EMCOR Group, Inc. (EME) Earnings Call Transcript & Summary

I'm pleased to have EMCOR Group, both Tony Guzzi and Mark Pompa. Tony Guzzi, Chairman, President and CEO; Mark Pompa, Executive Vice President and CFO. Gentlemen, thank you guys for making the trip here to Nashville.

Tony, maybe just -- I'll turn the floor to you. I think a lot of folks here familiar with your business would just be fantastic to get kind of a state of the union of the business, the current trends before we get into some specific topics?

Yes, sure. I mean how many are familiar listen to the earnings call, just got to dig gauge on the room for most people.

All right.

Look, business is strong. We talked about that in our first and second quarter earnings. We revised guidance up on the -- really the [ EPS ] and profit is being driven by margins. I think we had revenue pegged about right when we started the year at $12 billion to $12.5 billion. What we didn't see at the beginning of the year was the strength that we maybe we're going to have in our execution and in our margins. And what's driving that is, I think, some underlying things that we've been investing in from the types of business we're doing. The mix of work that we're doing today. We knew what the mix was going to be, and it turned out to be a better execution mix than we maybe had thought at the beginning of the year. And I think also, along with that, we've been growing organically in the face of really growing remaining performance obligations at the same time, both on a pretty healthy level now for about 11 quarters. And so what's really driving that, right? No one is good enough to make markets when you're a contractor. I mean some manufacturers make markets, R&D companies, we don't. We take the playing field we have and we figure out how to best to put our team on the field to play on that playing field the best we can in -- you could say we bet right, right? We thought about where to position assets, how to train assets to be ready for a lot of things that are happening in the economy today. And that's both from a skills basis, but also from a geography basis. And if you think about the big trends driving our economy right now, you think -- we read every day about reshoring and on-shoring. We just had a whole panel on that. And then you think about the semiconductor build. And it's more than just a semiconductor, the whole ecosystem that has to go with that to do the semiconductor build. And then you think -- I always think about the energy transition expansion EV value chain. That's undergoing. I happen to think it's an energy expansion. You can't possibly do all the things we're going to do without expanding the availability of electricity and the assurity of electricity. And you think about health care, and all that has to happen before even the pandemic but coming out of the pandemic to make hospitals and health care facilities more flexible and usable. And then finally, a trend that's been driving really, I've been part of for 35, 30 years is sustainability on buildings and energy efficiency. And you put all 4 or 5 or 6 of those things together and you say there's a lot of intersection there. And what do they have in common, if you're going to exploit those opportunities? You have to have really good skilled trades people to be able to build with. And that, for us, encompasses the electrical trades, the mechanical trades and the fire life safety trade, which is a subset of the mechanical trades. And we have leadership positions in all of it. And we also positioned well geographically. If you went back 15 or 20 years, we wouldn't have been able to do what we're doing today because we didn't have the footprint. And we've built that footprint both through organic investment, following our customers in some cases and also investments into assets, whether when we bought Batchelor & Kimball down in the Southeast, Southern industrial down in the Southeast, PPM in the Southeast. And we spent 5 to 6 years integrating some of those companies to help them get on the leading edge of specialty contracting, and that's just a couple of I could go on. And that allowed us to build that southern tier of what we're doing and to be able to serve these customers today in a more holistic way. And we also do that in the Fire life safety trade. We've been doing that for about 15 years. And as these projects become more advanced, they need specialty contractors like us to be able to do it. I do think there's been also a change in the market of what constitutes value as far as who's really delivering the value. Clearly, the engineering firms are delivering value. A lot of general contractors have turned more into construction managers to bring it all together. But the speciality trades, I think people realize, over the last 5 years, especially how important we are to the execution of the contract. And that was a school of thought, if you go back 5, 10 years, I mean, 10 years beyond, let's try to get this project into as many small pieces as we can so we can maximize competition on this project. That doesn't work emphatically when you're doing data center semiconductor plants, health care facilities. You have to have a sophisticated contract. And part of what's driving that is the necessity to do building information modeling. To have engineering assist go on so that you can value engineer while you're going and design for constructability. And then you have to be able to make the prefab investments to be able to take labor out of the field, to be able to do it more consistently to deliver these big projects. So the state of the union is good. We talked about that in the second quarter. And you can see the growth in RPOs there -- and obviously, with what we did with guidance, we believe the state of the union is good. Mark?

