Henkels & Mccoy Group, Inc. (MTZ) Earnings Call Transcript & Summary

Good day, and welcome to the MasTec, Henkels & McCoy Acquisition Conference Call, initially broadcast on Monday, December 20, 2021. Let me remind participants, today's call is being recorded. I'd now like to turn the call over to Marc Lewis, MasTec Vice President of Investor Relations. Marc, please go ahead.

Thanks, Kyle, and good morning, everyone, and welcome to the Henkels & McCoy acquisition call. The following statement is made pursuant to the safe harbor for forward-looking statements described in the Private Securities Litigation Reform Act of 1995. In these communications, we may make certain statements that are forward-looking such as statements regarding MasTec's future results, plans and anticipated trends in the industry before we operate. These forward-looking statements are the company's expectations on the day of the initial broadcast of this conference call, and the company does not undertake to update these expectations based upon subsequent events or knowledge. Various risks, uncertainties and assumptions are detailed in today's press release, the company slide presentation and our SEC filings. Should 1 or more of these risks or uncertainties materialize or should any of our underlying assumptions prove incorrect, actual results may differ significantly from results expressed or implied in these communications. Today, we will refer to a slide presentation in today's prepared remarks, which will be reviewable through the webcast, and will also be available for download in the Events and Presentations area of the Investors section of the MasTec website at www.mastec.com. It's a great transaction for us, so let's get right to the details. With us today, we have CEO, Jose Mas; and CFO, George Pita. I'd now like to turn the call over to Jose for his commentary on the transaction. Jose?

