ABM Industries F1Q08 (Qtr End 1/31/08) Earnings Call Transcript

Mar. 4.08 | About: ABM Industries (ABM)

ABM Industries, Inc. (NYSE:ABM)

F1Q08 Earnings Call

March 4, 2008 9:00 am ET

Executives

Henrik C. Slipsager - President, Chief Executive Officer, Director

Linda S. Auwers - Senior Vice President, General Counsel & Secretary

James S. Lusk - Chief Financial Officer, Executive Vice President

Analysts

Jeffrey Kessler - Lehman Brothers

David Gold - Sidoti & Co.

Operator

Good day, everyone, and welcome to today’s ABM Industries first quarter 2008 conference call. Today’s conference is being recorded. At this time for opening remarks, I would like to turn the call over to Henrik Slipsager. Please go ahead, sir.

Henrik C. Slipsager

Thank you. I am Henrik Slipsager, President and CEO of ABM. Joining me today are Jim Lusk, Executive VP and CFO, and Linda Auwers, our Senior VP and General Counsel. On the call today, I will provide an overview of our achievement as a company for the first quarter of fiscal ’08, Jim will discuss our financials, and then I will conclude our prepared remarks with a summary of our operational achievements for the quarter as well as provide an update on our guidance. Linda.

Linda S. Auwers

Thank you, Henrik. Before we begin, I need to tell you that our presentation today contains predictions, estimates, and other forward-looking statements. Our use of the words estimate, expect, and similar expressions are intended to identify these statements. These statements represent our current judgment on what the future holds. While we believe them to be reasonable, these statements are subject to risks and uncertainties that could cause our actual results to differ materially. Some of the important factors relating to our business are described in our annual report on Form 10-K, Form 8-K, and Form 10-Q that we file with the SEC.

Henrik C. Slipsager

Thank you, Linda. We are extremely pleased with our first quarter performance, which reflects the strength of our existing business, our recent acquisition of OneSource, and the initial operational improvement and synergies we are achieving. Our earnings per share of $0.13 exceeded our guidance. The overall pace of our business remains strong, despite the current economic environment, and our janitorial, parking, and engineering segment continue to deliver new business and expansion of existing business. We’ve been particularly successful targeting highly specialized industries, such as financial services, high technology, and pharmaceutical with our facility services.

We are on track with the integration of OneSource and our most recent acquisition, Southern Management. Southern Management came to us through OneSource, which owned 50%. We acquired the remaining 50% stake in early January for approximately $24 million and extended our penetration into the southeastern facilities service market.

We’ve been very pleased with OneSource. It’s performing ahead of expectation, both on the top line and at the margins. We’ve also experienced fewer customer losses than anticipated and the revenue run-rate annualized is approximately $25 million to $50 million ahead of our expectations. OneSource already provides a high quality revenue stream and by rationalizing its cost structure, we expect to achieve a healthy gross profit.

The acquisition was nearly accretive in the first quarter prior to integration expenses and will be accretive in the second quarter, including these costs.

In fiscal ’09, we expect OneSource to contribute $0.20 to earnings per share in addition to what is expected in ’08, where we will have the full year impact of our synergies.

Before I hand the call over to Jim to review our financial results and operating performance, I would like to update you on our strategic initiatives. We are approximately six to eight months into a multi-year project to transform of our corporate platform and infrastructure. Our goal is to implement best-in-class integrated business processes and platforms to support our growth. Jim has been overseeing this effort prior to assuming the CFO role and he has done a terrific job.

As we have previously discussed, we are consolidating certain back office functions, including more than 17 accounting centers in Houston, [inaudible] center. We are also relocating our corporate headquarters from San Francisco to New York City and our janitorial headquarters to Houston from San Francisco. We are also installing new enterprise software to support accounting and payroll company wide.

Finally, we are focused on streamlining our integration processes from OneSource and any future acquisition to maximize business value and manage synergies by keeping cost and risk relatively low.

Now I would like to turn the call over to Jim for a review of our first fiscal quarter of ’08. Jim.

James S. Lusk

Thank you, Henrik and good morning, everyone. Delighted to be able to report such strong results on my first call as CFO. A number of significant items affected the quarter, including acquisitions, market conditions, and staffing changes in the finance department but we delivered better than expected results and are poised for continued growth.

