Comfort Systems USA Inc (FIX) 2021 Q2 法說會逐字稿

Good day, and thank you for standing by. Welcome to the Second Quarter 2021 Comfort Systems USA Earnings Conference Call. (Operator Instructions) As a reminder, this conference call is being recorded. I would now like to turn the call to Julie Shaeff, Chief Accounting Officer. Please go ahead, Miss.

Thanks, Charlie. Good morning. Welcome to Comfort Systems USA's second quarter earnings call. Our comments this morning as well as our press releases contain forward-looking statements within the meaning of the Private Securities Litigation Act of 1995. What we will say today is based upon the current plans and expectations of Comfort Systems USA. Those plans and expectations include risks and uncertainties that might cause actual future activities and results of our operations to be materially different from those set forth in our comments. You can read a detailed listing and commentary concerning our specific risk factors in our most recent Form 10-K and Form 10-Q as well as in our press release covering these earnings.

A slide presentation has been provided as a companion to our remarks. The presentation is posted on the Investor Relations section of the company's website found at comfortsystemsusa.com. Joining me on the call today are Brian Lane, President and Chief Executive Officer; Trent McKenna, Chief Operating Officer; and Bill George, Chief Financial Officer. Brian will open our remarks.

Okay. Thank you, Julie. Good morning, everyone, and thank you for joining us on the call today. We are happy to report an excellent second quarter. We earned $0.90 per share despite some revenue headwinds arising from pandemic-related delays in some areas and projects. Our sequential backlog increased by $180 million this quarter on a same-store basis. And our year-over-year same-store backlog also increased by $200 million. And this is the first time since the pandemic decline that we have seen a same-store increase in our backlog from the prior year. These increases support our belief that direct pandemic effects are abating. Our free cash flow continues to be strong, and yesterday, we increased our dividend. Our essential workforce proved its metal during the recent challenges, and they continue to excel as circumstances improve. We are grateful for their strength and perseverance.

We are optimistic about our prospects for the next several quarters. We recently announced that Amteck will be joining Comfort Systems USA, and the acquisition -- and that acquisition is expected to close in the third quarter. Amteck provides electrical contracting solutions and services, including core electric and low-voltage systems as well as services for planned maintenance, retrofit and emergency work. Amteck is headquartered in Kentucky and focuses on the Southeastern United States, including Kentucky, Tennessee and the Carolinas. Amteck brings experienced professionals and a fantastic reputation for electrical contracting and services in industrial markets such as food processing. Amteck will add world-class capabilities in complex projects, deep customer relationships, design build confidence and opportunities for synergy.

I will discuss our business and outlook in a few minutes. But first, I will turn this call over to Bill to review our financial performance. Bill?

Thanks, Brian. Before I review second quarter details, I want to discuss the impact of COVID and how that has affected the composition and timing of earnings and revenue so far this year and in the comparable period last year. Our first quarter results in 2020 were lowered by COVID. As we closed that quarter last year in the midst of governmental orders and building and job shutdowns, we were very concerned about how the pandemic and work precautions would affect our productivity. Accordingly, the judgments we made to close the first quarter last year led us to expect higher costs on jobs and reduced margins, and we also reserved certain receivables. 3 months later, by the time we were closing our second quarter, it had become clear that our activities were deemed essential and that we could work at good productivity levels or would be paid for lost productivity in most cases.

As a result, we reassessed some cautious estimates and partially as a result of those judgments, the second quarter of 2020 was particularly robust. We continue to benefit from those factors in last year's third quarter as well, and the third quarter of 2020 also benefited from a very discrete gain relating to the settlement of open issues with the IRS for our 2014 and 2015 tax years. As a result, although underlying trends are strengthening, we continue to pay tough comparables in the third quarter. Now during the first half of this year and a year later, we have good execution and productivity; however, we have had some revenue softness due to delays in work preparation and preconstruction due to the pandemic. We are also towards the end of closing out some work that was performed under the worst conditions of the pandemic. And so the margins we achieved this quarter reflect a little of that headwind.

Fortunately, those effects are subsiding and our research and backlog and active pipeline is a sign of good demand and prospects. And so with that background and context, let me review the numbers in more detail. Revenue for the 2021 second quarter was $714 million, a decrease of $30 million compared to last year, and our same-store revenue declined by $46 million. Gross profit this quarter was $126 million, lower by $19 million, and gross profit as a percentage of revenue declined to 17.7% this quarter compared to 19.6% for the second quarter of 2020. Our gross profit this quarter reflected the headwinds that we are experiencing in construction particularly in our mechanical segment. If you compare the 6-month period this year to the same period in 2020, gross profit was 18.1% for the first 6 months of 2021, which is roughly equivalent to 18.2% for the first half of 2020.

