Rollins Inc (ROL) 2008 Q3 法說會逐字稿

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to the Rollins third-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 questions. (Operator Instructions). This conference is being recorded today, Friday, October 24, 2008. I would now like to turn the conference over to Marilyn Meek of Financial Relations Board. Please go ahead, ma'am.

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 a 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 the passcode of 11121303. Additionally, the call is being webcast over www.viavid.com and a replay will be available for 90 days.

On the line with me 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 up the lines to your questions. Gary, would you like to begin?

Yes, thank you, Marilyn. Good morning and thank all of you for joining our third-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 facts, are subject to a number of risks and uncertainties and actual results may differ materially from any statements we make today. Please refer to today's press release and our SEC filings, including the Risk Factors section on Form 10-K for the year ended December 31, 2007, for more information on the risk factors that could cause actual results to differ.

I want to thank you all again for being on the call and for being flexible with our changing the earnings release and conference call dates. I don't ever recall having seen such volatility in the market and for that matter in the valuation of our stock. Less than two weeks ago, we saw a $7.00 spread between the low and high price for Rollins Inc. stock all in one day. As a result, we thought it would be best to move up the release date, plus we have good news.

Now let me discuss our record third-quarter results. For the quarter, we recorded a 16.7% increase in revenues, 2.6% without the HomeTeam contribution along with our 10th consecutive quarter of improved earnings results. While these results weren't as stellar as some in the past, we had a lot to overcome in the quarter, including higher fuel costs, two hurricanes and the dip in consumer confidence. We did, thankfully, see a significant decrease in fuel pricing late in the quarter.

However, as a result of the storms, we had a fuel shortage for a couple of weeks following the hurricanes in a few markets. While the effects of hurricanes individually were not nearly as severe as Katrina, back-to-back, they significantly impacted certain areas of Florida, Louisiana and Texas.

In spite of these obstacles, our net income improved 5.5%, which reflects a margin improvement and an EBITDA increase of 11.5%. And this is notable when you realize that much of the gap between these two increase amounts is our HomeTeam acquisition amortization.

Commercial pest control revenue growth remained strong, but we did see a slowing in our residential pest control and termite revenue. We were pleased, however, to see that our residential pest control offering equaled the highest retention rate in our history for the period. Harry will go into more details concerning our business lines shortly.

Based on all of this, we believe our third-quarter results demonstrate the resiliency of our business in all kinds of environments. As many of you are aware, we are North America's number one company in commercial pest control and have a 20% marketshare in this nearly $2 billion industry. In recent years, we have made a significant investment to grow this business and currently, it represents 41% of our Company's revenues, up from 27% just 10 years ago.

We like commercial pest control business because it has higher customer retention, better collections and higher service productivity. We believe that this segment offers excellent growth potential for both short and long term. Commercial pest control customers, whether it is food processing, restaurants, hotels or healthcare industries, are under stringent federal and state regulation standards, as well as local regulations that must be adhered to. These establishments not only need pest control service, but they value us as a partner to help ensure they meet these mandated standards.

Growing our commercial business is different from growing our residential business. Unlike residential, it is not a lead-driven business and can be so creatively and our new sales opportunities are not weather-impacted. Commercial pest control also offers numerous opportunities to collaborate with many outstanding government organizations, universities and nonprofit entities across the country committed to advanced good health and well-being of the public. Whether it is the CDC or the American Society for Healthcare Environmental Services, ASHES, or the Smithsonian, we are building meaningful relationships while building our reputation.

Our objective is to create greater pest management awareness and to position Orkin as a trusted leader and knowledgeable partner. As an example, this September, we participated in ASHES' annual conference in San Antonio where we had the opportunity to demonstrate our collaborative interactive pest management website, HealthcarePestControl.com. This initiative further strengthens our partnership with ASHES while enhancing our relationships with healthcare professionals around the country. Collaborative events like this gives us an opportunity to meet and develop relations with potential commercial customers while building contacts that ultimately grow into additional business.

To date, as a result of this recent effort with ASHES, we secured 11 new hospitals, set up 140 sales and inspection appointments and submitted 66 proposals, representing potential for $1.2 million in new business.

