EMCOR Group Inc (EME) 2003 Q1 法說會逐字稿

Good morning. My name is Amy and I will be your conference facilitator. At this time, I would like to welcome everyone to the EMCOR Group 2003 First Quarter 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 with like to withdraw your question, press star, then the number two. I would now like to turn the conference over to [Eric Boyriven] of FD Morgen Walke. Sir, you may begin.

Thank you, 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 2003 first 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 earnings conference call for the first quarter of 2003. For those of you who are accessing the call via the Internet on our Web site, welcome, and we hope you have arrived 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 will have the opportunity to view the slides by simply accessing the link on the home page of our Web site, a quick registration, and you will be at the slide show. Later in the presentation, we have an additional video feature, as we plan to highlight the development in growth of EMCOR's leadership position in the transportation market. Currently, everyone accessing the slides should be on Slide 1, which is the EMCOR title slide. Unlike other presentations, we will retain control of the slide show and will advance the slides for you. There will be no need for you to fumble with your keyboard or mouse.

Slide 2 depicts the executives who are with me to discuss the quarter, and 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 Scrawski, Director of Communication 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, including the slides and video vignette will be archived in the investor relation's section of our Web site under presentations. 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 developments may differ materially from those anticipated in these statements. With that said, please let me turn the call over to Frank. Frank?

Thank you, Kevin. That was both exciting and moving. Good morning, everyone, and welcome to our 33rd quarterly conference call for investors, analysts and other friends of EMCOR Group. Today's call is being conducted by telephone and by simultaneous Webcast. Continuing a policy that we started more than a year ago, and which has been popular with participants, the latter portion of this morning's presentation will include some special Webcast slides and a video that illustrate a particularly interesting sector of our business.

In order to coordinate, our regular series of Webcast slides and pie presentation, I'll be referring from time to time to the slide number located in the lower left hand corner of each slide. Right now, we're still on slide number 2. We'll conduct today's call in our customary manner. First, a discussion of the first quarter financial results, which we announced early this morning, followed by a review of the evolution of our contract backlog with special mention of some notable contract awards from the recent quarter and some comments on the continuing integration of our recently acquired CES companies.

Then comes the special segment feature, following which I'll wrap up with some concluding comments and earnings guidance. Then, there'll be a chance for you to make comments or to ask us questions and as you can see from the slide, a number of senior managers are here to assist me with the answers.

So let's begin. Please move to slide 3. The first quarter of 2003 is our 31st consecutive profitable quarter, a remarkable record of consistent performance through many industry changes and macro economic cycles. It was also another typically weak first quarter from an earnings standpoint, a pattern that we've replicated year after year, and which is a product of seasonal factors like weather related inefficiencies and customers' budget allocation cycles, together with EMCOR's conservative income recognition accounting policies.

Exacerbating these normal seasonal factors were continuing challenging conditions, notably in our private sector commercial markets, particular weakness in our UK operations, and overhead costs, assumed and expended, in connection with integration of CES.

As a result of all these factors, earnings for the quarter were $3.3 million, or 21 cents per diluted share, compared with 7.3 million or 47 cents a share in the year ago period. Despite the numerous challenges I just referred to, revenues for the quarter were an all time record 1.1 billion in the first quarter, a 31 percent increase over last year's quarter and very importantly, a 6 percent increase in revenue from organic sources.

Gross margins as a percentage of revenue were constant year over year at 11 percent, suggesting that EMCOR's diversity model has continued to provide us with opportunities for revenue growth at acceptable margins despite the economic circumstances.

Of particular note during the quarter was an increase of 32.3 million or 42 percent over first quarter 2002 levels in selling, general and administrative expense, and 10.3 percent of quarterly revenues compared to 9.5 percent a year ago. 31.7 million or 98 percent of the increased overhead costs were directly attributable to the CES acquisition and integration process, which is continuing as we speak.

During our last conference call, we said that the CES integration would be more difficult and expensive than previous acquisitions, but that the result would be a unique, consolidated delivery system for nationwide facility services, which would give us the opportunity to leverage our existing $1 billion base business in facility service into something much greater. We continue to believe emphatically in that prospect, and the integration process is progressing as anticipated, with substantial completion expected for around midyear.

Interest expense debt was $2.2 million greater in the first quarter than in the year ago period, reflecting the debt utilized for the CES acquisition and for the financing of revenue growth. In general, the first quarter operating results reflected a modest reduction in both revenues and operating income in our US electrical and service activities as a result of a change in business mix towards longer-term, slower burning construction projects, particularly in the public sector.

Our US mechanical and service activities reflected increased revenues with decreased operating margins, primarily as a result of continued recessionary pressure on our Midwestern US markets. US facility services increased dramatically in terms of both revenues and operating profit, moving from a loss in the first quarter of 2002 to a substantial profit this year.

Growth in facility services was a product of both the CES acquisition and of organic growth from our previously owned service network. Our Canadian operations improved in both revenue and profitability during the period, while our UK operations grew in revenue terms, but sustained a significant operating loss due to project--due to a project termination and several project write downs, a $3.5 million deterioration from the year ago quarter.

