Stantec Inc. (NYSE:STN) Q4 2023 Earnings Call Transcript

Stantec Inc. (NYSE:STN) Q4 2023 Earnings Call Transcript February 29, 2024

Stantec Inc.  isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Welcome to Stantec’s Year End and Fourth Quarter 2023 Results Webcast and Conference Call. Leading the call today are Gord Johnston, President and Chief Executive Officer; and Theresa Jang, Executive Vice President and Chief Financial Officer. Stantec invites those dialing in to view the slide presentation, which is available on the Investors section at stantec.com. Today’s call is also webcast. Please be advised that if you have dialed in while also viewing the webcast, you should mute your computer as there is a delay between the call and the webcast. All information provided during this conference call is subject to the forward-looking statement, qualifications set out on slide 2, detailed in Stantec’s management discussion and analysis, and incorporated in full for the purposes of today’s call.

Unless otherwise noted, dollar amounts discussed on today’s call are expressed in Canadian dollars and are generally rounded. With that, I’m pleased to turn the call over to Mr. Gord Johnston.

Gord Johnston: Good morning, and thank you for joining us today. 2023 was a remarkable year for Stantec and I’m very proud of what we accomplished. We achieved record financial results and delivered our best year ever for organic net revenue growth. We grew our employee base by 5% through organic hires another record, while maintaining our best-in-class employee retention rates. And for our fifth consecutive year, Stantec has been ranked by Corporate Knights as the top 10 global leader in sustainability. And once again, we ranked first amongst our peers. None of this would have been possible without the dedication, passion and commitment of our employees and I’d like to thank each individual for their contributions. We started 2024 strong from an M&A perspective and have already closed both the ZETCON and the Morrison Hershfield acquisitions.

These are the most top-in-class firms. And with the addition of their talented employees to the Stantec team we are now sitting at over 30,000 people around the world. Closing these acquisitions early in the year helps us jumpstart our new 2024 to 2026 strategic plan. Turning to our 2023 financial results. Overall, we grew net revenue by 14% year-over-year with almost 10% coming from organic growth. Market demand in 2023 was particularly robust in our water and environmental service business units and in the US with each delivering double-digit growth for the year. Our strong operational performance drove record high adjusted EBITDA of $831 million and an EBITDA margin of 16.4%. And as a result we delivered significant adjusted EPS growth of 17% achieving a record high of $3.67.

Our US business achieved very strong results with over 18% growth in net revenue for the year more than 12% of which came from organic growth. In 2023, we achieved an organic growth in every one of our business units with water, building and energy and resources each delivering double-digit organic growth. The demand in the public sector and industrial projects as well as large-scale water security projects drove a 25% increase in organic growth for our water business. Our buildings business benefited from higher activity levels in healthcare, industrial and science and technology projects and energy and resources continue to support Puerto Rico’s hurricane recovery including the upgrading of its power grid contributing to solid revenue growth.

So overall, a very, very solid year for our US operation. In Canada, we achieved greater than 8% organic net revenue growth which surpassed our expectations for the year. Environmental services, infrastructure and water each delivered double-digit organic growth. Strong demand for permitting and archaeological work drove growth for environmental services particularly in Western Canada for the midstream energy sector and in Ontario for large-scale transportation projects. Activity on environmental impact assessments in the renewable energy sector also contributed to revenue growth. Infrastructure revenue growth was driven by heightened activities around bridge and roadway work in Western Canada. And our expertise on large wastewater infrastructure projects drove growth in water, especially, from work on the Iona BC and the Barrie, Ontario, Wastewater Treatment Facilities.

Moving to Global, we delivered 6.5% organic growth, driven by double-digit growth in Water and Energy and Resources. Our industry-leading water business remains very active, supporting long-term framework agreements and investments in water infrastructure in the UK, New Zealand and Australia. In Energy and Resources double-digit organic growth was driven by the advancement of our work on the Coire Glas, pumped storage energy project and increased activity related to the National Grid framework in the UK. E&R also continued their work on mining activities, around copper and other metals that support the energy transition. And now, I’ll turn the call over to Theresa, to review our financial results in more detail.

Theresa Jang: Thanks, Gord. Good morning everyone. We closed out the year with a solid quarter of performance in Q4, contributing to another record year for Stantec. In Q4, gross revenue was up 6%, compared to Q4 2022 at $1.6 billion, while net revenue was up 10% at $1.2 billion. Project margin was right in the middle of our targeted range of 53% to 55%, but decreased 100 basis points compared to Q4 last year, in part due to changes in project mix in the US. This along with the quarter’s 90 basis point impact from the revaluation of our long-term incentive plan contributed to the reduction in adjusted EBITDA margin to 15.7%. Diluted EPS in the quarter was $0.66 and adjusted diluted EPS was $0.82, both consistent with last year.

