Quanta Services, Inc. (PWR) Earnings Call Transcript & Summary

Good morning and welcome to the 8th Annual Crédit Suisse Industrials Conference. My name is Jamie Cook, and I'm the machinery and engineering and construction analyst at Crédit Suisse. [Operator Instructions] Today, I'm very pleased to have with us Quanta Services, who has been on a pretty incredible journey when you think about transitioning the business to a more recurring earnings model while sort of capitalizing on the secular growth tailwinds that the markets lie ahead. With us today, I'm very pleased to introduce Duke Austin, who's the President, Chief Executive Officer and Chief Operating Officer; Derrick Jensen, Chief Financial Officer; as well as Kip Rupp, who heads the Investor Relations efforts. So thanks, everyone, for being here. I wish we were in sunny Florida.

But I guess I'll kick it off with the first question. Duke, it's probably more appropriate for you. You sort of transformed the portfolio of Quanta. As you think out over the next couple of years, how would you differentiate the markets where you view more secular growth? You know what I mean versus cyclical. I think of cyclical like your industrial services businesses. Maybe renewable or some of these other areas are more secular. So why don't we start there? Because I have plenty of questions for you.

Yes. Thanks, Jamie. I think when you look at the business and you look the sentiment of carbon-free technology, electric vehicles, I think Quanta is positioned to enable that along with our customers on the infrastructure necessary to deploy wide-scale renewables, our sweet spot. So in general, if we're going to move power from east to west, west to east but the grid is not connected, so large transmission will be necessary. You go to the grids in Europe, they're 3 to 5x greater than we are in the U.S., the corridors, and that's what enables them to go to this carbon-free environment. And when I think about it, the customer base that we have is really there to make sure that we can facilitate that. And where we play in that, whether it be transmission, the distribution side, it's about electric vehicles. As you start deploying electric vehicles in masses, the distribution system becomes taxed and it's -- it needs to be modernized. So the modernization of that will play in EV. You've got a 5G. That's -- and it's technology. And as it goes into suburbia as we've seen now with work at home or whatever it may be, we're sitting in the middle of that with the Googles of the world and others where they're moving that forward. And I look at the company, very similar. Amazon was a book company at one time and changed itself to a logistics company, so they enabled all the technology and different things in the world to happen. I'm not saying we're Amazon by any means, but I will say that from a sentiment standpoint that we're enabling all that to happen on any given day. And I'm proud of where we sit and our ability to put craft, skill and the engineering capacity along with our customer base to deploy that over time. It's a multiyear deployment as you see them modernize and you're seeing the capital spend, which if you look at our customer base, by the end of the year it will be closer to 70% than it is at 60% will be backed by utilities.

Okay. And then obviously, very good competitive positioning in the electric transmission business and in your industrial and pipeline business. But if you think of the communications business, that's an area that's a huge opportunity. Maybe you're a smaller player, and this could be another leg over time. So one, can you talk about your expectation for 2021 wireline versus 5G? It sounds like wireline spend has been a little more -- it's been a little better because of COVID, et cetera. But how do you see that playing out in 2021? And then over the longer term, where could Quanta's competitive positioning go in communications as well as margins over the longer term for that business?

Now I think our margins are getting very close to parity with our electric segment, certainly in double digits at this point. I expect them to stay there. And then we'll grow as fast as we can keep them. I don't want to grow past margin degradation. I think we can scale it to the $1 billion level like we talked about. We're around $500 million plus this year. That growth -- that kind of growth is there, probably not as fast this year. Maybe we'll see where it gets next year. But in my mind, it grows nicely over the next 3 years to $1 billion-type revenue run rate. What drives that? In my mind, you've got a lot of fiber in the home coming back due to COVID. Everybody needs more bandwidth. You can see the intermittencies and things that you're having all the time. But the 5G deployment in suburbia as it moves out in the line of sight, it's going to be really what finalizes that top side growth for us. And that's convergence of the utilities with the carriers, whether it be a municipality getting our docs spend on -- when they're pushing out the funds in the regional areas, all of our electric cooperatives are looking at those lines, so a very good place for us to gain market share. And I think we've done a nice job with it, and we're growing it. Look, we're pleased with where we're at, and I think the growth rates remain, and it certainly is a growth area.