Thanks, Marc. Good morning, and thank you for joining us today. This morning, MasTec is proud to announce that it has entered into a definitive agreement to acquire Henkels & McCoy Group, 1 of the largest private electrical power transmission and distribution utility contractors in the United States. Founded in 1923, the company has been family-led throughout its history. What began as a tree trimming and landscaping company, Henkels & McCoy has grown into an iconic brand with a safety-first culture servicing electric utilities, communications companies and pipeline operators. With the culture of investing in talent, we are proud to soon welcome the over 5,000 team members of Henkels & McCoy to the MasTec family. With a shared tradition as family-led businesses, we believe there is a strong cultural and entrepreneurial fit. I have long admired Henkels' competitiveness, culture and strength of talent. Ironically, my first responsibility in our family business in 1992 during Hurricane Andrew was managing the Henkels & McCoy crews that had come to support our business in storm restoration activities. I learned some of my most valuable and important lessons in my interaction with their team nearly 30 years ago. It is truly an honor and a privilege for me and the MasTec family to continue and expand the Henkels & McCoy legacy, and I am greatly appreciative of the confidence entrusted in us by Rod and Paul Henkels. While for several years, I've often thought about the benefits of this potential transaction, the right time is now. With changes in electrical transmission and distribution needs, our customers have a clear goal of modernizing the power grid with a focus on reliability, wind and fire hardening, renewable connectivity and growth in electrical vehicle usage. Our combined service offerings will allow us to provide our customers with cost-effective solutions at scale to meet their demands. This transaction will double our transmission and distribution resources, expanding our presence in the Northeast markets and the Northwest, where MasTec has traditionally been underrepresented. More importantly, we are adding significant additional crew and equipment resource capacity. This transaction also further diversifies MasTec's business mix. Our power transmission and distribution business is expected to represent approximately 25% of MasTec's total revenues in 2022 and improve our ESG profile while reducing our oil and gas pipeline segment to under 20% of total revenue. Our customer base will also diversify as Henkels & McCoy's largest customer represents less than 10% of its total revenues. With an estimated 70% of revenues derived from master service agreements, this transaction will also enhance MasTec's recurring revenue profile. Before getting into details about the Henkels & McCoy business, I'd like to walk through the transaction consideration. Total consideration for Henkels & McCoy is $600 million with customary purchase price adjustments. The consideration is comprised of approximately $420 million of cash, a portion of which will be used to pay off indebtedness, and approximately 2 million shares of MasTec common stock. As it relates to Henkels & McCoy, revenues have averaged slightly over $1.5 billion over the last 3 years with consistent utility revenues, offset by more variability in communications and pipeline revenue. Full year 2021 revenues are estimated at approximately $1.1 billion in utility-related work, $250 million in pipeline work and $250 million in communications. Financial performance has been impacted by a couple of projects in recent years. Challenges with a communication customers large project impacted both profitability and cash collections in the last 2 years and challenges on a large pipeline project also impacted results. With the pipeline project completed and resolution in finality slated for 2022 in relation to the communication customer, we believe we will be able to provide the level of focus and investments needed to help Henkels take advantage of the significant opportunities in their markets. We believe that the cash flow constraints from these 2 issues impacted their ability to appropriately invest in its business and maximize their margin potential. Current EBITDA margins in the 4% to 5% range meaningfully trail the peer group. Aside from challenges in communications and pipeline, current SG&A of approximately 12% significantly exceeds MasTec's rate of approximately 5%. We believe these are areas of opportunity for the combined entity. With the opportunities we see across all of our segments, we believe we will have the opportunity to maximize Henkels' leadership. Our business and success is about our people. And in a difficult labor market, we are excited about the talent we will be adding. We believe the long-term margin profile of Henkels & McCoy business is similar to MasTec and should be performing at high single to low double-digit EBITDA rates over time. Included in our acquisition slide deck, which is available both on the webcast and on our website, we have included charts on both MasTec's business mix in 2021 as well as our expectation for 2022 and beyond. It is important to note that in October of 2020, just over a year ago, we laid out a long-term goal of achieving $10 billion of annual revenue in a depressed oil and gas environment. At the time, we were projecting roughly $6.3 billion of annual revenue for 2020. As 2021 materialized our long-term prospects developed and our visibility in achieving our goal improve. Today, as Slide 7 shows, we are providing an estimate for 2022 revenues of approximately $10 billion comprised of approximately $2.4 billion in our power transmission and distribution segment with about half of that coming from the Henkels & McCoy acquisition, approximately $2.5 billion in our clean energy segment, $1.8 billion in our oil and gas segment with about $200 million coming from Henkels & McCoy and $3.1 billion in our communications segment with about $150 million coming from Henkels & McCoy. We've also added our potential near-term revenue slide to $12 billion based on the growth opportunities by segment and now expect potential revenues of $3 billion to $3.5 billion in our power mission and distribution segment, $3 billion to $3.5 billion in our clean energy segment, $1.5 billion to $2.5 billion in our clean -- in our pipeline segment and $3.5 billion to $4 billion in our communications segment. We also included a slide found on Page 9, which shows margin by segment for both 2022 and longer term. Margins are in line with prior expectations adjusted in 2022 for the Henkels & McCoy acquisition. While we would normally not provide guidance this early, we wanted to provide our current best look at 2022. Please note that these estimates for 2022 are based on having similar results for Henkels & McCoy as in 2021 without assuming any improvements in operation. Included in these estimates for 2022, we've also assumed MasTec legacy oil and gas revenues of $1.5 billion to $1.6 billion in the lower level of our long-term expectations. While we're seeing a growing number of opportunities, our current visibility has many of these starting in 2023. To recap, today is an exciting day for MasTec and its team members. Henkels & McCoy represents the largest acquisition in MasTec's history. This transaction transforms our power business. It adds significant scale and capacity to our power delivery business, enhances our cross-selling opportunities to their customer base, and coupled with our communications and clean energy business positions MasTec to take advantage of the many opportunities afforded to us. Again, we look forward to soon welcoming the Henkels family and their team members. We hope they will find a home where they continue to be challenged, inspired, motivated and rewarded as they continue to lead the industry and provide value to our customers. This concludes our prepared remarks. I'd now like to turn the call over to the operator for the Q&A session.

[Operator Instructions] We take our first question from Andy Kaplowitz with Citigroup.

Congratulations on the deal. Jose, just looking at Henkels, obviously, less than 5% EBITDA margin, you talked about the business being high single digits to low double digits over time. I think you can get SG&A as a percent of sales down. But if you look at communications and pipeline, what if anything is different about Henkels' communication and pipeline business that keeps its margin so much lower other than the underperforming work? Is it just that? And then how difficult will it be to get those segments margins up over time?

Yes, it's a great question, Andy. And I think there's a couple of really important things to think about. At the end of the day, Henkels' is a private company, right? And they've had significant challenges on a small number of projects, which we thought was really important as we evaluated it. And to us, the biggest issue wasn't even margins, it was cash flow, right? So I do think that Henkels has been severely impacted in the last couple of years relative to having to just manage their business, making sure that they were dealing with their customers and getting appropriately paid for what they did. And in that I think it really limited their ability to invest in those things that would improve their business. So as you know, our business has been growing. The industry has been growing. Everybody has been doing well. And I think they've been hampered by the cash portion of those issues. So I do think that the fix hopefully will be faster, will be easier because we'll have the opportunity to invest in the right businesses that are growing. We'll have to obviously go through the customers, which they have issues and deal with them. But we think throughout 2022, we'll be able to address that, and we're really excited about our momentum going into 2023 with both our regular business and I think, more importantly, with the Henkels addition.

