APi Group Corporation (APG) Earnings Call Transcript & Summary

Okay. Thank you, everybody. My name is Chris Snyder. I'm the multi-industry analyst here at UBS. We're here with Russ Becker, CEO and President of APi Group; and Kevin Krumm, the CFO. So first, thank you, guys for joining.

Maybe starting off with a high-level one. Could you just provide us an update for those investors that are newer to the story, kind of where does the company stand today? Obviously, a pretty transformative acquisition with Chubb now almost 18 months ago. Can you just maybe start with the kind of the lay of the land?

Well, sure. Thank you for having us, and thank you, everybody, for being here today. We appreciate your interest in the company. And we've been on quite a journey, going all the way back to October of 2019, when we sold the business to J2, which was a business that was founded by Martin Franklin and Jim Lillie, Ian Ashken, and went from being private to public with that transaction happening. At that time, we were roughly $4 billion in sales, north of 10% EBITDA margin, really pretty roughly split between our Safety Services segment and Specialty Services segment with the primary focus on North America. And 18 months ago, as Chris mentioned, we made the acquisition of Chubb, which was roughly a $2.2 billion London-based fire and security company that operated in 20-plus countries around the globe. And last year, we pushed our total revenues to roughly $6.5 billion at a 10.3% EBITDA margin with our sights set on 11% this year, as we continue to work towards our margin expansion goals. Along that journey, we've really had to continue to focus on having the right leadership and the right talent in the business, we are fortunate to bring Kevin on to our team roughly 18 months ago, as our Chief Financial Officer. He's been a great addition to our group and to what we're trying to accomplish. And -- so it's been a really exciting journey. We just try to stay centered on our purpose of building great leaders. That is something that's really core to us. We have almost 30,000 employees today worldwide. And we're a services people-centered business, and we believe that the true key to our success as an organization and an entity is the individual growth and development of every single one of those people, and that means that we have to invest in them as a leader. And we think that, that is the #1 differentiator and the #1 driver of shareholder value for our company long term.

Yes. No, I appreciate that. One thing that always kind of stood out to me on APi Group, it was the go-to-market strategy. And really this inspection-first mindset, and the idea that every dollar of inspection revenue, has this 3 to 4x multiplier as it goes on. It's obviously -- or it is a strategy that some of your smaller peers really can't replicate. So can you just kind of talk about that go-to-market strategy, how you're able to accomplish it, and how it really differentiates yourself from a lot of the smaller mom and pops that you compete against?

Well, the inspection component of a life safety system is required by law or code regardless of any sort of macroeconomic condition or situation that you find yourself in. So -- like, even during the course of COVID, when the pandemic broke in 2020, we were able to continue to grow the inspection component of the business at a double-digit clip. And, I think that's something that's very important to us. If I take a step back, it was probably close to 15 years ago, we established a goal in the company that we wanted 50% of our revenue to come from service. And we weren't specific about saying inspection service and monitoring at that time. But we knew that we needed to grow our business the mix from a service perspective to a higher place. And so, we established that goal and that objective, and we started to, I would say, more slowly reach that point. And we actually had an individual now -- who serves now as our Vice President of National Inspection Sales, that really brought this inspection for his mindset to the branch that she was working in. And the reality of it is, is that she was working in an individual branch. They brought -- they started selling inspections in that branch, and it started to -- it really improve the performance of that branch. And the President of that company saw the effect that her work was having. And he said, "Hey, why don't you help this branch, this branch and this branch do that?" And so she did. And so, she started to build out an inspection sales force in those -- in multiple branches. Those branches started to flourish. And then he's like, "Well, we need to do that across the company." And so they started to build out that inspection. And then, it was kind of funny, Don Brown, who leads our North American Safety Services business is with us. He was actually running the branch at the time. And we promoted Don to run one of our businesses, and Don moves to another location, he's like, "Hey, why don't you come and help me build out my inspection sales force?" And so, we started to build that out. And then, we finally had the bright idea that we should promote her to help us grow our inspection sales force across our North American business platform, and that's what we've done. And we just had really good fortune doing that and being centered around this effort because every dollar of inspection work that we do generate, we see $3 to $4 of pull-through service work. And as we continue to grow our mix of inspection service and monitoring as our total revenue, it allows us to be super selective in the installation and retrofit and tenant improvement work that we do for our really good customers. And that allows us to drive higher margins on all aspects of the work that we deliver to our customers. And it's really -- it's 100% paramount to our long-term success. To touch on the other aspect, so the industry that we serve is highly fragmented. Most of our competitors are small family-owned businesses. They don't have the infrastructure that's been built -- that we've built out over the last 15 years. So the average project size in our Safety Services segment is roughly $5,000, so very small. It's not uncommon for a typical inspection to be $1,000. And -- so when you think about it -- and we're doing north of $4 billion in that segment at an average size of $5,000. That's a lot of transactions. It takes a lot of infrastructure to be able to execute on all of those transactions. We've built that over time. We kind of have that flywheel cranking in turning. We have that infrastructure sitting behind us. So it allows us to continue to grow that business much more efficiently than, say, our regular competitors or peers.

