EMCOR Group Inc (EME) 2002 Q4 法說會逐字稿

Good morning, ladies and gentlemen. My name is Paul (ph) and I will be your conference facilitator.

At this time, I would like to welcome everyone to the EMCOR Group fourth quarter 2002 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. If you would like to ask a question during this time, simply press star, then the number one, on your telephone keypad. If you would like to withdraw your question, press star, then the number two, on your telephone keypad.

Thank you ladies and gentlemen. I would now like to turn the conference over to Mr. Eric Boyriven of FD Morgen-Walke. You may begin your conference, sir.

Thank you and good morning. This is Eric Boyriven of FD Morgen-Walke, and I'd like to welcome you to the EMCOR Group conference call. We're here to discuss the company's 2002 fourth quarter results, which were reported this morning.

I'd now like to turn the call over to Kevin Matz, Vice President of EMCOR, who will introduce management. Kevin, please go ahead.

Thank you, Eric. And good morning, everyone. Welcome to EMCOR Group's earning conference call for the fourth quarter and full year of 2002.

For those of you who are accessing the call via our Web site, welcome. And we hope you have navigated the direction to arrive at the beginning of the slide presentation that will accompany Frank MacInnis' remarks. For those of you who are listening via the telephone, you, too, have the opportunity to view the slides by clicking on the conference call link on the homepage of our Web site and then clicking on No. 1 slide presentation located under supporting materials on the events (ph) details page.

Later in the presentation, we have an additional treat, as we plan to utilize a series of animated slides or clips to illustrate the development and growth of our facility services business. At the appropriate time, I will come back and lead you through simple access instructions for viewing the animation presentation.

Currently, everyone accessing the slide should be on slide one, which is the EMCOR title slide. During the call, instructions will be given for you to advance to the next slide. For Webcast listeners, we will advance the slides for you. Please advance to slide two.

Slide two depicts the executives who are with me to discuss the quarter and full-year results. They are: Frank MacInnis, Chairman and Chief Executive Officer; Leicle Chesser, Executive Vice President and Chief Financial Officer; Mark Pompa, Vice President and Controller; Bruce Rogowski, Director of Communications; and Sheldon Cammaker, our Executive Vice President and General Counsel. For call participants who are not accessing the conference call via the Internet, this presentation will be archived in the investor overview section of our Web site. You can find us at emcorgroup.com.

Before we begin, this call may include forward-looking statements. These statements are based on certain assumptions and perceptions of historical trends, current conditions, expected future developments, and other factors it believes are appropriate. Actual results or developments may differ materially from those anticipated in these statements.

Now, please let me turn the call over to Frank. Frank?

Thank you. For those of you for whom Kevin's announcements are the highlight of our call, you'll be gratified to know that he'll be back later with new instructions.

Good morning, everyone, and welcome to the 32nd quarterly and eighth annual conference call for investors, analysts and other friends of EMCOR Group.

As we mark the eighth anniversary of the commencement of these telephone meetings, it's hard to believe that I, and most of the senior management members who are here with me today, are passing our ninth or tenth anniversaries in our roles at EMCOR, and we know that there are more than a few individuals and firms on the call today who have been with us all those years, and who have been rewarded for their loyalty to our company. We thank you for your support. We know who you are.

Today's call is being conducted by telephone and by simultaneous web cast. Continuing a policy that we started last year, the latter portion of my presentation this morning will include some special web-cast slides, illustrating a segment of our business that deserves particular attention. And I'll be giving an audio commentary on the sector for those participating via telephone.

In order to coordinate our regular series of web-cast slides with my presentation, I'll be referring to the slide number, which is located in the lower left hand corner of these slides. Right now, we're still on slide number two.

Because we're announcing and discussing our yearend results today, our format will differ slightly from our usual quarterly presentations. First, I'll make some general comments on the year just passed, with emphasis on operational and financial events. I'll then put 2002 in perspective with a few comparisons and trend analyses covering the last seven years.

Following my general comments, I'll present the quarterly and annual results that we announced before the market opening this morning, together with a discussion of our year-ending balance sheet and backlog report. Finally, I'll talk briefly about the opportunities that we see before us in 2003 and the strategies that will help us achieve our goals and overcome our challenges this year.

Then comes the special segment feature, following which I'll wrap it up with some concluding comments, at which point there will be a chance for you to make comments or to ask us questions. As you can see from slide two, we have assembled a lot of senior management talents and Kevin to help with the answers.

So, let's begin by clicking to slide three. The year 2002 was a truly eventful year for EMCOR Group. Our record revenues and earnings is only part of the story. In March, we acquired 19 subsidiaries of Comfort Systems USA, Significantly strengthening our Midwestern construction and service capabilities, and we've successfully integrated those firms into EMCOR in the following months.

In July, we were awarded a watershed facility service contract by Bank One, involving (ph) responsibility for some 2,000 high-level commercial properties in 30 states.