Excluding the effect of the asset revaluation, our Q4 adjusted EPS was $0.90. Turning to our full-year 2023 results, we generated gross revenue of $6.5 billion and net revenue of $5.1 billion a 14% increase for both over 2022. Project margin for 2023 was a solid 54.2%, consistent with last year. And adjusted EBITDA increased by 15% to $831 million. We increased our adjusted EBITDA margin by 20 basis points to 16.4% within our targeted range. This was despite a 70 basis point impact from LTIP revaluation, resulting from the 64% depreciation in our share price for the year. Excluding this, adjusted EBITDA margin was 17.1%. Our full-year diluted earnings per share reached a record high of $2.98, and our adjusted diluted EPS was $3.67 up 34% and 17% respectively despite the $0.24 unfavorable impact from the LTIP revaluation.

Increased earnings also reflect the successful completion of our 2023 real estate strategy. We’re pleased to have achieved the targets we set out three years ago, by delivering approximately $0.38 of incremental adjusted EPS, and reducing our real estate footprint by over 30% from our 2019 baseline. Now turning to our liquidity and capital resources, 2023 was one of our strongest years for operating cash flow generation at $545 million, compared to $304 million in 2022. Cash flow this year benefited from a full year of operations postcard no integration as well as increased revenues and diligent management of our working capital as shown by our four-day reduction in DSO from 81 days to 77 days. Increases in operating cash flow were partially offset by higher tax installment payments driven in part by the impact of US Section 174, and higher interest payments.

In 2023, we returned more to our shareholders in dividends, but we were less active with share buybacks compared to 2022. And as at December 31, our net debt to adjusted EBITDA was one-times well within our internal leverage range of one-to-two times, positioning us very well to fund our acquisitions of ZETCON and Morrison Hershfield in the first quarter of 2024. And with that, I’ll turn the call back to Gord.

Gord Johnston: Thanks Theresa. In the fourth quarter, we reported backlog of $6.3 billion. Backlog has grown organically by 5% since December 2022 and continued to grow in each of our geographic regions with Global, posting double-digit organic growth. Compared to the third quarter, our backlog grew organically a native currency, but was offset by foreign currency fluctuations. Our ability to grow backlog in Q4, which is generally softer as a result of seasonality, clearly demonstrates the strength of the market. Backlog in Water continued to strengthen with a 23% organic increase, supported by project wins in wastewater treatment, advanced manufacturing, consultancy frameworks and master planning services. Buildings also had a number of strong wins, translating into solid high-single-digit organic growth.

We continue to see demand for our expertise in healthcare, multipurpose buildings and advanced manufacturing and industrial facilities. Our backlog represents approximately 12 months of work. We continue to capture significant opportunities in the fourth quarter. We were selected to provide a full suite of architectural, engineering and environmental services for a $1 billion lithium ion battery manufacturing facility in British Columbia. E-One Moli’s facility will include our research and development complex with a fully integrated green roof as well as a seven-storey mass timber office building. Our buildings team was selected to design the first Comprehensive Cancer Hospital in Dubai. At over 600,000 square feet, the hospital will be designed recognizing best-in-class building strategies and practices in sustainability.

Stantec is consistently ranked as a top five design firm in the health space. And as we’ve talked about in the last number of quarters, the UK water appointments are starting to ramp up. This quarter on average, we were appointed to the Northumbrian and water capital delivery framework and to the Severn Trent Water Engineering and Design Consultancy framework. We were also pointed to the capital work’s PMO framework with Irish Water. Each of these wins secures work for the next five years with the option to extend beyond that period by agreement. We are also very pleased to announce this morning that we were selected to provide integrated design services for Agratas, new battery manufacturing facility in the UK. This is one of the most significant investments in the UK, and the factory will be one of the largest of its kind in Europe.

This project award is a testament to the breadth and depth of Stantec’s expertise in advanced manufacturing and we look forward to working closely with Agratas to support the successful completion of this project. Looking at 2024, we continue to see high levels of activity in all regions, and we’ve now updated our targets to include Morrison Hershfield. We have raised our net revenue growth target for the year to 11% to 15%, and expect organic net revenue growth to be in the mid to high-single-digits. For US and global, we expect mid to high-single-digit organic revenue growth. And in Canada, we’re guiding to mid-single-digit growth. Our EBITDA margin target for the year is in the range of 16.2% to 17.2%. And finally, we have revised our adjusted diluted EPS growth to now be in the range of 12% to 16%.

While we’re only two months into 2024, we are very confident in being able to achieve these targets. And we remain very optimistic for what’s to come. Before opening the call to Q&A, I want to comment briefly on the announcement of Theresa’s planned retirement. We have been extremely fortunate to have Theresa on the Stantec team for the last 5.5 years. She’s added tremendous value to the company and has ensured Stantec is in a very strong financial position. While Theresa will remain in her role as CFO until her successor is in place ensuring a smooth transition, I want to thank her for all of our efforts and everything that she is done for Stantec over the years. And with that, we’ll turn the call back to the operator for questions. Operator?

