10-Q

Large accelerated filer

Accelerated filer

Non-accelerated
filer

Smaller reporting company

Emerging growth company

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM

10-Q

☒	Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the Quarterly Period Ended March 31, 2021

☐	Transition Report Pursuant To Section 13 or 15(d) of the Securities Exchange Act of 1934

For the Transition Period From

Commission file number

1-5581

I.R.S. Employer Identification Number

59-0778222

WATSCO, INC.

(a Florida

Corporation)

2665 South Bayshore Drive, Suite 901

Miami, Florida 33133

Telephone:

(305) 714-4100

Securities registered pursuant to Section 12(b) of the Act:


Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common stock, $0.50 par value	WSO	New York Stock Exchange
Class B common stock, $0.50 par value	WSOB	New York Stock Exchange

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes

☒

No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation

S-T

(§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes

☒

No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule

12b-2

of the Exchange Act).

Yes ☐

No ☒

The registrant’s common stock outstanding as of May 3, 2021 comprised (i) 32,913,087 shares of Common stock, $0.50 par value per share, excluding

4,823,988

treasury shares and (ii) 5,768,007 shares of Class B common stock, $0.50 par value per share, excluding 48,263 treasury shares.

Table of Contents

WATSCO, INC. AND SUBSIDIARIES

QUARTERLY REPORT ON FORM

10-Q

TABLE OF CONTENTS


		Page No.
PART I. FINANCIAL INFORMATION

Item 1.	Condensed Consolidated Unaudited Financial Statements

	Condensed Consolidated Unaudited Statements of Income – Quarters Ended March 31, 2021 and 2020		3

	Condensed Consolidated Unaudited Statements of Comprehensive Income – Quarters Ended March 31, 2021 and 2020		4

	Condensed Consolidated Balance Sheets – March 31, 2021 (Unaudited) and December 31, 2020		5

	Condensed Consolidated Unaudited Statements of Shareholders’ Equity – Quarters Ended March 31, 2021 and 2020		6

	Condensed Consolidated Unaudited Statements of Cash Flows – Quarters Ended March 31, 2021 and 2020		8

	Notes to Condensed Consolidated Unaudited Financial Statements		9

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		14

Item 3.	Quantitative and Qualitative Disclosures about Market Risk		20

Item 4.	Controls and Procedures		20

PART II. OTHER INFORMATION

Item 1.	Legal Proceedings		21

Item 1A.	Risk Factors		21

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds		21

Item 6.	Exhibits		22

SIGNATURE			23

EXHIBITS

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PART I. FINANCIAL INFORMATION

ITEM 1. CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS

WATSCO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED UNAUDITED STATEMENTS OF INCOME

(In thousands, except per share data)


	Quarters Ended March 31,
	2021		2020
Revenues	$	1,136,118	$	1,008,156
Cost of sales		841,297		760,541

Gross profit		294,821		247,615
Selling, general and administrative expenses		217,612		203,386
Other income		4,671		1,014

Operating income		81,880		45,243
Interest expense, net		88		790

Income before income taxes		81,792		44,453
Income taxes		15,665		8,206

Net income		66,127		36,247
Less: net income attributable to non-controlling interest		11,035		5,745

Net income attributable to Watsco, Inc.	$	55,092	$	30,502

Earnings per share for Common and Class B common stock:
Basic and Diluted	$	1.39	$	0.72

See accompanying notes to condensed consolidated unaudited financial statements.

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WATSCO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED UNAUDITED STATEMENTS OF COMPREHENSIVE INCOME

(In thousands)


	Quarters Ended March 31,
	2021		2020
Net income	$	66,127	$	36,247
Other comprehensive income (loss), net of tax
Foreign currency translation adjustment		3,457		(21,929	)
Unrealized gain on cash flow hedging instruments arising during the period		76		2,534
Reclassification of loss on cash flow hedging instruments into earnings		243		115

Other comprehensive income (loss)		3,776		(19,280	)
Comprehensive income		69,903		16,967
Less: comprehensive income (loss) attributable to non-controlling interest		12,337		(796	)

Comprehensive income attributable to Watsco, Inc.	$	57,566	$	17,763

See accompanying notes to condensed consolidated unaudited financial statements.