In September, we finalized a new five-year $275 million revolving credit facility with Harris (ph) Bank, as the agent for 10 participating lenders. In October, we were one of very few companies during 2002 to receive a credit rating upgrade from Moody's to Ba1. And in December, Standard & Poor's reaffirmed their previous rating of triple-B-minus.

Also in December, we announced the acquisition of Consolidated Engineering Services, bringing to more than $1 billion the annualized pro forma revenues, which we derived from recurrent service relationships. As a result of these numerous and steady improvements in the size, the scope, ability and the profitability of our company, EMCOR common stock performed well in 2002, rising 16.8 percent during the year to a closing price of 53.01 (ph) .

Please move to slide four.

2002 was a great year, but it was the only latest in a seven-year series of record financial results. We are particularly proud of the tradition of consistent, predictable growth and prudent financial management, which we have created at EMCOR. On slide four, you'll notice that our 2002 results set new records for annual records, for EBIT, EBITDA and diluted EPS, despite a weak economy full of challenges. And I think you'll see, when we discuss our yearend balance sheet, that this seven-year period of consistent growth has been achieved without exposing the company with inappropriate financial risk.

Let's discuss those financial results in detail, beginning with slide five. The fourth quarter of 2002 was the best in our history. EMCOR earned net income of $21.3 million or $1.38 per diluted share on revenues of $1.12 billion, representing an increase of 22.4 percent in net income and 29.5 percent in revenue over the year-ago quarter.

Organic revenue growth in the fourth quarter was 11.9 percent, a very strong performance in a weak economy and a strong testament to our operational diversity. Operating income in the quarter was $39.1 million, up 28.5 percent compared to the year earlier, and was level with the preceding year as a percentage of revenue of 3.5 percent.

Interest expense rose somewhat as a result of our investment activities, while net amortization and depreciation fell slightly due to the lack of goodwill amortization in the current period. Orderly EBITDA was $43.8 million, 23.6 percent higher than the fourth quarter of 2001.

Please move to slide six.

For the full year 2002, the company reported net income of $62.9 million, or $4.07 per diluted share, 25.8 percent higher than 2001. Revenues for the full year were $3.97 billion, a 16-percent growth rate over the prior year. Revenue from acquisitions; notably, our comfort (ph) systems transaction in March, contributed a good deal of the revenue growth. But annual organic revenue growth was also 1.3 percent, a significant accomplishment in a difficult environment and a marked improved over the organic revenue shortfall reported in the earlier quarters of last year.

Operating income and EBITDA rose 29 percent and 22.1 percent respectively to new record levels of $114.4 million and $130.6 million respectively. Operating income was 2.9 percent of revenues, compared to 2.6 percent in 2001.

These results continue to reflect the transition from commercial construction - notably offices and retail properties - to sectors such as institutional buildings, health care, transportation, education, water and waste water treatment, and pharmaceuticals and biotechnology. Strong geographic operations included our California, Florida, Boston and Denver mechanical companies, our New York, Washington, Sacramento and Las Vegas electrical operations, and our facility service businesses.

Our Canadian company showed improvement for the year, while our British company's results were disappointing, reflecting weakness in especially construction and engineering markets, balanced by strength in its facility service business. We were pleased with the contributions made by the former comfort (ph) systems companies to our yearend results, despite continuing weakness in their Midwestern markets. Lately, under $500 million in revenues and just under $20 million of operating income for the last 10 months of 2002.

On slide seven, we show our yearend balance sheet, another of our significant accomplishments during 2002. Despite paying nearly $370 million in cash for acquisitions, and financing revenue growth of more than $550 million, we concluded the year with total debt of $135.2 million and balance sheet cash of more than $93 million. While I would caution listeners against the assumption that the entire $93 million is immediately available, this is nonetheless a remarkably liquid balance sheet and entirely appropriate for challenging times. Availability under our new $275 million revolving loan facility was about $125 million at yearend.

During the year, net goodwill rose to $290.4 million by virtue of the purchase transactions, while shareholders' equity reached an all-time high of $490 million and contract backlog was also our highest yearend total ever at $2.9 billion. On slide eight, we break down the components on the evolution of our contract backlog in a chart that will be familiar to our regular listeners.

The yearend 2002 bar shows the continuing strength of the sectors that contributed the most to our operational growth during 2002: health care, transportation, institutional, water and waste water, and pharmaceuticals and biotechnology. Thanks to our diverse participation in these growth sectors, plus the impact of our acquisitions, total construction and facility service backlog grew 22.5 percent year over year. Comfort (ph) systems and CES contributed $240.7 and $207.5 million respectively, while organic backlog growth was more than $50 million, or 3.3 percent, illustrating the strength of our base business.

Please click on slide nine.

Here we condense our yearend balance sheet to illustrate the reasonable leverage which we utilized during 2002. Total debt of $135 million, includes $112 million of revolving debt and $22 million in notes, due to the former owners of certain of the Comfort (ph) systems companies. Which notes all view (ph) and will be paid in April of this year.

Total debt to total capitalization at yearend was at less than 22 percent, well within our comfort range and reflecting the possibility of additional opportunistic investments in appropriate circumstances.

