Good day. Ladies and gentlemen, thank you for standing by and welcome to the Third Quarter 2021 Comfort Systems USA Earnings Conference Call. At this time, all participants are in listen-only mode. After the speakers' presentation, there will be a question-and-answer session. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker host today, Julie Shaeff, Chief Accounting Officer. Please go ahead.

Thanks, Olivia. Good morning. Welcome to Comfort Systems USA's third quarter earnings call. Our comments this morning, as well as our press releases contain forward-looking statements, within the meaning of applicable securities laws and regulations. What we will say today is based on the current plans and expectations of Comfort Systems USA. Those plans and expectations include risks and uncertainties that might cause actual future activities and results of our operations to be materially different from those set forth in our comments. You can read a more detailed listing and commentary concerning our specific risk factors in our most recent Form 10-K and Form 10-Q, as well as in our press release covering these earnings. A slide presentation has been provided as a companion to our remarks. The presentation is posted on the Investor Relations section of the company's website found at comfortsystemsusa.com. Joining me on the call today are Brian Lane, President and Chief Executive Officer; Trent McKenna, Chief Operating Officer; and Bill George, Chief Financial Officer. Brian will open our remarks.

Okay. Thanks, Julie. Good morning, everyone, and thank you for joining us on the call today. We are happy to report a fantastic third quarter. We earned $1.27 per share on revenue of $834 million. Same-store revenue grew by 9% compared to the third quarter of 2020, as work and bookings are returning as COVID challenges decrease. Our backlog was over $1.9 billion this quarter, which is a $270 million same-store increase over this time last year. Our free cash flow continues to be strong, and yesterday we increased our dividend by 8%. Our essential workforce continues to perform at an outstanding level, and we are grateful for their strength and perseverance during these challenging times. During the third quarter, we closed our acquisition of Amteck, which focuses on electrical projects and service in Kentucky, Tennessee and the Carolinas. Amteck brings an exceptional set of capabilities and relationships and a strong reputation in industrial markets, such as food processing. We are thrilled to have them as part of Comfort Systems USA. I will discuss our business and outlook in a few minutes, but first, I'll turn this over to Bill to review our financial performance. Bill?

Thanks, Brian, and hello, everyone. This will be pretty brief. Revenue for the third quarter of 2021 was $834 million, an increase of $120 million or 17% compared to last year; same-store revenue increased by a strong 9%, with the remaining increase resulting from our acquisitions of TEC and Amteck. Gross profit this quarter was $159 million, a $12 million improvement compared to a year ago while gross profit percentage was 19.1% this quarter compared to 20.6% for the third quarter of 2020. Our gross profit percentage related to our Mechanical segment was strong at 20.1% and margins in the Electrical segment have increased significantly compared to last year. SG&A expense for the quarter was $95 million or 11.4% of revenue compared to $91 million or 12.7% of revenue for the third quarter in 2020. On a same-store basis, SG&A was down approximately $2 million, primarily due to tax consulting fees that we incurred in the prior year. Our year-to-date 2021 tax rate was in the expected range at 24.1%. Net income for the third quarter of 2021 was $46 million or $1.27 per share. This compares to net income for the third quarter of 2020 of $50 million or $1.36 per share, as last year included a $0.17 benefit that resulted when we settled tax audits from past years. Excluding that discrete item from last year, our earnings per share increased by 7% compared to the record level of a year ago. For our third quarter, EBITDA was up significantly to $82 million, an increase of 15% over the prior year. And through nine months, our EBITDA is $188 million. Free cash flow in the first nine months was $139 million, as compared to $199 million in 2020. The COVID-induced work slowdown and some temporary tax benefit created unprecedented cash flow last year. Our cash flow this year is robust through nine months and we expect continued good cash flow, although we are likely to continue to deploy some net working capital to start new projects in many places. In addition, we will be paying the federal government an extra $16 million of payroll taxes next quarter that were deferred under the CARES Act in 2020. Ongoing strong cash flow has allowed us to reduce our debt faster than expected, while still actively repurchasing our stock. Since the beginning of the year, we have repurchased 346,000 shares which is almost 1% of our outstanding shares at an average price of $73.69. Since we began our repurchase program in 2007, we have bought back over 9.6 million shares at an average price of less than $22. Brian mentioned that we closed the acquisition of Amteck. Amteck is reported in our Electrical segment and it is expected to contribute annualized revenues of approximately $175 million to $200 million and earnings before interest taxes, depreciation and amortization of $14 million to $17 million. However, because of the amortization expense related to intangibles, the acquisition is not expected to contribute to EPS for the next few quarters. That's all I have on financial, Brian.