I guess then 2 questions on that. One, as you see the growth ahead, does Quanta need to invest, you know what I mean, in order to capitalize on growth either organically or inorganically? And does that have implications for margins that it could weigh on the margins before -- understanding margins are parity are close to -- with electric power now. But could it go down before we go up because of the investment required?

Yes. I think in general, we would weigh those things as we look at different opportunities. You saw us buy an engineering company this year. Really about 30-plus percent of the business, but on both all 3 segments, what I consider the front side of the business that we don't capture today. And you'll see the company moving forward and being more fulsome in those kind of services to our customers because they're asking for it and they want certainty in their spends, and we want to be able to do that. And the front side of the business is delaying what we can do in the field, then it's a problem. And so you're continuing to see us facilitate that while our customer base is giving us differently every day as we collaborate to make sure that they can spend the capital that's necessary on any given day. That's what the investments that you're seeing that we're making. Will it facilitate growth? Yes. I would say we'll look at acquisitions like we always have. But it's the growth rates that we talk about, we're not talking about acquisitions as part of Those would all be additive and stacked.

The additional, Jamie, is I'd comment that, honestly, over the last 3 or 4 years, telecom margins being below that double digit was really associated with exactly what you're talking about: the level of effort we are putting into growing the business, deploying into the fixed cost of the G&A structures, bringing the people on, et cetera. So that's what was putting pressure to get to this point, so we think that the largest portion of that pressure is effectively behind us.

Okay. And then, Duke, I guess the other thing I think that's sort of different for Quanta is just LUMA. So can you help investors understand the strategic importance of LUMA and why Quanta was chosen? Sort of where we are in the transition of PREPA's T&D operations to LUMA? And then -- and Derrick, whether the earnings you guys talked about or the contribution is still the right number? And then I guess are there more opportunities or catalysts like this ahead in 2021? Or is this something that it's a few and far between? You know what I mean? Because it's just so hard to get this type of relationship cemented.

I would say, Jamie, we worked on it for 4 months. And it was a long process that us and ATCO, our JV partner there, I think we did a nice job of putting together the right team, along with buying in there and bringing the funds and learned a lot about how to help federal funds are deployed, how to capture those as we move forward and where we can sit in that space. And we have learned things. We're really proud of what we've done so far. It's going nicely. We're going to make a difference in Puerto Rico. We'll make a difference for the people. We'll make a difference to the island. We're going to modernize that system under the capital spends that they've said and appropriated, which is around 10 billion to 12 billion that's associated for PREPA over the next, call it, 12 years. And I think when we look at that and our ability to deploy capital for utility and what ATCO can do on the generation and how they handle customer service, we're going to have a world-class utility that will leave, and it will show the breadth of Quanta as well as ATCO here. And I think it was a great -- from my standpoint, we always talk about how we collaborate with the customer. Well, there it is. Proof of concept, we talk about it all the time. That's it, and it was us working together for something that we both could facilitate. The -- what we're doing out of the transition phase is it should end around June and July in my mind, and then we'll go into contract for a 15-year period. It's a fee-based contract, not required with capital, and we are building college on the island. I think there's some things that we can do there because we can transfer people in and out as well from Puerto Rico into the States without having visas and big issues. So there's some transferability there. We will definitely have some opportunities there. On the other side of that, you've got the fee on one side, which Derrick can talk about how that works. And then we also have the capital that's going to be deployed that we'll have an opportunity to bid on, like we do with everything else. We have opened a Quanta office on the island, and expect to win work.

Okay. And -- sorry, go ahead, Derrick.

So Jamie, to answer your contribution question, what I'd say is look, it's $0.07 to $0.08 here in '20. Looking into '21, I think we could see it be above a $0.15 contribution. When we get into full commencements, as Duke talked about, let's say that's a '22 time frame, we've said quite openly that we thought that you get into a $0.25-type contribution. But that -- and that's for a 15-year window post-commencement, right? Now...

Understand.

