Business Context and Reporting Period
EMCOR Group, Inc. filed this unaudited Form 10-Q for the three months ended March 31, 2017. The company provides electrical and mechanical construction, building services, industrial services, and facilities services through approximately 75 operating subsidiaries and joint ventures in the United States and the United Kingdom.
Key Financial Metrics
| Metric | Q1 2017 | Q1 2016 | Change |
|---|---|---|---|
| Revenue | $1.892 billion | $1.745 billion | 8.4% increase |
| Gross profit | $266.3 million | $223.1 million | 19.4% increase |
| Gross margin | 14.1% | 12.8% | Up 1.3 percentage points |
| Operating income | $82.8 million | $55.6 million | 48.8% increase |
| Operating margin | 4.4% | 3.2% | Up 1.2 percentage points |
| Net income attributable to EMCOR | $52.6 million | $34.3 million | 53.4% increase |
| Diluted EPS from continuing operations | $0.88 | $0.56 | Increase of $0.32 |
| Operating cash flow | $(5.2) million | $(37.2) million | Improved by $32.0 million |
- Q1 2017 results established company records for first-quarter revenue, operating income, net income attributable to EMCOR, and diluted continuing-operations EPS.
- Cash and cash equivalents declined to $302.8 million from $464.6 million at December 31, 2016.
- Net cash used in investing activities was $91.6 million, including $81.4 million for acquisitions and $10.6 million for capital expenditures.
- Net cash used in financing activities was $65.6 million, including $54.9 million for share repurchases, $4.8 million of dividends, and $3.8 million of long-term debt repayments.
- Total debt, including current maturities, was approximately $420.7 million; borrowings included $125.0 million under the revolving facility and $296.2 million under the term loan, before debt issuance costs and other items.
- The company had $302.8 million of cash, approximately $775.0 million of unused revolving credit capacity before letters of credit, and approximately $98.9 million of outstanding letters of credit.
- The quarterly dividend remained $0.08 per share. EMCOR repurchased approximately 0.8 million shares for $53.3 million during the quarter, with approximately $112.3 million remaining under repurchase authorizations.
Material Changes Versus the Prior Comparable Period
- Revenue growth was led by the United States electrical construction and facilities services segment, which increased revenue 27.2% to $443.0 million, and the United States mechanical construction and facilities services segment, which increased revenue 10.3% to $671.1 million.
- United States electrical construction operating income increased to $31.0 million from $16.7 million, while mechanical construction operating income increased to $40.4 million from $23.8 million. Improvements reflected stronger commercial, telecommunications, transportation, healthcare, and water and wastewater activity.
- Gross profit and margin benefited from improved domestic construction performance, including recovery of certain contract costs previously disputed on a completed project. Management estimated this recovery contributed approximately 0.3 percentage points to consolidated operating margin.
- Acquisitions completed in 2017 and 2016 contributed $77.7 million of incremental revenue but generated a combined operating loss of $0.6 million, including $3.3 million of amortization expense.
- United States building services revenue declined $3.1 million, although operating income increased slightly to $14.2 million. The segment faced non-renewed contracts, lower snow-removal activity, and lower energy-services project activity.
- United States industrial services operating income declined to $17.0 million from $18.9 million due primarily to lower large-project activity in specialty services.
- United Kingdom building services revenue declined to $79.0 million from $87.6 million, including a $12.2 million adverse foreign-exchange effect. Operating income declined to $1.7 million from $3.3 million.
- Backlog increased to $3.974 billion at March 31, 2017 from $3.903 billion at December 31, 2016 and $3.851 billion at March 31, 2016.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
- The filing does not provide quantitative full-year earnings or revenue guidance. Management stated that current cash balances, expected operating cash flow, and available borrowing capacity should be sufficient for foreseeable liquidity needs and capital expenditures.
- Management cited continued demand for domestic non-residential construction and services, but identified macroeconomic conditions, interest rates, governmental economic policy, customer creditworthiness, contract mix, and project execution as important risks.
- Construction contracts frequently require surety bonds. EMCOR estimated aggregate exposure of approximately $1.1 billion based on the percentage of completion of bonded projects. Reduced surety-bond availability could materially affect bidding capacity, liquidity, results, or cash flow.
- The company is exposed to variable interest rates, commodity prices, fuel costs, foreign-exchange movements, and fixed-price contract risk. A 100-basis-point change in interest rates was estimated to affect after-tax interest expense by approximately $2.5 million over the next twelve months.
- Discontinued United Kingdom construction operations generated a $0.5 million after-tax loss, primarily from legal costs related to settlement of final contract balances on completed projects. Remaining assets and liabilities were expected to be settled in the ordinary course, but additional results may occur.
- Legal proceedings include claims related to a 2010 construction-project explosion and other proceedings. Management believes defenses are meritorious and that no material adverse effect is expected, but it cannot estimate with certainty any potential loss from an adverse resolution.
- Restructuring expense was $0.6 million, with $0.2 million of obligations remaining at March 31, 2017. No material additional restructuring expense was expected for the remainder of 2017.
- The company adopted accounting changes for deferred tax presentation and goodwill impairment without a material earnings impact. It expected to adopt the new revenue-recognition standard on January 1, 2018 using the modified retrospective method; the ultimate impact remained subject to final review, particularly for shop-services revenue.
- Goodwill and net identifiable intangible assets totaled $1.010 billion and $521.4 million, respectively. No impairment was recognized, but future impairment risk is particularly dependent on performance in the United States industrial services segment and broader industrial and oil-and-gas markets.
- Disclosure controls and procedures were concluded to be effective as of March 31, 2017, with no reported material changes in internal control over financial reporting.
Important Facts for Investors to Verify
- Whether the Q1 margin improvement, including the disputed-contract cost recovery, is sustainable or principally non-recurring.
- The integration, profitability, and amortization burden of the two 2017 acquisitions and prior acquisitions.
- Conversion of the $3.974 billion backlog into revenue and cash flow, including customer cancellation and change-order risks.
- Cash generation relative to acquisition spending, share repurchases, dividends, debt service, and working-capital requirements.
- Exposure to variable-rate debt, surety-bond availability, letters of credit, and the company’s compliance with credit-agreement covenants.
- Developments in United Kingdom operations, foreign-exchange effects, discontinued-operation settlements, and related legal matters.
- The final effect of adopting the new revenue-recognition standard, especially for shop-services contracts.