EMCOR Group Inc (EME) 2018 Q1 法說會逐字稿

Good morning. My name is Adam, and I will be your conference operator today. At this time, I would like to welcome everyone to the EMCOR Group First Quarter 2018 Earnings Call. (Operator Instructions)

Mr. Bradley Vitou with FTI Consulting, you may begin.

Thank you, Adam, and good morning, everyone. Welcome to the EMCOR Group conference call. We are here today to discuss the company's 2018 first quarter results which were reported this morning.

I would like to turn the call over to Kevin Matz, Executive Vice President of Shared Services, who will introduce management. Kevin, please go ahead.

Thank you, Brad, and good morning, everybody. Welcome to EMCOR's earnings conference call for the first quarter of 2018. For those of you who are accessing the call via the Internet and our website, welcome to you as well and we hope you have arrived at the beginning of our slide presentation that will accompany our remarks today.

Please advance to Slide 2. This presentation and discussion contains forward-looking statements and certain non-GAAP financial information. Page 2 describes in detail the forward-looking statements and the non-GAAP financial information disclosures. I encourage everyone to review both disclosures in conjunction with our discussion and accompanying slides.

Slide 3 depicts the executives who are with me to discuss the quarter's results. They are: Tony Guzzi, our President and Chief Executive Officer; Mark Pompa, Executive Vice President and Chief Financial Officer; Maxine Mauricio, our Senior Vice President and General Counsel; and Mava Heffler, our Vice President of Marketing and Communications.

For call participants not accessing the conference call via the Internet, this presentation, including the slides, will be archived in the Investor Relations section of our website under Presentations. You can find this at emcorgroup.com.

And now with that said, please let me turn the call over to Tony. Tony?

Yes. Thanks, Kevin. And I'm going to start on Pages 4 through 6, and thanks, everybody, for joining the call.

We had a solid start to the year. We had record first quarter revenues of $1.9 billion and earnings per diluted share from continuing operations of $0.94. We had good execution in our business and the year started out about how we expected: Strong performance from our Mechanical and Electrical Construction segments, continued improvement in our Building Services segment, strong performance in our U.K. segment and still struggling performance in our Industrial segment.

In our Electrical Construction segment, our operating income improved by 15.5% versus the year-ago period. Operating income margins improved by 90 basis points driven by better gross margins and tight overhead control. Also, the Electrical Construction segment's improvement in operating income was driven by very good execution with especially strong performance in the transportation market. We also had very strong results for our customers at executing our commercial and healthcare projects.

Our Mechanical Construction segment also performed well in the quarter. Operating income and operating income margins declined slightly. We had the headwind of a dispute settlement that aided operating income margins percentages by 90 basis points in the year-ago period.

Our Building Services segment had decent performance in the quarter, driven by our commercial site-based, government and energy services business. We had improved operating margins of 50 basis points on improved mix. We had organic growth return to the segment and are in the successful implementation of several large contracts in our government and commercial site-based businesses and have had record backlog in our Mechanical Services business.

Our Industrial Services segment had a very difficult quarter. We had previously discussed that we had a very tough compare in the first quarter of 2018 versus our outstanding performance in the first quarter of 2017. We did expect that tough compare. We had even a tougher quarter than we expected. We suffered from a lack of volume in our turnaround businesses which was driven by turnarounds that were planned and scheduled for the first quarter and pushed into later periods in the year and into 2019. And we did had some sharp rework and scheduling issues.

We do expect performance to improve in the third and fourth quarter of 2018. I believe that Hurricane Harvey has altered the maintenance schedule for our customers, and I don't expect a normal resumption of demand until 2019. We have the resources, team and capability to perform, we have and we will again.

Our U.K. Building Services segment had a very strong performance with operating income margins of 4.3% and operating income growth of 172%. Foreign exchange helped about 20% of this improvement, but we had very strong conversion on our very strong organic growth. The remainder of this improvement was driven by that organic growth, better execution and better mix.

Our balance sheet remains liquid and strong, and cash flow was seasonally weak, but it was expected to be weak this quarter. We do expect cash flow to improve through the year and to be at least equal to net income for the year. We will have a full discussion of backlog and the changes to backlog, but on a basis comparable to previous reporting, we had backlog growth versus the year-end '17 and close to flat versus the year-ago period.

With that, I'll turn the discussion over to Mark.

Thank you, Tony, and good morning to everyone participating on the call today. For those accessing this presentation via the webcast, we are now on Slide 7. Over the next several slides, I will augment Tony's opening commentary and cover each of our reportable segment's first quarter operating performance as well as other key financial data derived from our consolidated financial statements and Form 10-Q filed with the Securities and Exchange Commission earlier this morning.

