Centuri Holdings, Inc. (CTRI) Earnings Call Transcript & Summary

Thank you for joining us for this afternoon's panel. I'm Brian Svoka with Morgan Stanley. I am very, very pleased to be joined today by Christian Brown, President and CEO of Centuri Holdings, and Kelly Youngblood, EVP, CFO of Centuri. You know, before we jump into Q&A here, Chris, you're two years into the seat. You've undergone a pretty incredible and active transformation into an independent business, public company. Can you walk us through the journey over the last couple years and really where the strategy's headed?

Thank you, Brian. It's good to be here, and thank you for inviting Kelly and I. Two years, it feels like 20. It's been a busy, busy year, 52 years, I think. Rolling out the VisionOne Centuri strategy early this year, both internally and externally, has given us a key guiding light to where we are trending, and that strategy focuses on really three key drivers. First of all, protecting and deepening the core of who we are and who our client base is. Secondly, expanding our portfolio into those end markets that bring more margin opportunity for us but using the same services. And building a sustainable integrated business model. So VisionOne Centuri across those three areas is who we are, is where we're focused and where our guiding light is. And if I think about what those individual components are, protecting and deepening the core is all about getting closer to our best customers in the utility market. It's about building capability alongside their needs. It's about getting closer to those customers and driving efficiency into their capital needs. It's about scaling up around what those customers need so that we can service them more consistently across both gas and electric. We can provide more and more integrated services there and also expand the margins to which we deliver for our shareholders. Expanding the portfolio, similar. We took a decision on the strength of our end markets to not deviate and to stick to the knitting. So bringing capability that we deploy across our utility base into adjacent industries is allowing us to capture higher margin work within those adjacent industries that have got high growth profiles, such as renewable gas, data centers, transmission, which is part of our business but has not got as much scale, as well as other areas in midstream services. Integrating the business in a sustainable way. You know, we came from an environment where we were part of a great utility, but we were very decentralized. And I think for a contractor like ours to be successful, you need to bring all of the resource, all of the capability, all of the balance sheet, all of the focus, all of the learnings, all of the knowledge together into an organization so you can maximize the value for all. So they're the three strands of VisionOne Centuri focused on our core clients, expanding our portfolio underpinned by an integrated operation. And the output from that, as we communicated, is we believe what we have with our end markets will drive into a minimum of 10% organic growth rate each year into our planning horizon of the next five years. We see that working together collectively affords us margin expansion, so we believe our base gross profit will get towards 10%, and I think it gives us a good platform as we learn more about our business as we separate from our former parent into a standalone contractor, gives us a good platform to go even further in the future.

That's helpful. So laying out the strategy and establishing the standalone strategy was a piece. It's also building the team, and there are several new faces in the C-suite. Can you walk us through some of the changes, the rationale for those changes? Yes.

I think before we talk specifics around people, we've got to go back to first principles. You know, two years ago, we were still a subsidiary of a public utility. It's only 12 months ago did we become totally independent. So over that period of time, we've been maturing into where we would like to be, which is a fully integrated service provider that maximizes value for all stakeholders and shareholders. Step one, when I came into the business, was to do some block and tackling. There were some elements of the business that needed to be strengthened around go-to-market, build good backlog into the business at good margins so we could manage utilization, get a presence in the market, get a position in the market that came across as one Centuri and not separate OpCos. More recently, you've seen a significant amount of investment, net investment needed in our overhead to build the tools, some advisory help, some capability in the near term that really takes us to where we are today, which is now adding to our teams so that we can drive sustainability. We can drive margin expansion and implement capital efficiency. So we've made three recent, we brought in three recent additions to the team, Kelly joining us to lead as CFO. We're pleased and proud he's joined our business, and he brings everything and many years of experience that we need to get to where we need to be on those two key elements of margin expansion and capital efficiency. Danielle Hunter has joined us, coming in as General Counsel, as well as General Administration Officer. She brings years of experience around building back office capability, operational support, as well as legal support. And then finally, but as importantly, Mike Christie, who's got over 25 years in our utility industry, has joined us as Group Development Officer, and his role in life will be to drive the deepening and the cross-sell of our organization, which will underpin margin expansion, but also work very diligently in building capabilities so we can achieve our strategic goals and objectives. And I think with those three additions, we've now got an exceptionally strong team that will lead us to success in the future.

