Earnings Call Transcript - MEG Q3 2022

Operator, Operator

Greetings, ladies and gentlemen, and welcome to Montrose's Environmental Group Third Quarter of 2022 Earnings Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Rodny Nacier of Investor Relations.

Rodny Nacier, Investor Relations

Thank you. Welcome to our third quarter 2022 earnings call. Joining me are Vijay Manthripragada, our President and Chief Executive Officer; and Allan Dick, Chief Financial Officer. During our discussion today, we will be referring to our earnings presentation, which is available on the Investors section of our website. Our earnings release is also available on the website. Moving to Slide 2. I would like to remind everyone that today's call will include forward-looking statements that are subject to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Actual results may differ in a material way due to known and unknown risks and uncertainties that should be considered in evaluating our operating performance and financial outlook. We refer you to our recent SEC filings, including our annual report on Form 10-K for the fiscal year ended December 31, 2021, which identify the principal risks and uncertainties that could affect any forward-looking statements as well as future performance. We assume no obligation to update any forward-looking statements. In addition, we will be discussing or providing certain non-GAAP financial measures today, including consolidated adjusted EBITDA, adjusted net income, and adjusted net income per share. We provide these non-GAAP results for informational purposes, and they should not be considered in isolation from the most directly comparable GAAP measures. Please see the appendix to the earnings presentation or our earnings release for a discussion of why we believe these non-GAAP measures are useful to investors, certain limitations of using these measures and the reconciliation thereof to their most directly comparable GAAP measure. With that, I would now like to turn the call over to Vijay, beginning on Slide 4.