We're very disappointed in our UK operations, notably on the construction side of that business and will be taking the necessary steps to improve its future performance. Fortunately, the UK market seems to be improving, especially in the rail transportation segment where we are a very strong player, so there is reason for optimism.

Overall, our first quarter 2003 operating results reflected the successful operation of our diversity model amidst a very complex and challenging environment, enabling us to show substantial revenue growth and continued profitability. Please move to slide 4.

EMCOR is often a net investor of operating capital at this time of year and this factor, together with the overhead and interest expenses referred to earlier, resulted in a modest increase in balance sheet leverage during the quarter, although well within our comfort range at about 25 percent total debt to capitalization, compared to about 22 percent at the end of 2002.

Balance sheet cash was $56 million, down from $93 million at year end and accounts receivable and payable, all within our major balance sheet accounts, were efficiently managed during the quarter, reflecting net over billings of just under $100 million.

Illustrating once again the effectiveness of our diversity model in a difficult market, contract backlog rose to an all time high of $3.1 billion, 23 percent higher than a year ago, including 16 percent year over year organic growth and six percent higher on a sequential basis. For a look at the details of our backlog evolution, let's move to slide 5.

EMCOR's contract backlog, consistently and conservatively calculated, has risen from about $1 billion at the end of 1997 to more than $3 billion today. This growth has been accomplished, despite a major recession and its impact on the former flywheel of our business, the private sector commercial market. Through replacements and enhancements of overall contract backlog, despite a major decline in commercial building construction, is a statement of our versatility and of our success in accessing strong markets like government and institutional work, healthcare, water and wastewater treatment and public transportation.

On slide 6, we show some of the recent project awards that illustrate both our diversity and our versatility. In the healthcare field, we received important awards from the USC Medical Centers in Los Angeles and the [Banner Astrila] Medical Center in Phoenix. Our Washington DC subsidiary booked a contract from the Defense Threat Reduction Center, while our Chicago and Sacramento companies were awarded construction contracts by ABN Amro and by Calpers for office building complexes.

We'll be working for a long time at highly valued customer at the new [Lareve] Casino Development in Las Vegas. And two recent awards typify our strength in a major long-term growth market that we have chosen to highlight during this quarterly call, Public Transportation Systems. We were the successful bidder on Concourse J at Miami International Airport and also on the [Hoystone] Expressway ITS System in Queens, New York.

These important projects are only the latest in a series of profitable long-term EMCOR relationships in the public transportation sector. We target this sector for a number of reasons. Firstly, demographics--EMCOR companies are concentrated in urban centers of population and public transportation systems are big city projects, catering to EMCOR's strengths and demographically driven.

Secondly, transportation systems frequently demand both construction and facility services, enabling EMCOR to cross sell our wide array of services on a very long term and consistent basis. Thirdly, public transportation systems increasingly incorporate significant and sophisticated electrical and mechanical systems, so EMCOR's role is more and more critical to the efficient design, construction and operation of the system.

Starting on slide 7, we highlight some recent and current EMCOR transportation projects that illustrate our strength and diversity in this large market. For EMCOR, the Jubilee Line Extension has seen the best of both worlds--a multiyear construction program on the world's newest and most modern subway line, involving revenues in the hundreds of millions of dollars. Follow that, a completion by a five year facilities contract at London Underground, cementing our relationship with this blue chip customer.

Slide 8 is an artist's rendering of the future home of the London terminus of the Euro Star high-speed train. EMCOR's British subsidiary will play an important role in the reconstruction of historic Saint Pancras Station to transform this Victorian building into a 21st century structure. When combined with another EMCOR project, the reconstruction of the railing from London to the Southeast Coast, these state of the art facilities will allow high-speed train service all the way from Central London to the convent.

Slide 9 illustrates the Los Angeles Metro Rail Gold Line project, a 14 mile extension of the light rail system from Union Station to Pasadena, on which an EMCOR company will perform the street and LRT lighting systems, traffic signaling and grade crossing control contracts on a design build basis.

Slide 10--an overpass with suspended traffic signals from the recently completed I-15 reconstruction project in Salt Lake City shows a portion of EMCOR's scope of work on this successful consortium project. The same group of companies, including EMCOR, is currently performing the massive T-REX project in Denver, shown on slide 11.

Any of today's listeners who have driven through the I-25 I-225 intersection during daylight hours will agree that it's a mess. The new project is a five-year job on which EMCOR will install the roadway lighting, traffic signals, light rail cabling and traffic surveillance and control systems, part of a massive reconstruction of the entire central artery through Denver.

Slide 12 shows an EMCOR crew installing a portion of the varied cabling system and illustrates the cooperation required of the various consortium members to successfully integrate their respective scopes of work. Slide 13, depicting a group of British Airways wide body aircraft on the ramp at London's Heathrow Airport, is the queue for us to discuss our second press release this morning and a major contract award in the facility service sector, a three year extension and scope expansion of our long term relationship with this premier international air carrier and major facility owner.

Eleven years ago the British Airways EMCOR relationship was born when the airline made its first outsourcing facilities management responsibility in the UK. Over the intervening decade, the BA contract, and in particular its Heathrow component, has been our flagship reference of the facilities service business, representing the numerous benefits that can flow from the outsourcing of facility responsibility to a skilled professional group.