In the past, we have talked about our marketing initiatives that are an important part of growing the Company, one of which is our Yellow Page advertising. The Yellow Pages represent nearly a third of our marketing spend and has played an important role in reaching potential customers. With an annual marketing budget and a large portion of it going to Yellow Pages, we felt that it was very important to be able to track our return on investment in this area to maximize our advertising dollars.

To that end, we have been developing a way to measure leads through unique phone numbers that will ultimately enable us to create a pay-for-performance model. This measurement system will help us look at our Yellow Page presence and determine the real value of this advertising, something that we have pondered over for decades.

With this measurement means in place, we will be positioned to determine whether we need a bigger or smaller ad and what books to advertise in and help us negotiate more favorable Yellow Page rates. This is another example of the sophistication and creativity that we are bringing to our business to drive future profitable growth. We hope to have this initiative fully implemented in 2009.

Earlier this year, I mentioned that we partnered with the UN Foundations Nothing But Nets organization, which is dedicated in combating malaria and saving lives in Africa. In April, we launched our own in-company Fight the Bite campaign with a companywide goal to raise $100,000, or 10,000 nets. I am pleased to say that our employees went beyond that, having raised in excess of $125,000. We are doubly proud of those participating for their contribution in this extremely important cause. We look forward to participating again in 2009. This has been another good pest-related initiative that provided excellent brand positioning for Orkin.

The past couple of months and certainly the past few weeks have been a very difficult time for corporate America and investors. We do not minimize the situation or the severity of it to any degree. However, I would like to restate what I said on our last call because it is important in understanding our business. We are not immune to bad economic conditions. We generally expect residential demand to slow somewhat, but, historically, we have continued to both grow our revenues and profitabilities during downturns.

There are five reasons that we have that has enabled us to do this that speak to our business strategy and company fundamentals. One, we are focused on a core business -- residential and commercial pest control. This is what we do. We are not diversified and thereby, at times like these, avoid the exposure to other businesses that don't have the same elements and strengths as pest control.

Two, over 80% of our revenue is recurring, so each and every month, we start with a big advantage. Three, we have worked hard to become a leader in our field and by virtue of that, we have more influence on our fate than most other companies. The fourth advantage is that we have a conservative nature with a strong balance sheet. In today's environment, this provides us with the ability to continue investing organically to grow our business, as well as to be able to take advantage of strategic acquisitions that might come our way. Our business model and our ability to generate strong free cash flow enables us to have the benefit of avoiding some of the risk other companies are experiencing from the turmoil of today's credit crunch.

Our strong cash flow as an example has allowed us to pay off nearly $49 million of the $90 million we borrowed in April of this year to help make our most recent acquisition, HomeTeam. By the way, I would be remiss if I didn't mention that the HomeTeam continues to perform well above our expectations. And lastly, we have also found, in both good and bad times, our customers have a high regard for what we do by providing and protecting their health and property.

As I stated earlier, commercial customers must have pest control service and homeowners recognize the importance of protecting their homes and health from the threat of termites and pests. It is these five factors that make our prospects, customers and business more stable than most during economic downturns. We remain on target to meet our 2008 goals and going forward, we are prepared to adapt our business to meet these uncertain times. I would like now to turn the call over to Harry who will discuss our financial results in greater detail.

Thank you, Gary. We spoke about the resiliency of the business given the difficult economic stormy conditions last quarter and our results continue to validate it. While this quarter was not as strong as last, we continue to produce record revenue and profits and generate cash.

Let's review this quarter's details. Revenues for the second quarter grew 16.7%. Revenues totaled $277.9 million compared to $238.1 million through the third quarter of last year. Net income for the quarter is $19.8 million as compared to $18.8 million last year, a 5.5% improvement, but diluted earnings per share this quarter is $0.20, a 5.3% improvement over the split-adjusted $0.19 reported last year in the third quarter.

Another important measure, earnings before interest, taxes, depreciation and amortization, EBITDA, was $41.2 million, increasing 11.5% over the third quarter last year. EBITDA grew faster than net income due to $1.9 million of amortization of intangibles relating to this year's HomeTeam acquisition.