Vijay Manthripragada, CEO

Thank you, Rodny. Welcome to all of you joining us today. I will provide a few business highlights and hand it over to Allan Dick for our financial review, and we will then open it up to Q&A. I will speak generally to Pages 4 through 8 of the presentation shared on our website. And before I begin, I would like to reiterate two themes that we've highlighted before. The first is that demand for our environmental services does not follow fiscal quarter patterns and is best evaluated on an annual basis. The second theme is that these results belong to our colleagues around the world who have managed through a pandemic, macroeconomic shocks and geopolitical turbulence. I am proud of all of our team members whose dedication helped us produce another quarter of great results. With that, let me now take a moment to recap several key themes that are relevant to our third quarter 2022 results. First, as it has all year, our business continues to benefit from growing demand across most of our service lines and in particular, in the areas of PFAS Water Treatment, greenhouse gas measurement and mitigation, and renewable energy. The quarter also saw strong performance across our air and lab services and recent acquisitions, which are recurring and are driven primarily by regulations. Our third-quarter performance continues to validate the demand tailwinds and regulatory themes we've outlined since our IPO over two years ago. Our stellar organic growth, excluding CTEH, reflects the continued demand for our integrated service model and differentiated solutions. Second, in addition to strong organic revenue growth, excluding CTEH, we are pleased with our overall sequential margin improvement. As noted last quarter, we were able to respond with pricing and other initiatives given some of the unexpected inflationary pressures we saw on select costs such as travel. The impact of those efforts along with business mix and other factors allowed us to get back on track with EBITDA margins. Third and finally, we are also happy with the strength of our balance sheet and strong cash generation. Our acquisitions to date have been funded through cash flow from operations and our balance sheet provides us with ample flexibility to continue consolidating our industry and investing in cutting-edge environmental innovation. As it relates to acquisitions, our strategy and outlook remain unchanged. We continue to consolidate our highly fragmented industry, completing four deals this year. Our acquisitions are usually immediately accretive, and they add great talent and service capabilities to our Montrose team. This year, given the rate of increase in our organic growth, excluding CTEH, we tempered our pace of acquisitions as we focused on supporting the surge in organic revenue growth. For example, helping with hiring, training, and quality management programs across multiple geographies. The number of potential acquisitions and average multiples haven't moved, so our pipeline and opportunity to create value remains as strong as ever. Despite our choice to move at a relatively slower cadence of acquisitions in 2022, we were thrilled to welcome the TriAD and AirKinetics teams to Montrose during the third quarter. The addition of TriAD's consulting team and focus in the Southeastern United States and the addition of AirKinetics Air Testing team and capabilities in the Southwestern United States are all very strategically additive to Montrose. We expect our 2023 cadence of acquisitions will accelerate back to where we have historically trended. Next, let me take a few minutes to walk through some recent developments and catalysts that we see for our business moving forward. As it relates to regulatory and industry opportunities, we see tailwinds across our business lines as corporate ESG initiatives, environmental regulation and enforcement, and better environmental stewardship remain at the forefront of private sector and government policies. We believe Montrose is exceptionally well positioned to capitalize on these tailwinds and that fundamental belief underpins the favorable long-term outlook for our business. In terms of select and specific regulatory developments that will have or continue to have the potential to impact Montrose, in September 2022, the EPA proposed to designate PFOA and PFOS as hazardous substances under the comprehensive environmental response compensation and liability or CIRCA ACT. This action will cause PFOA and PFOS to be eligible for cleanup under the recently refunded Superfund program. This designation also triggers a requirement for companies to report any spills to the environment like when putting out a fire that could trigger additional contamination investigations as well as remedial actions. Furthermore, the EPA recently announced the addition of certain PFAS chemicals to the toxic release inventory, which likely impacts current and future demand for consulting and advisory services in particular. Outside of direct actions by the EPA, we also saw additional momentum with PFAS regulations at the state level in the United States, and in October, a formal request for continued monitoring of PFAS from 49 members of Congress. We expect all these developments will continue to create tailwinds across our three segments. With regards to methane emissions, late last year, the EPA proposed performance standards for new sources of methane emissions. The proposal expands and strengthens emission reduction requirements and would require states to reduce methane emissions from hundreds of thousands of existing sources nationwide for the first time. We are also aware that the EPA is seeking information about community monitoring opportunities and technologies to support community monitoring programs. Should these regulations be adopted, we would expect to see increased demand for our emissions measuring, monitoring, and assessment services, primarily impacting our measurement analysis segment. Regarding our environmental consulting services, in April, the EPA made further changes to the NPA and EPA process. Regulators will now have to account for how government actions may increase greenhouse gas emissions, may fragment wildlife habitats and may impose new burdens on communities, particularly disadvantaged neighborhoods. Notably, the EPA has also created a new division to oversee the implementation and delivery of the $3 billion Climate and Environmental Justice block grant program created by the 2022 Inflation Reduction Act. While this is a new development that has yet to be fully implemented, we believe that in aggregate, this is a positive update for Montrose given our expertise with environmental advisory, testing and remediation services. This is all to say that momentum for environmental protection continues to grow. We believe Montrose is exceptionally well positioned to help our clients navigate rapidly evolving priorities and mandates regarding environmental stewardship as it continues to become more and more central to corporate and governmental policies. I would next like to discuss our third-quarter business performance by segment. Within our Assessment, Permitting and Response segment, despite the anticipated deceleration in CTEH-COVID-19 revenues, our CTEH team continues to perform above run rate levels and is doing an exceptional job for our clients with the business continuity services. Support following environmental incidents caused by fires and hurricanes in particular have picked up compared to last year. Excluding CTEH, we were pleased to see positive contributions from our acquisitions. Our acquisitions supporting West Coast Utilities managing fire risk, for example, are performing well, along with attractive growth in select areas such as our greenhouse gas advisory services. Margins in this segment were primarily impacted by the shift in CTEH margins and the lower margins of our recent acquisitions. Within our Measurement and Analysis segment, demand for our testing services remains very strong and drove solid organic growth during the third quarter. Given the regulatory momentum I just discussed, we expect further opportunities in this segment given our position as a market leader. Our margins in this segment continue to normalize in the high teens to 20% range, as we've previously discussed. And finally, within our Remediation and Reuse segment, our organic growth outperformance in the third quarter was once again driven by demand for our PFAS Water Treatment and renewable biogas services. As we've reiterated on prior calls, margins remain below what we would consider normalized levels given our ongoing investments into this business. For example, the establishment of our European infrastructure, investments that we believe will enable us to capitalize on the outsized growth opportunity over the next 3 to 5 years. With that said, we did see sequential margin improvement in this segment, which is in line with our expectations. In summary, and before I turn it over to Allan, I would like to thank all of our team members around the world for their tremendous efforts so far this year. To those of you that are listening, thank you for all the hard work you've put in through these uncertain times. I am incredibly grateful for you. To our investors, thank you for your continued support and for giving us the opportunity to continue creating value while leaving the world a better place. Our third quarter results reflect positive momentum in our business, and based on our credit trajectory our outlook for 2022 remains firm. Allan is going to expand upon that in a moment. We look forward to closing out a strong 2022 and to a great 2023. Thank you. Allan?

