FirstService Corp

TSX:FSV

Earnings Call Transcript 2022-Q4

[Operator]

Good day, ladies and gentlemen, and thank you for standing-by. Welcome to the FirstService Corporation Fourth Quarter 2022, Earning 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 differ 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 February 07, 2023.

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

[Scott Patterson, CEO]

Thank you, Howard. Good morning, everyone. Thank you for joining our fourth quarter and year-end conference call. Jeremy Rakusin, is on the line with me this morning.

And I’ll open by saying that we are extremely proud with how we closed out the year. Our teams drove very strong top-line organic growth. It was our strongest growth quarter of the year. And importantly, we delivered even stronger growth at the EBITDA line. Our teams have been battling inflationary cost pressures and margin headwinds all year. The margin results for the quarter in large part, are credit to their year-long discipline around cost containment and incremental pricing initiative.

We also benefited from operating leverage in our Brands division. Total revenues for the quarter were up 19% over the prior year with organic revenue growth an impressive 15%, boosted by particularly strong growth in our Brands division. EBITDA was up 23%, reflecting a margin of 10.1% versus 9.7% in the prior year.

Jeremy will jump into the margin and earnings per share detail in his comments.

Looking at our divisional results. FirstService Residential revenues were up 9%, 8% organically. The organic growth was again driven by net new contract wins and was broad-based across North America with all of our regions showing solid gains. Just after year end, we are very pleased to announce two acquisitions for FirstService Residential in the New York City market.

Tudor Realty Services and Charles H. Greenthal & Co. together add over 350 co-op and condominium properties to our New York City operations. The two marquee portfolios further extend our dominant leadership position in the market. We are excited to welcome the Tudor and Greenthal teams to the FirstService Residential family and look forward to working together to bring additional value to our new communities.

Looking forward to 2023, we expect to show growth at FirstService Residential at or above 10%, very similar to what we experienced this year. With the organic growth at mid to high single-digit, this is our contractual recurring revenue model with only modest swings quarter-to-quarter as ancillary revenues fluctuate.

Moving on to FirstService Brands. Revenues for the quarter were up 28%, with 75% of the growth coming organically. The impressive organic growth number was supported across the board by strong results at our Restoration Brands, Home Improvement Brands and Century Fire. Let me go through each. Starting with Restoration, which includes our results from Paul Davis and FirstOnSite.

Revenues for the quarter were very strong, up about 30% from Q4 of 2021, split two-thirds organic growth and one-third from tuck under acquisitions over the last year.

During the quarter, we generated about $85 million from Hurricanes Ian and Fiona, which compares to $40 million of revenue booked in the prior year quarter from storm activity, primarily Hurricane Ida. Organic growth, excluding named weather events was mid-single-digit.

During the quarter, we completed two tuck-under acquisitions within restoration. One under FirstOnSite and one is part of Paul Davis Company owned platform.

At FirstOnSite, we acquired emergency restoration, a regional provider of water mitigation and property restoration services in New Orleans. This is an important addition to our footprint that enhances our client coverage in a region that regularly gets hit with weather. And we're off to a great start with this new operation in terms of booking work and adding customers.

At Paul Davis, we acquired our franchised operation serving the Salt Lake City in Las Vegas metropolitan areas. This business is one of the largest franchises in the Paul Davis network and the largest restoration company in Salt Lake City. We're excited to partner with Brandon Radmall and his team, and believe we have an opportunity to significantly grow these markets. We now own 14 operations within the aggregate network of 330 Paul Davis operations across North America.

Looking forward in restoration, we're expecting a solid front half of the year. We're carrying a strong backlog into Q1, both from Hurricane Ian and Winter Storm Elliott, which hit the last week of December. Elliott was highly unusual in its scope, stretching from the Great Lakes area down to the Mexico border. About 60% of the North American population faced some sort of winter weather advisory or temperature warning. Many of our branches in the U.S. and Canada saw a spike in activity, primarily relating to wind damage and water damage from burst pipes.

Our pipeline is up about 25% compared to last year, which will provide a boost for us the next couple of quarters. We expect to show year-over-year revenue growth of about 20% over the first six months weighted towards Q1. It's difficult to estimate how quickly we can work through the backlog and where exactly the revenue will fall. Suffice to say, we're off to a strong start in restoration and we will provide more visibility at each quarter end.