So let's revisit our first quarter performance. Consolidated revenues of $1.9 billion are up $8.7 million or 0.5% over quarter 1 2017. Incremental revenues attributable to businesses acquired of $19.4 million pertaining to the period of time as such businesses were not owned by EMCOR in last year's first quarter positively impacted our U.S. Mechanical Construction and our U.S. Building Services segments. Excluding such acquisition revenues, our first quarter revenues declined organically 0.6%. All reportable segments experienced quarter-over-quarter revenue growth other than our Industrial Services segment.

U.S. Electrical Construction revenues of $454.8 million increased $11.8 million or 2.6% from quarter 1 2017. Quarterly revenue growth was primarily driven by project activity within the healthcare and institutional market sectors, partially offset by quarter-over-quarter declines in revenues from transportation and construction projects due to certain project completions.

U.S. Mechanical Construction revenues of $698.8 million increased $27.7 million or 4.1%. Excluding acquisition revenues of $10.2 million, this segment's revenues grew 2.6% organically quarter-over-quarter. This segment's revenue growth was primarily driven by higher project activity within the commercial, healthcare and institutional market sectors, partially offset by a decrease in revenues from manufacturing and construction projects. EMCOR's total domestic construction business first quarter revenues of $1.15 billion increased $39.5 million or 3.5%, of which 2.6% of such growth was generated from organic activities.

U.S. Building Services revenues of $454.8 million increased $14.7 million or 3.3%. Excluding acquisition revenues of $9.2 million, this segment's revenues grew 1.2% organically quarter-over-quarter. Revenue gains within the Mechanical Services division due to increased project and repair services activities as well as large project activity within their energy services offerings were complemented by increased snow removal activities due to more seasonal winter weather in the geographies which we currently service. These revenue gains were somewhat offset with the loss of certain contracts not renewed pursuant to rebid during 2016 within the commercial site-based services division that we're still transitioning in early 2017.

U.S. Industrial Services revenues of $185.1 million decreased $73.4 million or 28.4% due to a reduction in executed turnarounds within the first quarter as our customers have altered their previously scheduled maintenance activities due to the residual impact of Hurricane Harvey. The reduction in field services revenues also negatively impacted our shop services due to the reduction in repair service opportunities that typically result from a normal spring turnaround season.

United Kingdom Building Services revenues of $106.9 million increased $27.9 million or 35.3% as we continue to see the operating benefits of new service contract awards as well as the resumption in some level of add-on project activity. This segment's quarterly revenues were also impacted by $12.5 million of favorable foreign exchange movement.

With regards to the impact on financial performance comparability due to EMCOR's adoption of Accounting Standards Codification Topic 606, the new revenue recognition standard, in which we elected to adopt utilizing the modified retrospective method, our reported first quarter revenues were favorably impacted by approximately $900,000, which represents less than 1% of quarterly revenues. Full disclosure is provided in Footnote #3 in our Notes to Condensed Consolidated Financial Statements included in our Form 10-Q filed earlier today.

Please turn to Slide 8. Selling, general and administrative expenses of $190.3 million represent 10% of revenues and reflect an increase of $7.3 million from quarter 1 2017. The current year's quarter includes approximately $2.2 million of incremental SG&A inclusive of intangible asset amortization from businesses acquired, resulting in an organic quarter-over-quarter increase of approximately $5.1 million.

This increase was primarily due to higher employment costs as a result of increased head count to support our organic revenue growth in our Construction and Building Services segments as well as higher incentive compensation expense. The 30-basis-point increase in SG&A as a percentage of revenues is due to the company's expectations of higher earnings for full year 2018 versus 2017 at both the consolidated and segment reporting levels, which necessitates higher annual and long-term incentive compensation accruals and related expenses within the quarter. This fact in concert with only a slight increase in revenues overall during the current year's first quarter is somewhat distorting the first quarter SG&A percentage. In addition, our SG&A as a percentage of revenues was negatively impacted by unabsorbed overhead costs within our Industrial Services segment due to the lack of significant turnaround activity.

Reported operating income for the quarter of $78.7 million represents 4.1% of revenues and compares to $82.8 million or 4.4% in 2017's first quarter. Our U.S. Electrical Construction Services segment operating income of $35.9 million increased $4.8 million or 15.5% from the comparable 2017 period.

Reported operating margin of 7.9% represents a 90-basis-point improvement over last year's first quarter. The increase in this segment's operating income is due to increased gross profits from project activity within the transportation, commercial and healthcare market sectors due to either increased volumes on improved project execution. 2018's first quarter U.S. Mechanical Construction Services segment operating income of $39.6 million represents an $861,000 decrease from last year's quarter.

