APi Group Corporation (APG) Earnings Call Transcript & Summary

Still pretty good.

Yes, still pretty good. And what you have there, it's same -- almost the same equation. You got 2/3 price pass-through material costs, and then you got about 1/3 just labor hours growth volume.

What you see in the HVAC -- in the HVAC space versus in like, say, the life safety space, typically, like from an installation perspective, your -- the size is bigger. And so like as you incrementally grow your -- for us, the piece of those businesses that we really want to grow is not only the service side, but the temperature controls component because that gives you, obviously, a lot more control of that building when you own the temperature controls. So we want to grow that. But if you layer over a larger project opportunity over the top of it, it makes it that -- like you might be growing your service from temperature controls business at a 10% to 12% clip. And also you layer on a large project opportunity, it makes it look like it's not growing as fast. So we are purposely dialing back on the installation work that we do so that we can improve the gross margins of the work that we are doing.

And that installation work, is that mostly new installations? Or is that retrofit? What's the profile of those installations?

It's all of the above. I mean if we -- like if somebody came in here and you were retrofitting the HVAC system in a building like that and it would cost, let's just say, $400,000, I mean retrofitting -- doing something like that, you could argue that that's really service work, is probably service-related work. We would book that as an installation because we would run it as an installation from a project management perspective. So I mean, there is -- it's not like perfect this is an apple and this is an orange.

And that's obviously a very different business than the life safety -- the core life safety inspection stuff, right? I mean that's like a very different, almost, business unit? Or is it not?

They're run separately. They're tracked separately. You don't have -- like the inspections, when we talk about inspections, that's statutorily required, right? So by law, like a facility like this is going to be -- the life safety system is going to be inspected for functionality and operability, whether the building is 25% full or 95% full. It has to be inspected. And in New York, this building is going to be inspected twice a year. And then the fire pumps that are in the basement, I'm guessing there's at least 2 of them, there's probably more. Those have to be ran once a month. And some facilities have the people to do those on their own, some don't. In the HVAC space, the so to speak inspections is not statutorily required. So -- but what you do, do is you sell preventative maintenance programs so that you're actually proactively engaged with your customers. You're coming out, you're changing belts, you're making sure that the equipment is functioning properly. And if it's a 90-degree day and your chillers go down, whether it's statutory or not, you're fixing it.

Right. Chubb, maybe an update on the integration there, opportunities, things that have surprised you a bit on that front?

So the way you asked that question was just like these folks asked us the question in our most recent one-on-one. So I think I'm going to take the first half of it about Chubb and kind of how things are going from the people side of it. I'm going to let Kevin tackle kind of the restructuring and the optimizing, and then I'll take it over as it relates to surprises or no surprises. Does that work?

Perfect.

So anyways, Chubb is an interesting business. It really is -- I've said this a thousand times, it's the center of the fairway transaction for us. And we've built our North American life safety business on a branch-led operating model, and that's exactly what we're bringing to Chubb. When we stepped into Chubb, there -- it was truly a neglected company, like the CEO of Carrier never visited the business. The President of the company at the time, who we didn't retain, had -- I think he'd been to France once and hadn't traveled around and been active in the business. And there was this void of -- from a culture perspective, that we recognized and really quickly stepped into and have really been focused on the people component of it. Between Kevin and I, we've been to every country that Chubb operates in over the course of the last year. We've spent a lot of time in the business, moving around the business and making sure that we have the right people in place to lead the business. And companies like these, it's all about leadership. And if you don't have the right branch leader, you're not going to be successful. If you don't have the right country-level leader, it's going to be very difficult for those branch leaders to be successful. And so we have just fundamentally made all of the changes from -- I'd say, from a corporate perspective, through the country-level managing director level. We've made all of those changes that have needed be made so far, and now the attention is really starting to push down into the individual branches. And just to give you a little bit of an example is we have a saying at APi that everyone, everywhere is a leader. And when you make a comment like that, you have to be able to provide every person in the organization the opportunity to opt in, to grow and develop as a leader. So we created an online learning opportunity probably 4.5 years ago, and it's literally called I Am A Leader. And it's 30 minutes, three 10-minute modules, and it's focused on leading so. And we rolled it out to our core business 4, 4.5 years ago, and we've had about 7,500 people, 7,300 people opt in and participating in it. We -- after we closed on the Chubb acquisition, we translated the learning opportunity in 6 additional languages. And in a 16-week period from when we rolled it out, we had 6,500 people opt in. And what that should tell you is that there was this vacuum of -- from a culture perspective, that I feel like we've done a really good job of stepping into and filling that void. And the people have been super responsive in a positive way to what we're bringing to them. I think a lot of people find some of the change that we're making very refreshing.

