Rollins Inc (ROL) 2008 Q1 法說會逐字稿

Good morning ladies and gentlemen. Thank you so much for standing by. Welcome to the Rollins first quarter conference call. During today's presentation all parties will be in a listen-only mode. Following the presentation the conference will be open for your questions. (OPERATOR INSTRUCTIONS).

As a reminder, the conference is being recorded today, Wednesday, 23 April, 2008. I will now turn the conference over to Ms. Leslie Loyet of the Financial Relations Board.

Thank you. By now you should have all received a copy of the press release. However, if anyone is missing a copy and would like to receive one, please contact our office at 212-827-3777. We will send you the release and make sure you are on the Company's distribution list.

There will be a replay of the call which will begin one hour after the call and run for one week. The replay can be accessed by dialing 1-800-405-2236 with a passcode of 11112420. Additionally, the call is being webcast over www.ViaVid.com and a replay will be available for 90 days.

On the line with us today are Gary Rollins, President and Chief Executive Officer, and Harry Cynkus, Chief Financial Officer and Treasurer. Management will make some opening remarks and then we will open the lines up for your questions. Gary, would you like to begin?

Yes, thank you Leslie. Good morning and thank you all for joining our first quarter 2008 conference call. Harry will read our forward-looking statement and disclaimer and then we will begin.

Thanks, Gary. Our earnings release discusses our business outlook and contains certain forward-looking statements. These particular forward-looking statements and all other statements that may be made on this call excluding historical fact are subject to a number of risks and uncertainties, and actual results may differ materially from any statement we make today. Please refer to today's press release and SEC filings including the Risk Factors section on our Form 10-K for the year ended December 31, 2007 for more information on the risk factors that could cause actual results to differ.

Thank you Harry. We were pleased to report a 4.4% increase in revenues for the first quarter. Total pest control sales were up approximately 10% led by our strong commercial pest control sales results. We saw strong commercial performance particularly in our national accounts, which was up over 100% from the same quarter last year with more than $7 million in sales.

As I mentioned on our last call, this quarter we started service on three national accounts that were sold earlier with approximately 3500 locations in the U.S. which contributed. There was not a high volume of new residential pest control or termite control sales to the small amount of pest activity quarter.

We are pleased to have completed the acquisition of HomeTeam Pest Defense, a Centex subsidiary. It could be said that this is an acquisition that took a long time to come to fruition. We first contacted them almost ten years ago and have routinely been in touch throughout the period.

When we last contacted them about five months ago they were more receptive. As one Centex executive said, we really like pest control, but right now we need to focus completely on our homebuilding business. HomeTeam's fiscal year ended March 31 and they recorded revenues of approximately 134 million. Their revenue and customer base, when combined with ours, will considerably broaden our market share.

HomeTeam was attractive to us for a number of reasons, beginning with the fact that they provide a strategic opportunity to enter a market channel that we have not previously pursued -- new home construction and the new homeowner. I know people can be a little nervous these days when they think of home construction, but home building is not going to stop. It slows down from time to time but it does not stop.

Keep in mind that more than half of HomeTeam's business has nothing to do with construction. With its unique proprietary Taexx Tubes in the Wall system, we have gained a number of competitive advantages. First, this market segment has significant barriers to entry. Next, HomeTeam has already earned great builder acceptance with relationships with 18 of the nation's 20 largest builders, and the business has a lower cost of service delivery for ongoing pest services. And they enjoy in most markets high route density.

The service is less invasive, as the customer does not need to be home for treatment. Homeowners value the company's innovative Tubes in the Wall pest control delivery system which they look upon as a purchased asset. Customer convenience and the high level of quality service provided by HomeTeam has translated into very high customer satisfaction ratings and excellent customer retention, some of the highest in the industry.

They have a very nice installed customer base servicing approximately 380,000 customers from 48 locations in 13 states. Additionally, they have a tremendous potential of thousands of homes where the home owner has not activated the system. We believe that efficiently soliciting these customers can provide a wonderful opportunity.

