Good day, and thank you for standing by. And welcome to the Q1 2024 Comfort Systems USA Earnings Conference Call. Please be advised that today's conference is being recorded.

Thanks, Justin. Good morning. Welcome to Comfort Systems USA's First Quarter 2024 Earnings Call. Our comments today, as well as our press releases, contain forward-looking statements within the meaning of the applicable securities laws regulation. 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 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. This 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.

Thanks, Julie. Good morning, everyone, and thank you for joining us on the call today. 2024 is off to an outstanding start, with strong revenue, fantastic margins, and continuing strong cash flow. Our dedicated teams across the country achieved superb execution, and I am deeply grateful for their hard work and commitment. We earned $2.69 per share this quarter compared to $1.59 a year ago. Our revenue was $1.5 billion, with same-store growth of 23%. Our mechanical business exceeded last year, while our electrical segment achieved unprecedented margin. Backlog is $5.9 billion, up both year-over-year and sequentially on a same-store basis. Construction continues to thrive amid strong ongoing demand, and service is performing at high levels. In February, we closed two substantial acquisitions, Summit Industrial and J & S Mechanical, and they, too, are off to a great start. Both of these companies are included in our mechanical segment. We also increased our dividend by 20%, adding $0.05 to reach $0.30 per share. This increase reflects our continuing strong cash flow and our commitment to reward our shareholders. I will discuss our business and outlook in a few minutes, but first, I will turn this call over to Bill to review our financial performance. Bill?

Thanks, Brian. I can't help but also express my gratitude to the people who are working every day to create these amazing results. So as Brian noted, revenue for the first quarter of 2024 was $1.5 billion, and that is an increase of $362 million, or 31%, compared to last year. Same-store revenue increased by 23%, or $266 million, with the remaining $96 million increase resulting from acquisitions. Our mechanical segment revenue increased by 29%, and our electrical segment revenue increased by 37%. We did not experience as much seasonality in this first quarter as we have in the past, as an increasing proportion of our work is being performed in warmer climates. Additionally, weather in our colder climates was favorable for construction this quarter, and with the strong growth in modular, more of our work is being performed under roof inside our modular plans. We are also facing tougher prior year comparable results for the remainder of this year. However, our best estimate is that we will achieve same-store percentage revenue increases in at least the mid-teens and more likely in the high teens for the full year. Gross profit was $297 million for the first quarter of 2024, a $92 million improvement compared to a year ago. Our gross profit percentage improved to 19.3% this quarter compared to 17.5% for the first quarter of 2023. The quarterly gross profit percentage in our electrical segment improved to 22.6% this year as compared to 16.1% last year. Margins in our mechanical segment also increased in the quarter to 18.4% as compared to 17.9% in the first quarter of 2023. Our mechanical segment includes our modular business, which operates at lower margins than our remaining business. EBITDA improved markedly to $170 million this quarter from an already strong $90 million in the first quarter of 2023. Same-store EBITDA increased by over 70%. Although the first quarter benefited from the favorable factors I mentioned earlier and our underlying trends are strong, we expect that for 2024, EBITDA margins will continue to trend in the strong ranges that we have achieved over the last several quarters, and we are optimistic that full-year EBITDA margins in 2024 will match or exceed our high 2023 results. Gross margin should also remain strong, but gross margin percentage may be more variable in 2024 in light of the effect of amortization and certain purchase-related adjustments. SG&A expense for the quarter was $163 million, or 10.6% of revenue, compared to $135 million, or 11.5% of revenue in the first quarter of 2023. On a same-store basis, SG&A spend was $19 million higher due to ongoing investments to support our higher activity levels. Our operating income increased by 91% from last year, from $71 million in the first quarter of 2023 to $135 million for the first quarter of 2024. With improved gross profit margins and favorable SG&A leverage, our operating income percentage increased to 8.8% this quarter from 6.0% in the prior year. Changes in the fair value of our earnout obligations this quarter reduced our income by $12 million, caused by the variability noted earlier and was triggered by strong early performance at our recent acquisitions. We always have purchase-related adjustments in the periods following an acquisition; however, they will likely be much larger over the next several quarters because of the size of the Summit and J & S acquisition and the significant contingent consideration opportunities that were included in those transactions. Our first quarter tax rate was 21.7%. We currently estimate that the full-year 2024 tax rate will likely be in the 21% to 22% range. After considering all these factors, net income for the first quarter of 2024 was $96 million, or $2.69 per share. This compares to net income for the first quarter of 2023 of $57 million, or $1.59 per share. Free cash flow for the first quarter of 2024 was $123 million. We continue to benefit from advanced payments for work that we will fund and complete in upcoming quarters. And operating cash flow continues to exceed our earnings by about $300 million on a trailing 12-month basis. Over the coming quarters, we expect that eventually pre-bookings and equipment advances will normalize, creating some cash flow headwind. In the meantime, these collections have allowed us to invest in growth and fund acquisitions from current cash flows while lowering interest costs. Our total debt, as of March 31, 2024, was $90 million, with no funded debt from our banks, despite large cash payments for the Summit and J & S acquisitions in February. As Brian noted, we also increased our dividend. Before I close, I want to mention one additional item, which is not directly relevant to our financial results, but that I wanted to flag for awareness. Last night, a Texas jury returned a jury verdict against one of our subsidiaries relating to a 2019 safety incident. The jury verdict was over $70 million. That pencils out to about $48 million for us. Assuming this jury's verdict is entered by the judge, we will pursue a number of strong appeals. Even if the appeals are unsuccessful, this event is not expected to have an impact on us financially. That's all I have, Brian.

