Comfort Systems USA, Inc. — Q2 2012 Form 10-Q
Business and period: HVAC installation, maintenance, repair and replacement provider serving commercial, industrial and institutional markets. This unaudited report covers the quarter and six months ended June 30, 2012. Approximately 49% of 2012 revenue was from new construction installation and 51% from maintenance, repair and replacement; HVAC represented 74% of revenue.
Financial performance and position
Amounts below are in millions of dollars except per-share data and percentages.
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Revenue | $354.8 | $312.1 | $684.2 | $594.2 |
| Gross profit / margin | $54.5 / 15.4% | $47.5 / 15.2% | $97.3 / 14.2% | $81.7 / 13.8% |
| Operating income (loss) / margin | $7.7 / 2.2% | $5.6 / 1.8% | $4.3 / 0.6% | $(2.7) / (0.5)% |
| Net income (loss) attributable to Comfort Systems | $4.5 | $3.2 | $3.4 | $(2.0) |
| Diluted EPS | $0.12 | $0.08 | $0.09 | $(0.05) |
| Operating cash flow | $6.8 | $(4.4) | $(13.0) | $(23.4) |
- Q2 revenue rose 13.6%; management attributed 6.0 percentage points to same-store activity and 7.6 points to the EAS acquisition. Six-month revenue rose 15.1%, split between 7.4% same-store growth and 7.7% EAS contribution.
- Q2 SG&A was $47.1 million, up 12.3%, while its share of revenue eased to 13.3% from 13.4%. Six-month SG&A increased 10.5%, but fell to 13.7% of revenue from 14.2%.
- At June 30, cash was $28.8 million, total assets $604.6 million, and total current liabilities $275.8 million. Current assets were $390.2 million (current ratio approximately 1.4).
- Total debt was $29.3 million, including $18.0 million drawn on the revolving facility; this compares with $15.4 million total debt and no revolver borrowings at year-end 2011. The company reported $45.5 million of letters of credit and $61.5 million of remaining facility availability. It was in compliance with covenants; leverage ratio was 0.49 and fixed-charge coverage ratio 19.28.
- Six-month investing cash use was $18.0 million, including acquisition-related spending; financing provided $8.6 million. Cash declined $22.4 million from year-end. Six-month free cash flow, as defined by the company, was negative $18.8 million; Q2 free cash flow was positive $2.6 million.
- Dividends were $0.05 per share in Q2 and $0.10 per share for the first half.
Material changes and notable items
- Improved first-half operating results compared with the prior-year loss reflected higher revenue and gross profit. The prior-year period included approximately $4.0 million of underperformance in Southern Alabama operations.
- First-quarter 2012 gross profit included a write-down on a project accelerated by its owner. Added costs exceeded $3 million; the company was pursuing a claim, but had not recognized additional contract price.
- Q2 same-store revenue benefited substantially from manufacturing, including a large, short-duration ColonialWebb data-center project; healthcare revenue declined. EAS contributed approximately $23.8 million in Q2 and $45.9 million in the first half.
- Backlog was $617.7 million at June 30, down 0.7% sequentially and 0.6% year over year. EAS added 8.7% to year-over-year backlog, offset by a 9.3% same-store decline.
- The first-half effective tax rate was 60.0%, versus a 37.1% tax benefit rate in the 2011 loss period; management attributed the increase primarily to higher tax reserves. No current-period goodwill impairment was recorded; the company had recorded $57.4 million of impairment in 2011.
Outlook, risks and contingencies
- Management expected industry activity to remain flat over the next twelve months and described nonresidential construction weakness as likely to continue through the rest of 2012. It anticipated modest profitability for the remainder of 2012 and emphasized execution, cost control, and maintaining activity and the core workforce.
- Management estimated a 2012 annual effective tax rate of 38%–48%.
- Price competition, economic and construction cyclicality, fixed-price project cost overruns, collection risk, and seasonal demand can pressure revenue and margins. Management noted that roughly 25%–35% of its business historically required bonds; tighter surety capacity or a refusal to bond could reduce near-term revenue and profits.
- A supplier notified the company that approximately 29,000 gaskets may have been mislabeled as non-asbestos; other customers reportedly found asbestos in some gaskets. The company said it could not reasonably estimate any potential liability.
- Ordinary-course legal claims were accrued where losses were considered probable; management did not expect them to materially affect results or financial condition. The filing also identifies self-insurance, letters of credit, surety guarantees, and operating leases as exposures or commitments.
- Revenue on most project work is recognized using percentage of completion, relying on estimates of costs to complete. Changes in project conditions and estimates can materially affect reported results.
Key facts for investors to verify
- Whether backlog converts to revenue and margin as expected, particularly after the ColonialWebb project and the same-store backlog decline.
- Whether operating cash flow and free cash flow recover from first-half working-capital outflows, and how acquisition spending and revolver use evolve.
- Final outcome and recoverability of the claim on the accelerated project, and any further cost revisions or bad-debt expense.
- Changes in tax reserves and the effective tax rate relative to management’s 38%–48% full-year estimate.
- Any developments in the gasket matter, litigation, self-insurance reserves, or availability and terms of surety bonding.