In the past we have distinguished ourselves acquisition wise with key management remaining and helping us improve the business. HomeTeam is no exception. The company's 11 members of top management have all chosen to remain with the company and we are delighted to have them and their approximately 1500 co-workers as part of the Rollins team.

As with our other acquisitions, HomeTeam will retain their brand identity and operate as a separate Rollins entity. We appreciate the job that Centex did as a great parent and business developer. They provided credibility with other homeowners and created a very powerful business model. We think that we can improve what they started by taking the concept to new markets at substantially less capital and cost than was previously. And we will be able to help them purchase materials and supplies more favorably by using our buying power.

Working together, we think we will discover many other positive synergies as HomeTeam integrates into our organization. For people who have wondered from time to time whether we're willing to leverage our balance sheet, this acquisition should clarify that. We borrowed $90 million to finance the acquisition of HomeTeam. However, that does not mean we're not willing to look at other additional acquisitions that fit.

We are not out of the market. We have a $175 million credit line with a $75 million accordion feature. So if the right acquisitions come along, we are more than willing to tackle it as well. If any pest control operators are listing today and perhaps are worried about the possibility of capital gains taxes going up, give us a call.

Turning our attention to some other events of the past quarter, we continued to expand our international presence with the establishment of three franchises. One in the city of Jeddah in the Kingdom of Saudi Arabia, a second franchise for the country of Qatar and a third in the Kingdom of Bahrain. We now have four franchises in the Middle East and a total of 10 international franchises worldwide.

Our working franchise in the United Arab Emirates was recently awarded a three-year $29 million U.S. contract to provide pest control services to commercial and residential customers in Al Ain City, which is located about 45 minutes from Dubai. Our franchisee has experience with similar large government tenders through their landscaping business. Orkin will provide pest control know how, training and collaboration.

On March 14, we launched our new 2008 TV advertising campaign developed by a new advertising agency, Richards, which focuses on the idea that bugs will do anything to get into your home. The Orkin man is there to keep pests in their place. Two versions of the commercial are running on metro TV on ABC, CBS, NBC and Fox as well as network cable and syndication. It is still a little early to know the impact from a lead generation perspective, but the early feedback has been positive.

Our company has always been proactive in building our brand by providing pest information to the public through our many alliances. In this ongoing effort we recently established a new educational web site through a partnership with a Consumer Education Council on Termites, or CECT. This site will help homeowners learn how to protect their homes from termites.

The web site, Termites101.org, is designed to enable homeowners to understand how to better partner with a termite provider to identify, prevent, treat and control termites. Visitors can also access practical tips on how to deter termites as well as download a consumer brochure with key information from the site. Homeowners can e-mail questions to a termite expert and submit comments to the site's TermiteTalk Blog as well.

CECT is made up of a group of leading scientific and academic experts on termites in the United States, including university exports from Purdue, Texas A&M University, University of Georgia and Virginia Tech. Another initiative that we are pleased to be part of is Orkin's campaign to Fight the Bite by encouraging consumers to wage war on a disease-carrying mosquito. This is a program that engages both our employees as well as customers.

On an international basis, Rollins and our affiliates have pledged to donate a minimum of $100,000 to the United Nations' Nothing But Nets campaign, a global grassroots effort dedicated to saving lives by preventing malaria in Africa. Nothing But Nets will use these funds to purchase and distribute at least 10,000 long-lasting, insecticide-treated mosquito bed nets in the areas of greatest need in Africa. We will raise this money through a Company net drive and a customer donation effort through contributions solicited through Nets.Orkin.com.

I am sure one question on everybody's mind is concerning the economy and how it might be affecting Rollins and Orkin. We have often said that our business is recession resistant. The demand might slow somewhat, but Rollins and Orkin have not been greatly impacted in past recessions. Our commercial segment has been performing extremely well and we have not seen any pressure in that area. Keep it in mind that businesses must have pest control, so we don't expect to see any falloff in this area.

