EMCOR Group Inc (EME) 2006 Q1 法說會逐字稿

Good morning, my name is Judy, and I will be your conference operator. At this time I would like to welcome everyone to the EMCOR Group first quarter 2006 earnings conference call.

[OPERATOR INSTRUCTIONS]

I will now turn the call over to Eric Boyriven, of Financial Dynamics. Sir, you may begin.

Thank you and good morning everyone. I'd like to welcome you to the EMCOR Group conference call. We are here to discuss the company's 2006 first quarter results, which were reported this morning. I'd now like to turn the call over to Kevin Matz, Senior Vice President of Shared Services, who will introduce management. Kevin, go ahead.

Thank you, Eric, and good morning everyone. Welcome to EMCOR Group's earnings conference call for the first quarter of 2006. For those of you who are accessing the call via the Internet and our website, welcome. And we hope you have arrived at the beginning of a slide presentation that will accompany our remarks today. Currently everyone accessing this 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. This is one of those times. Please advance to slide two.

Slide 2 depicts the executives who are with me to discuss the results for the first quarter. With me is Frank MacInnis, Chairman and Chief Executive Officer; Liecle Chesser, our new Vice Chairman; Tony Guzzi, President and Chief Operating Officer; Mark Pompa, our new Executive Vice President, Chief Financial Officer and Treasurer; our Vice President, Marketing and Communications, Mava Heffler; Shelley Cammaker, and 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 will be archived in the investor relations sections of our website under Presentations. You can find this at EMCORgroup.com.

Please note the financial results issued today in our press release and 10-Q, as well as the upcoming comments to be made by Mr. MacInnis and others in the call reflect a 2-for-1 stock split effective February 10, 2006.

Before we begin, I would like to remind you that this discussion may contain certain forward-looking statements. Any such statements are based upon information available to EMCOR management's perception as of this date and EMCOR assumes no obligation to update any such forward-looking statements. These forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from the forward-looking statements. Accordingly, these statements are not a guarantee of future performance. Such risks and uncertainties include but are not limited to adverse effects of general economic conditions, changes in the political environment, changes in specific markets for EMCOR services, adverse business conditions, increased competition, mix of business and risks associated with foreign operations. Certain of the risks and factors associated with EMCOR's business are also discussed in the company's 2005 Form 10-K, its 10-Q for the first quarter ended March 31, 2006, and other reports filed from time to time with the Securities and Exchange Commission. With that all said, please let me now turn the call over to Frank. Frank?

Thank you Kevin for that stirring presentation. It was suspenseful for a while there, but it ended happily I think.

Good morning everyone and welcome to our 45th regular quarterly conference call for investors, analysts, and other friends of EMCOR Group. Today's call is being conducted as usual by telephone and by simultaneous webcast and I'll be referring from time to time to a slide number to identify the relevant slide for webcast participants. Right now we are still on slide two. The focus of today's call will be the 2006 first quarter earnings press release that we issued earlier this morning and the first quarter Form 10-Q that was filed at the same time.

We will conduct the call in our customary way. That is, first a discussion of those operating results and are quarter and balance sheet, including my comments on some regional and subsidiary results. Then I'll discuss the evolution and the current status of our contract backlog portfolio, with special emphasis on those sectors which we expect to perform best over the next few periods. Then I'll hand the microphone to Tony Guzzi, our President and COO for a discussion of some notable recent contract awards from around our diverse company, followed by a review of our featured sector of EMCOR's service offerings, Green. Green projects, involving environmental sensitivity and energy efficiency [inaudible - technical difficulty] topic and a strong growth vehicle for EMCOR.

Finally, I will comment on some of the major factors that we expect to influence EMCOR's performance for the remainder of this year, including our progress towards some of our major objectives. At that point, there will be an opportunity for you to make comments or to ask us questions, and you can see from slide 2 that a number of our senior officers are present to help me with the answers.