Reported quarterly operating margin is 5.6%, which is 30 basis points lower than 2017's first quarter. Despite the quarter-over-quarter reduction in both operating income and operating margin, this segment had strong performance across most market sectors served. However, 2017's first quarter benefited from the recovery of certain contract costs that were incurred in 2016 that were previously disputed. The recovery of such costs, which we disclosed last year at this time, had a 90 basis points favorable impact on this segment's 2017 first quarter operating margin, and Tony obviously previously mentioned this as well. Our total U.S. Construction business is reporting a 6.5% operating margin for the quarter as compared to 6.4% in last year's first quarter.

Operating income for our U.S. Building Services segment of $17 million represents a $2.8 million improvement from last year's first quarter, while reported operating margin of 3.7% has increased by 50 basis points quarter-over-quarter. The increase in operating income and operating margin year-over-year is due to improved operating performance from their commercial site-based, energy and government services divisions. A combination of improved project mix with a somewhat normalized winter weather pattern which resulted in increased snow removal activities were the factors driving quarter-over-quarter improvements.

Our U.S. Industrial Services operating income of $3.5 million represents 1.9% of revenues, which is a decrease of approximately $13.6 million from 2017's first quarter. The reduction in quarter-over-quarter performance within our Industrial Services segment is due to the continuation of challenging market conditions, exasperated by the impact of Hurricane Harvey, which has altered our customers' planned maintenance schedules. This has impacted both our field services operations due to reduced turnaround activity as well as our shop services, which can potentially benefit from pull-through repair work opportunities, and therefore absorb some of the fixed overhead costs within this segment.

U.K. Building Services operating income of $4.6 million represents 4.3% of revenues, which is an increase of $2.9 million and is a 220-basis-point improvement over last year's first quarter. Our U.K. team continues to do a good job of securing and executing new service contract relationships to augment their historical maintenance base, while seeing some resume small and capital project activity within the first quarter.

We are now on Slide 9. Additional key financial data for the quarter not addressed on the previous slides are as follows: Quarter 1 gross profit of $269.1 million represents 14.2% of revenues, which has improved from the comparable 2017 quarter by $2.8 million and 10 basis points of gross margin. This quarterly improvement is due to higher gross profit and gross margin across all of our reportable segments other than U.S. Industrial Services which was down substantially quarter-over-quarter for the reasons previously discussed; diluted earnings per common share from continuing operations is $0.94 and compares to $0.88 for the quarter ending March 31, 2017, which represents a 6.8% increase; our tax rate for the first quarter of 27% is lower than expected due to favorable discrete items recognized within the quarter. Our expectation for full year tax rate remains consistent with my commentary provided in February of a range between 27.5% to 28.5%. Until interpretations of the enacted federal law are finalized by the various state taxing jurisdiction in which we operate, we will not be in a position to narrow our current tax estimate range. Lastly on this slide, we used $59.1 million of cash in operations during 2018's first quarter with the funding of our prior year's incentive compensation awards occurring in February and March. Quarter 1 historically represents our weakest cash flow quarter of each year.

We are now on Slide 10. EMCOR's balance sheet remains sufficiently liquid as represented by cash of approximately $352 million and modest leverage as demonstrated by our debt-to-capitalization ratio of 15.4%. Our cash is reduced from year-end 2017 due to both the cash used in operations previously referenced as well as $45.3 million of cash used in financing activities which included 34.5 million of share repurchases during the quarter, $34.5 million, that is.

Working capital levels also have increased since the end of 2017 due to a reduction in current liabilities as a result of reduced levels of accounts payable and accrued payroll and benefits due to the funding of prior year obligations. Goodwill has increased slightly due to true-up payments made during the quarter for commitments made to the purchase price of an acquisition completed in late 2017.

Identifiable intangible assets have decreased solely due to the quarterly amortization of expense of approximately $10.7 million. Total debt is approximately $307 million with the reduction from December 31, due to the mandatory quarterly principal repayments of approximately $3.8 million of our outstanding term loan.

We are happy with where our balance sheet is for this time of year and we continue to be well-positioned to capitalize on future opportunities available during this continuing strong market cycle.

With this portion of my slides concluded, I would like to return the presentation to Tony. Tony?

Thanks, Mark. And I'm on Page 11, which is backlog by market sector. Total backlog at the end of the first quarter was $3.95 billion, just about flat against the first quarter of 2017 and up $154 million from December 2017. Our backlog levels remain fairly high given our strong revenue performance for the quarter.

Nonresidential construction demand remains positive across most sectors and geographies generating nice opportunities for our EMCOR companies. Similar to what we said in late February, we think the nonresidential market will grow in the 3% to 5% range this year.

Let me focus a little bit now on market sectors. Commercial project backlog continues to be strong. Commercial backlog represents 43% of total backlog, and increased both year-over-year and since December. Demand is widespread across the company, and we think the commercial sector should continue to be active for us into the front of 2019 as judged by the bidding opportunities we are currently seeing.