Operator: Thank you. [Operator Instructions] Our first question comes from Benoit Poirier with Desjardins. Your line is open.

See also 25 Countries with Most Gold Reserves in 2024 and 15 Highest Paying Countries for Chefs.

Q&A Session

Benoit Poirier: Yes. Thank you very much, and good morning, everyone. And Theresa, wish you all the best for your upcoming retirement. You will be missed for sure. Gord, you mentioned that you’re looking at both external and internal candidates. I was just curious, if there’s any criteria that you are looking for the CFO search. Any color about the timing for finding the new CFO?

Gord Johnston: Yes. Well the search is underway, Benoit. We’ve been working on it for a couple of months already. And so, we’re looking forward to — now that the information is out in public to really gearing up a little bit further on it. As we mentioned in the prepared remarks, Theresa isn’t going anywhere. So, while we want to be respectful of her wish to retire, we certainly are going to work through this in a planned and orderly fashion. And we hope it certainly will be in 2024 hoping in the next quarter or two.

Benoit Poirier: Okay. And looking at the AMP8 program in the UK, one of your US peers stated that although the funding cycle only officially starts in April 2025, it looks like that they are already seeing multiple UK water clients going out for procurement to be ready. Was just curious, are you seeing this as well?

Gord Johnston: Absolutely. We’ve already secured many, many awards for AMP8. And in fact, some of the planning awards that we’ve gotten, we’ve been awarded by clients to help them prepare for AMP8, so we’re actually already working on preparatory planning type work to get ready for. So as soon as that April 2025 hits, we’re ready to go. But as we mentioned in the prepared remarks, a couple of more with Northumbrian and others that we secured this year. So we’ve already got well over half approaching 60% or 70% of our anticipated wins that have already been issued procured and awarded.

Benoit Poirier: Okay, okay. That’s great color. And just in terms of free cash flow, it looks like that the US 174 R&D law remains in place. Could you provide a dollar amount and win for 2024? And what could be the implication in terms of a free cash flow conversion from net earnings?

Theresa Jang: Sure. So you know, this Section 174 has been in place for two years now. And so, we saw an impact in 2022 and ’23. And so, as we look year over year, we would expect the impact to be roughly the same. We think of roughly $30 million to $40 million of additional cash taxes as a result of that rule remaining in place. So again, year over year it won’t create an impact. And we’ll keep watching to see if that relief package comes is ultimately approved or not.

Benoit Poirier: Okay. And maybe last question for me. Obviously, very solid organic growth environment. I was just curious, if you could provide more color about the impact of pricing inflation these days on organic growth?

Gord Johnston: What we’ve seen over the past couple of years is that as we came into 2024, there still is salary pressures, but not to the same degree that we saw it in previous years. So there certainly is — and as you know in previous years, we’ve been successful in passing along the majority if not all of that salary increases to our clients. So, we see that there certainly is some inflation, some increase in our fees into the organic growth numbers that we’re putting out. But I’d say, it’s plus or minus half would be fee increases and plus or minus half is just additional organic growth.

Benoit Poirier: Okay. That’s great. Thank you very much and congrats again.

Gord Johnston: Thanks, Benoit.

Operator: Thank you. One moment for our next question. Our next question comes from Yuri Lynk with Canaccord Genuity. Your line is now open.

Yuri Lynk: Hey good morning. And Theresa — and I’d like to echo Benoit’s, congratulations to Theresa on your retirement.

Theresa Jang: Thank you.

Yuri Lynk: Yes, no problem. So just trying to — I don’t know who wants to take this one, just on the guidance trying to square some of the moving parts in there. So, you’re calling for mid to high-single-digit organic growth in the US, but the backlog there grew organically only 2%, but we kind of have the opposite story in global, where you have a very strong double-digit organic growth in backlog and you’re calling from mid-single-digits, revenue growth. So can you, maybe a little more detail, on how we get to those growth rates?

Theresa Jang: Yes. I think when it comes to trying to triangulate, how things move from backlog into revenue and what we’re seeing in our projections, I think you just have to keep in mind that, there’s always a couple of dynamics at play. One is that, when we report backlog, it is – it’s a point in time and it does require us to have everything buttoned up contractually, before that work goes into our backlog. But of course, our business leaders have a line of sight to work that is, near final or in negotiation and they look at the bidding activity. And those are the things that they factor into their organic growth projections. The other thing, that to keep in mind as well is that, there’s often work that comes through MSAs that really don’t come into backlog, until the past quarter’s a issues.

So, it shows up and then is worse through pretty quickly. So, that would be the primary reason Yuri, that you wouldn’t necessarily see a straight line from backlog growth, until organic growth projections.

Yuri Lynk: Okay. That makes a lot of sense. Theresa, while I’ve got you, just so I can check my math, where would you peg your pro forma debt to EBITDA ratio, at the end of the year?