FirstService Corp

TSX:FSV

Earnings Call Transcript 2023-Q1

[Operator]

Welcome to the FirstService Corporation First Quarter Investors Conference Call. Today's call is being recorded. Legal counsel requires us to advise that the discussion scheduled to take place today may contain forward-looking statements that involve known and unknown risks and uncertainties. Actual results may be materially different from any future results, performance or achievements contemplated in the forward-looking statements.

Additional information concerning factors that could cause actual results to materially differ from those in the forward-looking statements is contained in the company's annual information form as filed with the Canadian Securities Administrators and in the company's annual report on Form 40-F as filed with the U.S. Securities and Exchange Commission. As a reminder, today's call is being recorded. Today is Wednesday, April 26, 2023.

I would like to turn the call over to Chief Executive Officer, Mr. Scott Patterson. Please go ahead, sir.

[Scott Patterson, Chief Executive Officer]

Thank you, Shannon. Good morning, and welcome, everyone to our Q1 conference call. Thank you for joining. As usual, Jeremy Rakusin is on the line with me today. And together, we will walk you through the results we released this morning, results that reflect continued very strong growth in both divisions.

Total revenues for the quarter were up 22% over the prior year with organic revenue growth at 17%. Again, this quarter boosted by particularly strong growth in our Brands division. EBITDA was up 32%, reflecting a margin of 8.1%, a 60 basis point increase over last year's Q1, primarily resulting from operating leverage in brands. Earnings per share were up 16%. We're very pleased with our performance to start the year and confident that it sets us up for a strong 2023.

I'll summarize our results for each division and then pass it over to Jeremy to provide more financial detail. At FirstService Residential, revenues were up 13% with organic growth at a very strong 11%. The organic growth reflects net new contract wins and increases in labor and services provided to existing accounts. We entered this year with momentum off the back of a strong sales in the fourth quarter and solid client retention. Our growth was broad-based across North America, with particularly strong results in the Southeast and Texas, driven by wins in our high-rise and lifestyle verticals.

And speaking of high-rise, at the end of March, we were very pleased to close on the acquisition of CrossBridge condominium services, the largest condo management company in the greater Toronto market. Together, we are now the clear leader in the fastest-growing high-rise condo market in North America. Sandro Zuliani and Tracy Gregory have led CrossBridge for many years, and we are delighted that they are partnering with us and will continue to lead day-to-day operations.

Looking forward to Q2 and the balance of the year, we expect to show similar low double-digit top line growth for FirstService Residential with organic growth likely settling in at a high single-digit level.

Moving on to FirstService Brands. Revenues for the quarter were up 30%, with organic growth at 23%, driven by very strong results at our restoration brands and Century Fire. Our restoration brands, Paul Davison, FirstOnSite together recorded revenues that were up about 40% over the prior year with almost three-quarters of the growth coming organically. We generated $75 million to $85 million from named storms during the quarter, including Hurricanes Fiona and Ian and Winter Storm Alliant.

Sequentially, it's a similar level to the revenues generated in Q4 and significantly higher than storm-related revenues in Q1 of last year. Winter storm Elliot impacted a very wide geography. It's difficult to nail down revenues directly relating to the event, which is why we have the range this quarter of storm-related revenue.

During the quarter, we were excited to expand our Paul Davis company-owned platform with the acquisition of one of our largest franchises with operations in Houston, Raleigh, North Carolina and Nashville, Tennessee. We're partnering with Bob Hillier across these three major markets. And together, we have ambitious growth plans. The Paul Davis brand has significant opportunity in these markets.

Looking forward in restoration, we expect another strong quarter upcoming. Our backlog remains solid. It's up significantly over prior year levels, which will lead to strong year-over-year growth in Q2. Including the impact of recent acquisitions, we expect to show growth in Q2 of about 40% relative to a weak quarter for us in 2022 that was light on storm-related revenue.

The back half of this year is difficult to forecast at this point. We expect to have some hurricane in related backlog that carries into Q3, but it is too early to quantify. In general, activity levels are strong for our restoration brands, and we feel very good about our market penetration and positioning relative to our competition.