And how many have had -- what kind of turnover have you had to push? Obviously, you got rid of the head of the business. But was there another layer that you had to either you're with us or bye-bye?

So at the most senior level, by the time we're finished, it will be 75% to 80% of them will be changed. Which -- I mean, I guess we'll go into me answering the question about whether there were surprises or not surprises, and then I'll let Kevin talk about the restructuring and the optimization. But -- so the answer was there really weren't any surprises, all right? I mean we expected in this environment of a corporate carve-out that the best talent at the corporate level would be plucked out of there. So we kind of went into that eyes wide open. And so -- and the fact that we've had to make as many changes really isn't a surprise to us. And so -- then when you get kind of 2 layers down, we've been surprised to the positive. Like there are some pockets of really good people that, I would argue to you, have been kind of oppressed and held back and that are starting to really -- they're going to blossom, and they're going to be able to do good things. The reporting structure was kind of not what you'd call optimal. I mean, I think the company President had 18 people reporting to him. We've restructured the business into 2 regions. We promoted people into those regional leadership roles. We've taken -- we've brought David Jackola from Kevin's team over and replaced the CFO of Chubb with a guy from our team. We're -- we've got an individual that's maybe our best fire guy in APi from a technical operating perspective who's been helping us in Australia, we're moving him into the business full time to help with some of the restructuring and optimization that Kevin is going to talk about. So we took our second guy in our Canadian business and put him into the Canadian operation. I mean, so we've made some really good changes that, like, I feel really good about where we're at from a senior leader perspective. Now that focus needs to go to the branch. We need to optimize the branches and get this business -- get to a solid foundation so that we can really get serious about growing it, and growing it with healthy revenue.

So we've had this business for about 14 months now, right? And our priority over the last year was to carve out of the Carrier environment, aggressive plan to get done by the end of the year. I could say we got there. And the costs associated with it are largely behind us in last year. The 2 financial areas where we're focused on with that business was getting the top line moving again, because it came to us with largely, I'll say, a period of limited to no growth organically. It actually came to us Q4 of 2021. So we sort of moved into it with still declining organic revenue. As we move through last year, new leadership team in place, country teams focused on pricing, right? And so we got after pricing, saw organic growth, as we move through the year, improve sequentially every quarter. And as we exited the year, we had good growth. And I'll say while the growth was largely pricing, there was volume in there, too. Especially in the later part of the year where we are winning new business, and as Russ talked about, we were culling some of the business that we didn't want. And we expect that to continue as we move through 2023. So we feel good about sort of that initiative, getting the top line moving again. The other thing where we're focused on was these value capture opportunities, you'll hear us talk about it. But in November, we moved that number. We started at $20 million sort of pre-close. Once we closed, we saw a path to $40 million. And so early last year, we increased our target there. Then in November, we brought it all the way to $100 million. And as we spent time with that business, of course, you get to know it more and you see these opportunities to get after this value capture. A lot of it is either optimizing footprint, restructuring, I'll talk about, and getting after low-performing branches. From a restructuring standpoint, we estimate that we'll have about $100 million of restructuring. So you can think about sort of the value in restructuring being about a one-for-one over the life of the program. We took a $30 million charge last year and started to see savings show up in the back, late probably Q4 of last year, so $5 million to $10 million. The remainder of those savings associated with the $30 million will show up in 2023. Recently, we guided we actually accelerated sort of our 2023 restructuring charge, meaning we moved dollars from '24 into '23. So we're estimating about $55 million to $65 million this year in restructuring. Obviously, plans aren't completely done and now it's for us to -- we've taken the charge. So a lot of that, we're going to conclude our planning here in the front half of the year, and I estimate taking the charge in the back half of next year. And we'll see some savings show up in 2023, but the lion's share will show up in 2024 associated with that charge.

And the cash spending associated with those, I think we discussed most of that is going to be done by early next year or...

2024, yes. So we're going to have -- some of the cash costs associated with the charge last year will show up this year. Some this year will show up this year, some next year.

There's a lag.

Yes. It will roll over into 2024. The only other thing when we talk about financial performance with Chubb that I'll speak to is you asked about sort of what surprised you. I'll say early days, you get some information on countries and you may say, "Hey, this country financial performance isn't where this country is." But as you get into those countries and really understand it, even in countries or areas like that, the patient is not sick everywhere, there are branches that are performing really well, well above fleet average. And so what it kind of tells you is it's really about fixing that branch and getting after that branch performance. And we can make money in any country that, that business operates in.