All right. Thanks, Bill. I am going to spend a few minutes discussing our backlog and markets. I will also comment on our outlook for the remainder of 2021 and the full year 2022. Backlog at the end of the third quarter of 2021 was $1.94 billion. Our sequential same-store backlog was up slightly, which is great by the end of the third quarter due to the heavy backlog burn this time of the year. Year-over-year, our backlog is up by over $500 million or 36%. Same-store backlog increased by 19%, a broad-based increase. We believe that the impact on activity levels related to COVID-19 have now stabilized and we expect to continue seeing good trends in work availability in the coming quarters. Industrial customers were 43% of total revenue in the first nine months of 2021. We think this sector which includes technology, life sciences, and food processing will remain strong for us, as Industrial is heavily represented in new backlog as well as in our recent acquisitions. Institutional markets, which include education, health care, and government are strong and represented 33% of our revenue. The commercial sector is also doing well but without a changing mix; it is now a smaller part of our business at about 24% of revenue. Year-to-date, construction was 77% of our revenue with 46% from construction projects for new buildings and 31% from construction projects in existing buildings. Service was very strong this quarter and our increasing service revenue was 23% of our year-to-date revenue with service projects providing 9% of revenue and pure service including hourly work providing 14% of revenue. Year-to-date service revenue was up by 11%. And with our continuing strong margins, our service earnings were up by a similar amount. Service has rebounded as buildings are open and profitable small project activity is back. Overall, service continues to be a great source of profit for us. Finally, our outlook. Our backlog is at record levels. Project development and planning activities with our customers are continuing. We are paying more for materials but so far our teams have coped successfully with challenges in material availability and cost. We are closely monitoring material shortages and costs and are taking steps to add additional protections on new work. Vaccine mandates by certain customers have posed challenges in our ability to pursue certain work. All staff are maintaining scheduling on work that is subject to such mandates. So far we have been able to meet our customers' requirements. However, the Occupational Safety and Health Administration, OSHA is drafting an emergency regulation on vaccinations and it is impossible to predict the scope, timing, and impact of the new regulation on us, or our industry or on the US economy. The underlying trends in customer demand and opportunities are very positive. And so despite challenges, we continue to anticipate solid earnings and cash flow for the remainder of 2021 and we feel that we have good prospects for 2022. Over the last few years, we completed a series of transformative acquisitions that have built upon our unbroken history of profitability and cash flow to increase our scale, deepen our exposure to complex markets, including industrial, technology, and pharma, and expand our recurring service revenue. Each investment has strengthened and expanded our unmatched nationwide community of skilled workers. We are also experiencing increasing benefits from our substantial and ongoing investments in training, productivity, and technology. These acquisitions and other investments have laid the foundation for the current strong results and give us confidence as we move forward. Above all, we are mindful of the ongoing challenges that our employees across the United States continue to confront and we are deeply grateful for their perseverance. We are committed to providing our workers and thus our customers with unmatched resources, opportunities, and support. I will now turn it back over to Olivia for questions. Thank you.

Thank you. Our first question is coming from the line of Sean Eastman with KeyBanc. Your line is open.

You there Sean?

Please check your mute button. And next question in queue coming from the line of Adam Thalhimer with Thompson Davis. Your line is open.

Hey good morning guys. Congrats on a great quarter.

Hey, thanks Adam. Good morning.

Adam you're not speechless.

And there is no echo anymore.

There you go.

Is it too early to have an outlook on just core non-res growth next year?

