Jacobs Solutions Inc. (J) Earnings Call Transcript & Summary

Well, good afternoon, everyone. Thank you so much for joining us. I'm Jerry Revich from Goldman Sachs, and I'm really delighted to have with us the senior management team from Jacobs Solutions. We have immediately to my right, Bob Pragada, Chairman and Chief Executive Officer; Venk Nathamuni, Chief Financial Officer in the middle. And we have Patrick Hill, President of Global Operations, opposite from me. Gentlemen, thank you so much for making the trip and joining us.

Thank you, Jerry. Thanks for having us.

So really exciting time for Jacobs. You folks closed the separation of the Critical Mission Solutions business. Bob, for those that are less familiar with Jacobs, can you just talk about how the simplification unlocks value from Jacobs and allows you folks to streamline and drive growth going forward?

Yes. Maybe, Jerry, just to put a little bit of context on why the separation was so important in unlocking that value. I got to go back a bit of time, just a background real quickly. Jacobs, a 75-year-old company that started with deep roots in the engineering space, pretty much based in the hydrocarbons as well as pharmaceutical and other chemical process industries. And over the course of the first almost 50 years of existence really kind of ended up becoming an industry leader in that space all the way up to going public in 1989. During the '90s and 2000s, diversified from an end market standpoint as well as in services and geographies before that, pretty much a U.S.-based exclusive company. And then coming out of the recession for the first time, Jacobs was not growing when we should have been growing and kind of did some real deep introspective reflection on what's our strategy, what's our purpose, kind of where we are. So the first time ever in history did an actual corporate strategy, before then, it was "hey, take care of our clients' business and all will be fine." And in that strategy, and the reason why this is important is that we looked at the -- paid a lot of money to McKinsey, and this is pretty much what it deduces to. You're in great markets. You're in great geographies. You've got great services. You're also in markets that aren't growing, geographies aren't growing and services that you're not really good at. So get out of that double down on where you are. And one of the areas that came out that we felt that we were under-indexed in but was critical as we look forward in the infrastructure space was the water sector -- the water and environmental sector. And so we kind of made it a point to organically do our best to grow in that area as well as if there was an opportunity to accelerate that strategy, do so. And then a year later, had a great opportunity to come together with the world leader in water and environmental CH2M and made that acquisition back in '17. The reason why I took you through that history up to that point is because it's very critical as you look forward on where we ended up. So A year later, we were approached by WorleyParsons to exit the oil and gas sector. They wanted to buy our Energy and Chemicals business. Ironically enough, it was for the same price as what we paid for CH2M. So we ended up transacting on that. And so from 2017 up until about 1.5 years ago, we were strong in the -- we are still strong in the infrastructure and advanced facility space as a result of the acquisition and organically there and had a pretty strong aerospace and defense work, what we call government services, which is the CMS business. But we -- our growth rate and our margin expansion within our Infrastructure and Advanced Facilities business was really, really strong. And the secular tailwinds that we're seeing in the market with all the global disruptors continue to be a really strong growth trajectory. Go back 1 second, that business that we merged with CH2M to create that Infrastructure and Advanced Facilities business. Now at this point, was 2.5x the size it was when we started. And so knowing that the deployment of capital was critical, prioritization between 2 businesses that really didn't have a lot of synergies together. We made the decision to separate knowing that our CMS business was a good business but needed investment in order to continue to grow, and we made the separation. So a long way of answering the question. As a result of that separation, put CMS into a place with momentum where it is a pure play government services company with a really nice growth trajectory and could get the investment that it required and really focusing in on our infrastructure and when I say infrastructure, I mean transportation, water, environmental, energy and power. And then our Advanced Facilities business, which is our life sciences and semiconductor and data center work. And the focus has been tremendous. Just 2 months out of the chute, great sales performance the last 2 quarters of the year with double-digit growth in our backlog and we are positioned extremely well to really take -- to optimize all that's happening in the world.