Project backlog associated with water and wastewater projects also grew both year-over-year and year-to-date. We are positioned well really in many parts of the country, but this specifically is with our Poole & Kent subsidiary in Miami. It historically has performed significant water and wastewater projects in and around the Greater Miami, really, the greater South Florida area. Miami-Dade will be investing heavily against the consent decree in its water and wastewater infrastructure over the next 5 years. We have already won a number of large projects and we expect to be in the running for more as the work comes out and is awarded.

We have other subsidiaries at EMCOR that participate in this market, and if it becomes active as it is in South Florida as part of a broader infrastructure push, we will be there to take advantage of it.

I'm now on page 12. As you saw in the market sector growth -- graph, backlog year-over-year was basically flat with some market sectors up and some down, but overall very good market with good opportunities for us to win. However, an interesting note here. Every one of our segments had backlog increases from December 31, 2017. For the first 3 months, domestic backlog was up $128 million or 3.5%. Our domestic construction segments increased backlog $70 million, while our Building Services segment's backlog also grew $57 million or close to 8%. Building Services backlog grew in both the commercial site and Mechanical Services businesses. In fact, Mechanical Services backlog increased in each of the first 3 months of 2018, and now is at its highest level at approximately $372 million. As you would expect, commercial projects comprise much of this backlog.

I'm now going to turn the presentation back over to Mark, and it will be on Page 13. On January 1, and Mark talked about this, we adopted the FASB's new revenue recognition standard, which requires the disclosure of remaining unsatisfied performance obligations, we ought to be able to make up an accurate amount of that, right, Mark? It is covered on Page 27 of our 10-Q.

I'm now going to turn the presentation back to Mark and have him walk through the new standard and its impact on EMCOR, and we're now on Page 13.

Thank you, Tony. As I mentioned earlier during my financial review commentary, EMCOR adopted Accounting Standards Codification Topic 606 or as referred to ASC 606, the new revenue recognition standard as of January 1. Even though this new accounting standards do not have a material impact on our first quarter operating performance, it has necessitated a change in how we quantify and report our estimate of future activity related to our contractual arrangements with our customers. ASC 606 requires us to identify if we have a contract with the customer. And if so, we then have to identify our performance obligations under such contract.

To the extent we have not fulfilled all contractual performance obligations at the end of a reporting period, we are now required to quantify and disclose under Generally Accepted Accounting Principles remaining unsatisfied performance obligations by allocating a portion of the contractual transaction price to those performance obligations not yet completed.

Although definitionally, this sounds a lot like our historical backlog disclosure, it is not the same. The primary difference between remaining unsatisfied performance obligations in backlog as historically defined by EMCOR is the evaluation and quantification of the remaining term of our multiyear service contracts. Under our previous reporting, we had quantified the base level of maintenance services to be executed for the successive 12 months without any quantification for increases in contract scope or potential project opportunities. We honestly were quite conservative in this determination relative to other companies in our broader industry that reported a backlog figure.

Under the new accounting standard and related transitionary guidance, if a contract gives each party the unilateral enforceable right to terminate the remaining unperformed contract without compensating the other party, the amount of unrecognized revenue within the remaining performance obligations is limited to the notice period required for such termination. Most of our service contracts contain unilateral termination for convenience clauses with varying notification periods.

As a result, we had to exclude approximately $545 million of unrecognized revenues from our remaining performance obligations disclosure predominately related to the impact of termination clauses on contracts within our U.S. Building Services segment. This reduction was partially offset by approximately $203 million of incremental performance obligations pertaining to unexecuted contracts from which we expect to receive fully executed contract documents in the ordinary course of business as well as certain variable consideration items.

This information is fully disclosed both in Footnote 3 in our Notes to Condensed Consolidated Financial Statements as well as within Item 2, Management's Discussion and Analysis of Financial Commission and Results of Operations within our Form 10-,Q, as I mentioned, that was filed earlier today.

As backlog is a term not defined under Generally Accepted Accounting Principles, and remaining unsatisfied performance obligations is now required GAAP disclosure, we will only speak to remaining performance obligations during future earnings calls and provide a quantitative and qualitative narrative from a sequential perspective until we have a full 4 quarters of our reporting history.

With that exhaustive explanation concluded, I will now let Tony return to our closing slides. Tony?

Thanks, Mark. And my closing comments will be on Pages 14 and 15. We're going to reiterate our guidance of $4.10 to $4.70 in earnings per diluted share from continuing operations. This earnings per share guidance incorporates an estimated tax rate of 28% post-tax reform. We expect revenues of $7.6 billion to $7.7 billion.