Moving that to our home improvement brands including California Closets, CertaPro Painters, Floor Coverings International and period of post home inspection. As a group, these brands were up about 10% against a strong Q4 from 2021 that was up 30% over the year prior. December weather impacted our ability to complete as much work as we expected, and our revenues reflected as much. We fell a bit short of our internal estimates. All that work now flows into January, and we will make it up.

Looking forward, we expect continued growth in 2023, at this point, we estimate growth at a high single digit level against a very strong 2022. The macro environment is mixed. Home sales are down significantly, while home prices and home equity levels are holding. In general, we're facing modest headwinds in home improvement, but our teams feel strongly, we will battle through and continue to grow. The markets are very large. The work is there and we have the teams and brand strength to secure it.

During the quarter, we've further expanded our company owned operations at California Closets with the acquisition of our franchise territory in Portland, Oregon, adding a market with significant future growth potential. We now own 21 of the 80 California Closet locations, which account for about 50% of system-wide sales.

Now under Century Fire, which had a very impressive fourth quarter, up almost 30% from the prior year with over 20% organic growth. All aspects of Century Service offering, including sprinkler and alarm installation, service inspection and repair and national accounts showed strong momentum in the quarter. Bid activity and backlogs remain very strong and while we do start bumping up against big comparative quarters, we still expect to generate double digit growth at Century this coming year.

Before I pass on to Jeremy, I want to reiterate how pleased we are with our finish to the year and our 2022 full year performance. Again, this year we generated in and around 10% of organic growth, which is a true credit to our teams and their ability to consistently take share.

Over to you, Jeremy.

[Jeremy Rakusin, CFO]

Thank you, Scott. Good morning everyone. And Scott just highlighted, we are pleased with our 2022 financial results, culminating in a particularly strong fourth quarter to cap off the year. I will first summarize our consolidated performance for the quarter and full year, and subsequently provide more segmented detail within our two divisions.

During our Q4, we delivered consolidated revenues totaling $1.02 billion and adjusted EBITDA of $102.5 million up to 19% and 23% respectively with our margin increasing by 40 basis points to 10.1%.

For the full year, consolidated revenues were $3.75 billion, a 15% increase year-over-year. Adjusted EBITDA came in at $351.7 million, up 7% over the prior year and yielding a 9.4% margin compared to 10.1% in 2021. In terms of our net earnings in the fourth quarter, adjusted EPS came in at $1.22, up a $0.01 versus last year's fourth quarter. For the full year, we reported adjusted EPS of $4.24 down from $4.57 in 2021.

Two items negatively impacting our year-over-year earnings per share performance were non-operating one-time gains in the prior year 2021, and higher interest costs in 2022. As discussed on last year's Q4 '21 call, we reported during that quarter a gain on sale of a building and then earlier in 2021, we also realized gain on sale from a non-core business. These two gains resulted in other income of almost $20 million pre-tax with an aggregate $0.33 positive impact to earnings per share in 2021. And in 2022, the higher interest rate environment and our larger average debt levels triggered a $9 million increase in interest costs compared to the prior year, a headwind of $0.15 to our earnings per share.

Note that these comments on our adjusted EBITDA and adjusted EPS results respectively reflect adjustments to GAAP operating earnings and GAAP EPS, which are disclosed in this morning's press release, and are consistent with our approach in prior periods.

Now I will provide additional commentary on our division results for both the fourth quarter and full year. At FirstService Residential, for the fourth quarter, revenues were $442 million up 9% versus the prior year period. And the division reported EBITDA of $38.1 million up 7% quarter-over-quarter.

We saw our margin for the quarter coming at 8.6% slightly lower than the 8.8% margin in Q4 2021. For the full year, revenues increased by 12% over 2021, including 8% organic growth, yielding an 8% increase in annual EBITDA. We are very pleased with this profitability profile, particularly in the face of a significant decline in home resale activity in the latter part of the year, which drives higher margin, transfer and disclosure ancillary revenue.

FirstService Residential will tend to generate 9% to 10% annual margins and typically be towards the upper half of this band, with revenue mix and seasonality factors driving where we ultimately land in any given reporting period. We finished the year with a 9.5% EBITDA margin, so right down the middle of our typical range. And our margin outlook for 2023 is expected to be within the same vicinity.

