Stantec Inc
TSX:STN
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Stantec Inc
Earnings Call Analysis
Q4-2023 Analysis
Stantec Inc
Stantec's 2023 was truly exceptional, marked by best-ever organic net revenue growth and record financial achievements, propelling the company to remarkable heights. An increase of 5% in employee numbers underlines robust internal growth, while recognition for sustainability leadership highlights their enduring commitment to responsible business practices. The company achieved a striking 14% rise in net revenue, spurred by nearly a full 10% in organic growth, specifically reflecting robust demand within their water and environmental service sectors and notable results from U.S. operations. Their strong performance culminated in a record-high adjusted EBITDA of $831 million with a margin of 16.4%, and an impressive 17% jump in adjusted earnings per share to $3.67.
Kicking off 2024, Stantec successfully completed the acquisitions of Zetcon and Morrison Hershfield, seamlessly integrating these top-tier firms. This strategic move not only increased the employee count to over 30,000 globally but also set the stage for their ambitious 2024 to 2026 strategic plan, signaling continued growth and expanded capabilities.
The company's U.S. business excelled with over 18% in net revenue growth, attributing more than 12% to organic growth. Remarkably, all business units, including water, buildings, and energy and resources, experienced double-digit organic growth. The Canadian sector also shone brightly with over 8% organic net revenue growth, where environmental services, infrastructure, and water outperformed expectations with strong demand driving each sector.
On a global stage, Stantec delivered 6.5% organic growth. The water and energy and resources business units, in particular, enjoyed double-digit growth, buoyed by significant projects and framework agreements spanning the U.K., New Zealand, and Australia, catering to the needs of a transitioning energy landscape.
Q4 saw a robust closing for the year for Stantec, with a 6% rise in gross revenue and a noticeable 10% increase in net revenue compared to the previous year's quarter. Despite some shift in project mix within the U.S. affecting the project margins, the adjusted EBITDA margin expanded by 20 basis points to 16.4%, and the company realized a record diluted earnings per share of $2.98 alongside an adjusted $3.67, an uplift of 17%.
Stantec reinforced its financial health by improving dividends and maintaining a prudent approach to share buybacks. With a net debt-to-adjusted EBITDA ratio at a comfortable 1x, the company is strategically positioned to comfortably fund its planned acquisitions, thereby enhancing shareholder value.
The firm's backlog climbed to $6.3 billion, with an organic increase of 5% indicating a positive forecast for work in the coming year, signaling a strong market presence and promising projects pipeline. The water sector, in particular, showed a 23% organic increase. Furthermore, the buildings business also performed well, showing solid growth bolstered by project wins in several sectors, with the backlog equating to roughly one year of work.
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Welcome to Stantec's Year End and Fourth Quarter of 2023 Results Webcast and Conference Call. Leading the call today are Gord Johnston, President and Chief Executive Officer; and Theresa Jang, Executive Vice President and Chief Financial Officer.Stantec invites those dialing in to view the slide presentation, which is available in the Investors section at stantec.com. Today's call is also webcast. Please be advised that if you have dialed in or also viewing the webcast, you should mute your computer as there is a delay between the call and the webcast.All information provided during this conference call is subject to the forward-looking statement, [indiscernible] on Slide 2, detailed and Stantec management's discussion and analysts and incorporated in full for the purposes of today's call. Unless otherwise noted, dollar amounts discussed in today's call are expressed in Canadian dollars and are generally rounded.With that, I'm pleased to turn the call over to Mr. Gord Johnston.