I don't think, however, that 2003 will feature the kind of transactional activity that was so pronounced in 2002. We have acquired an excellent base for EMCOR growth and development, and our major 2003 strategies are outlined on slide 10. Firstly, we are committed to EMCOR's diversity business model. It has worked for us and for our shareholders in good times and in bad. We'll continue to build on our one billion dollar revenue base in recurring service relationships, concentrating on long-term contracts with national blue-chip clients. We will find more opportunities to cross-sell our construction, retrofit, and facilities management services, and to build on the customer relationships acquired with the Comfort Systems and CES purchases.

We'll continue to exercise disciplined and prudent financial policies, including aggressive debt reduction, whenever possible. Cash is always central to our planning at EMCOR. And job number one for the first half of 2003 is the prompt and efficient integration of CES as the core of EMCOR Facility Services. We intend to end 2003 with a unique, fully-integrated nationwide delivery system for our broad range of sophisticated facility services to the kind of customer that places a high value on EMCOR's brand, our integrity and our reliability.

That concludes my remarks about our 2002 results and our 2003 prospects, except to reiterate the 2003 revenue and earnings guidance that I provided about a month ago; revenues of 4.4 to 4.6 billion, and earnings per diluted share of 425 to 460.

Now, we'd like to spend just a couple of minutes highlighting the segment of our operations which makes EMCOR unique, and which we believe holds so much promise for our future growth and development -- EMCOR Facility Services.

My commentary will accompany a series of animated slides. We have a series of simple instructions on how to view them, and here is your simple instructor, Kevin Matz.

Thank you, Frank.

Here are the simple instructions: please advance to slide 11. First, telephonic listeners who are viewing the slides: please minimize your screen, now click on number two -- Animated Facility Services Presentation under Supporting Material, just underneath number one in the same place that you did in the prior time. This will produce a clip of a spinning globe. Web listeners, in a couple of seconds, the same clip of the spinning globe will also appear on your screen.

At certain points during the remarks, Frank will direct all listeners to advance to the next clip. The indicators for advancing the clips are the boxed numbers that appear in the lower right hand portion of the clip. We are currently on clip one, the spinning globe. The presentation will move along briskly, so stay ready to advance the clip as directed.

For listeners and others that would like to view the presentation a second time, this clip will be posted on the EMCOR website.

Frank, I think we're set. Go ahead.

Thank you, again, Kevin.

Clip two. EMCOR Facility Services had its start in the United Kingdom in the mid-1980s when Thatcher government privatization policies led to large-scale transfers of management responsibility for commercial and industrial facilities. EMCOR's Drake and Scull subsidiary grew with the industry, landing flagship contracts -- like the 1990 award of the management of Heathrow Airport for British Airways --a contract which continues today.

Clip three. Although they weren't called facility services operations in those days, a number of EMCOR's specially construction companies by the mid 1990s had substantial recurring service relationships with owners or end users of commercial and industrial properties. These services were offered as an adjunct to our new construction and retrofit services in many major markets across the United States.

Clip four. In 1996, EMCOR adopted a long-term operating model, incorporating complementary construction and facilities management services. And in 1998, we added to our services network with the acquisition of BT Bell Co (ph) on the East Coast and Mesa Energy Systems in the West. Beginning of a strategy designed to lead to full nationwide service capability. In the same year, we struck a joint venture agreement with C B Richard Ellis, gaining access to a substantially enhanced portfolio of service customers.

Clip five. The CES acquisition late last year cemented EMCOR's position as the premier nationwide provider of sophisticated facility services. In midyear, our existing network had received a Watershed Award, a three-year contract for all of the 2,200 properties of Bank One across 30 states, and an award as significant in the new U.S. market as the groundbreaking award of the Heathrow Airport contract had been in the fledgling British market 12 years before.

an international multi-market revenue base of more than $1 billion derived from recurrent services to facility owners and end users. A solid contributor to revenues and profits in 2002, and a promising platform for growth and development in the future.

the world's largest and best portfolio of facility service customers. Blue chip companies, whose sophisticated management understand the value of a long-term service relationship with EMCOR group, a company that was built for the long term. Today and tomorrow, EMCOR will be their partner of choice, meeting their service needs and planning with them for the future of their facilities.

That's our message for yearend 2002. Thank you for your interest and attention. And now Paul (ph) will give you instructions on how to queue if you have questions or comments about today's presentation or our press release.

At this time, I would like to remind everyone, if you would like to ask a question, press star, then the number one on your telephone keypad. Again, that's star, then the number one. One moment, please, for your first question.

Your first question is from Michael Roesler with CJS Securities.

Good morning. Congratulations on another great year.

Thank you, Mike.

Frank, talking about maybe a little bit on the cash on the balance sheet, it sounds like acquisitions aren't going to be key, at least in the next couple of quarters here. Any thought of what you might do with that cash dividend-wise? You talked about a share split at one point last year. Any update on that?

Well, we have many opportunities for the use of the cash. We're in a growth mode, particularly on the facility service side of our business. We're looking at opportunities for various alliances with major companies domestically and internationally. And all of these prospects involve possible requirements for working capital investments.

