with our previously communicated full-year expectations of 32.5%. So I have to say our team is doing a great job. Touching on non-GAAP operating income and EBITDA.

I'm happy to report strong gains against all comparables. I'm even more pleased to see the operating leverage kick in, driving our incremental margins up. Moving to Slide 13. I want to outline our key operational cash metrics.

Starting with the left side. Our free cash flow in the quarter was frankly disappointing, with a use of cash totaling $6.7 million. Trade AR, coupled with the timing of tax payments and capex reinvestment into the business, were the primary drivers. To be more specific, we collected early on a large fast-track project in June and had two other projects delay $5 million of payments into October.

As favorably demonstrated in Q2, this activity is inherent in the lumpy nature of our projects. However, when spread out over time our project cash flows are extremely favorable and a hallmark of our asset-light model. On the right side of the page. Our reported trade working capital was $40 million, or 12.7% of sales, which benefited sequentially from the $15 million Zhongli impairment.

While we have work to do to improve our normalized working capital, specifically noted on this page, there are two valuable points to highlight. First, our project WIP as a percentage of sales was nearly zero, which demonstrates the fantastic low level of asset intensity our project businesses operate at. Second is the 5-point benefit received in working capital from the impairment. With the pending sale of an asset-heavy Zhongli unit, we shed nearly a third of our working capital and exit 180,000 square feet of underutilized manufacturing space.

When this transaction is completed, we will become a more efficient working capital machine and reinforce our preferred variable cost structure as an asset-light company. On Page 14. I'm pleased to report our balance sheet continues to strengthen as our bank defined leverage ratio has reduced a quarter turn to 2.6x in Q3. While operating cash flows in the quarter were less than remarkable, we did make solid traction on a few key outstanding non-operating cash items worth mentioning.

Specifically, we successfully executed Keystone Filter's TSA freeing up the remaining $2.5 million held in escrow and sold two underutilized properties, including our China PCMC manufacturing facility and [Indiscernible] totaling $6 million in proceeds. While we are still working to repatriate the cash from China, proceeds from these actions went to pay down $1.5 million on our note payable and $2 million of term debt. I'm pleased with the rate at which we are cleaning up a lot of these loose ends. Lastly on Slide 15.

I want to share how we're performing against our three-year financial targets. As outlined last quarter, these targets are both aggressive and achievable and are a clear sign that we're striving for top-tier returns. I am confident that we are making solid progress. Starting in the upper left quadrant.

We believe we can organically outgrow our market 2x over time. With continued market share wins discussed earlier by Dennis, we're substantially outgrowing the market in bookings in the quarter and the trailing 12 months. Revenue will likely follow suit and move us into the green territory in the coming quarters as we execute the backlog. In the upper right quadrant.

Our EBITDA margin continued to expand in the third consecutive quarter to 9.4%. It's important to note these results include a balance of investments in our future in the form of marketing, brand awareness, people, training, systems and innovation. On the bottom. We regret on free cash flow conversion in the quarter, but the fundamentals are still there.

On a TTM basis, 48% free cash flow conversion is down from 66% last quarter, but still emblematic of our capability. As we work toward 2021, our aim will be to smoothen out our quarterly cash flows while continuing to push toward greater than 65% free cash flow conversion. Lastly is our return on tangible capital metric, the hallmark of our asset-light business model. In Q3, we improved 2 points sequentially to 27%, providing a solid start in what we expect to be a positive trend.

All the actions discussed earlier are driving this metric up into the right. In conclusion, CECO is moving in the right direction and continues to gain momentum toward its 2021 targets. I look forward to updating you quarterly on the progress of these core metrics. With that, I'll turn things over to Dennis.

Dennis Sadlowski -- Chief Executive Officer

Thanks, Matt. Turning to Slide 17. I want to share some quick thoughts on the outlook of our end markets before moving on to your questions. Clearly, we're entering the fourth quarter with considerable momentum and some impressive wins across CECO Environmental.