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WATSCO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except per share data)


	March 31, 2021			December 31, 2020
	(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents	$	93,875		$	146,067
Accounts receivable, net		596,513			535,288
Inventories, net		986,648			781,299
Other current assets		18,319			21,791

Total current assets		1,695,355			1,484,445
Property and equipment, net		100,378			98,225
Operating lease right-of-use assets		203,603			209,169
Goodwill		413,082			412,486
Intangible assets, net		169,931			169,929
Investment in unconsolidated entity		102,518			97,847
Other assets		7,397			12,246

	$	2,692,264		$	2,484,347

LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term obligations	$	72,767		$	71,804
Accounts payable		384,109			251,553
Accrued expenses and other current liabilities		173,944			163,788

Total current liabilities		630,820			487,145

Long-term obligations:
Borrowings under revolving credit agreement		48,900			—
Operating lease liabilities, net of current portion		132,829			139,527
Finance lease liabilities, net of current portion		5,742			4,811

Total long-term obligations		187,471			144,338

Deferred income taxes and other liabilities		77,146			73,103

Commitments and contingencies
Watsco, Inc. shareholders’ equity:
Common stock, $0.50 par value		18,863			18,851
Class B common stock, $0.50 par value		2,897			2,846
Preferred stock, $0.50 par value		—			—
Paid-in capital		966,536			950,915
Accumulated other comprehensive loss, net of tax		(32,393	)		(34,867	)
Retained earnings		622,944			636,373
Treasury stock, at cost		(87,440	)		(87,440	)

Total Watsco, Inc. shareholders’ equity		1,491,407			1,486,678
Non-controlling interest		305,420			293,083

Total shareholders’ equity		1,796,827			1,779,761

	$	2,692,264		$	2,484,347

See accompanying notes to condensed consolidated unaudited financial statements.

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WATSCO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED UNAUDITED STATEMENTS OF SHAREHOLDERS’ EQUITY


(In thousands, except share and per share data)	Common Stock, Class B Common Stock and Preferred Stock Shares			Common Stock, Class B Common Stock and Preferred Stock Amount			Paid-In Capital			Accumulated Other Comprehensive Loss			Retained Earnings			Treasury Stock			Non- controlling Interest		Total
Balance at December 31, 2020		38,521,694		$	21,697		$	950,915		$	(34,867	)	$	636,373		$	(87,440	)	$	293,083	$	1,779,761
Net income														55,092						11,035		66,127
Other comprehensive income											2,474									1,302		3,776
Issuances of non-vested restricted shares of common stock		121,934			61			(61	)													—
Forfeitures of non-vested restricted shares of common stock		(43,000	)		(21	)		21														—
Common stock contribution to 401(k) plan		22,752			11			5,143														5,154
Stock issuances from exercise of stock options and employee stock purchase plan		24,735			12			3,862														3,874
Share-based compensation								6,656														6,656
Cash dividends declared and paid on Common and Class B common stock, $1.775 per share														(68,521	)							(68,521	)

Balance at March 31, 2021		38,648,115		$	21,760		$	966,536		$	(32,393	)	$	622,944		$	(87,440	)	$	305,420	$	1,796,827

Continued on next page.

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(In thousands, except share and per share data)	Common Stock, Class B Common Stock and Preferred Stock Shares			Common Stock, Class B Common Stock and Preferred Stock Amount			Paid-In Capital			Accumulated Other Comprehensive Loss			Retained Earnings			Treasury Stock			Non- controlling Interest			Total
Balance at December 31, 2019		38,194,056		$	21,533		$	907,877		$	(39,050	)	$	632,507		$	(87,440	)	$	279,340		$	1,714,767
Net income														30,502						5,745			36,247
Other comprehensive (loss)											(12,739	)								(6,541	)		(19,280	)
Issuances of non-vested restricted shares of common stock		113,765			57			(57	)														—
Common stock contribution to 401(k) plan		25,216			13			4,530															4,543
Stock issuances from exercise of stock options and employee stock purchase plan		18,674			9			2,532															2,541
Retirement of common stock		(4,828	)		(2	)		(789	)														(791	)
Share-based compensation								6,097															6,097
Cash dividends declared and paid on Common and Class B common stock, $1.60 per share														(61,238	)								(61,238	)

