Comfort Systems USA Inc (FIX) 2005 Q4 法說會逐字稿

Hello and welcome to the Comfort Systems USA fourth quarter 2005 results. Following today's presentation, there will be a question-and-answer session.

[OPERATOR INSTRUCTIONS]

At the request of The Company, today's conference is being recorded, if anyone has objections, you may disconnect at this time.

I will now turn the call over to our host, Mr. Bill George, Chief Financial Officer for Comfort Systems. Sir, you may begin.

Thanks, Colleen. Good morning, everyone.

Welcome to Comfort Systems USA's fourth quarter and year-end 2005 earnings call. To begin, we want to remind everyone our comments this morning, as well as our press releases contain certain forward-looking statements within the meaning of the Private Securities Litigation Act of 1995. What we say is based on the current plans and expectations of Comfort Systems USA. Those plans and expectations involve risks and uncertainties that could cause actual future activities and results of our operations to be materially different from those set forth in our comments. You can read a more detailed listing and commentary concerning our specific risk factors in our form 10-K that was filed last night, as well as in our press release covering these earnings.

On our call with me this morning are Bill Murdy, Comfort Systems USA's CEO, and Tom Tanner, our Chief Operating Officer. Bill Murdy is going to open our remarks.

Thank you, Bill.

Of course, we're going to cover the fourth quarter and the full year here, and Bill and Tom and I have some prepared remarks and, of course, hope there may be discussion after and questions.

After excluding both non-cash goodwill impairments and the gain from sale of certain operations, net income from continuing operations in Q4 was $6.23 million or $0.15 a share versus $4.19 million or $0.10 a share in Q4 of '04. Operating free cash flow was also very strong with $21.9 million in the quarter. We ended the year with no debt and $55.6 million in cash.

Yesterday, we separately announced that our board has voted to increase our quarterly dividend from $0.025 Q4 to $0.035 for the first quarter of '06. We are pleased to be able to provide further tangible return to our stockholders and shareholders, while maintaining a strong cash is reserve to invest in our growth initiatives.

As previously announced, quarter of '05, we closed the sale of two of our standalone controls subsidiaries, this resulted in an after-tax gain of $9.8 million. Total cash proceeds from that sale almost $23 million are not included in the year-end cash balances, since that transaction did not fund until the first week of January. Our revenues from continuing operations in the fourth quarter were $235 million in '05, compared to $200 million in the fourth quarter of '04, about a 17,5% increase. Our $21.9 million free cash flow, as mentioned above, from operations exceeded the free cash flow in the comparable quarter in '04 by a little over $10 million.

Looking at the full-year, our revenues were just shy of $900 million from continuing operations as compared to $779 million in 2004. That is an increase of 15.5%. For the year 2005, free cash flow was almost $32 million versus about $22 million in 2004. Our backlog on a same-store basis as of 12/31/05 stood at about $681 million, compared to a backlog of $635 million as of the end of the third quarter, September 30. And importantly on a year-over-year basis, our backlog at 12/31/04 was $513, so a substantial increase in backlog from $513 a year ago, 12/31/04, to $635 today, all on a same-store basis. Excuse me, $681 today.

We believe the continuing improvement in our results comes from the strengthening we have done in our core business operations, from improved non-residential construction conditions and strong operations execution. As we begin 2006, we are -- believe we are well-positioned to further exploit the success brought about by our internal improvements and our -- the continuing strong industry activity. We are optimistic that we can deliver another good year and, again, improve our year-over-year results.

At this point, I would like to turn it back to Bill George who will have some detailed financial comments. Bill?

Thanks, Bill.