Today's announcement identifies EMCOR as the airline's single source provider of facilities management services to more than 100 sites, including its Waterside Headquarters building as well as Heathrow and Gatwick Airports. The contract, valued at $40 million per year for the core business, is expected to save British Airways more than $4.5 million a year in facility operating cost. Just as importantly, as the British Airways Representative states in the forthcoming video, EMCOR's solid delivery model characterized by openness, trust and commitment, represented the best commercial deal for the airline.

Webcast participants will now see a two-minute video clip in which Andrew Grainger, the British Airways Officer in charge of property management, discusses the benefits of the long-term relationship with EMCOR. For those on the telephone call and not on the Webcast, don't leave. I'll be back in two minutes to sum up and to answer questions.

Video Presentation - British Airways chose EMCOR facility services for its [unintelligible] health and safety, procedures, but also it was the best commercial deal. In a project of this magnitude, BA looks for a number of qualities in a business partner--in particular, really robust processes, confidence in delivery, openness, trust, flexibility, commitment all go without saying. Contract was extremely important to EMCOR's development. Our relationship with British Airways [unintelligible] serve large blue chip clients with multi service multi site kind of activity that we're good at providing and this is a good example of that kind of service.

EMCOR was up against considerable competition in winning this contract. There was no one thing which put them above everyone else, but there were a combination of factors and in particular, the confidence we've gained over recent years of experience working with them; in addition, their ability to deliver a range of services to us.

Now that includes services in our front lines, in our passenger land use, passenger facing through to technical and industrial buildings--cleaning and portage, reception at the front desk for the entire UK portfolio. [Unintelligible] of EMCOR we expect will save British Airways about three million pounds per year. That's derived from a reduction in overhead costs, efficiencies through the supply chain and of course, EMCOR's very large purchasing power.

British Airways, like EMCOR, has focused in recent years on long-term partnerships, particularly for its critical services. EMCOR has worked very closely with us during periods of difficult change showing great flexibility and pro-activity and that really has built the relationship.

It's a next step in a very long range working partnership between two organizations for the good of both and it's a pleasure to be working with British Airways.

We have confidence and experience with EMCOR that EMCOR can deliver solutions and we can have confidence in their ability.

We're back. We're very proud of this expansion and extension of the mutually beneficial relationship with a very important customer. We're equally proud of the long record of consistent growth and performance, which has been established by EMCOR's management team. I was particularly gratified to learn from the recent publication in Fortune Magazine's 2003 List that among other things, EMCOR Group is number 15 among the Fortune 500 for five year earnings growth.

This is the kind of long-term performance that our diversity model was designed to produce and it's working. Two months ago I provided 2003 revenue and earnings guidance to the market at levels of 4.4 to $4.6 billion of revenue and $4.25 to $4.60 earnings per share. Based on our current outlook, I'm pleased to reiterate that guidance today.

That's it for this time around. Now it's time for your comments or questions and Amy is here to instruct you on how to queue.

Thank you, sir. At this time I would like to remind everyone, if you would like to ask a question, please press star, then the number one on your telephone keypad.

Your first question comes from Jamie Cook with Credit Suites First Boston.

Hi. How is everyone?

Hi Jamie.

My first question--if we look at your SG&A, I understand that it was higher because of the integration cost with the--and it should run higher just because you have a larger percentage of facility services in there. But can you give us an idea of anything that was in that number that was one time--that was sort of a one time item for the first quarter? And can you comment on a normalized level of SG&A going forward, excluding one-time charges?

Yeah, let me take the last portion of the question first, Jamie. I have spoken numerous times in the past about one of the aspects of our goal of enhancing the proportion of our overall revenues and profits that is attributable to facilities service work. One of the characteristics of facilities service is that it attracts a higher proportionate level of general administrative expenses, in part because of the enhanced marketing and sales activities associated with the business compared to construction, and in part because of some of the on call nature of the work performed.

The result is that as we have planned and modeled going forward our enhanced participation in the facilities service business, we have also expected that there would be an incremental increase in the proportionate relationship of SG&A charges to our overall revenues, but certainly not at the level of 10.3 percent, which we experienced in the first quarter 2003.

That number clearly represents, not only the assumption of enhanced levels of SG&A associated with the nature of an operation like CES, but also, charges associated with the assimilation of CES into EMCOR Group and the corresponding assimilation of certain previously owned parts of the EMCOR service network into CES. We spoke about this on the last conference call, and I discussed the fact that this is a dual kind of assimilation process that involves organizing CES into EMCOR's systems and organizational structure and at the same time, adding EMCOR operations to CES.

So it was always going to be more extensive and difficult than, for example, the Comfort Systems acquisition in the early part of 2002 and it's turning out as anticipated. It's going well. When we're finished we will certainly be experiencing some of the economies of scale and synergies, which would naturally flow from such an acquisition and such and integration process and the percentages of SG&A to--and their relationship to revenues will certainly decline from these first quarter levels.

But can you quantify the one time charge, I mean, the one time items that you talked about or, I mean, do you have those numbers or you just don't want to give them out?