As Henrik indicated for the quarter, net income was $6.4 million, or $0.13 per diluted share, compared to $8.7 million, or $0.18 per diluted share a year ago. The decrease was primarily due to a $2.8 million after tax increase in interest expense attributable to the financing of the OneSource and Southern Management acquisitions.

However, our non-GAAP pretax from operations before items affecting comparability increased 93.5% to $18 million in the first quarter of fiscal 2008 from $9.3 million in the same period last year. The non-GAAP earnings from operations excludes several items affecting comparability, including a benefit of $4.2 million from the reduction of the company’s self-insurance reserves that increased net income in the first quarter of fiscal 2007, and expenses of $2.7 million associated with the corporate initiatives and OneSource integration that reduced net income in the first quarter of fiscal 2008.

OneSource contributed $3.7 million in Q1 operating profit. Also included in the results for the quarter is an increase in our legal reserves of $1.5 million, or $0.02 a share. As a percent of sales, gross margin, which is defined as sales minus operating expenses and cost of goods sold, was 9.7% in the quarter compared to 10.4% in the first quarter of 2007. Excluding that $4.2 million reserve benefit in the first quarter of 2007, margin percentage was the same year over year.

Our SG&A increased $13.4 million in Q1, largely due to $16.7 million of expenses associated with the acquisition of OneSource. Offsetting increases to SG&A expense were the absence of $2 million of share-based compensation expense recorded in the first quarter of 2007 related to the acceleration of price vested options.

Interest expense increased $4.6 million in the first quarter due to the draw-down of our credit facility for the OneSource and Southern Management acquisitions.

The effective tax rate for the quarter, first quarter of 2008 was 40% compared to 34.8% for the first quarter of 2007, mostly due to higher overall state tax rates. The first quarter of 2008 included a $200,000 expense from rate changes impacting the company’s deferred taxes, while Q107 included a $300,000 tax benefit. For fiscal 2008, we anticipate an effective tax rate of 38%.

Turning to the statement of cash flows, cash from operations in the first quarter was a use of $24.9 million compared to a use of $36 million for last year’s first quarter. Last year’s cash flow usage included a $34.9 million tax payment associated with the World Trade Center insurance proceeds.

In November, we closed the acquisition of OneSource for a total purchase price of $386 million, including $365 million in cash plus the assumption of $21 million in debt, which has been paid in full. The acquisition is being accounted for under the purchase method of accounting, with $34.4 million allocated to customer contracts and intangible assets and $278.6 million allocated to goodwill. Please note that the amounts initially assigned to goodwill and intangible assets are preliminary and are subject to change.

In addition, we purchased the remaining 50% of Southern Management for approximately $24 million.

We ended the quarter with $3 million in cash, down from $136 million at the end of fiscal 2007, primarily due to our acquisitions of OneSource and Southern Management. We ended the quarter with $294 million in working capital. The largest component of working capital continues to be accounts receivable, which increased by $133 million to $504 million, of which $96 million is attributable to OneSource and the remainder to seasonality. Accounts receivable past due increased in the quarter by $14 million to $42 million, or 8% of our total outstanding, of which $6 million is attributable to OneSource.

Day sales outstanding at quarter end were 55 days, up from 52 at the end of fiscal 2007. Our receivable allowance totaled $9.8 million at quarter end, compared to $6.9 million at the end of the year. $2.4 million of the increase is attributable to OneSource.

Insurance reserves at January 31st were $298.6 million, which includes claims acquired from OneSource compared to $205 million at the end of the fiscal 2007. Self insurance claims paid during the quarter totaled $17.5 million compared to $13.5 million in the first quarter of 2007.

We continue to augment our finance and accounting team with new hires, including a Vice President of Tax and Manager of Financial Planning and Analysis, and new controllers team.

With that, let me turn it back to Henrik who will give his perspective on the first quarter operational performance and the outlook for 2008.

Henrik C. Slipsager

Thank you, Jim. I will now briefly review the operational results for the first quarter, as well as provide GAAP and non-GAAP guidance for the second quarter and the remainder of fiscal 2008.