When we gave our initial guidance, we expected continued growth in the nonresidential construction market, decent demand for our government and commercial site-based services, a strong energy retrofit market for small projects especially, and a choppy and less predictable market with respect to our downstream refinery and petrochemical market, mostly due to Harvey. At least through the first quarter, those underlying drivers are consistent with what we believe when we set our initial guidance. We expect more clarity in the downstream refinery and petrochemical markets as we approach mid-2018 for both the fall turnaround season and 2019. And we still believe we will gain better clarity as the turnaround schedules firm up for fall 2018 and the spring 2019 turnaround seasons.

As always in these calls, we provide a view of what needs to happen for us to move to the mid- to the top end of our guidance range. So here they are. We need to continue to perform at a high-level in our U.S. construction segments. We do have some headwind in the second quarter as we benefited from significant claim and dispute settlements in 2018 overall, and we discussed those in our 2017 10-K and year-end call. However, as we have shown in the first quarter, we continue to perform at a very high level in the Electrical and Mechanical Construction segments. We continue to have strong operating income margin performance.

I just want to remind everybody of something. We have a very tough compare in the second quarter in our Mechanical Construction segment versus the second quarter in 2017. And we had a significant dispute settlement that was almost $12 million in the second quarter of 2017 and that was all fully disclosed in both our K and our Q from last year.

Our U.S. Building Services segment finally had organic growth in the first quarter and we're implementing several new site-based contract wins. We're growing our Mechanical Services business, and we expect to execute well for some Department of Defense and other federal agency customers as they need to be repaired, and need repair -- these facilities were in bad shape. They were impacted by sequester and now they have money and they're going to re-prioritize their budgets. We should benefit from that. And we had strong operating income on margin expansion in the first quarter in Building Services and we expect that for the year.

Our Industrial segment will improve in 2018 versus 2017. But if we weigh it to quarters 2 through 4, really, quarters 3 and 4, we had a very weak first quarter. We do see more opportunities for us as the year progresses. And as Harvey has decimated this segment in the third and fourth quarter of '17, our comparisons are much easier then.

For us to move to the top end of the range, we will need some increased scope on the turnarounds that are planned at the end of the year, but also some unplanned event that we don't have as of today. But certainly it's possible, and these unplanned events have happened more than a few times for us over the past 10 years.

Our U.K. business had a strong first quarter and this segment's performance continues to improve. We expect to have decent cash flows this year and they should be at least equal to net income. We will look to use our cash and balance sheet to grow organically and through acquisitions, and we will invest acquisition capital in any of our domestic segments.

We will return cash to shareholders this year through buybacks and dividends. In the first quarter, we returned $39 million of cash to our shareholders through buybacks and dividends with about 88% of that returned cash executed through buybacks. We prefer buybacks versus dividends for any incremental return of cash to shareholders.

We like how our businesses are positioned. We performed well in the first quarter. And in summary, we expect to continue to deliver for our shareholders in 2018.

And with that, I'll turn it to Adam for questions.

(Operator Instructions) And your first question comes from the line of Tahira Afzal with KeyBanc Capital Markets.

So Tony, I guess the first question is, we've started to see, because I cover some of the big E&Cs that are focused on petrochem and LNG. But there seems to be suddenly a lot of movement on these projects moving forward again. I know you've commented on some of the downstream maintenance aspects. But in terms of small CapEx, should that not bode well for your Industrial segment as well?

Yes, I think, if I -- as you move through '18 into '19, I think that's true. And I think that's true for midstream also, especially in our Electrical segment. We don't perform a lot of newbuild work on the LNG and petrochem. We do what we will now electrically, especially in the Corpus Christi area. But mechanically, that's not something we do a lot of. And also, you got to remember especially on mechanic -- on the mechanical side, a lot of the EPCs will try to self-perform some of that work until they can't self-perform that work, and that's when I talked about the unplanned events that could -- that tends to be when we get involved is when they can't finish the work and marshal the resources.

Okay. And if I was to look at all the unplanned events that could happen that provide upside, which are the ones you think are higher probability? I mean, typically, if I was to look at the way my model is planned, it seems like maybe there's some conservatism still around Electrical and Mechanical. Or would you say that really the probability of some of this maintenance or small CapEx work would be the really bigger mover?

Yes, I think 2 places. I think it's very rare for us to have a significant unplanned event in Mechanical or Electrical segments, because those projects take a lot of planning. And also before reacting there, it's usually on a time and material basis which with those workforces and those markets a little different.

Unplanned events can happen in the Building Services segment, IDIQ work, something can go significantly wrong with a customer's facility, we have to jump in and do it. But the large unplanned events happen in the Industrial segment. And it's usually on -- we have to help complete work on a capital project that is coming right up against where liquidated damages come into play or a maintenance event that a lot of this deferred maintenance comes home to roost, and we've got to flood this -- and we like to say, we have to flood the zone, right? We have to get a lot of men and women up and running very quickly, mobilized and ready to work.

