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ABM Industries, Inc. (NYSE:ABM)

F2Q08 Earnings Call

June 3, 2008 9:00 am ET

Executives

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

Sarah Hlavinka McConnell - Senior Vice President, General Counsel, Corporate Secretary James S. Lusk - Chief Financial Officer, Executive Vice President

Analysts

David A. Liebowitz - Burnham Securities

David Gold - Sidoti & Co.

Operator

Good day, everyone, and welcome to today’s ABM Industries Q2 fiscal year 2008 conference call. Today’s call is being recorded. At this time, I would like to turn the conference over to Mr. Henrik Slipsager. Please go ahead.

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 Sara McConnell, our Senior VP and General Counsel. On the call today, I will provide an overview of the second quarter ended April 30th. Jim will discuss our financial results 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 for fiscal ’08. Sarah.

Sarah Hlavinka McConnell

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.

A reconciliation of ABM Industries’ non-GAAP earnings from operation to consolidated operating profit and items affecting comparability of results, as well as a reconciliation of non-GAAP guidance, can be found at the investor relations section of our website, www.abm.com, under the heading presentations.

Henrik C. Slipsager

Thank you, Sara. We are very pleased with our strong top and bottom line second quarter performance. Revenue expanded 35% to approximately $939 million, and non-GAAP earnings from operations increased 25.2% to approximately $26 million. These results reflect the organic growth of our broad customer base, as well as improving synergies from our recent acquisition and strong cash flow.

Despite the current economic environment, our business remained robust and we executed very well against our operating plans and experienced strong revenue and operating profit gains in janitorial, parking, engineering, and security segments. We continue to make excellent progress on integrating OneSource and have met many of our key milestones, including $6.8 million in synergies, a $15.5 million reduction of our outstanding debt, and I am very proud to point out that we achieved accretion from the OneSource acquisition in the second quarter.

To date on an annualized basis, we have achieved approximately 50% to 60% of the cost-saving synergies related to the integration of OneSource, which is slightly better than anticipated.

In fiscal ’09, as we previously communicated, we expect that OneSource will contribute $0.20 to our earnings per share in addition to what we expect in ’08. We will have a full year impact of our synergies in fiscal ’09.

As a direct result of the strength of our overall business, we declared what will be our 169th consecutive quarterly dividend.

Before I hand the call over to Jim to review our financial results and operating performance, I would like to mention that we continue to be on schedule with the transformation of our business process and infrastructure platform. These are critical towards achieving the goals we have set for ABM as part of our five and five and 10 initiative.

I am very pleased with the efforts of our employees across the business. These are indeed exciting times for ABM.

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

James S. Lusk

Thank you, Henrik and good morning, everyone. As with the first quarter, a number of significant items affected our reported results for the second quarter, including acquisitions. We are pleased with our strong underlying fundamentals and solid overall performance.

Net income was $11.1 million, or $0.22 per diluted share, compared to $16.7 million or $0.33 per diluted share a year ago. There was one additional work day in the second quarter of ’08, which reduced net income by $2.3 million, or $0.05 per diluted share. However, our non-GAAP earnings from operations before items affecting comparability increased 25.2% to $25.8 million in the second quarter of fiscal 2008 from $20.6 million in the same period last year, as a number of one-time items impacted the results.

The non-GAAP earnings from operations excludes the following items affecting comparability in Q2 2008: an impairment charge of $4.5 million related to our lighting segment, most of which was not tax deductible; expenses of $4.8 million associated with corporate and infrastructure initiatives and the integration of OneSource; a benefit of $7.2 million from the reduction of the company’s self-insurance reserves from prior years that increased net income.

The second quarter of 2007 included a $5 million benefit from the sale of an off-airport parking garage lease that increased net income. Net these items reduce net income by $2.1 million in the second quarter of 2008 and increase net income by $5 million in the second quarter of 2007.

OneSource contributed $7.9 million in Q2 operating profit, of which $6.8 million was attributable to synergies with our existing janitorial business and elimination of corporate redundancies. Our SG&A increased $22.8 million year over year, due to $16.3 million of expenses associated with the acquisition of OneSource. Excluding OneSource, SG&A increased $6.5 million due to the integration of OneSource operations, severance bonuses related to the headquarters move to New York, and an increase in share-based compensation expense.

Interest expense increased $3.8 million in the second quarter due to the draw-down of our credit facility for the OneSource and Southern Management acquisitions, as well as interest accretion related to OneSource insurance claims, liabilities assumed as part of the acquisition.

The estimated annual effective tax rate used for the three months ended April 30, 2008 was 38%, compared to 37% in the prior year, mostly due to higher overall tax rate. The effective tax rate was 44.3 and 34.4 in the second quarter of 2008 and 2007 respectively, due to certain discrete tax items. For fiscal 2008, we continue to anticipate an effective tax rate of approximately 38%.

Turning to our six month results, net income was $17.4 million, or $0.34 per diluted share, compared to $25.4 million or $0.51 per diluted share. Total revenue for the six months ended April 30, 2008 was $1.9 billion, up 33% over the comparable period last year.