Moving now to Century Fire. We had another very strong quarter with organic revenue growth in and around 20%. I said in my prepared comments at year-end that Century has momentum across all its service lines, and that's what we saw during the quarter. Alarm and sprinkler installation, inspections and repairs and national accounts, all up organically by double-digit percentages. The backlog at Century is stable and bid activity remains solid, and we expect continued strong results over the balance of the year, albeit against tougher comps. We expect double-digit organic growth but not at the same elevated level as the last two quarters.

And now on to our home service brands, which, as a group, we're up close to 10% over the prior year with organic growth accounting for about 2/3 of the lift. We're pleased with this performance in an increasingly uncertain environment. Leads are down at our home service brands as homeowners par back or delay projects due to higher interest rates and the threat of a recession. Our teams remain confident that we will continue to drive growth this year. I said it before, the markets are huge and the work is there even in a flat to down home improvement environment.

Let me now call on Jeremy to review our results in detail.

[Jeremy Rakusin, Chief Financial Officer]

Thank you, Scott. Good morning, everyone. I'll start by summarizing our first quarter results on a consolidated basis, which in broad-based terms largely resembled our prior Q4 reporting period, a common theme being very strong organic growth across the board with the incremental revenue performance driving margin improvement and superior operating earnings growth.

For the quarter, we reported revenues of $1.02 billion, a 22% increase cold to $835 million for Q1 ‘22. Adjusted EBITDA was $82.1 million, up 32% versus the prior year's $62.3 million, and this yielded an 8.1% margin for the quarter, compared to a margin of 7.5% in the prior year quarter. And our adjusted EPS was $0.85, up over the $0.73 per share in the prior year.

We delivered this strong 16% year-over-year earnings per share growth even in the face of higher interest costs, which will more than double versus Q1 ‘22. Our adjustments to operating earnings and GAAP EPS in arriving at adjusted EBITDA and adjusted EPS, respectively, are consistent with our approach in prior periods.

I'll now summarize the segment results for our two divisions. FirstService Residential generated revenues of $446 million, up 13% over last year's first quarter, while EBITDA was $32 million, a 5% increase over the prior year. The EBITDA margin for the division came in at 7.2%, down 50 basis points versus the 7.7% margin last year.

The margin was impacted by a higher mix of low-margin labor-driven services, which grew significantly as we both won new contracts and increase the penetration of existing accounts. During the seasonal trough Q1 period for a portion of our amenity management offering, this ramp-up of labor without associated revenue accentuated the margin impact.

For the coming second quarter, we expect our residential margin to be roughly in line or mildly lower than the prior year period. Shifting to our FirstService Brands division. We reported revenues of $573 million during the first quarter, up 30% over last year's first quarter. EBITDA came in at $54.8 million, a 52% increase versus the prior year quarter. The division margin increased to 9.6%, up 140 basis points versus last year's 8.2% level.

On our last earnings call, we have forecasted the margin improvement, driven primarily by our restoration operations, which capitalized on weather-related storm activity during the current quarter compared against the mild weather patterns last year. For upcoming Q2, we are anticipating brands margin improvement on the back of a similar sequential contribution from our restoration operations at the current quarter.

Turning to our consolidated cash flow. We generated $63 million of cash flow from operations before working capital changes, up 24% over last year's first quarter. Working capital investments absorbed this operating cash flow as is relatively typical during our seasonal trough Q1 when some of our businesses ramp up operations for the balance of your peak cash flow periods.

These working capital requirements also included a significant increase in accounts receivable at our restoration operations, due to the storm driven activity over the past couple of quarters. And this AR increase in fact, reflected a more than $70 million swing versus Q1 ‘22, which lacked any meaningful weather activity.

Capital expenditures during the quarter were just over $20 million, up modestly year-over-year. We maintain our CapEx guidance for the year of roughly $100 million and $80 million on a normalized basis, excluding one-time office moves described in our prior Q4 call.

Finally, during the quarter, we deployed approximately $80 million of capital towards three tuck-under acquisitions, which were a little larger than our typical size tuck-ins. We continue to be active in cultivating our deal pipeline as we look to be assertive in the current environment.

Finally, our balance sheet. With the cash flow commentary I just provided, we closed the quarter with net debt of just over $700 million, resulting in leverage as measured by net debt to trailing 12 months EBITDA at 1.8 times. Liquidity, including our cash and undrawn bank revolver balance is approximately $380 million. Our leverage is conservative and liquidity example to achieve our growth targets.