It's no secret that we have also changed our tune with respect to possible future payments of dividends. EMCOR is becoming a company that didn't exist before. In the past, I would have reflectively said, no way, if you had asked me about the possibility of paying dividends. But EMCOR is moving into uncharted territory here in terms of our capitalization and our cash flow. And although we have no current plans for the commencement of payment of a dividend, I'm no longer saying it's impossible.

But, for the moment, we have debt on the books. We have notes payable to the former owners of some of the Comfort (ph) systems companies coming due in a couple of months. And we are typically cash and working capital users for the first half of every calendar year. So at least for the next six months or so, we'll be using all available cash for internal purposes.

Mike, are you there?

Your next question is from Jeff Beach (ph) with [Inaudible] Nicholas (ph) .

Yes, good morning. And congratulations, also.

Thank you, Jeff (ph) .

Would you - the free cash you generated in the fourth quarter was real impressive. A lot came from working capital. Were you able to pull any kind of working capital out of CES? Maybe you can talk a little bit about the working capital reduction that you did generate.

And then, is there an opportunity, even though you may be trying to grow this business in '03 and there are working capital requirements, is there an opportunity because of the consolidation and synergies to pull working capital out of CES?

OK. Thank you, Jeff (ph) . The cash was very positively impacted at yearend by collections and resolution of various issues in the last two weeks of the year. And it was notably positive during that period.

We are, however, significant users of cash for operational purposes both intra month, as compared to the month-end snapshots that our investors see. And as I mentioned in response to Mike's question, we are very typically investors in our various projects during the first half of the calendar year.

With respect to the availability of cash out of CES, I mentioned on previous calls that we never budget for synergies with respect to acquisitions, particularly for the purpose of constructing deal multiples on pricing. And I don't think that CES is going to be a source of cash, at least from the integration effort standpoint over the first half of this year at least.

In fact, we are spending money on the efficient and prompt integration of those companies, as the core of our EMCOR facility service business. And I commented on the call when we announced this acquisition that I think this is going to be a challenging, potentially difficult and complicated job of integration because, at the same time that we are combining into CES some of our previously-owned facility service companies, we are also and simultaneously integrating CES into EMCOR corporate operations and systems.

So, we have a lot of expensive personnel dedicated to this task, and I don't think, personally, that we should be expecting significant cash outflow out of CES, at least during the integration process.

Your next question is from Michael Roesler with CJS Securities.

Thanks. I got cut off the last time.

Frank, I just want to maybe get a sense of what you've heard from Richard Ellis after their acquisition of Insignia; whether there's any sense of any potential increase in your business with them.

Mike, I know that what you're referring to is the recently announced transaction in which CB Richard Ellis, who have been our partners in a large-scale facilities service operation since 1998, announced their acquisition of Insignia, a major New York property company. We have not talked to CB Richard Ellis about this matter, but we are their strong partner, and we are ready and willing to fulfill our role as their partner in markets where we are particularly strong, and the markets where Insignia, as I understand it, was particularly strong were New York and London. We are very strong in those two markets, and I think that it would be a great idea for us and CB Richard Ellis to discuss the prospects in those markets. But, that conversation hasn't taken place yet.

But, something might happen over the course of this year. I want to follow up sort of an issue that had come up the last conference call, and that's in regards to, basically, your net over-bill position. Maybe you could just give a little bit of color on what goes into that and what investors should read from that.

OK. I don't have the numbers specifically to hand, but if memory serves, we were about $125 million net over-billed in the yearend financials.

The clever and structured use of contract administration at EMCOR -- in order to stay at least abreast, and hopefully ahead of the game with respect to billings for service contracts and construction -- has been a central feature of our policy for many years. It is not only the best way of reducing exposure to debt by using the customer's money to finance the construction and service operations, but it also reduces the vulnerability on the part of EMCOR companies to claims and disputes at the conclusion of projects. This is the product of many years of experience in this business on the part of EMCOR managers, and we think that it works as a policy for all kinds of financial and operational reasons.

And so, we work very hard at instilling in our subsidiaries an appreciation for the importance of cash-flow planning, both in their estimating, bidding and contract writing with their customers. And we find that customers who are aware of the quality and the integrity that EMCOR companies bring to the provision of services are willing to cooperate with EMCOR's request for advance billing, and the result is that over a portfolio of many thousands of contracts at any given time, we are always a net over-billed. And for those listeners who haven't done the balance sheet exercises before, what we are doing is netting billings in excess of cost, which is a liability against cost in excess of billings, which is an asset. And the resulting number is the [Inaudible] by which we are net over-billed over our broad portfolio of construction and facility management contracts.

Our goal is to stay that way, although I have also opined on previous calls that, because of the growth of our facilities management sector, and the reimbursable nature of some of the charges for services provided under the facilities service relationships, that we would not be surprised to see net over-billing decline somewhat as a result of the growth of that business.

OK. And just one final question. I'm hearing from some other construction-related companies that seemed to have an impact late in '02 and into '03. I'm wondering if you've seen a similar impact.