We do not have those numbers. They are, as you can see, a large number and they are a mixture of evolving systems and evolving workforces, that we are just working as fast as possible to get normalized. What we can say with extreme certainty is that they are going to be lower when they are normalized than they are now.

As you know, we never price for synergies. We never construct deal multiples, for example, that are based on some illusory kind of number that represents savings from an amalgamation or integration process. But we do know that they are there.

Okay, and then my second question--if we look at operating margins excluding the acquisition, you know, your margins for your base business were down and I understand a large--largely because in the UK a one time item; however, even, you know, you didn't quantify what that one time item was, but results in the UK have sort of been sub-par for a while now. Can you talk a little more about the efforts in that location to improve your margins, and whether you ever think you'll achieve US type margins?

Yeah. The UK business for the last nine years has been comprised of approximately equal amounts of facilities service and of construction revenues. In fact, the UK market was the genesis of the facilities management business that we think is so promising for North America. And over that nine-year period the story of the British facilities market and indeed, the performance of our business has been one of consistent growth and profitability.

The British construction market, on the other hand, has had all the characteristics, including the unfortunate characteristics of some aspects of the construction business, including volatility, and in the British case, reliance upon some large projects, and with that comes vulnerability to write downs on large projects that go poorly.

And in the first quarter we had a single project on, a hospital project on which disputes arose between the developers and the users of that project that led to a termination of the contract and a write down by us of costs that we hope will be recoverable, but that we have written down.

That was the major single factor, although there was weakness in another couple of contracts on which we also took write-downs and we have had a slower than expected startup in the major rail projects that I alluded to during the body of my presentation. What that has meant is that we've had both less revenue on those projects and no profit because of our conservative income recognition policy.

The British construction market, in particular, remains a management issue for us that we are working hard to address. We don't think that it's a permanent problem and we do have long term faith in the British facilities service business and its ability to provide not only consistent profitability, but also a buffer to the more cyclical nature of the construction business.

Okay, thank you.

You're welcome.

Your next question comes from Alex Rygiel with Friedman, Billings Ramsey Group.

Alex Rygiel, good morning.

Good morning, Frank. A couple quick questions--first, with regards to your backlog, can you give us a general comment on where margins in your backlog are today relative to where they were maybe 12 months ago and relative to where your margins were for your revenue stream in the first quarter?

I think--and Alex, this is a very involved question because there are thousands of projects that we're talking about here. In looking at the quality of backlog, we don't have a better way to look at it than by looking at the evolution of the gross margin percentages that we're reporting from backlog burn off.

And I would say that as a consequence that the long term projects that have been added to backlog--and it's a higher proportion of them than was the case a year ago--have acceptable margins. We reported 11 percent gross margin in the first quarter and that was despite having a smaller than usual proportion of small short term projects that typically have a higher gross margin for us.

So I was quite satisfied with the gross margin performance during the first quarter and what that reflected in terms of the adequacy of the margins available from the work that we are currently bidding and obtaining.

Second question--you know, a couple months ago when you were talking about guidance for 2003 you did some simple math that talked about backlog that you would burn out in 2003, you talked about your facilities services revenue stream and then you talked about the unknown revenues coming from this fast track work, this short term, quick turn business, which usually represents about a third of your business. Now that we're about four months into the year, can you talk a little bit about how that business is progressing, the business that doesn't flow through backlog and what you expect over the next eight months or so?

Well, the revenue that we need to book, whether short term or long term, is still a substantial number but we're making excellent progress towards it. I think that our first quarter revenues were frankly a little higher than we expected. They showed very substantial organic growth, even though I will still say that the quick turn, small task, short term projects that make up a substantial part of that business and a substantial part of our profitability, are still not as strong as we would like, because a great many of those are associated with the private sector and the commercial buildings market.

So despite that weakness, I think that the diversity model is working. We're extremely happy about the backlog evolution and clearly, we are booking work faster than we are burning it, despite record levels of burning it. And accordingly, I think that all the fundamentals are there to give me a confident feeling about the record revenue levels that I continue to project for 2003 of 4.4 to 4.6 billion.

One last question--British Airways is an excellent example of a long-term facilities management relationship. I suspect that long term, if we were to chart revenue growth, it would be positive. If we were to chart margins from the facility--or from the British Airways contract, what direction would those margins be going in? Would it be positive or negative?

I think that this is a relationship that has lasted 11 years and that has gotten better for both parties over that 11 year period. I think that the airline and EMCOR have learned a lot about each other and what, in particular, what EMCOR can do for British Airways in terms of both quality enhancement and cost savings. I know that EMCOR's relationship has become nothing but more positive over the years.

I think that in the video clip the British Airways representative refers to the fact that there have--there were some difficult periods and that's well known, that British Airways has had a kind of an up and down decade or so, including some periods of significant weakness, and the EMCOR relationship has helped them through that.

Speaking on the EMCOR side, I can say that the quality and the profitability of our relationship has increased significantly over time and this new contract calls for both an enhanced base business and also an enhanced opportunity for spin off business from the core service relationship that we have with British Airways since we've got more buildings and more things to do in those buildings.

