Rollins, Inc.
Q4 2013 Earnings Call Transcript

Published: 29 Jan 2014

[Marilyn Meek:]

By now you should have all received a copy of the press release. However, if anyone is missing a copy and would like to receive one, please contact our office at 212-827-3746 and we will send you a release and make sure you’re on the company’s distribution list. There will be a replay of the call which will begin one hour after the call and run for one week. The replay can be accessed by dialing 1-800-406-7325 with the passcode 4660653. Additionally, the call is being webcast at www.IFC.com and a reply will be available for 90 days. On the line with me today is Gary Rollins, Vice Chairman and Chief Executive Officer and Harry Cynkus, Senior Vice President and Chief Financial Officer and Treasurer. Management will make some opening remarks and then we’ll open up the line for your questions. Harry, please begin.

[Harry J. Cynkus:]

We appreciate all of you joining us on our fourth quarter and year end 2013 conference call. Let me read our forward-looking statement and disclaimer and then we’ll begin. Our earnings release discusses our business outlook and contains certain forward-looking statements. These particular forward-looking statements and all other statements that have been made on this call, excluding historical facts are subject to a number of risks and uncertainties and actual risks may differ materially from any statement we make today. Please refer to today’s press release and our SEC filings including the risk factors section of our Form 10K for the year ended December 31, 2012 for more information and the risk factors that could cause actual results to differ.

[Gary W. Rollins:]

As a matter of information, Atlanta is closed due to snow and Harry and I are calling in from home so we don’t have all of our notes. Nonetheless it certainly gives me a great deal of pleasure to get to be redundant this morning in reporting that we’ve again achieved record revenues and profits for both the fourth quarter and a full year 2013. This marks our 16th consecutive year of increasing revenue and profit. Please keep in mind that this has been through two recessions. This accomplishment is the result of our program execution and the Rollins’ teams’ commitment to continuous improvement in all primary areas of our business. We saw strong demand for our services in the fourth quarter where we had double digit lead and sale growth in both commercial and residential. For the quarter revenues increased 6% to $324.7 million and net income increased 22% to $28 million. I think this makes it our highest increase in net income since the quarter in 2012. All of our business lines experienced good growth during the quarter with residential pest control up 5.7%, commercial pest control continues to lead the pack growing 6.7%, and this makes the strongest increase that we’ve had in commercial since the second quarter of 2011. Termite continues to perform well rising 4.7%. Revenue for the full year was over $3.334 billion and net income rose 10.8% to $123.3 million. We haven’t discussed bed bugs for a while. Although media attention has scaled back, the fact is that bed bugs have not gone away and our bed bug business continues to grow. In the fourth quarter revenues were over $14 million, almost close to 33% increase over last. For the full year, this business grew over 21% to more than $50 million. We continue to look at new products and technologies for bed bug treatment and identification. However, today no one has found a silver bullet. Home teams’ tubes in the wall pest prevention installation remains strong having risen 23% in the quarter. The total installs for the full year rising almost 36% to approximately $85,200. Over the last two years home team has installed over 143,000 tubes in the wall systems. The investment that we’ve made in these new home installations position home team for a stream of recurring revenue as long as long term profitability when these homes are sold and home owners activate their systems. We do not expect the same rate of growth for installations in 2014. Based on recent home building forecasts for the year, it indicates and anticipated slowing of new home construction. Having said that, Metro Studies Home Building 2014 outlook ranked the 100 largest new home markets. Home team and its field of partners are in 17 of the top 20 markets. This should be beneficial to us even if the industry overall proves to be less than robust than last year. We’re especially pleased that our customer satisfaction scores improved again this past year confirming that our programs in this area are paying off. Our net promoter results improved over 2012 among survey customers that say they’re extremely likely or very likely to recommend our services. Not unexpectedly, we also experienced a drop in unsatisfied customers. While we were happy to see an improvement in these results, we are well aware that today’s consumers have high expectations as they keep raising the bar and so must we. As I’ve said before, we don’t spend much time looking in the rear view mirror but rather a focus on where we need to be and that is always improving our service to our customers. These surveys will continue to be a major confirmation for all brands to measure our progress in this area. We continue to expand our marketing and rebranding initiatives that we refer to, this campaign is taking pest control down to a science. As an element of this initiative in the fourth quarter, Orkin introduced our new commercial service program that we market as precision protection. This program is directed primarily to the food processing hospitality, restaurant, and healthcare industries. This commercial branding ties with our pest control down to the science theme and helps us differentiate Orkin from the competition through more concise and more scientific treatments. As the industry leader we have the advantage of seeking the leading edge of new technology. Last year was no exception. In fact, many of our technological initiatives have had a significant impact on the success we achieved including our introduction of our home suite and biz suite of iPad applications which are enabling our residential and commercial sales inspectors to better describe the need for our services and describe the services that we will be delivering specific to their home or business all of which improve our closure and sales. We’re also making progress with our CRM branch administrative operating system. The testing they were conducting in a number of different business environments is going well and we remain encouraged by what we’ve seen. You may recall earlier this year that we brought on a senior level director with substantial CRM system development and implementation experience. He’s been a wonderful addition to our project team and the impact has been noteworthy. When completed this operating system will be interfacing with virtually every system in our organization from payroll, to human resources, to our fleet system, general ledger, and so forth. Admittedly this endeavor has taken longer than we would have liked but we believe once fully implemented this service suite will be a real game changer for our company. As a reminder, all of our pest control companies will ultimately be on this operating system with slight modification to address specific brand differences. We’re fortunate to have some of the best people in the industry as part of our Rollins team, so it came as no surprise when Greg Baumann, Vice President of Training and Technical Service was inducted into pest management professionals’ hall of fame class of 2013. The hall of fame was established in 1997 and recognizes those who have led and continue to lead the pest industry management to new heights. Congratulations Greg, and thanks for all you do for the company. We continue to build on our international franchise portfolio having added four franchises to our roster last year