And that can happen. It can happen from things that where the facility had to shut down or it can happen from some things where the facility has hit a significant bottleneck because of the performance of part of the plan and now it needs debottlenecked or a specific part fixed in a very short period of time, usually because some planned maintenance wasn't performed in an earlier turnaround.

Got it. Okay. That's helpful to know. And Tony, I guess last question, the economy has been doing well for several years. I know you're little more late cycle. But are we seeing a point where the labor is tightening? Are you getting pricing? Or is that something you think is a concern going forward?

Well, look, we have -- yes, price is better than it was 3 years ago, clearly. But we're not winning on the margin side right now because of price. We're winning because of execution. I would say we're further out on the labor curve than we were. So we're way beyond our core guys and the core folks that work for us. And so training is more important. Selection is more important. Screening is more important.

But we're -- labor is tightening. That's a good thing. But we're -- more people are coming into the workforce. More people are coming back into the workforce. We're still -- and I think always will be, a destination of choice for craft labor and skilled tradespeople. So labor is likely to be available to us, that's not available to other people. Pricing's been okay, actually, both in the non-union and union workforces. We haven't seen really sizable increases beyond what you'd expect, 2% or 3% a year. In the contract negotiations, we negotiate on the union side multiyear agreements. And quite frankly, people have been quite reasonable this time around.

And your next question comes from the line of Noelle Dilts with Stifel.

So just kind of focusing on the turnaround business a bit. We've obviously seen some of these sort of deferrals or push out of work at some of your competitors over the years, you guys were kind of lucky for a period. No, I shouldn't say lucky, but you guys definitely didn't see some of that for a couple of your periods. So I just want to kind of dig in to what gives you the confidence that what you're seeing now is sort of Harvey-related versus related to just some other factors and general deferrals?

Let's draw up a level. I think the luck came from having great resources that could handle very large scale projects on very short time frames and it allowed us to weather some of the decreases in planned turnaround activity. And those opportunities we believe will present themselves to us again, and we'll be there to take advantage of them.

I think there are some things that have changed, right, in -- versus maybe 5 or 8 years ago in the turnaround business. I think one of them is the Permian Basis and the West Texas crude. It's less sour, it's less viscous. And as a result of that, when all these facilities were outfitted in the mid-2000 -- '04, '05, '06, '07, '08 when there was a lot of capital going in, they put equipment in and heat exchangers and other things and up-alloyed that required -- that was based on running really crappy crude out of Saudi Arabia, Venezuela and Canada. That makes a shift to more West Texas and they're still trying to figure out what the right mix of maintenance is to go with that shift to mix. Our belief, and not Tony, Mark, Kevin, Maxine's belief, but the people that are in there every day, they're probably extending their cycle or not doing enough maintenance. And you're starting to see that around the edges as some of these refiners have unexpected turn downs of their facilities and other things.

The second thing that I think is a shift is there's been consolidation. And to make their contracts now, they can look at a broader -- bigger parts of their fleet, right? One of the big majors got out of a lot of the refining business. Some unblocked their facilities. Others have swapped assets. And so they're able to optimize their fleet of refineries better to meet their take contracts on the way out. I think those are 2 of the big things you'd say, has that shifted demand patterns? And you'd say, yes, maybe that has.

But the other thing you can't discount though is what's going on in the petrochemical market? So how do you fill that in? Well, underlying all this, and this part was probably more affected by Harvey at least in EMCOR's case, then the refinery business is the petrochemical market. That has become a fairly significant business for us as some of our larger turnarounds over the last 3 years have been done in petrochemical plants, not in refineries. And as a result of that, we think that business doesn't have the same characteristics that I talked about, which is, what's happened with the refiners?

So some of that's happened. And then I think you have to have the capability that we have to be able to react to your customers' demands. So it's a balancing act for someone like us to keep the foreman and the superintendents and all that, even though we may not be as busy in the first quarter as we would like to have been or planned to be, because once you lose some of those very valuable resources, you may not get them back. And that doesn't allow us then to do what we did in 2016 and the first half of 2017 if, in fact, we don't have those resources. So there might be a drag like of $1 million or $1.5 million in the P&L at any given time if those resources aren't fully deployed, because we're not absorbing the overhead. Mark, you have anything? About right? And so does that help, Noelle?

Yes. That's actually great. Those are a lot of good points that you make. I guess just shifting to my second question, just in terms of M&A opportunities and potential targets that you're seeing out there, in the past you've talked about valuation as being a little bit steep. Can you just kind of talk about what you're seeing in the market right now and your general kind of appetite for M&A?

