paid for income taxes for discontinued operations for the three months ended September 30, 2006 and 2007 was less than $0.1 million and zero, respectively. Cash paid for interest for both the nine months ended September 30, 2006 and 2007 was approximately $0.4 million. Cash paid for income taxes for continuing operations for the nine months ended September 30, 2006 and 2007 was approximately $12.1 million and $11.1 million, respectively. Cash paid for income taxes for discontinued operations for the ninethree months ended September 30, 2006March 31, 2007 and 20072008 was $7.1approximately $1.1 million and zero,$0.7 million, respectively. The taxes paid for discontinued operations for 2006 related to the sale in 2005

COMFORT SYSTEMS USA, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

March 31, 2008

(Unaudited)

2. Summary of two operations to Automated Logic Corporation and Automated Logic Contracting Services, Inc. These taxes are included in the caption "Taxes paid related to the sale of businesses" in the accompanying consolidated statement of cash flows.Significant Accounting Policies (Continued)

Segment Disclosure

        Comfort Systems'Our activities are within the mechanical services industry which is the single industry segment served by the Company.we serve. Under Statement of Financial Accounting Standards ("SFAS") No. 131, "Disclosures About Segments of an Enterprise and Related Information," each operating subsidiary represents an operating segment and these segments have been aggregated, as no individual operating unit is material and the operating units meet a majorityall of SFAS No. 131's aggregation criteria.

Use of Estimates

        The preparation of financial statements in conformity with generally accepted accounting principles requires the use of estimates and assumptions by management in determining the reported amounts of assets and liabilities, revenues and expenses and disclosures regarding contingent assets and liabilities. Actual results could differ from those estimates. The most significant estimates used in the Company'sour financial statements affect revenue and cost recognition for construction contracts, the allowance for doubtful accounts, self-insurance accruals, deferred tax assets, warranty accruals, and the quantification of fair value for reporting units in connection with the Company'sour goodwill impairment testing.

Income Taxes

        The Company filesWe file a consolidated return for federal income tax purposes. Income taxes are provided for under the liability method in accordance with SFAS No. 109, "Accounting for Income Taxes," which takes into account differences between financial statement treatment and tax treatment of certain transactions. Deferred tax assets represent the tax effect of activity that has been reflected in the financial statements but which will not be deductible for tax purposes until future periods. Deferred tax liabilities represent the tax effect of activity that has been reflected in the financial statements but which will not be taxable until future periods.

        The CompanyWe regularly evaluatesevaluate valuation allowances established for deferred tax assets for which future realization is uncertain. The Company performs a detailedWe perform this evaluation and calculation annually. The Company reviews the assumptions each quarter to determine if a detailed calculation needs to be prepared for a specific quarter. Estimations of required valuation allowances include estimates of future taxable income. The ultimate realization of deferred tax assets is dependent upon the generation of

future taxable income during the periods in which the activity underlying these assets becomes deductible. The Company considersWe consider projected future taxable income and tax planning strategies in making this assessment. If actual future taxable income is less than the estimates, the Companywe may not realize all or a portion of the recorded deferred tax assets.

        TheOur effective tax rate associated with results from continuing operations for the first nine months of 2007 was 38.5%, compared to 39.0% in 2006. Historically, the Company's effective tax rate wasis generally higher than the federal statutory rates because of the effect of certain expenses that were not deductible for tax purposes. However, in the current year, the increase in the deduction for certain construction-related activities and the Company's tax-exempt interest income has allowed the effective tax rate to be lower than statutory rates. The effective tax rate for the first nine months of 2007 is lower than 2006 primarily due to an increasestate taxes.

Financial Instruments

        We consider our marketable securities as available-for-sale as defined in SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities" ("SFAS No. 115"). These investments are recorded at fair value and are classified as marketable securities in the production activity deduction and a changeaccompanying consolidated balance sheet as of March 31, 2008. The changes in expected tax expense in a certain jurisdiction. Adjustments to tax reservesfair values, net of applicable taxes, are analyzed quarterly

COMFORT SYSTEMS USA, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

March 31, 2008

(Unaudited)

2. Summary of Significant Accounting Policies (Continued)

recorded as events occur to warrant such changes and areunrealized gains (losses) as a component of the effective tax rate.accumulated other comprehensive income in stockholders' equity.