[Harry J. Cynkus:]

Thank you all for joining us on the call. I think it was Zig Ziglar who said, “It’s not where you start it’s where you finish that counts.” This year in the first quarter we didn’t get off the start line very quickly, but the victor in the race is not the one who necessarily starts off the fastest, but the one who leads at the finish. The stickler outlasts the sprinter in life’s race. We never lost sight of our goals for the year and it’s with great pleasure, put another record year in the book. Let’s talk about the quarter’s performance. Today, we reported revenues of $324.7 million representing 6% revenue growth. Net income increased 22% to $28 million or $0.19 per diluted share compared to $22.9 million or $0.16 per diluted share for the same period in 2012. Year-to-date revenue is $1,337,000,000 a 5.2% increase. Net income for the full year has increased 10.8%, another year of growing net income at 10% to $123.3 million or $0.84 per diluted share with EBITDA coming in at $231 million. Our guidance for next year, which shouldn’t be a surprise, we can do better and we’re planning on it. Let’s talk about revenue. Harry has already shared with you that we saw strong demand for our services in the fourth quarter and it was strong right through the end of December. With the one exception of Waltham located in the Northeast, we saw revenue across all brands, all service lines, and possibly all bug groups. Well, certainly bed bugs. [Inaudible] that drive our revenues

[Gary W. Rollins:]

We’re now ready to open the call for any questions you might have.

[Operator:]

(Operator Instructions) Your first question comes from Joe Box – Keybanc Capital Markets, Inc.

[Joe Box:]

A question for you on the home team business. I know that installations are still up meaningful and I think Harry you called that about $400,000 of incremental expense just from installing the tubes. How should we think about the timing to get over the margin hump here maybe where installations are going to be outweighed by starting to see customer signups and new service?

[Harry J. Cynkus:]

The big question that I think in a lot of peoples’ mind is what kind of housing starts will we see next year, what kind of growth will the home team see? They’re in 17 out of the 20 fastest growing markets so obviously they’ll do better than what the average is plus or minus. I think their outlook right now and based on what they know with builders they are still planning an increase, certainly at a more modest pace than what they had this year. Certainly, the incremental change and impact on each quarter for the loss incurred on the installs should be less. At the same time, as Gary pointed out, we’ve done 140,000 installs over the last two years and we saw a nice gain in customers this year. We certainly expect a significant pickup from those 82,000 customers that were installed this year. It will probably be well over 50,000 new customers next year. We expect the margins – the customer growth from new customers with a slowing of the acceleration of the installs, we plan to see [inaudible] in the margin [inaudible]. If installs flatten you certainly don’t get the hit incrementally. We don’t mind taking that hit because there is certainly long term growth in that business and it certainly has the potential to grow their revenues in double digits next year.

