filings.toolsItem 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
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Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
We are one of the largest electrical and mechanical construction and facilities services firms in the United States. In addition, we provide a number of building services and industrial services. Our services are provided to a broad range of commercial, industrial, utility and institutional customers through approximately 80 operating subsidiaries and joint venture entities. Our offices are located in the United States and the United Kingdom.
Operating Segments
Our reportable segments reflect certain reclassifications of prior year amounts from our United States mechanical construction and facilities services segment to our United States building services and our United States industrial services segments due to changes in our internal reporting structure.
We have the following reportable segments, which provide services associated with the design, integration, installation, start-up, operation and maintenance of various systems: (a) United States electrical construction and facilities services (involving systems for electrical power transmission and distribution; premises electrical and lighting systems; process instrumentation in the refining, chemical processing, food processing and mining industries; low-voltage systems, such as fire alarm, security and process control; voice and data communication; roadway and transit lighting; and fiber optic lines); (b) United States mechanical construction and facilities services (involving systems for heating, ventilation, air conditioning, refrigeration and clean-room process ventilation; fire protection; plumbing, process and high-purity piping; controls and filtration; water and wastewater treatment; central plant heating and cooling; cranes and rigging; millwrighting; and steel fabrication, erection and welding); (c) United States building services; (d) United States industrial services; and (e) United Kingdom building services. The “United States building services” and “United Kingdom building services” segments principally consist of those operations which provide a portfolio of services needed to support the operation and maintenance of customers’ facilities, including commercial and government site-based operations and maintenance; facility maintenance and services, including reception, security and catering services; outage services to utilities and industrial plants; military base operations support services; mobile mechanical maintenance and services; floor care and janitorial services; landscaping, lot sweeping and snow removal; facilities management; vendor management; call center services; installation and support for building systems; program development, management and maintenance for energy systems; technical consulting and diagnostic services; infrastructure and building projects for federal, state and local governmental agencies and bodies; and small modification and retrofit projects, which services are not generally related to customers’ construction programs. The “United States industrial services” segment principally consists of those operations which provide industrial maintenance and services for refineries, petrochemical plants, and other customers within the oil and gas industry. Services of this segment include refinery turnaround planning and engineering; specialty welding; overhaul and maintenance of critical process units; specialty technical services; on-site repairs, maintenance and service of heat exchangers, towers, vessels and piping; design, manufacturing, repair, and hydro blast cleaning of shell and tube heat exchangers and related equipment; and construction, maintenance, and other support services for customers within the upstream and midstream sectors.
2019 versus 2018
Overview
The following table presents selected financial data for the fiscal years ended December 31, 2019 and 2018 (in thousands, except percentages and per share data):
| 2019 | 2018 | ||||||
| Revenues | $ | 9,174,611 | $ | 8,130,631 | |||
| Revenues increase from prior year | 12.8 | % | 5.8 | % | |||
| Restructuring expenses | $ | 1,523 | $ | 2,306 | |||
| Impairment loss on identifiable intangible assets | $ | — | $ | 907 | |||
| Operating income | $ | 460,892 | $ | 403,083 | |||
| Operating income as a percentage of revenues | 5.0 | % | 5.0 | % | |||
| Income from continuing operations | $ | 325,140 | $ | 285,922 | |||
| Net income attributable to EMCOR Group, Inc. | $ | 325,140 | $ | 283,531 | |||
| Diluted earnings per common share from continuing operations | $ | 5.75 | $ | 4.89 |
The results of our operations for 2019 set new company records in terms of revenues, operating income, net income attributable to EMCOR Group, Inc., and diluted earnings per common share from continuing operations. Operating margin (operating income as a percentage of revenues) for 2019 remained consistent with our previously established annual record of 5.0%.
Revenues increased by 12.8% from $8.1 billion for the year ended December 31, 2018 to $9.2 billion for the year ended December 31, 2019. Operating income for 2019 of $460.9 million, or 5.0% of revenues, increased by $57.8 million compared to operating income of $403.1 million, or 5.0% of revenues, in 2018.
The strong operating results were due to revenue growth and an increase in operating income within all of our reportable segments, as well as operating margin expansion across all such segments, except for our United States mechanical construction and facilities services segment due to a change in revenue mix compared to the prior year.
Impact of Acquisitions
In order to provide a more meaningful period-over-period discussion of our operating results, we may discuss amounts generated or incurred (revenues, gross profit, selling, general and administrative expenses and operating income) from companies acquired. The amounts discussed reflect the acquired companies’ operating results in the current reported period only for the time period these entities were not owned by EMCOR in the comparable prior reported period.
During 2019, we completed the acquisition of Batchelor & Kimball, Inc. (“BKI”), a leading full service provider of mechanical construction and maintenance services. This acquisition strengthens our position and broadens our capabilities in the Southern and Southeastern regions of the United States, and the results of its operations have been included within our United States mechanical construction and facilities services segment. In addition to BKI, during 2019, we acquired: (a) a company which provides electrical contracting services in central Iowa, the results of operations of which have been included within our United States electrical construction and facilities services segment, (b) a company which provides mechanical contracting services in south-central and eastern Texas, the results of operations of which have been included within our United States mechanical construction and facilities services segment, and (c) four companies included within our United States building services segment, consisting of: (i) a company which provides mobile mechanical services in the Southern region of the United States and (ii) three companies, the results of operations of which were de minimis, which bolster our presence in geographies where we have existing operations and provide either mobile mechanical services or building automation and controls solutions.
We acquired four companies in 2018. Two companies provide mobile mechanical services, one within the Eastern region and the other within the Western region of the United States. The third company is a full service provider of mechanical services within the Southern region of the United States. The results of operations for these three companies have been included in our United States building services segment. The fourth company provides electrical construction and maintenance services for industrial and commercial buildings in North Texas, and its results have been included in our United States electrical construction and facilities services segment.
Companies acquired in 2019 and 2018 generated incremental revenues of $290.3 million and incremental operating income of $16.6 million, inclusive of $9.3 million of amortization expense associated with identifiable intangible assets, for the year ended December 31, 2019.
Discussion and Analysis of Results of Operations
Revenues
The following table presents our revenues for each of our operating segments and the approximate percentages that each segment’s revenues were of total revenues for the years ended December 31, 2019 and 2018 (in thousands, except for percentages):
| 2019 | % of Total | 2018 | % of Total | ||||||||||
| Revenues from unrelated entities: | |||||||||||||
| United States electrical construction and facilities services | $ | 2,216,600 | 24 | % | $ | 1,954,323 | 24 | % | |||||
| United States mechanical construction and facilities services | 3,340,337 | 36 | % | 2,962,843 | 37 | % | |||||||
| United States building services | 2,106,872 | 23 | % | 1,875,485 | 23 | % | |||||||
| United States industrial services | 1,087,543 | 12 | % | 923,109 | 11 | % | |||||||
| Total United States operations | 8,751,352 | 95 | % | 7,715,760 | 95 | % | |||||||
| United Kingdom building services | 423,259 | 5 | % | 414,871 | 5 | % | |||||||
| Total worldwide operations | $ | 9,174,611 | 100 | % | $ | 8,130,631 | 100 | % | |||||
As described in more detail below, revenues for the year ended December 31, 2019 increased to $9.2 billion compared to $8.1 billion for the year ended December 31, 2018, with all reportable segments experiencing revenue growth year over year. Companies acquired in 2019 and 2018, which are reported in our United States electrical construction and facilities services segment, our United States mechanical construction and facilities services segment and our United States building services segment, generated incremental revenues of $290.3 million in 2019.
Revenues of our United States electrical construction and facilities services segment were $2,216.6 million for the year ended December 31, 2019 compared to revenues of $1,954.3 million for the year ended December 31, 2018. The increase in revenues was attributable to: (a) an increase in revenues from the commercial market sector, primarily as a result of several large telecommunication construction projects, and (b) an increase in project activities within the manufacturing and institutional market sectors. In addition, the results for the year ended December 31, 2019 included $134.5 million of incremental revenues generated by companies acquired in 2019 and 2018. These increases were partially offset by a decrease in revenues due to the completion or substantial completion of certain large construction projects within the transportation, healthcare, and hospitality market sectors.
Our United States mechanical construction and facilities services segment revenues for the year ended December 31, 2019 were $3,340.3 million, a $377.5 million increase compared to revenues of $2,962.8 million for the year ended December 31, 2018. The increase in revenues was primarily attributable to an increase in revenues from the majority of the market sectors in which we operate, including: (a) the manufacturing market sector, due to several food processing construction projects, (b) the commercial market sector, primarily as a result of certain telecommunication and technology construction projects currently in process, and (c) the healthcare, water and wastewater, and institutional market sectors due to increased project activity. In addition, the results for the year ended December 31, 2019 included $49.1 million of incremental revenues generated by companies acquired in 2019. These increases were partially offset by decreased revenues within the hospitality market sector as a result of the completion of certain large projects.
Revenues of our United States building services segment were $2,106.9 million and $1,875.5 million for the years ended December 31, 2019 and 2018, respectively. The $231.4 million increase in this segment’s revenues was due to: (a) incremental revenues of $106.7 million generated by companies acquired in 2019 and 2018 within our mobile mechanical services operations, (b) greater project, controls, and service repair and maintenance activities within our mobile mechanical services operations, (c) an increase in revenues within our commercial site-based services operations, partially as a result of: (i) scope expansion on certain contracts with existing customers and (ii) new contract awards, and (d) increased large project activity within our energy services operations. These increases were partially offset by revenue declines within our government site-based services operations due to the loss of certain contracts not renewed pursuant to rebid, which resulted in a reduction in both base maintenance and indefinite-delivery, indefinite-quantity project revenues.