Great. And actually one clarification--you had mentioned that the year over year increase in SG&A of 32 million, 98 percent was due to CES. Did you also mean to include the Comfort Systems, the two months of Comfort Systems that wasn't included in the last year?

I did indeed.

Okay.

That's a good catch.

Thank you.

Your next question comes from Michael Roesler with CJS Securities.

Good morning.

Hi Mike.

You've mentioned the unique nature of the CES acquisition and I'm sort of just wondering the sort of how the allocation of that expense might have been spread across, say the US mechanical and electrical business, which also includes facilities services.

Go ahead, Leicle. He's inquiring about the allocation of the SG&A associated with the CES acquisition to sectors.

Yes, it's all in facilities services. We've called that sector "other" in the past and because it's heavily weighted to facilities service now, you'll see the title "facilities service and other" and that's the majority, by far, the majority has to do with facilities service and CES is completely in that sector.

Yeah, and I wanted Leicle to add to that because I was 98.3 percent certain that 100 percent of it was in that sector, but it's better if he answered.

Okay, and in terms of the BA contract, can you maybe just give us a little more detail on that, the increase in the scope of the contract?

Yes. The press release is quite specific about it, but the scope increases are both with respect to the addition of more buildings, bringing the total number of facilities to about 100, and also the scope of the services provided at those buildings including, for example, furniture and other asset management and the like. So it's a--it refers to the relationship as a single source provider, and it's one that reflects an expansion, in some cases modest and in some cases substantial of our relationship.

And Frank, there's--I'm just wondering--in your Q there's a mention of a sort of arbitration in relation to a project in the UK. I was wondering if that's related to the termination of the hospital contract or is it something else?

No, no, no. That's old, old, old. That dispute was festering at a time when I joined the company, in fact. The project in question, a British Department of Defense project, in which a British company was a subcontractor to a general contractor called Mullins, began in 1993 and the project was terminated amidst controversy all around in 1995.

Various arbitration and other processes have been underway since that time, including allegations of design problems, which we were contractually not responsible for, and various disputes have been undertaken with the customer--that is to say the DOD.

Now the parties to the contract for construction itself--that is Mullins and [unintelligible]--are fighting things out, and this is just the quantification of Mullins' allegations that we have known about for some time and that we consider to be without merit.

Okay, thanks.

You're welcome.

Your next question comes from James Capella with [Kern Capital].

Hey, good morning, gentlemen.

Good morning.

I am on the road and do not have all my materials so please bear with me.

All right.

In the quarter do the bucket of revenue that's 250,000 that's fast turn projects, what percent of total revenue was that, and where was that last quarter?

I'm sorry, [James]. I'm not with you. Leicle is going to try it.

Okay.

We have 250 million of increase in revenue over last year, of which 200 million of that came from acquisitions. I don't recall any comment on fast turn work, quantifying that.

You said 250,000 at the outset and--.

Yeah, so you guys usually don't put that in the backlog.

Oh, oh, oh, oh, okay. The--yes, the--as I was mentioning on the previous question from Alex, I think that it's fair to say that we're still not seeing a substantial improvement in that kind of fast turn work. That is the kind of voluntary small under-the-radar capital spending that we frequently get from owners or end users of commercial buildings and it, like the rest of the commercial buildings market, continues to be depressed.

Although I will say--and you, in a year's time you can say you heard it here first--that I think we are seeing, at least anecdotally, a little bit of a return of confidence to this commercial buildings market.

Okay, and could you quantify the percent of revenue derived from those 250 and under?

Leicle, do you have a number like that?

No, we have not broken that down. Historically it's in that 20 percent range.

Right.

And like you said, it's probably a little bit livelier seeing a trend towards longer term projects, but it's not a huge deviation.

Okay, and then related to that, when did you guys start seeing the weakness in the fast track business?

In 2000.

Okay, all right. And then, if you can discuss more the UK hospital project, how large that project was to you in potential revenue and what the revenue or exactly what the write down was, how much?

No, we're not disclosing that. Frequently in the case of projects in dispute, it's not permissible for us to talk about the project. But I don't want to leave you with the impression that the entirety of the British problems were attributable to one project, although that was a significant problem. There were weaknesses in another couple of projects on which we also took write downs and we did have a slow startup of those rail projects that I talked about on the call.

Okay, what I was just trying to get to is if it was a project, the hospital project was of a greater magnitude than you usually do have, if there's other projects that possible--that it would be possible to go that way where there's extra risk in that UK business second loan.

Yeah, I understand. Well the--I -tend to feel that this, the project in question and the problems in the project in question were a result of the unique structure of the project and the politics between the developers of the hospital and the ultimate owners of the hospital. The project agreement was terminated as between the developers and the owners and of course, all the construction contractors are victims of such disputes.

Okay, great. And then if we can talk about, there seem to be--the way you guys manage your business has been quite stellar; however, in the quarter there was a disconnect between what the Street had--which you don't give quarterly guidance--however, there seemed to be a disconnect for what the Street had to where you guys were coming in the quarter. Can you address any kind of linearity for the rest of the year in terms EPS target?