Before we go on to our financial and operational discussions, I'd like to point out that slide 2 also reflects our recent and previously announced elevation of my old friend, the trusted adviser, Liecle Chesser, to the position of Vice Chairman, which he will hold until his retirement at the end of this year and his succession as EVP and Chief Financial Officer by Mark Pompa. Congratulations and thanks to both of these talented and dedicated officers. So let's begin. Please move to slide three.

We had a very good first quarter at EMCOR Group. All of our divisions contributed profits to one of our best first quarters ever in terms of both revenue and earnings. Revenues of $1.15 billion were 6.2% higher than the first quarter of 2005, and in line with our revenue growth guidance. Gross margins were 10% of revenues in the current quarter compared to 9.2% a year ago while general and administrative expenses rose from 8.5% of revenues in the first quarter of 2005, to 8.9% this year, owing primarily to incentive compensation accruals reflecting increased profitability, variable compensation expenses, including the adoption of FAS123R and the incremental costs associated with our Fluidics acquisition in November of last year and our previously announced EJV joint venture startup.

Earnings from continuing operations were $7.6 million or $.24 per diluted share, nearly 4 times our earnings in the year ago quarter, which included a pretax charge for restructuring expenses of $1.2 million. There were no such expenses charged in the current quarter.

Operating income in the first quarter 2006 was $12.3 million or 1.1% of revenues, more than twice the operating profits in both dollar and margin percentage terms in the first quarter of 2005. The company had net interest income in the current quarter reflecting our strong cash position and our effective tax rate was essentially constant on a year-over-year comparative basis.

As I mentioned earlier, all EMCOR divisions were profitable in the first quarter. US electrical construction and facility services operating margins declined to about 2.7% of revenues, compared to 2005, due in part to the positive effects of a $4.5 million insurance settlement in the earlier year ago period. We regard Electrical's performance as typical first quarter activity and expect their margins to substantially improve in subsequent quarters of this year.

US mechanical and facility services continued its margin advance, reporting 2% operating margins compared to a loss of 0.9% a year ago, an improvement of more than $10 million in operational terms.

US facility services operating income of 4.6 million or 2.1% of revenues was slightly lower than last year reflecting project startup costs and variable compensation charges in the current quarter. Facility services revenues grew more than 20% over last year's levels, largely from organic sources, reflecting the success of our efforts to grow this strategically important sector of EMCOR.

Our Canadian subsidiary returned to profitability compared to a loss a year ago, marking the end of its restructuring activities. And our UK operation did likewise, moving from a loss of $0.5 million or 0.3% of revenues last year, to a $1.7 million profit in the current quarter. We expect continued and improved profitability from both Canada and the UK for the remainder of this year.

Overall, we are extremely pleased with the performance of our company and our individual divisions in our first quarter, and our results support our optimistic view for the remainder of the year.

Please turn to slide 4. EMCOR is typically a net investor of working capital during the first quarter of each year, when many projects are in the startup or mobilization phase. Notwithstanding this general tendency, the first quarter of 2006 was a very good one in cash flow terms, with quarter end balance sheet cash at $91 million, no bank debt, and only a nominal amount of operating leases.

We had working capital of $382 million, record shareholders equity of $629 million, and a net overbilled position at quarter end of $174 million, a $30 million increase over year-end 2005. EMCOR's strong and liquid balance sheet and substantial available bank credit places us in a very good position to take advantage of growth opportunities as they arise.

Another key to our ongoing success is our contract backlog, which stood at $2.82 billion at quarter and, a 4% increase over the first quarter of 2005, and 2% more than in the sequential quarter.

Please go to slide 5. Our portfolio of construction and facility services contracts calculated with our usual conservatism continued to evolve towards optimal during the first quarter. Our target growth sector, private commercial projects, shown as the yellow segment on the slide 5 bar graph, exceeded $1 billion in value for the first time in our history and now comprises 37% of outstanding contract values.

Another strong growth area for EMCOR is the hospitality and gaming sector, shown in pink on the bar graph, reflecting strong demand in the hotel sector in general and our prominent position in the vibrant Las Vegas market in particular.