SG&A expense for the quarter was $88 million or 12.3% of revenue compared to $85 million or 11.4% of revenue for the same quarter in 2020. On a same-store basis, SG&A was similar to last year, with a same-store increase of $1 million. Our 2021 tax rate was 23.8% compared to 27.6% in 2020. Our quarterly tax rate benefited from permanent differences related to stock-based compensation, and we expect a more normal rate in the second half of the year. Net income for the second quarter of 2021 was $33 million or $0.90 per share, and that resulted -- that result included $0.10 of income related to revaluation of our contingent earn-out obligations. We have 4 large earnouts active in 2021, and so we expect more variability than usual in earn-out valuation this year. Our net income for the second quarter of 2020 was $39 million or $1.08 per share. For our second quarter, EBITDA was $55 million. And year-to-date, we have $106 million of EBITDA.

Free cash flow in the first 6 months was $101 million as compared to $151 million for the first half of 2020. The slowdown and some temporary tax benefits created unprecedented cash flow last year. Our cash flow is very strong through 6 months. But as activity levels improve, we are likely to continue deploying some working capital to start new projects in many of our geographies. Ongoing strong cash flow has allowed us to reduce our debt faster than expected and also to remain active in repurchasing our stock, and we have reduced our outstanding share count for 5 consecutive years. Brian mentioned that we recently entered into an agreement to acquire Amteck, and that transaction is expected to close shortly and during the third quarter. We have not yet closed Amteck, so no revenue or backlog is yet included.

Amteck will be included in our electrical segment, and it is expected to contribute annualized revenues of approximately $175 million to $200 million and EBITDA of $14 million to $17 million. In light of the required amortization expense related to intangibles and other costs associated with that transaction, the acquisition is expected to make a neutral to slightly accretive contribution to earnings per share for the first 12 to 18 months. So that's all I have on financials, Brian.

Okay. Thanks, Bill. I'm going to spend a few minutes discussing our backlog and markets. I will also comment on our outlook for the remainder of 2021. New bookings significantly exceeded backlog performed during the second quarter. Backlog at the end of the second quarter of 2021 was $1.84 billion. We believe that the business impacts relating to COVID-19 have now stabilized. And as a result, same-store backlog increased sequentially by 11% or $180 million. That is a strong increase, particularly for second quarter. The increase is broad-based with strength across our markets, most notably in industrial projects. Although delays might modestly impact activity levels for the third quarter, we see strong underlying trends in the coming quarters, and we are comfortable with the backlog we have across our operating locations.

Our industrial activities were 42% of total revenue in the first half of 2021. We think this sector will continue growing as the majority of the revenues at our new companies of TAS and TEC are industrial, and because industrial is heavily represented in new backlog. Institutional markets, which include education, health care and the government are strong and were 33% of our revenue. The commercial sector is also solid. But with our changing mix, it is now about 25% of our revenue. For the first 6 months of 2021, construction was 77% of our revenue with 46% from construction projects for new buildings and 31% from construction projects in existing buildings.

Service was a great story this quarter, and service revenue was 23% of year-to-date revenue with service projects providing 9% of revenue and pure service, including hourly work, providing 14% of revenue. Year-to-date service revenue is up approximately 12% with improved profitability. Service has now rebounded to full activity levels. Buildings are open, profitable small project activity is back, and we continue to help customers with their indoor air quality. Overall, service was a major source of profit for us this quarter and really helped offset to temporary air pockets in construction. Our mechanical segment continues to perform well despite being most impacted by the pandemic-related air pockets. Our electrical gross margins improved from 6.5% in the first 6 months of 2020 to 14.3% this year.

Finally, our outlook. Our backlog grew this quarter, and strength is returning. Project development and planning activities continue to be strong with our customers. We are confident in recent acquisitions and are excited about the pending addition of Amteck. We also continue to invest in our workforce and businesses in order to grow earnings and cash flow. For the balance of 2021, the pandemic recovery will continue to affect revenue timing and work. And we also faced a tough third quarter comparison, as Bill mentioned. As work picks up, we will be impacted by timing, and we will invest some working capital in order to ramp up. For the next few quarters, we will have relatively fewer closeouts also.