[Joe Box:]

It’s basically just a customer acquisition cost anyway?

[Harry J. Cynkus:]

Yes, exactly.

[Gary W. Rollins:]

If I could add, keep in mind retention is better on these customers than it is conventional pest control so there’s really an ongoing benefit to grow this business just beyond the initial install.

[Joe Box:]

Harry, earlier your cost breakdown was helpful and I know it’s going to be tough to predict if some of those fees and headwinds are going to repeat themselves in 2014. Can you guys just give us a sense of how we should be thinking about SG&A either on a run rate or percentage basis for 2014?

[Harry J. Cynkus:]

I think SG&A this year was certainly a little elevated by the decision we made with our new advertising campaign to step up our advertising cost. We won’t see that same percentage gain next year. Unless the plan changes, and it certainly can, we are constantly looking at the trends, and leads and adjust our advertising strategy as necessary. But I would think, looking into the year, it should return to more what I would say normal levels unless there are some opportunities to pour fuel on the fire. The acquisition cost in the fourth quarter – doing our first acquisition in Australia cost us a lot more than a second acquisition would cost us doing there. There was a lot of fact finding and a lot of additional work and due diligence scoping out the market and getting comfortable with everything. But typically acquisition costs falls in the same year as the revenue comes on board. In this case, we had some time between the signing of the agreement and the closing of the deal. The deal should close mid February. The deal there is there are certain things we couldn’t do until the deal became public. We had to get the bank council and then go to the bank, set up new payroll systems, and transfer contracts, and what not. If I had a big acquisition cost in first quarter or second quarter you’d hope you’d see revenue and profits following it down the road. So, this year was a little different where we had the acquisition cost and most of it is accrued because it’s been incurred but the acquisition won’t fall – we’ll see part of it in the first quarter.

[Joe Box:]

On the cap ex front can you maybe just give us some color on expectations for 2014? Maybe some high level thoughts on free cash flow? One thing I’m looking at is will there be any cash tax impact from the expiration of bonus depreciation?

[Harry J. Cynkus:]

With regard to expiration bonus, I mean, we just don’t have a lot of depreciation. Our cap ex last year was $19 million and I would say that was a big year for us. This year, we’re still working on the biggest capital expenditure which is the [inaudible] suite project. We’re still spending money on that. It should be slowing down because we’ll be into the implementation phase before the year is out. I would say on cap ex $15 to $20 million is probably the range it will fall in and if you look historically that’s about what we spend. The bonus depreciation shouldn’t have as that significant an impact to really weigh on anything.

[Joe Box:]

On the free cash flow side we should basically be about growing by how much net income grows?

[Harry J. Cynkus:]

Yes. Then we’ll certainly have the addition from the margins of the acquisition and we’re always looking – we’re not satisfied with matching our results next year so free cash flow will raise with the profit. It won’t affect EBITDA and free cash flow – we don’t know yet we’re still working with the valuation people with regards to the All Pest acquisition. At this point I don’t know how much of the purchase price will be allocated to goodwill verses intangible assets which impacts the amortization. So it impacts EPS but it is all free cash flow post acquisition and we’ll have more color on that hopefully by the end of first quarter here.

[Operator:]

You’re next question comes from Sun-Il Kim – RBC Capital Markets, LLC.

[Sun-Il Kim:]

First of all just one follow up to one of Joe’s questions regarding SG&A expenses. If I sort of add up what you consider sort of one-time items in 2013 whether it’s the advertising campaign, I think you had some consulting fees earlier last year, and I guess some acquisition related cost, if I add those up it seems like you probably had about 30 to 50 basis points impact on margins last year from those items. Is it safe to assume that you’re getting that back in 2014? It doesn’t seem like you’re going to have any more consulting fees, it seems like the advertising campaign is going normal so are we going to automatically see 30 to 50 basis points of expansion this year just from those items going away?

[Harry J. Cynkus:]

I would think Sun if you did your math right, and I can’t verify your math right now I’m sitting at home, last night I didn’t expect not to be able to get back in the office so I don’t have any of my worksheets and spreadsheets with me. But you are correct, the consulting project, those fees were all related to our pricing initiative and we’re past the consultation standpoint and are now in the implementation. The advertising spend will return to normalized level again, unless we decide we see a market opportunity and acquisition expenses is tied to acquisition. So yes, it would normalize unless something not normal comes up. It’s hard to predict sitting here but certainly nothing on the immediate horizon that we have to talk about.