Good morning, and thank you for joining us today. 2023 was a remarkable year for Stantec and I'm very proud of what we accomplished. We achieved record financial results and delivered our best year ever for organic net revenue growth. We grew our employee base by 5% through organic hires, another record, while maintaining our best-in-class employee retention rates. And for a fifth consecutive year, Stantec has been ranked by Corporate Knights as a Top 10 Global Leader in Sustainability. And once again, we ranked first amongst our peers. None of this would have been possible without the dedication, passion and commitment of our employees. And I'd like to thank each individual for their contributions.We started 2024 strong from an M&A perspective and have already closed both the Zetcon and the Morrison Hershfield acquisitions. These are both top in class firms. And with the addition of their talented employees to the Stantec team, we are now sitting at over 30,000 people around the world. Closing these acquisitions early in the year helps us jumpstart our new 2024 to 2026 strategic plan.Turing to our 2023 financial results. Overall, we grew net revenue by 14% year-over-year with almost 10% coming from organic growth. Market demand in 2023 was particularly robust in our water and environmental service business units and in the U.S., with each delivering double-digit growth for the year. Our strong operational performance drove record high adjusted EBITDA of $831 million and an EBITDA margin of 16.4%. And as a result we delivered significant adjusted EPS growth of 17%, achieving a record high of $3.67.The U.S. business achieved very strong results, with over 18% growth in net revenue for the year, more than 12% of which came from organic growth. In 2023, we achieved organic growth in every one of our business units, with water, buildings and energy and resources, each delivering double-digit organic growth.The demand in public sector and industrial projects as well as large scale water security projects grew with 25% increase in organic growth for our water business. Our big buildings business benefited from higher activity levels in healthcare, industrial and science and technology projects. And energy and resources continued to support Puerto Rico's hurricane recovery, including the upgrading of its power grid, contributing to solid revenue growth. So overall, a very, very solid year for our U.S. operation.In Canada, we achieved greater than 8% organic net revenue growth. We surpassed our expectations for the year. Environmental services, infrastructure and water, each delivered double-digit organic growth. Strong demand for permitting an archaeological work through growth for environmental services, particularly in Western Canada for the midstream energy sector and in Ontario for large scale transportation projects.Activity on environmental impact assessments in the renewable energy sector also contributed to revenue growth. Infrastructure revenue growth was driven by heightened activities around bridge and roadway work in Western Canada. And our expertise on large wastewater infrastructure projects through growth in water, especially from work on the Iona, BC and the Barrie, Ontario wastewater treatment facilities.Moving to global, we delivered 6.5% organic growth driven by double-digit growth in water and energy and resources. Our industry leading water business remained very active, supporting long-term framework agreements and investments in water infrastructure in the U.K., New Zealand and Australia.In energy and resources, double-digit organic growth was driven by the advancement of our work on the Coire Glas Pumped Storage energy project and increased activity related to the National Grid framework in the U.K. [ ENR ] also continued their work on mining activities around copper and other metals that support the energy transition.And now, I'll turn the call over to Theresa to review our financial results in more detail.
Thanks, Gord. Good morning, everyone. We closed out the year with a solid quarter of performance in Q4, contributing to another record year for Stantec. In Q4, gross revenue was up 6% compared to Q4 '22 at $1.6 billion, while net revenue was up 10% at $1.2 billion. Project margin was right in the middle of our targeted range of 53% to 55%, but decreased 100 basis points compared to Q4 last year, in part due to changes in project mix in the U.S. This, along with the quarter's 90 basis point impact from the revaluation of our long-term incentive plan, contributed to the reduction in adjusted EBITDA margin to 15.7%. Diluted EPS in the quarter was $0.66, and adjusted diluted EPS was $0.82, both consistent with last year. Excluding the effect of the opted revaluation, our Q4 adjusted EPS was $0.90.Turning to our full year 2023 results. We generated gross revenue of $6.5 billion and net revenue of $5.1 billion, a 14% increase for both over 2022. Project margin was -- for 2023 was a solid 54.2%, consistent with last year, and adjusted EBITDA increased by 15% to $831 million. We increased our adjusted EBITDA margin by 20 basis points to 16.4% within our targeted range. This was despite a 70 basis point impact from LTIP revaluation, resulting from the 64% depreciation in our share price for the year.Excluding this, adjusted EBITDA margin was 17.1%. Our full year diluted earnings per share reached a record high of $2.98, and our adjusted diluted EPS was $3.67, up 34% and 17%, respectively, despite the $0.24 unfavorable impact from the LTIP revaluation.Increased earnings also reflects the successful completion of our 2023 real estate strategy. We're pleased to have achieved the targets we set out 3 years ago by delivering approximately $0.38 of incremental adjusted EPS and reducing our real estate footprint by over 30% from our 2019 baseline.Now turning to our liquidity and capital resources. 2023 was one of our strongest years for operating cash flow generation at $545 million compared to $304 million in 2022. Cash flow this year benefited from a full year of operations post Cardno integration as well as increased revenues and diligent management of our working capital, as shown by our 4-day reduction in DSO from 81 days to 77 days. Increases in operating cash flow were partially offset by higher tax installment payments, driven in part by the impact of U.S. Section 174 and higher interest payments.In 2023, we returned more to our shareholders in dividends, but we were less active with share buybacks compared to 2022. And as of December 31, our net debt-to-adjusted EBITDA was 1x, well within our internal leverage range of 1 to 2x, positioning us very well to fund our acquisitions of Zetcon and Morrison Hershfield in the first quarter of 2024.And with that, I'll turn the call back to Gord.