I would say that we have a good opportunity to achieve better growth than we've seen in the last several years. We expect mid-single digit growth, possibly with some upside. Recently, we experienced 9% growth, but a year ago we were still feeling the effects of COVID, although our third quarter last year was surprisingly good with mid-single digits.

Yeah, we're optimistic going into next year. If you look at how much our service has grown, the strength of our backlog, and the many opportunities we're exploring, 2022 is looking promising.

What are you seeing on the M&A front?

So we keep saying that we'll probably take a pause after we do these deals that are big for us. And I think that that's less likely now. There are some people we're talking to. So we're very mindful of changes in the capital gains rate. So I think we have an opportunity to do some transactions in the next few months. I will say that we're pretty much only doing relationship deals right now, people we've talked to for a long time, who now have an interest. I think maybe it's a good time to sell with tax changes coming. We're not engaging in processes or bidding for companies. It's a very frothy market for people chasing assets that can be put in an auction and we're not doing that.

Yes. Adam, as you know Bill does all of our deals. And if we continue on what's happened in the last 10 years, it will be good for us.

Okay. And then lastly, you saw an increase in backlog within Electrical. Can you discuss whether that was related to Walker? Can you share a bit about the outlook for Walker?

So I'll answer that one. I mean, Walker has done a terrific job this year. Basically, it will double their margins. They are in Texas and there's plenty of opportunities in Texas particularly Dallas, San Antonio and now Houston has picked up pretty steadily. So I think going forward the combination of their backlog and opportunities, I think Walker is well poised to have a very good end of this year and a good 2022.

Okay. Thanks, guys. I’ll turn it over.

Thanks, Adam.

Our next question coming from the line of Brent Thielman with D.A. Davidson. Your line is open.

Hey. Thank you. Good morning.

Good morning, Brent.

The service work looks like sort of collectively grew 10% this quarter. Brian, I just want to get your thoughts on whether you think you can sustain the sort of growth rates in that side of the business going forward?

One thing to keep in mind is that service was somewhat reduced in the middle of last year. So this reflects a combination of a slight recovery and strong growth.

Yes, Brent has been with us for a long time, and we've continued to invest in service on both the sales and execution fronts. We will keep growing that business steadily, achieving mid-single digit growth and perhaps a little more as we move forward. This is a solid source of strength as we consistently deliver performance.

Brian, do you or Bill have any thoughts on whether we should allocate more capital than usual to build up that business or just continue with our current approach?

I think we're going to continue it as is. So that we make sure that we keep our capability in line with customer expectations. We don't want to disappoint anyone. So we believe slow and steady growth makes sure we keep our employees and our customers happy and we can deliver top-shelf service to them.

There are two primary ways we deploy capital. One is through investments in our existing business, where we ensure that no opportunity is overlooked. While it's a capital-light business, we do invest in essential technologies and prioritize training across all areas, particularly in service. We make sure to fully utilize every dollar available for investment. Regarding acquisitions, we seek out the best companies, and it’s a bonus if they have a strong service component. We also appreciate companies that can develop complex food plants, like Amteck. Our strategy is to continue focusing on what works well, prioritizing great workforces, intricate capabilities, and locations where our services are in demand due to limited competition.

Okay. That's great. And I think this is kind of a follow-up to Adam's question, but you talked a lot about the industrial vertical and it's obviously, been fantastic for you. I just want to get a pulse on some of these other markets you're in and I know they're shrinking as a percentage of the pie, but looking at this sector this quarter, areas like education were down a couple of other verticals in there that were down. Do you think, we'll be in a place in 2022 where some of these areas see a more material turn?

Yeah. I just think, it's down in percentage but they're actually growing in real dollars. Education has been pretty consistent for us, particularly at the university level as you know. We got some K-12 work, and I think you'll get some IQ opportunities as we go on. Medical's picked up for us. We got some good growth in our backlog in medical. And in commercial buildings, it's more on the service and tenant fit-out type work. So the other markets are good slight growth with industrial obviously with the most growth opportunity. Bill?

I agree.