Our most recent significant acquisition, the HomeTeam Pest Defense, contributed revenues of $33.5 million for the quarter and $67.2 million year-to-date. Excluding the impact of HomeTeam, revenue increased 2.6% on the quarter and 3.9% year-to-date.

Starting with the largest part of our business, this year, our commercial pest control, which represents nearly 42% of our business year-to-date, continues to lead the pack. Excluding the contribution of HomeTeam, our commercial revenues grew 6.5% and actually 7.5% if you look at it excluding fumigations, which I have stated on our previous calls is very lumpy.

For the first time in over a year, new sales grew for the quarter were less than 10% better than the same quarter last year, but still came in at a healthy 7% increase over last year. Commercial customer retention declined slightly, but it is running slightly better to last year's record year-to-date, a testimony to the best-in-class service we are providing to our customers. The slight uptick this quarter is fully attributable to the loss of one national account that we lost due to price. Unfortunately, this happens occasionally, but I wouldn't be surprised to see them back in a couple of years. Commercially, the quality of the service eventually becomes more important than price over the long term. We are not losing any significant number of commercial accounts due to the economy.

Our residential pest control service now represents a little more than 41% of the business and grew less than 1% before HomeTeam's contribution, slowing from last quarter's growth of 2% and bringing the year-to-date growth to 1.4%. With HomeTeam, residential pest control grew 27.5% in the third quarter compared to the prior year quarter. We saw a slight decrease in leads during the quarter. Historically, we see some weakening in residential demand during downturns. However, retention generally holds. This quarter replicated that situation.

Lastly, let's talk about our termite service revenue, which now represents just under 18% of our business and grew 19% as a result of the acquisition of HomeTeam. However, excluding HomeTeam's contribution, our previously existing business declined in the quarter 1.7%. Termite work is a much larger dollar purchase. Given the consumer sentiment and the overall pest control industry trend and our benchmarking with competitors indicate that we are faring better than most, this portion of our business has held up surprisingly well, all things considered. A good thing is that not many people consider termite control a discretionary purchase, that they see termites have been eating their home.

As HomeTeam has a higher cost of service for the quarter, our gross margin declined by 60 basis points from 48.3% last year to 47.7% this quarter. Margins, excluding the impact of HomeTeam, actually improved 15 basis points due to greater service technician productivity, reduction in materials and supply costs due to mix, reduced cost of risk along with a decrease in pension costs. These cost improvements were partially offset by a $1.3 million increase in fleet costs due to higher cost of fuel. Unfortunately, we did not realize any significant savings from the decrease in gas prices as the average price paid per gallon in the quarter was nearly $4.00.

Depreciation and amortization expense for the third quarter totaled $9 million with amortization of intangibles at $5.3 million and depreciation at $3.7 million. Amortization increased $1.9 million in the quarter, an increase of 56% due to the almost $90 million assigned to customer contracts and other intangible assets as part of the HomeTeam acquisition.

Many of you have heard this every quarter, but I am amazed at how many people I talk to about Rollins missed this the first time around. Amortization of intangibles, primarily customer contracts valued at the time of the acquisition, represents a significant, non-cash charge to the P&L. Under GAAP, we write off the value assigned to customer contracts acquired in acquisitions over their economic life while we fully expense all costs in acquiring new customers internally. In fact, I am still writing off costs assigned to customer contracts acquired in the PCO Canada acquisition made in 1999.

In 2008, total amortization of intangibles expense will be approximately $19.3 million and will increase an additional $2 million, reflecting a full year of HomeTeam results next year. Based upon our fully diluted shares outstanding currently, it represents a non-cash, after-tax charge of $0.12 to GAAP EPS this year.

Sales, general and administrative expenses for the third quarter ended September 30 increased $13.3 million, or 17%, to 32.9% of revenue from 32.8% through the third quarter ended September 30, 2007. $10 million of the dollar increase was due to the addition of HomeTeam. SG&A expenses, excluding the impact of HomeTeam as a percentage of revenues, increased 52 basis points due to higher sales salaries, fleet expense, approximately $600,000, an increase in bad debt expense, partially offset by a decrease in costs related to our summer sales programs, which were reduced this year.