Looking forward, our outlook for the full-year is relatively consistent with the high-level indicators I provided with our 2022 year-end results in February. We see the previous 10% annual revenue growth target ticking up to the low teens percentage range for three reasons: one, strong Q1 performance; two, restoration backlog conversion driving incremental revenue in Q2 and three recent tuck-under acquisition contribution. We are maintaining our view that consolidated margins will be relatively in line or possibly slightly higher versus prior year.

That concludes our prepared comments. Shannon, you can now open up the call to questions. Thank you.

[Operator]

Thank you. [Operator Instructions] Our first question comes from the line of Michael Doumet with Scotia Bank. Your line is now open.

[Michael Doumet, Scotia Bank]

Hey, good morning, guys. Very impressive quarter. Nice to see the organic growth. First question on FSR. I appreciate raising prices in residential is always a challenge. But given the lower margins, I'm assuming in part due to the -- you spoke about the mix but also the lower retail activity. I wonder if the thinking with you and maybe some of your peers here, is that prices need to continue to trend higher to offset some of these pressures and build back towards historical margins? And maybe to expand on that, are you seeing any increase in churn? And if not, can we assume that the 2% to 3% could continue for several quarters potentially?

[Scott Patterson, Chief Executive Officer]

Yes. I think, Michael, we're probably -- we continue to make some progress. I think our 11% organic growth, probably 3% of it is price. And we will get our -- make our way back to our historical margins. In this business, we can't recoup our cost increases immediately. The competitive environment really, I think, prevents that. And so we're in a -- we're always in a mode of balancing margin with organic growth. And I think that will continue.

But we're confident that our margins will make their way back to historical levels. And don't forget that transfer and disclosure income, which is a high-margin ancillary is still well below historical levels. And we can't increase prices on core management or other services to recoup P&D because, again, that will settle in at its historical average as well.

[Michael Doumet, Scotia Bank]

Got it. That's really helpful. Thanks for the color. The second question, I think you get asked a version of this question every conference call, so in keeping with the tradition. Just on home improvement, if I look back through 2019, it looks like the cumulative growth ’22, ’21, in particular, was about 50%. Rates are growing are slowing, and obviously, there are concerns. But I guess just to get a better sense for the sustainability of the last two years, any way you can break down price and market share, just to give us a sense for how much those contributed to that growth?

[Scott Patterson, Chief Executive Officer]

Well, in that business, we have been able to pass along cost increases. So the last couple of years have been very strong organic growth years, 20% plus. And we were probably close to half of that, maybe high-single-digit in price. In terms of sustaining growth in this market, the thesis and the strategy is that we have leadership positions, but very modest share. And these markets are huge. And there is an opportunity for us to grow even in a down environment. And that's the way -- that's certainly the belief system within our teams, and that's the situation we're in now. And as I said in my prepared comments, our teams are very confident we'll grow this year.

[Michael Doumet, Scotia Bank]

Got it. And maybe just as a follow-up. If I am to presume that promotional activity is picking up, any implications for margins?

[Scott Patterson, Chief Executive Officer]

Did you say promotion activity?

[Michael Doumet, Scotia Bank]

Promotional activity, either increasing marketing or commercial?

[Scott Patterson, Chief Executive Officer]

Yes. No, that's actually very true. Headwinds are stronger. In this business than they were at year-end and definitely seeing consumers defer decisions and cut back on job size. And for us, we see it as an opportunity to take share, take more share. And so we are investing in marketing and promotion, and that will temper any operating leverage that we might have otherwise seen with increased revenues. And it also we were talking about price increases a minute ago, it also sort of changes that dynamic too. We'll probably see stable pricing this year, if not a bit of bit of discounting.

[Michael Doumet, Scotia Bank]

Got it. Makes sense. Thanks a lot, guys.

[Operator]

Thank you. Our next question comes from the line of Daryl Young with TD Securities. Your line is now open.

[Daryl Young, TD Securities]

Hey, good morning, guys and congrats on the good results. Just following up on the residential property management side. If you strip out that 3% price growth, you're still delivering huge market share wins and volume growth. Is there anything that's changed in the market that's allowing you to perform so strongly. I'm just wondering if maybe there's an increase in HLA outsourcing? Or if there's something following the pandemic where boards are more inclined to go with professional services? Or any color you can give there as very strong.