No -- yes, I appreciate that. When we think about just the statutory nature of the safety work, it's obviously very resilient. But, it also screens as being relatively low growth just because of that recurring nature. Yet you guys are targeting like 5% to 7% kind of organic growth for the company. I have to assume that that's kind of above market rate. What is driving that? Is that driven by this multiplier effect? Is it just driven by kind of share gains? And then, kind of what is the driver of those share gains?

Well, I think it's driven by two things. Number one, the industry is code-driven. So every time there's an unfortunate event, typically, there's a fire and somebody that loses their life, codes are enhanced, they grow, they become more restrictive, and that helps our business, all right? So you see that happen on a pretty continuous basis over time. So the industry, in general, is growing. But if you look and if you listen to any of our earnings calls, you'll hear me talk all the time about our goal is to have double-digit inspection growth, all right? And that's share. And we're taking share from our competitors, and we're going to continue to do that, and we're going to continue to deliver on that as we continue to build out this inspection sales force, across the breadth of our organization. I mean, our organization, I mentioned this, it's built around people and leaders. And unfortunately, with people and leaders, you have different people who adopt really good ideas at different paces. And not necessarily everybody has -- had adopted this inspection-first mindset at the same pace. So we have businesses that are running out here, and we have other businesses that are trying to catch up here. And so we have great confidence that we're going to be able to get everybody performing at a higher level, and we're going to continue to take share and share and take share.

Yes. I appreciate that. Obviously, it's a very -- it's a service-driven business with that labor is very important. Can you talk about labor availability and what the tight labor market means for the company? Are you guys able to take share on that? Obviously, you guys are heavily unionized, which kind of protects you from some of the wage inflation.

Yes. So I would -- I'm going to go back to our purpose of building great leaders. And I think that, that is a competitive advantage for us. So at APi, we have a saying everyone everywhere is a leader. And -- that includes the men and the women that are in the field. And we have created programs and learning opportunities for every single one of our team members to participate in, including the men and the women that actually do the work in the field. And so, I think it starts by retaining your people. And I think that the culture and the environment that we have built at APi allows us to retain our people first. And I think that's where the base that you have to start from. And you have to create an environment where people want to come to work. And, I also think that our business leaders have created unique ways for us to hire men and women and bring them into our business. So we have a business that's actually based here in New York. We have an individual that operates out of Syracuse that has developed programs working with the U.S. Army. He's actually a former Army officer. He went through one of our leadership development programs. But the U.S. Army has programs, where you can take men and women as they transition out of the service, you can, so to speak, employ them as an intern for a 6-month period of time. The army pays their wages. And you can train them in the different disciplines that you'd like. So we're using it to train fire alarm technicians. And at the end of that 6-month period, you get to decide whether you want to keep the person, and if they get to choose whether they want to stay with you, too. But, it's a great training and development program that doesn't cost us anything. And the men and the women in the service, specifically in the army, I'm not trying to be partial of any one of the branches, but they're hard-working, loyal dedicated people, and you can get some really, really good team members through programs like this. And so, we've gotten creative on how we're doing that. We have another one of our businesses in the Southeast that has training programs for inspectors. And so we're hiring inspectors from nontraditional sources, putting them through training programs so that they can be productive and additive to the services that we provide our clients.