Well, as you know, just to reiterate it, my annualized guidance, I've said many times in the past that I think it's unwise and unproductive to provide specific quarterly guidance and I'm very sympathetic with people whose jobs require them to do so because it's a difficult task, particularly when you have a big company like ours with a small number of shares out with resulting sensitivity and volatility.

It goes without saying that by reiterating annualized guidance, my own view is that we will continue to perform well on a revenue line, that we will continue to show substantial performance on the gross margin level, that we will reduce the percentage of SG&A as it relates to revenue and that we will, with the advantage of better visibility than I had when I first provided it two months ago, I'm confident of our ability to make our guidance for the year.

With respect to any perceived shortfall that exists between what the analysts' consensus used to be for our first quarter and what we have just announced, you are quite correct in pointing that out, but you have also, you're also quite correct in pointing out that we didn't ever guide to the first quarter and given the fact that in dollar terms the short fall between the previous analysts' consensus and our performance is something like $4 million on 1.1 billion, I don't have much concern about our ability to make up that on a shortfall over the remaining 3.5 billion or so of revenue that we expect to report this year.

Okay, and lastly, could you comment on where you think in the fourth quarter the gross margin or operating margin might rise up to?

The--no, the--what I've given in terms of guidance is exactly what I wanted to say with respect to both revenue and with--I'm sorry--is exactly what I wanted to say with respect to the, both the revenue levels and the ultimate probability.

It is fair to say that the first quarter represented the replication of a pattern that we always reflect, and that is that our first quarter's always weak in earnings terms for reasons that I went into at length on the call. Our second quarter improves; typically SG&A levels come down because of the absence of various prepayments and the development of revenues. Profitability improves, among other things, because of improved efficiency due to the lack of weather constraints. I don't know if anybody noticed, but this was a Preeti bad winter in a great many areas of our business.

And the fact that as projects reach the 20 percent completion level, our conservative accounting policies permit us to begin booking income on those projects. So typically--and I'm talking about year after year for the last eight years--EMCOR Group has shown an acceleration of earnings performance as we go through the year, up to and culminating in the fourth quarter. So I have no reason to think that we won't do that again this year.

Fair enough. My only concern, Frank, was the discussion how--and I think that this relieves services business is it the right one to be in and grow--however, you mentioned that that carries higher SG&A cost with it and that was an area of concern for me in terms of raising margins.

And it's true. But it also--there's a tradeoff for everything. It has higher gross margins too. So it's a better business for us in our view, with respect to the reduction of risk associated with it, but there's always a price for everything and the price for risk reduction is enhanced SG&A cost.

On balance, we think that our model, calling for the continued enhancement of our facilities service revenues to a position somewhere approaching parody with construction revenues, is about the right model for us and for our stockholders.

Thank you very much.

You're welcome.

Your next question comes from [Preeti Dubay] with [Siegel Nicholas].

Hi [Preeti].

Hi. Actually, I would like to know more about the [unintelligible] operations. It appears to me that, you know, Comfort Systems, which I believe has went with operations, in [unintelligible] of impaired, was it all weather related or were there some additional factors?

Yes, good question. There was certainly a significant weather effect in the Midwest, which all know about. But I don't--I hate whiners and I don't want to whine about the weather. The weather was the same for everybody.

The--but the other significant factor, [Preeti], was the fact that in our more heavily populated areas of the country--notably the two coasts--we have been very successful in making a move from private sector projects over to public sector institutional and infrastructure projects. And the fact is that our ability to make that move, to be nimble in moving from the private sector to the public sector, is at its greatest, in the centers of the population on the two coasts--the Northeast and the California markets.

And the opportunity to be that nimble is just not as great in the Midwest where there are a few significant centers of population, but certainly not as many and, ergo, not as many government services as there are on the two coasts. And I think that that was perhaps the significant factor in terms of the access of our, of both our Comfort Systems companies and our preexisting Midwestern companies to substantial operational growth during the period.

Okay. And so, when do you think you will be able to get back to your normal profitability trends there?

Well, I think that we are going to get back to our normal profitability this year due to a number of factors, one of which will be the good performance of our facilities service business, even if we continue to anticipate weakness in some sectors of the private market.

As I mentioned during the last conference call, my underlying assumptions with respect to the lower end or base case per our guidance--that is $4.4 billion of revenue and 4.25 per share--do not assume any improvement in the private sector for the remainder of this year. That is status quo with what pertained at yearend, whereas the upper end of the range that I reiterated this morning--$4.6 billion of revenue and $4.60 per share--assume a modest improvement in the private sector in the second half of this year.

And so I think that what I've just reiterated is a feeling that even if the circumstances in the Midwest do not substantially improve for the remainder of the year, we should still make the lower end of our range.

And also--this is a different question--can you provide us with any kind of a range regarding the operating margins since CES, or even how it compares with other, with the other EMCOR facilities services operations?

Well, there is a breakdown in the Q of segment information that is about as much as we can say about it, [Preeti]. If you look at the segment for facilities services and other, as Leicle was saying on a previous question, those are--those numbers are substantially CES and you get a Preeti good indication from that as to what the operating characteristics are like. They showed a substantial profit for the quarter and were major contributors to our overall profitability.