Balance at March 31, 2020		38,346,883		$	21,610		$	920,190		$	(51,789	)	$	601,771		$	(87,440	)	$	278,544		$	1,682,886

See accompanying notes to condensed consolidated unaudited financial statements.

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WATSCO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED UNAUDITED STATEMENTS OF CASH FLOWS

(In thousands)


	Quarters Ended March 31,
	2021			2020
Cash flows from operating activities:
Net i n come	$	66,127		$	36,247
Adjustments to reconcile net income to net cash (used in) provided by operating activities:
Depreciation and amortization		6,898			6,479
Share-based compensation		5,892			4,912
Non-cash contribution to 401(k) plan		5,154			4,543
Provision for doubtful accounts		393			2,005
Other income from investment in unconsolidated entity		(4,671	)		(1,014	)
Other, net		1,042			668
Changes in operating assets and liabilities:
Accounts receivable		(61,072	)		(46,534	)
Inventories, net		(204,593	)		(27,280	)
Accounts payable and other liabilities		149,914			66,049
Other, net		(2,829	)		(4,216	)

Net cash (used in) provided by operating activities		(37,745	)		41,859

Cash flows from investing activities:
Proceeds from sale of equity securities		5,993			—
Proceeds from sale of property and equipment		50			10
Capital expenditures		(4,822	)		(3,859	)

Net cash provided by (used in) investing activities		1,221			(3,849	)

Cash flows from financing activities:
Dividends on Common and Class B common stock		(68,521	)		(61,238	)
Repayments of finance lease liabilities		(503	)		(343	)
Repurchases of common stock to satisfy employee withholding tax obligations		—			(791	)
Net proceeds from issuances of common stock		3,874			2,541
Net proceeds under revolving credit agreement		48,900			443

Net cash used in financing activities		(16,250	)		(59,388	)

Effect of foreign exchange rate changes on cash and cash equivalents		582			(1,840	)

Net decrease in cash and cash equivalents		(52,192	)		(23,218	)
Cash and cash equivalents at beginning of period		146,067			74,454

Cash and cash equivalents at end of period	$	93,875		$	51,236

See accompanying notes to condensed consolidated unaudited financial statements.

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WATSCO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS

March 31, 2021

(In thousands, except share and per share data)

1.	BASIS OF PRESENTATION

Basis of Consolidation

Watsco, Inc. (collectively with its subsidiaries, “Watsco,” “we,” “us,” or “our”) was incorporated in Florida in 1956 and is the largest distributor of air conditioning, heating and refrigeration equipment and related parts and supplies (“HVAC/R”) in the HVAC/R distribution industry in North America. The accompanying March 31, 2021 interim condensed consolidated unaudited financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and note disclosures normally included in the annual financial statements prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) have been condensed or omitted pursuant to those rules and regulations, but we believe the disclosures made are adequate to make the information presented not misleading. In the opinion of management, all adjustments, consisting of normal and recurring adjustments, necessary for a fair presentation have been included in the condensed consolidated unaudited financial statements included herein. These statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in our 2020 Annual Report on Form

10-K.

The condensed consolidated unaudited financial statements include the accounts of Watsco, all of its wholly owned subsidiaries, the accounts

of three

joint ventures with Carrier Global Corporation, which we refer to as Carrier, the accounts of Carrier InterAmerica Corporation, of which we have an 80% controlling interest and Carrier has a 20% non-controlling interest and our 38.1% investment in Russell Sigler, Inc. (“RSI”), which is accounted for under the equity method of accounting. All significant intercompany balances and transactions have been eliminated in consolidation.