We take our next question from Alex Rygiel with B. Riley.

Jose, exciting acquisition for sure. There's a component here of a turnaround as well as sort of a growth catalyst to your business. Historically, you acquired a lot of smaller businesses that were really just growth catalysts. So can you talk about this in the bigger context of it being somewhat of a turnaround as well as a growth catalyst?

Sure. Again, I think it's really important to break up the pieces, right, and truly understand where they haven't achieved the margin potentials that they've had and where they have. We're buying an iconic brand. I mean, Henkels is a fantastic company with great people. I think our business ultimately is all about people. And if you look around our industry for many, many years, it's -- there's Henkels' people that have grown up through the ranks in just about every major company that's out there, and they're extremely well respected for being talented, for being good. And I think I'm super excited about what that adds to MasTec and what that brings. So I think that's the most important thing. When you look at potentially rectifying the issues that they have, especially the bigger ones that have impacted the last couple of years, again, while it's a turnaround, I don't think they have severe issues, right? I think it's very identifiable things that we're going to be able to impact very quickly and hopefully turn around a lot faster than we think.

And then secondly, the operating margin synergies appear quite significant. But at this time, you're not including that into your guidance, and I thank you for your broader guidance here for both this year and next year. But why not include that this time? And is that something you'd possibly offer up upon closing of the transaction?

So I think so, Alex. We haven't closed the deal yet. We've done a lot of due diligence. Obviously, this was a transaction between 2 companies that have been competing in the industry for a long time. So our ability to dive deep into the operations was somewhat limited. We understood that. So I think that we will have a much better indication of that as time goes on as our ability to really get in there and fully understand the company materializes. We wanted to be very clear as we put very early numbers for 2022 out there. We understand that there's a very conservative nature to this. We've taken a very conservative look at Henkels, but we thought it was important to put something out to help people model 2022.

We take our next question from Steven Fisher with UBS.

Congratulations as well. Just a follow-up again on sort of the actions that you need to take to improve their 2 lower-margin businesses. Can you just talk about what sort of cash investment that might require? And what exactly do you need to do to fix it? Or are there literally disputes that need to be resolved? Is it claims or the restructuring? What actual actions do you need to take to get those margins up? And then sort of what are the milestones over the course of '22, should we be looking for to see that that's happening?

Sure, Steve. So a couple of things. First, when you think about the pipeline business, the projects have completed, so it's truly about rightsizing the business relative to the opportunities that are in front of us. We obviously have a very good pipeline business with very good operators, good relationships. There are relationships that they have that we don't, so there are things that they bring to the equation. What you'll find with both that and communications is it's already declined from a revenue perspective, right? So the run rate of pipeline is significantly lower than what it's been. And while that would normally be problematic, it actually helps us because there's less issues to deal with, right? So it's really incorporating them into our business and trying to figure out how we maximize the revenue potential. On the communications side, their issues have been driven by 1 large project that I think the industry has talked about ad nauseam. It's been a rough project for just about everybody. It was difficult for Henkels as well. That project is nearing completion. It will be fully finalized by 2022. We've got a good relationship with that customer. We hope to be able to bring some resolution to the issues that they've had and hope to start really turning that around from a financial perspective. So look, if those are the 2 major issues and we can get through them relatively quickly, then I think our outlook on this business significantly improves. And we're hoping to be in a position during 2022 to be able to talk about that. When we look at their power delivery business, the business has performed well. Again, there's probably areas where we think there should have been more investment that would have helped them maximize their profitability. But again, I think the cash flow implications of the issues that they were having really impeded their ability to do the things to make their business what it could have and should have been, and I think we'll be able to do that for them.

We take our next question from Jamie Cook with Credit Suisse.

Congratulations on the acquisition. I guess 2 questions. One, on the SG&A side, 12% of sales relative to what your SG&A is. I'm wondering, are there any structural reasons why their SG&A is so much higher because that seems like a large opportunity? And over time, can we get to where your SG&A lays in terms of percent of sales? And then also, just trying to understand what this means in 2022 for the cash flow generation of your business or free cash flow conversion, just given some of the issues that they're having? Or is it an opportunity that you feel like you can get these issues resolved? So that would be a positive for cash flow in 2022?