Okay. Well, Kelly, welcome. Thank you. And as you continue your welcome tour, I think it would be helpful just walking through your background a little bit and also what attracted you to the opportunity at Centuri? Where are you going to be focused and, you know, first 30 days, what are the initial observations? Yes.

And thanks again for having us here, Brian. We appreciate it. Yes, as Chris kind of alluded, I've kind of been around a while. Started my career at Halliburton, one of the largest oil field service companies out there. Worked there for over 25 years in various roles. I worked international positions, domestic, corporate, ran their Investor Relations group for several years. And a big company like that is kind of great because even though you're working for one company, you feel like you have a lot of careers within the same company because they move you around quite a bit. I physically relocated my family seven times during the career and got a lot of good development from Halliburton. But since Halliburton, over the last 11 years or so, I've held three other CFO positions at Diamond Offshore Drilling, which was a public company. I went over to BJ Services, which was a spinoff from Baker Hughes. That was a private equity-owned company. I did that for a few years. And then most recently, over the last six years, I went to another public company, MRC Global, which was a distributor which was actually heavy into the gas utility business. So it's not completely new to me. Electric's a little bit new to me, but gas utilities I've been involved with. So that's briefly my background. And as I was trying to, my last company actually merged with a major competitor last November. I took some time off, and as I was trying to determine what I was going to do next, this opportunity came up. And I was honestly being very picky about what I wanted to go into next. I wanted a company that was, that had tremendous growth potential, had a good balance sheet, had a CEO that I thought I could work well with, had a board of directors I thought I could work well with. I was kind of at that point in my career where I felt I could be pretty picky on what I wanted to do next. And this one, Chris was, you know, kind enough to spend a lot of time with me as I was doing the diligence of the company. And listen, it came down, it was pretty simple. When I look at opportunities, I kind of simplify things into the good, the bad, the ugly. And when I looked at the good of this company, it is, the top line is just, there's a phenomenal growth opportunity for Centuri. I mean, it's grown, you know, first half 33% year-on-year. And Chris and the team have laid out a strategy to have double-digit growth out through 2029. That's great. The backlog of the company is incredible. So the top line and the growth potential of this company is just, you just couldn't really ask for more. And then when I got into looking at kind of the cost components, looking at the reputation of the company, and things like that. Chris has kind of touched on it. There's some opportunity that we have that we're already addressing on improving margins. There are some things around capital efficiency that need to be done. But the things, you know, there's really nothing major broken here. It's just some growing pains. You know, when a company grows this quickly, there's just going to be some growing pains or some speed bumps that you have to deal with. And I think there's already a good plan, there's a good foundation in place that Chris and the team have put in place here over the last couple of years. And I think with the team that we've got now, it's just pulling the right levers to take it to the next level. So I'm really excited to be joining at this time. That's great.

Congratulations, thank you. We're glad you're here. Chris, can we touch a bit on performance through the first half? How you see the second, the second half shaping up? I want to pull on the margin thread a bit. You've mentioned it a few times, clearly a focus. And then really just what are you hearing from your customer base on spend and outlook?