Now into FirstService Brands. In the fourth quarter, the division recorded revenues of $578 million, a 28% increase, and EBITDA was up a similar 27% to $67.4 million with our margin at 11.7%, relatively in line with Q4 2021. For the full year, top-line performance was very strong with 19% total revenue growth including 11% organic growth. Our annual EBITDA grew 4% and yielded a 9.9% margin versus the prior year of 11.3%.

We spoke in earlier quarters during 2022 about the year-over-year decline in Brand division margins being a function of FirstOnSite restoration, ongoing platform investments combined with mild weather.

In the current fourth quarter, with the benefit of Hurricanes Ian and Fiona, FirstOnSite performed at a better margin than prior sequential quarters, contributing to the inline Q4 margin performance for the division.

Finally, to close off my commentary on the P&L, we reported lower corporate costs in both the fourth quarter and for the year, compared to prior 2021 period. The biggest driver was lower incentive compensation for our corporate executive management and employee teams, reflecting alignment with more tempered earnings performance for the year.

Turning now to a few perspectives on our cash flow and capital deployment. For the fourth quarter, cash flow from operations before working capital was $86 million, up 30% and after working capital delivered $54 million, an increase of almost 70% over the prior year period. We incurred $22 million of capital expenditures during Q4 resulting in a full year CapEx total of $78 million, which came in lower than our most recently indicated target of $85 million. We expect 2023 capital expenditures to be higher at approximately $100 million, which includes a significant FirstService Residential office move that was deferred from 2022.

Excluding the spending for that move, our consolidated CapEx would come in at roughly $80 million, which would be in the circle of our typical 2% of revenues and 20% of EBITDA thresholds. The fourth quarter also saw a resumption of strong tuck-under acquisition activity after a couple of quiet quarters. We deployed approximately $45 million of acquisition capital during Q4, and as you heard from Scott, our recent transactions span across various of our brands within both divisions and will drive incremental revenue growth into 2023.

We are an organic growth company first and foremost, and we clearly see the opportunities for each of our businesses to extend their track record of winning share and growing at healthy rates for many years. And so, we continue to prioritize our capital deployment towards organic as well as strategic acquisition growth initiatives. At the same time, our ability to consistently deliver earnings and cash flow, which compound over time, provides us with capacity to also incrementally return capital to our shareholders.

Yesterday, we continued this trend with the approval of an 11% dividend increase to $0.90 per share annually in U.S. dollars up from the prior $0.81. We have now more than doubled our annual distribution with dividend hikes of 10% plus over the past eight consecutive years. Our 2022 year-end balance sheet remains strong in every respect, we closed out the year with just under $600 million of net debt and our leverage at 1.6 times net debt to adjusted EBITDA. Modestly up from 1.4 times at 2021 year, but still at a very conservative level.

Our liquidity sample at $520 million reflecting significant cash on hand and capacity under our revolving bank credit lines. We also have master shelf facilities with our longstanding senior note holders, which we put in place during 2022, providing additional sources of debt financing and where we can potentially term out fixed rate debt tranches as market conditions and our capital requirements dictate.

Looking forward and synthesizing some of the segmented indicators you have heard from Scott and me. On a consolidated basis, we expect to deliver top line growth for 2023 in the 10% range with a healthy mid-single digit plus percentage contribution from organic growth. This annual outlook is currently skewed with higher growth in the front part of the year, given the year-over-year weather patterns and backlogs in our restoration operations.

Our consolidated EBITDA margin for the full year should be relatively in line to modestly better than 2022. We see Q1 consolidated margins coming in roughly flat to prior year with margin improvement in the brands division on the back of heightened restoration activity offset by the residential division's tough comparison against higher home retail activity in Q1 ‘22. We see potential for modest year-over-year consolidated margin improvement during the middle of the year, assuming continued top-line momentum with our brands.

This concludes our prepared comments. Operator, could you please now open up the call to questions? Thank you very much.

[Operator]

[Operator Instructions] Our first question or comment, comes from the line of Stephen MacLeod from BMO. Steve MacLeod, your line is open.