Revenues of our United States industrial services segment for the year ended December 31, 2019 were $1,087.5 million, a $164.4 million increase compared to revenues of $923.1 million for the year ended December 31, 2018. The increase in revenues was primarily due to increased maintenance and capital project activity within our field services operations. In addition, the results for the year ended December 31, 2019 benefited from a more normalized demand pattern for our turnaround services as compared to the prior year, which was negatively impacted by the lingering effects of Hurricane Harvey, which led to the cancellation or deferral of certain previously scheduled maintenance activities with our customers in the first half of 2018. The increased revenues for the
year ended December 31, 2019 were partially offset by a decrease in revenues from our shop services operations, primarily as a result of a reduction in new build heat exchanger sales.
Our United Kingdom building services segment revenues were $423.3 million in 2019 compared to $414.9 million in 2018. The increase in revenues within this segment was primarily the result of: (a) new contract awards within the commercial and institutional market sectors and (b) increased project activity with existing customers. Unfavorable exchange rates for the British pound versus the United States dollar negatively impacted this segment’s revenues for the year ended December 31, 2019 by $19.5 million.
Cost of sales and Gross profit
The following table presents cost of sales, gross profit (revenues less cost of sales), and gross profit margin (gross profit as a percentage of revenues) for the years ended December 31, 2019 and 2018 (in thousands, except for percentages):
| 2019 | 2018 | ||||||
| Cost of sales | $ | 7,818,743 | $ | 6,925,178 | |||
| Gross profit | $ | 1,355,868 | $ | 1,205,453 | |||
| Gross profit margin | 14.8 | % | 14.8 | % |
Our gross profit for the year ended December 31, 2019 was $1,355.9 million, a $150.4 million increase compared to gross profit of $1,205.5 million for the year ended December 31, 2018. Our gross profit margin was 14.8% for 2019 and 2018. The increase in consolidated gross profit was due to an increase in gross profit from all of our reportable segments, partially as a result of an increase in revenues within each segment during 2019. Additionally, gross profit within our United States electrical construction and facilities services segment, our United States mechanical construction and facilities services segment, and our United States building services segment was favorably impacted by incremental gross profit generated by companies acquired.
Selling, general and administrative expenses
The following table presents selling, general and administrative expenses and SG&A margin (selling, general and administrative expenses as a percentage of revenues) for the years ended December 31, 2019 and 2018 (in thousands, except for percentages):
| 2019 | 2018 | ||||||
| Selling, general and administrative expenses | $ | 893,453 | $ | 799,157 | |||
| Selling, general and administrative expenses as a percentage of revenues | 9.7 | % | 9.8 | % |
Our selling, general and administrative expenses for the year ended December 31, 2019 were $893.5 million, a $94.3 million increase compared to selling, general and administrative expenses of $799.2 million for the year ended December 31, 2018. Selling, general and administrative expenses as a percentage of revenues were 9.7% and 9.8% for 2019 and 2018, respectively. The increase in selling, general and administrative expenses for the year ended December 31, 2019 included $35.1 million of incremental expenses directly related to companies acquired in 2019 and 2018, including amortization expense attributable to identifiable intangible assets of $4.5 million. In addition to the impact of acquisitions, selling, general and administrative expenses increased due to: (a) an increase in salaries and related employee benefit costs, partially as a result of an increase in headcount to support our revenue growth, (b) an increase in incentive compensation expense, due to higher annual operating results than in the prior year, (c) an increase in information technology costs related to various initiatives currently in process, and (d) an increase in certain non-income based taxes. The decrease in SG&A margin for the year ended December 31, 2019 was primarily due to an increase in revenues without commensurate increases in our overhead cost structure.
Restructuring expenses
Restructuring expenses, primarily relating to employee severance obligations, were $1.5 million and $2.3 million for the years ended December 31, 2019 and 2018, respectively. As of December 31, 2019 and 2018, the balance of restructuring related obligations yet to be paid was $1.6 million. The obligations outstanding as of December 31, 2019 will be paid pursuant to our contractual obligations throughout 2020 and 2021. No material expenses in connection with restructuring from continuing operations are expected to be incurred during 2020.
Impairment loss on goodwill and identifiable intangible assets
No impairment of our identifiable intangible assets was recognized for the year ended December 31, 2019. During 2018, we recorded a $0.9 million non-cash impairment charge associated with a finite-lived subsidiary trade name within our United States industrial services segment. No impairment of our goodwill was recognized for the years ended December 31, 2019 and 2018.
Operating income (loss)
The following table presents by segment our operating income (loss) and each segment’s operating income (loss) as a percentage of such segment’s revenues from unrelated entities for the years ended December 31, 2019 and 2018 (in thousands, except for percentages):
| 2019 | % of Segment Revenues | 2018 | % of Segment Revenues | ||||||||||
| Operating income (loss): | |||||||||||||
| United States electrical construction and facilities services | $ | 161,684 | 7.3 | % | $ | 139,430 | 7.1 | % | |||||
| United States mechanical construction and facilities services | 225,040 | 6.7 | % | 219,853 | 7.4 | % | |||||||
| United States building services | 114,754 | 5.4 | % | 93,827 | 5.0 | % | |||||||
| United States industrial services | 44,340 | 4.1 | % | 27,671 | 3.0 | % | |||||||
| Total United States operations | 545,818 | 6.2 | % | 480,781 | 6.2 | % | |||||||
| United Kingdom building services | 18,323 | 4.3 | % | 15,930 | 3.8 | % | |||||||
| Corporate administration | (101,726 | ) | — | (90,415 | ) | — | |||||||
| Restructuring expenses | (1,523 | ) | — | (2,306 | ) | — | |||||||
| Impairment loss on identifiable intangible assets | — | — | (907 | ) | — | ||||||||
| Total worldwide operations | 460,892 | 5.0 | % | 403,083 | 5.0 | % | |||||||
| Other corporate items: | |||||||||||||
| Net periodic pension (cost) income | 1,553 | 2,743 | |||||||||||
| Interest expense | (13,821 | ) | (13,544 | ) | |||||||||
| Interest income | 2,265 | 2,746 | |||||||||||
| Income from continuing operations before income taxes | $ | 450,889 | $ | 395,028 |
As described in more detail below, we had operating income of $460.9 million for the year ended December 31, 2019 compared to operating income of $403.1 million for the year ended December 31, 2018. Operating margin was 5.0% for both periods. Operating income and operating margin increased within all of our reportable segments except, in the case of operating margin, our United States mechanical construction and facilities services segment, which experienced a 0.7% decline in operating margin as a result of a change in revenue mix compared to the prior year.
Operating income of our United States electrical construction and facilities services segment for the year ended December 31, 2019 was $161.7 million, or 7.3% of revenues, compared to operating income of $139.4 million, or 7.1% of revenues, for the year ended December 31, 2018. The $22.3 million increase in operating income for the year ended December 31, 2019 was primarily attributable to an increase in gross profit within the commercial market sector, inclusive of certain telecommunication construction projects, partially offset by a decrease in gross profit within the transportation market sector as a result of the completion or substantial completion of certain multi-year construction projects. Additionally, companies acquired in 2019 and 2018 contributed incremental operating income of $6.1 million, inclusive of $1.7 million of amortization expense associated with identifiable intangible assets. The increase in operating margin for the year ended December 31, 2019 was attributable to an increase in gross profit margin, partially as a result of improved project execution.
Our United States mechanical construction and facilities services segment’s operating income for the year ended December 31, 2019 was $225.0 million, a $5.2 million increase compared to operating income of $219.9 million for the year ended December 31, 2018. Companies acquired in 2019 contributed incremental operating income of $0.1 million, inclusive of $2.8 million of amortization expense associated with identifiable intangible assets. The increase in operating income for the year ended December 31, 2019 was primarily attributable to an increase in gross profit from activities within the commercial and institutional market sectors, partially offset by a decrease in gross profit from construction projects within the manufacturing and hospitality market sectors. Operating margins within this segment for the years ended December 31, 2019 and 2018 were 6.7% and 7.4%, respectively. The decrease in operating margin year over year was attributable to a decrease in gross profit margin, primarily within the manufacturing market sector as a result of a change in the mix of work in the current year, including several large food processing projects, that have not yet achieved key milestones and are therefore being recognized at lower gross profit margins. This segment’s operating margin for the prior year was favorably impacted by the successful close-out of certain large manufacturing and hospitality construction projects.
Operating income of our United States building services segment was $114.8 million, or 5.4% of revenues, and $93.8 million, or 5.0% of revenues, in 2019 and 2018, respectively. The increase in operating income for the year ended December 31, 2019 was primarily attributable to our mobile mechanical services operations, as a result of increased gross profit from project, controls, and service repair and maintenance activities. In addition, operating income benefited from increased gross profit within our commercial site-based services operations, as a result of scope expansion on certain existing contracts, and our energy services operations, due to an increase in large project activity. Companies acquired in 2019 and 2018 contributed incremental operating income of $10.4 million, inclusive of $4.8 million of amortization expense associated with identifiable intangible assets. These increases were partially offset by a reduction in operating income from our government site-based services operations as a result of a decrease in gross profit due to the loss of certain contracts within their portfolio, which were not renewed pursuant to rebid. The increase in operating margin of this segment for the year ended December 31, 2019 was attributable to an increase in gross profit margin, primarily from building automation and controls and repair project activities within our mobile mechanical services operations.
Our United States industrial services segment operating income for the year ended December 31, 2019 was $44.3 million, a $16.7 million increase compared to operating income of $27.7 million for the year ended December 31, 2018. Operating margin of this segment was 4.1% and 3.0% for 2019 and 2018, respectively. The increase in operating income for the year ended December 31, 2019 was primarily due to an increase in demand for our service offerings during the year as we experienced a more normalized demand pattern within our field services operations as compared to the prior year. The increase in operating margin for the year ended December 31, 2019 was primarily attributable to a decrease in the ratio of selling, general and administrative expenses to revenues, partially as a result of an increase in revenues without commensurate increases in this segment’s overhead cost structure.