Look, our appetite's what it has been, right? We think we're pretty good acquirers. We're selective acquirers. Market-fit, capability and culture are all 3 things we look at before we just jump in and buy a company.

We expect a fairly decent year this year in M&A. What I'd like to call is, for lack of a better word, somebody's life's work. Somebody that build a great company. The Newcombs, the CCIs, the Northstars, they built great companies. They're now in their mid-50s and they want to sell their company. But they still want to work. We do very well with those transactions and we see a decent pipeline of those type of transactions here in 2018.

Now, when they get done? How they get done? What's the timing of those? I don't know. Some of these conversations have been going on for years. People had a couple of good years behind them. They recovered from the recession. Their balance sheets are strong. Their project outlook is strong. They rebuilt their market positions. In a lot of cases they've hired the next level of management and they professionalized their companies as we've got them home over 5 or 10 years. And we've helped coach them to do some of that stuff.

Private equity, you get to the larger deals. Pricing is still a little crazy, right? We just looked at a couple of things this year which we would've put in the category of pretty significant fixer-uppers that we thought we could make work, and would have taken us some time and resources and we have people that know how to do that, obviously. We know how to do that, collectively as a team. But when we get to what they're really making versus their pro forma making, we can't get to a deal and then start -- the advise we get from the people selling it is, well, you don't put your pencil and paper away yet. We may be back to talk to you. But geez, Noelle, in some of those things our valuation for some of those assets is 30% to high as 50% below what it may actually trade at. And I doubt somebody knows more than we do about what they're going to do with it and those particular assets.

So we're going to be responsible. Last year, we did $107 million worth of acquisitions. They've all fit in really well. They're all doing well. A couple of years ago, we took advantage of a cyclical loan and bought Ardent. Had a decent first year, had a rough second year because of the market. Ardent and Rabalais are positioned well as upstream comes back, and when the things happen on the Gulf Coast especially you talk about petrochem and you talk about what could happen in Corpus Christi, we're really happy we own it. Is it going to be all 2018, but as we move into '19.

So I think we're going to continue to what we always do. Look for places to fit. We still have geography. We certainly would like to fill in more electrical geography on the commercial side and data center side, and we'll see what happens there. We certainly have people that we have partnered with in the past that could be good acquisition candidates. And if we can't make the right acquisitions, then we'll return cash to shareholders as the year progresses.

And your next question comes from the line of Tate Sullivan with Sidoti.

Mark, can you talk more about the cash flow statement, just it looks like the outflow -- the cash flow from operations outflow was a bit larger than it was in previous first quarters. I mean, did you pay more of your payables than you usually do? And also it looks like there's some line items about payments for business acquired, but I think you said you didn't acquire anything.

Yes. Tate, I'll address the last question first and then I'll work backwards. So the payments for businesses that were recorded in the first 3 months of this year were related to contingent consideration arrangements for 2 transactions that closed in the last year, so our earn-out arrangements. So no new companies, just a continuation of transactions that happened prior to 2018.

With regards to the variation in operating cash flow '18 versus '17 through March 31, there was a larger outflow of payables in the first quarter. But the biggest 2 things really are -- is on the inflow side. First and foremost, as Tony mentioned during his commentary, we were successful in resolving a contractual dispute in quarter 1 and actually continue into quarter 2. That customer had not rendered any payments in the fourth quarter of 2016. All that money was received in the first quarter of 2017.

And then additionally, because of the significant reduction in volume within our Industrial Services segment, there was this -- no customer activity there at all. So fall turnaround because of Hurricane Harvey was significantly impacted. So billings that we typically would have gone out prior to December 31 and would've been collected in the first quarter of the calendar year did not happen in the first quarter of '18 because those billings just weren't there. And obviously, we were much stronger in that segment both in the back half of '16 and for the first quarter of 2017.

So it's an unfortunate situation, but at the end of the day, it's nothing to be concerned about. We're very confident that we're going to be a significant cash flow generator in 2018 as we had been for a long number of years. It's just, we got off to a slow start. And to be quite honest with you, first quarter of '17 was artificially good relative to our history if you actually took the time and look back. We are typically negative in the $35 million range through the first 3 months of the year.

Okay, great. And Tony, you talked about Mechanical having a poor comp in 2Q because of the settlement. I mean, I calculate what Mechanical margin in 2Q '17 was about 7% with that settlement. I mean, what are you looking at for that business?

Well, I don't give quarterly margin projections. But 7% is high. I think I said that last year and said it wasn't a sustainable margin at that point. Look, I didn't say a poor comp. I said a tough comp. I think we'll still do well in the second quarter in Mechanical. But it'll be very difficult for us to make up for $12 million of settlement that helped those margins get to 7%.

Okay. It was $12 million. That's right.