Allan Dick, CFO

Thank you, Vijay. The strong organic growth in our core business continued in the third quarter, reflecting our expanding customer relationships and ongoing cross-selling success. We are also continuing to execute our M&A strategy with the recent closing of our fourth acquisition in 2022. We saw organic growth across most of our business lines. Our third quarter revenues were $130.3 million compared to $132.6 million in the prior year quarter. This decrease in revenues was driven by significantly lower COVID-19 revenue from CTEH, this COVID-19 revenue dropped by $31.1 million and the exiting of certain wastewater treatment and biogas O&M contracts. The revenue decrease was partially offset by organic growth in our Measurement and Analysis and Remediation and Reuse segments as well as the positive contributions from acquisitions, which added $7.5 million to the quarter. Year-to-date, revenues were up 0.6% versus the prior year period to $404.9 million. The primary driver of revenue growth in the year-to-date period was organic growth in our Measurement and Analysis and Remediation and Reuse segments as well as the positive contributions from acquisitions, which added $19.9 million to year-to-date revenue. These year-to-date benefits to revenue helped us to more than overcome the significantly lower COVID-19 related services provided by CTEH. This COVID-19 revenue was down $103.4 million year-over-year as well as our planned exit from legacy O&M contracts. Looking at our consolidated adjusted EBITDA performance, third-quarter consolidated adjusted EBITDA was $17.1 million or 13.1% of revenue compared to consolidated adjusted EBITDA of $20.3 million or 15.3% of revenue in the prior year quarter. Year-to-date, consolidated adjusted EBITDA was $48.4 million or 12% of revenue compared to consolidated adjusted EBITDA of $56 million or 13.9% of revenue in the prior year period. The year-over-year change in consolidated adjusted EBITDA dollars and as a percentage of revenue for both periods was driven by business mix, the cyber attack in June, which temporarily disrupted certain of our labs’ ability to operate in both June and July, our continued investments in operating infrastructure in our biogas and water businesses and higher variable costs impacting travel, field and lab supplies and other direct costs. Year-to-date, in 2022, we have seen strong traction with our pricing initiatives and have been pleased to see the resulting sequential improvement in quarterly margins, which we expect will continue into the fourth quarter. I'll reemphasize that Montrose's performance needs to be assessed annually. This is consistent with how we evaluate the business due to the stronger predictability of our performance on an annual basis. This is consistent with how we hire staff, allocate resources and manage the company. Turning to our business segments, in our Assessment, Permitting and Response segment, revenue and operating segment adjusted EBITDA decreased to $46.4 million and $9.8 million, respectively. The year-over-year decreases in both revenue and adjusted EBITDA in this segment were driven by significantly lower revenue from COVID-19 related services provided by CTEH, partially offset by revenue from companies acquired subsequent to the end of the third quarter of 2021. As we've reiterated on recent calls, the normalization of our CTEH revenues was expected as the demand for our pandemic-related services has waned following the reduction of COVID-19 testing and prevention requirements in the U.S. Operating segment adjusted EBITDA as a percentage of revenue was 21.2%, which was lower than the prior year quarter as a result of the acquisitions of Environmental Standards earlier this year and Environmental Intelligence and Horizon in 2021, all of which run at lower margins than our other businesses in this segment. In our Measurement & Analysis segment, revenue increased 12.9% to $43.8 million, primarily attributable to organic growth as well as acquisitions completed in and after the end of the third quarter of 2021. We Measurement & Analysis adjusted EBITDA as a percentage of revenue decreased to 19.4% as a result of business mix, the timing of projects in some of our specialty labs and, to a lesser degree, the impact of the cyber attack, which temporarily disrupted some of our labs’ ability to operate. And finally, in our Remediation & Reuse segment, revenues increased 32% year-over-year to $40.1 million, reflecting a significant increase in demand for our PFAS Water Treatment services and organic growth in our biogas business, partially offset by the exiting of discontinued O&M contracts. A slight decrease in remediation and reuse adjusted EBITDA as a percentage of revenue to 17.5% was primarily a result of business mix and our continued investments in the operating infrastructure of our biogas and water treatment technology businesses, which temporarily impacted margins. Moving to our capital structure, year-to-date, cash flow from operating activities was $8.2 million compared