Comfort Systems USA Inc (FIX) 2022 Q1 法說會逐字稿

Good day, and thank you for standing by, and welcome to Q1 2022 Comfort Systems USA Earnings Conference Call. (Operator Instructions) Please be advised that this call is being recorded. (Operator Instructions) I would now like to hand the conference over to your host today, Julie Shaeff, Chief Accounting Officer. You may begin.

Thanks, Justin. Good morning. Welcome to Comfort Systems USA's First Quarter 2022 Earnings Call. Our comments today as well as our press releases contain forward-looking statements within the meaning of the applicable securities laws and regulations. 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.

Thanks, Julie. Good morning, everyone, and thank you for joining us on the call today. We are pleased to report a fantastic start to 2022. Our teams are busier than ever. And we are incredibly grateful for their hard work, and we thank them.

Excluding the tax gains that Bill will discuss in a few minutes, we earned $0.91 per share this quarter compared to $0.73 a year ago. New work is commencing across our markets, and our same-store revenue increased by 16% compared to a year ago. Bookings climbed again as demand is strong for our services. We had good cash flow despite deploying working capital to support our growth. Yesterday, we also announced a $0.01 increase to our quarterly dividend.

On April 1, we acquired Atlantic Electric headquartered in Charleston, South Carolina. Atlantic performs electrical contracting in various South Carolina markets as well as specialized work on air fields in the Southeast. This partnership brings new capabilities and new markets to Comfort Systems USA. I will discuss our business and outlook shortly. But first, I will turn this call over to Bill to review our financial performance. Bill?

Thanks, Brian. Good morning, everyone. I've been doing this call since 2005, and this is the first time I've ever started with tax. And I'm very happy it's for a good reason. The reason I'm going to start with taxes this morning is because our recent tax events affect so many of our numbers.

So as previously discussed, in January, the Joint Committee on Taxation approved our previously filed refund claims for the 2016, 2017 and 2018 tax years, primarily to claim the credit for increasing research activities or the R&D tax credit. Up to the end of last year, we had not recorded any benefit for those refund claims.

So this approval in the current quarter triggered recognition of a $30 million benefit for the 2016 to 2018 tax years. Because these credits were approved for past years, we also reevaluated the realizability judgment that we have made with regards to the R&D tax credit for the intervening years of 2019, 2020 and 2021.

And as a result, we recorded a $27 million noncash for now tax benefit for those years. After subtracting SG&A expenses related to those tax credits, the net result of those gains was an additional $1.49 in earnings per share this quarter. Consequently, our effective tax rate for the first quarter of 2022 is a negative 130%.

Additionally, when we evaluated our taxes for the first quarter of this year, we also included consideration of the R&D tax credit, and that lowered our tax rate for the quarter. Excluding the prior year benefit, our tax rate for the first quarter was 22%, and we expect our ongoing normalized rate will be similar in the future. So with that background, I'll now discuss our remaining performance.

Revenue for the first quarter of 2022 was $885 million, an increase of $215 million or 32% compared to last year. Same-store revenue increased by 16%, a broad-based increase that results from strong conditions with a lot of new work starting as well as the fact that last year we had air pockets relating to COVID. Overall, for the remainder of the year, we currently expect high single-digit or low double-digit same-store revenue growth.

Gross profit was $153 million for the first quarter of 2022, a $30 million increase compared to a year ago. Our gross profit percentage was 17.3% this quarter compared to 18.4% for the first quarter of 2021. Our gross profit percentage in our mechanical segment declined from 19.1% in 2021 to 18.6% in 2022. And margins in the electrical segment also decreased from 14.7% to 13% over the same period.

The decreases in gross profit percentage resulted from several factors. First, new construction is up significantly as a proportion of our revenue. Second, much of our revenue is on jobs that are early in their life cycle when we generally report lower margins due to uncertainty. Third, with the concerns surrounding supply chain and labor, we are naturally being cautious about cost trends when we estimate the cost to complete ongoing work.

Finally and importantly, materials and equipment are trending higher as a proportion of our costs due to price increases. Material and equipment costs this quarter were 40% of our cost of goods sold as compared to 34% of our costs in the quarter 1 year ago. Since we put more markup on labor than we do on materials, a higher proportion of material and equipment and our cost of goods sold lowers our overall margin even as our gross profit per labor hour stays strong.