Thanks, Theresa. In the fourth quarter, we reported backlog of $6.3 billion. Backlog has grown organically by 5% since December 2022 and continues to grow in each of our geographic regions with global posting double-digit organic growth. Compared to the third quarter, our backlog grew organically in native currency, but was offset by foreign currency fluctuations. Our ability to grow backlog in Q4, which is generally softer as a result of seasonality, clearly demonstrates the strength of the market.Backlog in water continued to strengthen with a 23% organic increase, supported by project wins and wastewater treatment, advanced manufacturing, consultancy frameworks and master planning services. Buildings also had a number of strong wins, translating into solid high single-digit organic growth. We continue to see demand for our expertise in health care, multipurpose buildings and advanced manufacturing and industrial facilities. Our backlog represents approximately 12 months of work.We continue to capture significant opportunities in the fourth quarter. We were selected to provide a full suite of architectural, engineering and environmental services for a $1 billion lithium-ion battery manufacturing facility in British Columbia. E-one Moli's facility will include our research and development complex with a fully integrated green roof as well as a 7-storey mass timber office building.Our building's team was selected to design the first comprehensive cancer hospital in Dubai. At over 600,000 square feet, the hospital will be designed recognizing best-in-class building strategies and practices in sustainability. Stantec is consistently ranked as a top 5 design firm in the health space.And as we've talked about in the last number of quarters, the U.K. water appointments are starting to ramp up. This quarter on AMP8, we were appointed to the Northumbrian Water capital delivery framework and to the Severn Trent Water engineering and design consultancy framework. We were also appointed to the Capital Works PMO framework with Irish Water. Each of these wins secures work for the next 5 years with the option to extend beyond that period by agreement.We were also very pleased to announce this morning that we were selected to provide integrated design services for Agratas, new battery manufacturing facility in the U.K. This is one of the most significant investments in the U.K. and the factory will be one of the largest of its kind in Europe. This project award is a testament to the breadth and depth of Stantec's expertise in advanced manufacturing, and we look forward to working closely with Agratas to support the successful completion of this project.Looking at 2024, we continue to see high levels of activity in all regions, and we've now updated our targets to include Morrison Hirschfield. We have raised our net revenue growth target for the year to 11% to 15% and expect organic net revenue growth to be in the mid to high single-digits. For U.S. and Global, we expect mid to high single-digit organic revenue growth. And in Canada, we're guiding to mid-single-digit growth.Our EBITDA margin target for the year is in the range of 16.2% to 17.2%. And finally, we have revised our adjusted diluted EPS growth to now be in the range of 12% to 16%. While we're only 2 months into 2024, we are very confident in being able to achieve these targets, and we remain very optimistic for what's to come.Before opening the call to Q&A, I want to comment briefly on the announcement of Theresa's planned retirement. We have been extremely fortunate to have Theresa on the Stantec team for the last 5.5 years. She's [ added ] a tremendous value to the company and has ensured Stantec is in a very strong financial position. While Theresa will remain in her role as CFO until her successor is in place, ensuring a smooth transition, I want to thank her for all of her efforts and everything that she's done for Stantec over the years.And with that, we'll turn the call back to the operator for questions. Operator?
[Operator Instructions] Our first question comes from Benoit Poirier with Desjardins.
Gord, you mentioned that you're looking at both external and internal candidates. I was just curious if there is any criteria that you're looking at for the CFO search? Any color about the timing for finding the new CFO?
Yes. Well, the search is underway, Benoit. We've been working on it for a couple of months already. And so we're looking forward to -- now that the information is out in public, to really gearing up a little bit further on it. As we mentioned in the prepared remarks, Theresa isn't going anywhere. So while we want to be respectful of her wish to retire, we certainly are going to work through this in a planned and orderly fashion. And we hope it certainly will be in 2024, hopefully in the next quarter or 2.