The only thing I would add to Tony's commentary is that -- and you touched on our diversification. When you look at the measuring point through the first half of this year versus last year, we've seen growth in both revenues and profitability in all of our reportable segments, and we maintain very good liquidity and cash conversion during the process. So where we see strength in the business going forward. The good thing, albeit there was clearly some trends that impacted performance in the first half of 2021. With supply chain, we certainly saw some moderation of that -- I'm sorry, in 2022 in the current year of 2023. But clearly, the business is in a good place. We have plenty of work in front of us, but ultimately, we have to grow and execute every day, as Tony said. And I think we have the team to do that.

And one of the things we've done a lot of over the last 12 years or 15 years is we've built a culture of execution and value, right? I mean people understate that. We really buy into. We're mission first people always culture, things like transparency matter to us, mutual respect, safety, teamwork, integrity, discipline. We're becoming much more disciplined contractor. This company runs on transparency. It runs on mutual respect, which allows us to attract a great workforce, and we expect to keep our workforce safe and we invest in that and train in that. So the leadership training we've done has fundamentally changed our company, and that's the thing you don't see every day. But we see it in spades every day with the kind of people that were privileged to work with.

That's good. I mean -- you look at your stock, it's been phenomenal. As a team, you've demonstrated you can create a lot of value. And I think at least the market's as a better...

It almost appreciates us.

Well, we can get to that. And I think the market at least is a better understanding of some of the end market drivers for you guys. Tony, maybe that comes back to what you comment there. What do you think gets overlooked about EMCOR's capabilities of the markets you're in right now?

Well, I mean, I think we've helped the transparency, right? We had to find the right time to do it to break out commercial. I mean, again -- maybe we're just guys that execute work right and get work and think a lot about building a great workforce for the future. One thing we didn't understand is while everybody say commercial. Well, everybody know what was going on with offices, we were like, okay, but there's always other things we can talk about. And we finally said that and said, we need to break that out more. We need to show you what's going on with advanced manufacturing and semiconductors, we need to show you what's going on with some of these other sectors, bio-health and all that. And I think that's helped, right? So you can see more of what's driving "amorphous world called commercial" which is really an acronym for a big chunk of private investment. That's really what it is, right? So I think that's been helpful for people to understand us. I think one of the things that I still think people get confused about -- I think they think that we take risk differently than our place in the chain. And what I mean by that is sometimes we lumped with EPCs that take massive risk on the delivery of a project. And they're really taking the risk of -- is that facility going to produce what I said it was going to produce. We have a small part of our business. We do some food processing work that way. Even then though we put it on the manufacturer that supplies the equipment. We'll do chiller plants that way, but that's tiny compared to. I'm going to deliver you a refinery. I'm going to do offshore [ went ] EPC but we're emphatically not going to do, right? So we typically work on a defined scope of work that we might help develop. We may engineer assist that, very rarely or either engineer record on anything substantial. So what we're taking for our risk is the execution risk of our trades people to install and build or service the scope of work we said we could do. So you don't see these mid 7-, 8-figure losses consistently with EMCOR. Yes, jobs fades sometimes and jobs go up, that's a different thing. But we don't have these catastrophic losses. I think when you're looking at the -- and we don't take the big district -- [ risk ] that others take or pipeline risk that others take. That's not the business we're in. I also -- people don't think realize of the low capital intensity that's in our business versus other people that are in this space because we get lumped together with people that spend a lot of capital and take outsized risk. And really, we're not those guys, we have a couple of maybe comparable peers you know who they are. But I mean, we're a little different. We look -- in a lot of ways, more like an industrial company that chugs along, and we worry a lot more right, Mark, about return on capital employed, return on invested capital, return on net assets, and then we do margins on any given day. We get margins in a band, and we say, okay, we're executing. And now it's just based on the mix we're doing and how well we're executing.