Right. Once you get that benchmark of the good performer and hold it up to the other operator and make a scoreboard.

I told the story a couple of times today that we used to have a gentleman that ran our office in Phoenix. And he used to -- when I first started it at the parent company back in 2002 and now everybody thinks I'm an old guy, but that he used to tell me, "Can't make money as a union firm in Phoenix." So the phone rings and there's a company for sale that's literally 1.5 miles from our shop in Phoenix that our business is about $10 million, this guy's business is about $10 million. He's a union shop, we're a union shop. He's making 10%. We're not making a dime. But you can't make money in Phoenix. And our Phoenix operation today is north of $30 million and probably at 16% or 17% EBITDA margin. So you can make money in Phoenix.

Is that guy still at the firm?

No. No. He wouldn't be, Steve. So anyways, but I mean you can make money in any market, you have to have the right leader. And that sounds like such an oversimplification, but it's -- in people-centered businesses like this, that is the truth. And for like us, like another great example is like San Diego, California. We've tried to go to San Diego, California 3 times and have not been able to be successful there. And you'd look and you'd say, "Why not," and everything else. And it comes down to the fact that we haven't had the right person to lead the business. And we'll be in San Diego, I guarantee it, at some point, but it won't be until we have the right person to lead the business.

What's the 1 or 2 things that you notice when -- how do you know -- what did the guy at the Phoenix branch do better than the other guy, and what informs your decision on who to get for San Diego? What's the -- what's the secret sauce?

So first and foremost, they have to buy in to this inspection first mindset, right? And the industry has traditionally been, "We're going to go sell large installation jobs, and we're going to try to convert them into inspection and service contracts, and that's how we're going to grow our service business." And you'll never have success if that's your mindset. You can be average, but it's very, very difficult to be really good. And so that person has to, number one, buy into that inspection first mindset. Then they have to be able to build a team. And in order to build a team, a big part of your role when you're running a branch is building relationships in the community that you serve. So you have to have really good relationship skills. And that all comes with the aspect that you have to have some small amount of technical expertise, because when you're working in a smaller branch, you have to be able to wear multiple hats. And so -- but it's the other softer skills that are more important than the technical skills. We can teach the technical skills. It's those softer skills that are really paramount.

And is that partially because if you're inspection first, you're kind of going to try and win a business that somebody doesn't really -- isn't really putting up for bid anyway? Like with at least with an installation, there's an RFP, they bring people in, it's like, okay, it's a bake-off or is maybe an inspection, they're not really looking for that. So you have -- it's a little bit you have to be more patient, you have to cultivate. I mean I'm just trying to think about the differences.

Sure, 100%.

Somebody will be going for the quick fix as opposed to the be patient and over the long term.

100%. And so like if you look at our Safety Services segment, which is north of $4 billion in revenue, our average project size is $5,000. Like that's a lot of small invoices and small inspection jobs, small service jobs that you have to not only have the infrastructure to be able to do that, but you have to have the people that are out selling that, and it takes a lot of energy and effort. And when you -- you talked a little bit about who we've taken that share from earlier. But that family-owned business that's doing $20 million or $25 million in sales, it's way easier for them to go win a $1 million install job than it is to win $1 million worth of work $5,000 at a time. And one of the advantages that we have is that we've kind of been after this for some period of time. So we've built out that infrastructure where we have a really good place to continue to scale it. If we go buy a $10 million business and tuck it into our existing business, typically, those businesses are like 80% install, 20% inspection and service. We've got the recipe book on how we're going to convert that to get that to that 50-50 model. And it's just that we've been doing it so much longer that we've got kind of that whole Jim Collins flywheel idea, we've got that flywheel spinning, and it's a real strength for us. And one of our challenges is to bring that same mindset and mentality to Chubb.

And is that -- is there project selectivity embedded in that? Or does the 50% kind of stay the same and you layer on the inspection? I mean, I would think that you have to walk away from some of that, the 50%, that's unattractive on the project side?

So when you get to the point where 50% of your revenue is coming from inspection service and monitoring, it positions -- you're covering so much of your SG&A that it positions you to be super selective. So you can really, really be selective on the installation work that you have. And the reality of it is, is we're going to always do some installation work. We want the service and inspection work to be growing at, say, 10% plus. We want this piece of the business to be growing at 3% or 4%, right? And that just shows us that we're being wise with who we're going to work with. And when we talk about project selection, it's project selection/customer selection. And 9 times out of 10, I would tell you, it's about customer selection, and who you choose to work for versus whether we have the capability to actually do the work. You're going to say something?