On last quarter's call, we reported that we had successfully onboarded the HomeTeam. I am happy to report that they continue to exceed our expectations in all respects, operationally and financially. At the same time, our ownership has opened doors of opportunity for the HomeTeam not previously available. HomeTeam continues to improve their margins and even with the large write-offs of intangibles and interest expense on the debt to fund these acquisitions, it is on track to be accretive on a GAAP basis in its first year.

Rollins continues to be financially solid. We generated $67.5 million of free cash flow, cash provided from operations less CapEx year-to-date, representing 8.7% of revenue. Our strong cash flow allowed us to do our part in recapitalizing the banking system, allowing us to pay back at quarter-end $48.5 million, actually $52.5 million as of today, of the $90 million we borrowed in April to finance the HomeTeam acquisition.

We have also bought back $8.2 million of our stock so far this year under the Company's share buyback program. During the quarter, the Company repurchased 51,400 shares of common stock at a weighted average price of $16.85. We have approximately 464,000 additional shares that can be purchased under previously approved programs by the Board of Directors. Not unlike almost any CFO in today's market environment, we feel the shares are undervalued at today's price.

Speaking of our strong cash flow, looking at our balance sheet this quarter-end, unearned revenue at September 30 was $99.3 million, representing almost 10% of our annual revenue. This represents cash paid to us by our customers in advance of services that will be recognized over the next 12 months, another strength of the Company and our business model.

As we enter the fourth quarter, we look forward to being able to report another year of steady and consistent sales and earnings growth. Our focus remains sharply directed on the execution of our growth and operational strategies. I'll turn the call now back over to you, Gary.

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

(Operator Instructions). Jamie Clement, Sidoti & Co.

Gary, Harry, good morning. Gary, from a productivity or from a margin perspective, however we should think about it, presumably, you will be getting less of a headwind from the price of gas at the pump, presumably now and certainly heading into next year from a year-over-year basis. But one of the things you guys have always done is, every year, you seem to become more productive. So as we look out into kind of next year and the year after that, what are the things that you guys have in the works to continue to get more productive and to continue to boost your margins?

Well, of course, route organization is always an important part of the productivity piece. We implemented MapPoint this year, which was very -- this past winter, which was very helpful in helping us organize our routes. We are taking -- one of the great things that happened as a result of gas going up to $4.00 a gallon, it caused us to really take a hard look at gallons used and miles incurred by individual vehicles. And we really right now have our field focused on identifying these high mileage routes specifically and these high gas-use vehicles. So I really think that, in some sense, that was kind of an eye-opener. I think, like most companies, when things get more difficult, we start to look harder at your business.

So I would think that, margin-wise, not only are we anticipating that fuel costs will be less at the pump, we think that we will be using less fuel as well and concentrating on productivity. We have reports where we look at revenue per employee, by job type, by location and we are going through our typical winter exercise right now where we really bore into making sure that we've got the right headcount consistent with our revenue in this kind of a year.

Just moving on to uses of cash going forward. Your stock price, obviously, a lot lower than it has been in some recent times and yet your debt is pretty low cost. So if things sort of stay the way they are from a stock price perspective, are you more inclined to buy back stock than to reduce the very little debt you have?

I don't think we have ever seen the opportunity that we currently have in terms of where our stock price is, so we have always been purchasers of opportunity and we will certainly be looking at it on a day-to-day basis.

I think this is a very unique time and it is kind of like catching a bus. You got to catch it when it runs and I don't likely see this opportunity being a particularly long-term situation and I think to Harry's point, we will take advantage of the market situation. We are not opposed to holding onto the debt or even creating greater debt if we think that we have a unique situation.

Okay. Just the final question, Gary. In terms of just -- with the economic and credit environment and that sort of thing, historically, when you have seen situations, maybe not as bad as this, but situations like this transpire, does that have any impact on a seller being -- potential seller being a little bit more willing to come to the table and negotiate with you guys?