All right. Thanks, Bill. I'm going to discuss our business and outlook. Our backlog at the end of the first quarter was a record $5.9 billion. Since last year, our backlog has increased by $1.5 billion, or 33%. About half of that increase was same-store growth, and the other half was new backlog from companies we acquired. Our sequential backlog increased by $754 million, of which $612 million related to acquisitions. Our same-store sequential backlog increased by $142 million, and pipelines remain strong. Our revenue mix continues to trend toward data centers, chip fabrication, battery plants, life sciences, and food. Industrial customers accounted for 60% of total revenue in the first quarter and are major drivers of pipeline and backlog. Technology, which is included in industrial, was 30% of our revenue, a substantial increase from 19% in the prior year. Institutional markets, which include education, health care, and government, are also strong, representing 23% of our revenue. The commercial sector remains reasonably active in the regions that we serve, but it is now a smaller part of our business, at about 17% of revenue. The majority of our service revenue is for commercial customers, so the share of our overall construction revenue from commercial has become relatively small. Construction grew quickly and drove great results for us this quarter. Overall, construction accounted for 84% of our revenue, with projects for new buildings representing 59% and existing building construction 25%. We include modular and new building construction. In modular, this quarter, that contributed to 16% of our revenue. Service revenue increased this quarter, but because of the growth in construction, even with the service revenue increase, service fell to 16% of total revenue. Service, which remains seasonal, continues to be a great source of profit and cash flow for us. Comfort Systems USA is thriving, and our team members across the country are delivering exceptional results. Thanks to their excellence and in light of the strong ongoing demand, we are optimistic that we will continue to achieve strong results in 2024. Safety, execution, and innovation remain at the forefront of our operations. We believe that our commitment to our employees and building legacies is the foundation of our success. Our number one priority is to preserve and grow the best workforce in our industry. And so, as always, I want to close by thanking all our 16,500 employees for their hard work and dedication. I will now turn it back over to Justin for questions.

And our first question comes from Alex Dwyer from KeyBanc Capital Markets.

Congrats on a strong start to the year. So the EBITDA margin was very strong this quarter, and the guide for this year continues to call for similar last year. Can you just talk about the potential for margin expansion over the rest of the year? Is it just that the comps get tougher in the back half, or is there something in the recent performance that isn't sustainable as we progress through this year?

Well, this is Brian. I'll go first, and then Bill can follow up. I mean, we're really pleased with the margins that we have right now. If you're in that gross margin, 18% to 20% range, I think you're executing at a high level, over 19% for the quarter. So I think we're going to continue to be in that range throughout the year. We'll have broad-based excellent performance across our operating companies. So, I mean, we might have a little fluctuation up or down as we go, but in general, our performance has just been excellent.

Yes. Like we noted in our opening comments, we're definitely anticipating our EBITDA margins for the full year to stay up near last year, right? The recent amazing results we have, and we're optimistic we can do a little better. I will say, as you pointed out, later this year, we hit some very tough comparables, right? We had extraordinary growth and increases really progressively throughout the year and especially in the second half of the year last year. One of the things you're seeing is even though last year, the first quarter seemed like an extraordinary quarter, and it was, it got so much better later in the year that we're just facing tougher comparables. We're extremely optimistic, but they are tough comparables, and that's why we're giving that guidance.

And then the organic backlog growth was very strong this quarter. Can you talk about what end markets drove that strength? And if there were any larger modular orders in there? And do you think it's fair to assume backlog can continue to increase sequentially through this year?

