FirstService Corporation (NASDAQ:FSV) Q1 2016 Earnings Conference Call April 27, 2016 11:00 AM ET
Scott Patterson - CEO
Jeremy Rakusin - CFO
Anthony Zicha - Scotiabank
David Gold - Sidoti & Company
Stephen MacLeod - BMO Capital Markets
Brandon Dobell - William Blair & Company
Welcome to the First Quarter Investors Conference Call. Today's call is being recorded. Legal counsel requires to advise that the discussion scheduled to take place today may contain forward-looking statements that involve known and unknown risks and uncertainties. Actual results may be materially different from any future results, performance or achievements contemplated in the forward-looking statements.
Additional information concerning factors that could cause actual results to materially differ from those in the forward-looking statements is contained in the Company's Annual Information Form as filed with the Canadian Securities Administrators and the Company's Annual Report on Form 40-S as filed with the U.S. Securities and Exchange Commission.
As a reminder, today's call is being recorded. Today is the 27th of April 2016. I would like to turn the call over to Chief Executive Officer, Mr. Scott Patterson. Please go ahead, Sir.
Thank you, operator and welcome, ladies and gentlemen, to our first quarter conference call. Thank you for joining us. This morning we announced very strong results for the March quarter that reflect a continuation of many of the same themes and trends that we have reported on over the last 15 months or so. I will start us off this morning and highlight some of these themes and trends and also spend a few minutes on our acquisition activity during the quarter. And then Jeremy Rakusin, our Chief Financial Officer, will follow with a financial review.
We reported revenues of $308 million, up 13% over the prior-year with organic growth at over 8% for the quarter. Our consolidated EBITDA margin for the seasonally weaker quarter was 4.1%, up 70 basis points over last year and earnings-per-share came in at $0.08 compared to $0.02 in Q1 of 2015. At FirstService Residential, our revenues grew 11% and totaled 7.5% organically. with solid gains reported in each region across North America and particularly strong growth in Texas, the U.S. Midwest and the Vancouver and Toronto markets in Canada. Again, our growth during the quarter was strongly supported by contract wins in the high-rise environment from competitors, from new development and to a lesser extent, communities transitioning from self-management.
Ancillary service revenue grew at a modestly higher rate than management fees, reflecting success in penetrating our existing management account with incremental services. In ancillary services, we include transaction services such as insurance and banking and property services such as janitorial, front desk, concierge, security, pool maintenance and other licensed services, many of them requiring full-time sited staff. During the quarter, we reported four tuck-unders in our FirstService Residential division which I described in our year-end call in February. As a reminder, we added leading property management companies in Myrtle Beach and San Diego, plus two pool maintenance tuck-unders.
Although early days, the four acquired operations all got out of the gate strongly and contributed during the quarter. Our pipeline is in good shape and we expect to report further acquisition activity within FirstService Residential during 2016. Turning now to FirstService Brands, where we posted a very strong quarter, with revenue up 25% over the prior-year, 13% organic growth, with the balance on the acquisitions of our Central Pennsylvania/Paul Davis operation and two California Closets operations - Los Angeles and Denver.
All three of the acquired businesses had strong quarters. Organic growth was driven by continued strong momentum at California Closets, CertaPro Painters, Floor Coverings International and Pillar To Post Home Inspection. All four of these brands continue to benefit from the strong home improvement market in the U.S.. CertaPro Painters was also buoyed during the quarter by favorable weather in the Northeast and Midwest regions which drove up bookings and production relative to the prior-year. Just after quarter-end in early April, we reported the acquisition of Century Fire Protection, adding to our stable at FirstService Brands.
We're very excited about this deal and see Century as an incremental growth engine for us in the years to come. Century is a leader in fire protection and safety across seven states in the U.S. Southeast, with 2015 reported revenues of $93 million. They install, repair, maintain and inspect sprinkler fire alarm and safety systems. Their revenues are about 50% installation and 50% service-related. We've been attracted to the fire protection industry for many years. The characteristics of the market and the opportunity are familiar to us in that it is an essential outsourced property service; a significant component of the revenue is recurrent; the industry is very large and highly fragmented; there are well over 4000 service providers in the U.S.; and there is increasing regulation which drives compliance-related service work.