Although Bill has reviewed our results and described the items that affected our reporting, I would like to take a few minutes to give some additional detail and perspective on our numbers. Our earnings as reported under generally accepted accounting principles were significantly impacted in the fourth quarter as we booked a $33.9 million goodwill impairment expense. The effect of the impairment is to make our earnings as reported under generally accepted accounting principles reflect a loss at a time when our underlying business activities and profits are better than they have been in quite some time, specifically, the effect of the impairment is to remove from our balance sheet some of the goodwill that we have carried since we acquired certain reporting units in the mid and late 1990s. That goodwill reflected the value we paid for those units. Each year, we are required to analyze the value of each individual reporting unit as compared to the goodwill that we carry from the original acquisition of that reporting unit. When we analyzed the goodwill for each unit this year, based on the quantitative methodology that we're required to use, and which we established in 2002 when the new rules were adopted, we determined that we needed to impair the goodwill asset for certain of our locations. Notably, under the rules that govern impairment, only reductions of goodwill are permitted. We do not add goodwill when a company does well, and so it is possible to have impairment even when the overall value of a company is increasing. In fact, we have many valuable and successful subsidiaries for which we have no goodwill on our books at all.

Another very significant item that impacted the quarter as reported under GAAP was the previously announced sale of two of our building automation subsidiaries. We booked a large gain on the transaction, which is carrying in discontinued operations. The cash received, net of transaction cost, was $22.9 million and the after-tax financial gain on the transaction was $9.8 million. The revenues, profits, and the gain associated with those entities, and this transaction, are reflected as discontinued operations and so they not part of our basic revenue number or of our earnings per share numbers. Since both of the units we sold were profitable, including these units' earnings from operations in our results of operations in our continuing operations, but excluding the gain on sale, would have added $0.01 to the quarter and $0.03 to the year.

Revenues from continuing operations for the fourth quarter were $235 million, as compared to $199.7 million for the fourth quarter of 2004. For the full-year, revenues from operations were up 15.5%, with $899.5 million in 2005, compared to $778.6 million in 2004. Of the 15.5% increase in annual revenues, 3.6% was attributable to our acquisition of Granite State in the first quarter of 2005, and the remainder came from internal growth.

Cash flow was also very strong this quarter and we continue to see indications that our cash discipline in tougher times has led to very strong capital efficiency as activity levels have improved. Our fourth quarter free cash flow was over $21 million and our annual total of over $31 million of free cash flow reflects an outstanding performance by our operating companies. Our year-end cash balance was $55.6 million, which did not include the cash proceeds from the previously discussed sale of two building automation subsidiaries. That purchase price was approximately $22.9 million net of transaction costs and after taxes, our net cash received is expected to be $15 to $16 million. We believe that we now combine a strong balance sheet with solid operations and that together, they create a solid opportunity for us to grow.

That's it on financial comments, so I guess I will now introduce Tom Tanner, our Chief Operating Officer. Tom?

Thanks, Bill. Good morning, everyone.

As I have done in our most recent quarters, let me start by saying how much we appreciate the effort and results achieved by our team members this quarter. We are certainly pleased with our fourth quarter results. I believe it was the best fourth quarter we have had in many years. Our financial performance was the direct result of strong execution and a large majority of our companies. We believe that our investment and our people and processes over the last two years laid the foundation for our much improved 2005 financial results.

As we move into 2006, we will continue to improve our project execution by providing productivity training at specific locations and by improved implementation of best practices driven by our Company's mixed groups. Our investment and training of our team members will carry forward from 2005, with several training classes for project managers and field superintendents having already been scheduled. We have also begun to offer leadership training for select members of our current management to better prepare them to deal with the business challenges they face every day.

Our commitment to the service segment of our business has never been stronger. The training programs we developed last year to improve our sales skills and to improve our service delivery capabilities are continuing to be implemented as we move into 2006. As we combined our classroom training with a grassroots efforts of our service group, we expect to see positive results from these investments as we move into the second half of the year. We also believe we will continue to make progress in our underperforming companies. We have made management changes where appropriate and we have downsized certain companies to better align their expertise in manpower resources with their marketplace. We believe that the changes made in 2005 will have a positive impact on these companies going forward.