What it doesn't include is there are inflation factors to be taken into consideration. That's not included in that $0.25. There are incentives that we have on an annual basis. That's not included in that $0.25. And then to the extent that we would be able to, as Duke spoke of, participate in any way of being able to do any of the construction associated with any of the FEMA funds, that would also be upside opportunity for us and it's not included in the $0.25. So still yet plenty of room for incremental contributions.

Okay. And Derrick, to be clear, the $0.15 was 2021, you're talking about potential, correct?

Correct, correct.

And then is there any way, which I know you won't do, but I'll try, the $0.25 beyond -- in 2022 and beyond, is there any way to sort of handicap like on an annualized basis what upside could be for that number based on what's out there?

Yes, maybe I'd defer to Duke on that for a second relative to the win rate opportunities associated with the work.

I was hoping for an EPS number, but...

Okay, sorry.

Before we deploy, you think about $1 billion of deployment in our space. Our win rate's 50%, 500 million a year, double digits. So I mean that's on the other side of that. And then like Derrick said, we have the ability there to grow the EPS as well on the incentives and escalation on -- the escalation rates.

Okay. And I'll get to electric power, but I'm trying to understand some of the businesses that are up and coming. You know what I mean? But like -- so the industrial services business, obviously that's been under pressure with COVID, and I think you said it was about breakeven in the quarter. I'm just trying to understand what the potential is here for 2021 and what revenue numbers needed to get to sort of normalized margins. And if you're thinking about this business differently, in particular with some of the news we're getting on vaccines and stuff like that and people start to travel again. That should have potential nice tailwinds, at least in the back half of 2021.

I mean, I think we're all hopeful that, that happens. And if it does, you'll see that business pick up nicely. As it sits today, I said that we have a great management team there. We'll grow that business on the other side of COVID and the impacts there. It's not going away. As a matter of fact, it's long term in nature, and I think we're in a really good spot. So we'll continue to look at it, evaluate it. We don't give guidance until February, March. Somewhere in there, I can't remember. But it sounds like in February. So in my mind...

December 2 -- 3, sorry.

There you go.

I'm making sure Kip's awake over there.

We'll have the ability to kind of talk more about it, I think. And if we can make some assertations on that, we will. But as it sits today when we talk about everything, we're very hesitant to put a path to breakeven also.

Okay. And then Duke or Derrick, just pipeline and industrial, we saw some nice margin -- starting to see margin improvement there in a challenged environment. So what needs to happen to get the margins in that segment to sort of the high single-digit range? I know you did the Hallen acquisition, which you've been trying to diversify geographically to reduce the cyclicality. So where are we on that? And I want to understand the margin profile, assuming nothing really incremental on big pipe or maybe the 500 million you talked about in big pipes sort of more on a normalized basis.

I mean, I think we stand by what we've said in the past, is that we can get to the upper single digits if we get a normalized environment on pipeline industrial with $500 million big pipe. I mean we can. And so it's -- we're fine. We're set to do that. And as the years go out, I think even the $500 million big pipe shrinks, we'll still get to double. We'll get to double or single digits. Our LDC business and our Integrity business are growing nicely. We've got a really good framework there. The northeast was a good expansion. But in general, Jamie, too, I mean there's underground transmission going on. There's other kinds of things that those companies can do as well. So whether it's -- whether the company that was doing gas, it doesn't mean they can't go in underground electric either. So I'll just say there's opportunities across the northeast as they look for transmission underground and transmission things of that nature as well. So it should be added into both segments.

Okay. And then, Duke, because pipeline isn't material for you guys in terms of needed to enhance earnings, you probably have an unbiased view of the big pipe market because it doesn't really matter that much to you, but you're still very knowledgeable of the big pipe market. So I think everyone agrees the outlook is challenged for the foreseeable future. Is the market too bearish based on your view and insight with customers?