We see a long term opportunity to grow Century both organically and through tuck-under acquisitions, very similar to the way we've grown our other businesses. We're also excited at the prospect of partnering with Scott Tutterow, the CEO of Century and his team. We're very impressed with this group. They share similar values and have a similar culture to us at FirstService. They've done a great job of growing Century to date. And collectively, we're very excited and aligned around driving future growth. Just before Jeremy steps in, I want to say that we're very pleased with the way we started the year operationally and in terms of our acquisition activity. We have solid momentum right now and believe we're right on track with our target for 2016. Jeremy?
Thank you, Scott and good morning, everyone. As Scott mentioned in his opening comments, we reported very strong results in what is our seasonally slowest quarter, with significant contributions coming from both of our service platforms. I will summarize our overall consolidated financial results for the quarter, as well as segmented performance for our two divisions and then move on to address our capital deployment and balance sheet position. First, let me reiterate our consolidated financial highlights for the first quarter.
FirstService recorded revenues of $308 million, up from $272 million in the prior-year quarter, a 13% increase which included 8% organic growth and 5% contribution from recent tuck-under acquisitions. Our adjusted EBITDA was $12.7 million, an increase of 36% over the $9.3 million last year, resulting in a 4.1% margin for the quarter, up 70 basis points from 3.4% in Q1 2015. And adjusted EPS was $0.08, up four-fold over the $0.02 per share reported for the same period last year. Our adjustments to operating earnings and GAAP EPS in arriving at adjusted EBITDA and adjusted EPS, respectively, are outlined in our press release issued this morning and are consistent with our approach and disclosures adopted in prior periods.
Turning to our segmented highlights for the quarter, our FirstService Residential division recorded revenues of $250 million, an increase of 11% versus the prior-year quarter, with the mix between organic growth as the primary driver, supplemented by acquisitions, in line with the past several quarters. We also saw a significant 26% increase in EBITDA to $11.7 million, with our margin expanding to 4.7%, up by 60 basis points over last year's 4.1% margin. This margin improvement is a continuation of the quarterly trend we saw throughout last year, coming on the back of further cost efficiency and operating leverage across our FirstService Residential business.
Our margin programs continue to track the path of our expected longer term target levels. At FirstService Brands, we generate revenues of $58 million for the first quarter, up a very strong 25% year-over-year, fueled equally through organic contribution and acquisition activity in furtherance of our Paul Davis and California Closets company-owned strategies. The strong topline growth helped drive a more than 150% increase in EBITDA to $3.2 million for the quarter. FirstService Brands margin increased to 5.5%, more than double the 2.7% margin in Q1 2015. Strong growth and associated operating leverage were particularly evident in our service lines most closely correlated to the continued strength in the U.S. housing and home improvement markets.
Turning to our consolidated cash flow and investing activities during the quarter, cash flow from operations before working capital changes was $8.3 million for the first quarter. Inclusive of working capital changes, operating cash flow was $1.8 million which includes an increase in accounts receivable due to year-over-year volume growth and a greater mix contribution from FirstService Brands' company-owned operations. During the first quarter, we also invested $5 million towards acquisitions. This does not include the investment in Century Fire Protection which closed subsequent to the quarter-end. When accounting for the larger Century fire transaction and our typical tuck-under activity both year-to-date and within our near term deal pipeline, our acquisition spending in 2016 will be significantly higher than last year.
Capital expenditures for the first quarter were just under $7 million. We're now anticipating that total CapEx for fiscal 2016 will be in the range of $25 million to $30 million, up modestly from the previously guided $20 million to $25 million to reflect the contribution from our several recently completed acquisitions. With respect to our balance sheet, our net debt position was $174 million at the end of the first quarter, compared to $156 million at our December 31, 2015 fiscal year-end. This increase is attributable to higher levels of working capital usage and capital investments, as noted previously.
Our first quarter-end leverage ratio, measured at net debt to trailing 12-month EBITDA, stood at 1.6 times, up slightly from the 1.5 times at year-end. Including the impact of the Century transaction, our pro forma leverage increases to approximately 2 times, a very conservative ratio that is well within the bounds of our target capital structure. After accounting for all of our acquisition activity year-to-date, our financial capacity, including cash on-hand and committed availability under our bank revolver, remains in excess of $100 million. This liquidity level keeps us in an extremely strong financial position to fund our operations and all other investments towards executing on our strategic growth priorities.
That now concludes our prepared comments. I would ask the operator to please open up the call to questions. Thank you.
[Operator Instructions]. So the first question here is from Anthony Zicha from Scotiabank. Please go ahead.