to cash flow from operating activities of $13.7 million in the prior year period. Cash from operations includes the payment of acquisition-related consideration of $19.5 million in the current year and $15.5 million in the prior year, respectively. Excluding acquisition-related payments, cash from operating activities was $27.7 million in the first 9 months of 2022 compared to cash from operating activities of $29.2 million in the first 9 months of 2021. This change was primarily due to lower earnings before noncash items of $6 million, partially offset by an increase in working capital of $13.4 million in the current year period compared to an increase in working capital of $17.6 million in the prior year period. Cash from operating activities before acquisition-related payments as a percentage of adjusted EBITDA improved to 57% in the current year from 52% in the prior year. Our strong cash flows reflect our ongoing focus on balancing the generation of cash with investments in technology, R&D, and corporate infrastructure to ensure continued scalability. Given our performance year-to-date, we expect to report another strong year of operating cash flow in 2022, excluding acquisition-related payments. Our liquidity position remains strong with cash on hand as of September 30, 2022, of $93.6 million and an additional $125 million of availability on our revolving credit facility. We have almost no exposure to rising interest rates as a result of the interest rate swap we put in place in January of this year and the cash we have on the balance sheet. In addition, effective September 1, 2022, the company received an interest rate reduction of 5 basis points under the 2021 credit facility based on the company's achievement of certain sustainability and environmental, social, and governance-related objectives as provided for in the 2021 credit facility. Our leverage ratios as of September 30, 2022, which includes the impact of acquisition-related contingent earn-out obligations payable in cash were at 1.2x. Our Series A-2 preferred stock has no maturity date, and we have the option of redeeming the preferred shares at any time for cash, subject to a make-hole payment if prepaid prior to April 2023. We view this preferred equity instrument as favorable to the value creation potential in the business, given its flexible dynamics and the fixed nature of the dividend in a rising interest rate environment. If you include the $182 million balance on the Series A-2 equity in our market cap, our total equity capitalization stands at approximately $1.5 billion. Looking at a review of our business trajectory, as we've discussed over the past few quarters, we anticipate an average annual revenue run rate of $75 million to $95 million for our CTEH business. Although CTEH revenue continues to normalize, CTEH revenues remain elevated compared to our expected average revenue run rate for this business as a result of continued demand for COVID-19 related services, which are expected to be transitory in nature. When excluding the above trend revenue from CTEH, the remainder of our revenue is what we refer to as our base business, which includes the normalized revenues we would expect to see from CTEH in addition to all of our other business lines. Our base business continues to grow at a solid trajectory, reflecting the organic tailwinds we've discussed on this call. Moving to our full-year outlook, based on our updated visibility through year-end and our resilient performance thus far in 2022, we now expect full-year 2022 revenue to be in the range of $535 million to $555 million. This revenue range is narrowed from our prior full-year guidance of $520 million to $570 million in revenue. On this growth, we reiterate our expectation for consolidated adjusted EBITDA to be in the range of $68 million to $73 million for the full year 2022. Our full-year outlook remains active on our expectations for double-digit organic growth, excluding CTEH, plus the contribution of completed acquisitions. As always, the timing of sales and the mix of business may influence adjusted EBITDA in any quarter. This is due to the timing of large projects and the emergency response nature of CTEH's business. Earlier in the year, there was time to make up for quarter-to-quarter variability, but we are mindful of some projects towards the end of the year, any pull-up or push-back between 2022 and 2023. In summary, our third-quarter and year-to-date results reflect the resiliency of our business model and focused execution across all levels of our operations. We are also very proud of our ability to more than replace the year-over-year reduction in CTEH COVID-19 revenues of over $100 million year-to-date. We remain optimistic about the momentum in our business, and I would like to thank our dedicated team again for their focused efforts in helping us produce another quarter of robust results. Thank you all for joining us today and for your continued interest in Montrose. We look forward to updating you on our progress next quarter.