And really a helpful recap for those newer to Jacobs story on the way the company has compounded historically. So to put some numbers around what Bob talked about the company's compounded earnings at a 14% to 15% CAGR, before that [indiscernible] transactions. So Bob, going forward, what's the growth algorithm for new Jacobs. So historically, roughly half of that really impressive growth was organic half was via acquisitions, what's the new growth algorithm?

We really like our organic play right now. It's not that we -- just -- I just walked through the portfolio transformation over the course of the last, well, several decades. And we don't stay awake at night thinking, "Hey, we're subscale in this area. This could be a nice bolt-on." We like the organic play. We like the markets, the geographies, our service mix really getting into the higher-end consulting and advisory work in addition to our engineering. So it's an organic play. And Venk, I don't know if you want to talk about kind of what that -- what that target looks like going forward?

Yes, absolutely. So as Bob said, really well positioned to participate in a lot of the secular mega trends that are ahead of us. And so from a capital allocation standpoint, obviously, we want to invest in the organic growth. And for those who are not that familiar with the story, the last quarter, we introduced this concept of having the entire business in the view of 3 major end markets, so water infrastructure, call it, roughly 30% of our sales. We have advanced life sciences and advanced manufacturing, another 30% of sales and then critical infrastructure, that encompasses transportation, railroads and others is the other 40%. And -- and so we look at it holistically from the standpoint of all these end markets and how we can capitalize on the growth opportunities there. And what we have stated publicly is that for fiscal '25, we expect to grow our top line by mid- to high single digits but also concomitant with that is margin expansion. So last year, fiscal '24, which ended in September, we did about 12.8% EBITDA margin. We're now guiding to 13.8% to 14% EBITDA margin for fiscal '25. And so -- and then we'll provide a lot more color in terms of our longer-term growth story at the Investor Day that's coming up in a couple of months.

Super. And in terms of the organizational performance metrics, can you gentlemen talk about how have the incentives for your direct reports, how they change following the completion of the successful...

Sure. Maybe I'll take it in 2 phases. Our long-term incentives, which did not change and our short-term incentive. Our long-term incentive, and this would be for kind of the top 100 in the company is -- has been and will continue to be based on EPS growth and ROIC. Our short-term incentive though has changed a bit. Still a big piece of it is on our operating profit generation, our EBITDA percentage as well as now we put in a revenue growth percentage as well. So can't get revenue unprofitably, stick with the EBITDA percentage as well as our revenue growth. And then -- all of that equals 90% and then 10% is -- 5% on a carbon emissions goal that we have, especially tied to our sustainable -- I'm sorry, sustainability-linked bond. And then we've entered another target with regards to our global integrated delivery and the volumes that we're doing in that area.

And what -- that's interesting, what proportion of your volumes are in global delivery at this point, Bob?

Right now, of the available amount of work we do, it's about 10%.

And to hit the high end of the goals, what kind of performance?

Probably 12% to 14%.

Very interesting. Where can that go over time? How high can they get?

It's difficult to say. The reason why is we look to Poland and India and Philippines as our talent centers that are driving that metric. However, if you look at any one of our jobs in today's environment, and maybe Patrick can talk a little bit about it, there's not a single job that we do that has personnel that's exclusively based in 1 location, right? So we're really taking that global talent, integrating it with the expertise that we have around the world and then delivering the solution locally.

Yes. The only thing I'd add, Bob, is I think that we've demonstrated to ourselves that there is sort of no limit on how we deliver. If you think about some of the really large quick-burn projects with tight deadlines, whether it's in the life sciences and advanced manufacturing area or even in some geographies where -- that have really ramped up quickly in some cases, over 50%, 60%, 70% of those projects delivered from another part of the globe. And so really, we don't see any real limit on it. One of the great things about it is that those locations are a great resource base in terms of STEM graduates. And so we think that, yes, we'll see a continued trend of delivering projects in that way.

And when you are successful in driving global delivery, is it fair to think about the profit per unit labor being double to triple what they would have been compared to just local markets?