The results of operations for the quarter ended March 31, 2021 are not necessarily indicative of the results to be expected for the year ending December 31, 2021. Sales of residential central air conditioners, heating equipment, and parts and supplies are seasonal. Furthermore, profitability can be impacted favorably or unfavorably based on weather patterns, particularly during the Summer and Winter selling seasons. Demand related to the residential central air conditioning replacement market is typically highest in the second and third quarters, and demand for heating equipment is usually highest in the first and fourth quarters. Demand related to the new construction sectors throughout most of the markets we serve tends to be fairly evenly distributed throughout the year and depends largely on housing completions and related weather and economic conditions.

Equity Method Investments

Investments in which we have the ability to exercise significant influence, but do not control, are accounted for under the equity method of accounting and are included in investment in unconsolidated entity in our condensed consolidated unaudited balance sheets. Under this method of accounting, our proportionate share of the net income or loss of the investee is included in other income in our condensed consolidated unaudited statements of income. The excess, if any, of the carrying amount of our investment over our ownership percentage in the underlying net assets of the investee is attributed to certain fair value adjustments with the remaining portion recognized as goodwill.

Use of Estimates

The preparation of condensed consolidated unaudited financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated unaudited financial statements and the reported amounts of revenues and expenses for the reporting period. Significant estimates include valuation reserves for accounts receivable, net realizable value adjustments to inventories, income taxes, reserves related to loss contingencies and the valuation of goodwill, indefinite-lived intangible assets and long-lived assets. While we believe that these estimates are reasonable, actual results could differ from such estimates.

Impact of

COVID-19

Pandemic

The

COVID-19

pand

mic has impacted and could further impact our operations and the operations of our suppliers and customers as a result of quarantines, facility closures, illnesses, and travel and logistics restrictions. The extent to which the

COVID-19

pandemic continues to impact our business, results of operations, and financial condition will depend on future developments, which are highly uncertain and cannot be predicted, including, but not limited to the magnitude, duration, spread, severity, and impact of the

COVID-19

pandemic, the effects of the

COVID-19

pandemic on our employees, customers, suppliers, and vendors, and the remedial actions and stimulus measures adopted by federal, state, and local governments, and to what extent normal economic and operating conditions may resume. Even after the

COVID-19

pandemic has subsided, we may experience adverse impacts to our business as a result of any economic recession or depression that has occurred as a result of the pandemic. Therefore, we cannot reasonably estimate the impact at this time.

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REVENUES

Disaggregation of Revenues

The following table presents our revenues disaggregated by primary geographical regions and major product lines within our single reporting segment:


Quarters Ended March 31,	2021			2020
Primary Geographical Regions:
United States	$	1,011,266		$	899,545
Canada		74,492			55,341
Latin America and the Caribbean		50,360			53,270

	$	1,136,118		$	1,008,156

Major Product Lines:
HVAC equipment		67	%		66	%
Other HVAC products		29	%		30	%
Commercial refrigeration products		4	%		4	%

		100	%		100	%

3.	EARNINGS PER SHARE

The following ta

le presents the calculation of basic and diluted earnings per share for our Common and Class B common stock:


Quarters Ended March 31,	2021		2020
Basic Earnings per Share:
Net income attributable to Watsco, Inc. shareholders	$	55,092	$	30,502
Less: distributed and undistributed earnings allocated to non-vested restricted common stock		6,054		5,233

Earnings allocated to Watsco, Inc. shareholders	$	49,038	$	25,269

Weighted-average common shares outstanding – Basic		35,179,521		34,995,048
Basic earnings per share for Common and Class B common stock	$	1.39	$	0.72
Allocation of earnings for Basic:
Common stock	$	45,452	$	23,409
Class B common stock		3,586		1,860

	$	49,038	$	25,269

Diluted Earnings per Share:
Net income attributable to Watsco, Inc. shareholders	$	55,092	$	30,502
Less: distributed and undistributed earnings allocated to non-vested restricted common stock		6,054		5,233

Earnings allocated to Watsco, Inc. shareholders	$	49,038	$	25,269

Weighted-average common shares outstanding – Basic		35,179,521		34,995,048
Effect of dilutive stock options		150,312		28,941