Our teams are visible in the market and focused on providing valuable solutions for our customers. As I look ahead, my sense is that the markets are going to be a bit more challenging, still growing, but at a slower rate. Power gen has been hurting for the last 18 months, and there is no signs of an immediate change for the better. And while the rest of our served end markets are healthy and stable, the rate of growth may be flattening.

Our aim remains on further gains in market share. With Slide 17 as your reference, let me offer a few thoughts in each of our end segments, beginning with our Energy Solutions end markets. I'll start at the top with our refinery segment. As you might recall, we were ready when this segment rebounded at the end of last year.

The bounce-back was welcome and we've maintained a strong hit rate through the cycle. Going forward, we don't expect the same growth in the refinery segment, but it remains healthy and its stability should mean solid activity into the new year. I'll point out that this is a segment where we generally highlight only Emtrol-Buell brand of market-leading FCC Cyclones. However, refiners are posting solid financial results, so they're actively investing in their operations in ways that ensure that they are cleaner and safer producers.

This, in turn, is creating opportunities for both Emtrol-Buell as well as our Peerless teams' NOx removing SCR systems. Working counter-clockwise, the midstream oil and gas market segment continues to be positive with good activity in the Middle East and the U.S., with opportunities for us in the areas of LNG, processed water and gas separation. I also want to add that there is a reasonable flow of EPC contracts being awarded, which means that future opportunities for CECO could be forthcoming. Power gen remains in some distress and is likely to remain so well into 2019.

I'll say that there has been some spotty new activity initiated during the quarter, which on a relative basis, is a positive signal. But it's a weak one, with much uncertainty remaining in the outlook for future new original equipment demand. So it's not all clear when we will get help from the overall market for this segment. However, a weak market doesn't mean there aren't opportunities for us to seize on.

In the third quarter our team once again demonstrated the value of CECO capabilities with key brownfield wins, which are allowing us to gain share, meaning results in recent periods are clearly tied to this effort. Our restructured sales force, one of the initiatives under our 4-3-3 operating strategy, is taking advantage of CECO's reputation, capabilities, and staying power. Moving to the bottom of the pie chart. The coal power gen market segment has seen an uptick in activity in India and a few parts of Southeast Asia.

But the overall market remains in decline and we've remained focused exclusively on servicing our large installed base with the aftermarket support. And with that strategy in mind, we further reduced our exposure to coal, as I mentioned earlier, with the sale of CECO Zhongli business. Undeniably, the power gen segment remains weak. And our recent orders history has been nothing short of fantastic.

The order strength in power gen could be challenging to maintain into the year-end. Moving on to Fluid Handling. It's a growing market that we're well-positioned in. Our results have been solid.

Unfortunately, this increased demand has taxed some of our capabilities. We're placing a maximum of effort to quickly recover to ensure that we have the capability to support this growing demand. And closing the circle is our Industrial Solutions markets. The inherent need for improved air quality will continue to offer solid potential for this segment, with the near-term outlook remaining positive, both domestically and internationally.

While passing through London last week on a return trip from several customer meetings in Europe and Dubai, I saw a CNN report that 90% of the world's children breathe toxic air. Addressing such poor air quality is what we're all about, and the world's people really do need us to be successful. While other markets remain active, we're experiencing some sluggish decision-making in the industrial markets. Our sense is that inflationary pressure and geopolitical uncertainties could be making our industrial customers more cautious about capital investments.

CECO has been adapting to changing customer needs with the appropriate investment, so I believe that we can still outperform the market. Certainly, I'm confident that our teams are actively engaging with customers and offering high-quality solutions to their air quality needs. Here is the bottom line. As I look ahead, my sense is that the markets are going to be a bit more challenging.

At the same time, our target markets are large and will still offer us compelling opportunities, so we intend to be active and creative in seizing them. Turning to Slide 18. I want to reemphasize our collective commitment to our purpose in the initial success of our 4-3-3 operating strategy. Our strong results in this past quarter were another big step forward.

But as I said, we're aiming high and striving for top-tier returns. And now I'd like to welcome your questions. Operator?