Scott, are you continuing to maintain your revenue growth outlook for both businesses in the mid- and high-single-digits on an organic basis?
I would say yes, Anthony. Certainly, at FirstService Residential, FirstService Brands, as you've heard the last two or three quarters, is benefiting from the home improvement market, especially California Closets, CertaPro Painters, Floor Coverings International. So we're getting a little boost right now from that. So that will be closer to perhaps high-single-digit or 10% rather than mid-.
Our first quarter at Brands organic growth was higher than that. But CertaPro in particular really benefited from the favorable weather which gave us a little boost. And we're seeing that impact in a seasonally weak quarter. We also had the benefit of the growth from our company-owned operations which helped us in the seasonally weak quarter also.
And then can you give us some color with reference to margins and the mix going forward?
Yes. In terms of FirstService Residential, we've set out a long term target of 8%. We finished 2015 at 6.8% and we believe that, over the next three years, we're going to incrementally march towards that 8%. So it will be better than last year. We've got three years to get 120 basis points to get our target.
On the Brands side, we see the margins for our business, excluding Century Fire - which is a new acquisition that we'll be reporting in that division - but excluding that component, Brands last year was in the mid-17% margin range and we don't see it varying meaningfully from that for the balance of the year.
As we layer Century Fire on top of that, it's a business that's reported, as Scott said, $93 million in revenue in 2015 and it comes with margins similar to either company-owned businesses or an 8% to 10% margin. You factor that in with our other Brands businesses being in the kind of 17-plus-percent range and then you will kind of come to a consolidated margin for the Brands division with Century Fire.
And then, Jeremy, considering your free cash flow is so strong, how do you see capital deployment in the future?
Continuing primarily - we've got capital expenditures to fund our internal operations. As mentioned, we're going to go $25 million to $30 million on that. Continue on our tuck-under acquisitions with [Technical Difficulty] at Brands for California Closets and Paul Davis, we will see periodic instances where that is significant and involves further capital deployment. And then we've got our dividend. Excess cash flow beyond that will be used to pay down debt.
And my last question, for Scott, can you give us an update on the progress with your centralized manufacturing plant in Phoenix? Thank you.
I mean I would say that it's on track with expectation. We have six of our 12 operations utilizing the centralized facility. We expect to take that to eight this year. And then, as we add to our company-owned portfolio, particularly in the Western half of North America, we will add to our capacity utilization. And we're currently operating one shift today. Additional acquisitions will enable us to really - to add a second shift and really start to achieve the expected efficiencies. But, Anthony, I would say we're right on track with where we want to be.
The following question is from David Gold from Sidoti & Co. Please go ahead, sir.
So a couple of questions. On the Brands side, can you give a sense for your outlook on the legs - the boost that you are getting from the home improvement cycle? And any sense there as to how long that might continue? Obviously not an easy question.
Yes. I mean, we follow a number of the indexes and we have for years, but there are a few home improvement indexes that are very, very bullish right now, both the back-half of 2016 and 2017. So our expectation is that we'll be getting a boost for 2017.
And then as we think about acquisitions and the pipelines, it sounds to me like Century could serve as another leg, so to speak. Say to think that you are out there looking at other fire businesses and if not, where might the focus and the emphasis be?
Well, you know, we see Century as another engine for us and an opportunity to grow organically mid-to-high-single-digit, very similar to the guidance we've been providing our goals around First Residential and FirstService Brands. But, at the same time, taking that growth to 10% or above through tuck-under acquisitions - this is a very fragmented business.
As I said in my prepared comments, we've looked at fire protection for years and noted that it is very similar to our other businesses and an area that we were very intrigued with. And Century was really an opportunity for us to enter the market. So, our expectation is mid-to-high-single-digit organic growth and then tuck-under acquisition taking us above.
We're starting to dial up our focus on pipeline and spending time with our partners at Century, so we're not going to move aggressively, but our expectation over time is that it's very similar to Residential and Brands.
The following question is from Stephen MacLeod from BMO Capital. Please go ahead.
On the Century side, so you talked about the organic growth of mid-to-high-single-digit. Is that reflective of growth in the market? Or is there something that you intend to do to sort of tweak growth a little bit, whether it's introducing into new geographies or leveraging some other parts of your network?