Weighted-average common shares outstanding – Diluted		35,329,833		35,023,989

Diluted earnings per share for Common and Class B common stock	$	1.39	$	0.72
Anti-dilutive stock options not included above		5,911		164,130

Diluted earnings per share for our Common stock assumes the conversion of all of our Class B common stock into Common stock as of the beginning of the fiscal year; therefore, no allocation of earnings to Class B common stock is required. At March 31, 2021 and 2020, our outstanding Class B common stock was convertible into 2,572,536 and 2,575,740 shares of our

Common stock, respectively.

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4.	OTHER COMPREHENSIVE INCOME (LOSS)

Other comprehensive

income (loss)

consists of the foreign currency translation adjustment associated with our Canadian operations’ use of the Canadian dollar as their functional currency and changes in the unrealized gains on cash flow hedging instruments. The tax effects allocated to each component of other

comprehensive income (loss) were as follows:


Quarters Ended March 31,	2021			2020
Foreign currency translation adjustment	$	3,457		$	(21,929	)
Unrealized gain on cash flow hedging instruments		103			3,473
Income tax expense		(27	)		(939	)

Unrealized gain on cash flow hedging instruments, net of tax		76			2,534

Reclassification of loss on cash flow hedging instruments into earnings		333			157
Income tax benefit		(90	)		(42	)

Reclassification of loss on cash flow hedging instruments into earnings, net of tax		243			115

Other comprehensive income (loss)	$	3,776		$	(19,280	)

The changes in each component of accumulated other comprehensive loss, net of tax, were as follows:


Quarters Ended March 31,	2021			2020
Foreign currency translation adjustment:
Beginning balance	$	(34,694	)	$	(38,599	)
Current period other comprehensive income (loss)		2,282			(14,328	)

Ending balance		(32,412	)		(52,927	)

Cash flow hedging instruments:
Beginning balance		(173	)		(451	)
Current period other comprehensive income		46			1,520
Reclassification adjustment		146			69

Ending balance		19			1,138

Accumulated other comprehensive loss, net of tax	$	(32,393	)	$	(51,789	)

5.	DERIVATIVES

We enter into foreign currency forward and option contracts to offset the earnings impact that foreign exchange rate fluctuations would otherwise have on certain monetary liabilities that are denominated in nonfunctional currencies.

Cash Flow Hedging Instruments

We enter into foreign currency forward contracts that are designated as cash flow hedges. The settlement of these derivatives results in reclassifications from accumulated other comprehensive loss to earnings for the period in which the settlement of these instruments occurs. The maximum period for which we hedge our cash flow using these instruments is

months. At March 31, 2021, no foreign currency forward contracts were designated as cash flow hedges.

The impact from foreign exchange derivative instrument

designated as cash flow hedges was as follows:


Quarters Ended March 31,	2021		2020
Gain recorded in accumulated other comprehensive loss	$	103	$	3,473
Loss reclassified from accumulated other comprehensive loss into earnings	$	333	$	157

At March 31, 2021, we expected an estimated $34

pre-tax

gain to be reclassified into earnings to reflect the fixed prices obtained from foreign exchange

hedging within the next 12 months.

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Derivatives Not Designated as Hedging Instruments

We have also entered into foreign currency forward and option contracts that are either not designated as hedges or did not qualify for hedge accounting. These derivative instruments were effective economic hedges for all of the periods presented. The fair value gains and losses on these contracts are recognized in earnings as a component of selling, general and administrative expenses. We had only one foreign currency exchange contract not designated as a hedging instrument at March 31, 2021, the total notional value of which was

$4,600,

and such contract subsequently expired in

April 2021.

We recognized gain

of $27 and $829 from foreign currency forward and option contracts not designated as hedging instruments in our condensed consolidated unaudited statements of income for the quarters ended March 31, 2021 and 2020, respectively.

The following table summarizes the fair value of derivative instruments, which consist solely of foreign exchange contracts, included in accrued expenses and other current liabilities in our condensed consolidated unaudited balance sheets. See Note 6.