SG&A expense for the quarter was $118 million or 13.3% of revenue compared to $88 million or 13.2% of revenue for the first quarter of 2021. We did several acquisitions in the second half of 2021. So most of the dollar increases in new companies. On a same-store basis, SG&A was up approximately $13 million; however, $4.5 million of that increase relates to tax consulting fees and other expenses related to the prior year R&D tax credits that were recorded this quarter. Excluding these costs, SG&A as a percentage of revenue decreased from 13.2% last year to 12.8% this quarter. The remaining same-store increase resulted from factors including compensation costs, headcount and travel and training expenses.

Our earnings this quarter benefited from changes in our earn-out liabilities. Each quarter, we examine our estimates related to our earn-out liabilities. And with all the acquisitions we have done, we currently have several large earn-outs that are ongoing, which is a source of variability this year as we reestimate the likely outcomes for each ongoing calculation every quarter. This quarter, we reported a net gain of $4 million or $0.10 per share as compared to a net gain last year of $1 million or $0.04 per share in the same quarter.

The gain this year was significantly increased by some external variables that affect the calculation, especially the current movement in interest rates and volatility. Ongoing interest rate uncertainty adds to the unpredictability of these valuations in the next few quarters.

After considering all of the factors above and including the tax credit, net income for the first quarter of 2022 was $87 million or $2.40 per share. And excluding the prior year R&D tax credits and the SG&A expenses incurred related to those credits, our net income was $33 million or $0.91 per share, which again includes $0.10 of earn-out gain. This compares to net income for the first quarter of 2021 of $26 million or $0.73 per share, which included $0.04 of earn-out gain.

EBITDA this quarter was up sharply from last year, as EBITDA increased by 18% to $61 million. Free cash flow for the first quarter of 2022 was $56 million, and this includes the $33 million of cash that we received from the IRS related to the 2016 to 2018 R&D tax credits. But even if we normalize for the tax benefit, we believe this is a good cash flow for our first quarter, especially considering the significant investment we are making in working capital as new work starts and in light of our significant organic revenue growth.

By comparison, last year, we had cash flow of $80 million. But as you may recall, last year, we received advance payments on some large projects and our working capital was benefiting from temporarily lower revenue from the COVID air pocket.

Our debt at the end of March was $412 million. And part of the borrowing funded the April 1 acquisition of Atlantic Electric that Brian mentioned earlier. Finally, we're continuing to actively repurchase our shares with a portion of our cash flow. In the first quarter of 2022, we repurchased 162,000 shares. And since we began our repurchase program, we have bought back 9.8 million shares at an average price of $22.77.

That's what I got on the financials, Brian.

Okay. Thanks, Bill. I am going to spend a few minutes discussing our backlog and markets. I will also comment on our outlook for the rest of 2022 and on inflation and supply chain considerations.

Our backlog at the end of March was $2.73 billion. Sequentially, our same-store backlog increased $421 million or 18%, an increase that is broad-based. Year-over-year, our same-store backlog is up by $844 million or just over 50%, with increases across most of our operations and with notable strength in Texas and North Carolina.

Our industrial revenue was 46% of total revenue in the first quarter. This sector, which includes technology, life sciences and food processing, will remain strong for us as industrial is heavily represented in new backlog as well as in our recent larger acquisition. Institutional markets, which include education, health care and government, are also strong and with 32% of our revenue, which is consistent with what we saw in full year 2021.

The commercial sector is also doing well, but without changing mix, it is now a smaller part of our business at about 22% of revenue. Year-to-date, construction was 78% of our revenue, with 49% from construction projects for new buildings and 29% from construction projects in existing buildings. For full year 2021, new construction was 46% of our business. So we are seeing an increase in that sector.

Service increased this quarter by 30% compared to last year, including a same-store service revenue increase of 13%. Service is 22% of our year-to-date revenue, with service projects providing 8% of our revenue; and pure service, including hourly work, providing 14% of revenue. Our service maintenance base increased by 5% in the first quarter to an all-time high of $154 million. Overall, service continues to be a consistent and growing source of profit and cash flow at Comfort Systems.

In all our activities, including both service and construction, we are uniquely positioned to encourage and support our customers as they seek to improve the efficiency and sustainability of their buildings and operations.

I am also pleased to announce that we recently published our 2021 sustainability report on our corporate website, and you can find it at the top of the main page and on the governance tab of the Investors section of our website. That report will help you see what we are doing as well as how we continually help our customers to make progress towards their sustainability goals. We have continued to increase transparency, upgrade our actions and policies and raise our standards in the areas of sustainability, diversity and governance.