And looking at the AMP8 program in the U.K., one of your U.S. peers stated that although the funding cycle only officially starts in April 2025, it looks like that they are already seeing multiple U.K. Water clients going out for procurement to be ready. I was just curious, are you seeing this as well?
Well, absolutely. We've already secured many, many awards for AMP8. And in fact, some of the planning awards that we've gotten -- we've been awarded by clients to help them prepare for AMP8. So we're actually already working on preparatory planning type work to get ready for -- as soon as that April 2025 hits, we're ready to go. But as we mentioned in the prepared remarks, a couple more with Northumbrian and others that we secured this year. So we've already got well over half, approaching 60% or 70% of our anticipated wins that have already been issued, procured and awarded.
And just in terms of free cash flow, it looks like that the U.S. 174 R&D law remains in place. Could you provide a dollar amount headwind for 2024? And what could be the implication in terms of free cash flow conversion from net earnings?
Sure. So this Section 174 has been in place for 2 years now and so we saw an impact in 2022 and '23. And so as we look year-over-year, we would expect the impact to be roughly the same. We think -- roughly 30 million to 40 million of additional -- $30 million to $40 million of additional cash taxes as a result of that rule remaining in place. So again, I think year-over-year, it won't create an impact, and we'll keep watching to see if that relief package comes -- is ultimately approved or not.
And maybe last question for me. Obviously, very solid organic growth environment. I was just curious if you could provide more color about the impact of pricing inflation these days on organic growth?
We -- what we've seen over the past couple of years is as we came into 2024, there still is salary pressures, but not to the same degree that we saw it in previous years. So there certainly is -- and as you know, in previous years we've been successful in passing along the majority, if not all, of that salary increases to our clients. So we see that there certainly is some inflation, some increase in our fees into that -- the organic growth numbers that we're putting out. But I'd say it's -- plus or minus half would be fee increases and plus or minus half is just additional organic growth.
Our next question comes from Yuri Lynk with Canaccord Genuity.
I'd like to echo Benoit's congratulations to Therese on your retirement. So just trying -- I don't know if I want to take this one. Just on the guidance, trying to square some of the moving parts in there. So you're calling for mid- to high single-digit organic growth in the U.S., but the backlog there grew organically only 2%, but we kind of have the opposite story in Global where you have very strong double-digit organic growth in backlog, and you're calling for mid- to single-digit revenue growth. So can you -- maybe a little more detail on how we get to those growth rates?
Yes. I mean, I think when it comes to trying to triangulate how things move from backlog into revenue and what we're seeing in our projections, I think you just have to keep in mind that there's always a couple of dynamics at play. One is that when we report backlog, it's a point in time, and it does require us to have everything buttoned up contractually before that work goes into our backlog. But of course, our business leaders have a line of sight to work that is near final or in negotiation and they look at the bidding activity, and those are the things that they factor into their organic growth projections. The other thing that -- to keep in mind as well is that there's often work that comes through MSAs that really don't come into backlog until those task orders are issued, so it shows up and then is worked through pretty quickly. So that would be the primary reason, Yuri, that you wouldn't necessarily see a straight line from backlog growth into organic growth projections.
Theresa, while I've got you, just so I can check my math, where would you peg your pro forma debt-to-EBITDA ratio right at the end of the year?
At the end of the year, I mean, we -- I would say, at the end of the year, assuming no further acquisitions, which is kind of the way we approach our planning and our projections, we should be, again to the lower end of the range. The equity offering we did in November really did what we intended for it to do, was it gave us the additional capacity to fund acquisitions while knowing that we had Zetcon and Morrison Hershfield to fund in the first quarter here. So we're in really good shape. And so as the year unfolds and cash flow, it remains a focus for us to turn over quickly, I would say that we should be in the lower half of our range.
Last one, just quickly. It's a bit of a nitty gritty one. You do mention specifically that you've included Morrison Hershfield in your updated guidance. You don't mention Zetcon. Safe to assume that's also in there?
Yes. So Zetcon was included in the guidance when we rolled it out in December. And so incrementally, we now have MH in there, too. But yes, definitely both are in our current guidance.