Questions and Answers:

Operator

Ladies and gentlemen, at this time we'll begin the question-and-answer session. [Operator instructions] And our first question today comes from Sean Hannan from Needham & Company. Please go ahead with your question.

Sean Hannan -- Needham & Company -- Analyst

Yes. Thanks. Good morning. Thanks for taking the question here.

Congratulations on the results. First -- first one I want to start with is just following up on some of your comments, Dennis, on looking into next year and the markets in terms of growth. So just trying to understand, is this perhaps a reflection that we're going to see a little bit of a slower pace from a revenue standpoint, kind of coming off of what was a bit of a bounce that occurred here in '18? Or is that really in terms of bookings and the ability to bring in some higher dollar level bookings? I do appreciate that there's certainly a lag time, right, between what we accomplish bringing in the wins and then when it all hit the top line. So just trying to understand the difference between the two to better understand the comments there.

Thanks.

Dennis Sadlowski -- Chief Executive Officer

Yes, Sean, good morning and thank you. What I think you should take away, if anything, is our markets in the aggregate are still growing. So we're pleased with that. We see opportunities.

Our markets are large. They're sizable. There's a lot of room for us to continue to gain share. And so that is the overall view of what we see, with the exception, of course, of the power gen market.

If you look at our both reporting and what we've broken out in terms of outlook, expectations and then year-over-year results, you see that our team in power gen has still been way outperforming the market. And so to a degree, that's what I am signaling, it's going to continue to be difficult. What we've been doing is just nothing short of fantastic. I think it's good.

The markets are still growing. If anything there, it's a slowing growth that maybe we're seeing in terms of decision-making going on across a lot of the industrial segment. Where that takes us in the next year, I think it's way too early to tell, but I think we have a lot of good momentum. Backlog we've built will likely be an indicator of revenue increases going forward, and the team is very committed to continuing to gain market share along the way.

Sean Hannan -- Needham & Company -- Analyst

OK. That's helpful. Then, in Industrial, it sounded like you're seeing across a lot of different areas. Are there any sub-segments that particularly stand out or is it truly, truly broad-based?

Dennis Sadlowski -- Chief Executive Officer

In Industrial, I think that we are still experiencing a fairly broad segment-related improvement, particularly here in North America, where I think as we mentioned on the calls, and I'm sure you've heard from others, that the tax changes at the corporate level have put on the margin, the U.S. and North America, a better place to invest in manufacturing. So that's a positive. We have a very diversified set of end markets, and so there isn't one particular area within our Industrial segments, both Fluid Handling or our Industrial Solutions segment that particularly stands out in any way.

Sean Hannan -- Needham & Company -- Analyst

OK. All right. So conditions sound certainly very good. All right, a question for Matt, just clarification on gross margins.

Should we expect mix or other factors to pull the margins down sequentially in the fourth quarter? Or should we be interpreting when we talk about a 32.5%, that's actually holding steady through the year versus it being a reflection of the aggregate?

Matt Eckl -- Chief Financial Officer

Yup, full year, we're still expecting to be between 32% and 33% as we've indicated in our prior calls. Obviously, I mentioned on the call that we do have some commodity pressure. We have been offsetting that as much as possible. And then there's been the question on tariffs in the past.

And I would say that there is minor [indiscernible] one large project that will solely impact us in Q4, but for the most part, we're still expecting to be in the 32% to 33% range for the full year as previously communicated.

Sean Hannan -- Needham & Company -- Analyst

But mathematically, it would indicate we'll tick down a little bit in 4Q. Correct?

Matt Eckl -- Chief Financial Officer

Yes.

Sean Hannan -- Needham & Company -- Analyst

Okay, all right. Thanks so much, folks.

Dennis Sadlowski -- Chief Executive Officer

Yes, thanks, Sean. And thanks for joining us.

Operator

Our next question comes from Carter Driscoll from B.Riley FBR. Please go ahead with your question.

Carter Driscoll -- B. Riley FBR -- Analyst

Good morning, guys. Thanks for taking my questions.