Yes. And then the only thing I'd add relative to the question that you asked is, I think with all the focus as of late and certainly the panel that Tony participated in earlier the work that we're performing in those areas tends to be larger contracts relative to our history. I don't want people to lose sight of our still -- for small project capabilities. I think as they exist. It's still a large driver of what our businesses overall. As a consolidated enterprise and is extremely profitable. And I think...

We're really good at it.

Everybody likes the projects that take fabulous photos, the trophy projects. But ultimately, at the end of the day, the thing that really makes #1 -- some of the projects in the lower contract value realm, which we add a lot of value for our customers, we're able to execute to get in and out. And obviously, because we are a large procure of equipment in the supply chain and we're able to guarantee better certainty than a lot of other people in our space.

You really see that in our building service, mechanical service business, right? Mark. And people don't realize how much of our construction business is at actually too. The difference between the 2 is -- most times in the building services space with the mechanical services. We're working directly for their owner on those chain dots or they're directing the work. And there we are doing more quick engineering say, yes, that will work, and you'll save this in the energy, and this is how we're going to do that.

Tony, you guys are positioned in one of -- at least the largest data center markets in the country, if not the world, we had you on a panel a year ago talking about the data center market, you had things continue to evolve. Maybe how you're seeing that overall for your business and how that's informing your views of that market?

Yes. We spend a lot of time thinking about it, worrying about it in the sense of, okay, are we going to have the resources to be able to do what we think we're going to do, what's demand look like in these markets. Demand is strong, right? And I said it in the other panel, we were sitting in investor meetings back in May. And a couple of analysts came in and said, "your stock was moving that day and they say you're moving because [ NVIDIA ] said ex and you're part of the AI trade. And we're like, I have no idea what you're talking about, right? That's way above my pay rate, right? Well, we leave that to you guys. But the point there being that it was like a revelation that data centers were going to continue because AI. Now we were pretty sure our customers saw that a couple of years ago. And we never saw a slowing of the build plans. If things are slowing, what people sometimes lose sight of in big trends is sometimes they plateau for a little bit. They may even go down a little bit and then they come back up. Some of that is just a retrenchment to a new design. Some of that's a new technology. It could be as simple as permitting. It could be a simple, okay, what does the 3-year power supply look like down the road, are we going to be able to get power into this location. I think up and to the right is where we're going to be with data centers. They're all kind of different technology going on inside, whether it be air cool or liquid cold, that really doesn't matter to us at the end of the day. The electrical drives that job. And then we do mechanical, which also is quite healthy in those work. But start with the electrical. You think about -- these are 40 to 50-megawatt facilities. I said it earlier, I mean, think about -- go back to another thing we're talking about or you transition, that's 1,500 acres of solar panels to do for data centers. So if you think about what that mix is really going to look like long term. It's not going to be also on, right? It's going to be everything. And -- so we play at every one of those junctures. And I feel good about the data center market, Mark. We studied it all the time.

Yes. I mean, clearly, with all the greenfield construction that's going on, it's been quite good to us. But at some point, there's going to be a whole retrofit process.

We're starting to see that.

Right, which clearly we're going to participate in. The one thing that we've seen with the customer base here is that they like certainty of completion. And ultimately, they liked the partner pretty consistently with the same -- service providers.