We are paying more for materials, but so far, material availability and increases have been manageable. We are closely monitoring material shortages and costs and are taking steps to add additional protections on new work. All of these considerations make it hard to predict exactly how the next quarter or 2 will unfold, but the underlying trends and opportunities are very positive. Despite some moving pieces and carryover effects in the near term, we look forward to continued profitability, and our increased backlog and strong pipeline indicate that we can expect stronger activity levels later this year and into 2022. We are optimistic about finishing 2021 on a strong note, and we are even more optimistic about 2022.

Thank you once again to our employees for your hard work and dedication. I'll now turn it back over to Charlie for questions. Thank you.

(Operator Instructions)

Your first question comes from the line of Sean Eastman with KeyBanc Capital Markets.

So Brian, in your prepared remarks there, you're talking about being confident in the second half and then even more confident in 2022. It's kind of unusual for you guys to speak about the out-year so bullishly, right? So obviously, we saw great bookings in the second quarter. But maybe beyond that, what's really underpinning that confidence, especially considering we've got some of the supply chain and labor availability uncertainty here?

Yes. Well, I think -- first of all, Sean, we're seeing a lot of opportunities still throughout the country. It's work we like, work we're good at. So that gives me a lot of confidence that we'll be able to execute well in the field. And I -- as far as we can see, that's going to continue for the rest of this year into next year. There's multitude of opportunities, particularly if you look at the industrial sector, data centers, pharma, medical facilities, labs, food processing, medical in general on the retrofit side and some new building and education. So I'm pretty confident in what we're seeing and I think the momentum will continue. I guess your question about the materials and labor. I'm sure it's well documented. But I think we're doing a really good job managing it on the material front, in particular.

We have really good relationships with our vendors, a long history with them. We treat them fairly. We pay them on time. And we'll let them know what's coming as early as we can, and all of us are on the phone with them. So -- I mean we're going to manage our way through it. We've been through tight times before. None of us are new at this. And of course, on the labor front, you do everything you can. I think stuff like prefabrication and modular helps us reduce that dependence a little bit on labor. But we're recruiting, bringing them in, training them. And -- but I'm pretty optimistic. We've got a lot of well-seasoned professionals out there doing the work, and we'll get to it.

Okay. That's helpful, Brian. And another high-level one from me is you pointed out this big shift in mix we've seen over the past several years with industrial overtaking commercial in a big way. I think that's been deliberate with acquisitions being a big part of that. You've also invested heavily in service over the past several years. So just in that context, as we're looking at our forecast into a positive inflection in activity, I mean, what do you really need to consider in our models considering that big shift in the profile and mix of business?

As far as your model goes, I don't know. But the most important things about those changes are -- in the complex space, you have a much better opportunity to get reliable margins and to charge for the labor that we have. That's really what you invest in, when you buy Comfort Systems stock is a group of people who can do hard things. I'm not sure it really changes the modeling. I do think you can -- that industrial will go up for the rest of this year, but almost certainly just because we'll have a full year of 2 companies that are virtually 100% industrial.

And as Amteck comes in, they have a richer industrial mix than we have on average. And they have particular expertise in things like food processing and certain types of industrial facilities that really we didn't have a lot of exposure to and a really great sort of -- because it shapes the geography where we're really excellent at this stuff, a little bit to the -- stays in our sweet spot of the greater Southeast, but shaves us a little more to the west of the Southeast in some areas that we think are just really, really attractive in the coming years.

Okay. That's helpful. And last one for me is, this is one of the lower gross margin prints we've seen in some time from you guys. Could you just walk us through some of the moving pieces there? It sounds like no real change in margin expectations on a go forward, is my sense.

Yes. If we look at where we got year-to-date, we're over 18%, Sean. I mean you look at a 3-month time frame, I think we're really -- executing really well in the field. I think, we'll be back to our normal spot. I think this is just one quarter decline in my opinion.

Yes. You think about it a year -- with all the craziness of the last year, right? One of the things that happened last year was people had to work out on job sites with masks on, and they could load fewer people in an elevator and just a more distant and hard -- longer time frame to just get on to the job site as you were getting your temperature taken. So even though a year ago, we found out we could still work with good productivity, that doesn't mean it doesn't affect somebody if they have to wait 10 extra minutes to get in and we're paying them. That's 10 minutes of lost productivity. So I think that on many of our jobs, we had some lost productivity.