Okay, thank you.

You're welcome.

Your next question comes from [David Cohen] with [Perallen].

Hi [David].

Hey, congrats; good quarter. Wondered if you could just comment on working capital seemed to be up quite a lot in the quarter and I just wondered if you could comment on that.

Well, I thought that working capital performance was quite good in all the circumstances and I highlighted the receivable and payable evolution during the quarter, which frankly, quite surprised me. I was surprised to see receivables down nicely and as I mentioned on the call, we're still over-billed by $100 million, which tells me that that's good management of those two major accounts at a time when we are growing and therefore investing in new projects.

And especially in these longer term slower burn projects, it's harder to get your money out of those projects, particularly in the initial phases, than it is when projects are moving fast. So I thought that the working capital evolution was Preeti solid during the quarter and was one of the, you know, maintaining balance sheet cash and I think $55 million or thereabout, and a total debt to cap at about 25 percent, I thought was Preeti good. Leicle, do you have anything to add to that?

No, I think that's right. What you are seeing is the change in the characteristics. Usually in the first quarter, this is when we do use cash. If you're starting projects, that's when you're investing those funds and as you get going further along, the customer can see things develop, then you're in a better position to fill and change that position a little bit. But in the first two quarters we're typically consumers of cash as we start projects.

And I guess then last year was just unusual in that it was going down, you were sort of lowering working capital in the first quarter and 02 was a bit of an unusual year?

Yes, 02 was significantly unusual. There, you had in the first quarter, a lot of the finish up the old telecom work and you'll see that comment when you look at the electrical section of that. And therefore, their 02 was a different situation as well as Comfort was not in there except for one month and CES wasn't in there at all during that timeframe.

That's great. Thank you very much.

Okay David.

Your next question comes from Raymond Cheng with Lehman Brothers.

Hi Ray.

Hi, good morning guys. First off, I was just wondering if you can elaborate any revenue synergies that can come out of the CES integration process. And can you help us like do a better job in terms of like tracking the progress of this integration process from your revenue point of view?

Let me try.

Okay.

First of all, with respect to synergies, the first synergistic aspect of the integration process is from the cost standpoint, and that is that we are merging previously owned EMCOR companies into CES and expect to sustain some synergistic reductions in cost associated with that. We can't quantify them yet, but we do expect them to occur.

The second synergistic impact, which is already beginning to occur, is on the revenue side. We spoke about this on the call when we announced the CES acquisition and we alluded to CES customers, of which there are about 10,000. That includes customers like the federal government--a very important sector that we had no particular expertise of accessing in the past and which CES is very good at.

We are looking forward to begin able to offer facilities services to a much broader scope of federal government facilities as a result of the larger stage that our CES personnel can play on now that they have the EMCOR delivery system behind them.

And there are other private sector customers like Proctor & Gamble, for example, which has been a CES customer at their headquarters for something like 40 years and we look forward to and are already pursuing the leveraging of those CES relationships onto a much broader stage.

Great, and in terms of cost, can you give us some specific milestone you're aimed to achieve this quarter like, for example, like offices you plan to consolidate or work forms you plan to rationalize?

No, we don't want to provide that kind of detail, in part because the integration process is one of gradualism in which we decide based upon the performance of moving entities, of active entities, how they will perform together. There are no specific benchmarks that we're looking at in terms of the overall performance of the business in certain circumstances.

We are--we of course, had a plan when we made the acquisition and we are pursuing that plan in the integration process. But things can change as circumstances change. If, for example, we had a major project win that resulted in the receipt of a significant volume of facilities service work in a certain geographic area for a lengthy period of time, we might make a different determination concerning a planned merger or restructuring.

So I think that--and I know that that's not a completely detailed answer to your question, but we are dealing with a moving target here. Our market is changing for us all the time. In the facilities service area, it is changing positively, and one thing we certainly don't want to do is to shrink an operation in the name of cost efficiency only to find that we are under--that we have under capacity with respect to a growing market. So there's a balance there that we are continuing to try to seek in all aspects of the CES relationships.

Very good. And in terms of the revenue increase coming from the acquisitions of CES and Comfort Systems, about $200 million year over year, can you segregate for me how much of that is to do with CES?

Out of that, a little bit over half of that comes from the CES activity.

Over half of it, okay.

Well, a little bit over a half. The revenue run rate for CES last year, if memory serves, is 420 million. And CES is at about that level so far this year. So it would figure that CES would reflect about a little over $100 million probably of the first quarter 2003 revenues.

Okay, great. Finally, in terms of the net over billed situation, like you talk about getting $100 million this quarter, it's down year over year and also sequentially. Would that be a normalized run rate since your business mix has migrated more towards facilities services?

There are many moving parts to the over billed number. You will no doubt recall from our previous call that I mentioned that it's very, very difficult to overbill a facility service relationship, in large part because a great many of the costs are captured and then presented for reimbursement.

There is also a seasonal trend to our over-billed account and this is the time of year when we are typically not over billed to as great an extent because of the typical status or stage of completion of our portfolio of contracts. So I don't regard this downturn sequentially as anything but normal. I think that it's--in fact, it's a good number given all the circumstances and particularly, continuing challenges in the overall market.