Yes. No, I really appreciate that. And almost all of -- you guys serve a wide range of end markets. All of them, I guess, have the common theme of rising complexity is good for inspection. But, which of the end markets are you guys seeing the strongest growth in, or kind of at that maybe the high single-digit type growth, whether it's like data center, semi even -- I know you guys have exposure to the grid as well.

You answered the question for me. Data centers and semiconductor are really robust. Health care is really robust. I mean, we've been preaching end markets to our business leaders nonstop for a long, long period of time. You've got other end markets. Aviation is strong. So you're seeing lots of opportunity in that space. Obviously, there's a lot of opportunity coming more for us in our Specialty Services segment. But because of the infrastructure bill and legislation that was passed, there's opportunity that will be coming through that will support the work and services that we provide in that segment as well. So...

I appreciate that. So construction activity in the U.S. has been strong and it's hanging in. There is a lot of concern out there, though, around tightening lending standards and what that means maybe next 12 to 24 months. And, while the company is obviously heavily focused on serving the installed base, can you just talk about what new construction activity means for the company? Like, whatever the exposure there may be, and maybe how that then kind of flows through the rest of the business?

So it will have no effect on our inspection and service business. Because, again, to your point, we're servicing the already built environment. I think, your question is probably primarily [ did ] towards real estate developer-led type project opportunities, which are not happening, so to speak, or are greatly slowed down. The good thing for our business is that we just don't have hardly any exposure to that space. And the reason that we don't have a lot of exposure to the space is that real estate developer-led projects are primarily price-driven. And, if we have to compete just based on price and being the lowest price for an installation opportunity, it's probably not going to be the right opportunity for us. And so, we just aren't going to do well. And it doesn't mean that we don't do some real estate development-led projects because we do. We have some unique relationships that -- it's not a price-driven decision. But the exposure we have is very, very small. And so, it really doesn't keep me awake at night, when I think about it. It would keep me more awake at night if I found out somebody was actually pursuing one. So...

No, fair enough. And maybe kind of taking that and turning a question over kind of to Kevin. So, the company is targeting a 13% plus EBITDA margin in 2025, maybe 200 or so basis points ahead of where this year is. Can you just kind of talk about the drivers of that? Does the company feel that they can sustainably price higher than maybe back in pre-COVID time frame just because it doesn't feel like the labor market is loosening at all? We're still adding a ton of jobs as we all saw last Friday?

Yes, sure. So I can talk through the drivers of that. First, you talked about pricing. There's two elements to our pricing approach. One is passing through sort of escalating material costs, and we've been doing that. The other is on the service and inspection side of our business, continuing to take price based on sort of our end service delivery. And so, we're going to -- we've taken price, we're going to continue to take price. That price is sticky and margin enhancing. And so that's delivered margin improvements over the last couple of years, and we expect it to deliver over the next couple of years, as we march towards the 13% margin target that we talked about. Some other drivers of that, we've talked about it. Russ has talked about our service and inspection business, that business brings for -- brings through margins that are about 10 percentage points higher than the project side of the business. So, as we move towards that target in 2025, we're going to continue to push through our inspection of sales force, increased or improved sales performance there, and we expect that business to grow at a higher clip than the project side of our business. So we're going to see margin improvement from that. As we continue to do that, it allows us to be really judicious on where we do, do our project work. And so, we talk a lot internally about project selection. And as that service business continues to grow more, we can be really judicious as to, where we're putting our hours on the project side. And so, we expect the project side of our business to continue to improve from a margin standpoint as well. The other big driver that we're going to see in that march towards 13% is going to come from the work we're doing in Chubb. We talked about it in November. We have expectations to capture about $100 million of what I'll largely call value capture opportunities. A lot of it is going to come from branch performance and/or cost reductions. And so, we expect that to pull through. And then generally, the other piece that we expect to help us deliver in that 13% number is going to be continuing to leverage across our platform. Shared activities, a great example of that is procurement, especially with Chubb, now in the APi Group, we see significant opportunity there to continue to be smart about where we put our spend in and our resources and scale those.