I think data centers, a great story around EMCOR. We started as a data center builder primarily in the Mid-Atlantic in 2005, 2006, maybe even before that 2001. I wasn't here, but Mark was. I mean I was doing in another place, and I saw the data center build starting in 2001 and I was in air conditioning business. And we kept those skills, we kept those relationships. We're working with people that are working for different companies. But a lot of it is based on trust. You've got to be able to execute. And we see a contract go [indiscernible] they were 5 and 10-megawatt data centers, and we thought they were big and they had this huge central cooling plants. So some still do it that way and some do it in a different way. And then we saw a rasp of it quite frankly, built a little more in 6 or 7. And then we saw basically nothing for 4 years, 5 years. And so those highly skilled people we had. They wouldn't do something else, but they still know how to build. They kept in touch with all their contacts. A little bit happened maybe in [ '13, '14 ] and then maybe from [ '17 ] on is when this growth has happened. But while we were doing that, right, we started to think about what other markets might exist and how do you build the skills in those markets. So we were doing that in Mid-Atlantic. We've had some really talented people and Oregon and Southern Washington, they pay attention to what's going on in the ground. Our local operators are way smarter than us about reading what's going on and understanding their customer base. We take that, we think about it, we think about where we're going to invest. And with our -- the key position here at EMCOR is not Mark and I as that subsidiary CEO and their team. And the segment teams. And we thought about how to invest in that part, and then we built a big data center business here electrically. And then we've moved it around, right? We've built that capability out in Utah. We've built that capability out in Arizona now. We have that capability through Batchelor & Kimball in Oklahoma. Georgia, South Carolina. We acquired into a couple of markets like Texas electrically. And so -- but then you think about, okay, how do you think about these customers where you're going to serve them where you can, get a greenfield another place, but it's not something we did historically until about 2 or 3 years ago, but we followed a customer build out a crew in Columbus, Ohio. To do mechanical work as we saw an opportunity there. And these are very thoughtful people to think about how to move a customer, and there's always this balance between building the capability and the resources to when you'll take the work. Because ultimately, if we can't put the foremen, the superintendents, the project managers on the field that are trained, we can't grow. We usually can find the skilled labor, skilled labor will find its level. And we look in those cases especially on the data center side of being a union contractor in the semiconductor side and some of this advanced manufacturing work has been a real strength. In places where we're not union, we are doing more industrial contracting work in some places in the Southeast. We're helping build the whole plant. We have that capability to Mark, any add on?

Yes. Really nothing much to add there. I think clearly, with some of the supply chain issues and getting switchgear and other related equipment, we certainly saw low in activity last year, which I think people probably misinterpreted what that is and maybe we didn't do such a great job of communicating it.

We don't like decline...

At the end of the day. But clearly, the demand is not weakening from our perspective where we could participate. Like I said, we have valued relationships with the people we've performed these projects for historically, and we're looking to maintain those relationships as we go forward to continue to be provider of choice for them as they execute the plans.

As far as the supply chain, lead times are horrific yet. So some of the delays you're seeing, so [ Mr. Roy ] and I were having a debate about solar panels. He probably knows more about that market than I do today. So I'll defer. The reality, there was tough supply there, probably still is. Maybe there's spot surpluses. But to get them in scale to do a 200 megawatt. That's probably not an easy thing to do today. But everything else that goes around a solar field or a data center, switch gears, 42 to 52 weeks. Generators 52 weeks plus. Chillers, even a basic chiller, 30 to 35 weeks. Smart panels, 42 to 62 weeks, transformers, Anybody have a 1-year-old -- they may be in kindergarten before that gets delivered. The supply lead times are horrific. We learned how to operate in that world. Now we're just delivering against those bad supply. We had that respect of about 8 -- 6 to 9 months where we were like, okay, we have a dislocation here about the work we're supposed to be doing versus what we thought we'd be doing. Look, we had a little bit of labor while we were doing that. You have to keep your form and you have to keep your superintendents, you know the work is coming. And so we made -- that's an investment. We made a calculated decision. And that's where we make the decision. We make the decision at the supervision level. And then you sit there and take a step back. So they're gonna be delivered now. We know how to work in that environment. They're about 85% delivering when they promised. Their suppliers have gotten much better to them. Most of them are down to normal lead times now, but commodities have gotten much better like wire and pipe and things like that. Anything that's assembled material lead times are still bad. I think it has to do, they can't find enough labor to add that extra shift or do it. And as someone who used to pay a manufacturer of these kind of lead times or go out of business or lose massive share lead time now we just accept them. I don't know. I mean we buy them. I could give you the 15 excuses why I hear that, but from raw materials somewhere Ukraine will come in there, right? And then maybe we'll throw the China invading Taiwan and there -- and bunch of excuses. I just don't think they put the investment and they need to do service the market they have in front of them. They've got great pricing, so off they go.