I was just going to say, when Russ was talking about the inspection and investing, he was right to talk about the people and our sales organization there. And as a reminder, we've been investing there for 5-plus years, focused investment. And that, too, is something that differentiates us from some of the small mom and pops. But also over the last decade, we've been investing in the infrastructure that he's talking about. And one of the -- a couple of things that matter a lot in the inspection space or how we're able to go win business is people don't show up on time. So that's service and routing and things, making sure that the person is there. And you don't file that report on time in that inspection deficiency report, and you don't follow up with the service offering to go fix the things that are broken. When you have the infrastructure, we do, and the investment that we've done and that we're continuing to invest then positions us from a service standpoint way differently than the other smaller players in the market.

Any questions out there? Just turning to specialty. How are the trends here? And is this business something that -- a business that you see yourselves being a part of, longer-term?

Well, I mean, the opportunity in the space is obviously very robust, whether it's through the indirectly be a positive effect the Infrastructure Bill. I'd like to share my example that a rising tide floats all boats, and we may not -- we will not be pursuing like a $400 million bridge project on I-70. I mean that's not the work we do. But there will be peers and competitors of ours that will, which will create space for us with where we're at. So we like the services that we provide in the space. They're acyclical in nature to what's happening, say, in any sort of macroeconomic challenges. They don't really care what's happening with commercial real estate, as an example. And so the work that's happening there, we're getting some benefit in the pieces of our business that do telecom work through this rural broadband federal legislation that was passed some time ago. You've seen actual dollars flowing into the system for that already. And not necessarily just for specialty, but also for Safety Services. We'll get some benefit out of the semiconductor or the CHIPS Act that was passed. I mean those guys are going berserk already with their spending. So as it relates to will we be in the specialty services business, whatever, a year from now, 2 years from now? I think everything is open for conversation. We're going to look at what's best for the business. If we have to prune, whether that's individual businesses in the segment or individual businesses in the Safety Services segment, we'll prune. If the best thing to do is for us to look at divesting specialty, we'll look at it, and we'll make decisions that are best for our shareholders and what's best for the company.

So there's some like volatility in the number -- in the subsegments there. Fabrication is really strong when it came in. How should we think about like those various subsegments embedded in guidance this year when you think about fabrication and utility-related work?

Yes. So if you look at last year, okay? So for the year, I think organic growth for the segment was around 10%. You're right. There's some subsegments that were growing faster in that. Q4, we were down. It was really a comp issue when we were comparing to 2021. What you generally see in that business, it's all in the northern -- it's all U.S. Well, there's some in North America, but it's primarily Northern Hemisphere. So we stepped down from what is a robust Q3 to Q4. Sort of the seasonality of that business, lower in Q1, step back up in the summer months. In 2021, because we were sort of blowing out of COVID, especially in like the specialty contracting space, if you look at those growth rates, they were extraordinary, and the business actually stepped up Q3 to Q4. But largely, that was that sort of COVID backlog of work that we were trying to get through. As we go into 2023, some people have done the math and say, "Hey, it looks like growth rates in specialty are lower than safety. What's going on?" And I think Russ talked about it. We're not short of opportunities in that space. What we're focused on is making sure that we're judicious around the work we do, and those selection is going to continue to drive gross margin in that business. In this day and age, hours are not infinite, they're finite. And so we want to make sure that we're deploying our labor hours in that space against the absolute best work we can.

And then finally here, just you guys are getting back to a nice balance sheet position probably by the end of this year. Is there another Chubb out there at some point in the next couple of years? Are you guys ready to roll on something big or more of a tuck-in, local tuck-ins?

Yes. So I mean number one, our first priority is to delever to that range. We said 2.5x by the end of this year, but our targeted leverage ratio has always been 2x to 2.5x. So we've always been a firm that believes that we have to live up to our commitments. So that's our first priority. Second and baked into our forecast would be some tuck-in M&A that's really -- the focus will be centered on North America and really specifically the U.S. We don't feel like Chubb necessarily has the bandwidth to take on any additional responsibility if that's the right way to put it. So that will be the focus. Obviously, we'll be delevering, tuck-in M&A, potentially share repurchase if that makes sense is really how we're kind of looking at how we're going to allocate our capital.

Anything else? I think we're good. Thank you, sir.

Awesome. Thank you for your interest in the company. We appreciate you being here. Thanks, Steve.