In terms of the backlog, it's broad-based. We didn't get one surge in any particular segment. It's really reassuring to us here to see multi-sectors, particularly if you're talking about the tech sector, manufacturing, and education, see at the university level strong, and health care, outpatient, and hospitals. So we're seeing good balance across the board.

As we look ahead to the upcoming quarters, I would actually be surprised if we don't see some sequential declines, especially as we enter the summer and revenues rise significantly. Historically, we've experienced sequential declines mid-year, except for recent times. I haven't been caught off guard by the trends in the last few quarters. The demand for our services is unparalleled, and we are even having to turn away work. However, there is a limit to the amount of work we can take on. While I expect the backlog to remain at very high levels, I wouldn't guarantee that every sequential comparison will show an increase, as that has not been the historical norm.

And then last one for me. The Summit and J & S acquisitions are off to a strong start this year. Is there anything different about the integration of them into your business, given these are so large? And then can you talk about the appetite for more deals through the year?

I'll just start on the integration. The outliers, one of a little bit of advantage you have in the outliers is that you get a little bit more horsepower in the back office to handle public company requirements. These are both very sophisticated companies with excellent workforces and great leadership. So we're working pretty closely with them to make this as smooth as possible. Plus, they got a great attitude to integrate themselves, which is a huge help. So far, they are off to a great start.

Yes, I couldn't agree more. For us, the integration, the biggest thing we try to do in integration is keep what's great about a company and keep it going, and keep that local excellence continuing. That's an advantage we have since we're not trying to change things. That makes integration a little easier.

And our next question comes from Adam Thalhimer from Thompson Davis.

I wanted to stick on Summit and just see kind of what you're seeing so far, specifically from chip plants kind of the timing of those projects?

They have impressive work and promising prospects. They also have a significant solar fabrication facility, and they are well-equipped to tackle the challenging tasks that the country needs at this moment. This is why we were eager to acquire them. Currently, we are moving forward with full momentum.

Yes. You know, Adam, in terms of their skill set, they're looking at a lot of opportunities in pharmaceuticals, et cetera. So this feels replicable to a whole bunch of industries.

Okay. What kind of capacity growth potential do they have as you start getting more into markets?

So when we buy a company, we don't push them to grow. We basically push them to do well. Well, we push them to grow their workforce to really, really put their arms around and grow their workforce, which leads to growth in almost every case. But I would not say for us, that's a growth story. I think like almost any company we buy, they will grow over time. But for us, it's just an excellence story to keep your workforce busy.

I wanted to ask about specialty contractor capacity. Is it as tight now as it was a year or two ago? And are you still booking work further out?

Yes. Adam, for sure, it's still tight. We've been very fortunate to recruit some outstanding people on the human resource side. We're attracting some great talent, but it is still tight. However, we are in a good place to work. We offer great compensation packages and the opportunity to develop. We like to promote from within. I think that will be a struggle for a while. But we have good work, and people like working here, so I'm very optimistic about the future.

All right. And Bill, just a quick modeling thing. What do you have for D&A in Q2 since we only had the acquisitions for part of Q1?

So we had two months with those individuals. If you check the footnotes, there's a table that outlines exactly what we expect. You can find the actual numbers in one of the footnotes.

I was being lazy.

Yes, I have been a bit lazy because I need to check it myself. It's significant. You noticed the increase, right? And that was only for two months of those acquisitions. Although we are required to publish that schedule once a year, we do provide it every quarter following an acquisition, as those noncash charges really impact our earnings. It's surprising that our earnings were reduced by that. People want to know how the assets they own are performing, but GAAP is GAAP, and that's what we adhere to.

Our next question comes from Josh Chan from UBS.

Congrats on a really good quarter. Could you talk about the bidding environment for potential projects that even are before backlog, anything changing there? And how is pricing on those bids that you're putting together?

Yes. Regarding the pipeline preorder, it remains strong and diverse. Pricing is definitely reasonable. This presents a great chance for us to collaborate with our excellent customers and to be selective in our acquisition process. We focus on pursuing opportunities that align with our strengths rather than chasing revenue. The sectors I mentioned earlier still show consistent opportunities today.

No letup.

No letup.

Okay. That's great to hear. And then on the data center side, could you just talk about how your conversations are like with your data center customers? And any kind of update in terms of your thinking on when you might be able to expand modular capacity again?