On the residential side, past experience has shown that weather has more impact on demand than the economy. Historically as demand softens, we have to hunt harder for new business. And with over 100 years of experience, we know how to do that.

We look forward to reporting our second quarter results, the first that will include HomeTeam. We're pretty excited about our business prospects and our new acquisition and the plans we have in place to carry us through the balance of the year. I will now turn the call over to Harry.

Thank you. Today we reported first-quarter revenues grew 4.4%. We owe another round of thanks to our commercial sales team. Revenues totaled $210.1 million compared to $201.2 million for the first quarter last year. Net income for the quarter is $13.8 million as compared to $12.8 million in the last year, an 8.2% improvement, [why our] diluted earnings-per-share this quarter is $0.14, a 7.7% improvement over the split-adjusted $0.13 reported last year in the first quarter.

There has been a lot of publicity concerning the economy these days but as Gary said, it has not impacted our commercial business. Our commercial pest control, which has been a key strategic focus of ours, now represents 46% of our business. Excluding commercial fumigations, commercial revenues grew 10.2%. Our fumigation business was off 4.3% in the quarter, hurt by the weak dollar, and as a result, a decrease in food imports which require fumigation.

As a result, in total, commercial pest control grew 9.3%. With the continued maturation of our sales force, our average monthly sales for our commercial account managers continues to increase, and with our dedication to providing the best in classic pest control service our customer retention continues to improve. We showed significant improvement in this quarter.

Our residential pest control service representing almost 35% of the business grew 1.6%. Fortunately, the long winter is now behind us and the spring, albeit late in some places, is now upon us. Three weeks does not make a quarter, but with the arrival of spring, pests are on the move and with our new ads running the phones are ringing once again. It is early but we're seeing a very strong improvement in leads.

I wish I could say all our service lines grew, but termite decreased slightly, 1.5%. Termite control represents less than 18% of the business in the first quarter this year. This month to date, again, we're showing a healthy lead increase and are looking forward to a normal termite season.

For the quarter our gross margins improved by 60 basis points. This represented an improvement in gross margins to 47.5% versus 46.9% last year. The increase in margins is primarily due to continued improvements in the cost of risk related to our termite work. Claims for the quarter were 30% less than a year ago and totaled $1.3 million.

The excellent claims experienced, coupled with favorable resolution from termite litigation, resulted in a $1.5 million reduction in our insurance and claim costs. Unfortunately, with a higher cost of fuel, fleet costs increased $1.8 million in the quarter. Sales, general and administrative expenses during the first quarter ended March 31 increased $30.7 million or 5.5% to 33.7% of revenues from 33.3 for the first quarter of last year. Expenses increased greater than revenue due to nearly $1 million in expenses related to the acquisition of the HomeTeam.

The Company continues to generate superior cash flows. Cash and cash equivalents at quarter stood at $71.3 million with practically no debt. It nice having the cash when we did, but with the HomeTeam acquisition we have found a great opportunity to put that money to work and earn far better returns for our shareholders.

Through what has been a most difficult credit market for many, we were able to quickly reach agreement with our banks on very favorable terms. With our strong balance sheet and the business' stable recurring revenue stream and resulting cash flow, our banks were more than willing to put together $175 million credit facility with what we feel is an attractive borrowing cost, LIBOR plus 50 basis points, to help finance the acquisition of HomeTeam.

Speaking of HomeTeam let me give you some further detail on their business. The HomeTeam business in many regards is not unlike the traditional pest control company. It has a very strong recurring revenue base. Over 50% of their revenue comes from traditional sources, with the balance developed through the new homebuilder channel.

In total, approximately 70% of their revenue is pest control, primarily residential with maybe 5% being commercial. Of the total pest control business, 40% is conventional pest control service, very similar to Orkin's business though their primary service offering is quarterly while Orkin's is every other month. The other 60% of their pest control business is from customers who have had the Taexx systems, in the wall pest defense system.

Traditional termite work, i.e. renewals, completion, baitline tray, etc. accounts for about another 20% of their revenue. The balance of that revenue last year of 10% came from builders representing the installation of tubes and termite pre-treatments.