Aside from having to plow through about two feet of snow on the way to the office, I think that in macro terms, what we've been experiencing is a cold, wet eastern half of the United States and a warm, relatively dry - except for the [Inaudible] downpour - western half of the country. We are sufficiently geographically diverse. That as long as the weather performs on a mean, we are going to experience the mean.

So if we were less diverse geographically, I would say that we were probably vulnerable to more significant weather effects. But with so many projects going on over so many different markets and in so many geographical areas, I think we're probably net-net not very significantly effected.

OK, thanks.

Pleasure.

Your next question is from Jamie Cook with Credit Suisse First Boston.

Hi, Jamie.

Hi, guys. How are you?

Good, thanks.

First question: Your organic revenue growth in the fourth quarter was pretty impressive and it seemed to be higher than the other quarters. If you could just talk a little bit about that. And then my next question, have you seen any pricing pressure on the specialty contracting side of the business?

Well, certainly there is - I'll deal with the second one first. There is some pricing pressure; notably, in the weak areas of the market or areas where import advantages like our large size technical expertise, financial power and bonding capability are not factors. In fact, [Inaudible] low end of the business, so that pricing pressure doesn't hurt us perhaps too badly.

With respect to the organic growth in the fourth quarter, we were extremely gratified by that, of course. And it was directly a factor of the nimbleness of our company in moving. Not in the fourth quarter, or even in the first, second or third quarters, or even in '02, but, in fact, significantly prior to 2002 into growth areas of the economy.

In recessionary times we have often observed - even before the recession struck - that in those kinds of times there are sectors of the economy that do tend to be stimulated either by government or by other agencies. And we moved to those sector some years ago. Water and waste water, transportation, institution of buildings and health care, along with a couple of private sector areas that seem relatively immune to recessionary trends, like food processing, like biotechnology, and pharmaceuticals. And we chose intentionally a slow and steady growth policy a couple of years ago. And what you saw in the fourth quarter was really the fruition of those policies.

And if we look at - you know, now that we're two months into the first quarter, are customers saying anything different than what they had been saying? Or would you say things are pretty much flat with, you know, the fourth quarter?

Anecdotally, Jamie, I think we're perhaps seeing a few more bid opportunities than was the case in the past. But I don't think that we've seen enough to represent any kind of a trend with respect to an incipient private sector, commercially industrial recovery. I continue to think that there's a lot of hesitation in the market with respect to confidence, commitment of the kind of capital that would be required in order to look like a recovery.

And we just don't see that yet. Although, I should add that we have designed our scope of services so that EMCOR can meet the demands of customers no matter where they are in their economical cycle. If they're aggressively spending capital on new facilities, we'll be there. If they're upgrading an existing facility in a more cautious approach to a facility enhancement, we'll be there.

If, on the other hand, they're hunkered down and just want to keep the lights on and the air conditioning working, we're there. So we have intentionally made EMCOR's services the kind of universal menu that will appeal to a customer, no matter what their attitude is towards the economy.

OK. And then one final, last question. Your operation margins for the year were up, and that was pretty impressive. But if you look at the fourth quarter of '02 versus the fourth quarter of '01, they were about flat. Any particular reason for that?

No, except that I think that's pretty positive, frankly, in light of all the circumstances. The pattern that we saw in the course of the year, compared to the year earlier, was, in the first quarter, a pretty significant revenue shortfall. If memory serves, some nine percent less organic revenue in the first quarter of '02, compared to the year earlier quarter. And since that quarter, the remaining three quarters of '02 showed relatively steady acceleration.

We began to catch up to the organic levels of the previous year. And I think after the second quarter we were off six percent. And after the third quarter we were off two percent. And in the fourth quarter we surged ahead of the prior year.

Some of that has to do with the characteristics of the year earlier and the vestiges of the telecom market. Anybody remember the telecom market that was just on its last legs at the beginning of 2001? And there is probably an impact on the comparative operating income levels that is attributable to that, if we wanted to analyze it carefully, as well.

But, in general, I draw positive reaction from the steady performance of our operating income levels relative to the year prior, which was effectively in part by continuing strength in the telecom business.

OK. Great, guys - thanks a lot.

You bet.

Your next question is from Jeff Beach (ph) with [Inaudible] .

Hi, Jeff (ph) .

Yes, hi. As a follow-up, the integration so far - you've had CES for two months - is everything going on plan so far?

Yes. I would say that we have had no surprises and no significant problems to date. We placed a lot of reliance, as we always do when we make acquisitions. We expect management to stay. We respect the success that management has achieved in making a company an attractive EMCOR acquisition target. And that always means that we want management to stay and continue their success. So, we've placed a lot of trust and reliance upon the CES senior management personnel who stayed with the company to make it a major part of EMCOR Group, and we're happy with what we've seen so far.

As a follow-up, in this short period of time, have you seen any new customer opportunities come up with the combined CES and EMCOR operations that you're pursuing? And second, regarding the rest of the electrical and mechanical business, is there any change in trends from what you've seen in the last couple of quarters?