We would like to specifically recognize the partnership of our operating company presidents and our senior regional management team as the foundation of Comfort's current success. Our presidents are committed to the continuous improvement of their respective operations. They are the individuals who have recruited, trained, and empowered their team members who are producing strong results every day. They are the drivers that foster our ability to affectively share special expertise, manpower resources, and project opportunities throughout Comfort Systems. Our regional vice presidents continually collaborate with our presidents to assist them in achieving their goals. They help our presidents in evaluating their resources and markets with an objective perspective and they often provide help and guidance in recruiting the best talent available. In the cases of company underperformance, the regional vice presidents are responsible for making the necessary changes to help the operation get back on track as quickly as feasible. These changes may include inserting new talent, right-sizing the operation, improving processes and procedures, and often adding additional resources. As a company, we have developed a culture in which we encourage our operations to recognize problems early, that allows our operating presidents and regional vice presidents to work together to resolve any problems with as little negative impact as possible.

Thus, and as Bill previously mentioned, we are optimistic about having improved results in 2006 as compared to 2005. We will focus our efforts on project selection and execution, maximizing our service opportunities, increasing team member training, improving cash management and achieving even better results from our overall safety performance, which is already the envy of our competitors. Our leadership and our team members are committed to our future success.

I will now turn it back to Bill for a wrap-up, and then Q&A. Thank you.

Thanks Tom, and Bill. At this point, I'd like to throw the mic open to questions. Colleen, you want to handle that?

[OPERATOR INSTRUCTIONS]

Our first question comes from David Yuschak.

Good morning, everybody. Great quarter. Great year.

Thank you.

Just do it again in 2006. A couple of things, though. Tax rate, Bill George, was higher in the fourth quarter. Can you maybe explain some of the issues behind that?

Well, our GAAP tax rate was actually quite a bit lower in the fourth quarter. It was negative 597% after you put in the goodwill impairment, but once you take out --

From operations.

I know.

Just need from operations.

Well, actually, once you take out the two items that we reported non-GAAP numbers net of, it was a tax rate of 44.24%.

Yes.

Increase basically resulted from -- under GAAP, you're required every quarter to evaluate your various tax assets. If you have assets that you have on your books related to net operating losses, you have deferred state taxes, you're required to re-evaluate each of those accruals, and then take -- as you make changes to those accruals, they run through the quarter, and for us, that's resulted in some very wide swings in our tax rate. I believe our tax rate the at beginning -- first quarter of the year, was up around 50%. It dipped down to 42, 43% in the second and third quarter and in the fourth quarter, it was back up a little bit, based mainly upon a review of certain tax assets related to net operating losses.

Uh-huh.

Our underlying cash tax rate is pretty steady, it runs 35.5 to 37%, and has for years.

Uh-huh.

But because we're such, in some ways an immature company, as I've said in the past --

Yes.

We don't -- we have an effective tax rate that's higher than our actual underlying payments that we make and expect to make for taxes, because we're required under GAAP to assume that all of our positions will be audited and we're required to assume that, frankly, a pretty high standard of losing on those positions. Even though we know that we're not going to be audited in every state even if -- even if we were audited, we know wouldn't lose on every position, that's how we have to reflect our tax rate. So, it's a complicated story.

Just one other thing I will say, which is, we are projecting again for next year an effective tax rate in the 41 to 45% range, would expect to come in somewhere in the middle of that. But it will be impacted once again as we review these assets. We expect that our overall effective tax rate, net of other changes to tax laws, in the next three to five years will begin to go down and head towards but never reach, probably, because of permanent differences, our cash tax rate. So, that's a long answer, but it's a complicated --

But in some respects, it's just getting some of your underperformers, we have had losses to some reasonable level of performance, instead of helping-- help some of that out, that two of [inaudible], isn't that right?

That's right.

That's right. There is -- our tax rate has improved as our overall results go up.

Right.

But, on the other hand, we have some 160 state tax returns, so it's a pretty complicated picture. We have some subsidiaries that do business in many, many different states, and we have to calculate a separate tax position for each of those states, for each of the entities.