We do not feel the current new housing market conditions prevent the opportunity to grow this business. There are many opportunities outside their current model. For example, we had the opportunity to offer additional services to their existing customer base, i.e. mosquito control. In addition, we can expand their business into new markets at substantially less cost than they could previously, as we already have an established network of service locations.

While our expectations that the HomeTeam businesses should grow mid single digits over the next twelve months that may appear slow based on their last few years' results, it is respectable for the current market conditions. We firmly believe the pest control business owned and co-managed by the world best pest control company can earn far more than a pest control company owned and managed by a homebuilder, even a first-class one such as Centex.

There are many opportunities for improving their margin, but not the least will be our material supply buying power. To minimize any disruption in the transition to get the HomeTeam employees enthusiastically on board and focused on the upcoming season, Glen Rollins, President of Orkin, and Bob Wanzer, President of HomeTeam, along with our top HR people from both Rollins and HomeTeam are wrapping up a four-week whirlwind tour, having visited all 13 states in which HomeTeam operates and personally meeting with all HomeTeam employees.

From a profitability standpoint, HomeTeam had an EBITDA of approximately $9 million over the trailing twelve months. Like most acquisitions in the pest control business there were little tangible assets acquired. In fact, goodwill will total approximately $145 million and exceeds $137 million in the cash purchase consideration. This occurs as the liabilities assumed exceed tangible assets.

As a result of the goodwill valuation, approximately $84 million will be assigned to identify intangible assets with definite lives ranging from 8 to 20 years. As a result, we will record a non-cash charge of almost $8 million a year in amortization. This coupled with interest expense on the debt we incurred will minimize any accretion to EPS in the first year.

In closing, we have an abundance of opportunities not only with HomeTeam, with our existing business as well. We look forward to reporting our results as the year continues and I will now turn the call back over to Gary.

Thank you Harry. We're now ready to open the call for any questions that you might have.

(OPERATOR INSTRUCTIONS). Jimmy Clement, Sidoti & Company.

Gary, Harry, good morning. Gary, one thing about HomeTeam, their business model that I'm a little unclear about. And I -- really was part of a large organization, so there is limited historical numbers out there for us, but does a HomeTeam technician actually have to be on-site when the Taexx -- when the tubes are essentially built into a home, or do they just sell the tubes themselves?

No, they actually install the tubes.

Okay, so I am looking at just their EBITDA margin based on the last 12 months. It looks like it is kind of less than half of what Rollins is. When times are challenging in the homebuilding on market as they are now, is there infrastructure in place at HomeTeam that the Company kind of has to absorb until times get better?

And I guess a follow-up question would be two parts. Were margins better in, say, 2005 and early 2006 in this business? And would you expect that when conditions improve, is there a fair amount of margin upside in this business?

Those are a lot of questions.

I'm sorry. I apologize. You know where I am going with this stuff.

Last one first, if there is margin opportunities. We think that we have knowledge that we can share that we have gained about the pest control business. These are good people, they're good operators, but we think we can bring some things to the party to help show them some things that they may not be aware of.

To get back into the margin movement and how things were two years ago versus this past year, their margins have continued to improve. This business to some extent is kind of like the burglar alarm business or the cable television business. When you are adding a lot of homes it is really more costly than when you're not adding a lot of homes. You have the benefit of the recurring revenue base but you don't have the installation requirements, etc. So, to some extent it is kind of a good news/bad news.

The bad news is that the housing industry is off, but the good news is the housing industry is off because you don't have this phenomenal investment that you are extending to install these units in these new homes. So, we really think that as Harry mentioned, that there is a lot of areas that we can improve the margins.

One of these factors that I had mentioned a little earlier is half of their business is just the conventional pest control. And I guess a reasonable question would be, well why is that so? And that is so because they acquired pest control companies to have a base of operations when they went into these various cities. So they have a large number of customers that don't have anything to do with the tubes.

And presumably, they operate in I believe you said what was it 13 states?

That's right.