Dennis Sadlowski -- Chief Executive Officer

Good morning, Carter.

Matt Eckl -- Chief Financial Officer

Hey, Carter.

Carter Driscoll -- B. Riley FBR -- Analyst

Maybe just back up a sec -- at a high level, obviously, you're still in the process of really remaking this organization. Could you talk, maybe Dennis, or Matt, the criteria for your divestitures? Outside the obvious, if they're not performing financially, I mean, is it a level of the concentration of the competitors, the potential for share gain, ability to price, maybe from a portfolio perspective, does that help offset some cyclicality? Just trying to get a sense of what those high-level drivers are in terms of what's left going forward, in terms of our planning for --

Dennis Sadlowski -- Chief Executive Officer

So -- I'd be happy to. When we laid out our strategy and communicated that about a year ago here externally on our similar call from 2017, what we said and what we're all about is leadership in fluid handling and air quality improvement. And so the business unit that ended up on the bubble and subsequently we've divested three units: Keystone, which was more of a residential filtration business. Fairly small revenue.

We didn't think we were the best owner to really continue to grow and make that work. Strobic, which was mostly serving the commercial market, so not serving the industrial customer base and had limited synergies across into our other areas. And most recently, while we haven't divested yet, we have an intention to do so, the Zhongli business. So the leading product lines there are ball mills for crushing and managing coal at coal power generation stations in China.

So I think we've been fairly clear about what we like, and our criteria around portfolio at this juncture has been very much related to those decisions that we made when we recommunicated the strategy going forward. As we get our portfolio aligned, we like what we're doing. We're generating solid new growth around that. And as we look forward, we'll also be, when is it appropriate to get back to acquiring other businesses to further try and grow our position in what still is a pretty distributed market, you should look to the three-year financial targets that we've set forward, businesses in areas that we think we can outgrow the market, that generate solid EBITDA return on sales, that have a high degree of earnings into cash flow generation and a low asset intensity.

Those are things we like. Those are things we think that help generate top-tier returns for our shareholders. And those are things we believe we're good at leading and moving forward.

Carter Driscoll -- B. Riley FBR -- Analyst

OK. That's helpful. Thank you. So you've laid out a -- maybe a slight softening of end market demand.

Is it fair to characterize the softening is more of a reaction to somewhat of an uncertain global environment, to increasing trade hindrances, whether from tariffs or just geopolitical problems versus -- I guess I'm trying to rank the factors versus uptick in input prices and/or kind of just a natural leveling after maybe a fairly attractive global expansion out of the '09 debacle, and just trying to get a sense of, are we going to a more normalized environment and/or -- you can still take share in that environment -- or are we heading [Inaudible] a recessionary environment or a near-zero growth environment? And would that be reflected or reflective in maybe a weakening of your backlog conversion and/or trying to close some of these deals maybe an extension of the time frame to do so?

Dennis Sadlowski -- Chief Executive Officer

Yes. So let me first say what I hopefully communicated with slowing growth, not any kind of contracting expectations. Keep in mind that on a trailing 12 months, our orders are up 34% over the prior year. And we've added $65 million to the backlog.

So we've put ourselves in a very good position for future revenue gains based on the strength of what the team has been doing, the share gains that we've been making. And so all I wanted to help communicate is what we're seeing is and it's reflected on Slide No.17, I believe, is by end market segment kind of how we're seeing the outlook as compared to the periods we're just coming from. We have a stable pipeline of ongoing demand in most of these segments. We have fairly broad diversification in the industrial segment.

Refinery has popped very strongly for us. And so we can see that continuing to be strong in what our outlook would be. Oil and gas similarly, there are some big EPC contracts being awarded all around the world that would have future potential demand for us. And absolutely, we're about trying to gain share.

And so the message that I was communicating was some reduction of the growth rate in the external markets as we see it. And what are the factors? The factors are, yes, some of the geopolitical with tariffs and the like, some of the factors around inflationary effects that cause people to think twice, three times before they pull the trigger on new investment. And this power gen segment here for new power demand and new gas turbine power demand in particular, which is where we're strong and focused and have been doing quite frankly outstandingly well, are the areas where it's just going to continue to be tough. So I know our team is up to it and I expect that we'll continue to lean into that.