We are experiencing strong demand in 2022, and we continue to invest and reward our labor force. As with other sectors of the economy, we are also experiencing supply constraints and cost increases, reduced availability and frequent delays in delivery of various materials and equipment. We are recognizing these challenges in our job planning and pricing. And we are working to order materials earlier than usual and seeking to collaborate with customers to share supply risk and to mitigate these challenges.

We have a good pipeline of opportunities. And so far, we have generally been successful in maintaining activity levels and productivity despite supply chain challenges. We are also mindful of world events and fed tightening. However, considering the strong demand and our record backlog, we now expect continued growth in 2022. And we also expect that our EPS will trend upward, although not at the same pace as our same-store revenue, considering our current mix of business.

We believe the good trends outweigh the challenges, and we remain optimistic about our prospects for 2022 and beyond. With the highest backlog in the history of Comfort Systems USA, we will continue to invest in our workforce, technology, execution capabilities and our service businesses. Our skilled workforce is the heart and soul of Comfort Systems USA, and we will continue to develop and reward our unmatched team members as they strive to work safely to build and serve their communities.

I will now turn it back over to Justin for questions. Thank you.

(Operator Instructions) And our first question comes from Sean Eastman from KeyBanc Capital Markets.

Brian, just a high-level one for you. I mean the backlog trend relative to the organic growth numbers you've been putting up is remarkable. How would you explain that to investors just in broad strokes? And how sustainable do you think this strength is?

I think, Sean, you've known us a long time. We are really proud of the labor force and the project planning that we do. We're able to have really good customers. We have terrific vendors that are working with us through all the challenges that are out there. So when you combine all that and work with everyone and communicate with them, I think that we'll be able to get to our backlog in a reasonable shape. There are challenges, we all know them. Everybody is talking about them. Well, we're just doing the best that we can to serve our customers and take care of our people and our vendors to execute efficiently and productively.

Yes. And as far as the underlying trend, we don't know what will happen. But at this moment, there is no sign of any curtailing demand. There's a lot of demand in the work we do.

The opportunities we're seeing is still very good, Sean.

Got it. Good to know. And just in light of the margin pressure from a year-over-year perspective, and part of that bridge being this earlier stage new construction work ramping up and also this kind of caution and contingency around estimating cost to complete, how does that dynamic evolve? When do we sort of get on the back-end of projects and maybe you can start to release some of that contingency? I'm just kind of curious the timing element there.

So I'll start and Brian can add anything he wants. So guys are leaving resources and jobs because of concerns about all of the challenges that they're facing, right? So that makes -- the fact that we have very good pricing today and the fact that we are positioning ourselves to be able to deal with challenges on a cost basis gives us more opportunity maybe than we've ever had for improvement late in jobs. At the same time, the cost challenges are real. The supply chain problems are real. There's a reason why they're doing that. And so there's a lot of execution to do this summer.

As far as when we start to see that -- get the question answered, it will be after the summer. So fourth quarter, our guys will take a very hard scrub of jobs. We'll be -- most of this work, by the way, we won't be done with this year, the stuff that's starting right now. In fact, very little of it. But they'll take a hard scrub and that's when you might -- you'll really get to, I think, start to get a good flavor for that. If I had to guess, I think it will be a mixed bag. I think we'll have some home runs, and we'll have some jobs where people really are scrambling and they're spending some money to make sure the customer gets what they need. But I think we'll be in a good place overall.

Okay. Very helpful. And then lastly, just as I think about backlog as a predictor of revenue, and I appreciate the walk-up on the organic growth outlook for this year. Just in light of the big shift in mix in the business, should the burn on that backlog kind of come down versus what we've seen over the past, say, 5 years on average. Does that make sense?

Yes, there's 2 factors. So the mix has been moving really more than ever, which is astounding, towards industrial. And industrial does have a quicker burn generally speaking, than the rest of, for example, health care, which probably has the longest burn. But some of the new industrial projects are very big and people are committing earlier, right? They're trying to lock up. Just like we're ordering stuff earlier, they're committing to us earlier, right, which pushes backlog up. So if I were to bake those 2 together, I think the backlog has a longer burn than usual. Thank goodness, right?

Yes. Thank goodness, yes. But it's within the range, though, Sean, model.