Our United Kingdom building services segment operating income for the year ended December 31, 2019 was $18.3 million, or 4.3% of revenues, compared to operating income of $15.9 million, or 3.8% of revenues, for the year ended December 31, 2018. Operating income increased primarily as a result of increased gross profit within the commercial market sector due to: (a) an increase in project activity with existing customers and (b) new contract awards. This segment’s operating income was negatively impacted by $0.9 million for the year ended December 31, 2019 related to the effect of unfavorable exchange rates for the British pound versus the United States dollar. The increase in operating margin for the year ended December 31, 2019 was attributable to an increase in gross profit margin, partially as a result of a favorable project mix during the year.
Our corporate administration operating loss was $101.7 million for 2019 compared to $90.4 million in 2018. The increase in corporate administration expenses for the year ended December 31, 2019 was primarily due to: (a) an increase in employment costs, such as incentive compensation and salaries, (b) an increase in professional fees as a result of various information technology initiatives currently in process, and (c) an increase in certain non-income based taxes.
Non-operating items
Interest expense was $13.8 million and $13.5 million for 2019 and 2018, respectively. Interest income was $2.3 million and $2.7 million for 2019 and 2018, respectively. The increase in interest expense for 2019 was due to higher average interest rates, partially offset by the impact of reduced average outstanding borrowings. The decrease in interest income was a result of lower average daily cash balances during the first half of 2019.
For joint ventures that have been accounted for using the consolidation method of accounting, noncontrolling interests represent the allocation of earnings to our joint venture partners who either have a minority-ownership interest in the joint venture or are not at risk for the majority of losses of the joint venture.
Our 2019 income tax provision from continuing operations was $125.7 million compared to $109.1 million for 2018. The actual income tax rate on income from continuing operations before income taxes, less amounts attributable to noncontrolling interests, was 27.9% and 27.6% for 2019 and 2018, respectively. The increase in the 2019 income tax provision was primarily driven by increased income from continuing operations before income taxes. The increase in the income tax rate was primarily due to: (a) an increase in our state deferred tax rate, partially as a result of a change in the mix of income, and (b) the continued application of the Tax Cuts and Jobs Act (the “Tax Act”), including the application of guidance regarding certain permanent differences and other nondeductible expenses.
Discontinued operations
During the third quarter of 2014, we ceased construction operations in the United Kingdom. The results of the construction operations of our United Kingdom segment for all periods are presented in the Consolidated Financial Statements as discontinued operations.
Remaining Unsatisfied Performance Obligations
The following table presents the transaction price allocated to remaining unsatisfied performance obligations (“remaining performance obligations”) in accordance with Accounting Standards Codification Topic 606, “Revenue from Contracts with Customers” (“ASC 606”) for each of our reportable segments and their respective percentage of total remaining performance obligations (in thousands, except for percentages):
| December 31, 2019 | % of Total | December 31, 2018 | % of Total | ||||||||||
| Remaining performance obligations: | |||||||||||||
| United States electrical construction and facilities services | $ | 1,036,216 | 26 | % | $ | 1,085,571 | 28 | % | |||||
| United States mechanical construction and facilities services | 2,229,090 | 55 | % | 2,226,183 | 56 | % | |||||||
| United States building services | 542,269 | 13 | % | 435,074 | 11 | % | |||||||
| United States industrial services | 104,613 | 3 | % | 86,930 | 2 | % | |||||||
| Total United States operations | 3,912,188 | 97 | % | 3,833,758 | 97 | % | |||||||
| United Kingdom building services | 124,176 | 3 | % | 130,524 | 3 | % | |||||||
| Total worldwide operations | $ | 4,036,364 | 100 | % | $ | 3,964,282 | 100 | % |
Remaining performance obligations increase with awards of new contracts and decrease as we perform work and recognize revenue on existing contracts. We include a project within our remaining performance obligations at such time as the project is awarded and agreement on contract terms has been reached. Our remaining performance obligations include amounts related to contracts for which a fixed price contract value is not assigned when a reasonable estimate of total transaction price can be made.
Remaining performance obligations include unrecognized revenues to be realized from uncompleted construction contracts. Although many of our construction contracts are subject to cancellation at the election of our customers, in accordance with industry practice, we do not limit the amount of unrecognized revenue included within remaining performance obligations for these contracts due to the inherent substantial economic penalty that would be incurred by our customers upon cancellation. We believe our reported remaining performance obligations for our construction contracts are firm and contract cancellations have not had a material adverse effect on us.
Remaining performance obligations also include unrecognized revenues expected to be realized over the remaining term of service contracts. However, to the extent a service contract includes a cancellation clause which allows for the termination of such contract by either party without a substantive penalty, the remaining contract term, and therefore, the amount of unrecognized revenues included within remaining performance obligations, is limited to the notice period required for the termination.
Our remaining performance obligations are comprised of: (a) original contract amounts, (b) change orders for which we have received written confirmations from our customers, (c) pending change orders for which we expect to receive confirmations in the ordinary course of business, (d) claim amounts that we have made against customers for which we have determined we have a legal basis under existing contractual arrangements and as to which the variable consideration constraint does not apply, and (e) other forms of variable consideration to the extent that such variable consideration has been included within the transaction price of our contracts. Such claim and other variable consideration amounts were immaterial for all periods presented.
Our remaining performance obligations at December 31, 2019 were $4.04 billion compared to $3.96 billion at December 31, 2018. The increase in remaining performance obligations at December 31, 2019 was attributable to a increase in remaining performance obligations within all of our domestic segments, except for our United States electrical construction and facilities services segment.
Computer System Attack
On February 15, 2020, we became aware of an infiltration and encryption of portions of our information technology network. This attack disrupted our operations that utilize the impacted portions of the network. We continue to assess the magnitude of the consequences and we are actively seeking to mitigate the effects. As of the date of this filing, we continue our efforts to restore the portions of such systems that remain impacted. We are unable to predict when the entire network will be functional. We are additionally unable to estimate precisely the total costs which will result from the attack and the remediation efforts. We maintain insurance coverage for these types of incidents, however, such policies may not completely provide coverage for, or offset the costs of, this infiltration.
2018 versus 2017
Overview
The following table presents selected financial data for the fiscal years ended December 31, 2018 and 2017 (in thousands, except percentages and per share data):
| 2018 | 2017 | ||||||
| Revenues | $ | 8,130,631 | $ | 7,686,999 | |||
| Revenues increase from prior year | 5.8 | % | 1.8 | % | |||
| Restructuring expenses | $ | 2,306 | $ | 1,577 | |||
| Impairment loss on goodwill and identifiable intangible assets | $ | 907 | $ | 57,819 | |||
| Operating income | $ | 403,083 | $ | 328,902 | |||
| Operating income as a percentage of revenues | 5.0 | % | 4.3 | % | |||
| Income from continuing operations | $ | 285,922 | $ | 228,050 | |||
| Net income attributable to EMCOR Group, Inc. | $ | 283,531 | $ | 227,196 | |||
| Diluted earnings per common share from continuing operations | $ | 4.89 | $ | 3.83 |
Revenue for the year ended December 31, 2018 increased by approximately 5.8% compared to revenue for the year ended December 31, 2017 as a result of revenue growth within all of our reportable segments.
Operating income increased to $403.1 million, or 5.0% of revenues, in 2018 from $328.9 million, or 4.3% of revenues in 2017. Operating income increased within all of our reportable segments, except for our United States electrical construction and facilities services segment and our United States industrial services segment. Operating margin increased within our United States mechanical construction and facilities services segment and our United States building services segment, while operating margin declined within our United States electrical construction and facilities services segment and our United States industrial services segment. Operating margin remained flat within our United Kingdom building services segment. The decrease in operating income and operating margin within our United States electrical construction and facilities services segment was attributable to $10.0 million of losses incurred in 2018 on a transportation construction project in the Western region of the United States, which negatively impacted operating margin of this segment by 0.6% and our consolidated operating margin by 0.1%. Operating income and operating margin within our United States industrial services segment declined as the results for the year ended December 31, 2017 benefited from $18.1 million of gross profit related to the recovery of certain contract costs previously disputed on a project completed in 2016, which favorably impacted operating margin of this segment by 2.1%, and consolidated operating margin by 0.2%, in 2017.
Operating income for 2017 included $57.8 million of non-cash impairment charges, which resulted in a 0.8% negative impact on the Company’s operating margin.
The increase in net income attributable to EMCOR Group, Inc. and diluted earnings per common share from continuing operations in 2018 was due to an increase in operating income and the reduction in the U.S federal corporate tax rate due to the enactment of the Tax Act. Our diluted earnings per common share from continuing operations for 2018 additionally benefited from a decrease in the weighted average number of shares outstanding as a result of the continued repurchase of our common stock.
Impact of Acquisitions
We acquired four companies in 2018. Two companies provide mobile mechanical services, one within the Eastern region and the other within the Western region of the United States. The third company is a full service provider of mechanical services within the Southern region of the United States. The results of these three companies have been included in our United States building services segment. The fourth company provides electrical construction and maintenance services for industrial and commercial buildings in North Texas, and its results have been included in our United States electrical construction and facilities services segment.
We acquired three companies during 2017. One company provides fire protection and alarm services primarily in the Southern region of the United States. The second company provides millwright services for manufacturing companies throughout the United States. Both of their results have been included in our United States mechanical construction and facilities services segment. The third company provides mobile mechanical services within the Western region of the United States, and its results have been included in our United States building services segment.