Janitorial had an excellent start to the year as we integrated the OneSource business into our business. For the first quarter, janitorial sales increased by $205.8 million, or 51.4% to $606 million, due to $189.4 million of revenue contribution from OneSource, which we acquired midway through the first fiscal month of the quarter. We are pleased to find that OneSource’s performance is better than expected and we are on schedule to achieve anticipated cost saving synergies. Our existing janitorial business turned in a solid quarter despite managing the integration of OneSource and all regions experienced sales growth during the quarter.

Excluding the impact of the OneSource acquisition, janitorial sales were up 4.1%. Sales activity remained robust as we continue to drive new business and expansion of services to existing customers. Our operating profit in the business increased by $4.1 million or 24.3% to $20.9 million. The increase was primarily due to $3.3 million of additional profit contributed by OneSource.

Parking sales increased by $9.1 million, or 8%, to $124 million due to $8.7 million of revenue contribution from HPSA, which we acquired in the second quarter of ’07. Despite the economic climate, the underlying business was up, operating profit increased $800,000 or 27.9% to $3.9 million, due to strength in the southwest region and $0.5 million of additional operating profit contributed by HPSA.

Our security business maintained a flat top line at $80.9 million with growth in the west offset by reduced business in the Gulf Coast region. The first quarter operating profit increased $300,000, or 26.5% to $1.4 million. Our security sales pipeline remains strong but we need to execute better on expense management and better control overtime costs to improve operating profit and margins.

Lighting continues to fall short of expectations while the sales pipeline remained at a high level. Without work materializing, we are taking action to reduce further expenses. Sales were down slightly to $28.9 million and operating profit was essentially flat.

In general, we had an excellent quarter with sales increasing by $7 million, or 9.4% to $81.8 million. Sales momentum was strong and we won new businesses, expansion of services to existing customers in the mid-Atlantic and Western region. Our pipeline of business remains very solid. Operating profit increased by $0.5 million, or $3.5 million, reflecting the strength in our business model. In particular, the mid-Atlantic, Western, and Eastern region all contributed to the operating profit increase of 14.7%.

Now for our guidance -- based on our strong first quarter growth and positive outlook, we are increasing our full year guidance to the range of $1.20 to $1.35 on a non-GAAP basis and $1 to $1.15 on a GAAP basis, the difference being one-time expenses of approximately $60 million, or $0.20 per diluted share, associated with achieving synergies on OneSource as well as the major financial system upgrade, shared services implementation, and relocation of corporate headquarters. In addition, fiscal ’08 has one additional work day of labor which is expected to increase costs in janitorial fixed price contract by approximately $4 million, or $0.05 per diluted share in the second quarter. Keep in mind that all of our guidance is exclusive of future acquisition.

In closing, ABM is a leader of the global facilities service market. We are well positioned for continued growth as the industry continues to consolidate, customers increasingly demand one large global vendor, and we capitalize on our scale and leveraging relationship with our multi-national customer base. Our longer term goal is to achieve $5 billion in sales and a 5% EBITDA margin rate by 2010, and we believe we are on track to achieve that.

At this time, I would like to open the call for questions.

Question-and-Answer Session

Operator

(Operator Instructions) We’ll go first to Jeff Kessler with Lehman Brothers.

Jeffrey Kessler - Lehman Brothers

Thank you and good quarter, Henrik. With the acquisition of OneSource, are you seeing any -- I’ll ask it on both sides of the question -- any resistance from customers, given your size? Or are you seeing any increased acceptance or let’s just say unsolicited questions from potential customers because of your new size? I mean, at this point in time, you are so much bigger than everybody else. It’s either got to be a turn-off to them or it’s a turn-on to them in terms of being able to reduce new services.

Henrik C. Slipsager

I think my answer is neutral. We are pretty early into the deal, Jeff, and I was very concerned, of course, with our size and OneSource’s size, if we were going to lose some business initially but I think what I will call the emotional time is over. We are three or four months into the deal, four months into the announcement and really haven’t lost anything.

At the same time, I think it’s too early to say or believe that this is going to have this additional positive impact. I have not seen it yet. I think it is too early to make any conclusions. I’d rather focus on the -- on what I know and what I do know right now is the OneSource sales are higher than we expected and I would also say that the losses of existing OneSource business is lower than what I had predicted.

Jeffrey Kessler - Lehman Brothers

Okay. Given the changing economic environment, which is not necessarily all bad for you but nevertheless, given the changing economic environment, what are you seeing in your business segments that is changing that is different than what you had in 2006?