	Asset Derivatives				Liability Derivatives
	March 31, 2021		December 31, 2020		March 31, 2021		December 31, 2020
Derivatives designated as hedging instruments	$	—	$	—	$	—	$	91
Derivatives not designated as hedging instruments		—		—		5		10

Total derivative instruments	$	—	$	—	$	5	$	101

6.	FAIR VALUE MEASUREMENTS

The following tables present our assets and liabilities carried at fair value that are measured on a recurring basis:


		Total		Fair Value Measurements at March 31, 2021 Using
	Balance Sheet Location	Total		Level 1		Level 2		Level 3
Assets:
Equity securities	Other assets	$	1,412	$	1,412	$	—	$	—
Liabilities:
Deriv a tive financial instruments	Accrued expenses and other current liabilities	$	5	$	—	$	5	$	—


				Fair Value Measurements at December 31, 2020 Using
	Balance Sheet Location	Total		Level 1		Level 2		Level 3
Assets:
Equity securities	Other assets	$	6,065	$	6,065		—		—
Liabilities:
Derivative financial instruments	Accrued expenses and other current liabilities	$	101		—	$	101		—

The following is a description of the valuation techniques used for these assets and liabilities, as well as the level of input used to measure fair value:

Equity securities

– these investments are exchange-traded equity securities. Fair values for these investments are based on closing stock prices from active markets and are therefore classified within Level 1 of the fair value hierarchy.

Derivative financial instruments

– these derivatives are foreign currency forward and option contracts. See Note 5. Fair value is based on observable market inputs, such as forward rates in active markets; therefore, we classify these derivatives within Level 2 of the valuation hierarchy.

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7.	SHAREHOLDERS’ EQUITY

Common Stock Dividends

We paid cash dividends of $1.775 and $1.60

per share of both Common and Class B common stock during the quarters ended March 31, 2021 and 2020, respectively.

Non-Vested

Restricted Stock

There were no shares of

non-vested

restricted stock that vested during the quarter ended March 31, 2021. During the quarter ended March 31, 2020,

4,828

shares of Common and Class B common stock with an aggregate fair market value of

$791

were withheld as payment in lieu of cash to satisfy tax withholding obligations in connection with the vesting of restricted stock. These shares were retired upon delivery.

Exerci

e of Stock Options

Cash received from the exercis

of stock options during the quarters ended March 31, 2021 and 2020 was $3,469 and $2,188, respectively.

Employee Stock Purchase Plan

During the quarters ended March 31, 2021 and 2020, we received net proceeds of $405 and $353, respectively, for shares of our Common stock purchased under our employee stock purchase plan.

8.	COMMITMENTS AND CONTINGENCIES

Litigation, Claims and Assessments

We are involved in litigation incidental to the operation of our business. We vigorously defend all matters in which we or our subsidiaries are named defendants and, for insurable losses, maintain significant levels of insurance to protect against adverse judgments, claims or assessments that may affect us. Although the adequacy of existing insurance coverage and the outcome of any legal proceedings cannot be predicted with certainty, based on the current information available, we do not believe the ultimate liability associated with any known claims or litigation will have a material adverse effect on our financial condition or results of operations.

Self-Insurance

Self-insurance reserves are maintained relative to company-wide casualty insurance and health benefit programs. The level of exposure from catastrophic events is limited by the purchase of stop-loss and aggregate liability reinsurance coverage. When estimating the self-insurance liabilities and related reserves, management considers a number of factors, which include historical claims experience, demographic factors, severity factors, and valuations provided by independent third-party actuaries. Management reviews its assumptions with its independent third-party actuaries to evaluate whether the self-insurance reserves are adequate. If actual claims or adverse development of loss reserves occur and exceed these estimates, additional reserves may be required. Reserves in the amounts of $6,453 and $5,404 at March 31, 2021 and December 31, 2020, respectively, were established related to such programs and are included in accrued expenses and other current liabilities in our condensed consolidated unaudited balance sheets.