Companies acquired in 2018 and 2017 generated incremental revenues of $90.1 million and incremental operating income of $5.8 million, inclusive of $2.9 million of amortization expense associated with identifiable intangible assets, for the year ended December 31, 2018.
Discussion and Analysis of Results of Operations
Revenues
The following table presents our revenues for each of our operating segments and the approximate percentages that each segment’s revenues were of total revenues for the years ended December 31, 2018 and 2017 (in thousands, except for percentages):
| 2018 | % of Total | 2017 | % of Total | ||||||||||
| Revenues from unrelated entities: | |||||||||||||
| United States electrical construction and facilities services | $ | 1,954,323 | 24 | % | $ | 1,829,567 | 24 | % | |||||
| United States mechanical construction and facilities services | 2,962,843 | 37 | % | 2,880,148 | 37 | % | |||||||
| United States building services | 1,875,485 | 23 | % | 1,753,703 | 23 | % | |||||||
| United States industrial services | 923,109 | 11 | % | 882,836 | 12 | % | |||||||
| Total United States operations | 7,715,760 | 95 | % | 7,346,254 | 96 | % | |||||||
| United Kingdom building services | 414,871 | 5 | % | 340,745 | 4 | % | |||||||
| Total worldwide operations | $ | 8,130,631 | 100 | % | $ | 7,686,999 | 100 | % | |||||
As described in more detail below, revenues for 2018 were $8.1 billion compared to $7.7 billion for 2017. The increase in revenues was attributable to increased revenues from all of our reportable segments. Companies acquired in 2018 and 2017, which are reported in our United States electrical construction and facilities services segment, our United States mechanical construction and facilities services segment, and our United States building services segment, generated incremental revenues of $90.1 million in 2018.
Revenues of our United States electrical construction and facilities services segment were $1,954.3 million for the year ended December 31, 2018 compared to revenues of $1,829.6 million for the year ended December 31, 2017. The increase in revenues was attributable to an increase in activity within all of the market sectors in which we operate, except for the transportation market sector, as we approached substantial completion on several large multi-year transportation construction projects in 2018. In addition, the results for the year ended December 31, 2018 included $20.2 million of incremental revenues generated by a company acquired in 2018.
Our United States mechanical construction and facilities services segment revenues for the year ended December 31, 2018 were $2,962.8 million, an $82.7 million increase compared to revenues of $2,880.1 million for the year ended December 31, 2017. The increase in revenues was primarily attributable to an increase in revenues from commercial and institutional construction projects, partially offset by a decrease in revenues from large projects within the manufacturing market sector. In addition, the results for the year ended December 31, 2018 included $35.3 million of incremental revenues generated by a company acquired in 2017.
Revenues of our United States building services segment were $1,875.5 million and $1,753.7 million in 2018 and 2017, respectively. The increase in revenues was due to: (a) greater project and repair service activities within our mobile mechanical services operations, (b) large project activity within our energy services operations, (c) increased revenues from government site-based operations, partially as a result of additional indefinite-delivery, indefinite-quantity project activity, and (d) an increase in snow removal activity within our commercial site-based services operations. In addition, the results for the year ended December 31, 2018 included $34.6 million of incremental revenues generated by companies acquired in 2018 and 2017. These increases were partially offset by a decrease in revenues due to the loss of certain contracts not renewed pursuant to rebid within our commercial site-based services operations.
Revenues of our United States industrial services segment for the year ended December 31, 2018 increased by $40.3 million compared to the year ended December 31, 2017. The increase in revenues was due to an increase in revenues from both our field and shop services operations. The increase in revenues from our field services operations was due to an increase in turnaround project activity during the second half of 2018 as this division began to recover from the negative impact of Hurricane Harvey, which resulted in the cancellation of previously scheduled turnarounds during 2017 and early 2018. The increase in revenues from our shop services operations was due to increases in demand for new build heat exchangers, as well as our cleaning, repair and maintenance services.
Our United Kingdom building services segment revenues were $414.9 million in 2018 compared to $340.7 million in 2017. The increase in revenues was the result of increased project activity with existing customers and new contract awards within the commercial, institutional and water and wastewater market sectors. This segment’s revenues were positively impacted by $15.2 million related to the effect of favorable exchange rates for the British pound versus the United States dollar.
Cost of sales and Gross profit
The following table presents cost of sales, gross profit, and gross profit margin for the years ended December 31, 2018 and 2017 (in thousands, except for percentages):
| 2018 | 2017 | ||||||
| Cost of sales | $ | 6,925,178 | $ | 6,539,987 | |||
| Gross profit | $ | 1,205,453 | $ | 1,147,012 | |||
| Gross profit margin | 14.8 | % | 14.9 | % |
Our gross profit for the year ended December 31, 2018 was $1,205.5 million, a $58.4 million increase compared to gross profit of $1,147.0 million for the year ended December 31, 2017. Our gross profit margin was 14.8% and 14.9% for 2018 and 2017, respectively. The increase in gross profit was attributable to improved operating performance within all of our reportable segments, except for the United States electrical construction and facilities services segment. Gross profit and gross profit margin for the year ended December 31, 2017 were favorably impacted by the recovery of certain contract costs previously disputed on a project that was completed in 2016 within our United States industrial services segment, resulting in $18.1 million of gross profit and a 0.2% favorable impact on the Company’s 2017 gross profit margin.
Selling, general and administrative expenses
The following table presents selling, general and administrative expenses and SG&A margin, for the years ended December 31, 2018 and 2017 (in thousands, except for percentages):
| 2018 | 2017 | ||||||
| Selling, general and administrative expenses | $ | 799,157 | $ | 758,714 | |||
| Selling, general and administrative expenses as a percentage of revenues | 9.8 | % | 9.9 | % |
Our selling, general and administrative expenses for the year ended December 31, 2018 were $799.2 million, a $40.4 million increase compared to selling, general and administrative expenses of $758.7 million for the year ended December 31, 2017. Selling, general and administrative expenses as a percentage of revenues were 9.8% and 9.9% for 2018 and 2017, respectively. The increase in selling, general and administrative expenses for the year ended December 31, 2018 included $12.5 million of incremental expenses directly related to companies acquired in 2018 and 2017, including amortization expense attributable to identifiable intangible assets of $1.3 million. In addition to the impact of acquisitions, selling, general and administrative expenses increased due to: (a) an increase in salaries, partially as a result of an increase in headcount due to higher revenues than in the prior year, (b) an increase in incentive compensation expense, due to higher annual operating results than in the prior year, and (c) increases in other selling, general and administrative expenses, such as information technology, consulting and other professional fees. The decrease in SG&A margin for the year ended December 31, 2018 was partially due to a reduction in the provision for doubtful accounts, primarily within our United States electrical construction and facilities services segment and our United States building services segment, as well as an increase in revenues without commensurate increases in our overhead cost structure.
Restructuring expenses
Restructuring expenses, primarily relating to severance obligations, were $2.3 million and $1.6 million for the years ended December 31, 2018 and 2017, respectively. As of December 31, 2018 and 2017, the balance of restructuring related obligations yet to be paid was $1.6 million and $0.5 million, respectively. The majority of such obligations outstanding as of December 31, 2018 and 2017 were paid during 2019 and 2018, respectively, and the remainder will be paid pursuant to our contractual obligations throughout 2020 and 2021.
Impairment loss on goodwill and identifiable intangible assets
During the second quarter of 2018 and prior to our 2018 annual impairment test on October 1, we recorded a $0.9 million non-cash impairment charge associated with a finite-lived subsidiary trade name within our United States industrial services segment. No additional impairment of our identifiable intangible assets was recognized for the year ended December 31, 2018. Additionally, no impairment of our goodwill was recognized for the year ended December 31, 2018.
In conjunction with our 2017 annual impairment test, we recognized $57.8 million of non-cash impairment charges. Of this amount, $57.5 million related to goodwill within our United States industrial services segment and $0.3 million related to a subsidiary trade name within our United States building services segment. The goodwill impairment primarily resulted from both lower forecasted revenues and operating margins from our United States industrial services segment, which had been adversely affected by poor market conditions, predominately within its shop services operations due to: (a) a prolonged curtailment in capital spending from customers, (b) increased foreign competition and (c) economic uncertainty within certain South American markets which caused us to limit our pursuit of opportunities within such countries.
Operating income (loss)
The following table presents by segment our operating income (loss) and each segment’s operating income (loss) as a percentage of such segment’s revenues from unrelated entities for the years ended December 31, 2018 and 2017 (in thousands, except for percentages):
| 2018 | % of Segment Revenues | 2017 | % of Segment Revenues | ||||||||||
| Operating income (loss): | |||||||||||||
| United States electrical construction and facilities services | $ | 139,430 | 7.1 | % | $ | 150,001 | 8.2 | % | |||||
| United States mechanical construction and facilities services | 219,853 | 7.4 | % | 192,167 | 6.7 | % | |||||||
| United States building services | 93,827 | 5.0 | % | 81,720 | 4.7 | % | |||||||
| United States industrial services | 27,671 | 3.0 | % | 39,313 | 4.5 | % | |||||||
| Total United States operations | 480,781 | 6.2 | % | 463,201 | 6.3 | % | |||||||
| United Kingdom building services | 15,930 | 3.8 | % | 12,905 | 3.8 | % | |||||||
| Corporate administration | (90,415 | ) | — | (87,808 | ) | — | |||||||
| Restructuring expenses | (2,306 | ) | — | (1,577 | ) | — | |||||||
| Impairment loss on goodwill and identifiable intangible assets | (907 | ) | — | (57,819 | ) | — | |||||||
| Total worldwide operations | 403,083 | 5.0 | % | 328,902 | 4.3 | % | |||||||
| Other corporate items: | |||||||||||||
| Net periodic pension (cost) income | 2,743 | 1,652 | |||||||||||
| Interest expense | (13,544 | ) | (12,770 | ) | |||||||||
| Interest income | 2,746 | 965 | |||||||||||
| Income from continuing operations before income taxes | $ | 395,028 | $ | 318,749 |
As described in more detail below, we had operating income of $403.1 million for 2018 compared to operating income of $328.9 million for 2017. Operating margin was 5.0% and 4.3% for 2018 and 2017, respectively. Operating income increased within all of our reportable segments, except for our United States electrical construction and facilities services segment and our United States industrial services segment. Operating margin increased within our United States mechanical construction and facilities services segment and our United States building services segment, while operating margin declined within our United States electrical construction and facilities services segment and our United States industrial services segment. Operating margin remained flat within our United Kingdom building services segment.