As with Q2 results, there were a number of items affecting comparability related to the corporate relocation and acquisitions, impairment of good will in our lighting segment, and changes to self-insurance reserves, among others. Excluding these items, non-GAAP earnings from operations increased 46.8% to $43 million in the first six months of fiscal 2008, from $29.9 million in the same period last year.

Turning to the statement of cash flows, cash from operations for the first six months of 2008 was $21 million, compared to $29 million for the comparable period last year. Last year cash flow usage included a $34.9 million tax payment associated with the World Trade Center insurance proceeds.

In the first quarter we closed the acquisition of OneSource for a total purchase price of $390 million. Under purchase price accounting at the time of the closing, we allocated $34.4 million to customer contracts and intangible assets, and $278.6 million to good will.

During the quarter, we made an adjustment of approximately $4 million, increasing our purchase price allocation to good will to bring it to $282.2 million. We have not completed the allocation of the purchase price of the acquisition and anticipate it will be finalized during the remainder of 2008.

We ended the quarter with $17.4 million in cash, down from $136 million at the end of fiscal 2007, primarily due to the acquisition of OneSource and Southern Management, but this is up from $3 million at the end of Q1 due to strong sales and cash management.

During the quarter, accounts receivable decreased by $5.4 million to 498.4.

Day sales outstanding at quarter end were 54 days, down one day sequentially. Our receivable allowance totaled $10.4 million at quarter end, compared to $6.9 million at the end of the year -- $2.4 million of the increase was attributable to OneSource.

Insurance reserves at April 30th were $351 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 $20.2 million compared to the $15.2 million in the second quarter of 2007.

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

Henrik C. Slipsager

Thank you, Jim. I will now briefly review the operational results for the second quarter, as well as provide an update on our GAAP and non-GAAP guidance for fiscal ’08. Sales in the first half of ’08 have been very encouraging. Despite a challenging economic environment, we are finding that our services remain in demand and we are proving our resistance to recessionary pressures.

For the second quarter, janitorial sales increased by $226 million, or 56.6% to $626 million, due to $213 million of revenue contribution from OneSource, which was acquired in Q1. OneSource continues to perform better than expected and as I mentioned was accretive in Q2, as anticipated. Excluding the impact of the OneSource acquisition, janitorial sales were up 3% with most regions turning in solid performances.

Janitorial operating profit increased by $6.1 million, or 25.6% to $29.8 million. The increase was primarily due to $7.9 million of additional profit contributed by OneSource, of which $6.8 million is attributable through synergies from a reduction of duplicative positions and back-office functions, consolidation of facilities and reduction of professional fees and other services.

There was one additional work day in the second quarter which negatively impacted operating profit by $3.8 million compared to ’07.

Parking sales increased by $6 million, or 5.1% to $124.5 million, due to $6.1 million of revenue contribution from HPSA, which we acquired in the second quarter of ’07, and nearly $5 million of higher lease and fixed allowance revenues.

Operating profits for the second quarter of ’08 was $4.4 million. On a year-over-year basis, that is down 45% due to a $5 million gain recorded from the termination of an off-airport lease in ’07. Operating profit for parking excluding that gain from ’07 is up 47% year over year.

Our security sales increased $4.7 million or 6.1% to $82.3 million, with growth in the Southwest and Midwest regions, from both new and existing customers. The second quarter operating profit increased $1.9 million compared to a loss of $400,000 last year. I am encouraged by the level of sales activity in security and the region operating performance.

Engineering continues to perform extremely well, with sales increasing $7.3 million or 10.1%, as we won new business and expand our services with existing customers. Operating profit increased by $1.4 million, or 48% as we benefit from operating leverage.

Lighting continues to be our weakest performing segment and during the quarter we took a charge of $4.5 million associated with the impairment of good will, significantly impacting our operating income. Second quarter lighting sales decreased 9.4% to $26.2 million.

Recently though the joint effort of our engineering team, we sold two energy saving projects in the Northeast but we continue to evaluate strategic opportunities for this segment.

In summary, we are encouraged by our results for the first half of 2008. ABM's fundamental business is very strong and we continue to deliver solid top and bottom line growth organically and through recent acquisitions. Our people have been performing extremely well across our core operating segments and I am confident that this momentum and our operating discipline will carry through the second half of the year.

Now for our guidance -- based upon our first half of fiscal ’08 and positive outlook, we are reiterating our fiscal ’08 non-GAAP diluted earnings per share guidance of $1.20 to $1.35. On a GAAP basis, we continue to expect fiscal ’08 diluted earnings per share to be in the range of $1 to $1.15. Keep in mind that our guidance is exclusive of future acquisitions.

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

Question-and-Answer Session

Operator

(Operator Instructions) We’ll take our first question from David Liebowitz with Burnham. Please go ahead.

David A. Liebowitz - Burnham Securities

Good morning. Your guidance for the second half and the full year, how much of that is foreign currency translation, if any?

Henrik C. Slipsager

The only foreign currency we have is Canadian dollar. That is so small that it basically has absolutely no impact at all.