I think you're starting to see some hydrogen blending on the LDC business, and I think you're starting to see some of that sentiment come out. What everyone is doing on from methane emissions is really to help the environment. So all the leaks, leak from the pipe, it's 30-year builds that we've been working on, in my mind, is helping the emissions as well. And most of the regulators have already put together programs that are long in nature. So that LDC business is nice and growing and will continue to grow just due to leak from pipe as well as the sentiment around carbon free. Big pipe is there, you're moving LNG. You saw Sempra talked about their expansion in Mexico, moving out to Asia. It went through FID recently. So I think the LNG component is there. We've always said that if that picks it up, it elongates. Some of them have pulled back, some of that went forward. I still think your challenge is to build large diameter pipe outside of Texas just due to permitting and incentives. And so I think you'll see small projects, 60 miles, 70 miles, sub-100 million, but they'll be enough to balance. So that would be my take on it as there's projects. They probably won't be these large super projects that you see today, but there'll be work out there.

Okay. And then shifting to electric power, which obviously has been one of the more stable, steady revenue growth businesses for Quanta consistently. And then the margins this year have really proved to be turning around if we -- even I guess including LatAm this year. So how much do you want to push those margins, Duke? Or is it more better a balance, keep the margins in the targeted range but focus on the top line? And then on that, just your comfort level and what you're seeing in LatAm. I think as of the last quarter, you said 80% of the active projects were completed by the third quarter. I'm just trying to understand if there's a chance of risk into numbers into 2021 on LatAm. I understand that the market will probably exclude it, but...

I'll take the LatAm first. I think we continue to stay on top of that. COVID did impact some of our thinking on it, and I think we addressed that in the last quarter. We're very close, in my mind, by the end of the year to have it ringfenced an insurance policy around it, I guess is what I would say, not physically. But in general, we'll have ourselves to end enough, we can see in the end. And there's the accounting on it that requires. We take those losses within the range we set. I think we've covered it all. We're very close to being done there, and we continue to make strides every day to facilitate that. So it's our goal certainly to have that behind us going into '21. As far as electric margins, we maintained a double-digit type 10% margins over time, said it over and over again. You would be hard-pressed as guide past 10%. Can we operate past 10%? Sure, we have. We're doing it now. A lot of it has -- some of it's storm-related. It's really more about how utilized can we keep the company, how utilized are we going to be and how much growth is necessary to facilitate the customer spends. And I think those things always weigh on margins because we're training. Have we gotten better at training with the colleges and things of that nature? Yes. Am I willing to sign up for a higher margin because of it? No. So we just don't have enough time and enough history yet to say we've expanded that margin profile. I don't think it will get past -- you'll see us guide past 10%. But is there opportunity for us to earn past 10%? Sure, if we're more efficient. The markets are there. The macro market's a good market. We're doing some really unique things internally. The piece of business, the 30% piece of business that we don't capture today, we're going to continue to see us try to capture that on the front side and then maintaining the margin profile so it doesn't take any capital work. So we're having to look at what capital constraints we have versus the returns maybe just as good and stay in double digits. We just need to think through it. But I would tell you, like I know that will be the difference between us. And probably The Street on guidance will be where everybody goes with the electric margin. I can tell you that I might well just say it, it won't -- you're going to be hard-pressed to get past 10% for me as a guide.

Yes, and then we'll see what happens.

Yes. I just want to be clear on that. I'm not saying we can execute past.

Okay, okay.

That's LUMA too, by the way. LUMA would be additive.

Okay, okay. And then I guess one of the things that I thought was really exciting, and I think you've said this, but maybe the Street understood it better after the third quarter, was the $1 billion EBITDA sort of base of earnings, which is fairly impressive and we should sort of -- I mean do we -- just your confidence level there, I think it's a bold statement. And can we think about that as a base in 2021 and then growing thereon after? How secure is that $1 billion number?

[we feel good about it. We see growth on top of it. I think we can grow off of them. And I mean we set off 5 years ago, I mean we said 10 in 1 5 years ago, and I tell you its upside is higher, but we got to the one. In my mind, I think margin profile picks up should things happen. Everything that we kind of thought we would do over a 5-year plan as we go into the next 5 years, our plan is to grow it. Double-digit EPS growth, using our balance sheet as well for future years, I think we can see that. The opportunity for us to talk about it, talk about double-digit EPS growth because that's really the growth we're looking at if we use the balance sheet. And the top side, the top line with LUMA, if you pick it up and you go, "Well, you're going to do, I don't know, $0.25, what is that on revenue side?" And so you're going to get -- it's difficult to talk about, well, what's the revenue growth when that doesn't have revenue.