The Company’s operating income and operating margin for the year ended December 31, 2017 included $57.8 million of non-cash impairment charges, which resulted in a 0.8% negative impact on the Company’s operating margin. Operating income and operating margin for the year ended December 31, 2017 benefited from the recovery of certain contract costs previously disputed on a project completed in 2016 within our United States industrial services segment, which resulted in a 0.2% favorable impact on the Company’s operating margin.
Operating income of our United States electrical construction and facilities services segment for the year ended December 31, 2018 was $139.4 million, or 7.1% of revenues, compared to operating income of $150.0 million, or 8.2% of revenues, for the year ended December 31, 2017. The decrease in operating income was attributable to a decrease in gross profit from institutional and healthcare construction projects, partially offset by an increase in gross profit from manufacturing, hospitality and commercial construction projects. In addition, otherwise strong performance by this segment within the transportation market sector in 2018 was negatively impacted by $10.0 million of losses incurred on a construction project in the Western region of the United States, resulting in part from contract scope issues. The decrease in operating margin year over year was primarily due to the loss discussed above, which negatively impacted this segment’s operating margin by 0.6% for the year ended December 31, 2018.
Our United States mechanical construction and facilities services segment operating income for the year ended December 31, 2018 was $219.9 million, a $27.7 million increase compared to operating income of $192.2 million for the year ended December 31, 2017. The increase in operating income for the year ended December 31, 2018 was attributable to an increase in gross profit from commercial, manufacturing, and hospitality construction projects, partially offset by a decrease in gross profit from institutional construction projects. A company acquired in 2017 contributed incremental operating income of $3.6 million, inclusive of $0.8 million of amortization expense associated with identifiable intangible assets. Operating margin was 7.4% and 6.7% in 2018 and 2017, respectively. The increase in operating margin for the year ended December 31, 2018 was attributable to an increase
in gross profit margin, partially as a result of the successful close-out of certain large hospitality and food processing construction projects.
Operating income of our United States building services segment was $93.8 million, or 5.0% of revenues, and $81.7 million, or 4.7% of revenues, in 2018 and 2017, respectively. The increase in operating income for the year ended December 31, 2018 was due to increases in operating income from: (a) our energy services operations, due to large project activity, (b) our government site-based services operations, partially as a result of an increase in indefinite-delivery, indefinite-quantity project activity, (c) our mobile mechanical services operations, as a result of increases in gross profit from project, service and control activities, and (d) our commercial site-based operations, partially as a result of (i) scope expansion on existing contracts and (ii) an increase in snow removal activities from contracts that are based on a per snow event basis. Additionally, companies acquired in 2018 and 2017 within our mobile mechanical services division, contributed incremental operating income of $2.4 million, inclusive of $1.7 million of amortization expense associated with identifiable intangible assets, for the year ended December 31, 2018. The increase in operating margin for the year ended December 31, 2018 was attributable to an increase in gross profit margin and a decrease in the ratio of selling, general and administrative expenses to revenues.
Operating income of our United States industrial services segment of $27.7 million for the year ended December 31, 2018 decreased by $11.6 million compared to operating income of $39.3 million for the year ended December 31, 2017 as the results for 2017 benefited from the recognition of $18.1 million of gross profit associated with the recovery of certain contract costs which were previously disputed on a project completed in 2016. Such decrease was partially offset by increased demand and improved operating performance within both our shop and field services operations, partially as a result of greater turnaround project activity during the second half of 2018 as this division began to recover from the negative impact of Hurricane Harvey, which resulted in the cancellation of previously scheduled turnarounds during 2017 and early 2018. Operating margin for the year ended December 31, 2018 was 3.0% compared to operating margin of 4.5% for the year ended December 31, 2017. The decrease in operating margin was primarily attributable to the resolution of the aforementioned project dispute, which favorably impacted this segment’s operating margin by 2.1% in 2017. Excluding the impact of this recovery, operating margin for the year ended December 31, 2018, improved year over year, primarily as a result of a decrease in the ratio of selling, general and administrative expenses to revenues.
Our United Kingdom building services segment operating income for the year ended December 31, 2018 was $15.9 million compared to operating income of $12.9 million for the year ended December 31, 2017. Operating income increased primarily due to an increase in gross profit from project activity with existing customers. In addition, the results for the year ended December 31, 2018 benefited from an increase in gross profit from new contract awards within the commercial, institutional and water and wastewater market sectors. This segment’s results included an increase in operating income of $0.6 million relating to the effect of favorable exchange rates for the British pound versus the United States dollar.
Our corporate administration operating loss was $90.4 million for 2018 compared to $87.8 million in 2017. The increase in corporate administration expenses for the year ended December 31, 2018 was due to an increase in consulting and other professional fees, primarily related to certain information technology and cybersecurity initiatives currently in process.
Non-operating items
Interest expense was $13.5 million and $12.8 million for 2018 and 2017, respectively. Interest income was $2.7 million and $1.0 million for 2018 and 2017, respectively. The increase in interest expense and interest income resulted from higher interest rates. The increase in interest expense was partially offset by the impact of reduced average outstanding borrowings.
Our 2018 income tax provision from continuing operations was $109.1 million compared to $90.7 million for 2017. The actual income tax rates on income from continuing operations before income taxes, less amounts attributable to noncontrolling interests, for the years ended December 31, 2018 and 2017, were 27.6% and 28.5%, respectively. The increase in the 2018 income tax provision was primarily due to increased income before income taxes. The decrease in the 2018 actual income tax rate was due to the net impact of the Tax Act, including the reduction of the U.S. federal corporate tax rate from 35% in 2017 to 21% in 2018, offset by the benefit associated with the re-measurement of our net deferred tax liability balance in 2017.
Liquidity and Capital Resources
The following section discusses our principal liquidity and capital resources, as well as our primary liquidity requirements and sources and uses of cash. Our cash and cash equivalents are maintained in highly liquid investments with original maturity dates of three months or less.
Our short-term liquidity requirements primarily arise from: (a) business acquisitions and joint venture investments, (b) working capital requirements, (c) cash dividend payments, (d) interest and principal payments related to our outstanding indebtedness, and (e) payment of income taxes. We can expect to meet those requirements through our cash and cash equivalent balances, cash generated from our operations, and the borrowing capacity available under our revolving credit facility. However, negative
macroeconomic trends may have an adverse effect on liquidity. During economic downturns, there have typically been fewer small discretionary projects from the private sector and our competitors have aggressively bid larger long-term infrastructure and public sector contracts. Short-term liquidity is also impacted by: (a) the type and length of construction contracts in place as performance of long duration contracts typically requires greater amounts of working capital, (b) the level of turnaround activities within our United States industrial services segment as such projects are billed in arrears pursuant to contractual terms that are standard within the industry, and (c) the billing terms of our maintenance contracts, including those within our United States building services segment. While we strive to negotiate favorable billing terms which allow us to invoice in advance of costs incurred on certain of our contracts, there can be no assurance that such terms will be agreed to by our customers.
Long-term liquidity requirements can be expected to be met initially through cash generated from operating activities and the borrowing capacity available under our revolving credit facility. Based upon our current credit ratings and financial position, we can also reasonably expect to be able to secure long-term debt financing when required to achieve our strategic objectives. Over the long term, our primary revenue risk factor continues to be the level of demand for non-residential construction and building and industrial services, which are influenced by macroeconomic trends including interest rates and governmental economic policy. In addition, our ability to perform work is critical to meeting our long-term liquidity requirements.
We believe that our current cash and cash equivalents and the borrowing capacity available under our revolving credit facility or other forms of financing available to us through borrowings, combined with cash expected to be generated from our operations, will be sufficient to provide short-term and foreseeable long-term liquidity and meet our expected capital expenditure requirements.
Cash Flows
The following table presents our net cash provided by (used in) operating activities, investing activities, and financing activities for the years ended December 31, 2019, 2018, and 2017 (in thousands):
| 2019 | 2018 | 2017 | |||||||||
| Net cash provided by operating activities | $ | 355,700 | $ | 271,011 | $ | 366,049 | |||||
| Net cash used in investing activities | $ | (345,339 | ) | $ | (117,722 | ) | $ | (138,093 | ) | ||
| Net cash used in financing activities | $ | (19,247 | ) | $ | (253,042 | ) | $ | (228,470 | ) | ||
| Effect of exchange rate changes on cash, cash equivalents and restricted cash | $ | 2,592 | $ | (3,421 | ) | $ | 3,242 |
Our consolidated cash balance, including cash equivalents and restricted cash, decreased by approximately $6.3 million from $366.2 million at December 31, 2018 to $359.9 million at December 31, 2019. Net cash provided by operating activities for 2019 was $355.7 million compared to $271.0 million of net cash provided by operating activities for 2018. The increase in cash provided by operating activities was primarily due to: (a) a $41.6 million increase in net income and (b) the timing of cash receipts from our customers, including payments of advanced billings on our long-term construction contracts. Net cash used in investing activities was $345.3 million for 2019 compared to net cash used in investing activities of $117.7 million for 2018. The increase in net cash used in investing activities was primarily due to an increase in payments for the acquisition of businesses. Net cash used in financing activities for 2019 decreased by approximately $233.8 million compared to 2018 primarily as a result of a $216.2 million decrease in funds used for the repurchase of our common stock and $25.0 million in net borrowings made under our revolving credit facility during the 2019 period.