It does. I just came back from our national convention in Washington and the sense that I got is the small to medium-sized companies were really rattled with this $4.00 gasoline and I really think that we will have greater opportunities in the middle size company area, I would think in the $5 million to $20 million range. My sense was that -- I had hoped that the election would cause more activity and I think it certainly has created more conversations. It hasn't created more deals, but certainly I think it has opened more conversations. So I would think that this next year will be a better than normal acquisition year for us.

And Gary, when you mention the election, are you talking tax and estate planning reasons? Is that what you are referring to?

I had hoped that more people would scramble and be really trying to sell their business before the elections. And as I say, we have had a higher level of conversations and meetings, but I don't know if they are waiting to see or what, but I was a little disappointed. But I think the fuel thing -- most adverse situations have a positive side. Sometimes you have to look a little harder to find it, but, typically, on hard times, turnover goes down. You have an opportunity to hire, when you do have an opening, to hire better candidates because better candidates are available and as we just discussed, acquisition opportunities typically improve.

I have taken up a lot of your time. Thank you very much for it.

Thank you.

Mark Husson, Cedar Rock Capital.

Yes, good morning, gentlemen. A couple of questions. Could you just talk about the extent to which the businesses, or your business or the HomeTeam business has been exposed to the kind of [in-world] product that has been linked to housing and what your experience is of consumers sort of turning that on and off in difficult environments? And then secondly, could you just elaborate a bit more on that debt and what historically your experience has been in situations like this?

Harry Cynkus In terms of linked to new housing, our Orkin, Western Pest, IFC have never particularly participated in that market. It has been -- our company we just acquired, HomeTeam, had done a very good job in controlling that segment of the market. Unfortunately, the amount of new homes being started has fallen from, obviously, record peaks. So we are seeing their business, the number, they are installing their tubes in the wall system in homes at a rate probably half of what it was at peak. They are signing on some -- one of the things we were fortunate, we have been able to open some new doors for them. I think we mentioned last quarter where they had not previously done business with D.R.Horton, America's builder, number one largest builder in the US.

Once the ownership changed from HomeTeam being owned by another homebuilder, Centex, to being owned by a pest control company, D.R.Horton, was more willing to do business with them. They signed an agreement right before quarter-end last quarter and since then, they have signed up -- I think it is, at this point, five developments that D.R.Horton will be installing next year.

I don't expect the home markets to -- not going to project the new housing starts -- are going to skyrocket anytime soon. They are seeing good retention. They have enjoyed record retention and retention better than what we have traditionally done.

Can I add something? I think it is important to understand, HomeTeam has a substantial regular pest control business because when they went to a market, they acquired a company or two where they would have a base of operations. So certainly, we would prefer the housing starts to be up, but they have a strong base of just routine pest control customers. And I would think that we know more about that part of their business than perhaps they do and I think we have been able to give them some insights in that regard.

I wasn't sure just how profitable that business was in the whole mix that they had and whether they sort of leant on that very heavily in terms of annual earnings.

Well, they don't have as good a margins as many of our Orkin divisions do because they had been in kind of investment mode. But we were very pleased when we did our due diligence, they had been reducing their expenses and -- you don't need as many installers if you are not installing a maximum number of systems. So they were already well into expense reductions when we acquired them. And I think we can help them margin-wise as far as fleet. We have a better arrangement that they had in fleet and we have a better arrangement as far as purchasing pesticides than they do. So there are some things that we can help them with margin-wise, but they have not historically had as good a margins as most of our other pest businesses.

Only 10%, actually a little less than 10% of HomeTeam's business is sales to homebuilders. Although that is their lead that becomes their ultimate sales down the road. The other comment I think we made comment on is is how is housing affecting the business. Our retention. Our residential retention number this quarter equals what it was a year ago and last year, we set a record high retention for residential customers. So the customers who have the service value it. They are keeping the service at the same rate that they had is or at a higher rate for the last two years.

Your second question, bad debt historical experience. Our bad debt runs 60, 70 basis points. It was up 10 basis points this quarter over what it ran a year ago. We have -- certainly, you have some exposure in this economy, but one point of information, you look at my AR, my days sales outstanding and my residential customers is 14 days. 10% of my customer base paid me in advance. We take -- usually -- I think it is 40%, 45% of our customers, we have their credit cards, that, after the service, we charge their credit card. So we have a little exposure on bad debt, but I'm not worried like a lot of other companies are.