Operator, Operator

Thank you, sir. Ladies and gentlemen, we will now be conducting a question-and-answer session. Our first question is from Tim Mulrooney of William Blair.

Tim Mulrooney, Analyst

Some quick questions, just two quick ones for me, numbers related questions. So the revenue of $130 million for the third quarter came in below consensus expectations, but you guys don't guide the quarters, you guide the years. And you maintained the guidance narrative for full year, keeping the midpoint. So my question is, was third-quarter revenue in line with your internal expectations or did some stuff get pushed out in the fourth quarter?

Vijay Manthripragada, CEO

I will address that conceptually. Our outlook remains unchanged. The reason we don’t provide quarterly guidance is due to the variability of some projects in testing, water, and renewable energy. These elements tend to fluctuate. By maintaining our annual outlook at the midpoint, as you mentioned, it reflects our strong confidence in the trajectory for the latter part of Q3 and the entire Q4, as well as throughout this year. Therefore, it aligns well with our expectations, and we are confident in our annual projections as well.

Tim Mulrooney, Analyst

Got it. So consensus got too aggressive, but no change in business as far as you're concerned.

Vijay Manthripragada, CEO

Tim, encrypted in that is the consensus for Q3. If the annual doesn't change, it's too aggressive, then the consensus for Q4 may not be aggressive enough, right? If you were just to take those two quarters in isolation. So we don't guide the quarters precisely comparatively.

Tim Mulrooney, Analyst

Yes. Yes, 10.4%. Okay. On the EBITDA margins for the fourth quarter now, the midpoint of your guidance, Vijay. I mean, it implies pretty strong EBITDA margin expansion in the fourth quarter following several quarters where EBITDA margins have declined year-over-year. So can you just kind of walk us through the puts and takes on why you expect that margins would inflect into such a positive expansion territory in the fourth quarter?

Vijay Manthripragada, CEO

I'll take that conceptually, Tim. We don't look at the business on a quarterly basis. And so again, it's influenced by revenue mix and various initiatives that we would implement over the course of the year. This year, part of the reason for this sequential improvement was because of the cyber-attack that we talked about in Q2 as an example of kind of anomalous impacts that we had earlier in the year. And then because of the inflationary pressures in Q2 that we then try to redeem over the course of 3 and 4, and we've had a lot of success doing that, we've seen really positive momentum on the margin side. And so we're expecting sequential margin improvement as a function of those efforts. But again, as you look over the course of the year, Tim, our outlook is very consistent with where it was given at the beginning of the year.

Operator, Operator

The next question comes from Andrew Obin of Bank of America.

Andrew Obin, Analyst

I have a broader question. As your company grows, what system challenges have you encountered in managing the organization? What steps have you taken to adjust your management approach regarding systems and complexity as you make more acquisitions? Or is your current setup still effective?

Allan Dick, CFO

Yes. Let me try that, Andrew, this is Allan. As you know, certainly after IPO in late 2020, we replaced our ERP, precisely in anticipation of the continued growth we were expecting. And in particular, some of the business mix that we were seeing that was more project-oriented and needed a system that could handle more complex projects. So that system has now been in place for two years and is operating really well. The training, the SOPs, the KPIs around those systems are now well implemented and incentive plans have been built around those. At the same time, we implemented our new CRM, as we've talked about. So between those two systems, we are operating as well as we've ever been, and I'll bring in through those single systems, right? We don't operate multiple systems. And also, as we've discussed, when we acquire companies, we integrate those company systems at our systems pretty quickly. So we feel really well fit from a system perspective.

Vijay Manthripragada, CEO

Yes, Andrew, I completely agree with Allan. I would like to emphasize a few additional points. While it is true that we are more than double the size we were at our initial public offering, we are also experiencing stronger organic growth, higher margins, better cash flow generation, and lower leverage. Hopefully, our results demonstrate that even as we have become a larger and more complex business, it is much stronger by any objective measure. The factors we are considering as we enter this new phase of growth are largely related to external challenges that you are all well aware of. We have become much more disciplined with our pricing, and as Tim mentioned, you are already seeing the benefits of those efforts reflected in our sequential margin expansion. We have also become more disciplined in our systems and infrastructure regarding cash management and our coordinated sales and marketing efforts, leading to significantly higher cross-sell activity. Over 18% of our revenue last year, and that number is rising, came from clients purchasing multiple services. We are focusing on maximizing our existing clients rather than solely trying to acquire new ones. These are all examples of how we are navigating a more complex environment while leveraging new capabilities that result from the infrastructure systems we have put in place. As we consider growing from $500 million to $600 million in revenue to $1 billion, the corporate investments we made this year, driven by our accelerated growth, will position us well in a similar manner over the upcoming years.

Andrew Obin, Analyst

Got you. And just a follow-up. Can you just provide more color on price cost and specifically, how does the equation on sort of labor availability, labor scale, and wage inflation work against your ability to go to your customers and continue to raise price and the fact what appear to be a tight labor market, maybe not. If you could provide color there. Thank you.