David A. Liebowitz - Burnham Securities

Okay. Second of all, the security operation, you had very high hopes when you got into it and the growth rate appears to have slowed. Is that because of hardware or is that because of changes in the industry itself?

Henrik C. Slipsager

As a matter of fact, I think we have been through seven, eight, or nine quarters of disappointing growth in security but the last quarter, we saw some very encouraging moves and we just announced some additional new sales last week, and we are very encouraged by the growth in security and to be quite frank, I am very, very encouraged with the improvement on the bottom line and if it continues like this, I hope this will be a company where we can do some acquisitions in the future.

David A. Liebowitz - Burnham Securities

And lastly, you mentioned acquisitions -- are you at the moment in discussions with any companies in any of your business areas?

Henrik C. Slipsager

You know, David, I will never tell you that over a conference call, and I wouldn’t tell you that in private either. That will be something that will be announced, if in fact it is going on. But you know very well that acquisition is part of our general growth.

David A. Liebowitz - Burnham Securities

Okay, and lastly then, would you look into other arenas that the company is not yet involved in at this juncture, or would that be something to be pushed off?

Henrik C. Slipsager

If you are talking about different trades, the answer is probably no. If you are talking about different geographical areas, the answer is yes, we would very much like to move on the international front very soon.

David A. Liebowitz - Burnham Securities

Thank you very much.

Operator

Our next question comes from David Gold with Sidoti. Please go ahead.

David Gold - Sidoti & Co.

Good morning. I wanted to delve a little bit more into the synergy progress. A couple of things there, or a couple of questions; one, can you speak a little bit to -- well, we’re moving a little bit quicker than we had thought and than presumably you had thought. If there’s any change to the time line now that you are looking at for realizing the full synergies. And then also, if you can comment a little bit on sort of what we’ve done so far and what’s left to do.

Henrik C. Slipsager

I’ll make some general comments about that. If you have more specific questions, I have Jim right in front of me. He can reply.

We have achieved what I would say on the operational side most of the synergies associated with people, and the remaining part are very much associated with leases and termination of leases and joint offices, which is something that will take effect when we finalize some of those moves.

So on the operational side, we are very much where we expected to be, probably slightly ahead.

On the admin side or the corporate side, we have had some changes in our estimates not on dollars but more on timing, where we have to take into consideration our implementation of our new systems so there will be cuts but the timing of that might have been delayed a little bit.

But if I sum it up from what we originally said and where we are today, we are pretty much in the same area as we said six months ago, which I am very proud about.

James S. Lusk

I would just add to what Henrik said that we are -- all in, we are on target for our synergies. The ones that Henrik talked about basically as we look to integrate the OneSource systems and processes into ABM's new systems and processes, and as you know we are going into a brand new set of systems, we are taking the best of the OneSource systems, the best of our plan and kind of putting them together. So by getting the best of breed, we are delaying the OneSource people coming on to the brand new systems a little bit but at the end of the day, we get everything better than we had individually.

But all in, we are on target for our synergy plans.

David Gold - Sidoti & Co.

Perfect. And then Henrik, could you also talk about -- actually fairly pleased with how the business climate is treating you, or how business has held up but curious -- I think a quarter ago you said you are still looking over your shoulder. Is that still right or do you have reason to think that maybe the benefits that you guys bring to the table basically will give you maybe better stability than we’ve seen in the past?

Henrik C. Slipsager

I think it’s fair to say that this is more stable than I had expected. I am still looking over my shoulder, David, but I guess that’s my nature. I think where you see -- we see some price pressure, some pressure in New York, some tenant cut-backs of services. But on the other side we, as you saw in engineering, we picked up some new business in engineering which probably could be part of a process of outsourcing from our clients’ point of view.

So overall, I think we are -- to show organic growth in this particular marketplace and not only maintaining but increasing our profit percentages on our lines of business, I do feel very good about the whole thing and hopefully the worst is behind us.

David Gold - Sidoti & Co.

Perfect, and then just one last one -- Jim, if you can, on the -- I guess the adjustments at the end. Just looking at that on an EPS basis and tried to sort of figure based on you know, assumed tax rates and all of that, and I get about a nickel of adjustment. Is that about right? So in other words, on a net basis?

James S. Lusk

Yes.

David Gold - Sidoti & Co.

Yes? Perfect.

James S. Lusk

Yeah, and the one issue as I pointed out in my comments is that the good will impairment is -- most of it is not tax deductible because the tax basis of the assets that we acquired a long time ago was actually lower than the book basis, so you have a write-off for book basis, you actually have a slight gain for tax then, so you don’t have a perfect correlation between operating income and net income.

David Gold - Sidoti & Co.

Perfect, perfect. Thank you.

Operator

(Operator Instructions) And there are no further questions from the phone lines at this time. I would like to turn the conference back over to management for any additional or closing remarks.

Henrik C. Slipsager

I just want to thank everybody for listening to our Q2 conference call. We are very proud of what was achieved and hope we can continue the good momentum in the third quarter. Thank you for listening.

Operator

Ladies and gentlemen, this does conclude today’s conference. Thank you for your participation. You may now disconnect.

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