These are big organizations. So you're not just talking to one part of the organization, right? You're talking to the people who desperately need the capacity and who understand how to partner with us. You're also talking to parts of the organization whose job it is to purchase things and to try to get the lowest price. I would say that things are as expected. What we try to do is just be a great partner for people. If we do our best work and get the best value for people who reciprocate that, but I don't know that anything has changed. Essentially, we are in all paths to market mindset. So they love getting this stuff built modularly. They're hiring our contractors who build it in the traditional way. I just think that the demand is so great that they're looking for people who can help them do what they need to do, and we love to do that for people who want to partner up.

George, I'll just add on a little bit to the opportunities. One of our strengths is the size of Comfort and the geographic spread we have. The opportunity is to share labor; it's really an advantage that us and a few of our colleagues in the country have, give some of these larger opportunities that we can handle both financially and resource-wise, including when you think about our suppliers. We're a good company to do business with. So our size right now is really helping us.

We use that size to be a partner to people; we don't try to use it against people.

Right.

Any thoughts on whether you could expand capacity at some time later this year or into next year?

So if you're talking about modular, I would say that is not something that we are currently making plans around, but we are evaluating.

Okay. All right. And then just a modeling question. So EBITDA margins usually go up from Q1 to Q2? I know, Bill, you mentioned the lack of seasonality in Q1, but I was just wondering your thoughts on whether you can see a typical sequential margin expansion into the next quarter.

Yes, EBITDA margins generally increase from the first quarter to the second quarter. However, the first quarters have not typically achieved all-time highs by significant margins. It's uncertain to predict a sequential uptick in margins due to the already high levels in the first quarter. I'm more at ease discussing the possibility of outperforming this year compared to last year. In this quarter, our EBITDA increased by 70% on a same-store basis, and we need to adapt our thinking to that.

We stick around the margins; we'll be happy folks.

And our next question comes from Julio Romero from Sidoti & Company.

Can you maybe talk about the margins you're seeing in construction? Are they trending upward? And are you seeing any fixed cost leverage as that modular business continues to grow?

For sure, construction margins increased in the back half of this year into this year. There's a lot of multiple reasons for it, but the current environment is good job selection with good customers. I got to tell you, we're executing in the field, which has always run at a very high level. I'm really grateful to the folks that go out to these jobs every day and the work they're doing. So margins are up. A lot of it's about the execution that we're achieving.

Got it. Great execution. I'm just curious if there's any kind of fixed cost leverage that you see there as that grows.

Well, you saw our SG&A obviously dropped from 11.5% to 10.6%. I would say we are definitely making investments to accommodate our growth in every area from all sorts of back office sales. With revenue increasing the way it is, it seems like our SG&A can't go up as fast as that. So I don't think you'll see worse SG&A leverage over the course of the rest of this year. Now revenue increases. If we tell you we're going to be sort of in the mid-teens and more likely in the high teens in revenue increase, and we were in the 20s this quarter, that means it's going to average down some. I would say maybe we don't get additional leverage. But I think year-over-year, you're going to see a ton of leverage.

What's your best guess as to when you see some of this cash flow reversal is expected?

Our track record with this issue has been less than satisfactory due to its recurring nature. I would estimate that it will likely happen late this year. There is an indication that it has leveled off, as evidenced by a slide in our investor presentation. Last quarter, we presented a slide showing that our cash flow exceeded our earnings by $300 million in 2023. At the close of the first quarter, we anticipate our cash flow will again exceed our earnings by the same amount. Importantly, the $300 million figure remained consistent; it neither increased nor decreased, but our same-store businesses did not generate further improvements. We did gain some advanced cash from our acquisition, particularly at Summit, but our same-store operations didn't make significant progress. Before we begin to return any excess, we must first stop experiencing growth in cash flow, which became apparent in the first quarter. Despite this, we are generating substantial profits. In reviewing our cash flow for the first quarter, it’s evident that it was driven by earnings rather than advanced cash as it had been in previous quarters. There are indications that the growth is stabilizing, which is inevitable. For instance, if you hire someone for welding and electrical work, at some point you will need to complete that work. You will have to pay those workers. It’s an excellent situation to be in, although it might appear problematic later. Eventually, our cash flow will fall below our earnings by the same amount it previously exceeded them, which is a good problem to have.

And our next question comes from Brent Thielman from D.A. Davidson.

I'm going to ask about margins. Looking at this quarter, is the margin performance driven by increased payments for your services, an ideal mix of projects that yield higher payments, or greater productivity in the field?