Could we jump to impact of regulation on the business. I think of sort of things like the [ AM ] Act, HFC refrigerants winded down to 2025. What impacts that having on the business now, what could it have in the future?

Yes, this is, the third sort of go around with refrigerants that I've seen in my career. We know -- people know how to do this. We had CFC refrigerants, right? And we were depleting the ozone so we can't do that anymore. So we went to HFC refrigerants, right? And so we had R-11 and R-22. There still R-22 machines out there today, very few R-11 left just by age. And R-22's will be gone sometime in the next year or 2 or 3 years, right? This is old now. And somehow, we've managed to supply that market, even though most of those things phased out production wise 5 or 10 years ago. There's a big reclaim market refrigerants where you bring it out, the machine is finally shut down, you reclaim and it goes to a reclaimer they purify and it comes back out. Now price has gone up on all those. So that gives you an incentive to change out. But a refrigerant change out is not going to drive your equipment decision. Then you went to 123, 134, which is 410A. They were non-ozone depleting but then they had the other impact, right? They put more of a blanket because there was no ozone depletion. So these things contributed to more of a the greenhouse gas effect you here, right? And so we did that. Now we're going to -- they have A1, B1 -- this table of refrigerants you can use, and it goes and all were less efficient than the current refrigerants, right? Now it's not 20% for the most part, less efficient, but it's 8% or 10% less efficient. Now at the same time, you're telling manufacturers that all these condensing units and rooftops have to be more efficient. In the future, right, with the executive rule making. So what are you going to do cost is going up, right? And so cost is going to go up on equipment. But no one's going to rush and replace equipment because they think costs going up because of refrigerants, no one is on the margin, a few people will do it, but that's not going to be a driver of the business. And so now you'll go in this period where the new refrigerants will come in. Some people will wait until they see this stuff produced for a couple of years to make sure everything is working the way it should. Others will just do normal replacements. Efficiency will stay about the same because you'll throw more copper at it, you'll throw more aluminum at it. You throw more controls at it. you'll throw a more variable speed at it, and you'll get to an efficiency level that works and the bigger it is easier it is to do that. The smaller stuff, it gets more problematic as you're dealing with the homeowner like, oh, my God, that this went up 15% Why? Well, refrigerant then caused this niche, right? You want the efficiency. And it's really not going to slow down replacement because energy prices are going up. And so as a result, I think the paybacks are going to stay about the same because we have energy prices going up against a backdrop of less efficient refrigerant and more copper more -- so I don't think it's going to have a dramatic effect on changing out the economics around equipment change-out and energy efficiency projects. I think what it does for us is a little bit of complexity. We'll have another can in the back of the truck and back of the van. We have a one for 410. We have one for R-22. We have for R134. Depending on what our chiller guys are working on 123 or 134. Now they'll have another one for what, 435A whatever it's going to be in that [ candidate in, offer will go ]. And then we'll have to have the reclaimers will come in and we'll figure out. We're pretty smart about this. We'll figure out what that's worth. And we'll figure out who to be in the best partnership to get the best trade on the refrigerant we're extracting to go be reclaimed. I mean all stuff we know how to do. But again, it's not -- the new refrigerants are going to require more sensing because they are more toxic, and they also are more flammable. Now it's on the margins folks. I mean, this is not the people that didn't want to do the change out or act like you're going to light a match the whole room is going to blow up because that's not true. But you will monitor more now than you did before. So most of that will be put into the equipment or put in the air handlers. So that really -- just increase equipment cost, it really won't have anything to do with us. Someone know probably more about that I should.