9.	RELATED PARTY TRANSACTIONS

Purchases from Carrier and its affiliates comprised 61% and 57% of all inventory purchases made during the quarters ended March 31, 2021 and 2020, respectively. At March 31, 2021 and December 31, 2020, approximately $140,000 and $81,000, respectively, was payable to Carrier and its affiliates, net of receivables.

also sell HVAC products to Carrier and its affiliates. Revenues in our condensed consolidated unaudited statements of income for the quarters ended March 31, 2021 and 2020 included approximately $23,000 and $22,000, respectively, of sales to Carrier and its affiliates. We believe these transactions are conducted on terms equivalent to an arm’s-length basis in the ordinary course of business.

A member of our Board of Directors is the Senior Chairman of Greenberg Traurig, P.A., which serves as our principal outside counsel for compliance and acquisition-related legal services. During the quarters ended March 31, 2021 and 2020, fees to this firm for services performed were $

and $

, respectively. At March 31, 2021 and December 31, 2020, $

and $

, respectively, was payable to this firm.

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10.	SUBSEQUENT EVENT

On April 9, 2021, we acquired certain assets and assumed certain liabilities comprising the HVAC distribution business of Temperature Equipment Corporation, an HVAC distributor operating from

locations in Illinois, Indiana, Kansas, Michigan, Minnesota, Missouri and Wisconsin. We formed a new, stand-alone joint venture with Carrier, TEC Distribution LLC (“TEC”), that will operate this business. We have an

controlling interest in TEC and Carrier has a

non-controlling interest. Consideration for the purchase was paid in cash, consisting of

105,200

paid to Temperature Equipment Corporation (Carrier contributed

21,040

and we contributed $

84,160

) and $

1,497

for repayment of indebtedness

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Statements

This Quarterly Report on Form

10-Q

contains or incorporates by reference statements that are not historical in nature and that are intended to be, and are hereby identified as, “forward-looking statements” as defined in the Private Securities Litigation Reform Act of 1995. Statements which are not historical in nature, including the words “anticipate,” “estimate,” “could,” “should,” “may,” “plan,” “seek,” “expect,” “believe,” “intend,” “target,” “will,” “project,” “focused,” “outlook,” “goal,” “designed,” and variations of these words and negatives thereof and similar expressions are intended to identify forward-looking statements, including statements regarding, among others, (i) economic conditions, (ii) business and acquisition strategies, (iii) potential acquisitions and/or joint ventures and investments in unconsolidated entities, (iv) financing plans, and (v) industry, demographic and other trends affecting our financial condition or results of operations. These forward-looking statements are based on management’s current expectations, are not guarantees of future performance and are subject to a number of risks, uncertainties, and changes in circumstances, certain of which are beyond our control. Actual results could differ materially from these forward-looking statements as a result of several factors, including, but not limited to:

•

general economic conditions, both in the United States and in the international markets we serve;

•

competitive factors within the HVAC/R industry;

•

effects of supplier concentration;

•

fluctuations in certain commodity costs;

•

consumer spending;

•

consumer debt levels;

•

the continued impact of the

COVID-19

pandemic;

•

new housing starts and completions;

•

capital spending in the commercial construction market;

•

access to liquidity needed for operations;

•

seasonal nature of product sales;

•

weather patterns and conditions;

•

insurance coverage risks;

•

federal, state, and local regulations impacting our industry and products;

•

prevailing interest rates;

•

foreign currency exchange rate fluctuations;

•

international risk;

•

cybersecurity risk; and

•

the continued viability of our business strategy.

We believe these forward-looking statements are reasonable; however, you should not place undue reliance on any forward-looking statements, which are based on current expectations. For additional information regarding important factors that may affect our operations and could cause actual results to vary materially from those anticipated in the forward-looking statements, please see the discussion below under Impact of

COVID-19

Pandemic and Item 1A “Risk Factors” of our Annual Report on Form

10-K

for the year ended December 31, 2020, as well as the other documents and reports that we file with the SEC. Forward-looking statements speak only as of the date the statements were made. We assume no obligation to update forward-looking information or the discussion of such risks and uncertainties to reflect actual results, changes in assumptions, or changes in other factors affecting forward-looking information, except as required by applicable law. We qualify any and all of our forward-looking statements by these cautionary factors.