Henrik C. Slipsager

Right now we are seeing nothing. I am very concerned by saying that because of course when I say things like that, the second shoe is going to drop. But the fact of life is I just went through the quarterlies with all of the divisions as well as the forecast for the remainder of the year and I think it is fair to say that nobody and no one has seen any impact as of yet. But while that drives a very positive and optimistic future, which I think we are trying to reflect in our forecast, the fact that I’m reading the paper every day and see all these bad things that’s going on of course makes me concerned if we are going to see something in the second, third, or fourth quarter. But up to this point, we have seen absolutely nothing.

Jeffrey Kessler - Lehman Brothers

Okay, the third question is how do you get to $5 billion of sales and 5% margins by 2010? What is the game plan? What are the key mile posts that we are going to look at that give us confidence or maybe not give us confidence that you are going to be able to make those numbers?

Henrik C. Slipsager

I think there’s two or three things that hopefully will give you the confidence that we will achieve it. One is that I think we will prove through the OneSource acquisition that we are very capable in making synergistic acquisitions like OneSource, which I think it’s fair to say is exceeding our expectations and hopefully at one point in time will exceed the market’s expectations as well.

So some of the growth will come through the continuation of synergistic acquisitions and the other part of the growth will come from hopefully some international acquisitions, where you in general see higher margins than you see here. The proper international acquisitions hopefully will also generate additional growth by the -- just to a fact that we can service customers globally, which we are not able to do today.

Jeffrey Kessler - Lehman Brothers

Okay, you’ve been talking about international acquisitions now for quite some time. Is that to gain footprint or is that mainly to service the multi-national customers that you are already serving here, and then to try to convince them to take more of the existing services that are already existing here? If you can get them there over in Europe, can you get more out of them? Or is the acquisition target mainly to get some type of footprint over there on a greenfield basis?

Henrik C. Slipsager

It’s probably more the latter, to get the footprint so we have the base for the growth. And you are right; I’ve been talking about international for a while and then fortunately, OneSource came by and that delayed everything for a while because I don’t think it will be prudent to go out and do an acquisition in Europe or Asia now right after we [acquired] OneSource, but as soon as we are comfortable that we can service the OneSource customer in a proper manner and deliver the right returns, we will be starting to look at international again.

Jeffrey Kessler - Lehman Brothers

All right, last question, I promise, and that is does the OneSource acquisition, because perhaps it has the landscaping business in it, does that change the quarterly seasonality that you’ve experienced historically in your quarters at all? I mean, are we going to be looking at any minor percent changes, shifts here or there between the quarters?

Henrik C. Slipsager

I think it is fair to say that first of all, landscaping, the size of landscaping which is less than $100 million of sales is not going to impact anything in any kind of material impact. The quarterly impact will probably be somewhat a continuation of what we have, maybe slightly stronger on the -- a little weaker first and second quarter and stronger third and fourth quarter because the bulk of the business is janitorial and we are in a situation where in the janitorial business, you have all the additional labor costs associated with [inaudible] and others that are primarily impacted in the two first quarters. So if there is going to be a shift in the quarter earnings, outside impact of additional days back and forth, it will be slightly more to the negatives in the first and second quarter and positives in the third and fourth quarter.

Jeffrey Kessler - Lehman Brothers

Okay. Thank you very much.

Operator

We’ll take our next question from David Gold with Sidoti.

David Gold - Sidoti & Co.

Good morning. A couple of questions; first, on OneSource, you commented that it’s running -- the revenue run-rate is running $25 million to $50 million ahead of your plan. I don’t think you guys have formally said what the plan was. I sort of estimated it to be about around $800 million. Is that a fair guess or can you shed some color?

Henrik C. Slipsager

I think we did announce it originally when we were looking at the deal. We were looking at approximately $825 million of business. I don’t have the exact number but I think between 825 and 830 --

David Gold - Sidoti & Co.

Yeah, I think you said that was the run-rate at the time you bought.

Henrik C. Slipsager

And the run-rate we are experiencing now is 850 to 875.

David Gold - Sidoti & Co.

Okay, so I guess what I was confused about was I thought initially on the way -- there was potential you were thinking to lose some business, so -- so it was basically growth any way you look at it.

