No single acquisition in this era of rampant consolidation was quite so stunning as the announcement in early April that EMCOR, already the nation’s largest mechanical contracting firm, had purchased perhaps the nation’s most admired mechanical contractor, the $400 million Poole & Kent. It draws attention like nothing else to the dramatic changes impinging on our industry.
PM: What is your projection for EMCOR’s current fiscal year in revenues, profitability and shareholder return?
Levy: Although EMCOR does not provide forecasts of its operating performance, consider the following. 1998 revenues from global operations were $2.21 billion and conditions remain favorable in all of EMCOR’s markets for 1999. Poole & Kent had revenues of approximately $400 million during 1998 and joined EMCOR in mid-April with a contract backlog of approximately $400 million. A recent forecast by Marc H. Sulam of Donaldson, Lufkin & Jenrette, a leading industry analyst projected EMCOR earnings of $1.90 per diluted share in 1999 as compared with actual earnings of $1.46 in 1998. EMCOR revenue and operating earnings have grown at the annual compound rates of 12 percent and 85 percent respectively since 1995.
PM: What portion of EMCOR’s business takes place in the U.S., and where is most of your action taking place globally?
Levy: During 1998, approximately 68 percent of EMCOR’s revenue came from its U.S.-based operations with the remainder spread among its Canadian, UK, Middle East and far eastern operations. The UK represents our largest operation outside of the U.S., providing approximately 22 percent of 1998 revenue followed by Canada with 9 percent. In Canada, EMCOR operates a diversified mechanical, electrical and facilities services business in all provinces. In the UK, EMCOR has similar operations in Scotland, Wales and the whole of Great Britain.
PM: What do you consider to be EMCOR’s main competitive edge in the markets you serve?
Levy: We consider EMCOR’s main competitive edge to be the breadth of experience that it can deliver to all of the geographic markets and market sectors that its operations serve. Each operation can draw on the combined experiences of the group to meet the needs of its local projects and customers.
For example, several EMCOR companies have been involved in the construction of cell sites for wireless communication systems. Each time one of our companies considered an opportunity in this market, they contacted one of the EMCOR operations that had previous experience. They reviewed the technical needs of the work, the cost structure and pricing, and probably most importantly for both EMCOR and its customer, the learning curve that allowed us to complete these installations faster than competitors without the experience.
Knowledge transfer among our operations provides real value to our customers in terms of consistent quality and faster installations — a critical factor to the communications industry. This approach has been brought to recent projects in the hotel/casino, sports facilities and semiconductor industries benefiting both our customers and ourselves.
Of course, EMCOR also brings its financial strength and purchasing power to its operations assures customers of our ability to meet their increasingly demanding schedules and design requirements.
PM: EMCOR is by far the largest mechanical contracting company in the U.S. The track record hasn’t been so good for other firms that have held that distinction in recent decades. Sam P. Wallace Co., Natkin, JWP all met with failure. What is EMCOR doing differently to avoid this “bigger they are, harder they fall” fate?
Levy: We often reflect on these experiences to be sure that we have learned from history, but I am confident that the business model we have structured for EMCOR will avoid the pitfalls that led to the failure of these companies. We understand the very unique nature of our business (as compared with general contractors and construction managers) on the one hand, and the many industries that have sought the benefit of consolidation, i.e. waste disposal, office products, on the other.
Our business is very local. The success of our operations depends on relationships in each of the markets we serve, knowledge of local codes, business practices and costs and the work environment. In addition, our business depends on the management of labor to provide both the construction and facilities services that we offer our customers — and labor is a very local resource!
In addition, EMCOR operations have retained their names and identities after they joined the group. Names such as Forest Electric in New York City, Trautman & Shreve in Denver, Gibson Electric in Chicago, University Mechanical & Engineering Contractors in San Diego; and now Poole & Kent often include the name of their founders and represent well-established franchises in their markets. The names are also a matter of great pride to our employees who now have the added “bragging rights” of being part of EMCOR — we encourage this pride. EMCOR companies have been in business an average of 47 years in their respective markets, and by retaining their names we ensure our identity and continuity in each of those sectors.
Finally, we have built a very lean corporate office staffed by individuals with long experience in the design and construction industry — and we bring complementary expertise to our operations. This includes financial management, insurance and safety programs, contract management expertise, and cash management.
PM: What advantages does EMCOR enjoy by virtue of its gigantic size?