I appreciate that. And then, kind of coming back to the 5% to 7% kind of organic growth outlook, which is a very healthy number. Just from based on everything, we're hearing and just know about the company, like is it fair to say all of that is within your control, whether it's just based on ability to take share, deciding which jobs you want to go after? Like, it just doesn't seem like there's much in the macro that is like impacting the ability to achieve that.

Well, I've never actually heard it asked like that. I think that's an interesting way to ask and makes me sit here, and think a little bit. But it's -- I think, it's in our control to a certain extent, but there's another person on the other side of that, right, who has to make a decision that they want to buy your services. And so, I think it's in your control to an extent. And, to the extent that we continue to invest in our people, we're going to have a greater fortune in influencing that person's choice and that decision in their willingness, in their desire to work with us. We've been -- we had your peer come visit us, maybe 18 months ago. I don't remember when he visited us, but we've been inviting our investors to come to APi, and we've been trying to take folks out on -- investor on -- to our customer sites so that they can see what an inspection actually looks like. And we would love to host anybody who's interested in doing that. And -- but as part of that, they get to interact with our technicians and the men and the women that are actually doing the work in the field. And I think, that what people would say is that they're -- as they're interacting with our technicians, they're seen in hearing that these people are being invested in, and these individuals, their interactions with our customers makes a significant difference. And I think, one of the things that a lot of folks don't really understand is that when our inspectors and when our technicians are at our customer sites, like it's a significant interaction. Like, the level of coordination of those activities is significant. And so, they're going to have a significant impact on that customer's experience. And so this investment that we're making in them is needed. And, I think it's going to ultimately be one of the drivers of -- as we continue to improve our margins, that investment in those men and women is going to make a significant difference because they're -- what they're doing from a leadership perspective, interacting with our customers, coordinating with our customers, coordinating with vendors, coordinating manpower, all of that stuff that's required to really execute at a high level, super important.

No -- yes, absolutely. So -- yes, I mean the customer needs to do the statutory work, and I guess their decision is, okay, am I going to go with APi? Or am I going to pick kind of competitor x? And obviously, when we look at the 5% to 7% growth algorithm, a good chunk of that is just here and the tail of that is -- it is very long, given how fragmented the market is. So I guess, kind of the question is why do customers choose APG? Like, why -- what is the biggest driver of that ability to just kind of steadily kind of take share and compound that?

Well, there's -- there's two reasons. I've talked about one. There's two reasons that you displace a competitor. Number one is this customer interaction in this coordination. I mean, if we -- if our technician is supposed to be dispatched at 7:00 a.m., that -- the customer, their facility manager is going to be there at 7:00 a.m., and you better be there. And oftentimes, you have flowing water, you have flowing water into parking lots, and you got roped-off areas. You might only have the mechanical side of the system, somebody else might be doing the fire alarm side of the system for whatever reason and your tripping fire alarms. I mean, it's a team sport. And so your ability to interact with that customer is very important. The other aspect of it is the deficiency report. And, the timeliness of the completion of the deficiency report really, really matters. And the customer wants that. They need that information for insurance purposes. And for us, it's a driver of service. So we have data that shows that faster that we take that deficiency report, turn it into a service proposal to do -- to fix the deficiencies the more likely we are to get turned loose with the work. And so, like we are super aggressive. We want to turn that deficiency report into a proposal in like 72 hours. And because then you become the easy button, and they're going to tell you just go do the work. You have to remember, if you think about it, the average deficiency, I'm not talking about like some massive hospital or a data center or something like that, but your average inspection is going to be $1,000. So it's not a huge part of your customer spend. So, if then you're going to pull through $3,000 or $4,000 worth of service work, again, that's not a lot of money. And you want to turn that around, so that it's super easy for them to just pick you to, do the work, so then you can go ahead and go on and do your business.

I appreciate that. And we talked a little bit about just how fragmented this market is. And that also then kind of just ties into M&A. Historically, the business has been in a bit of a roll up, I guess, is how it would be categorized, a lot of bolt-on M&A. That has slowed now, over the last 18 months as the company is focused on integrating Chubb and kind of working on the leverage that was taken on. Can you just talk a little bit about the M&A opportunity in that M&A engine, and ultimately what it means for the consolidated entity?