But don't see anything that I would say -- I'm not sure what your words were, but declining. It is more of a slowing growth rate that we're seeing in the current activity.

Matt Eckl -- Chief Financial Officer

Carter, one thing I'd like to just add is -- Dennis was talking about outlook and orders. As it pertains to revenue, the trajectory of revenue, I'd like to remind you that for most of our business, it's long cycle so revenue trails orders by about two to three quarters on average.

Carter Driscoll -- B. Riley FBR -- Analyst

Yes, I know you guys have done an excellent job building book. I'm just trying to think of on a forward basis, not implying that -- just the rate of deceleration in terms of from a modeling perspective. I mean, would you see that in backlog conversion, maybe ticking down a little bit? Would that be where you would see it reflected over a period of quarters?

Dennis Sadlowski -- Chief Executive Officer

If your backlog conversion -- our backlog does continue, turns to revenue, again, as Matt said, over a period of somewhere between two and four quarters. And so the growth in backlog that we've been generating is absolutely a precursor of improving revenues in future periods.

Carter Driscoll -- B. Riley FBR -- Analyst

Got it. OK. Maybe just two quick other ones. So in power gen, you've highlighted the capacity, demand mismatch.

Is one of the primary drivers growth in electricity demand overall from industrial and residential and certainly what we've seen is somewhat of a flattening of that growth in the curve despite what you've seen, whether it's from efficiency or migration away from consumption, is that a primary driver of the mismatch or is it more specific to maybe some of the travails of the leading four players in that market? Just trying to get a sense of how that turn when it turns, is this a, maybe a cyclical stagnation? That seems to be the one drag potentially of your four business segments.

Dennis Sadlowski -- Chief Executive Officer

Yes. From an end market point of view, it's been a drag from an actual performance point of view. I think you'd see that we have been growing even in the power gen segment in its current state where you can read from the big players and what's happening in GE, Siemens, etc. So what we see in power gen started a little -- about a year and a half ago, which is there were quite a few coal projects converting over to cleaner sources of fuel like gas creating quite a bit of gas turbine new demand along with global demand for electricity.

And some of that was then caught the bigger players off guard because of the increasing impact of renewables into the system. So you have efficiencies, you have renewables, and you had this coal kind of conversion, if I might, to cleaner sources that were driving the peak that then came to an end about a year and a half ago. And so now we're in a bit of a cyclical trough and the big players are trying to address to how do they see that new reality. And our anticipation is that gas and gas power generation will continue to be a very important part of the overall energy mix, if not a more important mix as more renewables are placed in the system.

If you study the market and have the background you would know that to provide high robust, high 9s reliability in the power system, you're not going to get it from a completely intermittent source like wind or like solar, and so you need to supplement that with something. And honestly, while battery business is an interesting new technology space, it's far from in a position to be competitive with gas and those kind of things. So we do see demand still in the medium and longer term still coming back to a healthy position. And even from the position we're in today, I think you would have to agree with me that the orders growth that we've been able to generate over the last few quarters in this sub-segment of our business, which was over 100% from a year ago in the third quarter is just phenomenal and a demonstration that our team is getting the right things done, that the technical strength of what we've done in the past and what we can do in the future is valuable to the market.

Carter Driscoll -- B. Riley FBR -- Analyst

No. Your performance over the past -- over your -- since your stewardship has been -- has obviously been stellar. Not to --

Dennis Sadlowski -- Chief Executive Officer

And then with very little of what you would say real new demand for gigawatts, and so a lot of it's been on the strength of brownfield upgrades and retrofits.

Carter Driscoll -- B. Riley FBR -- Analyst

Yes. No, absolutely. It is the last one for me. In terms of helping with rising input costs, how does that play into your pricing strategy? Is that one where you're hoping to pass along or to share some of the pain? How does that play into your competitive strategy, from what you can see from rising inputs, which don't seem to be moving in the other direction?