Yes. I'd say it depends obviously on the specific type of engagement that we have. But at a very high level, fair to say that the profit pool would be higher, if we could implement it in a global integrated delivery location as opposed to other parts of the globe. And I mean that's part of the margin expansion story for us long term. We've been doing this already for some time, but we think we're going to double down on that strategy going forward, and we'll try to summarize that in the Investor Day.

But just to be clear, Jerry, this is not -- we don't do this for exclusively a cost arbitrage. This is a talent arbitrage right now. After the spin, even though our revenues actually are in reverse, we have -- 55% of our employees are outside the U.S. with over 60% of our revenues being based in the U.S. or U.S. clients doing work outside the U.S. So you can kind of see that global model has really been -- it's not something that we started post spin. We've been doing this for about 20 years.

Very interesting. And in terms of Venk, just to touch on the other margin opportunities? Or what are the other initiatives that you folks are undertaking to drive margins higher?

Yes. So as I said before, our EBITDA margin target for fiscal '25 is 13.8% to 14%. There are 3 main components to it. The first and probably the biggest impact will be the operational improvements that we made in fiscal '24, they will now get annualized so that you'll get the full benefit of it in fiscal '25. That's going to be the biggest driver from an EBITDA margin expansion perspective. The second aspect of it is the global integrated delivery. So to the extent that we can utilize the talent pool elsewhere and optimize the use of the talent pool for projects all around the globe. That gives us a good tailwind -- a long-term tailwind for continued EBITDA margin expansion. And then the last part of it is just the nature of our engagement with clients. So as you know, in the asset life cycle, you can start with consulting and advisory, program management all the way down to O&M. And to the extent that we are able to engage with the client at an earlier phase of the project that gives us the opportunity to expand margins because it's more -- higher-end consulting, if you will. And that mix has been shifting favorably for us, but we still think there's a lot more to do. And so those would be the 3 big drivers of margin expansion on a long-term basis. In fiscal '25, the vast majority of it will come from the annualization of operating efficiencies. But in outer years, we'll continue to deliver on those other 2 aspects of it as well.

Very interesting. And in terms of where can margins get to for some operations that really focused on taking the highest value where they can get as high as 17% margins. But obviously, you don't want to say no to really profitable low capital investment work. How should we think about your aspirational margin opportunity relative to that 17% type best-in-class number?

Yes. We're going to get into some detail around that Investor Day. I'm sensitive to Reg FD items right now, but I think your math is solid.

And in terms of the win rates that you folks are seeing, so excellent bookings last quarter, can you just talk about what win rates have been like for the organization over the past year? And any notable inflection looks like based on the awards, make the things accelerate?

Yes. So we don't disclose win rates because really -- and the reason why I'm not trying to be coy anything there is that a win rate is an internal metric that you can control the denominator on what that win rate is. So in order to be consistent across the industry. I don't know if that's necessarily a fair metric. What we do, do, though, is look at -- so we have that number internal, but we look at our backlog growth and the profile of our backlog as well as gross profit and gross margin in backlog. And as we disclosed in our earnings call, all of those numbers have been double digit for consecutive quarters. And so that really gives us confidence that we're bidding the right work. We're winning our fair share and more and continuing to grow.

And Bob, earlier in our conversation, you mentioned really significant focus is organic growth for the company. In terms of your approach to M&A, so it sounds like it's going to be opportunistic or something across your desk that's a really good fit to look at it, it sounds like the outbound M&A effort is less of a focus here.

That would be fair. We're in the mode of executing on our plan. We've been, again, like I said before, we've been working on enhancing what we have versus continuing to acquire. So right now, it is about operational execution, delivering returns back to our shareholders. And down the road, if there's an opportunity to accelerate our strategy, M&A is not our strategy, but there's a -- if there's an opportunity to accelerate our strategy, similar to what we did with CH2M and PA, we'll absolutely take a look at it.

