Rollins, Inc. — Q1 2020 Form 10-Q Summary
Business context and reporting period
Rollins, Inc. is a pest and termite control services company with one reportable segment. This unaudited quarterly filing covers the three months ended March 31, 2020, compared with the three months ended March 31, 2019. Pest control was designated an essential service during the COVID-19 pandemic, and the company remained operational in all markets.
Key financial metrics
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Revenue | $487.9 million | $429.1 million | 13.7% increase |
| Gross margin | 48.5% | 49.4% | 0.9 percentage-point decrease |
| Income before income taxes | $55.4 million | $56.1 million | 1.2% decrease |
| Net income | $43.3 million | $44.2 million | 2.2% decrease |
| Basic and diluted EPS | $0.13 | $0.14 | Decrease |
| Net interest expense | $2.2 million | $0.3 million net interest income | Unfavorable change |
| Operating cash flow | $92.0 million | $61.4 million | Increase |
| Cash and equivalents at March 31 | $92.6 million | $116.6 million | Decrease |
Revenue growth was driven by acquisitions, which contributed approximately 8.6 percentage points, and customer growth and pricing, which contributed approximately 5.1 percentage points. Residential revenue increased 18.6%, commercial revenue increased 8.0%, and termite and ancillary revenue increased 17.4%.
Cost of services increased 15.6% to $251.2 million, reflecting higher insurance and claims costs, personnel expenses, medical claims, furloughed-technician benefits, personal protective equipment, and acquired-business costs. Sales, general and administrative expense increased 13.1% to $157.9 million but declined slightly as a percentage of revenue to 32.4% from 32.5%. The effective tax rate increased to 21.9% from 21.1%.
Cash flow from operations exceeded investing and financing cash uses. Investing cash use was $53.1 million, including $47.6 million for acquisitions and $6.7 million for capital expenditures. Financing cash use was $21.1 million, including $39.3 million of dividends, $8.0 million of employee tax-related share repurchases, and $35.7 million of term-loan repayments, partially offset by $64.0 million of revolving-credit borrowings.
Debt, liquidity, and balance-sheet developments
- Cash and equivalents were $92.6 million at March 31, 2020, compared with $94.3 million at December 31, 2019.
- Total debt was approximately $319.8 million, consisting of $12.5 million current debt and $307.3 million long-term debt, compared with approximately $291.5 million at year-end 2019.
- Outstanding borrowings at March 31, 2020 were $133.0 million under the $175.0 million revolving commitment and $186.8 million under the $250.0 million term loan.
- The company remained in compliance with its maximum 3.00:1.00 leverage-ratio covenant and expected to remain compliant throughout 2020.
- Operating lease liabilities totaled approximately $209.2 million net of interest, with future minimum payments of $228.4 million including interest.
- Unearned revenue increased to $143.4 million from $134.9 million at March 31, 2019, providing future service revenue and reflecting customer payments received in advance.
Material changes versus the prior comparable period
- Revenue grew substantially, primarily from acquisitions and organic customer and pricing growth, but profitability declined modestly because costs grew faster than revenue.
- Net interest expense increased materially following implementation of the credit facility in April 2019 to support acquisition growth.
- Operating cash flow increased by $30.5 million, while acquisition spending rose to $47.6 million from $7.0 million.
- Comprehensive earnings fell to $25.7 million from $46.6 million, primarily because of a $16.9 million foreign-currency translation loss and a $0.7 million derivative loss.
- The company completed seven acquisitions during the quarter, recording $26.5 million of goodwill and $22.0 million of customer contracts; total cash purchase price was $47.6 million.
- Adoption of ASC 326, the current expected credit-loss standard, increased beginning retained earnings by approximately $2.5 million net of tax and reduced the trade-receivables allowance.
Guidance, outlook, commentary, risks, and unusual items
Management stated that COVID-19 began affecting results in mid-March 2020 and expected a more significant impact in the second quarter, with possible effects continuing through the remainder of 2020 and beyond. Commercial pest control was more affected than residential services because some commercial customers temporarily closed or suspended service. Management also expected weaker new-customer demand and less predictable customer retention.
To preserve cash and liquidity, the company reduced selected management salaries, canceled non-essential capital expenditures, deferred some merit increases, reduced travel and training, eliminated non-essential contractor services, reduced work hours, and furloughed some employees while continuing benefits for up to 90 days. Non-essential capital expenditures were expected to remain canceled for the balance of 2020.
Management believed cash, operating cash flow, and available credit would fund operations, obligations, and expansion for the foreseeable future. It expected to continue paying cash dividends subject to earnings and financial condition. A quarterly dividend of $0.08 per share was declared on April 28, 2020, payable June 10, 2020.
Rollins launched a new Orkin disinfection service, VitalClean, in response to pandemic-related demand. Management did not anticipate a significant long-term revenue or cash-flow loss that would approach an intangible-asset impairment level, but this assessment depends on the duration and severity of the economic contraction.
Principal risks include prolonged COVID-19 disruption, commercial-customer closures or payment deferrals, labor and insurance costs, supply-chain and PPE availability, acquisition integration, foreign-exchange exposure, litigation and environmental matters, customer credit losses, competition, weather, regulatory changes, data security, and damage to brands or reputation. Pending litigation was not expected to have a material aggregate effect, although an unfavorable outcome could be material in an individual period.
Facts investors should verify
- Track second-quarter and subsequent commercial revenue, customer retention, new-sales demand, and COVID-19-related cost actions.
- Verify compliance with the 3.00:1.00 leverage covenant as borrowings and acquisition activity change.
- Assess liquidity after dividends, acquisitions, debt service, and reduced capital expenditures.
- Monitor gross-margin recovery, insurance and labor costs, PPE expenses, and integration efficiencies from acquisitions.
- Evaluate credit-loss allowances, customer payment behavior, and the collectability of trade and financed receivables.
- Review foreign-currency effects and the valuation of goodwill, customer contracts, and other intangible assets.