Coconut Grove-based Watsco Inc. is one of the biggest local companies you’ve probably never heard of.
With about 4,600 employees, Watsco distributes new equipment and parts for air conditioning, refrigeration and heating systems at more than 570 locations in 38 states, Puerto Rico, Mexico and Canada.
The company, founded in 1956, sells brands such as Carrier, Rheem, Frigidaire, Tappan, Amana, Maytag and Manitowoc to thousands of contractors and dealers who then supply homeowners and small businesses. It doesn’t sell directly at the retail level.
Moreover, Watsco’s name doesn’t appear on the side of any big buildings or on in advertising campaigns. It works through four business units: Gemaire Group, East Coast Metal Distributors, Baker Distributing Co. and Carrier Enterprise LLC, a joint venture with Carrier Corp..
“We keep a low profile, but we are well known in the industry,” said Barry Logan, Watsco’s senior vice president and secretary.
The company is also very profitable and has been good to its shareholders, he added. In 2012 the company had record revenues of $3.43 billion, up more than 15 percent from 2011, and net profits of $157.6 million, a 14.4 percent increase over 2011. During the first half of 2013, Watsco posted net income of $93.7 million, for a 25.9 percent gain over the same period last year, on revenues of over $1.8 billion, up by nearly 11.5 percent.
A $100 investment in Watsco shares in Dec, 2007 would have been worth $264.45 in Dec. 2012, according to the company. In comparison, $100 invested at the same starting point in NYSE Composite index would have been worth $121.01 in Dec. 2012.
Last year Watsco increased its dividend for the 11th consecutive year, paying $2.48 per share in 2012 (plus a special dividend of $5 per share), up from $2.23 per share in 2011. “We never missed a dividend in 40 years,” Logan said.
How did Watsco achieve success in this highly fragmented market, competing with about 2,300 distribution companies?
In its early years, Watsco manufactured a variety of products, including tools, chemicals, pumps, hair spray systems, rollers for windows and doors, portable boat horns and other marine equipment.
Albert H. Nahmad, currently the chairman, CEO and president, took over as president and chairman of Watsco in 1973 and grew its revenues as a manufacturer.
But in 1989, Nahmad, formerly group vice president at W.F. Grace and Co., changed the company’s strategy. Watsco acquired a local distributor of air conditioning, refrigeration, heating and ventilation equipment, got out of manufacturing and focused on building the distribution business.
Under Nahmad’s “buy and build” strategy, the company acquired more distribution companies, expanded its reach beyond Florida and became a major player in the sector. “We concentrate on the Sunbelt,” Logan said. “Our three biggest markets are Florida, Texas and the Carolinas.”
Starting with 16 locations in Florida and Alabama in 1989, Watsco now has 573 warehouse outlets in the U.S., Mexico and Canada. It has acquired 59 distribution businesses since 1989.
In 2009, Watsco took a big step to expand its business. The company set up a joint venture with Carrier Corp., the manufacturer of heating, air-conditioning and refrigeration (HVACR) equipment. The joint venture, called Carrier Enterprise LLC, included 95 Carrier-owned locations in 13 Sunbelt states and Puerto Rico and 15 Watsco locations that sold Carrier products. This allowed Watsco to significantly broaden its distribution network and boost its revenues. For its part, Carrier found a powerful new partner with extensive distribution expertise that would expand sales of its product lines.
Two years later, Watsco established a second joint venture with Carrier, a unit of United Technologies Corp., adding 28 sales locations in 11 northeastern states. In the same year, it made its first international investment, taking over the six locations in Carrier’s Mexican distribution network.
And in 2012, Watsco moved into Canada, acquiring control of a Carrier affiliate there in another joint venture for $173.7 million in cash and shares, an initiative that added 35 stores throughout Canada with revenues of about $330 million. Watsco holds controlling interests in all its joint ventures with Carrier.
“Now we have the capacity to invest more on the international side,” Logan said. “There is a big hunger in Latin America and the Caribbean for American-made products.”
Watsco will continue investing in acquisitions to build new revenue, he added, but has no specific timetable for these investments.
Watsco is also adding new technology to speed the sales process at all levels.
For example, an A/C repairman/contractor — Watsco’s basic customer — may typically receive 10 calls a day from homeowners, make 10 visits, diagnose 10 problems and fill out 10 order forms for a repair job or new equipment. Correctly identifying thousands of different repair parts for different brands of equipment and finding out where a certain part is available is complicated, and often can’t be done efficiently at the retail customer’s home.
“And everyone wants it today,” Logan said.
Watsco has developed systems so that contractors, using smart phones and tablets, can now interact more efficiently with the company, locating and delivering the right part from its huge network 24/7.
In addition, Watsco is developing online apps that provide contractors with a library of information on parts, diagrams and installation instructions.
Another factor in Watsco’s success: things break.
While the company sells new equipment for new residential housing, most of its sales come from replacing old air-conditioning equipment. Watsco estimates there are about 90 million central air-conditioning and heating systems in the U.S. that have been in service for 10 years or more.
“And they’re all going to break,” Logan said. In the Sunbelt states, he added, “It’s hard to live without air conditioning. It’s not like having a broken hinge on a cabinet. You can live without the hinge.”
Moreover, many consumers want to reduce their electric bills and opt for new, energy-efficient air conditioners. In states like Florida, air conditioning accounts for the biggest share of most monthly electric bills.
Residential replacement equipment accounts for about 75 percent of Watsco’s sales, while new residential equipment represents 10 percent and commercial sales 15 percent.
As for the future, Watsco is waiting for a sustained recovery in new residential construction, which means consumers will buy new A/C equipment for their homes. But its core market is replacing old equipment with new units or parts, and “the pattern of useful life for existing equipment is very predictable,” Logan noted. “It’s not like predicting what’s going to happen with the euro or what will happen in Cyprus.”
And Watsco is positioned to take advantage of the market, whatever happens. The company sees significant growth potential in the Americas for HVAC and refrigeration equipment, where the total market is estimated at $35 billion. Watsco currently has about 10 percent of the total and plans to increase its share.
In its most recent monthly report on Watsco shares, Thompson/First Call listed two Strong Buy recommendations, one Buy, eight Hold, two Underperform and zero Sell.
Joshua Pokrzywinski, executive director and senior analyst at MKM Partners LLC, is neutral on Watsco shares at the present but is very positive on the company’s strategy and performance.
“We like Watsco’s growth strategy,” Pokrzywinski said. “The company has been consistent in its mix of organic growth through contractor partnering and expanded product offerings, as well as well as inorganic growth by buying and building other HVAC distributors,” he noted.
The company “consistently takes share from smaller competitors and tends to outperform many of the other players in the broader HVAC universe by being brand agnostic. With the Carrier JV and the expanded geographical reach it brings, Watsco is less susceptible to regional weather volatility.”
While he believes Watsco’s international expansion is a positive initiative, the MKM analyst sees the greatest potential for the company in the U.S. housing market. “The housing recovery in the core U.S. market still represents the biggest market, and we believe that will always be the case based on relative size,” he said. “While housing has picked up off the bottom, the average efficiency of replacement air conditioners has not yet recovered and homeowners have been replacing with minimum efficiency, lower upfront-cost units. As the recovery gains momentum, we believe homeowners will return to energy-efficient units, which carry a higher purchase price.
“We believe the company is a best in class HVAC distributor.”