Vijay Manthripragada, CEO

No, it's a very tight labor market, and we are quite sensitive to it. We've dedicated a lot of time to addressing this issue. Our ESG report reflects that by disclosing our retention rates. As we've mentioned in previous calls, we feel confident about the efforts we've made and the quality and strength of our team, especially at the senior levels who engage with our clients regularly. Our retention rates are strong, and our senior staff is highly skilled and involved, along with the management team. However, we recognize that we need to improve at the junior levels, particularly with entry-level and hourly staff, and we are committed to focusing on that. Our human resources team, along with our operating leaders, are working on various initiatives to increase engagement, provide flexibility in the work environment, and explore creative compensation and incentive strategies. Last year, as a result of these efforts, our labor costs—which include benefits—rose by 5%, compared to our historical norm of around 3%. Consequently, our pricing this year reflected that increase, and we had to adjust our pricing further in Q2 and Q3 due to some variable costs we previously mentioned. Since we primarily operate as a services business, we aim to be disciplined in translating labor cost increases into our pricing strategies, which will help us offset that increase. This is a significant focus for us now, more so than it was four, five, or six years ago.

Andrew Obin, Analyst

Got it. Yes. But ultimately, the pricing pressure is still there on labor, but you feel comfortable being able to keep up or stay ahead of it.

Operator, Operator

The next question comes from Stephanie Yee of JPMorgan.

Stephanie Yee, Analyst

I wanted to ask, I appreciate that you highlighted a lot of the business is tied to regulations and even kind of in this environment of uncertainty, still see very robust growth for the business. Have you seen any projects or customers kind of pulling back to shift maybe in timing? Just any color in terms of maybe some hesitancy in terms of client demand because of the environment?

Vijay Manthripragada, CEO

We haven't seen any significant pullbacks this year. The only instance comparable was in 2020 when the government restricted movement between states and cities, causing some projects to be postponed into later quarters. Currently, while there are always natural scheduling variances that happen, which can shift projects from late Q2 to early Q3, we haven't observed much overall movement of projects.

Stephanie Yee, Analyst

Okay. Okay. That's awesome. And in terms of the comment about some of the acquisitions being lower margin than the company's business impacting kind of the assessment segment, I guess, over time, do you expect some of these acquisitions, the margins to come up to the company level as you integrate them as you drive more synergies for them? Or is it there structurally, I guess, lower margin on the company, but the acquisitions are accretive from a strategic standpoint?

Vijay Manthripragada, CEO

Yes, it's a great question. So what we were alluding to is perhaps we weren't clear, Stephanie. So my apologies, is some of the recent acquisitions we've done in the consulting advisory space, having been at that 35-plus percent margin cadence that we've historically talked about. And so those – so in the commentary we alluded to the fact that, that had some impact on the quarterly variance quarter in, quarter out for that specific segment. There are some smaller acquisitions we may do, for example, on the testing side that are similarly lower margin than they would be on a run rate basis. In select instances, we certainly expect margins to rise as I think it integrated into our systems. But as you know, ours is really an organic revenue play, right? This is not a cost synergy play. But as we continue to cross-sell services as the revenue trajectory increases, the natural organic and operating leverage in the business for cost margins to accrue. So the recent acquisitions, for example, Environmental Standards, TriAD, AirKinetics, those relative to our existing segment margins weren’t necessarily margin accretive, which is what we were alluding to in the commentary, if that makes any sense. But yes, over time, we have no change in our expectations around margins.

Operator, Operator

Stephanie, does that conclude your questions?

Stephanie Yee, Analyst

Yes. That was helpful. Thanks.

Operator, Operator

Thank you. The next question comes from Noelle Dilts of Stifel.

Noelle Dilts, Analyst

Hello there, thank you for taking the call. I was curious if you could adjust for CTEH and provide insights on the differences between the legacy businesses and the higher growth areas like PFAS, biogas, and CO2. Could you help us understand the growth trajectory for these groups in 2022 and how we should approach the expected growth mix for 2023?