Second question first. No. As I said to Jamie, I don't think that -- although there is some anecdotal indication of accelerating bid opportunities in certain of our markets, certainly not enough to constitute what I would call a trend of any kind.

With respect to your first question, the relationships that came with the CES companies included some very strong, very long-lasting relationships with major customers, like Procter & Gamble, with major agencies, like the federal government, which was an area of CES business that was very attractive us, because we had done very little service work for the federal government in the past, and providing those services involves a special expertise and experience.

So, we found that very important, and the answer to your question is an emphatic yes; that we are pursuing promptly and forcefully the opportunity to expand the CES relationships, which were if not local, at least relatively constrained by the physical and geographical scope of CES onto a much larger stage as members of EMCOR Group with our national delivery capability.

All right. Thanks.

You're welcome.

Your next question is from Jeff Allen (ph) with Fillercrest (ph) Asset Management.

Good morning, Jeff (ph) .

Hi, guys. Good morning.

Just to beat a dead horse on the operating margin, I was just curious if there were any, you know, integration or restructuring costs that might have temporarily depressed that in the quarter. And the second question would be, the backlog was down sequentially if you exclude what CES contributed. You know, is there any weakness that you should read into that, or?

OK. First, with respect to integration costs in the fourth quarter, no -- I don't think that there were any significant or material integration costs in the fourth quarter. The acquisition of CES took place in mid-December, and although there will clearly be integration costs -- and I'm sure there were some -- I don't think that it was a significant factor.

With respect to sequential backlog, I do not see any significance to the sequential downturn. The backlog is, after all, a snapshot, and booking 20 or $30 million of contract backlog on a given day, which we frequently do, can make a sequential difference if it occurs on a Tuesday, as opposed to a Wednesday. So like many snapshots, it's dangerous to draw broad conclusions from that sequential turn.

I see monthly backlog reports, which frequently have sequential downturns, and I don't pay any attention to them. I think that the backlog strength is significantly greater than it was a year ago, and I don't think that any other conclusion drawn from the information that we've provided is going to be very helpful.

OK. And, again, on the operating margin, you know on your guidance call a few weeks ago you had said that, you know, that the shift to public sector work, and I think also rising health care costs, were going to be a little bit of a negative in terms of the margins. I mean is that also a reason why margins were flat? I mean is that - are those factors at work?

Yes, certainly. And that, in fact, is why I - my response to the previous question was one of a positive approach to the fact that operating income was flat. The nature of the - the change in the character of our backlog and our operations in the course of the year could have been taken as an incremental risk factor in terms of operating income, but in fact it wasn't.

Our margins were good in the course of the year, despite the change in character of the business. And I think it speaks to EMCOR's ability to manage different kinds of business and achieve consistent profitability notwithstanding. So I don't think there is anything more I can say about it.

OK, thanks.

You bet.

Your next question is from Alex Rygiel with Friedman, Billings & Ramsey.

Alex Rygiel.

Thank you, and nice quarter again, gentlemen.

Thank you.

A couple of questions. First, thanks for the additional disclosure in your 10-K; I think it's very helpful. One of the questions with regard to some of that new disclosure is around your surety bond capacity.

What is that capacity today, number one? What was the outstanding balance of the surety bond 12 months ago? And, number two, what is the cost of that bond, and how does that get charged back to the customer?

OK. Thank you, Alex. The surety bond capacity of EMCOR is not defined. I could say it was unlimited; that would be technically correct in that we have not been informed of any limit on it. But it is very substantial; it is well in excess of our current or projected anticipated needs.

The access to an availability of surety bonding is, in my view, defined by two factors. First of all, the quality of liquidity of the service provider, and secondly, the capitalization of the surety itself. Many surety companies derive their capacity from treaties with reinsurers. And many listeners will know that the reinsurance industry has been seriously damaged by the recession, by 9/11, by Enron, and the telecom meltdown.

And many surety companies sustained significant reductions in their capacity to grant surety bonds over the last couple of years. In addition, many companies that use surety bonds as an aspect of their business - and listeners should know that many of our contracts require by law or by custom that surety bonds be provided - many companies that got into financial difficulties or didn't husband their assets and their balance sheets carefully, developed capacity constraints as a consequence of that factor.

EMCOR has been careful in terms of the protection of our balance sheet, and we have been fortunate in that our surety relationship is with the Travelers (ph) , which is one of the best capitalized surety providers in the industry, and not primarily vulnerable to downturns in the reinsurance market. So we've been fortunate in that respect, and our surety capacity is more than ample for what we believe to be our requirements.

I think Leicle or Mark may have to hand the specific surety utilization numbers that you've asked for with respect to cost. I don't know if we got those numbers to hand. But I can - in general, the cost of surety bonds is contractually flowed through to the customer, as a general rule.

Leicle, do you have a comment on surety utilization?

At the end of this year, we had $1.3 billion outstanding on about 675 projects. Last year, because Comfort (ph) was not included, it would have been a smaller amount that we've always had. A substantial amount of our activity has been bonded.