Our consolidated cash balance, including cash equivalents and restricted cash, decreased by approximately $103.2 million from $469.4 million at December 31, 2017 to $366.2 million at December 31, 2018. Net cash provided by operating activities for 2018 was $271.0 million compared to $366.0 million of net cash provided by operating activities for 2017. The reduction in cash flows from operating activities was primarily due to organic revenue growth, which resulted in increased working capital levels. Net cash used in investing activities was $117.7 million for 2018 compared to net cash used in investing activities of $138.1 million for 2017. The decrease in net cash used in investing activities was primarily due to a reduction in payments for acquisitions of businesses. Net cash used in financing activities for 2018 increased by approximately $24.6 million compared to 2017 primarily due to an increase in funds used for the repurchase of common stock, partially offset by reduced debt repayments compared to the prior year.
Debt
We have a credit agreement dated as of August 3, 2016, which provides for a $900.0 million revolving credit facility (the “2016 Revolving Credit Facility”) and a $400.0 million term loan (the “2016 Term Loan”) (collectively referred to as the “2016 Credit Agreement”) expiring August 3, 2021. We may increase the 2016 Revolving Credit Facility to $1.3 billion if additional lenders are identified and/or existing lenders are willing to increase their current commitments. We may allocate up to $300.0 million of available capacity under the 2016 Revolving Credit Facility to letters of credit for our account or for the account of any of our subsidiaries. Obligations under the 2016 Credit Agreement are guaranteed by most of our direct and indirect subsidiaries and are
secured by substantially all of our assets. The 2016 Credit Agreement contains various covenants providing for, among other things, maintenance of certain financial ratios and certain limitations on payment of dividends, common stock repurchases, investments, acquisitions, indebtedness, and capital expenditures. We were in compliance with all such covenants as of December 31, 2019 and 2018. A commitment fee is payable on the average daily unused amount of the 2016 Revolving Credit Facility, which ranges from 0.15% to 0.30%, based on certain financial tests. The fee was 0.15% of the unused amount as of December 31, 2019. Borrowings under the 2016 Credit Agreement bear interest at (1) a base rate plus a margin of 0.00% to 0.75%, based on certain financial tests, or (2) United States dollar LIBOR (1.80% at December 31, 2019) plus 1.00% to 1.75%, based on certain financial tests. The base rate is determined by the greater of (a) the prime commercial lending rate announced by Bank of Montreal from time to time (4.75% at December 31, 2019), (b) the federal funds effective rate, plus ½ of 1.00%, (c) the daily one month LIBOR rate, plus 1.00%, or (d) 0.00%. The interest rate in effect at December 31, 2019 was 2.80%. Fees for letters of credit issued under the 2016 Revolving Credit Facility range from 1.00% to 1.75% of the respective face amounts of outstanding letters of credit and are computed based on certain financial tests. Debt issuance costs are amortized over the life of the agreement and are included as part of interest expense. The 2016 Term Loan previously required us to make principal payments of $5.0 million on the last day of March, June, September and December of each year, which commenced with the calendar quarter ended December 31, 2016. On December 30, 2016, we made a payment of $100.0 million, of which $5.0 million represented our required quarterly payment and $95.0 million represented a prepayment of outstanding principal. Such prepayment was applied against the remaining mandatory quarterly payments on a ratable basis. As a result, commencing with the calendar quarter ended March 31, 2017, our required quarterly payment has been reduced to $3.8 million. All unpaid principal and interest is due on August 3, 2021. As of December 31, 2019 and 2018, the balance of the 2016 Term Loan was $254.4 million and $269.6 million, respectively. As of December 31, 2019 and 2018, we had approximately $109.0 million of letters of credit outstanding. There were $50.0 million and $25.0 million in borrowings outstanding under the 2016 Revolving Credit Facility as of December 31, 2019 and December 31, 2018, respectively.
Share Repurchase Program and Dividends
On September 26, 2011, our Board of Directors (the “Board”) authorized us to repurchase up to $100.0 million of our outstanding common stock. Subsequently, the Board has from time to time increased the amount of our common stock that we may repurchase. Since the inception of the repurchase program, the Board has authorized us to repurchase up to $950.0 million of our outstanding common stock. No shares of our common stock were repurchased during the year ended December 31, 2019. Since the inception of the repurchase program through December 31, 2019 we have repurchased approximately 15.9 million shares of our common stock for approximately $791.5 million. As of December 31, 2019, there remained authorization for us to repurchase approximately $158.5 million of our shares. The repurchase program has no expiration date, does not obligate the Company to acquire any particular amount of common stock, and may be suspended, recommenced or discontinued at any time or from time to time without prior notice. We may repurchase our shares from time to time to the extent permitted by securities laws and other legal requirements, including provisions in our 2016 Credit Agreement, placing limitations on such repurchases. The repurchase program has been and will be funded from our operations.
We have paid quarterly dividends since October 25, 2011. We currently pay a regular quarterly dividend of $0.08 per share. Our 2016 Credit Agreement places limitations on the payment of dividends on our common stock. However, we do not believe that the terms of such agreement currently materially limit our ability to pay a quarterly dividend of $0.08 per share for the foreseeable future. The payment of dividends has been and will be funded from our operations.
Off Balance Sheet Arrangements and Other Commitments
The terms of our construction contracts frequently require that we obtain from surety companies (“Surety Companies”) and provide to our customers payment and performance bonds (“Surety Bonds”) as a condition to the award of such contracts. Surety Bonds are issued in return for premiums, which vary depending on the size and type of the bond, and secure our payment and performance obligations under such contracts. We have agreed to indemnify the Surety Companies for amounts, if any, paid by them in respect of Surety Bonds issued on our behalf. Public sector contracts require Surety Bonds more frequently than private sector contracts and, accordingly, our bonding requirements typically increase as the amount of our public sector work increases. In addition, at the request of labor unions representing certain of our employees, Surety Bonds are sometimes provided to secure obligations for wages and benefits payable to or for such employees. As of December 31, 2019, based on the percentage-of-completion of our projects covered by Surety Bonds, our aggregate estimated exposure, assuming defaults on all our then existing contractual obligations, was approximately $1.2 billion, which represents approximately 30% of our total remaining performance obligations. We are not aware of any losses in connection with Surety Bonds, which have been posted on our behalf, and we do not expect to incur significant losses in the foreseeable future.
From time to time, we discuss with our current and other Surety Bond providers the amounts of Surety Bonds that may be available to us based on our financial strength and the absence of any default by us on any Surety Bond issued on our behalf and believe those amounts are currently adequate for our needs. However, if we experience changes in our bonding relationships or if there are adverse changes in the surety industry, we may (a) seek to satisfy certain customer requests for Surety Bonds by posting other forms of collateral in lieu of Surety Bonds, such as letters of credit, parent company guarantees or cash, in order to convince
customers to forego the requirement for Surety Bonds, (b) increase our activities in our business segments that rarely require Surety Bonds, such as our building and industrial services segments, and/or (c) refrain from bidding for certain projects that require Surety Bonds. There can be no assurance that we would be able to effectuate alternatives to providing Surety Bonds to our customers or to obtain, on favorable terms, sufficient additional work that does not require Surety Bonds. Accordingly, if we were to experience a reduction in the availability of Surety Bonds, we could experience a material adverse effect on our financial position, results of operations and/or cash flows.
In the ordinary course of business, we, at times, guarantee obligations of our subsidiaries under certain contracts. Generally, we are liable under such an arrangement only if our subsidiary fails to perform its obligations under the contract. Historically, we have not incurred any substantial liabilities as a consequence of these guarantees.
We do not have any other material financial guarantees or off-balance sheet arrangements other than those disclosed herein.
Contractual Obligations
The following is a summary of material contractual obligations and other commercial commitments (in millions):
| Payments Due by Period | |||||||||||||||||||
| Contractual Obligations | Total | Less than 1 year | 1-3 years | 3-5 years | After 5 years | ||||||||||||||
| Revolving credit facility (including interest at 2.80%) (1) | $ | 52.3 | $ | 1.4 | $ | 50.9 | $ | — | $ | — | |||||||||
| Term Loan (including interest at 2.80%) (1) | 265.5 | 22.3 | 243.2 | — | — | ||||||||||||||
| Finance leases | 10.2 | 4.4 | 4.8 | 0.9 | 0.1 | ||||||||||||||
| Operating leases | 297.1 | 62.5 | 92.7 | 61.2 | 80.7 | ||||||||||||||
| Open purchase obligations (2) | 1,212.7 | 1,045.0 | 167.1 | 0.6 | — | ||||||||||||||
| Other long-term obligations, including current portion (3) | 402.6 | 69.3 | 323.5 | 9.8 | — | ||||||||||||||
| Total Contractual Obligations | $ | 2,240.4 | $ | 1,204.9 | $ | 882.2 | $ | 72.5 | $ | 80.8 | |||||||||
| Amount of Commitment Expirations by Period | |||||||||||||||||||
| Other Commercial Commitments | Total Amounts Committed | Less than 1 year | 1-3 years | 3-5 years | After 5 years | ||||||||||||||
| Letters of credit | $ | 109.0 | $ | 109.0 | $ | — | $ | — | $ | — | |||||||||
| (1) | On August 3, 2016, we entered into a $900.0 million revolving credit facility (the “2016 Revolving Credit Facility”) and a $400.0 million term loan (the “2016 Term Loan”) (collectively referred to as the “2016 Credit Agreement”). As of December 31, 2019, the amount outstanding under the 2016 Term Loan was $254.4 million. As of December 31, 2019, there were borrowings outstanding of $50.0 million under the 2016 Revolving Credit Facility. |
| (2) | Represents open purchase orders for material and subcontracting costs related to construction and services contracts. These purchase orders are not reflected in EMCOR’s Consolidated Balance Sheets and should not impact future cash flows as amounts should be recovered through customer billings. |
| (3) | Primarily represents insurance related liabilities, and liabilities for deferred income taxes, incentive compensation and deferred compensation, classified as other long-term liabilities in the Consolidated Balance Sheets. Cash payments for insurance and deferred compensation related liabilities may be payable beyond three years, however it is not practical to estimate these payments; therefore, these liabilities are reflected in the 1-3 years payment period. We provide funding to our post retirement plans based on at least the minimum funding required by applicable regulations. In determining the minimum required funding, we utilize current actuarial assumptions and exchange rates to forecast amounts that may be payable for up to five years in the future. In our judgment, minimum funding estimates beyond a five year time horizon cannot be reliably estimated and, therefore, have not been included in the table. |
Legal Proceedings
We are a party to lawsuits and other proceedings in which other parties seek to recover amounts from us. While litigation is subject to many uncertainties and the outcome of litigation is not predictable with assurance, we do not believe that any such matters will have a material adverse effect on our financial position, results of operations or liquidity.