[Stephen MacLeod, BMO Capital]

Great. Thank you, good morning guys. Just a couple questions, just on the restoration business and some of the strength you saw in Q4. Thank you for quantifying it at roughly $85 million. I know some of that is expected to flow into Q1 and maybe Q2 as well, but I was just wondering if you could give us a sense of sort of how much business is left in that backlog?

[Scott Patterson, CEO]

It's a number that evolves every day as we add new businesses, the scope of our job’s changes. So, it's not a number. We're not going to be providing the backlog number every quarter. Steve, I'm going to give you some sense for our expectation in the coming quarters in terms of what we can complete and convert to revenue and so we expect to be up in the first six months, about 20%, as I said in my prepared comments.

A lot of this work we are now into the reconstruction phase of our Ian work, and there are logistics around that, including permitting, which could lead to delays and supply chain issues, which could lead to delays. So, it's tough to pin Q1 revenues, and the amount of the backlog that will be converted in Q1.

[Stephen MacLeod, BMO Capital]

Okay, that make sense, thanks for that color. And then, just on the home improvement business, clearly, holding in quite well and expected to hold in quite well, even up against a strong last year period. Given the macro backdrop, I'm just curious are there any -- could you give a little bit of color around like are you seeing more macro sensitivity in different brands versus others as you kind of roll into 2023?

[Scott Patterson, CEO]

They're moving in sync, I would say. We did have a fall off at the end of the year in terms of legion activity, but it's bounced back in the last several weeks. And so, while the activity levels are down from a year ago, they're still at a healthy level. And if the leads hold where they are today, we certainly have the activity to hit our growth goals this year.

[Stephen MacLeod, BMO Capital]

Okay, that’s great. Thanks, Scott. I’ll turn back in line and get back on line. Thank you.

[Operator]

Our next question, or comment comes from the line Stephen Sheldon from William Blair. Mr. Sheldon your line is now open.

[Stephen Sheldon, William Blair]

Thanks. Nice results here. Appreciate all the commentary on 2023, I think -- resi the growth expectations there, stand out a little bit. I think you're talking about organic growth in 2023, being a little higher than normal. I think you said mid to high single-digit versus 3% to 5% that you have talked about historically. So, can you just give more detail about what's driving that? Is that more about strong contract wins you talked about recently? Or is it still kind of more just a flow through and pricing increases that you’re driving from wage inflation? Just any detail there. And would you expect a normalization back to that 3% to 5% as we look beyond 2023?

[Jeremy Rakusin, CFO]

The increase from 3% to 5% to say 5% to 7% or 5% to 8% is certainly some of that is price, Stephen. We are getting 2% to 3% I think we have said the last few quarters and that's still where we are and that seems to have lifted us to hitting that at least that mid-single-digit more consistently.

And we are winning business and holding our retention. And those are the two key variables in this business, keeping your accounts and adding new ones. And so, the teams are very focused on that. And I would say, in the last -- '22 was strong in that regard, which should carry forward into this year. Whether we will see it come back in '24? Too early to say. But, if we can grow organically in this business at 5% long-term, we'll take it.

[Stephen MacLeod, BMO Capital]

Got it. Great to hear. And just as we think about our models, interest expense took a step up this quarter, I guess probably reflective of the floating rate debt. But just given where things are now. Is that 4Q interest expense came in at $9 million, is that a good run rate to assume as we think about 2023 at this point?

[Jeremy Rakusin, CFO]

Yes. Steven, I think it's a good number. It really depends on how much capital we deploy and where debt levels go. But interest rates kind of running in for us blended at 5.5%, 6%. And I think as you asked, the exit rate from Q4 annualized would be a good figure.

[Stephen MacLeod, BMO Capital]

Great. Thank you.

[Operator]

Thank you. Our next question or comment comes from the line of Daryl Young from TD Securities. Mr. Young, your line is now open.

[Daryl Young, TD Securities]

Hey, good morning, guys. Just a question around the Restoration platform. I think you said, excluding storm activity, you were running at mid-single-digit organic growth in the quarter. It's very healthy, but it is a bit of a deceleration I think from sort of 10% organic growth recently. So, is there anything to make of that? Or I guess also should we look at some of the investments you are making today as potentially allowing you to re-accelerate into high single-digits or low double-digit organically in restoration?