Okay, then, as far as the quarter is concerned, in that revenue, did you take out -- is it discontinued revenue out there of, too? That wasn't the revenue from that -- what was that, in the quarter?

Let me just -- .

$6 million.

Okay. So if you add that back in, you're pretty close to where I thought, I was around 239 to 240. So your numbers, when you throw that back in the pot, were pretty comparable. So it does suggest from a quarter, from a third quarter down to the fourth quarter, business off of your core business was still pretty strong from operations in the non-residential markets. Right?

I think, David, you-- .

Probably stronger than maybe -- probably stronger maybe than seasonally, that you had expected?

Yes. And I think you were more right than you know, because there were some other discontinued operations, small operations that were, this position was made of earlier in the year, so that would have added to revenue on the basis of what you were looking at.

Right, okay. And then -- but business, in the fourth quarter from what you're executing in the fourth quarter, seasonally just looks like it was stronger than what -- fourth quarter, generally things slow down a little bit but doesn't look like it slowed down in the fourth quarter.

That's correct. The strong backlog that we actually have been building since late in 2004, really, a lot of those projects were at a point where we could start executing some of our work in the fourth quarter-- continue into the first quarter.

And then a backlog of 681 versus 635, you had good revenue. Just, just so just -- your business inquiries still remain at a pretty heightened level.

Yes.

Any particular -- with any major big projects in those numbers?

No. The largest project in those numbers currently is not in excess of $10 million.

Okay.

From either a project size or the amount of work that is uncompleted at this point.

Okay. Then one last question, when you take up goodwill charge like it is, it does say some of your operations were underperforming, but that comes despite what we have seen as two quarters in a row, operating margins that's been the best you have seen in six, seven years, so it does say to me with that kind of charge to goodwill, that there are ample opportunities in those underperformers to really raise the potential profitability of this operations. Is that a fair conclusion, and then second, also tell me at the same time, you have got some operations that are smoking. And so, give me a look at both of those, both of those sides and give us an idea what's caused one to do that well and what you need to do to bring the other one up.

First of all, I will let Tom talk or reiterate what he said in his prepared remarks about how we improved these operations, but both of your surmises are correct. We do have some underperforming operations. Not in all cases did that get reflected directly in the goodwill impairments. We may not have any goodwill on some of those operations, but-- and on the other side of that, we have had some operations that have really knocked the ball out of the park in terms of job acquisition and execution. So your surmises are correct.

Tom, you want to talk about improvement of operations-- opportunities?

Well, certainly we, as Bill said, we have some world-class construction operations and service operations in Comfort that had very, very good years in 2005. And we just believed that it's the continual focus on selecting the right project and then executing on that project, is where we have really seen the increase in profitability in 2005 as compared to previous years. We-- this is a very basic blocking and tackling business and we set to go at it every day. That's what our company presidents are doing.

Appreciate that and I'll get back in queue. I have one more question but I'll get back in queue. Thanks.

Thank you. Our next question comes from John Rogers with D.A. Davidson.

Hi, good morning.

Good Morning.

Hi, John.

I was just wondering if you could give us any comments by in customer, either regionally or types of products, or types projects that you're seeing the most significant upticks in?

Well, I will make a comment or two, and then Tom can, as well. The -- with the exception of the upper Midwest, I think we're seeing across the board increases in most of our sectors, hospitals, schools, some new vitality in the commercial building sector, hotels, and then a big continuing business in high-rise condominiums and for-rent high-rises. In -- where we are. We operated in those -- in that area in northern Virginia, the panhandle of Florida, Houston, L.A., Denver. So we're seeing that activity pretty broadly.

Tom, you might want to add --.

The only other sector we have seen-- many of our companies have had long-term relationships with various military bases around the country, and we're certainly seeing -- maintaining our construction levels, if not increasing in those bases as we move forward. In a lot of that work is procured on a design-build basis and we have companies that are very good at design-build work, so they're getting a good share of that work that is available.