[Scott Patterson, Chief Executive Officer]

No, I don't think anything fundamental like that, Daryl. I mean we had a very strong sales quarter in Q4 and solid retention, which gave us some momentum. Coming into Q1, which certainly helped, and we will certainly focus on continuing to drive that balance between wins and losses. The other modest boost we had in the quarter was increased labor and services at existing large communities in some regions in our South region, in particular, we have cost plus contracts that specify a certain number of employees on site, and we have been challenged through the pandemic over the last few years to fill all of these contracted positions due to the labor shortages.

In the last year, certainly relative to Q1, we have significantly reduced our open positions. And in a cost-plus environment that drives revenues. That's -- we'll see that over the next few quarters as well, some of that, but it's not something that we'll see ongoing.

[Daryl Young, TD Securities]

Got it. Okay. And then just with respect to the investments being made in the restoration platform and the spend that's ongoing there. Can you give us any updates on how far along you are? I know you, sort of, said it's going to continue across this year. But are there any benchmarks or indications you can give us on when that drag may subside?

[Scott Patterson, Chief Executive Officer]

Jeremy, do you want to grab that?

[Jeremy Rakusin, Chief Financial Officer]

Sure. Thanks, Scott. Daryl, one of the major initiatives is onboarding our branches onto our operating platform that we've built out. It's largely technology-driven, and I'd say we're approaching the halfway mark on that. We've got over 100 branches that we need to get on to the single platform. So I've said before, we're going to be into '24 before we complete that, and then there will obviously be additional small modules on the edges, and we'll be continuing to optimize. But it's into '24. And then we should be largely done with the major wave of these investments.

[Daryl Young, TD Securities]

Got, okay. I’ll jump in the queue. Thanks, guys.

[Operator]

Thank you. Our next question comes from the line of Stephen MacLeod with BMO Capital Markets. Your line is open.

[Stephen MacLeod, BMO Capital Markets]

Oh, great. Thank you. Good morning, guys. Just wanted to follow-up on the residential business. I know you gave a little bit of color around organic growth was quite strong. But just curious if you can give -- are a lot of those gains coming from market share gains? And if so, is it just the natural attrition that happens in the market? Or is there something else going on where you're being more competitive and driving that above-average organic growth rates?

[Scott Patterson, Chief Executive Officer]

Yes. We continue to have success in the high-rise and large lifestyle communities where we have scale and expertise, and we're seen as experts. These are large communities, often with 100 plus people on site. These are staff members that need to be recruited, onboarded, trained, managed and it's complex. They also require a broad service offering, food and beverage, amenity management, event planning and so on.

So our expertise in this area is well known, and it's less competitive for us. And so we do have certainly a greater win rate when we have opportunities in front of us like this. And it's a sweet spot for us and a focus of ours. So I think it's primarily those verticals, Stephen.

[Stephen MacLeod, BMO Capital Markets]

I see, okay. That's interesting. And would you characterize the runway for those incremental contract gains in those verticals, high-rise, large lifestyle communities. Is that a large addressable market? Or is that sort of more of a niche segment of the market?

[Scott Patterson, Chief Executive Officer]

No. It's large. It's large and it's -- this is not new for us. I mean this is many years. This has been certainly a component, a significant component of our growth. But I think the 11% this boost, I described from filling open positions and price, we're not far off our historical rate when you take those into account.

[Stephen MacLeod, BMO Capital Markets]

Okay. I see, that's helpful. Thanks a lot. And then just on the brands business. Jeremy, you talked a little bit about the margin expectation for Q2. And just curious, would you expect or maybe too soon to say, would you expect to see a similar type of margin gain in Q2? And then secondly, I guess, on the back of what was a strong Q1 margin and what's expected to be ongoing margin strength in Q2. Do you feel like you're well positioned to drive margin growth in the brands business on a full-year basis?

[Jeremy Rakusin, Chief Financial Officer]

Well, for Q2, for sure, I don't know if it will match 140 basis points, but we'll have meaningful margin improvement in Q2, again, largely due to what we see as a similar contribution from restoration as we got this Q1 and frankly, Q1 mirrored Q4. So three pretty similar quarters of restoration incremental revenue from the weather-driven equity and day-to-day wins as well, that's going to drive consolidated margin improvement.