Yes.

So there's some of that that's in here, too. And that's -- we're shifting some of the conversation around that EPS growth in double digits as well. [indiscernible]

Well, and Derrick, if you're talking, we need to talk about the $4 at least of EPS. Like are we now getting to the point where we're at the, I don't know, $4.40, $4.50 and above or something like that when you think about 2021, when you think about all the puts and takes? And then just your confidence in free cash flow, and to Duke's point, how we're going to use the balance sheet.

Well, I mean I would tell you that we'll stick with the fact that $4 will be in our range. We're not going to going to speak to exactly what that range is yet. I mean I know you'd love me to, but it's still yet too soon. The upsides are the elimination of Latin America, which we've talked about at length, the contributions of LUMA, some of the light switch effect we've talked about from a COVID perspective, the growth of the business, contribution to buybacks. I mean so we've got several things on that upside. The counter to it is we still need to deal with getting the visibility into exactly how that industrial space plays out. That will be a headwind still going into '21. Overcoming a bad comp we're going to have on storm work. Recall this year, we're going to end up with a record level of storm work for the year. We ended up with a record level here in the third quarter, over 200 million of storm work in the third quarter, which will create a difficult comp for next year. The storm work we did in the third quarter was higher than we've done annually many times. So there's a -- that's contributing to the electric power margins, and we do spend some time there rightfully, saying that the biggest delta we'll have going into next year is the margin expectations of electric power against the '21 performance. So there are a number of moving pieces, but it still doesn't change the feeling. I think you said it right with the $1 billion of EBITDA. So our expectations for '21 being see it incremental to '20 I think are very much there. I think we're still yet set to continue to have the dynamics of growth, but we'll just need to see how those -- all those places -- pieces come together relative to what that $4 number itself means. And then on balance sheet and cash flow, cash flow was something that, as you know, we've dealt with now for quite some time with people not understanding the model. And when you think about 2020, substantial cash flow, and that's really just adjusting against that with mid-single-digit growth rates. Cash conversion running at free cash flow as a percentage of adjusted EBITDA in the 40% to 50% range is what I would say is right to think about it in mid-single digits. When you have growth rates above that, like we've had over the last 3 or 4 years prior to '20, then you're going to see that conversion get thrust down into that 30%-type range. When we have growth rates that are lower than that, like -- and/or a decline like you see in '19 and '20, that's when you're going to see it come on that 70%-type range, 80%-type range. So all a function of the working capital leans into the business. Then lastly, look, we think we've positioned ourselves well on the balance sheet strength to lean into all of the initiatives, the growth of the business, CapEx, acquisitions. Stock buybacks are still a component of that portfolio. We still look at a 1.5 to 2x leverage profile. And as we stand here today, we're below that, which gives us the strength of that balance sheet to lean into all of those initiatives and support the growth, to Duke's point, leading to that EPS growth dynamics throughout multiyears.

Okay. And I guess just last because we do have a minute left, so why not use it? Duke, and maybe it's what the analogy used with Amazon before, but if you got to say the 2 or 3 things that you think the Street still underappreciates about Quanta's stock or maybe you think now we got smarter and we get it. But any thoughts on that?

I just think we've done a nice job with [indiscernible] and the status of the very coordinate ways of what we can do. And then we're adding on, bolting on in all the ancillary things on top of it, which is really around the investor sentiment, in my mind, on carbon free. We're sitting in the middle of it in technology. It's -- we'll have people talk to us about different things in technology. And in order to get there, we're deploying on that. And whether it be 5G or the way drones work or all kinds of different things that we're involved in, it's fun times, and macro markets are really good for us. And the things that we're doing to facilitate that and collaborate with not only tech companies but utilities is a unique time for us all. And we're thinking differently, and the company is growing nicely.

Okay. Well, great. I appreciate your support and time, as always. A great year and look forward to another one, and I hope you and your families have a very healthy, and happy holidays. So thanks so much for your time, guys.

Thank you. Appreciate that.

Thanks, Jamie.

Thanks. Take care.