Dennis Sadlowski -- Chief Executive Officer

Good question. And we have addressed this as well, on calls in the past. The lion's share of our business being application-oriented, we can price using spot costs from the market. And so we have the ability in most cases to pass on what is happening in terms of spot costs for input materials in our input costs.

As pressure has come from the bottom, largely through the period of announced tariffs in metals and those kinds of input costs, we've shortened the time frame of how long our quotes are standing before they have to be updated. And so we've been able to manage through the cycle fairly well at holding on strong margins, at maintaining, I'll say, the spread between input cost increases and pricing for the most part. Where that starts to have a limitation is when we're not the only ones having to price in increases, and customers making investment decisions are starting to see broader cost increases than their expectation that might slow down their overall investment appetite for new lines, new production, and those kinds of things. So that's a little bit of where we see our impact more secondarily.

For the most part, we're able to price in spot costs in the market.

Carter Driscoll -- B. Riley FBR -- Analyst

Appreciate you taking the questions, gentlemen. Thank you.

Dennis Sadlowski -- Chief Executive Officer

Yes. Thanks, Carter.

Operator

Our next question comes from Gerry Sweeney from ROTH Capital. Please go ahead with your question.

Gerry Sweeney -- Roth Capital -- Analyst

Hey, good morning.

Dennis Sadlowski -- Chief Executive Officer

Good morning, Gerry.

Matt Eckl -- Chief Financial Officer

Good morning, Gerry.

Gerry Sweeney -- Roth Capital -- Analyst

Just to follow up a little bit more on the power side. Curious as to when in particular on the energy, right, the natural gas and the coal side, at what point would you start to see a pickup? I mean, would it be once projects start to hit the drawing board again? In other words, would you get a visibility into that market a year ahead of time or when would discussions start with CECO to start maybe for some greenfield stuff?

Dennis Sadlowski -- Chief Executive Officer

It's a good question. We are probably somewhere half a year or so often in terms of when our, call it orders, tend to come after new demand contracts have been placed more often with the larger OEMs. But that can vary. There are times when there are very fast-track projects, and with the restructuring going on by some of the larger OEMs in the space, where they are taking out some of the resource -- fixed resources that they would otherwise have had in place, they need to rely on people who can do things quickly and that's where we fill in as well.

But probably six to nine months, depending on the type of project.

Gerry Sweeney -- Roth Capital -- Analyst

And then on power gen, what is it, is it about 40% of the energy revenue? Is that a fair estimate? I'm sorry, I'm looking at Page 17, just trying to add it all real quick

Dennis Sadlowski -- Chief Executive Officer

Yes, so 17 -- relative values, Page 17, that is for everybody, and yourself, Gerry -- are based on the aggregated 2017 revenue mix. So we have natural gas, about 24%, and solid fuels -- so coal and nuclear -- about 7%. I think you can do the math and see that the 7% has been coming down and so we're in that range in the past in terms of what's our end-market mix.

Matt Eckl -- Chief Financial Officer

And Gerry, if you take the TTM orders basis in case that's the most relevant -- most recent power gen nat gas is 35% of the energy segment, likewise.

Gerry Sweeney -- Roth Capital -- Analyst

But that was 2017? Is that? Sorry, you got TTM, I'm sorry, yes.

Dennis Sadlowski -- Chief Executive Officer

Yes, TTM, you're asking how big power gen nat gas was of the piece of energy. It's 35% of energy. You want the combined number as well, Gerry?

Gerry Sweeney -- Roth Capital -- Analyst

No, that's fine. Taking a little bit of a step back from a macro perspective or in terms about growth. So obviously, we've had a nice tickup in orders and revenue, etc. I take it some of it's been a rebound in some end markets, i.e., Emtrol-Buell, you were seeing some end-market growth.

You did some revamp in sales positioning, etc. Is there anything else outside of these areas that you see that could add -- actually add incremental growth? And I'm talking maybe investment in certain areas, things that you need, things that you still want to continue to do, excluding some of the things I just mentioned.