I would say all three. But the thing that we can really control on an everyday basis is how we're performing in the field. Brent, you've heard this from a lot of different versions of prefabrication. The more work we can do sort of inside building than in the field, the more productive, safer, and the higher quality of the work is, and we're doing more prefabrication every day. It's a combination of all three for sure, but we cannot minimize how well we perform on a per-person basis at these job sites, including service. We're talking a lot about construction, but our service folks are also doing an excellent job.

Our electrical margins increased by 600 basis points this quarter, which is noteworthy considering we experienced a similar extraordinary gain about 1.5 years ago. This result reflects all the positive factors coming together for the business due to our strong performance. Our customers appreciate our ability to provide the necessary manpower for large projects, enabling us to reward our team effectively and continue this success. The electrical segment had an outstanding quarter, and while it may seem like a one-time occurrence, I wouldn't bet against their continued success. It's challenging to maintain this level, but I believe they have a bright future ahead.

Okay. And just looking back, I don't think you guys have ever had a year when EBITDA margins for the rest of the year were below the first quarter. I know the company and the mix has evolved quite a bit in the last 10 years. I heard your comment kind of perfect storm of weather both sides. But I'm just trying to unpack the reasons why we should be careful in thinking that this is tough to repeat.

Our EBITDA on a same-store basis increased by 70% in the first quarter, which makes it quite challenging to establish a new baseline. While the future remains uncertain, the margins we've seen this quarter are exceptional. I believe we can achieve remarkable margins going forward, but comparing them to this quarter will be difficult. As we look ahead, we anticipate encountering challenging comparisons to the previous year, making our first quarter exceptionally strong. Nonetheless, we're prepared to focus on maximizing our profits and the implications that come with it.

I got an idea. Okay. I just wanted to come back to modular. I mean, I think you're essentially booked in 2024. To what degree do you still have available capacity in 2025 to fill? And are conversations starting at all for 2026?

We believe that if we had additional capacity, we could sell more than what we currently have available for 2025. We have more of our capacity for 2025 booked than we initially thought possible. We believe that the current factors affecting the market will not resolve by 2026, and at that point, we do not have any bookings or a plan for the middle of 2026. Currently, there are no manpower loading schedules being developed for the Winter Olympics.

Yes, that's a long time out. And then maybe if you could just talk about the progression with new customers and modular. I know you don't want to talk about name specifics for obvious reasons, but how are you able to diversify the customer base in that business?

Things are going really well with our second large customer. We have a good relationship and they appreciate our work. The product they have created is impressive and we believe it will serve them well. We have sold the amount we expected so far. The main reason we are limited in diversifying is that these excellent customers are ready to purchase our entire production capacity. We do hold back some capacity for long-time pharmaceutical clients who depend on our specialized services. We feel a duty to support them. Overall, our two main customers are eager for everything we can provide. They have rightfully earned priority status with us. As long as they remain strong partners, we will continue to engage with the market. Our skills can be applied to various areas, but in our sector, demand can be unpredictable. Currently, we are focusing on clients who require our capabilities, and these partners have proven their value to us. They have inquired about how to secure our full production capacity, and we outlined what they need to do, which they have accomplished. We indicated that to increase their capacity, we required certain commitments, and they have met those expectations. Therefore, we are honoring our commitments to them.

Yes. Maybe just one last one, guys. I mean, I think it's obvious that the opportunities in data centers have brought a lot of attention to the company and the stock from investors. And clearly, I think it's driving a lot of growth for you. Maybe just your perspective, is that overemphasized relative to some of the other things moving the needle for your business right now? You talk about manufacturing, industrial capacity. I'd just be curious to your thoughts on that.

It's logical for people to focus on data centers; it was a popular topic recently. However, if we look at other areas we are involved in, like Annapolis, there is a significant amount of work in sectors such as pharmaceuticals and food. There are many busy sectors where we excel. Battery plants, food, pharmaceuticals, hospitals, and education work at universities are still strong. We are witnessing activity across multiple sectors. While data centers will continue to receive considerable attention for some time, we also value other sectors, where we are successfully winning projects and the work is progressing well.

And I'm showing no further questions. I would now like to turn the call back over to Brian Lane for closing remarks.

Okay, Justin. So in closing, I really want to thank our amazing employees once again. We are really grateful for their daily efforts. We do appreciate everyone's interest on the call in our business. It's great to talk about it, and thank you. I'm very optimistic about 2024. We've got great customers. We've got great people and really looking forward to how the year pans out, and we hope to see most of you on the road pretty soon. So thanks for that too, and I hope everyone has a great spring. Thanks, and enjoy your weekend. Thanks, folks.

This concludes today's conference call. Thank you for participating, and you may now disconnect.