So let's, yes, the first half we've added a couple of slides into the deck which is on the website, provide a little bit of a nuance, an explanation rather, around the nuances within our first half of the year. We had a good first half this year, as Kelly just alluded to. We've demonstrated the ability to find work, win work, and push that to the revenue line. We added over $400 million more revenue compared to the prior year, which was up 33% in the first half of the year. Good quality work, bit at higher margins. So we're pleased with that. If we look at the focus area and that is converting that revenue into incremental margin, and you just refer to the bridge we've provided, we believe the underlying incremental margin from that work was at 11.6%. But equally, during the first half of the year, we kind of had three headwinds. The first headwind, which I think was signaled to everybody but probably not understood, was around our changing capital allocation. And that change in capital allocation, you know, when we went public and were spun out of Southwest Gas, we had a net debt to EBITDA of 4x. We were spending $100 million a year servicing the debt, and we had a fleet program which was fully funded by balance sheet cash. And none of that was sustainable to us. We needed to improve, de-lever the balance sheet, improve liquidity so that we could be sustainable. And the decision we took was to instead of fully funding the fleet with cash, we went to a 50-50 mix of own versus lease. That has had a positive impact on our ability to generate cash. It's allowed us to invest in new businesses, and I'm sure we'll talk about a couple of those. It's also allowed to build some sustainability into our business and also de-lever the balance sheet. The short-term trade-off for that was there was an impact on our margins. It wasn't that we booked work at a lower margin. It was the impact of some of that changing fleet strategy that couldn't be passed on to customers immediately. Where we sit today in the world, the short term is basically the pricing on that fleet, the new fleet structure has been pushed into all of our bids that we are currently working on over the last few weeks. It's been pushed into the new MSAs, and there are some legacy MSAs that will renew over the next period that have yet to be updated to the new fleet pricing. 30% of those legacy MSAs, most of which sit within the gas business, will be renewed during the course of the year, this year, 30% into next year. And by the time we close out '27, there'll be a small amount still remaining, but it'll be sort of de minimis upon de minimis when it looks at the impact upon our margins. So that $9 million was a big impact in the second quarter. We think most of it has now been wound out of the work we've bid with a little bit in the legacy gas business that will take some time to unwind. The second impact was fuel, diesel. We drive 120 million miles around the U.S. and Canada each year, and we pay for that diesel at the pump. The war in Iran has really hurt that, and we had about a $9 million impact, comparable in terms of impact as the fleet in the second quarter. We've fully projected what that needs to be in the second half of the year, and where we have renewed and where we continue to renew contract pricing. We've been pushing that into the cost base and passing that on to our customers. So we think that will become less of an impact as we move forward. And then the third impact on our first half of the year is we built capacity into the business to actually deliver the backlog growth. And that's a good thing. We added 1,700 new people into our business in the first half of this year. 1,200 of them were in the gas business. And yes, there was a $3 million or so impact in the second quarter, but the real impact is actually the fact it takes time for those 1,200 and the overall 1,700 people to become productive. Right. And where we sit today, two months into the third quarter, the workforce additions are now at a level where productivity is normalized. And I think that will not be an issue for the second half of the year. So all in all, I believe the incremental margins were 11.6%. The near-term headwinds we believe will pass through. And if I look to the second half of the year, there are a couple of messages I would give. Clearly, we've only got July and August results, but the 9% commitment in the second half of the year to overall base gross profit still stands. We don't see any downside pressure to that. We see the gas business, which is a fundamental impact on margin dilution, trending very nicely above the 7.5% we committed to. And I think the incremental revenue we anticipate in the second half of the year, we see the base gross profit being 10% plus, and that's included in absorbing the cost of the fleet and also the additional diesel cost in the second half of the year. So we see really the second quarter as a little transitional, borne out by where we believe we'll be in the second half of the year.

Okay, back on balance sheet and capital allocation priorities. Obviously, you've brought down leverage significantly since the time of the IPO, sitting 2.5 to 2.6 today. Longer term, where are you comfortable? You've obviously been an acquisitive business in the past. I think we'll get to that shortly, but what's the right level, steady state, and where are your capital allocation priorities today?

Yeah, listen, I think the team had laid out in the past, there's really no change to this guidance. We're trying to get below 2x leverage or around 2x or so by the end of the year. We're on track to do that. That's a very important priority of the company at the moment. When we look at capital allocation, funding, just the organic growth that we're experiencing, which is accelerated growth at the moment, is a high priority. That's probably the #1 priority. And as I said, trying to get to this 2x or lower leverage by the end of the year, and we think that will continue to go down further even in 2027. And then looking at M&A, bolt-on M&A opportunities is something that we're very focused on. You know, there's been two acquisitions done just in the last year. I'm sure Chris will probably cover that here shortly. But there are a lot of other things we're looking at to add additional scale. We would like to have more scale in the business. I think there's some geographic diversity that we would like to achieve. And M&A that would get us access to new customers or underserved customers, that's an important priority for the company right now as well. I think we got the question in the meeting earlier today about dividends or buybacks. That is not a top priority at the moment. That's further down the road. We've got this, as we mentioned, this significant level of growth we're dealing with at the moment and trying to get the balance sheet a little bit cleaner. Those things will come in time, I believe, but just not here in the near future.

Okay. On the M&A front, between Connect and more recently J.J. White, can you touch on what that really added to the platform? An update on how the integration process has gone? In our view, following the story for a long time, it's really Centuri getting back to their DNA. You guys have been an acquirer. That's how you built the platform, a mix of organic and inorganic growth.