I wish I could get our clients to pay me in advance. Just on the Yellow Pages and that whole ad thing, I just pulled up Orkin in Atlanta on the screen and you get something like, I don't know, 10 mentions straight off on the Internet. It seems just like that might be a very effective way of looking for -- prospecting for customers. I just wonder whether -- what your initial review of the Yellow Pages kind of cost effectiveness had actually lead you to conclude?

Are you talking about the Web Yellow Pages or the conventional?

No, it was just Google, that funny thing.

Well, on conventional Yellow Pages, our initial review shows that there are some Yellow Pages that are very effective and others that aren't and you do have competing books today. What we are learning is placement has some impact, size has an impact, how well the book is distributed has an impact. So our initial -- we have done about 30% of the Yellow Page ads, has told us that we need to look at the other 70% because there is certainly a lot of opportunity there for both getting more leads through better ads and better books and at the same time, cutting costs in other books.

As far as building leads through the website, about three or four years ago, we began to initiate a multi-strategy and do website development. Today, a lot of our leads have moved from traditional phones to come through the Web and we devote an ever-increasing part of our marketing budget to dealing with Internet marketing.

Great. Thank you very much for your help.

Clint Fendley, Rollins Inc.

Good morning, Gary and Harry. We were at Pest World yesterday also and spoke with most of the vendors on the floor there and both the commercial and the residential business appeared to be very consistent with your description there, Gary. Maybe a couple of things to help us out with as you look to 2009 and what is going to be a difficult year for most everyone. Harry, obviously, you've touched on the retention and it has been quite good. Could you talk about maybe how you're going to think about cancellations and how you might deal with those as we head into 2009 in order to hopefully make the residential business be as recession-resistant as possible?

Well, one way we are dealing with cancellations is you continue to give excellent service. We did not cut back on our workforce in Q3 as leads did slow a little. It is a heavy part of the season. You want to be able to be able to be responsive to your customers. So one way to deal with cancellations is not to have them, to be understanding, continue to provide best-in-class service.

We are not seeing the cancellations on the commercial side. Typically, what we see in a recession is that the lead demand new sales slow, but your cancellation rates stay traditional, at traditional rates. And I think some of that also is speaking to the demographics of our customer base that, you know, we have I think some better demographics. Fortunately, it looks like we have haven't sold too much pest control to Wall Street bankers because we haven't seen any uptick in that market yet either.

Gary, anything you want to add?

I think during bad times, what is it, necessity is the mother of invention? Most of our pest control techs are paid on production as some part of their compensation. So it really affects their earnings whenever they lose customers. And I think like you're kind of seeing in restaurants and other places of business today, people are a lot more customer service aware, a lot more vocal in the appreciation that they have of your business.

So I think that part of the circumstance has changed somewhat. But there is no rabbit to pull out of a hat. We certainly are not anticipating cutting prices or doing things like that to try to somehow respond. I think we have just got to give great service, and the personal relationship that our technicians develop with their customers are often as important as their pest elimination ability.

So as turnover goes down, relationships improve, and I think that is why we have seen September really hold up as far as our residential retention is concerned.

One weak area yesterday that was mentioned a few times was the termite home inspections as a part of home sales. My understanding is that has never really been a big focus area for you guys anyway. Is that correct?

Now, we've never -- you know, that is a whole different kind of marketing sales acumen. And I think we decided a long time ago that that wasn't really our forte. It is very competitive typically, and we just did not really fully understand how to market to the builders.

Now, the great thing is that HomeTeam does, and the fact that they at one time was a division of Centex, which is one of the nation's largest builders, just really got a quick study into how do you sell to builders. So we are in a position, frankly, to take that knowledge and our base of branches, and when things do start improving really accelerate their network.

But even HomeTeam's work wasn't related to termite inspections or home sales. It was termite work that --.

I'm sorry, then I missed -- I thought he was talking about pretreatment. We have never been in the clearance letter business.