One thing I'd add is, for the first time and it's small, but for the first time in a long time, we've seen come through the actual numbers, some strength in office buildings, both under five stories and above five stories, and people have talked about that for a long time. It's just starting to show up in some of the numbers.

Okay, and regionally anything unusual there? Or, it's -- .

The Midwest still is weaker than we would like to perceive.

Yes.

The Northeast, the whole Eastern corridor has been very strong, and our markets in San Diego and Phoenix are performing well with large backlogs and strong pipelines and opportunities in 2006.

Let me add here, John, while the upper Midwest has been the weakest regionally, it has two of our best companies who had very good years and have taken market share in a very profitable way up there, so.

Okay, and in terms of your margins, and if I did this right, looking at a year-over-year basis, the gross level and continuing operations, it looks like they're down a little bit. Is that higher material costs or -- ?

The material costs are high.

Yes.

Relative to any long-term average, but they have mitigated the increase, the commodity materials cost, and as we have said before, some portion of our materials costs are equipment and we have big companies in between us and the commodity materials prices in Carrier, York, Lennox, Trane --

John, John, you might be cutting the numbers a different way than we are. We-- the numbers -- it seems like to us the grows margins are stronger.

Okay.

So there might be some tabulation difference that we could discuss later.

Okay. Okay. Great. Sorry. Thank you.

It's all right.

[OPERATOR INSTRUCTIONS]

Our next question comes from David Yuschak with Sanders Morris Harris.

Hey, surprised I'm back in the queue so quick. As far as your cash, when you throw the cash in from your proceeds of asset sales, you guys are sitting on a lot more cash than what I would have thought at this point in time, and any kind of decent year this year, you're going to sit on a lot more cash in the next year. The dividends certainly is a good idea, but when do you guys start seeing more opportunities to add resources to acquisitions? Is it going come sooner than later now that you got this cash, or just give me some idea of your thoughts there, please.

Well, in terms of seeing opportunities, we are seeing a lot of opportunities. We're seeing them by seeking them, because the kind of opportunities or assets, productive assets that we want to add-- companies we want to add are the best companies, not just the companies that might be for sale and so we-- but we do have opportunities sitting right in front of us right now, Dave, that with any reasonable luck, we ought be part of Comfort Systems going forward. We have said this before. We're not hiding the fact that we are prudently and selectively adding to our companies, especially in areas -- in good areas where we are not currently represented directly. And we're also working hard internally to increase our service business and -- which is to say, we're trying to grow on the platforms that we currently have and we're -- that, that is some investment, as can you understand. But yes, we do have cash. Some of that cash is going to be reduced by cash tax payments and other seasonal payments, but you're right. We do and we are aware of that and we have increased the dividends slightly, but we're focussed on utilizing that cash for growth purposes and in summary, it would be spending it internally to grow in our current platforms and externally to bring in some other companies around the country and geographies that we're not currently in.

As far as the acquisition prices are concerned, if you're going after a little more stronger management and stronger markets, whatever, how much of -- does that suggest a higher, much of a higher premium that you would have to pay for these, particularly given business activity has been pretty strong.

Yes, well, a method -- some of them are listening on in on this call, so we don't want to lead with that.

Yes.

But no, it's -- we're, we're ready to pay what it requires to get a quality company. But we try to look at the longer-term, what's the company done over the last period of years when there have been ups and downs, what is it potentially going do, what are we really buying here, and we try to make sure that those companies in general have the component of service that we can exploit as well. So -- .

Is there-- would there be some component of stock in these things at this point in time, or is it -- would be cash?

We're, we're -- we can be flexible. We, we have the cash to the extent -- stock or even of subordinated debt. Can't be subordinated much, we don't have debt. But, debt, we're appropriate, we could -- we're not wed to one particular financial mechanism or form of consideration. But, we do have the cash and that is generally what we would do.