Great. Thank you very much. Secondly - and this might be for you again, Leicle - with regard to your shares outstanding, can you walk me through the change from the third quarter to the fourth quarter from closer to 14.9 to now shares ascending about 16.1?

Alex, this is Mark. I'll take care of that.

The amount that you're looking at the end of the third quarter is net of treasury shares. The amount that we were disclosing at December 31 was gross of treasury shares. As you're familiar with our shareholder's equity disclosure, the common stock line represents the number of shares that have been issues.

And disclosure that we had to use prior was issued in outstanding. But to give the financial statement readers a little bit more clarity, we issued an outstanding number of disclosures that's now in the footnote, as opposed to on the face (ph) of the balance sheet.

Great. And then one last question with regard to some of the legal proceedings. It would appear that Heritage has been totally settled, or clarified, rectified. Please confirm that. And then, if you could, just touch upon any updates with regard to Forest (ph) , as well as the nuclear reactor up in Canada. I'd appreciate it.

Nothing further with respect to Forest (ph) or the nuclear dispute with ACL (ph) . Nothing to report there, Alex. And Shelly is going to talk about Heritage.

I think, as we indicated in the 10-K, Alex, there has been an agreement in principle - and I say in principle because it hasn't been signed completely yet - to settle it without Heritage having to make any payments.

Great. Thank you very much.

Your next question is from Raymond Cheng with Lehman Brothers.

Good morning, guys. A question to start with on backlog. [Inaudible] you have $200 million from CES at position (ph) , yet the annual revenue run rate is about $400 or $450 million. Why is that such a [Inaudible] ? Does this have to do [Inaudible] on your part and accounting for backlog? Anything that was excluded from the backlog related to CES?

No, Ray. It's a characteristic of the service business, pure and simple. It just tells us and tells you, the analysts, that we're talking about a different kind of business here. CES is pure and simple a facility service company that provides services over a lengthy period of time -- typically, multi-year relationships with major long-term customers. And it's a good snapshot of what a company like that looks like. And I think that probably EMCOR will begin to look more like that in the future as our Facilities Management business grows.

Kevin, did you have a comment?

No. I was just gonna add, Ray, that CES has really very little reliance to new construction at all. Therefore, they maintain very -- a lot of mobile crews, a lot of small project delivery, and you won't have the build-up of backlog.

Oh, I see. So, it's not that you're still waiting for half of the revenue to come through, like, throughout the rest of year. So, probably, most of it -- it's like related to small projects that is not included in the backlog.

That's correct, yes. And perhaps I should clarify for listeners that we include in our backlog, on a very conservative basis, firstly, all construction projects of $250,000, and very few less than 250 -- they just don't make the backlog schedules because of their typical duration. And secondly, we include one year of base revenue from our facility service contracts, notwithstanding the fact that they are typically multi-year relationships.

OK. Great. In terms of the integration of CES, after, like, two months into the (ph) year of 2003, would you be able to guide us more on the system integration costs you're expecting in the current year? Also, would you be able to give us more guidance for the first quarter of '03, in particular?

No to both counts, unfortunately. First of all, with respect to systems integration, we are just getting nicely started in that regard.

OK.

We know it's gonna cost us, but we don't know how much yet. We are pleased with the expertise and the systematic approach to [Inaudible] a finding confirming at CES as we strengthen our relationship and advance the integration process with them. But, no, we don't know yet what the integration costs are going to be, notably on the systems approach.

We do, however, emphatically, consider CES to have been a very well-managed, professionally managed group, and we're not seeing any negative surprises.

Secondly, with respect to quarterly guidance, we don't give quarterly guidance -- never have, and as far as I'm concerned, never will. And I sympathize with those who have to provide quarterly estimates. I think that it's worthwhile saying that the pattern of EMCOR's revenues and profitability has been replicated year after year after year over the seven-year period that we showed in one of the early slides in this presentation, and that is that our first and second quarters are significantly weaker than the third and fourth, owing to a number of factors involving customers' contract allocations, weather, financing obligations, and the like. And I think that our first and second quarters of this year -- and I've said this on a prior call -- will also be affected by the integration process that we're undertaking with CES.

But, in terms of first quarter or subsequent quarterly guidance, we haven't commented on those numbers, and almost certainly will not.

Fair enough. Last question. When I look at the 10-K, going through setland (ph) specific information, it looks to me the U.K. setland (ph) has deteriorated in the margin, even though the revenue numbers have gone up. Do you see a deterioration in the piss (ph) activity over there and other type of construction activity and also, what made the margin come back to negative territority on the fourth quarter?

Yeah. We are, I mentioned in the body of the call and I'll say it again, we're disappointed with our UK operation, which was effected by not only a weak and challenging UK construction market, but frankly by certain poorly-managed contracts within our import rake and skull (ph) business. On the other hand, if you'd like to look for the pony in there, the overall company was at a break-even basis for the year because of the postive impact of our facilities management business, which remains an important part of the mix in the UK. And, although I'm not satisfied overall with the performance of our UK operation, and we are going to be taking appropriate steps to rectify it, the fact is that the present facilities managment and the balance that we achieved some years ago between construction and facilities managment activities in the UK led to the kind of stability that prevented the UK situation from being a very serious problem this year.