Yes. So I mean, if you look back over the course of, say, the last 15 or 16 years, we've probably done 90 different transactions, one of which was Chubb. And so, the company has a long history of tuck-in M&A. And you're right. We spent really last year super focused on the separation of Chubb from Carrier, and that's where our priority really truly needed to be. But that -- we encouraged our business leaders to keep those relationships warm and so that we could turn the spigot back on this year. And so, our M&A team is actively working on a number of transactions. There's a tremendous amount of opportunity for us. As we kind of work our way through the year, we're confident that we'll be able to get a handful of those transactions done.

I appreciate that. And in the past, you guys have kind of talked to maybe like a mid-single digit, maybe high single multiple for M&A. We've seen multiples go a lot higher, over the last couple of years. Now obviously, capital is a little bit tighter, maybe there's not as many buyers in the market. Like, are you still seeing those like mid-single-digit kind of EBITDA multiples out there?

Yes. And the entree of private equity into the space has driven multiples up to a certain degree for these smaller transactions. Mean, you kind of have to look at these transactions in buckets, right? You've got the small tuck-in, bolt-on M&A, where you're still going to deliver for mid-single digits, and then you've had some of the larger deals that were trading for significantly higher multiples, right? And that's significantly cooled as the financial markets have tightened. But, when I think about the tuck-in M&A that we're doing. And if we're competing with private equity, say, for a business, the reality of it is they're going to choose selling their business to APi for different reasons, and they're going to choose to sell to private equity. They're going to choose to sell to private equity based on -- 100% on the price. And if that's the driver of their decision, then they're not going to be the right fit for us anyways. Do we need to pay a fair price for the business and for the company that we're acquiring? But we are super focused on culture values and fit. And that business has to fit from that perspective. Otherwise, we know as we work to integrate that business and bring it into the fold, it's not going to work out. And so, I think that the quality of the businesses that we're buying is better. Does that makes sense?

Absolutely. I mean, not only -- what always sits out to me is not only are the multiples attractive, I mean, mid-single-digit EBITDA multiples are hard to come by, but also it's just the ability to kind of leverage the infrastructure investments across all these new businesses that you're buying, and then allowing the company to go after these smaller ticket jobs. Is there a similar playbook opportunity in Europe using Chubb, is that anchor to kind of leverage off of? Or is it really still -- at the end of the day, the U.S. opportunities is so big, that's where all the focus is?

Well, so what we've said is that our focus in 2023 is going to be in North America and primarily in the U.S. And that's primarily because we want to keep our international folks focused on the $100 million of value capture that Kevin talked about, and we don't want to distract them. That being said, the markets, especially in Western Europe, are as fragmented as they are in North America. So, when we feel like Chubb in our international business and has the bandwidth to take on an acquisition. Then, we'll look at the right opportunities to continue to grow that business in a similar fashion. So that opportunity is there, just as much as it is here. And the other component of it is, and you touched a little bit on it in your question is like we need to bring this inspection first mindset to our international business. We're starting to. We just had a significant win in Macau, China on a casino property, where they led with selling the inspection. And it's a significant win, too. I mean, it's a great win, and we're celebrating that across the organization because it's kind of like changing the mindset. The old-school mindset is like, let's go in an installation project, and then when that job is over, let's turn around and sell them a service and inspection contract. And to go and win in the already built environment in that business is a significant inspection is a huge win. And so that's one of the things that we're really excited about with that business.

Yes. And me staying on like the organic opportunity. I know the company doesn't love to talk about backlog, doesn't really view that as like an indicator of the business. But -- any kind of color just on how incoming the request, or whatever you do to measure demand, kind of how have those been trending this year? Obviously, a ton of macro [indiscernible] out there.

Yes, it's remaining very robust. And we talked about it at the beginning of the program, end markets matter, like 100%. If you're in the right end markets, the opportunities continue to roll through. Our backlog is really strong. I don't necessarily know exactly what it is, as plus or minus 5% from where it was this time last year and probably very close. I don't like backlog as a measurement because for me, I would actually like to see our backlog kind of come down a little bit because that would tell me that we're being super disciplined in the work programs that we're taking on, which will drive gross margin improvement, which will ultimately lead to EBITDA margin expansion, which we're super focused on. So, I feel like our business is doing a -- I hate saying this, and there's no wood for me to knock on, but I feel like our business is doing a really good job right now from a project selection and a customer selection perspective. And, we haven't seen any slowdown in opportunities that are in front of us. I don't know, would you add anything to that?