[Scott Patterson, CEO]

Yes, Darryl. We grew 10% for the year organically, if you -- ex-storms. And I think that's a good number for this business. In Q4, I think the mobilization around Ian and Fiona and prioritizing our accounts in an event that was sizable as that was, probably did detract a little bit from our growth within -- across North America out of our branches because of the resources that were deployed to that event, but 10% is I think a better number long term for this business.

[Daryl Young, TD Securities]

Okay, great. And then with respect to Century Fire, what percentage of that growth or work would relate to clients that you have as restoration clients as well? I guess I'm just trying to fair it out if there's a lot of cross-sell happening that's helping to supercharge the growth there, because it's been very impressive.

[Scott Patterson, CEO]

No, nothing material. I mean, it's not even a stat we follow. It's a discreet business and while they have collaborated around national accounts, it's not a material cross-sell.

[Daryl Young, TD Securities]

Okay. Great. I'll hop back in the queue. Thanks.

[Scott Patterson, CEO]

Yes. Just to finish, as I said in my prepared comments, they just -- they're driving really in all aspects of the business right now, and we expect to see it continuing to ‘23.

[Daryl Young, TD Securities]

Okay, great. Thanks again, and congrats on a good results guys.

[Operator]

[Operator Instructions] Our next question or comment comes from the line of Mr. Frederic Bastien from Raymond James. Mr. Bastien your line is open.

[Frederic Bastien, Raymond James]

Hi, good morning guys. I appreciate it's difficult to call out the restoration volumes you're going to get from the weather events, but when referencing the 20% growth we need -- we don't really have the revenue base from which to extrapolate the actual amount of the revenues you're going to get. So -- and I kind of recall last maybe six months ago talking about restoration being now like 800 million to 900 million buck’s revenue business. Is that kind of the ballpark that we're still at given the recent acquisitions?

[Scott Patterson, CEO]

Jeremy, over to you.

[Jeremy Rakusin, CFO]

Yes. Absent significant weather events layer on top 800 million to 900 million is a good number, Frederic, baseline annualized.

[Frederic Bastien, Raymond James]

Okay. And then, so that 20% growth, would apply that to half of that 800 million to 900 million bucks, is that correct?

[Jeremy Rakusin, CFO]

Yes.

[Frederic Bastien, Raymond James]

Okay. Just wanted to double check. Cool. Thanks for that. Working capital, obviously with the restoration activities and the growth of that particular business you've been investing in working capital, how should we think about deployment of working capital in 2023?

[Jeremy Rakusin, CFO]

I've made the point before, Frederick that, your restoration has changed the working capital profile and it does, we've got great clients that will pay, but it takes time as these projects work through, and it's on the back of insurance carrier coverage.

So, it's hard to dictate the timing of when we're going to start to see positive working capital swings. Although in Q4, I think you could see that it was a lot better than Q3 where we were in the mobilization phase. I think, you got to take a multi-year view on working capital usage across our businesses, and I think, because of the moving parts and the seasonality, and I think 2% of revenues, 20% of EBITDA on a multi-year or protracted period measurement basis is the way to look at it. And looking at pre-cash over conversion before working capital is something that I would kind of emphasize and to take out the volatile swings on working capital.

[Frederic Bastien, Raymond James]

Okay, thanks. Just housekeeping for me, last few ones, what tax rate should we be working with and similarly non-controlling interest as a percentage of after pre-tax profit? Just that percentage number would be useful?

[Jeremy Rakusin, CFO]

Tax rate we see for ‘23, in around 26%, so a little bit higher. We were at 25% in 2022. And non-controlling interest share of earnings 6% to 7% is a good number. Sort of where we came out in the middle of that for ‘22.

[Frederic Bastien, Raymond James]

Thank you. Great to see earnings and results improve heading into the year. So quite encouraging. Thanks.

[Operator]

I'm showing no additional questions in the queue at this time. I'd like to turn to conference back over to Mr. Patterson for any closing remarks.

[Scott Patterson, CEO]

Thank you everyone for joining this morning and we look forward to reporting on our Q1 towards the end of April. Have a great day.

[Operator]

Ladies and gentlemen, this concludes the fourth quarter investors conference call. Thank you for your participation and have a great day.