Our public-sector institutional business continued its managed decline, as we substituted higher-margin work from other sectors. The transportation, water and wastewater, and healthcare sectors completed our diversity picture. Overall, we believe that EMCOR's contract backlog represents a portfolio with attractive risk reward characteristics compared to previous years. We will continue to carefully monitor bidding and estimating activities to ensure the maintenance of appropriate discipline in these areas, but we will allow contract backlog to grow gradually as long as available contracts meet our big profit objective.

Every quarter we select a few projects from our hundreds of recent awards to illustrate our diverse array of customer services and our broad geographic presence. Today's featured contract awards are on slide six, and Tony Guzzi will now take you through some of our new projects, followed by a discussion of our Green initiatives. I'll be back thereafter to wrap up and to feel your questions or comments. The other reason why I'm not doing this page is because the first project is at Fenway Park, and my daughter is a Yankees fan. Tony.

That's good, Frank, because my son is a Red Sox fan. On these calls we highlight our company's work, showing the diversity of the work that EMCOR does. We all know it's baseball season and for those of us that our Red Sox fans, our JC Higgins subsidiary completed the Fenway Park expansion addition of its EMC Pavilion club for opening Day 2006. With the work having to be scheduled and compressed between last season's last game and this year's opening day, this project required careful planning, preconstruction, and prefabrication work to make sure it was open when the first pitch was thrown.

For Sub-Zero, makers of high-end kitchen appliances, our Kilgust subsidiary in Madison, Wisconsin is supporting a planned expansion by adding a new HVAC system, which includes a new chiller plant, and air handling solution throughout this expanded facility. Detailed planning and coordination was required as the construction was performed among and during plant production.

For Bloomberg Financial, our F&G subsidiary is completing an HVAC addition and upgrade to their data centers in South Brunswick, New Jersey. In Long Island City, New York for Selectric is providing the electrical, fire alarm, and power for Citigroup's move 15-story building, and at the University of Massachusetts in Amherst, Tucker Mechanical is building a new central heating plant. The project includes a new 10 MW combustion gas turbine, a heat recovery steam generator, and prepackaged boilers.

Down in DC, our Duffy Mechanical subsidiary in Rockville, Maryland is performing the renovation of a fourth floor data center for the National Association of Securities Dealers. The scope of the work includes the installation of a new condenser water system to feed cool water to the data center. And for Chevron in Salt Lake City, our Wasatch Company, Wasatch Electric, is upgrading the refinery's diesel fuel processing system.

Now to turn a little bit to environmentally sensitive project, to segue to Green. In Gary, Indiana Power Electric is performing an environmentally mandated Bag-House emission upgrade for US Steel. For those of you not versed in Bag-House systems, a Bag-House system is another way of describing industrial air filtration, cleaning, and dust collection before releasing the air.

And for Ohio State University, our Dynalectric Ohio Co. was awarded several projects [that meet] Ohio State University's mandate to build green. Dynalectric is working to complete the mechanical engineering building, North Doan Hall, and Thompson Library. As the Ohio State work shows, helping companies build green is a growing segment of our business and all construction companies and I will discuss in more detail what building green is on the following slide.

So on slide 7, we are seeing a steady rise in green projects, from commercial buildings to educational facilities, especially at higher education to water treatment plants, to municipal facilities and utilities. As noted by McGraw-Hill, green is no longer a fad but a way of doing business, a standard for the design and construction industry. It's a way to construct and maintain healthy and environmentally responsible places to work and live. Energy costs are one reason or one of the major reasons for the rise in green and if implemented correctly a green building can see close to a 10% decrease in ongoing operating costs. As I said earlier, the green market is growing and is projected to keep growing with forecasts of between 10 and 20 billion spent on these types of projects in 2010. And given what I am seeing now, I believe we will be at the high side of that projection.

At EMCOR, we have positioned ourselves well to capitalize on this trend, and it's important to note that 75% of the green building points, and I'll cover what that is in a minute, are addressed by the kind of work that EMCOR companies perform everyday. Green building points or LEED stand for leadership and energy and environmental design, and that gets you to what is a green building. For laymen, a Green building is to be endorsed by the US Green Building Council LEED process. It must accumulate enough of these predefined points as measured through an audited facility. The LEED process is a recognized framework in our industry for a assessing building performance and for meeting or exceeding definable industry standards. Based on these standards, LEED emphasizes environmentally friendly state-of-the-art building strategies for site development, energy efficiency, water conservation, natural and high efficiency lighting, material selection, indoor air quality, among other things.