It's just that we had money in our cost codes to cover it. But when you get to the end of the job, we're finishing a lot of those jobs, that's still going to affect how much of a pickup you're going to have at the end, right? And also, we are in a period of time when we have a little bit -- we have some sporadic air pockets in places where they're about to get really busy. And as you might imagine, if you've got welders and pipe-fitters and plumbers and master electricians, you're going to be pretty slow to lay those guys off when you're facing a giant amount of work. So I think what you're seeing is an amazing outcome as our guys are managing through an inflection point a little bit and a little bit of an air pocket, and we're thrilled to make a ton of money and be positioned the way we are.

Yes, I couldn't be happier the way we're performing in construction and service right now.

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

Bill or Brian, how are building owners or people thinking about building a building, thinking about rising materials prices?

So as far as we can tell, when you talk to virtually any of our companies, there's still a ton of planning going on, right? So I think nobody likes it when they have to pay more for something. There are certainly places where people were budgeting something, and they're seeing a little bit of sticker shock and they're happy to talk a little bit more. But the reality is for most of these businesses, the capital expense of building a building is spread over the next 40 or 60 years. If it's a good investment, a 10% or 15% increase in the total price is very unlikely to turn something into a bad investment, especially if you think about it, people -- we're facing the -- this is the second time in my career in this industry where we're facing a big, very quick increase in material costs. The last time was 2005.

The summer of 2005, there was an awakening where people said, "Oh, China is here to stay, and they're going to use a lot of the world's resources." And building supplies doubled over about a 6-month period. We managed through that with just, I mean, just less than $1 million, I think, of effect. But also the biggest reason I feel much, much better this time is, last time this big "problem" was a real problem because something was going to happen in a place I don't do work. Very hard as the CFO of a company that builds things to say, "Oh, this factor that's raising cost that's driven by the fact that people really want to build things is a problem, net-net." I think at some point, you have to accept the fact that if you're going to be in a really robust market, there's going to -- you're going to move a little bit on the supply curve. So I don't know, I think it's good news.

And Adam, it's interesting, we're having very collaborative discussions throughout, everybody on a project, customer, subs, everybody else about the issue. So it's not like it's affecting a few sectors, right? It's broad-based. So it's -- everybody is trying to work together to get these jobs built.

And it's self-correct because if people stop wanting buildings, watch what happens to material prices.

We don't want that. What -- can you comment a little bit on pricing? I mean it sounds like, obviously, good bookings in Q2. It sounds like the bidding is still steady? What are you seeing on pricing?

I think pricing is good. I mean it's been pretty stable and the opportunities that we're looking at. So I think it will be okay.

And then, Bill, can you repeat those Amteck numbers? And was that a -- were those rest of year numbers?

No. So we basically -- in our press release, we said that once Amteck is a part of Comfort Systems, you could expect $175 million to $200 million of revenue and $14 million to $17 million of EBITDA. And we do that with each one of our acquisitions. It's just to give people an idea of what we bought. Obviously, we try to put numbers in that we think are very fair and achievable. But I will say also, those are numbers that we expect them to average in years to come. There will be years when they do much better than that. And like all companies, if somebody -- if we have a company in Little Rock, Arkansas, nobody is building and building in Little Rock, Arkansas, the greatest company in the world might have a soft year, too, because -- so it is -- we are a portfolio. But I very -- I never felt more comfortable with sort of my view of the prospects of some acquisitions that we've done.

Your next question comes from the line of Brent Thielman with D.A. Davidson.

Bill, does the cash flow get better from here in the second half? I know you're going to have some working capital requirements, but I wonder...

If I were guessing, we can do better than -- we'll probably do better than $20 million. The fourth quarter is usually a good cash flow quarter for us. But the one thing I would say is, if we were to go back to that eye-popping cash flow, it wouldn't necessarily be good news. It's actually -- so I -- will cash flow less than our earnings for the next 3 or 4 quarters if our revenues are going up the way we expect them to. Because definitionally, in general, we had paid people their wages before we, on a weighted average, get paid for the work we do. So it's good news.

I think, that -- but the good news is, I think, we have very good cash flow. I don't know if we can match the first half, but the third quarter -- the second quarter was just a low number. There is one factor that's just out there that's math. And that is, last year, they gave us permission not to pay our payroll taxes. And we're an assembled workforce. We have a lot of payroll taxes, and we have to make up half of that in the fourth quarter of this year, and we have to make up the other half of that in the fourth quarter of the next year. So that's definitionally going to knock 10 or -- I think $20 million off or something in the fourth quarter as we just do a catch-up on that. So...

