Rollins, Inc. 2018 First-Quarter 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 Form 10-Q covers the three months ended March 31, 2018, compared with the same period in 2017. The company reported its 48th consecutive quarter of improved revenue and earnings despite major snowstorms in the Northern United States.
Key Financial Metrics
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Revenue | $408.7 million | $375.2 million | 8.9% increase |
| Income before income taxes | $59.2 million | $57.3 million | 3.4% increase |
| Net income | $48.5 million | $40.3 million | 20.5% increase |
| Basic and diluted EPS | $0.22 | $0.18 | 22.2% increase |
| Net profit margin | 11.9% | 10.7% | Improved |
| Gross margin | 49.6% | 49.6% | Flat |
| Cash flow from operations | $72.7 million | $56.8 million | 28.1% increase |
| Capital expenditures | $6.1 million | $5.5 million | Increase |
| Cash and cash equivalents | $84.3 million | $107.1 million at Dec. 31, 2017 | Decrease |
Revenue growth reflected approximately 4.2 percentage points from acquisitions and 4.7 percentage points from customer growth and pricing. Commercial pest control represented approximately 40% of revenue, residential pest control approximately 40%, and termite and ancillary services approximately 19%. Reported growth rates were 5.6% for commercial pest control, 8.4% for residential pest control, and 16.2% for termite and ancillary services.
Operating cash flow was $72.7 million. Investing cash outflows were $49.0 million, including $43.2 million for acquisitions and $6.1 million for capital expenditures. Financing cash outflows were $39.8 million, including $30.6 million of dividends and $9.2 million of employee-related share repurchases. Cash declined by $22.7 million during the quarter, including a $6.6 million unfavorable foreign-exchange effect.
Rollins had no outstanding borrowings under its $175.0 million unsecured revolving credit facility at March 31, 2018. The facility includes a $75.0 million letter-of-credit subfacility and a $25.0 million swingline subfacility. The company stated that it remained in compliance with debt covenants. Current liabilities exceeded current assets, with current assets of $240.7 million and current liabilities of $299.1 million, although management reported adequate liquidity based on cash generation and available credit.
Material Changes Versus the Prior Comparable Period
- Revenue increased $33.5 million, or 8.9%, across all major service lines.
- Net income increased $8.3 million, or 20.5%, primarily reflecting revenue growth and a lower effective tax rate.
- The effective income tax rate declined to 18.0% from 29.7%, principally because of the lower federal tax rate under the 2017 Tax Cuts and Jobs Act. Management expected the full-year 2018 corporate effective tax rate to be in the mid-20% range.
- Cost of services increased 9.0%, while gross margin remained flat. Severe Northeast weather and a $2.2 million company 401(k) match negatively affected first-quarter gross margin.
- Sales, general and administrative expense increased 9.8% and rose to 30.9% of revenue from 30.7%, driven by personnel, fleet, gasoline, and IT-related costs.
- Depreciation and amortization increased 22.8% to $16.9 million, including higher amortization of acquisition-related customer contracts. Management estimated that this reduced diluted EPS by approximately $0.01 after tax.
- Acquisition spending increased substantially to $43.2 million from $3.0 million. Rollins completed 16 acquisitions during the quarter, including AMES Group Limited, Kestrel Pest Control Limited, and OPC Services. The acquisitions generated $33.6 million of goodwill and $18.2 million of customer contracts and other intangible assets in the preliminary purchase-price allocation.
- The quarterly dividend increased to $0.14 per share from $0.115 per share. The board subsequently declared another $0.14-per-share dividend payable June 11, 2018.
- Rollins adopted ASC Topic 606 using the modified retrospective method on January 1, 2018. The company reported no financial-statement impact from adoption for the periods presented.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
- Management expected approximately $22.0 million of additional capital expenditures for the remainder of 2018.
- Management expected no further contributions to the defined-benefit pension plans in 2018 and stated that the plans were adequately funded.
- The company believes cash, operating cash flow, and available credit will fund operations, obligations, dividends, acquisitions, and expansion for the foreseeable future.
- Management expected service salaries to rise in the second quarter as spring and summer demand increased.
- Management identified seasonality and weather as important revenue and cost factors. First-quarter results are not necessarily indicative of full-year results.
- Pending lawsuits, claims, arbitrations, employment matters, and environmental matters are being contested. Management did not expect a material adverse effect on financial position, results of operations, or liquidity, but acknowledged that an unfavorable outcome could materially affect an individual quarter or year.
- Rollins is exposed to foreign-exchange risk and uses nondesignated currency forwards. These instruments produced a $147,000 gain in the quarter. Management did not expect foreign-exchange risk to have a material effect going forward.
- The company expects adoption of the lease standard to materially increase reported assets and liabilities when implemented, while the effect of the credit-loss standard remains under evaluation.
- Management cited risks including adverse litigation outcomes, economic conditions, weather and climate, competition and pricing, labor availability and costs, regulation, data security, brand reputation, technology changes, and the ability to integrate acquisitions.
Important Facts for Investors to Verify
- Whether acquisition-driven growth and the 16 first-quarter acquisitions translate into sustained organic revenue and earnings growth.
- The sustainability of the 18.0% quarterly tax rate and management’s mid-20% full-year tax-rate expectation, including possible adjustments under Staff Accounting Bulletin 118.
- The effect of weather normalization, seasonal demand, higher gasoline and labor costs, and the 401(k) benefit changes on future margins.
- Cash conversion after acquisition spending, dividends, capital expenditures, and employee share repurchases.
- The carrying value and future amortization or impairment risk of goodwill, customer contracts, and other acquisition-related intangibles.
- The eventual balance-sheet impact of lease accounting and the effect of pending litigation, environmental matters, and other contingencies.
- Foreign-currency exposure, the concentration of approximately $62.7 million of cash in foreign bank accounts, and the company’s stated plan not to repatriate foreign cash under its current business plan.