Okay. Just the last one I guess is just on the electrical margins, I mean, you've seen some real stability here this year in terms of what you reported there. Any thoughts kind of going forward these are really – sustain level?

Yeah. So this is an opportunity for Comfort Systems, right? So Walker, have very significant improvement. But keep in mind, we've also bought some really good electrical companies, and they are now in that segment, and they bring in very, very good margins. So it's probably – it's unlikely probably that we will get to overall electrical margins that are as high as our overall mechanical margins on average, over long periods of time in part because of the service component is a little bigger in mechanical. But I really like our opportunity to continue to pull a little bit of the improvement out of electrical. Remember, what Brian said about Walker, Walker has got good opportunities, and that's really true in all of our businesses, and it's true in electrical and they probably – as a segment, it probably has a little more room to get better.

Yeah, Brent. Just – I mean, we're really happy with the electrical business and what we see the future of. I think that's going to be a really strong element for Comfort Systems on a long-term basis.

Okay. Great. Thank you, guys.

All right. Thanks.

Our next question coming from the line of Julio Romero with Sidoti. Your line is open.

Hey, good morning. Thanks for taking the questions.

Hey, good morning.

I wanted to ask about the order trends. They've obviously trended very nicely. We've seen sequential growth for four straight quarters. How do you expect to see orders trend over the next couple of quarters? And are you at this point kind of turning down any projects at all?

Our booking season usually is the winter, and that's not changed. So we have – I think as far as the timing we never – we can't really control when the pieces of the paper gets finalized. But over the next six months, I think we have – the bookings should continue to get better, the next sort of the net bookings and pricing is good in those bookings. We are – when we're busy we're picky. And also right now, there are some places where we're not pursuing work where there might be a vaccine mandate, although you were hearing more about that 30 days ago than you are now. But in part, we're doing that, because we can, right?

Yeah. Julio, just to follow on that, I think the discipline we're maintaining on go/no-go, what our projects to take. I think the operating folks are really doing a terrific job about what opportunities to pursue and maybe wants to pass over. So I'm really pleased with how that's going.

Got it. Yeah, being picky is certainly a good thing in this market. And I guess, you mentioned not being as attractive to areas where there may be some vaccine mandates. Are you seeing any other kind of bottlenecks on the labor side vaccines, or any other bottleneck that you may be seeing?

There are certain customer segments where we have been discussing vaccine mandates a lot, particularly about 30 to 60 days ago. We are making good progress in increasing our workforce vaccination rates, but our workforce demographic has lower vaccination rates than the national average. When evaluating work that requires vaccination, we assess our available resources and the composition of our workforce to determine if pursuing such projects is worthwhile, which also factors into our pricing strategy. Regarding other potential bottlenecks, our primary challenge remains labor, right Brian?

Yes, it's always a challenge, Julio, and we are fortunate to have many people working here who are managing across companies as best as they can. We are constantly searching for good talent in the market, so we are handling it as we have for 50 years.

Regarding vaccine mandates, this is not an issue specific to Comfort Systems, but rather a broader issue for the United States. If the federal government decides to implement regulations impacting 15% to 40% of our blue-collar workforce, that will have national implications. Comfort Systems is actually well positioned; 25% of our revenue comes from Texas, and Florida is our next largest state. We believe we are better prepared for the potential worst-case scenario than many others we are aware of. However, it does seem that more people are getting vaccinated, and customers are exploring various ways to maintain safety at their job sites.

Got it. So I guess any industry pain points where everyone's feeling labor tightness might in some way play to your advantage on a competitive balance?

It happened in the past.

Yes, it happened in the past. And Julio, we're a good employer. We're good to work. So we're very attractive to folks out there that want to do mechanical electrical plumbing type work.

Understood. Congrats on a nice quarter and best of luck in 4Q.

Thank you very much.

And our next question coming from the line of Sean Eastman with KeyBanc. Your line is open.

Can you guys hear me this time?

Yes.

Just wanted to keep you alert there. Out of curiosity, do you have any idea what the vaccination rate is for Comfort Systems workforce?