For the back half, I think we're -- we've got to be cautious. We need to see -- it's not just about restoration. It's the other businesses as well, but restoration in particular, really dependent on whether we see weather in the latter half of this year. Q3 will be -- if we're comping against last year, there wasn't much to speak of. So that could be apples-to-apples if we don't get weather, but you know, Q4 if we're looking at further, we had a strong Q4 in ‘22, and it really will be dependent on what weather does in that business. All the other businesses are performing very well on the margin front.

[Stephen MacLeod, BMO Capital Markets]

Okay, great. That’s it from me. Thanks, guys.

[Operator]

Thank you. [Operator Instructions] Our next question comes from the line of Stephen Sheldon with William Blair. Your line is now open.

[Stephen Sheldon, William Blair]

Hey, good morning. Congrats on the results. First question here on Century Fire. I know there are some concerns about construction activity slowing here given the macro challenges. So curious how you're thinking about the risk of slowing construction activity weighing on the growth trajectory of the fire business over the next few years, just given that new construction is at least one factor supporting growth there?

[Scott Patterson, Chief Executive Officer]

Yes, certainly, Stephen, we're keeping an eye out on our bid activity and backlog. Our backlog is in a position that gives us visibility really for the balance of the year, and we feel comfortable with the balance of the year. But as you suggest, the -- certainly, as I said, headwinds in the home improvement market and often residential is a precursor to commercial. So we're very cognizant of. I would say in this last quarter, service in particular, led the way for us in terms of growth. So we feel very good about that. And we continue to focus on that balance between new construction and service repair and national accounts. So it's a fair point.

[Stephen Sheldon, William Blair]

Got it. And then this is a question I've asked before in restoration, but how do you think about the strategic benefit of having scale on both the residential and commercial side of restoration? And specifically, has that benefit changed at all or become even more important, especially in times like this where there's a lot of work and storm-related work and where you can maybe better or more dynamically allocate labor resources. Just any updated thoughts on that?

[Scott Patterson, Chief Executive Officer]

Well, scale in commercial and residential independent of each other is very important as our national commercial occupiers, owners, managers look to consolidate their vendors. So it matters, having a branch network matters and certainly in residential, it matters. And Paul Davis with 330 locations is positioned well with national insurance carriers. Together, we're not necessarily collaborating in terms of workforces, but there is lots of referral work back and forth and there are joint efforts in terms of presenting and positioning ourselves with insurance companies to be the residential and commercial solution. And we won a couple of accounts together. And so that's really the big opportunity referrals and working together with insurance companies.

[Stephen Sheldon, William Blair]

Great. Thank you.

[Operator]

Thank you. Our next question comes from the line of Frederic Bastien with Raymond James. Your line is now open.

[Frederic Bastien, Raymond James]

Good morning, guys.

[Jeremy Rakusin, Chief Financial Officer]

Good morning.

[Frederic Bastien, Raymond James]

So you made your two largest deals in the past five, six years or so when credit tightened and private equity pause, and we're certainly seeing this kind of dynamic currently. So in light of this, can you please tell us how on the vessel has maybe zero to 10 or one to 10, how excited you are about the -- your pipeline of M&A opportunities, whether that's large deals or more tuck-in opportunities?

[Scott Patterson, Chief Executive Officer]

Well, the pipeline is solid, Frederic. I don't want to throw water on your excitement, but we have a number of tuck under transactions in process, but they are our typical type of tuck-under deals, small family-owned businesses. We're very pleased with the deals we've announced this year at Paul Davis and FirstService Residential and our activity levels are balanced, but certainly nothing significant in the works.

But as Jeremy said in his prepared comments, we have a conservative balance sheet. We have a significant amount of liquidity available to us. And like you, we believe that this is an opportune environment for us. And we're ready for an opportunity if we have a shot at.

[Frederic Bastien, Raymond James]

Thanks, Scott. That’s all I have. Thank you.

[Operator]

Thank you. I'm showing no further questions at this time. I would now like to turn the call back over to Mr. Scott Patterson for closing remarks.

[Scott Patterson, Chief Executive Officer]

Thank you, Shannon, and thank you, everyone, for joining this morning. We look forward to our Q2 call. Have a great day.

[Operator]

Ladies and gentlemen, this concludes the First Service Corporation First Quarter Investors Conference Call. Thank you for your participation, and have a nice day.