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The following information should be read in conjunction with the condensed consolidated unaudited financial statements, including the notes thereto, included under Part I, Item 1 of this Quarterly Report on Form

10-Q.

In addition, reference should be made to our audited consolidated financial statements and notes thereto, and related Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form

10-K

for the year ended December 31, 2020.

Company Overview

Watsco, Inc. was incorporated in Florida in 1956, and, together with its subsidiaries (collectively, “Watsco,” or “we,” “us,” or “our”) is the largest distributor of air conditioning, heating, and refrigeration equipment, and related parts and supplies (“HVAC/R”) in the HVAC/R distribution industry in North America. At March 31, 2021, we operated from 601 locations in 38 U.S. States, Canada, Mexico, and Puerto Rico with additional market coverage on an export basis to portions of Latin America and the Caribbean.

Revenues primarily consist of sales of air conditioning, heating, and refrigeration equipment, and related parts and supplies. Selling, general and administrative expenses primarily consist of selling expenses, the largest components of which are salaries, commissions, and marketing expenses that are variable and correlate to changes in sales. Other significant selling, general and administrative expenses relate to the operation of warehouse facilities, including a fleet of trucks and forklifts, and facility rent, a majority of which we operate under

non-cancelable

operating leases.

Sales of residential central air conditioners, heating equipment, and parts and supplies are seasonal. Furthermore, profitability can be impacted favorably or unfavorably based on weather patterns, particularly during the Summer and Winter selling seasons. Demand related to the residential central air conditioning replacement market is typically highest in the second and third quarters, and demand for heating equipment is usually highest in the first and fourth quarters. Demand related to the new construction sectors throughout most of the markets we serve tends to be fairly evenly distributed throughout the year and depends largely on housing completions and related weather and economic conditions.

Impact of the

COVID-19

Pandemic

For certain periods of the

COVID-19

pandemic thus far, some U.S. states had been under executive orders requiring that all workers remain at home unless their work was critical, essential, or life-sustaining. We believe that, based on the various standards published to date, the work our employees perform is essential, and as such we continued to operate with certain modifications during these periods. Some of our locations experienced short-term closures for

COVID-19

employee health concerns or operated at a diminished capacity, which negatively impacted our business during March and April of 2020. At the end of the second quarter of 2020, many of the markets in which we operate had begun to ease

COVID-19

restrictions that had been in place earlier in the period. However, during the second half of 2020, viral infections began to increase, resulting in the resumption of restrictions in certain markets in which we operate. Although we have learned to navigate

COVID-19

while maintaining our operations in all material respects, the pandemic continued to impact our business and operating results in the first quarter of 2021.

Consistent with broader social trends, we have taken steps to safeguard the health of our employees and customers. This has included creating space between work areas, providing ample personal protective equipment and cleaning supplies, having formal policies for mitigation in the event of cases of illness, utilizing technologies where work duties enable working from home, and instituting contactless sales and servicing capabilities at many of our locations to create social distancing. As of the date of this filing, all of our locations are operating, and, due to these precautions, have been functioning effectively, including our internal controls over financial reporting. In light of the continued high rate of viral infections that exists as of the date of this filing, there remains significant uncertainty concerning the magnitude of the impact and duration of the

COVID-19

pandemic.

In response to the pandemic, we implemented plans intended to preserve adequate liquidity and ensure that our business continued to operate during this uncertain time. In addition, we have taken actions to reduce costs, including reductions in compensation, rent abatement, changes to vendor terms and other austerity measures to curtail discretionary spending in light of the circumstances. Other costs, including hourly wages, overtime, sales commissions, temporary labor, performance-based compensation, advertising, and delivery expenses are expected to vary in correlation with our overall business activity. As restrictions ease and normal economic conditions and operations r

SEC Form 10-Q filed by Watsco, Inc.