Certain Insurance Matters
As of December 31, 2019 and 2018, we utilized approximately $108.9 million of letters of credit obtained under our 2016 Revolving Credit Facility as collateral for insurance obligations.
New Accounting Pronouncements
We review new accounting standards to determine the expected impact, if any, that the adoption of such standards will have on our financial position and/or results of operations. See Note 2 - Summary of Significant Accounting Policies of the notes to consolidated financial statements included in Item 8. Financial Statements and Supplementary Data for further information regarding new accounting standards, including the anticipated dates of adoption and the effects on our consolidated financial position, results of operations or liquidity.
Application of Critical Accounting Policies
Our consolidated financial statements are based on the application of significant accounting policies, which require management to make significant estimates and assumptions. Our significant accounting policies are described in Note 2 - Summary of Significant Accounting Policies of the notes to consolidated financial statements included in Item 8. Financial Statements and Supplementary Data of this Form 10-K. We believe that some of the more critical judgment areas in the application of accounting policies that affect our financial condition and results of operations are the impact of changes in the estimates and judgments pertaining to: (a) revenue recognition from contracts with customers; (b) collectibility or valuation of accounts receivable; (c) insurance liabilities; (d) income taxes; and (e) goodwill and identifiable intangible assets.
Revenue Recognition from Contracts with Customers
We believe our most critical accounting policy is revenue recognition in accordance with Accounting Standards Codification Topic 606, “Revenue from Contracts with Customers” (“ASC 606”). In accordance with ASC 606, the Company recognizes revenue by applying the following five step model: (1) identify the contract with a customer, (2) identify the performance obligations in the contract, (3) determine the transaction price, (4) allocate the transaction price to performance obligations in the contract, and (5) recognize revenue as performance obligations are satisfied.
The Company recognizes revenue at the time the related performance obligation is satisfied by transferring a promised good or service to its customers. A good or service is considered to be transferred when the customer obtains control. The Company can transfer control of a good or service and satisfy its performance obligations either over time or at a point in time. The Company transfers control of a good or service over time and, therefore, satisfies a performance obligation and recognizes revenue over time if one of the following three criteria are met: (a) the customer simultaneously receives and consumes the benefits provided by the Company’s performance as we perform, (b) the Company’s performance creates or enhances an asset that the customer controls as the asset is created or enhanced, or (c) the Company’s performance does not create an asset with an alternative use to us, and we have an enforceable right to payment for performance completed to date.
For our performance obligations satisfied over time, we recognize revenue by measuring the progress toward complete satisfaction of that performance obligation. The selection of the method to measure progress towards completion can be either an input method or an output method and requires judgment based on the nature of the goods or services to be provided.
For our construction contracts, revenue is generally recognized over time as our performance creates or enhances an asset that the customer controls as it is created or enhanced. Our fixed price construction projects generally use a cost-to-cost input method to measure our progress towards complete satisfaction of the performance obligation as we believe it best depicts the transfer of control to the customer which occurs as we incur costs on our contracts. Under the cost-to-cost measure of progress, the extent of progress towards completion is measured based on the ratio of costs incurred to date to the total estimated costs at completion of the performance obligation. For our unit price construction contracts, progress towards complete satisfaction is measured through an output method, such as the amount of units produced or delivered, when our performance does not produce significant amounts of work in process or finished goods prior to complete satisfaction of such performance obligations.
For our services contracts, revenue is also generally recognized over time as the customer simultaneously receives and consumes the benefits of our performance as we perform the service. For our fixed price service contracts with specified service periods, revenue is generally recognized on a straight-line basis over such service period when our inputs are expended evenly, and the customer receives and consumes the benefits of our performance throughout the contract term.
The timing of revenue recognition for the manufacturing of new build heat exchangers within our United States industrial services segment depends on the payment terms of the contract, as our performance does not create an asset with an alternative use to us. For those contracts for which we have a right to payment for performance completed to date at all times throughout our performance,
inclusive of a cancellation, we recognize revenue over time. For these performance obligations, we use a cost-to-cost input method to measure our progress towards complete satisfaction of the performance obligation as we believe it best depicts the transfer of control to the customer which occurs as we incur costs on our contracts. However, for those contracts for which we do not have a right, at all times, to payment for performance completed to date, we recognize revenue at the point in time when control is transferred to the customer. For bill-and-hold arrangements, revenue is recognized when the customer obtains control of the heat exchanger, which may be prior to shipping, if certain recognition criteria are met.
For certain of our revenue streams, such as call-out repair and service work, outage services, refinery turnarounds and specialty welding services that are performed under time and materials contracts, our progress towards complete satisfaction of such performance obligations is measured using an output method as the customer receives and consumes the benefits of our performance completed to date.
Due to uncertainties inherent in the estimation process, it is possible that estimates of costs to complete a performance obligation will be revised in the near-term. For those performance obligations for which revenue is recognized using a cost-to-cost input method, changes in total estimated costs, and related progress towards complete satisfaction of the performance obligation, are recognized on a cumulative catch-up basis in the period in which the revisions to the estimates are made. When the current estimate of total costs for a performance obligation indicate a loss, a provision for the entire estimated loss on the unsatisfied performance obligation is made in the period in which the loss becomes evident. During 2019, there were no changes in total estimated costs that had a significant impact on our operating results. During the year ended December 31, 2018, we recognized losses of $10.0 million related to a change in total estimated costs on a transportation project within our United States electrical construction and facilities services segment, resulting in part from contract scope issues. There were no other changes in total estimated costs that resulted in a significant impact to our operating results for the year ended December 31, 2018.
The timing of revenue recognition may differ from the timing of invoicing to customers. Contract assets include unbilled amounts from our long-term construction projects when revenues recognized under the cost-to-cost measure of progress exceed the amounts invoiced to our customers, as the amounts cannot be billed under the terms of our contracts. Such amounts are recoverable from our customers based upon various measures of performance, including achievement of certain milestones, completion of specified units or completion of a contract. In addition, many of our time and materials arrangements, as well as our contracts to perform turnaround services within the United States industrial services segment, are billed in arrears pursuant to contract terms that are standard within the industry, resulting in contract assets and/or unbilled receivables being recorded, as revenue is recognized in advance of billings. Also included in contract assets are amounts we seek or will seek to collect from customers or others for errors or changes in contract specifications or design, contract change orders or modifications in dispute or unapproved as to scope and/or price, or other customer-related causes of unanticipated additional contract costs (claims and unapproved change orders). Our contract assets do not include capitalized costs to obtain and fulfill a contract. Contract assets are generally classified as current within the Consolidated Balance Sheets.
As of December 31, 2019 and 2018, contract assets included unbilled revenues for unapproved change orders of approximately $33.1 million and $25.2 million, respectively. As of December 31, 2019 and 2018, there were no claim amounts included within contract assets or accounts receivable. There were contractually billed amounts and retention related to contracts with unapproved change orders and claims of approximately $89.0 million and $96.1 million as of December 31, 2019 and 2018, respectively. For contracts in claim status, contractually billed amounts will generally not be paid by the customer to us until final resolution of the related claims.
Contract liabilities from our long-term construction contracts arise when amounts invoiced to our customers exceed revenues recognized under the cost-to-cost measure of progress. Contract liabilities additionally include advanced payments from our customers on certain contracts. Contract liabilities decrease as we recognize revenue from the satisfaction of the related performance obligation and are recorded as either current or long-term, depending upon when we expect to recognize such revenue. The long-term portion of contract liabilities is included in “Other long-term obligations” in the Consolidated Balance Sheets.
See Note 3 - Revenue from Contracts with Customers of the notes to consolidated financial statements included in Item 8. Financial Statements and Supplementary Data for further disclosure regarding revenue recognition.
Accounts Receivable
Accounts receivable are recognized in the period we deliver goods or provide services to our customers or when our right to consideration is unconditional. We are required to estimate the collectibility of accounts receivable. A considerable amount of judgment is required in assessing the likelihood of realization of receivables. Relevant assessment factors include the creditworthiness of the customer, our prior collection history with the customer and related aging of the past due balances. The provision for doubtful accounts during 2019, 2018, and 2017 amounted to approximately $2.6 million, $2.1 million, and $7.3 million, respectively. At December 31, 2019 and 2018, our accounts receivable of $2,030.8 million and $1,773.6 million,
respectively, were recorded net of allowances for doubtful accounts of $14.5 million and $15.4 million, respectively. The decrease in our allowance for doubtful accounts was primarily due to the write-off of previously reserved accounts receivable. Specific accounts receivable are evaluated when we believe a customer may not be able to meet its financial obligations due to the deterioration of its financial condition or its credit ratings. The allowance for doubtful accounts requirements are based on the best facts available and are re-evaluated and adjusted on a regular basis as additional information is received.