And can we dig into individual end markets, so water and environmental to start? For CH2M, water has been a good business for you folks, it's really accelerated over the past 3 to 4 years. Can you just talk about what happened within that business that drove that acceleration specifically over the past 3 to 4 years versus historically? And how much runway do you have from a growth standpoint based on the pipeline?

Yes. So Bob mentioned that one of the key things that drive Jacobs and CH2M coming together back in 2017 was really the world-leading skills that CH had in water and environment in particular. And so that has been a big driver for us. If you think about the global trends around the water sector, it is truly a global trend. It's not something that we would say is specific to 1 geography. We're seeing a lot of growth right across the board. And it's really driven by climate extremes. You think about water scarcity like on the West Coast of the U.S. or in arid countries like Australia, the Middle East, a lot of investment in really high levels of water treatment, desalination things like that to mitigate water scarcity issues. The flip side is also true where regulation for sewer spills is driving larger conveyance projects. And so when there's a lot of rainfall making sure that sewers don't spill and so really looking at huge expansions of large channeling projects as well. So there's a lot of activity in the water sector, we're seeing it right across the board and definitely the skills that both the combination of Jacobs and CH together, I think we feel really confident about where we're positioned for 5, 10 years and beyond.

It is interesting, Jerry. We still refer to CH2M -- it was [ about ] 7 years ago. 47% of our population doesn't know what CH2M and Jacobs legacy this legacy that because they've been with the company for 7 or less years. So that integration is something that we really, really focused in on back in '17 and '18. And we're starting to see the benefits of that.

Very interesting. And last quarter, really attractive 13% growth. It's -- can you talk about -- is that -- an outlier is that the sort of comps that you expect over the next couple of quarters based on the backlog burn?

We've -- if you look at the year and all the quarters of last year, from memory, I think we're very strong in the water and environment sector. And so we think it's a pretty strong trend. If you look at some of the projects that we announced late in the year, once again, very large project in California where we're looking at advanced water treatment project there. Similar types of projects in our pipeline, if you look at some of the things that are happening in Singapore. We're just about to move into the next asset management program cycle in the U.K. regulated environment, so AMP8, really large water programs being delivered there with the likes of United Utilities and other utilities there. So certainly, I think that -- we think that the trending that we saw in '24 will continue for '25 and beyond.

And Jerry, if I could add, the other advantage of some of these water projects is that they are 2 to 3 years in terms of execution. So we get some good visibility beyond fiscal '25.

And in the water business, specifically, so ENR data suggests that your market share has gone from 6% in 2019 to 13% in 2023. Is that consistent with what you track? Are you folks gaining share on apples-to-apples basis? Or is the market moving towards your products? Can you touch on your views?

I think we're gaining share. We're definitely gaining share because it is -- our product is our skill set and our expertise. What has also enhanced our ability to deliver these world-class solutions has been the use of digital platforms and the use of data. So if you look at some of the -- we have a partnership with Palantir, we've got proprietary software platforms that are extending the asset life cycle for these facilities that Patrick was talking about and reducing chemical consumption, energy consumption. And actually, in 1 case, delivering energy back out to the grid with the biomass offshoot. So there's a lot of great stuff that's happening in the water market.

Well done. And in life sciences and advanced manufacturing. So last quarter, you spoke about it on the call, that there was an impact from customer cancellation in the quarter, 3% net revenue growth as a result. What is the underlying level of growth that we should be thinking about for the life sciences and advanced manufacturing over the next couple of quarters? And will this headwinds continue beyond the reported quarter?

The headwind will not continue beyond the reported quarter. I'd say there's 2 indicators of our life sciences business being right in that range that we stated for the corporate range is the growth in our pipeline and these -- the bookings trends that we saw in Q3 and Q4 of last year are continuing on. The number of billion dollar-plus biotech facilities in our pipeline is probably at an all-time high. And these are clients that we've been doing work for, for several -- I was going to say, several years, several decades. In fact, Dr. Jacobs was a former Merck employee. So our DNA is in that space, no pun intended, but the future looks very bright.