Yes, Jamie, great question. So on the SG&A side, look, I think one of the -- again, one of the issues that they've had is they've been in 2 businesses that have shrank over the course of the last year in pipelines and communications relative to the customers and the issues that they had. So I think that's part of what's driving the business. Again, one of the things that probably most excites us about this is the talent that we're picking up. So we're not viewing this as having to go in and shave a lot of costs and take a lot of people out with all of the growth opportunities we're seeing, we think we're going to be able to redeploy a significant amount of people in the areas where we think we can significantly raise utilization levels and more importantly, drive much higher margins based on the combined entity and the combined talent pool, and that's how we're looking at it. So very exciting for us. As it relates to cash flow, outside of those 2 issues, our cash flow conversion is actually really strong. And again, with those 2 issues being minimal as we go into '22 or shrinking as we go into '22, we think their cash flow profile will be significantly better in '22 than it's been. So we don't expect it to be a negative drag on cash flow for us.

And then, Jose, one quick last one. On the T&D margins, just based on my math, I would have expected them to be higher, just given where some of the peers lie. Are you comfortable that there's an opportunity with the margins? I'm just trying to think about how we get the margins higher over time.

100%, Jamie. So again, I think the challenges have been that they haven't had the capital to invest in those business to maximize margins, right? When you're struggling on cash flow with other customers and you're having to rent equipment instead of buying equipment or making decisions that based on short-term cash flow issues rather than the right long-term decisions to improve your business, I think they've also had to face that. And while the margins in that business have been better, I don't think they've been optimal, and I think we'll be able to optimize them.

We take our next question from Marc Bianchi with Cowen.

Just following up on the last question there about the margins for T&D. I didn't see you make any comment about that. We've got the communications and pipeline margin that you mentioned in the slides. But I was trying to do, I guess, some similar math to Jamie there. But can you just comment on where those margins are and maybe what the expansion opportunity is in '22 and beyond?

Sure. So again, SG&A drives a big piece of their business. Their power margins have been in the high single-digit range, again, which is not where the peer group is today, but it's not terrible either, right? So we think that we can continue to improve that for the same reasons we just talked about. So I think there's great opportunity there, but it obviously performs much better than where their other businesses have performed in the last couple of years.

Okay. Okay. Switching over to communications. So the $3.1 billion for '22 on the revenue side, I think if we go back a couple of quarters, you said around the same number for '22, and you're getting a bit more revenue here with the M&A, but I also would have thought some of the building of some of these 5G delays or sort of pushing to the rights would have also put some upside into '22. Can you just kind of talk about the trajectory of how the communications revenue opportunity shaping up? And maybe what some of the moving pieces have been since the last update that you provided?

Yes. I mean we used about a $3 billion number for legacy MasTec. We added in about $150 million for Henkels. There's really no more math than that. It shows really nice growth for our legacy business, assume no growth for the Henkels business. I think, look, there's tremendous opportunities on that side. We've obviously won a lot of work. We had significant backlog growth in Q3. We've talked about increasing backlog growth again in Q4. We think that with this transaction, we're going to have the opportunity to move a lot of people and to have resources to really help us potentially even grow that. We haven't taken any of those into consideration in our numbers. Again, the whole idea behind providing 2022 numbers was more in line just to kind of set a base rate. We know there's a lot of conservatism based on that. And hopefully, as we get in more information and we get into the beginning of 2022, we can update that.

We take our next question from Justin Hauke with Baird.

I just had a question on the claims that -- it sounds like there's still some cash claims that are out there. I was just wondering if you could quantify how much that is? And when those are collected, are those going to accrue to MasTec or will they go to the former owner? I don't know if there's a carve-out of those or not.

We don't want to get into the deal specifics. I can tell you that it's -- it really doesn't impact MasTec. We're not overly concerned with it. So there are things that have to happen with those customers, but they don't really impact MasTec.

Okay. Well, I was more just wondering about the cash that would come in as those are settled but -- okay, it won't impact.

Yes. It won't impact MasTec.

Okay. Are there any other kind of outstanding liabilities at all that we should assume here, any pension or legal liabilities or something else that would be worth calling out?

Yes, nothing out of the ordinary. And again, outside of those issues, the cash flow profile for them has been very good. Okay.

We take our next question from Brent Thielman with D.A. Davidson.

Congrats as well. Jose, any history you can share on the trajectory of the power T&D business specifically, I guess, over the last few years? And I think you mentioned there was some sort of resource constraints there.