Levy: The size of the Group provides us with significant efficiencies in the financial support areas of working capital, insurance and tax management. In addition, we enjoy favorable pricing in the material and equipment markets as one of, if not, the largest, purchasers of various types of commodities and components.
In addition, we benefit from favorable pricing and purchasing leverage in support areas such as equipment and vehicle rentals and leasing, office supplies, telecommunications and mail services and computer equipment and software. We are in a business where money is made in the smallest details and we take advantage of every opportunity we can get.
Levy: I can’t think of any disadvantage per se. Although many of our customers don’t really understand the breadth of the technical capabilities that are available to them through the Group. Occasionally there has been concern among customers that the local management they know and trust will not be able to make, and deliver on, commitments after joining the Group. I am pleased to report that they learn very quickly that our local management run their respective operations and offer the same support and commitment with a greater resource pool to draw on — it is soon accepted as a strength!
PM: Poole & Kent is perhaps the most admired mechanical contractor in the country. Your press release following the acquisition indicates that their top management will remain in place. Do you anticipate any significant changes further down the management ranks or in the way they operate?
Levy: We spent a great deal of time with Poole & Kent before mutually deciding to proceed with the acquisition. We wanted to understand their operations, how they do business and the unique expertise they have in the water and wastewater treatment business. Their operations are an excellent fit in the Group, and we are looking forward to pursuing opportunities combining their technical expertise with our local operations around the U.S. Poole & Kent has a small corporate support group that will be integrated into EMCOR’s corporate organization and increased efficiencies are expected.
PM: Will Poole & Kent operate as an autonomous division? To what extent will they be asked to conform to EMCOR policies and procedures?
Levy: Poole & Kent will operate on the same basis as EMCOR’s other subsidiary operations — within a framework of policies and procedures that provide consistencies among all operations.
PM: Can we expect to see other sizable acquisitions from EMCOR before the year is over?
Levy: I am not aware of any companies of the size and scope of Poole & Kent in our market. However, we are always considering potential acquisition candidates that will expand our geographic market coverage, expand the market sectors that we serve and the scope of services that we offer. We are focusing particularly on acquisitions that will expand our North American facilities services operations.
PM: What are the factors you look for in determining a suitable candidate for acquisition?
Levy: First we consider the capabilities offered by an acquisition candidate, in terms of geographic market coverage, market sectors served and the scope of services offered in the context of our existing operations.
We are looking for copanies that will expand our ability to offer consistent construction and facilities services to global customers throughout their markets. We are also looking to establish operations in markets that we feel offer long-term opportunities in several market sectors.
We then evaluate the management, their depth, their style and reputation in the market. We typically look for companies that have a first or second place position in their markets and strong management that want to stay and run their businesses. We also evaluate the management for “fit” with other EMCOR companies and often have the management of candidate companies visit EMCOR operations to see if they feel they fit.
During 1998 we acquired 10 companies with annualized revenue of $200 million — very selective given the acquisition activity of consolidators in that period.
PM: Your original press announcement of the Poole & Kent purchase made much of its vaunted expertise in building water and wastewater facilities. This comes on the heels of Vivendi’s pending acquisition of U.S. Filter, another specialist in water-related building projects. In fact, U.S. Filter executives have made statements to the effect that water is undervalued worldwide and it is their goal to “own the world’s water.”
Do you share their belief that water resources are undervalued?
Levy: Yes, very much so. Water is a very finite, local, resource whose cost and supply cannot be readily increased through deregulation, as has been the case with telecommunication services and now electricity. The supply of water is so critical to everything that we do that its value can only increase over time as the global population continues to grow and we deal with the consequences of industrial development and pollution.
PM: Do you feel a budding global rivalry with Vivendi/U.S. Filter?
Levy: No, quite the opposite. Vivendi is one of several global companies that have focused on the opportunities in management of the water supply infrastructure for municipalities — and even whole countries. ENRON has signaled its recognition of these opportunities through the acquisition of Wessex in the UK and the formation of Azurix several months ago. These global giants will all need the services of companies such as EMCOR that can undertake the design, construction, maintenance and even operation of such facilities. We anticipate the opportunities for strategic alliances in the water resources market much like those we have established with electric utilities to serve the energy market.
PM: What market sectors besides water/wastewater projects do you feel will be most important to mechanical contractors such as yourself in the foreseeable future?