Dennis Sadlowski -- Chief Executive Officer

There's no doubt that we think we have opportunities in a lot of under-tapped parts of our market. I would say that even in the strength of our U.S. industrial targets, we have a lot of room to continue to outperform the market substantially, considering the fragmented nature of the overall served markets. But we're finding some good opportunities as well through our global growth.

We're up substantially this year in India, finding some industrial opportunities in Europe, where in the past we have done very little. And subsequent to the Zhongli sale, we are looking to get back to rebuilding the rest of our business in China as well. So I think there is still a lot of potential out in front of the company and those are just a few geographic areas that we think are important. We've begun investing in innovation so that we're also thinking about new products or services for the markets we serve.

And that too should help us continue with our long-term target to outgrow the market by 2x.

Gerry Sweeney -- Roth Capital -- Analyst

Got it. And then Fluid Handling. One of my more favorite segments just because of the margin profile, etc. It sounds like things are going pretty well there.

I think you said 14% uptick. What's driving that growth? I know you were even piggybacking off your last answer, I think marketing into new areas with the pump business, etc. Just curious as to what's driving that growth, if you can expand on that.

Dennis Sadlowski -- Chief Executive Officer

Yes, in this case, I'd have to say a lot of it is good market activity, good visibility by our team in the market and as well some of the innovative adaptations we're making to our products like the dual seal RTA pump. And these are areas that provide the customer productivity, while still protecting the environment and so to speak, in this case from any kind of oil leakage into its gear or on an application. So that's where we see, and that's why we discussed with as a part of the strategy, some investments that we need to make to continue to keep up with the growth that is out there in the market, that the potential that our team can get. So it's good results so far, and we have some work to do to continue to ensure that we can deliver on shorter lead times, high-quality with what currently is still a very high mix business -- low back size, high-mix business.

Gerry Sweeney -- Roth Capital -- Analyst

Got it. Then, Matt, just a quick question. Obviously working capital as you said was a little bit of disappointment in third quarter but expect a jump in the fourth quarter, so some of those orders pushed into -- or payments, I'm sorry, pushed into October, is that a fair assessment all things being equal?

Matt Eckl -- Chief Financial Officer

Yes.

Gerry Sweeney -- Roth Capital -- Analyst

OK. Great. Thanks guys. I appreciate taking the time today for answering my questions.

Dennis Sadlowski -- Chief Executive Officer

Yes. Thanks, Gerry.

Matt Eckl -- Chief Financial Officer

Thanks, Gerry.

Operator

[Operator instructions] Our next question comes from Bill Baldwin from Baldwin Securities. Please go ahead with your question.

Bill Baldwin -- Baldwin Securities -- Analyst

Thank you, and good morning, Matt, Dennis.

Dennis Sadlowski -- Chief Executive Officer

Good morning, Bill.

Matt Eckl -- Chief Financial Officer

Good morning, sir.

Bill Baldwin -- Baldwin Securities -- Analyst

Congratulations on the job. But you all have been accomplishing here over the last year and a half, definitely showing up.

Dennis Sadlowski -- Chief Executive Officer

Thank you.

Bill Baldwin -- Baldwin Securities -- Analyst

Yes, I know it's been a lot of hard work. Can you kind of talk a little bit about the performance of your contract manufacturers, how they're performing in line with your expectations and whether or not they have the capabilities and capacity to continue to grow as you continue to grow, grow your business over the next several years?

Dennis Sadlowski -- Chief Executive Officer

Yes, so -- thanks, Bill. One of the reasons that -- there's couple of reasons that we really like our asset-light business model that for the most part uses production partners for a lot of what we do in manufacturing. And one of which is, of course, the variable nature of the cost structure that that gives us so that when the markets are down we have a very variable going down and when the markets are up, it gives us virtually infinite capacity. And so the question, your question, was how are they positioned and are we able to keep up? And I would say this is again one of the strengths of what we do, especially getting better and better at viewing the pipeline, what's coming in and trying to prepare ourselves for where the demand is, that we are very well-positioned.