But even after the HomeTeam, the pretreat business is a pretty small part of your overall business though, correct?

Right. Pretreat, exactly. I think if you are talking about the clearance letter home sale business, we have never really chose to market. That's typically a very low-end situation. A seller is trying to get away as easily as he can if he has termites. There is all kinds of liability issues with clearance letters, so we decided a long time ago that we weren't really going to go after that segment.

And a final question here, Gary. Your commentary on the Yellow Pages review there, you are not in any way implying that you are cutting back on your Internet marketing. It is more just a review of the one-third of your marketing budget?

Exactly.

Okay, great. Thanks, guys.

(Operator Instructions). Michael Christodolou, Inwood Capital Management.

Good morning, gentlemen. A couple of questions. First, on the competitive front, could you tell us what you are seeing out of Terminix. Our understanding has been that, ever since ServiceMaster went private, that there have been some deterioration in the service level and possibly loss of people and that possibly, therefore, some key accounts could be up for grabs or rebid.

Boy, that's a question that is probably better addressed to Terminix. Certainly, we are gaining -- we think we are gaining commercial marketshare. It is kind of hard to really no specifics. I think the greatest notoriety that you get is when you get a large national account that was serviced by Terminix or serviced by Ecolab, but we don't really -- we know they have some challenges. They are a respected competitor. We feel like we have a lot of friends in Memphis because some of the people we have trained, but it is really kind of hard to measure what is going on as far as Terminix is concerned.

Okay. A second topic on HomeTeam, can you -- I forget if you said this. What were the EBITDA margins in the quarter for that business?

We didn't give any specific numbers on HomeTeam other than to say that margins are improved over last quarter and last quarter improved over the prior years. But they are tracking -- their margins, if you go back prior to acquisition, was, what was it, 7.4%, and we said we intend to -- and we can double those margins in the next four years. I think we said last quarter, we had picked up 200 basis points and we are doing a little better than that.

My understanding, I thought the number was 6.7% before you bought the business.

I think you are right.

Okay, and then so 200 bps would be 8.7% and you're suggesting there has been some sequential linked-quarter improvement?

Exactly.

Okay, great. And last topic, just on the buyback, Gary, I appreciated your comments about catching the bus are not being opposed to hanging onto debt or even adding debt. And I just wanted to get a reminder, you had a revolver, is that right, that you tapped for the $90 million?

Yes, we have a $150 million line with two banks. Our borrowing rate is 50 basis points over LIBOR. That $175 million revolver has an accordion if we need to tap it for more, but I spoke to my banks recently, they are still open for business and have money to lend.

What are the two banks?

Bank America and SunTrust.

Got it.

I have a third line with Wachovia, which I guess will be Wells Fargo soon.

You guys said you were doing your part to help the banking system by paying off the debt and I would argue given that the Treasury Secretary has effectively forced equity into all of these banks, the way to really help them out is to borrow more from them, so that they can --.

The problem with that borrowing is you have to pay it back.

I understand. Well, you have got a very stable business and I commend your discipline, but I also commend you aggressively catching the bus.

Thank you.

Take care, gentlemen.

Scott Haugan, Tygh Capital.

Hey, Scott Haugan here. When are the largest new enrolling periods when you look through the quarters each year on residential?

They are behind us. It comes with the pest demand. So when spring comes and whether it is early spring in March or later spring, April/May is when the phone starts ringing. We will continue to add customers. The number of leads that we get January, February, March equal about what we get in May. So it really grows exponentially. Depending on how late winter starts, we will still be adding customers in October. You get some customers year-round, but certainly, the largest portion of customers that we are going to add are now behind us in the year.

Second and third quarters.

Second and third quarters. In terms of commercial, commercial is now weather-dependent on adding that business. It's a year-round business and on commercial often on national accounts, the big quarters have typically been Q4, Q1 because a lot of their contracts run on a calendar year, annual year basis. So last year, we had big Q4, Q1 national accounts, still performing well. It is still growing more double digits on national account, but that is not as seasonally impacted by adding business.

So it sounds like about better than 75%, 80% of the starts per se on residential coming Q2, Q3, something like that?

Yes, I'd go back and look at it. It was probably that high though.