The issue with Comfort is that there isn't a single workforce for Comfort Systems. We have workforces in different locations like Massachusetts and Florida. Overall, I believe we are definitely above the average vaccination rate for our industry, which is thought to be about 50%. We've made significant efforts to ensure that. Additionally, it's important to note that sometimes individuals may be vaccinated but haven't reported it. There are situations where people may choose not to disclose their vaccination status, making it difficult to obtain an accurate measure.

But in terms of that, Sean we're making it really easy for folks to get vaccinated that are working here.

Over the past quarter, we observed several major OEMs emphasize significant market opportunities related to energy efficiency, which appears to complement the demand for IAQ solutions. Given the numerous net zero commitments emerging from both the private and public sectors, I’m curious if Comfort Systems is aligning itself with this trend.

We typically don't discuss large initiatives, but we are present in many regions where we can effectively leverage current trends, such as electric vehicles. Historically, Comfort has not participated in the automotive sector, but our expertise in building batteries and advanced electronics aligns well with this industry. Recently, I've attended planning meetings at our subsidiaries where they have been identifying such opportunities with project names displayed. I believe that any developments that encourage the United States to rearrange or redeploy resources will see us stepping in to provide assistance.

And Sean, this is in theory. We are actually working on a project right now for the maker of electric batteries so.

It's real life. We have real work with revenue and profit. When you consider life sciences, which are performing well, along with various other types of technology—since much of what we do is technology-driven—we believe our prospects are strong. Beyond internal air quality, there are several promising opportunities at the core of our industrial expertise that are benefiting from these changes.

What's great about our workforce is we're very adaptable to work on multi-type facility, Sean. It's a real strength of ours.

Okay. That's really interesting. And I wanted to check in on the modular business as well. I mean, I felt like the longer-term play there was helping to address the sort of structural labor shortage. Obviously, that seems to be quite an acute situation right now. How is that playing out for you guys? I just wondered, maybe on the flip side of that, that business could be a little more susceptible to some of the capacity constraints just around shipping and things like that, but wanted to check back in on that business.

Yeah. I would say we definitely have had to put more money in just shipping and quotes for shipping.

Yeah.

A lot of what we sell is primarily shipped by the buyer. It also presents an opportunity to improve labor utilization on certain types of projects, accounting for 10% of our revenue. This quarter was quite profitable. While I could have emphasized how well it performed, the entire business did well overall. We've seen notable success in off-site construction and modular, and we're confident in our ability to attract new customers and demonstrate how our solutions can benefit them. This is a strategic initiative that aligns with five-year plans rather than just short-term quarterly goals. We have a skilled team collaborating on our two major off-site construction projects, and they have a solid plan for the upcoming years. We're genuinely excited about this.

Yeah. And that into the business Sean, we got great leadership locally terrific workforce, they're applying technology, advancements in welding, what they're doing is tremendously exciting to me. I love going there. And I think they'll just keep getting better and better.

Okay. Good update there. And then, you guys are clearly boasting about the success of the acquisition program here on this call, I think rightfully so. We kind of touched on how the program has sort of helped position you guys in these growth end markets where you've got these secular drivers, but to the extent you can comment if you just look back over the last five years or even 10 years, I mean, what kind of cash returns have you seen from the acquisition program?

I'm going to let Bill answer that one.

That's an embarrassing answer. No, it's been fantastic. These companies have consistently met or exceeded our projections since we last acquired a company of any significant size in 2008. Many of them have outperformed our expectations by far. They contribute more to our cash flow than to our earnings due to the heavy amortization in the early years following the acquisition. That's one of the reasons why…

Have we lost Sean?

I don't know.

Now, I'm showing no further questions at this time. I would now like to turn the call back over to Mr. Brian Lane, for any closing remarks.

All right. Thank you very much. And in closing, I want to again, thank our hard-working employees. They're doing just a terrific job. We are glad we'll be seeing many of you again in person soon. But in the meanwhile, please be safe. Enjoy the rest of your day. And thank you very much.

Thanks everyone.

Ladies and gentlemen, that ends our conference for today. Thank you for your participation. You may now disconnect.