For the most part, I'd say we're absolutely not only keeping up but demonstrating that strength in front of customers, where they need somebody who can deliver on time, deliver with high quality, and deliver to all parts of the world. So I would say we are very well-positioned there. We continue to put a great degree of emphasis there because it's important to our customers that they continue to feel like we deliver, and we deliver on our commitments, whether that is delivering services for the aftermarket add-ons, ideas to improve their operation or whether that is delivering on the timetables and cost schedules of new OE projects.

Bill Baldwin -- Baldwin Securities -- Analyst

That really puts you in a strong competitive position there, Dennis, if you've got that kind of performance coming out of your contract manufacturers.

Dennis Sadlowski -- Chief Executive Officer

Yeah, we think so.

Bill Baldwin -- Baldwin Securities -- Analyst

I guess you have a long-standing relationship with a lot of these folks, haven't you? I mean it's a long-term relationship you've had.

Dennis Sadlowski -- Chief Executive Officer

Yeah, absolutely. And as I think you might know, that is all over the world. So we have strength in manufacturers in China and Asia, in India and the Middle East. We have in Europe as well as in North America, Mexico, Canada, and the U.S.

And so we're able to draw upon their strengths, depending on where projects are, what the customer demand profile is and where the individual product capability needs to be.

Bill Baldwin -- Baldwin Securities -- Analyst

And just one final area here is when you talk about -- that you're seeing potential business out of Europe and India and so forth in your industrial air quality area, is that market intelligence, Dennis, is coming from your own direct sales force or is that coming through other avenues or other channels into CECO? How do you reach those markets is I guess is what I'm really trying to get a handle on.

Dennis Sadlowski -- Chief Executive Officer

Yeah. So for the most part, our initial reach in many cases today, Bill, is still our direct sales people, who have application strength. So we have guys in India on the indirect staff. We also -- and in Europe, we have a couple of business units headquartered in Europe and so we're able to tap into as well the colleagues from other business units as needed to get in front of customers where we see demand, whether that is as in Germany, visiting couple of German customers, one of which though is for a large potential opportunity here in the States.

The other is for a local opportunity where they are familiar with the technology leadership that we have in a particular area and believe that they need that for their environmental, compliance-oriented demand into a couple of sites -- production sites that they have in country there. So a lot of that originally comes through our direct guys and our direct regional leaders also have reps in a number of the key markets that help with the reach.

Bill Baldwin -- Baldwin Securities -- Analyst

Got it. Is your engineering talent basically domestically or do you have some engineering talent also in some of these overseas locations? Or is that necessary?

Dennis Sadlowski -- Chief Executive Officer

Our engineering talent is distributed largely by technical area into a variety of offices around the world, both domestic U.S. here, China, Dubai. We're adding some strength in India and we have two key technical businesses based out of the Netherlands.

Bill Baldwin -- Baldwin Securities -- Analyst

OK. Thank you very much, and wish you continued success.

Dennis Sadlowski -- Chief Executive Officer

Yes, thank you, Bill. Thanks for your questions. Thanks for joining us this morning.

Operator

Ladies and gentlemen, that does conclude today's question-and-answer session. I would like to turn the conference call back over to management for any closing remarks.

Dennis Sadlowski -- Chief Executive Officer

OK. Well, thank you. And thank all of you for joining us today. I hope that you agree that our 4-3-3 operating strategy is gaining traction.

And the third quarter demonstrated continued momentum and solid market wins. So we look forward to discussing with you again our full-year results on our next call. Thanks, again.

Operator

[Operator signoff]

Duration: 81 minutes

Call Participants:

Matt Eckl -- Chief Financial Officer

Dennis Sadlowski -- Chief Executive Officer

Sean Hannan -- Needham & Company -- Analyst

Carter Driscoll -- B. Riley FBR -- Analyst

Gerry Sweeney -- Roth Capital -- Analyst

Bill Baldwin -- Baldwin Securities -- Analyst

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