Okay. And I think the electrical profitability over the last couple of quarters is a pretty interesting story. Your revenue is down a lot, but obviously much improved. I want to get your thoughts, I mean, can you build on these levels as you start to accelerate some of this new work? I'm not asking about timing, but just more whether this is kind of the baseline we ought to think about for that side of the business that you can build on as things get more active?

Yes. So Brent, this is Brian. Yes, there has been a marked improvement in the profitability of electrical. And as we announced early when we got into electrical that we probably shrink it before we grew it again. But I'm very optimistic about the possibilities improving margins in electrical particularly with Amteck joining us. We've got a good critical mass of sharing best practices, et cetera, using prefabrication. So I think for modeling sake, this is probably a good baseline, but I'm optimistic we'll get better.

Your next question comes from the line of Julio Romero with Sidoti & Company.

So I guess I wanted to start on the services side. You're seeing a nice rebound there sequentially. Is that rebound in service mirroring your increase in some of the subsectors, industrial, government or multifamily? And -- or is there other subsectors that may be driving that?

Our sweet spot for service, unlike construction, is commercial. So we do an awful lot of service in commercial buildings. We do a lot of projects across our portfolio. But where we get in there and do a lot of demand service, where we have a lot of our preventive maintenance agreements is in commercial. If you think about it, somebody like Duke University or the method of hospital system, they have their own facilities management teams. And so they kind of call us in to do something hard like a project, it's really the -- it's in our commercial that we see a lot of service.

Got it. So I guess the implication would be the -- on the construction side and commercial, that's something where the air pocket may be affecting you?

So I don't -- I think service is not -- service -- I don't know if you're asking if the air pockets affected us in the second quarter in service, I think the answer is no. I think our service was up 12% or something and...

No, I'm sorry. Yes, I meant to say that because the commercial and other was down year-over-year on the revenue side. And if service is up, I guess, the implication is that the construction side of commercial is down. Okay.

Yes. Absolutely. And it's really improved on the industrial and the others, as we mentioned. But also on the service front, right, we've got some help with the excessive heat we have in, too. So you have in the HVAC business, and there's no question that, that does help us. So we're full filled in service right now.

And by the way, I'd also say, commercial is not as strong, I would say, in the United States today as industrial or even institutional. But our commercial numbers coming down is not just indicative of like weakness in commercial. It's indicative of decisions being made by our subsidiaries to take work that's more complex and better for them. It's indicative of us moving up the food chain really.

Got it. That's helpful. I guess if you can talk about the mix of what you're seeing in backlog now? I know you mentioned some improvement in -- particularly in industrial. But I'm curious if education or any other subsectors might be increasing year-over-year and making a bigger portion of your backlog, but not in the current revenue mix?

Yes. No, if you look at our backlog today, industrial is very commensurate with our revenues. So that's strong and growing. We hit growth out of medical for sure bolt-in new build hospitals, retrofits and medical facilities and also a fair bit of what I'd call laboratory research facilities and vaccine development facilities. So -- and education has been pretty stable for us, doing a little bit of work with air quality and schools, et cetera, but university is still pretty strong for us, Julio. So other sectors in the backlog that has the majority of it.

Yes, believe it or not, lodging and entertainment also was up. We had a couple of nice bookings in that area this quarter.

Yes. We've got some hotels going up, which is not what we expected.

Yes, I haven't seen that much by other companies either. I guess just last one for me here is, what do you think Tennessee Electrical does in the back half of the year from a revenue run rate standpoint?

What did you say?

What electric...

Tennessee Elect, TEC?

Tennessee, correct. The TEC acronym.

So that's probably a little too granular. Their revenues were very light in the first half and we knew it. Like 3 months before we did the deal, he was telling me that he had this period and they're picking up. They've got some jobs starting. So I think they'll be up considerably, but it's hard for me to -- I just don't have my fingertips to have a number I can put on that.

But I will tell you, I was at TEC, there recently, and their workload, they will be full till the back end of this year for sure.

And that concludes our question-and-answer session for today. I will now turn the call over back to Brian Lane for closing remarks.

Okay. Well, thanks, Charlie. In closing, I really want to once again thank our wonderful employees. And I really wanted to give a shout-out to our analysts this morning for their preparation. They had a lot of calls going on today, we know it. Really appreciate you joining the call today and your questions as well. So we're also glad and hopeful to see everybody here in the near future in person. We're looking forward to it. In the meantime, everybody be safe, and have a good upcoming weekend, a good rest of your summer. Thank you.

This concludes today's conference call. Thank you for participating. You may now disconnect.