You know, a few things, Stephen. They've grown organically at that rate historically and they have 12 locations today. So our first focus is to fill out the service lines at the 12 locations. Their service offerings include sprinkler systems, both water sprinkler and special hazard which is gas and foam; fire alarms and fire extinguishers. But of their 12 locations, they only have a couple which are full-service, by their definition. So, we want to expand the service lines and then look to grow geographically through greenfield openings, following our customers and also through tuck-under acquisition, but the market is growing. There is increasing regulation in this area which is driving increasing compliance-related service work. And so we like the fundamentals.
And is there an opportunity at all - do you tend to keep Century Fire as a company-owned operation? Or are there franchising opportunities?
It's not clear to us today that this is an opportunity to franchise, as our focus is company-owned.
And then I know you mentioned it in your prepared remarks a little bit, but I just wanted to drill down a little bit more on kind of where the strength was on the FirstService Brands side and what you are seeing - you mentioned CertaPro was positively impacted by warmer weather. Like, has that continued into Q2? And are you seeing that kind of growth across those four segments that you've highlighted - or five segments that you highlighted, relative to the home improvement market?
No, the home improvement strength continues. We won't see the sort of added acceleration from weather in the second quarter. The second quarter is our strongest quarter seasonally for a company like CertaPro.
So we will certainly expect to be up year-over-year and that's really through growing with the market. But they are also growing well in excess of the market through all of the initiatives and differentiators that they have in place, that have really carried them for the last 20 years and allowed them to grow at greater-than-double-digit over that 20-year period.
And then just finally, on FirstService Brands, when you look at the M&A environment, would you expect that the balance of 2016, most of the M&A or acquisitions you would be completing would be requiring company-owned operations?
Yes. California Closets, Paul Davis Restoration, perhaps an add-on in prior, but would not expect - if it were anything outside of that, those three, it would be opportunistic and out of the blue.
[Operator Instructions]. We have one more question in the queue. The question is from Brandon Dobell. Please go ahead.
First in the property management business, you mentioned a little bit about some wins from communities transitioning from self-managed away from that. Maybe a little color on the pace of those kinds of wins? And I guess I'm also curious as to the reason that you are seeing people move away from self-managed. Is it just a cost thing? Is it a complexity of service thing? Is it a customer satisfaction thing? Trying to get a feel for that as a potential - let's call it, medium term driver for your business.
Right. The transition has really been ongoing for years, Brandon and it was no more significant in the first quarter than it was in previous quarters. And I didn't mean to imply that - it has averaged probably above 10% of our organic growth in FirstService Residential over the last five years. It's an ongoing trend and for really all of the reasons you mentioned.
There is increasing regulation around managing the communities and increasing complexity. So that encourages Boards to at least explore professional management. And then particularly in the high-rise environment and large lifestyle communities, we get an opportunity to present them our knowledge, leadership and experience in these areas comes through. And we're generally able to present a very compelling offer around cost savings and service. And it's - you know, cost savings lead to lower budgets and lower monthly maintenance fees and that translates into the higher value of the unit. So it can be quite compelling.
Okay. No, that make sense. Jeremy, a quick run for you on the fire acquisition. Any notable seasonality in that business as we think about modeling the balance of the year? Is there a particular time where either revenues or margins are kind of outsized relative to the balance of the year?
No, Brandon. It's a pretty steady business throughout the year. No real notable seasonality.
Okay. And then finally within California Closets, given the moves you guys have made, both in terms of acquisitions but also the production facilities - has that engendered any, I guess, behavioral changes among some of the franchise operations? Have they started to - maybe started to see them grow faster? Invest more in trying to be bigger, smarter, those kinds of things? Or is it just really about making the company-owned operations better, more profitable?
Well, our company-owned operations are growing more quickly than the system. The franchisees see that there's a number of reasons for that. And one of the most significant is investment in capacity, increasing capacity through additional installers and additional designers. Because California Closets, really across North America, has been in a position where we can't handle the leads that we're getting. And investing in capacity has really accelerated our growth of company-owned stores. The franchisees see that; we're working with them, encouraging them, coaching them to do the same. We're starting to see that. So that's one thing that is notable.
[Operator Instructions]. There are no other questions at this point in time, Mr. Patterson.
Thank you, operator. And thank you, ladies and gentlemen, again for joining us. And we look forward to our call in the latter part of July, second quarter. Thank you.
Ladies and gentlemen, this concludes the first quarter investor's conference call. Thank you for your participation and have a nice day.
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