Comfort Systems USA, Inc. — Q1 2018 Form 10-Q
Period: Three months ended March 31, 2018; unaudited. Comparisons are with Q1 2017 unless stated otherwise. The company provides mechanical contracting and HVAC, plumbing, controls, and related services across the United States.
Financial performance
| Metric | Q1 2018 | Q1 2017 | Change / context |
|---|---|---|---|
| Revenue | $464.9 million | $380.6 million | Up 22.2%; 6.7% from BCH acquisition and 15.5% same-store growth |
| Gross profit / margin | $89.1 million / 19.2% | $76.0 million / 20.0% | Profit up 17.2%; margin down 0.8 percentage points |
| Operating income / margin | $19.2 million / 4.1% | $11.8 million / 3.1% | Operating income up 63.7%; Q1 2017 included $1.1 million goodwill impairment |
| Net income / diluted EPS | $16.7 million / $0.44 | $7.5 million / $0.20 | Net income up about 123% |
| Income tax provision / effective rate | $2.1 million / 11.1% | $3.9 million / 34.2% | Q1 2018 benefited from a $2.8 million reduction in unrecognized tax benefits |
| Cash from operations | $3.9 million | $10.1 million | Lower mainly due to receivables timing and a decrease in other long-term liabilities |
| Free cash flow | $(1.4) million | $5.3 million | Company-defined measure: operating cash flow less capital spending plus asset-sale proceeds |
Cost of services was 80.8% of revenue versus 80.0% a year earlier. Management attributed lower gross margin to weaker project performance at several locations, including underperformance in California. SG&A rose 10.7% to $70.0 million, but declined to 15.1% of revenue from 16.6%.
Liquidity, debt, and operating indicators
- Cash was $25.2 million at March 31, down from $36.5 million at year-end 2017. Total debt was $66.0 million, including $50.0 million drawn on the revolving facility; cash less total debt was approximately $40.8 million of net debt.
- The $325 million credit facility had $241.4 million available after $50.0 million of borrowings and $33.6 million of letters of credit. The weighted average borrowing rate was about 3.1%. The company was in compliance with covenants; leverage ratio was 0.4 versus a 2.75 maximum, and fixed-charge coverage was 19.9 versus a 2.00 minimum.
- Current assets were $491.8 million and current liabilities $366.0 million. Accounts receivable included $393.0 million billed and $36.6 million unbilled.
- Backlog was $1.08 billion at March 31, up 13.7% from year-end and 25.0% year over year. The company reported 4,419 projects in process and expected to recognize approximately 85% of remaining performance obligations over the next 12 months.
- Revenue mix included 39% new construction and 61% existing-building construction, service projects, service calls, maintenance, and monitoring. Q1 revenue grew across several end markets; HVAC and plumbing represented 91% of revenue.
Changes, outlook, and notable items
- Two acquisitions were completed in Q1 for a total purchase price of $10.6 million. BCH, acquired in April 2017, contributed to year-over-year growth.
- The company adopted ASC 606 on January 1, 2018 using the modified retrospective method and reported no material difference in account balances from adoption.
- Management expected improved revenue and net earnings in 2018, citing backlog and improved industry activity. Priorities included cost discipline, project execution, workforce development, and investment in service and small-project growth. Management noted continued price competition and seasonal softness in Q1.
- Estimated full-year 2018 effective tax rate was 22%–27%, including the Q1 tax benefit; the preliminary estimate for 2019 was 25%–30%. Management cautioned that Tax Cuts and Jobs Act amounts remained provisional.
- On April 18, 2018, the revolving facility was amended to increase capacity from $325 million to $400 million, retain a $100 million accordion option, and extend maturity to April 2023.
- April 2018 BP claim settlements were expected to produce a $3.5–$4.0 million gain in Q2 2018. No related subsidiary claims remained outstanding.
Risks and contingencies
Fixed-price project work exposes results to estimating errors, labor availability and productivity, cost overruns, subcontractor execution, and project delays; estimates at completion can cause cumulative revenue and profit adjustments. The business is cyclical and seasonal. The company is substantially self-insured and relies on surety bonds for an estimated 20%–30% of its business; a reduction in bonding capacity could pressure revenue and profits. Revolving debt carries floating-rate exposure. Normal-course legal claims were accrued where considered probable; management did not expect them to have a material effect after recorded provisions. The company also had $33.6 million of letters of credit and operating-lease commitments.
Investor verification points
- Assess whether revenue and backlog growth convert into margins and cash, given the lower gross margin and Q1 negative free cash flow.
- Separate recurring earnings growth from the one-time $2.8 million tax benefit and compare the Q1 tax rate with management’s full-year range.
- Track project execution and cost estimates at locations cited for underperformance, and evaluate whether backlog translates into timely billings and collections.
- Review acquisition contributions, earn-out obligations, and integration effects; total contingent earn-out obligations were $8.5 million at quarter-end.
- Monitor borrowing, floating interest rates, covenant headroom, surety availability, and the terms and utilization of the amended credit facility.
- Confirm the timing and final amount of the expected BP settlement gain and other material contingencies in subsequent filings.