And you operate in a lot more than that. So that would also be an opportunity I would assume.

I think so. And they really have had to do it the hard way and I think Centex really made a major investment in this business by acquiring a large number of pest control operators and really dealing with the losses in the first years. But there are many markets we could go into that Orkin is already in there. We have a facility now because we changed our marketing model through our call offices, etc. We have space in a lot of our facilities. So it may not require that they have to -- the first year go out and rent a new facility. So I think there are a lot of synergies in that regard.

The way they go into a new market traditionally, as Gary said, they would buy --make an acquisition to have a base of business to start with. But really, in order to build the business, they start with builder sales, need a salesperson that specializes in selling to builders because what they want to do is get in on the front end of a new development and offer this as a feature of the home.

So it if we decide to expand this model and take it to Nashville, take it to Chicago, anywhere there is good -- current, they are still building homes and you see this opportunity. All we need to do to expand the market is not brick and mortar, is we need to put a builder salesperson into that market. Once he starts selling, then what we would need to do is hire technicians to do the installation. And the technicians who do the installation are not the technicians who typically service the business. So again, you will need some installers.

There is a long front end process on adding a customer in this business (multiple speakers) one of the barriers to entry because first you have to sell into typically a new development. Then you have to install the tubes, and the tubes are installed before the sheetrock is in the walls then closed. So then the house has to be completed. Then the house has to be sold, and then you go and sell your customer.

So, for us to expand the market, we are talking about hiring a few people in cities where HomeTeam isn't in currently in existence. In talking with their prior parent, Centex, Centex is excited about the opportunities for us to introduce them in new markets, where before they did not want to absorb losses because they would have had to buy a small pest control company and it would take a lot more capital. So we are excited. We see a lot of growth opportunities from that as well.

We don't have all the answers. We don't even know what all the questions are. We are going to learn. We have no real interest to turn this business upside down. These are great people; they have done a terrific job. Bob Wanzer is a super operator. And we're just going to try to, like we did with Western and just like we did with PCO, we're going to try to be helpful.

I think their -- our experience or our contact with them is very open to ideas and suggestions. They've never really marketed next match to multiple unit apartments. This may be a great opportunity with some softness in the single-family homes to do some work as far as these apartments are concerned. So we think there is a lot of great opportunity.

And Harry, just last follow-up question. I don't know if I caught the exact number, but your non-cash intangible amortization chart for the first quarter was what in either millions or [NAF] on a per-share basis?

For Rollins in the Q1 it was $3.3 million. The annual run rate when you combine what HomeTeam will be, which is close to $8 million and Rollins at a little over 13, we will be nearly $22 million in non-cash charges.

Okay, very good. Thank you very much.

(OPERATOR INSTRUCTIONS). Clint Fendley, Davenport.

This is [Drew] for Clint this morning. Just a question on the SG&A, obviously it was impacted this quarter by the acquisition. I was wondering how we should think about further impacts going forward from the acquisition. And in addition, it looks like HomeTeam has a significantly higher -- excuse me, a higher amount of SG&A expense and I was wondering what the timeframe -- your thoughts on the timeframe in cutting that down to be more in line with the Rollins core business.

Well, as we mentioned, we have a different sales model. In terms of Q1 in SG&A, we incurred about $1 million in cost related to the acquisition. This is the accountants, the lawyers, the environmental consultants and whatnot. There is still a little to come in Q2. We tried to capture as much of what we knew in Q1 but there will be some additional transaction costs in Q2 but I suspect it should the less than $400,000.

In terms of their SG&A, again, it was a different sales model and that is one thing we will look at and brainstorm with them. I really don't at this point have any forward-looking estimate on what we can do in that area. We will share more with you when we learn what opportunities there might be there.

I think we do have some upside, though, to the extent that within the last two years we have made major investments in our commercial sales organization. And anytime you build a sales organization, you have a pretty significant cost burden until these people get successful and get productive. So we do have some opportunity.