Vijay Manthripragada, CEO

Yes, that's a great question, Noelle. We focus on PFAS, biogas, and greenhouse gas mitigation because those areas are experiencing high levels of organic growth, as reflected in our numbers. However, this doesn’t mean that our core environmental services aren’t also growing well; we just don’t emphasize them as much due to the figures. For instance, our core testing business is seeing an organic growth trajectory that is among the best it has ever been, driven by existing and upcoming regulations. Our clients are actively engaging with us across our testing, field services, and labs, resulting in a positive growth trend. In our engineering, remediation, and consulting businesses, we are identifying strong growth opportunities as well. Recently, for example, our acquisitions on the West Coast and the efforts in utilities and fire mitigation, particularly from our team in Pennsylvania, are presenting exceptional organic growth potential. These examples reflect our overall positive sentiment within this sector. Looking ahead, we feel very confident about the 3 to 5-year outlook. We often discuss PFAS water treatment, biogas, renewable energy, and greenhouse gas mitigation because these addressable markets are expanding, and client demand is increasing in these areas. We are already benefiting from this trend. Overall, while it is more challenging to predict the year-to-year performance of our best business, the fundamentals remain strong. As seen in our investor presentation, the core Environmental Services, represented by the blue bars, have shown an incredibly strong growth trajectory over the past few years. We remain optimistic about it as we project into the next 3 to 5 years. Does that address your question?

Noelle Dilts, Analyst

Sure does. And then just on the PFOS remediation services, is there any way you could kind of talk about how many programs you have at this point that are in, say, beta testing and kind of how we should think about your historical hit rate in terms of moving those tests into full-scale deployment?

Vijay Manthripragada, CEO

Yes, we don't disclose the number of pilots we currently have. However, when considering PFOS's overall contribution to Montrose's revenue, it has shifted from single digits to nearly 20% this year. Looking ahead over the next 3 to 5 years, we believe this percentage could exceed 20% as more pilots are conducted. The reason we don’t specify the number of pilots or their start dates is that the timeline can be unpredictable. It typically takes about 18 to 24 months from the initial water testing—which began at the end of last year—to the implementation and scaling of pilots. Additionally, factors like public funding and collaborations with the Department of Defense and airports influence this timeline. While we are optimistic about our growth trajectory over the next 3 to 5 years, we are not currently able to share the exact number of pilots or how many may transition to full-scale systems in 2023.

Operator, Operator

Thank you. Ladies and gentlemen, as there are no more questions in the conference line, I apologize, but we have another question coming from Tim Mulrooney of William Blair.

Tim Mulrooney, Analyst

Thank you for sneaking me in. I just wanted to build on the last conversation that you were having with Noelle. Given that your PFOS remediation technology, VJ and Allan, is particularly well suited for certain applications. I'm curious if there are certain markets where there's a greater near-term opportunity near term, I think, like 3 to 5 years, whether that be military bases or airports or large industrial sites? Are there particular set of customers in specific end markets where you're seeing outsized demand at the moment as you think about those pilot programs?

Vijay Manthripragada, CEO

Yes, that's an excellent question. Our plans have already started to embrace the technology, and we anticipate this will continue. This is likely our primary focus, particularly with more complex water streams such as industrial wastewater, which includes both short-chain and long-chain PFOS that our technology can effectively address. We're consistently demonstrating that our system results in lower lifecycle costs and higher efficacy, especially with high concentrations of short-chain PFOS. We've shared a lot of the technical details publicly. Additionally, we are experiencing significant interest and demand from Department of Defense sites, particularly Air Force bases. This is not surprising, given the training activities involving firefighting foam at these bases, leading to PFOS contamination in the water streams and the need for remediation. The demand from this sector is evident, and we are also seeing steady interest in Australia, which is now increasingly the case across Europe. Overall, there is consistent growth from these two key areas. Regarding when this demand will scale up to the anticipated levels, it's challenging to predict. However, as evidenced in our recent organic growth and margin improvement, the remediation efforts have already contributed to our results since late 2020, throughout 2021, and into this year. We expect that over the next 3 to 5 years, the industrial wastewater sector and the Department of Defense will become our primary sources of engagement.

Operator, Operator

Thank you. Ladies and gentlemen, this does now conclude our question-and-answer session. I will now turn the call over to Mr. Vijay Manthripragada for closing remarks.

Vijay Manthripragada, CEO

Wonderful. Thank you. Thank you all for the time again this morning. Allan and I and the team are thrilled with the quarter, and we're looking forward to speaking with you about the end of the year and 2023. So thank you, again. Take care and be well.

Operator, Operator

Thank you. Ladies and gentlemen, you may now disconnect your lines. Thank you for your participation.