Okay, great. Thank you very much. Keep up the good work.

You're welcome. Thank you, Ray.

Once again, if you do have a question, please press star, then the number one on your telephone keypad. Your next question comes from [Ray Reed] with [Tamar Investments].

Hello Ray.

Good morning, Frank. How are you?

Good, thanks.

I have two unrelated questions.

Okay.

The first question relates to the UK. You expressed some dissatisfaction with the results on the construction site there beyond the kind of one-time events you incurred. Can you just talk a little bit about whether--how you're dealing with that? Do you need to make a management change there? Do you have adequate controls in place so you're not getting surprised by things that are happening on the other side of the pond?

Yes, I think that we are unhappy--I know that we are unhappy with certain members of UK management and they know that we're unhappy. And when changes are made--I didn't say if changes are made, I said when changes are made--they, I think we will experience an improvement in the results.

Now, I don't pretend to say that all bad things that happen in the construction business are the fault of management. For example, in the case of the hospital project in question, this is a three way relationship, in which there is a developer of the project, an owner and the contractors and disputes arose at the--at a high level that resulted in the termination of the entire contract, and there is sometimes not a lot that can be done about that.

So I'm not painting anybody with a completely black brush here but there are and have been shortcomings in the performance of our UK operations and we been aware of. Jeff Levy, our President, spends a substantial amount of time on the UK business and he has an insatiable thirst for detail about operational results. So I don't think that we are being blind sighted or surprised by this situation, but that doesn't mean we can't be disappointed about it.

Okay, great. And the second question comes back to this CES expense issue. I noticed from the disclosure in the Q that CES's margins looked like they were about sort of 4.5, 4.7 percent last year in the first quarter, at least based on the pro forma information that you've provided. Is it fair to say that much of the difference in the profitability for the facilities services group this year relates to the one time cost you're incurring to integrate those two groups? That's number one. And number two, should we expect that the heavy listing, at least from an expense standpoint, should be behind you after the June quarter?

I think that you should assume that the incremental costs associated with the CES integration process will be heavily front end loaded and will be substantially complete by midyear.

Okay.

That is the plan. The plan is going well and I think that, although there may be some carryover responsibilities--in fact, I know there will be--I think that the bulk of the work will be done by around midyear.

With respect to proportion of profitability, it remains to be seen whether and how much we can build CES percentage profitability this year. I responded on a previous question by saying that there are numerous CES relationships that we would like to and have the ability to leverage based upon EMCOR's broader geographic scope, and we think that there are--that there is capacity built into the CES overhead structure that means that we do not have to increase CES SG&A in order to take advantage of that leverage, meaning that incremental revenues obtained by CES based upon an EMCOR relationship could, and I believe should be proportionately more profitable than CES by itself.

Okay, so the margin that you reported in the segment breakdown for the first quarter in facilities management should represent a low point?

It could represent a low point. I hope it does and I think that the characteristics of that entire segment will improve, as I say, as we accomplish the leveraging program that I've described, especially after SG&A expenses are normalized.

Thank you.

You're welcome, Ray.

Your next question comes from Jamie Cook with Credit Suites First Boston.

Hi again, Jamie.

Hi guys. Sorry, one--two other follow up questions. I'll ask the integration question another way. I understand that the large portion of cost will be completed by the second half, maybe some rollover into the third quarter, but if we were to look at Q1 and Q2, without giving a number, would you say that, you know, at the end of the Q1 you're 50 percent done, you're 25 percent done, do you think there--you know, I'm just trying to get a feel for, you know, difference between Q1 and Q2, how much needs to be done?

And then my second question is, I guess acquisition opportunities going forward. Do you think that you'll, you know, wait until this acquisition is fully completed before you would go out and buy something else or I guess, what are your thoughts in that area?

All right. Jamie, there is no science to what I'm about to say and Leicle goes white whenever I preface an answer with that. But I think we're probably 30 to 40 percent done with the integration process at CES.

With respect to acquisitions, we have nothing in the pipeline for the time being. We have a lot of things to do. There is a tremendous opportunity in the facilities service business and job number one for us right now is to get the cost normalized at CES and begin to take advantage of the leveraging opportunities that we have there while this market is a bird on the ground.

I think that that is our best current opportunity to walk in profitability for the very long-term future for our stockholders, and that's always been the EMCOR model, to try to do that. We took advantage of low prices and good assets being available last year when not very many purchasers had money or credit and we gained some really important assets that are going to benefit our stockholders for a very long time. And I think that what we should be doing right now, and what we are in fact doing, is locking in those long term relationships like British Airways, Bank One and the other kind of customer relationships that CES brings us, nailing down our Midwestern dominance by our Comfort Systems acquisition and putting ourselves in the situation where we will be dominant in our markets for a very long time to come.

Great, thanks a lot.

You're welcome.

At this time, there are no further questions. Management, do you have any closing remarks?

Only to thank our listeners as usual for your interest and your support. We'll be back to you in the next quarter. Thanks again.

Thank you for participating in today's conference. You may now disconnect.