Green building construction and facilities management is a natural fit for EMCOR because these processes are the bedrock of what we already provide for new and existing facilities. We support our green efforts with a team of LEED experts, people that know how those points get accumulated and what are the things that really matter to be called a green building. And they are available coast-to-coast and border-to-border here in North America.

In fact, we are so committed to green that our EMCOR Facility Services Group was recently recognized by the EPA as the first facility services company to enroll in their Resource Conservation Challenge, which encourages companies to find flexible yet more productive ways to conserve our valuable resources through waste reduction, energy recovery and efficiency, so that we can improve both public health, and environment.

As you can see, being green is easy for EMCOR. It's a major part of what we do and we will be a major participant in the future development of this market. Frank?

Thanks Tony, or may I call you Kermit for those comments on Green, a timely and powerful growth opportunity for EMCOR. On slide 8, I will wrap up by commenting briefly on the major economic drivers which we think will shape our overall performance this year and next.

First, backlog mix. We think our current portfolio of contracts, as shown on slide 5, is well balanced and indicative of rising margin opportunities. But we are also very encouraged by the growth of our small project discretionary work, typified by the mobile services sector of EMCOR facility services, work that rarely appears on our backlog register because of its fast pace, but which accounts for a disproportionate share of our profits when demand is strong. Mobile Services revenues rose nearly 13% year-over-year and we expect a continued high rate of growth for the remainder of this year.

Second, project selectivity and bidding discipline. When demand is strong it can be tempting to relax estimating and bidding standards. We intend to maintain and enhance our target margins to ensure that we lock in high profit opportunities for the longer term.

Third, continued emphasis on growth in our outsourcing driven Facility Service business. I believe that our achievement of our growth objectives in this sector is the key to our continued strong performance through the next recession whenever it occurs because of the counter-cyclical performance of this important area of our business.

Fourth, expense control. At EMCOR we will continue to reward good performance but we'll ensure that our labor costs remain as variable and flexible as possible, and we will take advantage of our scale and economic strength to enhance our purchasing power for our own benefit and that of our customers. And lastly, we are looking actively for investment and acquisition opportunities in areas of adjacency to our lines of business and our geographic markets. We're extremely pleased with the performance of our Fluidics acquisition from last year and we wish we had a dozen more like it. We're looking.

As a result of our excellent performance in the first quarter including substantial improvement in revenues, margins, earnings, and backlog we feel very confident in reiterating our previously issued revenue guidance of 4.9 billion to 5.1 billion and diluted earnings per share of $1.54 to $1.90 per diluted share including $0.06 per diluted share in expenses related to the adoption of FAS 123R. As the second quarter proceeds, we will watch EMCOR's progress carefully and we'll communicate promptly with the market in the event that we feel that modification or refinement of our guidance is appropriate.

That's it for now. We're now available to respond to your questions and comments and Judy is here to tell you how to queue. Thank you.

[OPERATOR INSTRUCTIONS]. Your first question comes from the line of Alex Rygiel with Friedman, Billings Ramsey.

Good morning, Alex.

Thank you very much. Good morning gentlemen. A quick question for you Frank. In the first quarter a number of other industrial companies referenced favorable weather as it relates to construction activity. Can you comment on how that impacted your quarter and how that could flow through and impact your second and third quarter as well?

Alex, I don't think the favorable weather was a major factor for us. As we've discussed in past years there are certainly impacts of particularly bad weather on the efficiency of deliveries of both manpower and materials to job sites. A great deal of what we do is performed indoors, typically in sheltered surroundings and therefore the major impact of weather would be on logistical issues rather--associated with supply to our job sites rather than the efficiency of job site performance itself.

We certainly weren't hurt by the weather this year but I'm not sure that it's been a material benefit to us.