And our next question comes from Julio Romero from Sidoti.

So can you talk about the mix of new bookings that are coming in, in terms of the mix of maybe new construction versus existing building construction and, maybe as well, talk about the mix of electrical versus mechanical?

Yes. So I'll go first, then Bill. So in terms of the backlog, we're seeing a pretty consistent trend that 45%, 50% is in the construction range, heavily new construction today. There's a lot of new projects going on. We are seeing a lot of electrical work, particularly in Texas. So I think you'll see electrical pick up, although mechanical is staying strong, but electrical will be increasing as a percentage of our business going forward.

Yes. I would agree with that.

Okay. And I guess what's the biggest change to the operating environment that you've seen over the past 2 months since your February call?

I think -- so the biggest change in the last 2 months is the lack of change. Like the most surprising thing in the last 2 months is that there seems to be no let up in people sort of still wanting to onshore pharma, still very high levels of interest. So we know everybody across the economy is taking a hard look. So far, there's no sign of that with our customers. So I'd say I'm most -- not surprised about, but the thing that's most notable is there may be changes coming, but they're not apparent right now.

Yes. I think, Julio, I agree, the broad-based strength of it, too, is still hanging in there. So not much change.

You may recall that when we were coming out of a couple of recessions in the past, we were kind of famous for everybody would say things are getting better, and we'd say, "Well, we're really hoping they do, but we don't see any sign of it." And we are usually right. In this case, maybe the world is about then, but we're not seeing any sign of it.

Got you. Interesting dynamic there. And maybe last one from me is just if you could talk about maybe the M&A pipeline. And given rising interest rates and maybe more challenges for some of your -- some of the other industry players, are you starting to see any change in valuations for some potential acquisition candidates that you may have had your eye on.

So the answer is, for ones we've had our eye on, no, the relationship deals are the same for stuff that people are hiring a broker. There's a lot of stuff that we wouldn't be interested in that we see. It seems like they certainly are expecting to get higher pricing. I've seen instances where that's confirmable, but there seems to be higher pricing expectations. So we're really happy we had these deals we just did that were based on long-term relationships.

I think it was good timing for us to get a lot of good deals done last year. This year, we are probably going to take a breath, and we'll probably continue to do some tuck-ins. But there's a lot of reasons why we've got work to do to integrate and make sure we do that right. Pricing is high.

Two of the deals we did late last year, two of the bigger deals would have happened this year. They just happened sooner because there was a conviction that people had for a period of time that the capital gains rates were going up. That turns out pretty good for us. I think this year -- there's also -- in the midst of uncertainty isn't necessarily the time to pile into acquisitions. So I think we'll be pretty calm this year, but I think we'll keep really developing the pipeline, and it's still good.

And our next question comes from Brent Thielman D.A. Davidson.

Brian, when you look at a $2.7 billion backlog that you're going to go out and execute on, how do you -- how do we sort of think about the incremental capacity you'll have to address kind of that smaller book and burn work? And I guess second part of that is, do you have a workforce capable of supporting an even larger book of business?

Yes. So really good questions, Brent. And luckily, as Bill mentioned, it is broad-based. So our larger companies have a lot of share to work. So from a capacity and labor standpoint, we're in good shape. We spend a lot of time. As you know, you noticed a long time, timing out this work, labor planning, make sure we have the right resources. We're also very fortunate with an acquisition that Trent and Bill did at the end of last year, a company called Kodiak, which supplies us with labor throughout the country.

So we do have multiple sources to increase our capacity. So I think right now, as I sit here with you, we're in good shape with the backlog we have, and we'll continue to win work and do it. But our guys are really good, looking at their workforces and how much they can take and when it's going to take it. So we're very fortunate with the folks that we have running our organizations and making sure they can take work that we can do.

If you don't mind, I'll add one more specific consideration, which is that in the same way that our cost of goods sold going from 34% to 40% materials and equipment, the same way that made our revenues bigger, it makes the amount of labor in our backlog proportionately smaller. So we've got jobs that are -- on the very big end, we have jobs that a couple of years ago were in a certain size, where you might top out with 300 people.

We have jobs or the same size where the highest number of workers you're going to have on the job site is 200 people. So that -- what happens is if materials start to come back down, then it will make the backlog a little sluggish, and suddenly, we'll look smart on the margin line, right? But for now, the trend is definitely towards more materials, paying more for them, and that makes the backlog bigger as well.

