EMCOR Group, Inc. annual report, FY2010

EMCOR Group, Inc. — Fiscal 2010 Form 10-K Summary

Business context and reporting period

EMCOR provides electrical and mechanical construction, facilities maintenance, infrastructure, energy and industrial services through more than 70 operating subsidiaries and joint ventures in the United States, Canada and the United Kingdom. The filing covers the fiscal year ended December 31, 2010; fourth-quarter 2010 results are included in the annual disclosures.

More than 24,000 employees; approximately 65% represented by unions.
Revenue mix: approximately 42% new construction, 19% renovation and retrofit, and 39% facilities services.
Geographic mix: approximately 86% United States and 14% international.
Year-end backlog was approximately $3.42 billion versus $3.15 billion at December 31, 2009.

Financial performance and key metrics

Metric	2010	2009	Change
Revenue	$5,121.3 million	$5,547.9 million	Down 7.7%
Gross profit	$719.5 million	$824.9 million	Down 12.8%
Gross margin	14.1%	14.9%	Down 80 basis points
Operating income	$(28.7) million	$262.4 million	Declined to a loss
Operating margin	(0.6)%	4.7%	Down 530 basis points
Net income attributable to EMCOR	$(86.7) million	$160.8 million	Declined to a loss
Diluted EPS	$(1.31)	$2.38	Declined
Cash flow from operations	$68.7 million	$359.1 million	Down 80.9%

The 2010 operating loss included a $246.1 million non-cash impairment charge, consisting of $210.6 million of goodwill impairment and $35.5 million of trade-name impairment, primarily in United States facilities services. Excluding the impairment charge, the filing still reports lower revenue, gross profit, operating income and cash flow than in 2009.

United States electrical construction and facilities services revenue was $1.16 billion and operating income was $70.4 million, compared with $1.27 billion and $114.5 million in 2009.
United States mechanical construction and facilities services revenue was $1.71 billion and operating income was $131.3 million, compared with $1.96 billion and $129.7 million in 2009.
United States facilities services revenue increased to $1.52 billion from $1.49 billion, but operating income declined to $60.0 million from $73.7 million.
Canada construction revenue declined to $269.3 million from $320.2 million, while operating income fell to $0.3 million from $15.4 million due principally to project write-downs.
United Kingdom construction and facilities services revenue declined to $462.4 million from $500.5 million, while operating income increased to $15.7 million from $12.0 million.

Cash, debt and liquidity

Cash and cash equivalents were $710.8 million at December 31, 2010, compared with $727.0 million at year-end 2009.
Debt consisted principally of $150.0 million outstanding under a new $550.0 million revolving credit facility expiring in February 2013; capacity may be increased to $650.0 million subject to lender availability.
The prior term loan was fully prepaid in February 2010. Capital lease obligations and other debt totaled approximately $1.7 million at year-end.
Letters of credit outstanding totaled $82.4 million, and estimated contractual obligations totaled $1.36 billion, including $780.9 million of open purchase obligations associated with customer contracts.
Net cash used in investing activities was $32.7 million, including $19.4 million of capital expenditures. Net cash used in financing activities was $47.2 million, primarily reflecting debt repayment and related costs.
Management stated that cash balances, available revolver capacity and expected operating cash flow should satisfy short-term and foreseeable long-term liquidity needs.

Material changes versus the prior comparable period

Revenue declined 7.7% as customers delayed or canceled capital and maintenance projects, particularly in private nonresidential construction, industrial markets, hospitality and refinery-related services.
Gross margin narrowed because of lower margins in United States electrical construction, industrial and mobile mechanical services, Canadian project write-downs and a greater mix of institutional work.
Operating results were materially affected by the $246.1 million impairment charge. Goodwill declined to $406.8 million from $593.6 million.
Operating cash flow fell by $290.5 million, reflecting lower earnings, working-capital changes and a $25.9 million contribution to the United Kingdom defined benefit pension plan.
EMCOR replaced its prior revolving facility with the larger 2010 Revolving Credit Facility and used new borrowings plus cash to retire the term loan.
Two immaterial acquisitions expanded mobile mechanical and government infrastructure services. EMCOR also sold its Middle East venture, recognizing a $7.9 million pretax gain, and sold another venture for a $4.5 million pretax gain.
The United Kingdom defined benefit plan was curtailed, producing a $6.4 million curtailment gain; the company made a one-time $25.9 million contribution.

Fourth-quarter results, outlook and risks

Fourth-quarter 2010 revenue was $1.36 billion, gross profit was $205.1 million, net income attributable to EMCOR was $40.0 million and diluted EPS was $0.59. No additional goodwill or trade-name impairment was recorded in the fourth quarter after the October 1 annual impairment test.

The filing does not provide quantitative revenue or earnings guidance. Management described the recovery as uncertain, citing continued customer hesitation, intense bidding competition and low project margins. Facilities services are expected to provide a less-cyclical revenue base than construction, but the filing does not establish a formal forecast.

Further goodwill or intangible-asset impairment remains possible if forecast revenue, margins or economic conditions deteriorate or interest rates rise. The United States facilities services reporting unit exceeded carrying value by approximately $50.6 million at the latest test, providing limited disclosed cushion relative to other segments.
Fixed-price contracts expose the company to labor, materials, fuel, productivity, project-estimate and liquidated-damages risk.
Surety-bond availability is material: estimated exposure assuming defaults on all bonded obligations was approximately $1.4 billion. Reduced bonding capacity could restrict bidding and project execution.
Approximately 65% of employees are covered by more than 400 collective bargaining agreements. Multi-employer pension plans may create uncertain withdrawal liabilities; regular contributions were approximately $176.2 million in 2010.
Material contingencies include a United Kingdom arbitration claim of approximately £38.5 million, or about $60.0 million, with an EMCOR counterclaim of approximately £11.6 million. Management believes it has valid defenses and does not expect other proceedings to materially affect the company.
The company is self-insured or carries substantial deductibles for various casualty, workers’ compensation, automobile and health claims. It also faces commodity, fuel, foreign-exchange, environmental, safety, government-contracting and customer-collection risks.
A subsidiary received three mine-safety citations related to an accident that resulted in an employee death; the citations were abated, and no civil penalties had been proposed as of the filing date.

Important facts for investors to verify

Whether construction demand and project margins recover, particularly in private nonresidential, industrial, hospitality and refinery markets.
Whether the United States facilities services segment achieves the forecasts supporting its remaining goodwill and trade-name carrying values.
Current revolver availability, covenant compliance, interest-rate exposure and the February 2013 maturity.
Realization of the $3.42 billion backlog, including cancellation, suspension, change-order and margin risks.
Collectibility of receivables and contract claims, including $9.3 million of unapproved change orders and $6.3 million of claims included in contract assets.
Potential surety, litigation, environmental, insurance and multi-employer pension obligations not fully reflected in reported debt.
Execution of the company’s government infrastructure strategy and the related regulatory, audit, termination and non-renewal risks.