Okay, now another question on the -- it indicated up in the upper Midwest where obviously you might be gaining some market share, but markets have been on a stronger gain through gaining market share there, and everybody's been commenting about how the non-resident business is coming back. It's been less than expected in 2005, and yet your backlog and bookings and everything remain strong throughout the year. Is it a function of just maybe where your markets are right now? It's stronger than what some of the aggregates would suggest, or is it that you're taking market share in those places even where business is strong? I would like a sense as to how those dynamics are playing out to, because your revenue and everything else has been a lot better than what you would think is happening both out of the non-residential markets place.

Well, actually what -- going back to what Bill said earlier, we actually have four companies that we would consider in the Midwest that had very strong performance in 2005. Two of them larger companies, two of them smaller companies but still with very good performance. And they are -- they have very good reputations in the marketplace, they are people that owners and general contractors want to deal with and so that they're seeing opportunities and they're getting a larger percentage of the opportunities than their competitors are. And so we're encouraged by what is happening there but we're concerned about the overall market, for example in Michigan with the auto suppliers and GM and Ford problems, et cetera, could have an impact going forward on just a level of activities in those areas.

Meanwhile, numerically, Dave, we definitely have been taking market share, albeit in a fragmented industry, but that's not really new for us. Even in our down years, '01, '02, '03, we grew at times when is the industry was contracting or we contracted just slightly when the industry contracted by very noticeable percentages. I think through our history, we've always -- we've been growing relative to the underlying measured growth in our industry. So I think, I think that's nothing new and we believe we have a lot of advantages that let us do that. Now we have more than ever. We have a strong balance sheet, we have better and better operations and, frankly, if you look at the industry press over the last couple of years, we're getting -- coming to have a very, very strong reputation coming out of a period of time in the late '90s and early, just after the turn of the millennia that when some of the type of companies that are -- were suspect, we're getting very, very good press, in industry publications. So we think we have a lot of advantages and frankly, we ought to be held accountable to grow faster than the industry.

What a year -- you've certainly done a good job. Congratulations.

Then one last question, and this is more just some of the things you read in the press, of all the high-rise condominiums and everything you're having some problems. Are you guys seeing anything either in your workflow or just out there, where maybe we're getting more overbuilding in some of the higher-rise condominium areas where there's been speculation that to buy it before the prices goes up type of mentality, just wondering if you see yourself being exposed some of that areas in the current business or you're just beginning to see some of that where you're maybe a little more cautious in taking on that kind of business opportunity?

Well, we certainly are tracking it and looking at it, Dave, and I think you're right that there is a potential for overexpansion in that area. I think the cancellations of projects seem to get all the press. In Vegas, where we are not located, is a perfect example. A couple of projects get cancelled out there, that makes the headlines. The fact that there are 90 others that are continuing only gets slight mention. In south Florida, the coasts of Florida, a lot of speculation. We're not heavily exposed there, we are in Northern Florida, the panhandle. In Houston, the front page of the business section of the Chronicle yesterday, another building, an old 60's commercial office building has come down and a 30-story condo is to go up. So, it continues. We're being cautious. We recognize that potential overbuilding -- and additionally, there are challenges in executing on those projects. Which Tom and the regional vice presidents and the companies are -- that are involved are heavily focused on.

Okay. Listen, thanks a lot for your help.

Okay.

Thank you.

[OPERATOR INSTRUCTIONS]

Colleen, that's-- if there are no questions, that's fine. Dave Yuschak does a good job of asking the right questions and maybe he's asked a lot that others had in mind. I guess I can conclude the session here by first thanking everyone for their attention and participation, as I said in my remarks, we start this year enthusiastic and we started with expectations that 2006 will be better than 2005, just as we said 2005 would be better than 2004. We're saying the same thing about '06. So, we thank you for your participation and for those of you are stockholders, thank you for being with us and support and we will continue to perform.

Thank you.

Okay. Thank you.

Thank you for participating in today's teleconference and have a great day. You may disconnect at this time.