And your next question comes from the line of Adam Thalhimer with Thompson, Davis.

Tony, so your domestic construction backlog was down for the second straight quarter. How concerned are you about that?

We're not. It's -- versus year-end, it's okay. And we have a lot of bidding opportunities and we expect to do fairly well in our construction businesses this year. No concern at all.

Okay. And then you said you think the overall market growth 3% to 5%, but just trying to parse through your guidance. I mean, it looks like you're forecasting domestic construction revenue kind of flattish, maybe even down a little bit. So do you think you kind of underperform the market this year just with tough comps?

No, I think we did real well last year. But I think for us to get to 7.6%, 7.7% with the start we had in Industrial, we need a pretty good rebound for the rest of the year. And I think construction will be more than okay, and I think we have a really good mix right now.

So you think construction can grow kind of with the industry? That 3 to 5?

Yes, I mean, it made time off by this year or the next year, but we don't really know how much more revenue. We had good acceleration of revenues in the fourth quarter last year, right?

Right. And then we actually had a couple of projects due to weather in the first quarter of 2018 that actually work was suspended. So we like to think we're going to get caught up with that work before the end of the calendar year, but some of that actually might tail into the first quarter of '19. Just don't know yet.

I mean the biggest issue in construction is what we've talked about in the comp in Mechanical. Between those 2 quarters we picked up almost $18 million of profit with no revenue. And that's -- that's a pretty big project you have to go find or pretty big chunk of revenue.

Revenue at no cost.

Revenue at no cost. You got to go find a pretty big chunk of revenue to make up for that, right? I mean, that is the biggest issue in construction this year. The underlying business is performing very well. And in fact, it even performed better than what it looks like when you add back that $6.5 million in the first quarter. And the good news about us is we told you all that last year, we told you all that this year, and so there's no surprises, right? I mean, the underlying business is very strong.

And Adam, this is Mark. The only thing I would add to that, in light of your question with backlog. Clearly, in the transportation sector, a lot of those projects which are continuing to burn were large multiyear contracts. Those types of things aren't added into backlog on an annual basis or on a quarterly basis. So the good thing was we had them, and the good thing is we're executing well on them. But unfortunately, as they burn, how that gets replaced, typically gets replaced with smaller increments as opposed to big chunks.

Yes. That will be a big chunk sometime and then I think the same thing on the food process side. We added -- we finished a lot of our big food process work last year. In the fourth quarter, we actually thought we would be finishing it in the first half of this year. We accelerated it. We didn't accelerate, our customers actually asked us to accelerate that work, so that they can get those plans into revenue producing mode sooner rather than later. We're working on some very nice projects there. But they get awarded when they get awarded. You're working with boards and cooperatives and all kind of different folks to get that approved. They're significant capital investments and they will happen when our customers are ready to say, they are ready to go. And we'll be there to execute it and you'll see a jump in backlog when that happens.

But when you see a big jump in backlog with us, like right now, this is the underlying businesses just running, right? And there are some big projects, $60 million, $70 million, $80 million projects in there. But there's a lot of $1 million, $2 million, $3 million projects running through there. And when you see our backlog jump, it typically means that we have a significant multiyear project that's been put into backlog. And we talk about that. I mean, it's very -- you don't see jump with day-to-day business, because we're executing at the same time we're putting things into backlog on that work. I think the average size of our project is still what, Mark, $1 million, $1.5 million in EMCOR? That's still the average size of what goes on here.

Okay. Because I just want to make -- because some people that we follow have talked about a moderation in the revenue -- in the growth rate of non-res; still growth, but maybe going from $5 million down to $3 million or something like that. I'm just curious...

Yes, it could be more civil related or something on the front end of the cycle as opposed to where we are.

Yes. We're further down this path.

And that could be coming for us, or more late cycles than some others.

And Adam, this is Kevin. And if you look inside some of those numbers, the commercial market, the building market, the educational market, they are all running hotter than some of the other markets that the other guys are talking. That's where we had the largest part of our backlog.

Yes. You can see our market turn down year-over-year. But that really wouldn't have much of an impact on us.

And I'll now turn it back over to management for closing remarks.

Okay. Thank you. There are a couple of things I hope you took away from the call. We're excited about the start. We're going to talk about in the future instead of historical backlog. We're going to talk about remaining performance obligations. So I'd ask you to go back and refocus on Page 13 and read Page 27 of our Q. We think it's better just to put a stake in the ground and move from there. This will be a GAAP number. We think it's better to talk to the GAAP number. And the final thing is the business is in really good shape and we need the industrial market to recover, which it surely will over the next 6 to 18 months. Thank you all very much, and everybody, be safe.

And this concludes today's conference call. Thank you for your participation. You may now disconnect.