Yes, Brent. Look, I think anybody in the industry recognizes the brand, recognizes the name. Again, I think they've done a tremendous job of building a great brand. It's really focused on safety. It's really focused on customer service. I think they're extremely highly regarded throughout the industry. They've grown substantially over time. Obviously, it's a good-sized business. With all that said, in the last 3 years, they haven't grown to their potential because they haven't had the capital to invest in those areas where growth has been really available. And again, I think that's one of the most important parts of this acquisition and transaction is going to be our ability to invest in those areas where they have tremendous opportunity. Again, we're not monetizing that today, we're not putting dollars behind that as we think about 2022, but we think it's the biggest potential in this transaction.

We take our next question from Noelle Dilts with Stifel.

Congrats on the transaction. First, I have a few housekeeping questions. So I was wondering if you had the split of transmission versus distribution and then wireless and wireline. And also, I see there's quite a lot of a nice customer list that you have in the presentation. But if there's any particular customer concentration that we should be aware of?

Yes. So maybe starting with the end. No customer makes up more than 10% of revenue. So they have really good customer diversity. On the communication side, it's predominantly all wireline. They do very little wireless. Although there's probably opportunity there, especially with some of their power crews to work in the energized space. Again, very little activity for them on that. And then I'd say their heavier distribution to transmission, but a significant portion of both.

Okay. Great. And then again, I appreciate the initial guidance on 2022. Anything we should keep in mind in terms of sort of the cadence of revenues and earnings through the year? I guess, specifically looking at telecom, how are you thinking about these FCC, FAA conflicts and how that impacts sort of the pace of work through the year?

Again, since they're not -- they don't have significant exposure to the wireless market, that shouldn't affect them. We will probably give a much better indication of quarterly split on our year-end call. Still a little early for us to do that. But again, they're a very stable business that's been performing at a similar level for a long time. So there's really good history on that. We've got, again, there's a very large recurring component to their business. So we think it's a very predictable model that we'll be able to discuss in detail on our year-end call.

We take our next question from Adam Thalhimer with Thompson, Davis.

Congratulations. I guess the only thing I was going to ask, can you talk high level about the T&D market? Because that's really what you're picking up here? And then also where you see the biggest near-term growth potential. So what are you seeing in the market that made you want to do this deal now? And will this immediately make you kind of a solid #2 in that market to Quanta? Or do you kind of see yourself growing into that role?

First of all, from an industry perspective, I know we've said it a bunch, but we keep seeing it. We keep feeling it right. We could never have expected what's going to happen in the markets that we're in, right? The power delivery, as we know, it is changing before our eyes, utilities all over the country are making massive investments in modernizing their grid, hardening their grid. They're worried about renewable connectivity. They're worried about electric vehicle usage and how charging impacts, local networks. So all of that is creating an enormous amount of demand for our services on the electric side of the business. And while we obviously play in it today and we have a relatively nice chunk of our business, this significantly enhances that. You're 1,000% right. This is exactly the reason that we're doing this deal is because what it does for us on that side of the business, we think that between the reputation of their business and their legacy and ours. We're going to continue to be able to grow in that business and provide our customers with a great offering and a great solution in a market that we think is just going to grow leaps and bounds. And that's exactly why we're excited. We think there's going to be tremendous opportunities across all of those areas. We think this is going to help us significantly on the on the clean energy side as well, as you think about unions, this is going to be a real catalyst for us to do a lot of clean energy projects on the union side, which we've been somewhat limited before. So just a very exciting business opportunity for us relative to what we see in the marketplace and what we see from our customers.

Okay. But they don't do clean energy business today?

They do some portions of it, right? So they do some of the electrical work. They don't actually do the wind farm construction and solar farm construction the way we do it, but they do portions of it which is important, right? Which is an element that we can grow off on the union side.

We take our next question from Alex Dwyer with KeyBanc.

This is Alex on for Sean this morning. Congrats on the acquisition. So you guys are highlighting labor and equipment capacity as 1 of the positive elements on the transaction. We're just curious on how long you think it would have taken to build up as much T&D revenue organically in light of these resource constraints?

I mean the easy answer is adding 5,000 qualified people is probably something that cannot be done organically, period. Are we still on, operator?

[Operator Instructions] It appears there are no further questions at this time. I would like to turn the conference back to you, Mr. Mas for any additional or closing remarks.

Sure. Again, thank you for joining us today. We look forward to updating you on our year-end call and again, looking forward to welcoming all of the Henkels' family to the MasTec family in short order. Again, thank you for participating today.

This concludes today's conference. Thank you for your participation. You may now disconnect.