Levy: The energy markets, resulting from the deregulation of the electric utility industry, have and will create opportunities for new business based on providing value to end-users through management of their energy supply needs. Unfortunately, the deregulation process is taking much longer that anticipated and will likely need to address technical realities associated with maintaining a secure electricity supply.
Utilities bring great expertise in energy production, distribution and management to this business; but they will need to offer a broader range of services, to serve and keep their customers, than ever before. It makes sense for these energy companies to rely on EMCOR’s core competency in mechanical and electrical construction and facilities services to meet these needs, and in fact we have established several strategic alliances with major energy companies to do just that.
We also see the trend toward outsourcing non-core activities by both public and private entities such as maintenance and operation of their mechanical and electrical systems. This area appears further developed in the UK following the privatization programs initiated during the Thatcher administration, and now is becoming more prevalent in the U.S. as part of our increasing competitive focus. We are experienced and ready to supply these services and have expanded the scope of services we can provide to improve operations as well.
PM: The consolidation movement is moving with dizzying speed in mechanical contracting. Besides your company and U.S. Filter, companies such as Comfort Systems and GroupMAC have passed or are approaching the billion-dollar mark in revenues. Also, utilities such as Enron, Connectiv, First Energy, PP&L and others are getting into the business. Several related questions:
PM: How do you assess the general state of mechanical contracting consolidation?
Levy: The mechanical consolidations appeared well focused when they began with consistency among the acquisitions in terms of size, markets served, etc. I think that many arose from industry peer groups that had been together for several years. As these programs were expanded later in 1998, their focus became less obvious and I wonder if the consolidators weren’t reacting to market pressure to continue their explosive growth.
At the end of the day a successful consolidation must become a successful and well-integrated operation to achieve the “synergies” that are their objective. There are formidable obstacles to overcome in this integration process, and I wish them well. We believe that successful consolidations will actually increase EMCOR’s market opportunities by giving visibility to the expanded capabilities that a well-integrated company can offer.
PM: Do you view utility companies as potentially formidable competitors?
Levy: Not really, I consider them more of a market as I mentioned earlier, although some have acquired contracting capabilities to serve particular local and regional markets. This is also consistent with our experience providing both for mechanical and electrical services for both regulated and unregulated operations.
PM: Can a smaller independent mechanical contractor, say $50 million and under, still succeed in the consolidated marketplace?
Levy: Yes. Although I feel that the mid-sized companies, say $30-50 million, may feel competitive pressure from consolidators chasing their markets, particularly larger jobs.
PM: Neither EMCOR nor any of the other public consolidators has done very well in stock price during the last year or so. Why is Wall Street not reacting more enthusiastically to what you and the others are doing?
Levy: I think you’ll find that most small cap stocks have done poorly in the latter part of 1998; we are just not what the market wants to buy. The same is true of many electric utilities that have significantly increased their operating diversity and earnings this past year. However, the strong performance of EMCOR common in 1999, relative to the Russell 2000 and the consolidation you mentioned earlier, could be a reflection of our strong balance sheet and the realization by the financial community that we have built the company for the future.
I think that we will become more attractive as the newer markets develop and we are seen as a strategic player. Few people really understand our business, and there is always concern about construction cycles. We highlight the fact that less than half of EMCOR’s revenue in the last few years has been from new construction projects, and that our geographic and market sector diversity offers a “portfolio” approach to manage the risk of business cycles.
PM: What are the keys to success in mechanical contracting nowadays?
Levy: The basics as always. I think it was Walter Scott of Kiewit who said that to succeed in the construction business you needed to know your costs and focus on the downside with the upside taking care of itself — good advice for both construction and facilities services. But there is an opportunity to use technology to improve our efficiencies and take better advantage of our scarcest asset — people! This includes integrated CAD and fabrication systems, detailed planning and materials management, and really doing it. We are getting great benefit from the internal peer groups we established two years ago. Our greatest resource is the knowledge of our people and sharing new ideas and things that have worked makes us more competitive.
PM: What are the biggest problems facing the industry as a whole, and can you point to any solutions?
Levy: Probably the biggest problem facing our industry is people — skilled tradesmen and project management. Many smart people are focused on the issue, and I am absolutely certain that we won’t be providing construction and facilities services over the Internet any time soon. We need to expand the outreach and education programs to make young people aware of the opportunities available in the industry. We also have to realistically assess the financial compensation we offer as an industry in the competitive global marketplace. The cost for maintaining the industry is a true cost of sales, and our customers will need to acknowledge this in their procurement practices.