To expand upon that question a number of these electrical products-like companies had very, very strong first quarter results because of an early start to the construction season. At what point in the year do you anticipate seeing or feeling that strength or do you believe you've felt it in the first quarter?

Yes I think we--I think we got a good bit of it in the first quarter. I think that the strong areas of demand for our services, notably in sectors that I believe are driven by the employment statistics, sectors like commercial and office buildings including restacking, upgrading and expansion of existing facilities, and also the very active hospitality and gaming sectors are indications of strong underlying demand for our services that were certainly not hurt by the weather but would have existed in any case. I think we've got a really strong start to what would be a strong year.

Your US facility services business what type of profit due you anticipate over the remainder of the year given that it was down a little bit year-over-year?

Yes it was down a little bit for a good reason. We charged substantial startup expenses associated with our previously announced West Sound project, which is the major takeover of a military installations management responsibilities on the West Coast, and we expect that project, which has kicked off nicely, to turn to profitable operations, if not in the second quarter, certainly in the third and on schedule. The gross margins from Facility Services business for the first quarter were above 15%, roughly equal to the year-ago quarter and we think that their net performance will improve significantly as we go through the year.

What was the date of the West Sound project transition period?

Alex, this is Tony Guzzi. It was February 1st.

Perfect and one last question, Frank. With regards to corporate admin expense exactly two years ago in 2004 in the first quarter that line item was 6.7 million. In this quarter it's 11.7 million, but yet revenue is only up 4% in that 2-year period of time. Can you comment on what makes up variance there?

Yes, it's predominantly variable compensation expense. We've got FAS 123R in there. We have a long-term incentive plan that is in there, and we have enhanced bonus accruals with respect to significantly increased levels of profitability compared to 2 years ago, Alex.

Great, thank you very much.

You bet.

Your next question comes from the line of Noelle Dilts with Stifel Nicolaus.

Hi Noelle.

Hi this is Noelle for Jeff Beach. I was just wondering with such a long history of losses in the Canadian and UK operations I was wondering with the restructuring complete if you could maybe offer some guidance on where you think operating margins could go in the second?

Well you make a good point in saying that neither operation has a lengthy past history of positive operations so we really don't know how good they can be in current markets. Very briefly, staring with Canada, we have substantially restructured that business both in terms of its organizational structure and in terms of its physical reach so that it's not an exaggeration to say that it is really now planted on two legs, if you will. One in the industrialized area surrounding Toronto in the East, and the other in the very active oil and gas area of Western Canada centered in Alberta, notably in the tar sands operations in Northern Alberta.

So we think we've simplified the Canadian business to a very significant extent, reduced its operating cost and its overheads significantly and we think we've got two pretty strong markets to work within. The Canadian company made money in the first quarter and we think they'll make more money as the year goes along, but we're still learning how this new structure will contribute to our overall earnings picture. However we're quite optimistic about it.

In the UK the improvement there actually goes back a little further. Tony Whale and his team much like Geoff Birkbeck and his group in Canada had a long way to go when they started in the company to eradicate some bad habits and to instill good ones that are the key to long-term and consistent profitability. They have done so and, in fact, the UK company made money last year and we expect them to do even better this year. We're looking for both companies to approach the profit levels that we expect of conventional subsidiaries which is in the target of 3 to 3.5% operating income.

Okay thanks. Great.

You bet.

Your next question comes from the line of [Jerry Farvor] with [WPG].

Within your backlog trends there seems to be a fairly substantial change in mix between commercial and, I guess, government or non-commercial. Could you amplify on that and is there a more important dynamic like the commercial backlog building sequentially year to year vis-à-vis the very moderate growth in your overall backlog as far as future business, and margin and other implications?

Very good question. In mid-2003 we began to actively manage our backlog, our portfolio of construction at Facility Services contracts so as to reduce our exposure to lower margin, at lower profit opportunity institutional projects. And the poster child for that was K through 12 educational projects, which we had never been successful in performing to our satisfaction and in mid-2003 we began to actively manage down our exposure to institutional work in general, and to K through 12 in particular. And you can see that segment of the bar chart declined dramatically. In fact, roughly reducing by one half between 2003 and 2004 as result of that active management process.