And can we pull on that thread, in terms of the bio manufacturing side. So if we were to strip that piece out separately, is that a $1.5 billion sort of run rate?

I'd say if you took this piece out, it's probably around mid-single digits would have been the growth for that for the quarter. And then what we've guided to for fiscal '25 is that the life sciences and advanced manufacturing piece of our business will grow close to mid- to high to single digits.

Then you're saying what is the life sciences component of life sciences and advanced manufacturing. It's 80% of it.

80% of it. Okay. So bigger than we thought. And then in terms of the semi cap side, so you folks have a really strong position in terms of your offerings, what we're seeing in the beta is really high level of new capacity coming online, but a lower level of capacity additions that was planned a year ago. I'm wondering, it doesn't sound like you folks are seeing bookings slow at all. Can you just talk about what you're seeing in that market? And if that's the case, what's driving your share gains?

Yes. So I'd say in the semiconductor manufacturing world, what has changed for us is the diversity in the client base as well as in geography. For decades, we were -- and we still are the engineer of record for Intel. And from '18 all the way up to '23, a lot of our semiconductor design work, fab design work was specifically for Intel as they were going through a pretty significant ramp. Since that point, and obviously, Intel has kind of come to the end of that CapEx cycle and looking to do some other things, our client base is diversified really on the backs of what's going on with regards to AI-enabled chips and our AI chip sector. And on that even more so around the high bandwidth materials in companies like Samsung and Micron, starting to ramp up their production.

So it just sounds like you're gaining share. Are you also seeing a benefit from a content standpoint that you alluded to, Bob, in terms of the rising investment in AI. Does that drive multiplier effect in terms of what's required from Jacobs?

It does from a capacity standpoint. So manufacturers trying to build capacity as well as the reshoring aspect back to the U.S. That is also driving that as well.

Very interesting. And can we talk about critical infrastructure, so growth was of 1% in the quarter. When we thought up post the quarter, it's a big difference of what's going on in the U.S. versus the U.K. Can you touch on the trend differential?

Yes, absolutely. Patrick, do you want to take that one?

Yes. So we've seen very strong growth in the U.S. and that's been stimulated a lot by the IIJA bill that was signed back over 3 years ago now, and we probably saw maybe a slightly slower ramp in that than what we probably would have liked, but certainly seeing a lot of committed funds for that and probably still yet to peak, we would say, in terms of the infrastructure spend. So that's driving I think, some nice tailwinds in the U.S. We probably saw a little bit of disruption in markets like the U.K. and Australia. So U.K. change in governments, changing priorities, a bit of disruption there, probably a refocus in terms of the budget settings. So we saw probably a bit of a slowdown in the U.K., maybe similar in Australia, the 2 cities that really dominate the Australian market are Melbourne and Sydney and both of those state governments probably slowed their transportation spend a little bit. So the growth that we saw in the U.S. offset a little bit by some of those other geographies. What we're probably seeing now is a greater level of stability in the U.K. change in government, set their policies, set their budgets at their priorities. And similarly in Australia, probably some really good news that we had in Q4 was we announced on -- probably the largest transportation project for that country and probably one of our largest opportunities for the year which we secured late in the year as well. So that would be a project that will be a really intensive project for us in the next couple of years in terms of delivery but it will have a tail all the way to 2030 as well at the Torrens to Darlington project. So overall, we think strong tailwinds in the U.S. and now better, more stable base outside of the U.S. So we feel -- we feel like that critical infrastructure is pivot as a stronger period of growth.

And Patrick, you characterized the U.S. growth is very strong. That sounds like a double-digit type cadence to me? Am I understanding you correctly in terms of performance in the quarter?

I think in critical infrastructure, I don't know whether I would sort of say that it would be double digit. I think there are elements of it that are. So within that end market, we would include energy and power as a subcomponent of that. We definitely feel that, that is a double-digit area of growth for us. Some of the other areas, I think, definitely very strong whether it's mid- to high single digits, it's hard to put a figure on it. But overall, I think that in the U.S., it's a good market.