Our next question comes from Jacob Bout with CIBC.
I had a question on your organic growth. It was quite strong in the quarter. But when I look at infrastructure, in particular, your low single-digit, I think it was around 3% on a net basis. What happened there, especially as we think about the U.S.? Was the organic growth a little better in the U.S.? Or -- and then what type of improvement are you expecting year-on-year specifically on infrastructure organic growth?
Yes. The -- it's interesting, as you think of infrastructure, primarily for us, that's the transportation business. And as you talk about the --and land development, of course, but a lot of this -- the focus has been on the transportation business. And when you talk about the U.S., of course, we see that continuing to ramp up. The IIJA continues to roll out. And you've heard it from us and others, it's always a little bit slower, but it's continuing to ramp up. And so we're seeing the continued support for that business as we evolve through 2024 and move into subsequent years. So we're not concerned about that.
Second question just on mix. When you look at in for water, environmental service, building, what -- are you happy with your mix right now? Where would you like to bulk up? And maybe just comment quickly on what Zetcon and Morrison Hershfield brings to the table?
Yes. So in general, we're very happy with our current mix. I think that -- so when you look at Morrison Hershfield, it's primarily a lot of expertise in the building segment as well as in transportation. So again, 2 core areas for us that will continue to move forward. Zetcon is very active also in the transportation space and primarily from a project management and construction management perspective, so roadways, bridges, beginning to get involved in some of the electrical grid work in Germany as well. Again, all sort of the core activities that we've got. And neither of those on their own are really going to materially move our overall split between our various business operating units.
Our next question comes from Michael Doumet with Scotiabank.
Very impressive pace of organic hires. Just wondering if you could comment on the extent of the improvement in labor availability this year or now versus last year? And if you can comment on whether you're looking to maintain that pace of organic hires into 2024?
Right. And so -- yes, good question. A couple of things there. Firstly, we have really ramped up the pace of hiring over the last number of years, and a lot of the hires interestingly are both -- it's a bit divergent. One is that the -- we continue to hire at the entry level in order to continue to fill out that portion of our demographic profile, so a lot of hiring at the new graduate level, people in their first 5 or 10 years of their career. But one thing that we've seen evolve over the last couple of years as we're continuing to get more and more of these large projects, that we're bringing in a lot of more senior staff as well, people with 30, 35 years of experience, and we're becoming increasingly attractive to those folks also. So we're seeing labor availability. It's tight out there, no question, but our brand, the type of projects that we're bringing to the table really is enabling us to continue with that hiring.And to your question about, do we see that continuing? Absolutely. When you look at the organic growth numbers that we're putting up, there are expectations our guidance for this year, that will require continued hiring. And we -- I wouldn't say it's easy, but we've been very successful in bringing these people on.
And maybe if I turn to the EBITDA margins, in '23, [ 16.3 ] -- 17.1x LTIP. So about 80 basis points difference, I guess, between the 2. And then if I look at your '24 EBITDA guide, you're effectively calling for a 40 basis points margin expansion. Just wondering what is assumed as LTIP, what is assumed in terms of underlying margin improvement in '24?
Yes. So we -- the way that we establish our guidance is that we assume -- we use the share price at the end of that reporting period, so in this case, at the end of December 2023, and we project our LTIP on that basis because, as you know, you have no idea how your share price is going to move over the course of the year. And so we don't try to bake-in any kind of guesses one way or the other. And so as you think about our EBITDA margin from the 16.4% that we reported for 2023 relative to our guided range of 16.2% to 17.2%, that is all margin improvement that is incorporated into our current target and assumes a steady share price for our LTIP.
Our next question comes from Devin Dodge with BMO Capital Markets.
I wanted to pick up on Michael's last question there. Look, the headwind from LTIP revaluation, clearly, a high-class problem to have. I believe there's been some effort towards insulating this impact from near-term results. Is there a framework or sensitivity that you can provide in terms of how a change in the stock price impact LTIP [ cost ]? And how much of that has been hedged in 2024?