And then on the janitorial business, the organic growth there, better than we had expected. I’m curious if you can comment a little bit on what’s happening differently there, given what presumably is the tough climate. Are you guys just more successful these days on the wins or is there anything else happening?

Henrik C. Slipsager

Well, it’s still marginally different from prior quarters. It is still I think a continuation of what we are seeing the last five, six, seven, eight quarters. And I think it is important to emphasize in our particular business, if you look at janitorial, that if we are going into a downturn, which I believe everybody is now at least talking about we are doing, it has two different types of impact. Of course there will be margin pressure on our existing business because some of the business will be up a bit and people will be trying to save money, but it also has a positive impact because a lot of the in-house operations, especially on the industrial side, will be looking to companies like us to help them cut the cost.

So we still believe in a down turn even though we haven’t felt anything yet, and I want to emphasize, we haven’t felt anything yet. If we are going into a down turn, it has a positive effect as well as a negative effect.

David Gold - Sidoti & Co.

But I mean, I guess if we looked at sort of the here and now, that today again, do you sort of attribute -- have you guys been more successful of late on the wins or are these just -- excuse me, bigger -- basically are you winning bigger assignments, so to speak?

Henrik C. Slipsager

If you take the janitorial, our growth pretty much has been the same for plus/minus 1 percentage point over the past many, many quarters. Engineering is just continuing a very, very strong and successful growth and on parking, which -- where we saw some great growth, it is very much related to the very successful acquisition we did of this company called Healthcare Parking, where we moved into a growth area we haven’t been in before and a very great percentage of our growth is exactly associated with that.

So there are different reasons for the different businesses, but I think overall it is trends that we expect to continue going forward.

David Gold - Sidoti & Co.

And then two other minor -- one, not sure if I missed it but did you give second quarter guidance, Henrik?

Henrik C. Slipsager

No, we were trying to avoid getting into the quarter guidance because we are starting to get, of course, with a lot of the one-time expenses we have, there’s always a concern where exactly these expenses hit, which quarter. So we are trying to do annual guidance and not go into specific second quarter guidance.

The only thing I can tell you is exactly what I’ve said in the past, is I don’t think there is that different spread between the quarters on our ongoing operations what we’ve seen in the past, with of course with the exceptions of the one extra day, which will hit in the second quarter.

One good thing I will tell you, the latest calculation done by some of my operators show we have two less days in ’09, so you might have a $0.05 hit here but it looks like we have a $0.10 pick-up in ’09, which I would love to get credit for now.

David Gold - Sidoti & Co.

Fair, and then just one last one -- you did talk a little bit about OneSource and the integration there going ahead of plan, but can you add a little bit of color about what’s been accomplished so far and sort of what the big milestone, or what’s left in front of you, you know, the big things, anyway?

Henrik C. Slipsager

Well, some of the big milestones are that I think we have operationally probably achieved on the cut of overhead, we are probably up to have achieved close to 70%, 80%. The main part, the major part of the cuts when I look at it from the people side are very much associated with the system implementation, as well as the merger of the back offices, and the last piece which is probably the easiest to achieve is when we eliminate all the additional offices that we have as part of this deal, which will be an ongoing effort over the next three or four or five quarters.

The milestone for me is that I think we acted very fast. As of December 12th, 60% of all the cuts that we had planned were made. We continue with some other cuts here by the end of the month and we are very much on track of doing exactly what we said we would do.

The only thing that might delay things one, two, three, four months, is that we want to make sure that the system implementation throughout the company is taking place in an orderly and timely fashion, which could delay some of the cut-backs on the IP side. But other than that, we are very much on track and I am extremely proud of the execution because it’s one thing to say, another thing is that management, the operational management really executed in a very proper manner and I think the proper manner can be illustrated by the fact that we haven’t lost any business.

David Gold - Sidoti & Co.

Terrific. Thanks.

Operator

And we have no further questions at this time. I would like to turn the conference back to Henrik Slipsager for any closing remarks.

Henrik C. Slipsager

Thank you very much for listening to our first quarter conference call. We are looking forward to talking to you in another three months, where hopefully we can continue the very positive development we have seen this year. Thank you.

Operator

Thank you, everyone. That does conclude today’s conference. You may now disconnect.

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