Insurance Liabilities
We have loss payment deductibles for certain workers’ compensation, automobile liability, general liability and property claims, have self-insured retentions for certain other casualty claims and are self-insured for employee-related healthcare claims. In addition, we maintain a wholly-owned captive insurance subsidiary to manage certain of our insurance liabilities. Losses are recorded based upon estimates of our liability for claims incurred and for claims incurred but not reported. The liabilities are derived from known facts, historical trends and industry averages utilizing the assistance of an actuary to determine the best estimate for the majority of these obligations. We believe the liabilities recognized on the Consolidated Balance Sheets for these obligations are adequate. However, such obligations are difficult to assess and estimate due to numerous factors, including severity of injury, determination of liability in proportion to other parties, timely reporting of occurrences and effectiveness of safety and risk management programs. Therefore, if our actual experience differs from the assumptions and estimates used for recording the liabilities, adjustments may be required and will be recorded in the period that the experience becomes known. Our estimated net insurance liabilities for workers’ compensation, automobile liability, general liability and property claims increased by $7.8 million for the year ended December 31, 2019 compared to the year ended December 31, 2018, partially as as result of greater potential exposures, including the impact of acquired companies. If our estimated insurance liabilities for workers’ compensation, automobile liability, general liability and property claims were to increase by 10%, it would have resulted in $17.0 million of additional expense for the year ended December 31, 2019.
Income Taxes
We had net deferred income tax liabilities at December 31, 2019 and 2018 of $71.7 million and $70.8 million, respectively, primarily resulting from differences between the carrying value and income tax basis of certain identifiable intangible assets, goodwill, and depreciable fixed assets, which will impact our taxable income in future periods. Included within these net deferred income tax liabilities are $176.2 million and $104.1 million of deferred income tax assets as of December 31, 2019 and 2018, respectively. A valuation allowance is required when it is more likely than not that all or a portion of a deferred income tax asset will not be realized. As of December 31, 2019 and 2018, the total valuation allowance on deferred income tax assets, related to state net operating loss carryforwards, was approximately $3.5 million and $3.9 million, respectively. The ultimate realization of deferred income tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Based on our taxable income, which has generally exceeded the amount of our net deferred tax asset balance and projections of future taxable income, we have determined that it is more likely than not that the net deferred income tax assets will be realized.
Goodwill and Identifiable Intangible Assets
As of December 31, 2019, we had $1,063.9 million and $611.4 million, respectively, of goodwill and net identifiable intangible assets (primarily consisting of our contract backlog, developed technology/vendor network, customer relationships, and trade names) arising out of the acquisition of companies. As of December 31, 2018, goodwill and net identifiable intangible assets were $990.9 million and $488.3 million, respectively. As of December 31, 2019, approximately 13.4% of our goodwill related to our United States electrical construction and facilities services segment, approximately 28.1% related to our United States mechanical construction and facilities services segment, approximately 27.2% related to our United States building services segment, and approximately 31.3% related to our United States industrial services segment. The changes to goodwill since December 31, 2018 were the result of acquisitions completed in 2019 and purchase price adjustments related to acquisitions completed in the fourth quarter of 2018. The determination of related estimated useful lives for identifiable intangible assets and whether those assets are impaired involves significant judgments based upon short and long-term projections of future performance. These forecasts reflect assumptions regarding the ability to successfully integrate acquired companies, as well as macroeconomic conditions. Accounting Standards Codification Topic 350, “Intangibles – Goodwill and Other” (“ASC 350”) requires that goodwill and other identifiable intangible assets with indefinite useful lives not be amortized, but instead be tested at least annually for impairment (which we test each October 1, absent any earlier identified impairment indicators), and be written down if impaired. ASC 350 requires that goodwill be allocated to its respective reporting unit and that identifiable intangible assets with finite lives be amortized over their useful lives.
We test for impairment of our goodwill at the reporting unit level. Our reporting units are consistent with the reportable segments identified in Note 19, “Segment Information”, of the notes to consolidated financial statements included in Item 8. Financial Statements and Supplementary Data. In assessing whether our goodwill is impaired, we compare the fair value of the reporting unit to its carrying amount, including goodwill. If the fair value exceeds the carrying amount, no impairment loss is recognized. However, if the carrying amount of the reporting unit exceeds the fair value, the goodwill of the reporting unit is impaired and an impairment loss in the amount of the excess is recognized and charged to operations. The fair value of each of our reporting units is generally determined using discounted estimated future cash flows; however, in certain circumstances, consideration is given to a market approach whereby fair value is measured based on a multiple of earnings.
As of the date of our latest impairment test (October 1, 2019), the carrying values of our United States electrical construction and facilities services segment, our United States mechanical construction and facilities services segment, our United States building services segment and our United States industrial services segment were approximately $331.0 million, $369.5 million, $546.8 million and $705.2 million, respectively. The fair values of our United States electrical construction and facilities services segment, our United States mechanical construction and facilities services segment, our United States building services segment, and our United States industrial services segment exceeded their carrying values by approximately $1,321.8 million, $2,011.5 million, $922.3 million and $40.5 million, respectively.
For the years ended December 31, 2019 and 2018, no impairment of our goodwill was recognized. As part of our annual impairment testing for the year ended December 31, 2017, and as a result of continued adverse market conditions, we tempered our expectations regarding the strength of a near-term recovery within our United States industrial services segment, resulting in a non-cash impairment charge of $57.5 million.
The weighted average cost of capital used in our annual testing for impairment as of October 1, 2019 was 9.5%, 9.1% and 10.5% for our domestic construction segments, our United States building services segment and our United States industrial services segment, respectively. The perpetual growth rate used for our annual testing was 2.7% for all of our domestic segments. Unfavorable changes in these key assumptions may affect future testing results. For example, keeping all other assumptions constant, a 50 basis point increase in the weighted average costs of capital would cause the estimated fair values of our United States electrical construction and facilities services segment, our United States mechanical construction and facilities services segment, our United States building services segment, and our United States industrial services segment to decrease by approximately $108.8 million, $156.7 million, $98.0 million, and $40.3 million, respectively. In addition, keeping all other assumptions constant, a 50 basis point reduction in the perpetual growth rate would cause the estimated fair values of our United States electrical construction and facilities services segment, our United States mechanical construction and facilities services segment, our United States building services segment, and our United States industrial services segment to decrease by approximately $61.4 million, $90.5 million, $55.7 million, and $20.5 million, respectively. Given the amounts by which the fair value exceeds the carrying value for each of our reporting units other than our United States industrial services segment, the decreases in estimated fair values described above would not have significantly impacted our 2019 impairment test. In the case of our United States industrial services segment, however, such decreases would cause the estimated fair value to approach its carrying value.
We also test for the impairment of trade names that are not subject to amortization by calculating the fair value using the “relief from royalty payments” methodology. This approach involves two steps: (a) estimating reasonable royalty rates for each trade name and (b) applying these royalty rates to a net revenue stream and discounting the resulting cash flows to determine fair value. This fair value is then compared with the carrying value of each trade name. If the carrying amount of the trade name is greater than the implied fair value of the trade name, an impairment in the amount of the excess is recognized and charged to operations. For the years ended December 31, 2019 and 2018, no impairment of our indefinite-lived trade names was recognized. The annual impairment review of our indefinite-lived trade names for the year ended December 31, 2017 resulted in a $0.3 million non-cash impairment charge as a result of a change in the fair value of a subsidiary trade name associated with a prior acquisition reported within our United States building services segment.
In addition, we review for the impairment of other identifiable intangible assets that are being amortized whenever facts and circumstances indicate that their carrying values may not be fully recoverable. This test compares their carrying values to the undiscounted pre-tax cash flows expected to result from the use of the assets. If the assets are impaired, the assets are written down to their fair values, generally determined based on their discounted estimated future cash flows. For the years ended December 31, 2019 and 2017, no impairment of our other identifiable intangible assets was recognized. For the year ended December 31, 2018, we recorded a $0.9 million non-cash impairment charge associated with a finite-lived trade name within our United States industrial services segment.
We have certain businesses, particularly within our United States industrial services segment, whose results are highly impacted by the demand for some of our offerings within the industrial and oil and gas markets. Future performance of this segment, along with a continued evaluation of the conditions of its end user markets, will be important to ongoing impairment assessments. Should this segment’s actual results suffer a decline or expected future results be revised downward, the risk of goodwill impairment or impairment of other identifiable intangible assets would increase.
Our development of the discounted future cash flow projections used in impairment testing is based upon assumptions and estimates by management from a review of our operating results and business plans as well as forecasts of anticipated growth rates and margins, among other considerations. In addition, estimates of the weighted average cost of capital for each reporting unit are developed with the assistance of a third-party valuation specialist. Those assumptions and estimates can change in future periods and other factors used in assessing fair value, such as interest rates, are outside the control of management. There can be no assurance that estimates and assumptions made for purposes of our goodwill and identifiable intangible asset impairment testing will prove to be accurate predictions of the future. If our assumptions regarding future business performance including anticipated growth rates and margins are not achieved, or there is a rise in interest rates, we may be required to record goodwill and/or identifiable intangible asset impairment charges in future periods.
It is not possible at this time to determine if any future impairment charge will result or, if it does, whether such a charge would be material.
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