Watsco, Inc. Q1 2010 Filing Summary
Business Context and Reporting Period
This Form 10-Q covers the quarterly period ended March 31, 2010. Watsco, Inc. is the largest distributor of air conditioning, heating, and refrigeration (HVAC/R) equipment and parts in the industry. A significant business development during the prior year was the formation of a joint venture with Carrier Corporation, "Carrier Enterprise," effective July 1, 2009, which now accounts for a substantial portion of the company's consolidated assets and revenues.
Key Financial Metrics
| Metric | Q1 2010 | Q1 2009 |
|---|---|---|
| Revenues | $509.8 million | $291.3 million |
| Gross Profit | $122.6 million | $74.2 million |
| Gross Margin | 24.1% | 25.5% |
| Operating Income | $8.9 million | ($1.6 million) loss |
| Net Income (Total) | $5.5 million | ($1.2 million) loss |
| Net Income Attributable to Watsco | $3.8 million | ($1.2 million) loss |
| Diluted EPS | $0.10 | ($0.07) |
| Cash and Equivalents | $74.1 million | $45.7 million |
| Working Capital | $561.3 million | $531.4 million (Dec 31, 2009) |
| Long-Term Debt | $47.7 million | $13.4 million |
Material Changes vs. Prior Period
- Revenue Growth: Revenues increased 75% year-over-year, driven primarily by the inclusion of the new Carrier Enterprise joint venture ($225.8 million contribution). On a same-store basis, revenues declined 3%.
- Profitability: The company returned to profitability, reporting net income of $3.8 million attributable to Watsco compared to a net loss of $1.2 million in the prior year. Operating income improved from a loss of $1.6 million to $8.9 million.
- Margins: Gross profit margin decreased 140 basis points to 24.1%, attributed to lower selling margins within the Carrier Enterprise segment. However, on a same-store basis, margins improved 50 basis points.
- Operating Expenses: Selling, general, and administrative (SG&A) expenses increased 50% in absolute terms but decreased as a percentage of revenue from 26.0% to 22.3% due to profit enhancement initiatives.
- Cash Flow: Operating cash flow turned negative at ($5.8) million compared to $13.1 million in the prior year, primarily due to seasonal inventory buildup for the spring/summer season. Financing activities provided $21.5 million, largely from net borrowings under revolving credit agreements.
Outlook, Risks, and Management Commentary
- Seasonality: Management notes that sales of residential central air conditioners are seasonal, with peak demand in the second and third quarters. Results are also sensitive to weather patterns.
- Liquidity: The company maintains a $300 million revolving credit facility ($47 million outstanding) and a separate $75 million facility for Carrier Enterprise (no borrowings outstanding). Management believes current cash flows and credit facilities are sufficient to meet liquidity needs, including dividends and capital expenditures.
- Dividends: A quarterly dividend of $0.48 per share was paid in Q1 2010. In April 2010, the Board declared a subsequent dividend of $0.52 per share.
- Risks: Key risks include general economic conditions, supplier concentration (notably Carrier), commodity cost fluctuations, and the seasonal nature of the business. The company is also subject to credit market disruptions affecting borrowing costs.
- Subsequent Events: In April 2010, a subsidiary acquired assets of a wholesale distributor in Tennessee for approximately $2.3 million.
Investor Verification Checklist
- Verify the sustainability of the 75% revenue growth once the one-time impact of the Carrier Enterprise acquisition is fully normalized.
- Monitor the trend in gross margins, specifically the divergence between the consolidated decline (24.1%) and the same-store improvement (26.1%).
- Assess the impact of seasonal inventory buildup on operating cash flow in Q2 and Q3.
- Review the utilization of the $300 million revolving credit facility as the company funds working capital needs.
- Confirm compliance with debt covenants, particularly leverage and interest coverage ratios, given the increased debt levels.