And if we -- Jerry, overall, holistically, if you look at the 3 big end markets, what we've stated publicly is that on the water infrastructure, we continue to see really strong growth with critical infrastructure is going to be more towards the mid-single digits. -- and then life sciences will be more towards the high end of it. So that's how we characterize it across the 3 major end markets for us.

Sure. Thank you, Venk. And Patrick, in terms of the awards in the U.S. specifically, what we're seeing in the contract awards data at state level across all ranges of projects, we're seeing a slowdown in the rate of contract awards that is essentially consistent with low single-digit type revenue burn 12 months out. It sounds like you're seeing stronger demand than that.

Yes. So I think that we've seen a good level of consistency in terms of contract awards. And if you're specifically talking Jerry, about the critical infrastructure area. Yes, I think that -- we've seen good consistency. And if anything, we're seeing an uptick in trending there. One of the things that we are seeing is probably some of our historical state government clients shifting their mode of delivery. So historically, they might have traditionally delivered projects where they would separately procure design from construction and so they're now looking in terms of getting things delivered at pace and for simplicity for their own reasons, looking to bundle up design and construction in a new delivery model or an alternative delivery method that definitely opens up opportunities for us, I think, in terms of accelerating the amount of work that happens in the industry and also sort of slightly changed the margin profile as well. So we're definitely seeing a trend there in the way that we're looking at the last 4 years versus the next 4 years, there will be a lot more alternative delivery method delivered.

Super. PA Consulting, on the last call, heard more optimism from you folks from a top line standpoint. Obviously, the execution has been good in a soft environment. But can you expand on what you're seeing in terms of the potential for growth to reaccelerate?

Yes. So I'd kind of point to 3 metrics. The first, we track utilization within PA. It's now hitting -- back to hitting marks that it previously hit in the '22 time frame -- early '22. The volume of work being done on a weekly basis, those trends are also going in the right way. and then the backlog and the pipeline. So overall, it was a soft couple of years, while the business did a great job at maintaining margins, which a lot of consultancies, especially with the exposure in the U.K. we're not able to do that. So we think the business is really -- is in good shape. What gives us probably the most excitement is, if we look at that same period of time, we've been an investor -- we had a position in PA for -- in March, it will be 4 years is the number of collaborative opportunities has quintupled. So each year, gone up from maybe $50 million to $100 million -- stated $100 million for a couple of years. That number now is over $500 million of collaborative opportunities in the pipeline, and we're winning. We announced a few really key awards in the U.K. and in the U.S., both in transportation and energy and utilities.

Relative to the annual revenue for PA, what's the revenue burn from collaborative work?

It's still -- I mean, as an overall percentage, it's still less than 10%, but it's on the rise. The optimism comes from the pipeline.

Very interesting. And based on this $500 million, where does the 10% go to roughly?

Significantly higher.

Well done. And utilization for this type of business. So when utilization is up, means people are billing the customer instead of Jacobs and PAC. So margins going back to 2022 levels is when I think about what I hear utilization back to those levels? Is that reasonable or any...

No, it is. And that's where they are now, right? So maintaining those margins and then continuing to build on the top line.

On top of memory, I thought '22. You folks were a couple of points higher. Okay. And in terms of the market in the U.K. for PA Consulting. It sounds like there's been with government stability and acceleration. Can you just expand on what you folks are seeing in the U.K.?

Yes. PA is has got a really strong presence with the public sector, non-DoD or MoD in the U.K. as well as with MoD as well. During this turn of the election and maybe a bit of instability in parliament, that was -- that was the part that was put on hold. That has now returned. And on top of that, what government in the U.K. is doing is looking at digitization and further transformation of government, which is where PA comes into play from a consultative support standpoint. So that's building on that backlog. In the U.S., it's really been centered around energy and utilities and life sciences on the real front end part of the life cycle of a molecule.

Super. Thank you. Please join me in thanking Bob, Thank you, and Patrick and Venk for joining us today. Thank you, gentlemen.