[Sun-Il Kim:]

Just one more question, regarding All Pest, I know you guys haven’t closed the deal yet but can you sort of talk about what the seasonality of that business is? I know there’s a lot of exposure to the oil and gas industry. If we’re going to model this in at some point I just want to know how we should think about the seasonality as well as the growth trajectory of All Pest?

[Harry J. Cynkus:]

The company, interestingly from a seasonality standpoint, their seasons run 180 degrees different from ours in that they’re on the other side of the equator down under. It’s summer right now so we’re sitting here freezing and having ice in Atlanta Georgia and it’s somewhere between 90 and 100 degrees Fahrenheit down in Perth today. They are in the height of their season so interestingly to some degree, and they’re certainly not anywhere as large, but they’ll help us smooth out some of our seasonality that we’ve been reporting on. In terms of growth, we’re really not in a position to talk about that just now. About half of their business is tied into oil and gas industry. They do a lot of work around the biosecurity of these huge liquefied natural gas projects that are going on in Western Australia. Their revenues spike up at the front end of the project while the items at these plants and things are being built and then it drops off into a normalized rate. The big question is how many more of these contracts – there are other projects that are being bid on, there are other projects that are at the front end of the cycle. Some projects have slowed down, others are picking up. They grew, I want to say I think the number was in excess of 30% revenue growth they experienced last year. In the last six months of the business this year it slowed a little for them. I think we modeled very modest first year growth as we try to get our hands around it and figure it out but a lot of it has to do with the timing of the contracts which quite frankly we haven’t had as much familiarity with at this point. We have an [inaudible] who is in the process of relocating his family to Australia. He has been down there for the due diligence. I spoke to him about 5

[Gary W. Rollins:]

I may not wait that long there. One thing maybe noteworthy, we have a sister company RPC which is in the oil service business, another public company and they have two divisions working in Australia so we were able to kind of validate from a third-party that this oil/gas situation is going to be pretty sustainable because they have these contracts with China to deliver gas and they’re just scrambling down there to get the infrastructure in down there to meet those obligations. Of course, the infrastructure is building those dormitories and treating the materials that come in to make sure there are no pests and so forth. I think we felt more comfortable that this think was not going to be just kind of a blip.

[Operator:]

(Operator Instructions) Your next question comes from Dan Dolev – Jefferies, LLC.

[Dan Dolev:]

It looks like when you hire the new person in charge of M&A is there a limit to the size that you’re looking at when you’re looking at M&A? Secondly, would you be potentially willing to take on debt if you found something right that fit?

[Harry J. Cynkus:]

We would certainly be willing to take on debt and we have in the past so there’s not any limit. The big ones are harder to catch but we feel like we’ve improved our imitative dramatically and we’ll be turning up the calls we make on these prospects. The Obama Care is looming out there and we’re getting calls from some people that are very concerned about what that is going to do with their cost and cash flow so we’re pretty encouraged about the direction as far as the new year is concerned.

[Dan Dolev:]

Is there a limit to the geographic focus for M&A? Is this now just Australia or basically anything anywhere in the world is on the table right now?

[Harry J. Cynkus:]

We’re really not as interested in international acquisition as we are domestic. I think this Australian thing was pretty unique. We feel like our model, as far as franchises is concerned internationally as far as the cultural challenges, and the language, and other regulatory issues, etc. – so this isn’t an indication that we’re just going to go out and try and accumulate a bunch of companies. But this Australian situation just fit for us and we have other opportunities in Australia. We’re on the west coast, certainly the east coast has potential and we’re making contacts in those other areas.

[Operator:]

There appears to be no further questions. Please continue with any further points you wish to bring.

[Gary W. Rollins:]

I would like to thank you all for joining us today and we look forward to the first quarter and we’ll continue to work hard to grow and improve our business. We want to put another one in the record book but thank you for your business.

[Operator:]

Ladies and gentlemen this concludes the Rollins fourth quarter 2013 earnings conference call. Again, as a reminder, if you’d like to listen to a replay of today’s conference please dial 303-590-3030 followed by the access code 4660653 followed by the pound or hash key. Thank you for your participation you may now disconnect.