Sure. So you're right. We have put total return swaps on a component of our LTIP program. So there's 3 tranches of units, 2 of which are based purely on share price movement and one tranche, which is the bigger tranche unfortunately, the performance share units that are based on share price movement and our relative TSR. And so we have hedged the majority of the component that is purely sensitive to share price movement. And so even as we've been talking through the year about identifying the revaluation impact, that's already net of having hedged that component of our units. So that -- it does make it hard for us. We don't hedge the performance share units because we can't get hedge accounting treatment on them and makes the results even noisier.So it's hard to give a sensitivity because every quarter we accrue another tranche of a 3-year program. That number then gets multiplied by a share price. The whole number of units you have outstanding gets revalued at the current share price. And then we put it through a Monte Carlo simulation to try and pay what the TSR impact is. And that's the piece that you just can't give a sensitivity or an estimation for. It's an accounting requirement. And so it's hard to say how accurate that simulation process is. And that's the primary reason it's very hard to give an estimation.
Maybe just switching over to M&A. Just wondering, are you seeing more seller interest from employee-owned firms that may be finding it challenging to fund their growth plans? And just wondering if those discussions or negotiations with employee-owned firms, whether they differ much from when you're looking to acquire from a single owner?
Yes. We're absolutely seeing increasing discussions with employee-owned firms. And both Zetcon and Morrison Hershfield fell squarely into that category. And one of the -- a couple of things that are of note there with those discussions. Certainly, what we're finding is one of the key ones is as they're thinking about share transition from one generation to the next.And we -- those ones, particularly Morrison Hershfield as well as a number of other discussions that we have ongoing, are just related to the folks coming up through the organization, those 30-somethings and 40-somethings with not having the ability to acquire shares. The -- in many major metropolitan areas, it's a struggle to buy a house. And so they're not finding that they're having the funds to buy in. And so these -- as the older generation is retiring, there's not the new guys coming in to take over the firm and to buy them out. Lots of interest in [ staying ] with the firm doing that type of work, but just not the ability to fund share purchases.The other thing that we're seeing with some employee-owned firms is that the investment required, not so much certainly for growth, but also for some of the digital transformation that we see coming, AI, increasing demands in both financial and from a knowledge base to keep up with some cyber threats and so on. So we're seeing a number of employee-owned firms beginning to struggle with funding some of those things as well. And so that's generating a lot of the ongoing conversation.A couple of things though that you mentioned is talking with an employee-owned firm different than others maybe are public deals, and that is true. The one thing that we find, and is a huge benefit for Stantec in these discussions, is that employee-owned firms are extremely sensitive to culture. They've built this firm, they've owned this firm for many decades. And so who they would transition this firm to from a cultural perspective is very important. And certainly, we're very comfortable there with the cultural alignment that we bring to a number of these firms. So yes, they are a little bit different.
Our next question comes from Maxim Sytchev with NBF.
I was wondering if it would be possible to get a bit more color on the Energy market which witnessed a slight retraction? Just curious to see what's going on there?
So a couple of things we're seeing there. Certainly, the -- on the renewable side, still a lot of activity as we talk about pumped storage. We talk about solar and wind and some things. But you are seeing some slowdown in some of the offshore wind projects and things, seeing some stress in some of the suppliers -- equipment suppliers. Also you're seeing in Western Canada, in Alberta, in particular, a pause on new renewables. So that's our non new renewable power. So that's slowing things there a little bit as well. But we -- so we're continuing to monitor all of those things. We're not seeing any particular long-term systemic issues. We still are projecting good organic growth for the year in that sector.
And you're not seeing, I guess, sort of a negative [ slower ] effect into your environmental and what a business is, because I think typically there's some subcontracting going on, right?
Yes. No, no, we're not seeing any at this point, Max.
And then in terms of -- obviously, people are asking questions around sort of employee-owned firms, but curious to see what's happening with some of the private equity owners, if potentially that could open up an additional sort of venue for target score for you from an M&A perspective?
We -- yes, we absolutely have seen a number of PE-owned or backed firms in initial stages of conversation as they're nearing the end of their investment cycle. So I do think, in addition to employee-owned firms, we'll see more and more PE firms coming to market through the year.
I'm showing no further questions at this time. I would now like to turn it back to Gord Johnston for closing remarks.
Great. Well, thank you again for joining us today. We're very pleased with our Q4 and full year 2023 performance, and we're really optimistic about the outlook here for 2024. So thanks again, and goodbye.
This concludes today's conference call. Thank you for participating. You may now disconnect.