As I mentioned, our sales force is selling higher average sales per salesman and they are maturing. So we do have some potential as far as the sales margin -- expense margin related to our commercial sales organization.

All right, that is helpful. Thank you. And one other question on fuel, it wasn't a huge factor I guess this quarter but I was wondering in your thoughts going forward, is there a [pact] for provisions or are there any kind of controls in place as fuel prices show no signs of going down anytime soon?

Well, I don't know. We took like I said $1.8 million increase in cost in the quarter. So I thought that was pretty significant. Price of gas I think on average was up for us 35% Q1 this year to Q1 last year. I don't see the price of oil dropping today and I certainly cannot predict when it might happen, if it will happen.

The -- what we do -- we don't hedge it. It is what it is. One of the things we will be passing along that fuel cost increase to our customers in price increases. And typically we get a price increase in Q2, and that is about all we can do in that area.

We track our vehicles closely. We look at the mileage driven. GPS gives us good visibility into vehicle usage. We try to minimize after hour usage. We have controls over gas purchasing and whatnot. So, managers at the local level are very sensitive to it. It is a big cost to them on their P&L and we do all we can to minimize it. I think one of the future benefits down the road from some of the other initiatives that we undertake will continue to try to reduce and minimize our fuel costs.

One of the good things about our Company and our people is that when we kind of come up with an adverse situation, we try to find a way to offset it. And there will be a lot more motivation to proper routing. There will be a lot more attention given to parking the vehicles where we have facilities that allow parking the vehicles. As Harry mentioned, we will be looking at after hour use of the vehicles.

When we have a wake-up call like gas selling for $3.50 and I guess $4 on the West Coast, it just makes you start looking at areas that you can help offset that kind of increase.

All right, thank you very much.

Sal Muoio, SM Investors.

Hello, it's Sal Muoio. Thank you for taking the call -- the question. I wanted to ask you a couple of nuts and bolts type things. And I also wanted to ask about the -- if you could elaborate on why your claims [drag] (technical difficulty) experience was lower the first quarter and a little more detail on that. But I wanted to ask you, the amortization of intangibles from the HomeTeam acquisition, are those deductible for income taxes as well? And then the actual share account at March 31, at the end of the quarter.

The write off for tax purposes is actually even greater than that it is for books. The full amount allocated to goodwill will be written off over 15 years for tax purposes. So you do have a book to tax difference there.

What was the amount in year one, then?

For book or for tax?

For tax.

For tax I guess I don't have it calculated, but the final goodwill is $145 million and you get it over 15 years. It is about $9.6 million in tax deductions on a twelve-month basis.

And so for book it is 8 million even per year and (multiple speakers) it is not accelerated for taxes? It is just 9/6 even?

Yes. I don't believe you get any bonus or seller -- I will verify with my tax prep firm but I'm pretty sure it is just 115. Share count -- it is on the press release --

On the press release you gave the average equivalent shares outstanding.

Okay. It should be right around that $103 million on the -- 103 million shares.

I was looking for a more exact count, but -- so basically you're saying wait for the 10-Q.

Yes. I don't have it handy in front of me.

I can address your question about the termite claims. Simply, we are I guess reaping the benefits of the investments that we have made over the last several years, as early as the late '90s where we changed the treating requirements. Changed termiticides that we use, changed the claims processing procedures where we really get an early reporting of potential termite claims, much like you would do on workman's comp claims.

So we really reengineered our termite business, and fortunately we are starting to see -- and just like anything that involves a large base with a tail, it has just taken several years to really start seeing the benefits of these changes that we made back in the late '90s.

Okay, thank you.

Thank you.

There are no further questions at this time. Mr. Rollins, please continue with any closing comments.

Well, we appreciate your attendance and your interest in our Company and we look forward to meeting with you again next quarter where we can share results. Thank you.

Thank you ladies and gentlemen. This does conclude the Rollins first quarter conference call. If you would like to listen to a replay of today's conference in its entirety, you can do so by dialing 1-800-405-2236 or 303-590-3000 and put the access code 11112420. Have a pleasant rest of your day.