At that time because the commercial market was still not showing the benefits of the broad economic recovery to the extent that we wanted, we were actually managing down our entire backlog so as to conserve capacity for what we thought would be an inevitable increase in demand in pricing characteristics for the private sector commercial area. That is always our high margin target, whenever it's available.

And as you can see, and as you pointed out, in fact, from our 2005 and 2006 first quarter private sector/ commercial segments we have been successful in awaiting new high profit work which is now an increasingly large part of our overall portfolio achieving more $1 billion of value at private sector/commercial at the end of the quarter just--.

At the end of the quarters there was approximately $1 billion in private/commercial which is a key component you say of the backlog. How was that year-on-year and sequentially? What kind of growth did we see there?

Kevin, have you got that number?

It's just about 4% from the year-ago quarter level--oh from the commercial?

Just talking about the commercial segment.

I do have that number.

A year ago it was 27% of the total and today it's 37%.

So obviously on a year-on-basis it's up very materially if you just segregate that. Now conversely there's another component in the backlog that is moving down. Is that the same institutional mix you alluded to before and is that an intentional winding down or is there something else going on in there?

No that's an intentional winding down. This schedule, the backlog schedule should not be viewed in any way as a passive indication of taking what the market offers us. We manage the comparative exposures and risk-reward characteristics of these various segments in order to reflect what we hope will be an optimal opportunity to maximize profits for the long term. So we continue to reduce our exposure to public sector and institutional work basically because we don't think that it contains the risk-reward characteristics or the profit possibilities that are contained by more profit-oriented and efficiency-related private sector activities like the hospitality and gaming sector or like the commercial and office business.

Just to give you those numbers that you asked for, sequentially from December 31, 2005 the commercial segment of our backlog grew about 10% and year-over-year first quarter to first quarter grew over 40%.

Okay so sequentially 10, and year-on-year 40% and if the commercial cycle stays viable at some point I presume your aggregate backlogs will reflect more and more of that--as that unfolds.

That's right, I opined during the last conference call that after a couple of years of reasonably flat performance in terms of overall backlog that we were in a position where we would allow backlog to begin to grow as more and more projects reflected increased demand and firmer prices and allowed those projects to meet our risk-reward criteria, and as you can see our backlog has indeed begun to grow.

Right, my final question to follow up, why is this such a wide spread in your estimates at this point in the year as far as the $1.50, $1.90 which is an extremely wide spread in the forecast and I assume the cash flow forecasts have a wide spread to them also?

We have not guided the cash flow but with respect to the EPS guidance it is--it is wide at first glance, I agree with you, $0.40 or so is a lot except that it's $0.40 on about 32 million shares, which does not amount to a whole lot of money when compared to our $5 billion revenue expectations. So I agree with you that apparently it's a widespread but we think that it's pretty precise when you begin to talk about the percentage points of margin that it relates to.

Why do you not give a cash flow forecast, and I presume your cash flow forecast or your cash flow budgetary internal assumptions would be much narrower in there spread?

There are a lot of moving parts in a cash flow calculation from a company like ours. Our typical asset base is financial in nature. This is a business that does not have a lot of tangible assets flowing in it, and accordingly the major movements in cash flow are associated with timing differences requiring the investment of working capital in projects in progress.

Right.

And because we typically have several thousand projects in progress at any given time detailed cash flow projections and guidance are difficult for us to make. I will say that we have performed very well in cash terms. Cash flow from operations last year was $143 million but I would be very reluctant to make a detailed cash flow guidance estimate at this point--at this early point in the year in the same way that I'm reluctant to modify our previously issued P&L guidance purely on the sake of a very good first quarter.

Okay thank you.

You're welcome.

[OPERATOR INSTRUCTIONS]. At this time there are no further questions. I will now turn the call back over to management for any closing remarks.

Thank you, Judy. Thank you all for your interest in and support of EMCOR Group and we'll see you at the same place soon. Thanks again.

This concludes today's EMCOR Group first quarter 2006 earnings call. You may now disconnect.