That's helpful, Tony. I want to ask about the Industrial Services business, maybe the one corner of your company that isn't probably back to where you want it to be, maybe your scorecard for the business, what can you expect from the business this year and if you'd be willing to entertain next year?

Yes, we're not going to do that, but we'll talk about this year, right? We obviously believe it's going to continue to do marginal matters.

That's in our overall earnings guidance.

Look, there's enormous pressure on our customers to keep operating, right? Because we don't have enough output. So there's enormous pressure on our customers to supply gasoline, right, enormous pressure. In a world where they're not real popular, at least they weren't a year ago. They're getting popular again though. I think for us, the way I look at it, if you think about what they do, it's just mechanical and electrical contracting against a set of customers. It's also one of the ways that will play some of the investments that will be made out of the IRA. That's where -- we have solar capability in other places, but that's where the guys in that business to how to do utility scale solar on the electrical side, and they do it very well. We're not doing much of anything this year there. We have pages of bids that are getting rebid today, but nothing is really executing big and as people much better qualified than me to talk about the whole solar landscape, but that's where we play. I think we're seeing the investment in renewable fuels. We've done good projects around there, that's going to continue. It's a great moneymaker for the refiners, all of those credits. And we're positioned on our traditional customer base, we're in pretty good shape, right? The Gulf Coast is going over, and that's the majority of our business. Likewise, though, there are some interesting things that we can use as an optionality on that business that their position in markets that are going to get the most investment when you think about carbon capture and all the other things are going happen. It's going happen in Texas and Louisiana before it's going to happen anywhere. And I just think we're not even in the infancy of seeing those projects and I'll think about where we'll be. We're not going to do an EPC project, where we're going to design a carbon capture system, but we'll be happy to put piping. We'll be happy to do electrical controls on that or electronics on that. We'll be happy to do the [ ID ]. So that's really even started yet. I think the first project is happening somewhere in the [ relationship ] channel right now. We think that could be a good market 2 or 3 years from now. And we have this great source of trained labor. And we just don't think that would be a -- we think it has upside from where it is today. And we have, I think, the best team in the business. And I think if you benchmark them against anybody else, you'd see that, right? We report operating income. EBITDA is a little better.

And they're cash positive, right? Yes. And I think if the refinery base continues to defer maintenance, ultimately there's a potential for increase in scope of what we have to do. Today, we really haven't seen that. We've certainly seen year-over-year improvement. But ultimately, what makes that business more profitable from a margin contribution perspective is the mix of work. A lot of the film work has been more capital in nature, which has a lower margin profile than the traditional fallout service...

If you think about what I said about us keeping those folks at the data center work last year in the spring. It's the same thing there. So our guys are fully utilized on the supervision side but they're doing $10 million or $20 million turnaround at time they're capable of doing $60 million. They're capable of running a much bigger work. And the refiners have really narrowed scope because they got to get back up and running as quickly as they can. One, they're making money. And two, I don't think anybody is going to have a lot of tolerance for gas prices spiking because these guys aren't producing, right? The political side of this gets pretty complicated for our customers. We're not -- that's not our issue, but it's theirs. And I think that if you think about where we are in the value chain, we are the scale contractor that has a lot of interesting possibilities in the future with some great trained labor. And I think -- and we have people that really know how to run that train labor in a safe way to respond to customers.

Good. Gentlemen, we've hit our budgeted time as always, appreciate your participation here. Thank you.

Thank you.

Thank you all.