So, yes it's a problem, especially in construction terms, but at least we have the right kind of balance of services in the UK to prevent it from being a really serious problem.

OK, and what's the remaining term of some of the major facilities under these contracts in the UK, like the British Airways contract in the Heathrow Airport?

That's a very complicated question, we will have an announcement soon with respect to the British Airways relationship.

OK.

And, we'll be treating the new contract wars as the subject of a press release probably in the next two or three weeks, more generally as far as EMCOR is concerned, but the UK and in fact the US portfolio of construction and service contracts is large enough and broad enough that it's not going to be materially effected by any particular renewal or non-renewal of a facility service relationship.

Great, thank you very much, Frank.

You're welcome.

Your next question is from Stafford Southwick with American Century.

Good morning and I'm new to this story but I have one basic question as far as your mix of US business funded by state and local budgets, governments, I just kind of want to know your exposure there and if there's any impact from the constrained budgets.

Yes, the, I don't mean to say yes to the second question, I understand the question... The pattern of EMCOR's operational revenues and contract backlog over the last several years, as I commented to an earlier caller, has been an increase in the proportion of our business that is attributable to various public or quasi-public sources, like municipal water authorities, like federal or state transportation agencies, and the like, and you will have seen from the backlog chart that we have published today and that we publish every quarter that both our revenues and our backlog calculations have been impacted very postively by the move that we consciously made from the declining private commercial-industrial sector over to the public and quasi public sector as long as 2 or 2.5 years ago. And that has paid off handsomely for EMCOR and for its stockholders. Currently, the strength of those markets continues for us, keeping in mind that we are also a significant participant in the Canadian and British market, taking advantage of the diversity of our geography to wean ourselves from vulnerability to any particular geographic market.

And although we are aware of the many EDI (ph) reports about issues in the financing of municipal and state project in particular, we have not had any material deferrals or cancellations of projects, and there are a couple of reasons for that, I think. First of all, the role that we play in a typical large-scale, new publicly financed construction project is in the details. We are a system installer and maintainer, and the work that we do is very frequently provided substantially in the latter stages of the contract, where a great deal of capital has already been committed and extended on a project, so that there is a momentum involved which militates against the likelihood of a deferral or cancellation.

Second factor, many of the services that we provide are deemed by governments to be critical or essential services. We work on water systems. Clean water is a given to American life, and I think that is regarded as a right by many people. And a decision to clean up water distribution system is not easily rescinded, nor are transportation projects. And the last thing is that although the financing difficulties at municipal and state levels are well known, there is a good deal of federal money in the many projects in which we're involved, and secondly, the municipal bond market continues to be somewhat vibrant still.

And the amount of educational work we are doing is not affected, as far as we can tell, by any kind of significant budget distress. So that was a rather lengthy response, but there you are, at the strength of the market is subject to a lot of factors which have helped to keep it a major source for EMCOR.

All right, thank you.

You're welcome.

Ladies and gentlemen, again, press star and then the number one your telephone keypad if you do have a question.

Your next response is from Jamie Cook with Credit Suisse First Boston.

Hi guys, there were too follow up questions. In terms of backlog, can you give us the amount of backlog at year end that came from -- of the 2.9 million from facility services. And then the next question is, in terms of your retirement, I think only a small portion of your employees have a pension. Could you just update us on that and what the status is of the -- the funding status of the pension.

Sure. I cannot give you a universal backlog number for facility services. I can remind you of the CES addition to facilities -- to the overall backlog, which is $207.5 million at year end. We have not calculated nor published a universal backlog number for Facility Services, per se.

Excuse me. With respect to our pension costs, Leicle, do you want to -- let me say, in general, that we have one minor portion of our U.K. pension obligations that consist of a defined benefit plan. The plan was closed to new participants some time ago. Leicle, any comments?

Well, you will notice in the statement of shareholders' equity, there is an after-tax number of about 3.5 million that has to do with a charge for that particular pension fund in the U.K. As we said, it's the only one -- if you look back in the footnote, you will see there's no doubt it's like the rest of them due the changes in market conditions, there is a -- if you look at future benefits, there is an under-funded (ph) position there that is disclosed. We have taken in the amount that is required through our accounting this year.

Great. Thanks a lot, guys.

Listeners, I -- those of you who know me well know that I never cut off a discussion, but I do have to leave in about five minutes for a media thing in New York this afternoon. So, we'll take another couple of calls, if there are any additional calls, and otherwise we'll conclude soon.

There are no further questions at this time. I'd like to turn the call back over to management for any closing remarks.

Perfect. Well, thank you, once again, all of you, for your interest in and support of EMCOR Group. Thank you, in particular, to our old friends who have participated in this call. Watch this space for interesting future developments. Thanks, again.

This concludes today's conference call. You may now disconnect.