Okay. And just a review, the terms -- the contract lengths and terms on those are what?

On all new residential customers, we ask them to sign a one-year agreement. So commercial will vary. One year is the most common, but some of the national accounts could be three, five years. It will vary. After the year is up on a residential customer, it's month-to-month. We have some customers though who are 20-year customers and some customers, if they are not happy with the service and aren't satisfied, we offer 100% satisfaction, so a residential customer can quit before the year is out, but we have good experience in retaining those customers.

And they pay quarterly or monthly? I can't remember.

Most of our -- residential customers, we get about 10% pay a year in advance and they are billed in advance of the service. The most common service is every other month, so they will get a bill every other month before the service is -- at the beginning of the month and like I said, my days sales outstanding on my residential customers is 14 days. So they pay pretty quick.

Okay.

The other reason is Orkin, and I can't speak for Western -- I think Western does too -- but we bill in advance, so we bill like the cable company. So it is not due until the service is rendered, but the first of the month, we bill our customer.

But if they cancel a contract -- let's say they sign a one-year contract in the high season of Q2, Q3, they can cancel at any moment during the year and not owe you money, correct? Or do you actually enforce contracts for the year?

We don't really enforce it, but we get them to agree and sign a contract if they understand that it is -- that they are committing to 12 months. And the vast majority -- I don't know if it is -- golly -- have to be in the high 90%s abide by their agreement. But if someone is just so outdone that they want to leave, then we certainly don't file suit or take them to small claims court or anything like that.

Okay. I guess just in a general sense last question, if we kind of have an outlook here that the consumer remains constrained with credit cards and the job environment weakening and all that, what do you guys think would be worse case scenario growth for next year in both of these businesses?

We don't really get into predicting those kinds of things.

Well, is there a growth rate on the residential side that you would be shocked to see if it got there? Is down 5% or is down 3%, down 1%, is something just completely out of context with this Company?

Well, the only thing I would say, I don't ever remember, and this recession could be different than previous, but up to now, have we ever had a down year?

No, I'm not aware of ever having a revenue decrease.

And I guess just if revenues did go flat next year, what are your levers on the cost side? Do you have meaningful levers where you could still eke out earnings growth or would you not want to sacrifice that for maybe years down the road?

Well, we have to always be focusing on productivity and as I say, rightsizing the business, much like HomeTeam had to do. If we just had a doomsday kind of scenario, we just have to keep our labor in line with the work that we have to do. And I think that's -- as Harry said, we have been around -- well, we've been on the New York Stock Exchange for 40 years and we just have not seen the pest business get into kind of a situation and it went backwards.

Okay. Thanks.

Joe Lee, JANA.

Hi, guys. Just had one question. There have been a number of companies who have sort of noticed a market drop-off in sort of trends and demand last week of September and through October. I was wondering if there is any noteworthy color you can give us with respect to a let-down in the past three, four weeks?

No, we have had -- actually, in September, our leads were up. We had a decrease in August, they were up in September, so they don't seem to be -- they are hard to predict, but we haven't seen demand just drop off. In October, it has been tracking similar to the last quarter.

I think all we can say is just from kind of a retrospective point of view is what we have experienced before when we have had recessions was that leads might be flat or leads might be down -- residential leads might be down slightly. That is typically -- the demand is really kind of where you see the business change. And I think basically what happens is people just put off that buying decision. And if you have got roaches for instance and you have got mortgage problems and you have got all these other problems, then you just defer that decision until things are better in your household. Weather has an awful lot to do with the scenario and you can have a fantastic spring and summer weather-wise and that would offset any kind of economic situation that I could foresee.

Great.

There are no further questions at this time. I would like to turn it back to management for any closing remarks.

Well, again, we would like to thank you for joining us today and your interest in Rollins and we look forward to you participating in next quarter's call. Thank you very much.

Thank you. Ladies and gentlemen, this concludes the Rollins third-quarter conference call. If you would like to listen to a replay of today's conference, please dial 303-590-3000 or 800-405-2236 and enter access code 111201303 followed by the pound sign. ECT would like to thank you for your participation. You may now disconnect.