No, I think you said it exactly right. Our backlog is maintained at the levels that it has been. And -- but the health and the quality of work in our backlog has improved.

Yes. So honestly, kind of stepping back, we have very stable demand trends. We have margin drivers driven by like selection and Chubb integration. Things that are kind of more internal. And then I guess, yes, so feel about top line, but a bit about margin trajectory. Then I guess the next one is free cash. And maybe one for you, Kevin. The company, at the November Investor Day, kind of showed a plan to get free cash conversion up to 80% in 2025. Can you just kind of talk about the drivers of that over the next 2 years?

So we've talked about 80% as our long-term target, and we're going to continue to move there as we progress to 2025. We ended last year in the mid-50s, and we expect this year to be in mid-60s plus. The big drivers of our continued improvement over the next couple of years: one is, we've seen really outsized growth even for what is a robust organic number that we traditionally put up. We've been north of that. That requires working capital investment. So our expectation as we move into that 2025 period is that our organic growth is going to normalize back to that mid- to high single digits that we've seen. So, that's going to help from a working capital and a free cash flow conversion standpoint. We've invested last year, in the first half of the year, a significant amount of working capital. One of the drivers was growth, of course. The other one was just what we were seeing with inflation, wanting to stay out in front of it. And at the same time, we saw supply chain disruption. So there is significant investment we made, in the first half of last year. You saw us work that down in the back half of last year, and we're going to continue to work that down and expect to not just normalize as we move to 2025, but continue to improve. And there's areas where we can and will continue to improve from just a working capital rate standpoint. The other big driver, as we move to that long-term target, is going to be business mix. So we've talked a lot today, about the growth rates that we expect on the inspection and service side of our business versus the project side of the business. And inspection and service side of the business converts cash flow at a much higher rate, than the project side of the business. So, as we continue to pivot the mix of our business, that benefit is going to show up in our free cash flow conversion rate as well.

I appreciate that. And only a couple of minutes left. Maybe I'll end with one on U.S. reshoring and domestic investment. I'm a former shipping analyst. This is a topic that I've kind of been pounding the table on the past 2 to 3 years. And then, some of the investors in the room have actually asked me like, why don't you ever call out APi Group as a top play on the theme, obviously, very domestic-focused impact into the installed base out there. So, what do you think U.S. reshoring and just domestic investment into the U.S. economy means for APi in the business, over the next however many years this is..

Well, again, I think it's going to be -- have a positive impact on us. And I think that, that's going to continue to be a good thing. I was with some industry peers just maybe 3 or 4 weeks ago. And, it's a smaller group of people where we share some best practices and things like that. And I was talking with different folks about where their business is -- how their businesses are performing and everything else. And like, if you're in semi, if you're in data, if you're in manufacturing, on specifically like food and beverage and things like that, your business is screaming. You know what I mean? it's screaming. And, if you're in commercial office real estate, you're a dead man walking. And...

Still screaming.

You know what I mean? So -- yes, you're screaming from a different perspective. But -- so I mean, I think for us, I think that it's going to continue to be positive. And for us, it's always going to be led with inspection first. And so, that is where you are going to continue to focus our energy and our efforts selling the inspector first, driving service from that, executing the hell out of that and creating really deep relationships with our customers. So then, when they do have more expansion needs, that we're not competing for that business on price. And when we can get to that point where our businesses -- our inspection service and monitoring businesses are essentially covering the SG&A in a branch office. That office is bulletproof. They can be selective on the installation work that they do. It all drops to the bottom line. The gross margins for the installation work goes up. It's just this snowball, it just gets going and going and going. And we've got that recipe written.

Yes -- no, absolutely. Well, thank you both for the time. Thanks to everyone, here in person and also listening in on the web. I appreciate it.

Thank you. Appreciate it.