But we're in reasonable shape right now, Brent.

Yes. Not a lot of spare capacity.

No spare, but I'm sure the guys out there are saying, you come and do it, Brian. But right now, we're okay.

All right. I appreciate that. That's really helpful. The second one was just the 2 segments between mechanical and electrical, which would you expect to see more of a kind of a positive inflection in margins once you get towards the more mature stages of these larger projects?

Yes. I mean you look at the gross margin in electricals at 13% for the quarter, we were up closer to 15% last year. So I'm optimistic as the year goes by -- we're really early, Brent, in a lot of its electrical work. So we're really watching that closely. But if I had to guess, I am expecting that electrical will see a bigger bump in margins as we go throughout the year, early next year.

Amen, brother.

Okay. Just one more. Industrial continues to be a huge driver for you guys. But I've also noticed just in the Q, it looks like some of the -- maybe what we might associate as kind of light commercial work, the retail, restaurant stuff seems to be coming around for you, at least from a revenue perspective in the first quarter.

And I realize you're not necessarily emphasizing that work, but I imagine it's getting better for others in the industry, too. Is that leading to a tighter kind of capacity environment in general and kind of favoring pricing on these bids as you're going out and looking at new work?

I mean demand is good for pricing, right, unless you're doing things wrong. And I would say also, you probably detected a little bit those deals we did in December. We've done a lot of acquisitions that were heavily industrial. A couple of the deals we did in December were more of our traditional stuff that we've done in the past, although they have very complex capabilities. They do a broader mix of work.

And by the way, they brought in more service for us. Some of those deals had very, very nice service businesses, especially from the point of view of revenue and customer penetration. They didn't have quite the margins in service that we have. But to be honest, the companies we own today that have those margins and service didn't have them when we bought them. So hopefully, there's some opportunity there.

And our next question comes from Adam Thalhimer from Thompson, Davis.

Brian, you mentioned Texas and North Carolina are strong. Is there anything else to call out in some of the other geographies?

Florida, I would say, is very strong. I mean it's strong across everywhere around. To be honest with you, I picked up -- Texas is obviously -- it's well documented in everything you read. But I think the Southeast, in particular, Florida is very strong, too.

You can't get numbers like this, though, without everywhere being strong.

Everywhere being strong, but we pick up Texas, North Carolina, Florida, very good.

What are you seeing in data centers?

Steady at high levels.

Steady and consistent and good volumes of work, very good.

And then modular high level?

Modular very, very good demand in modular. Modular, we're adding -- we're actively adding more square footage. Today, we have about 1 million square feet of production space in modular, and that's going to be up significantly 6 months or a year from now because the demand is very good.

Got it. And then I'm not sure how to ask this question, but it's really a question on supply chain. And I guess I'm trying to think through -- like how much variability are you seeing just in your subsidiaries in terms of your larger subsidiaries? Like are there some companies that are really sailing through supply chain issues and others are really struggling with it? How much variability do you see out there on that front?

I don't know that -- there's a ton of variability about how this is going, but not necessarily just like this company versus this company. It's more like the variability is thematic. One month, nobody can get PVC. And the next month, nobody can get switch gear. And then suddenly, they seem to get some. And it's very -- it's clear that our suppliers, who are very good themselves, are struggling to make predictions to us.

And unfortunately, more often than not, their prediction ends up being longer. But occasionally, we get stuff we weren't expecting, and I don't know, I'd say it's very variable. But I don't think it's geographically variable or company type variable. It's just a lot of people trying to figure out something that's hard with a lot of variables that when the shift sitting off the coast is going to make -- get called in and it's pretty hard to figure.

Yes. I just want to add on a little bit to that. If you look at the whole chain from your vendors and how they're getting stuff and our customers, people are very rational about the situation we're in. Everybody knows it. We're communicating with them, being transparent. So it's really important time to really be good at project management. And we're lucky that we are working with these folks, and we have really good vendors. We really do appreciate them trying to help us get through this.

And I am showing no further questions. I would now like to turn the call back over to Brian Lane for closing remarks.

All right. Thanks, everybody. I really want to once again thank our diligent employees. They're doing a terrific job, working safely, efficiently and productively and taking care of our customers. Also, thank all of you for your interest in Comfort Systems USA. We really do appreciate it. And we hope everyone has a wonderful spring, and we'll be talking to you soon. Have a great day. Thank you.

Thanks, everybody.

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