New Accounting Pronouncements

        In JuneSeptember 2006, the FASB issued Statement No. 157, "Fair Value Measurements ("Statement 157")," effective for fiscal years beginning after November 15, 2007. Statement 157 provides guidance for using fair value to measure assets and liabilities. The statement applies whenever other standards require (or permit) assets or liabilities to be measured at fair value. The statement does not expand the use of fair value in any new circumstances. On February 12, 2008, the FASB Interpretationissued FASB Staff Position No. 48, "Accounting for Uncertainty in Income Taxes" ("FIN 48"). FIN 48 is an interpretation157-2, "Effective Date of FASB Statement No. 109, "Accounting157" ("FSP 157-2") that amends Statement 157 to delay the effective date for Income Taxes,"all non-financial assets and it seeksnon-financial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis. FSP 157-2 defers the effective date of Statement 157 to reduce the diversity in practice associated with certain aspects of measurement and recognition in accounting for income taxes. In addition, FIN 48 requires expanded disclosure with respect to the uncertainty in income taxes. The Companyfiscal years beginning after November 15, 2008. We adopted FIN 48 effectiveStatement 157 on January 1, 2007.2008 for financial assets and liabilities measured on a recurring basis. See Note 7.3.

        In December 2007, the FASB issued Statement No. 141(Revised 2007), "Business Combinations"("Statement 141(R))." Statement 141(R) requires an acquiring entity to recognize all the assets acquired and liabilities assumed in a transaction at the acquisition-date fair value with limited exceptions. Statement 141(R) also changes the accounting treatment for certain specific items. Statement 141(R) applies prospectively to business combinations for which the acquisition date is on or after the first annual reporting period beginning on or after December 15, 2008. We will adopt the provisions of Statement 141(R) for business combinations on January 1, 2009.

Reclassifications

        Certain reclassifications have been made in prior period financial statements to conform to current period presentation. These reclassifications have not resulted in any changes to previously reported net income for any periods.

3. AcquisitionFair Value Measurements

        We adopted Statement 157 effective January 1, 2008 for financial assets and liabilities measured on a recurring basis. Statement 157 applies to all financial assets and financial liabilities that are being measured and reported on a fair value basis. There was no impact upon adoption of Statement 157 to the consolidated financial statements.

        Statement 157 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions. As of March 31, 2008, we held marketable securities that are required to be measured at fair value on a recurring basis. We had no investments in marketable securities as of December 31, 2007.

COMFORT SYSTEMS USA, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

March 31, 2008

(Unaudited)

3. Fair Value Measurements (Continued)

        As of March 31, 2008, our marketable securities consisted of $18.5 million of auction rate securities, which are variable rate debt instruments, having long-term maturities, but whose interest rates are designed to reset through an auction process, at intervals ranging from seven to 35 days. All of our auction rate securities are high quality municipal obligations which have AAA ratings or otherwise are backed by AAA rated insurance agencies as of March 31, 2008. In April 2008, we sold $5.8 million of these auction rate securities at face value and an additional $1.0 million has been called; these are classified as current in the consolidated balance sheet. The remaining $11.7 million has been classified as a noncurrent asset on the consolidated balance sheet as we have the intent and ability to hold these securities until the market for auction rate securities stabilizes or until the issuer refinances the underlying security.

        Due to recent events in credit markets, the auction events for some of these instruments failed during the first quarter of 2008. As a result of the temporary declines in fair value for our auction rate securities, which we attribute to liquidity issues rather than credit issues, we recorded an unrealized loss of $0.1 million to accumulated other comprehensive income. Our analysis of the fair values of these securities considered, among other items, the creditworthiness of the counterparty, the timing of expected future cash flows, and the expectation of the next time the security is expected to have a successful auction. These securities were also compared, when possible, to other observable market data with similar characteristics.

        As of March 31, 2008, we continue to collect interest when due on all of our auction rate securities. Any future fluctuation in fair value related to these instruments that we deem to be temporary, including any recoveries of previous write-downs, would be recorded to accumulated other comprehensive income. If we determine that any future valuation adjustment was other than temporary, we would record a charge to earnings as appropriate.

        The assets measured at fair value on a recurring basis subject to the disclosure requirements of Statement 157 at March 31, 2008 were as follows (in thousands):

4. Acquisitions

        On March 3, 2008, we completed the acquisition of Merit Mechanical Services ("Merit"), a full service commercial HVAC company based in Redmond, Washington. The total consideration for this transaction was $6.2 million, comprised of $3.6 million of cash, a note payable to the sellers of $2.0 million, and a holdback of $0.6 million. Additional contingent purchased price ("earn-out"), capped at $2.1 million will be paid if Merit achieves certain profitability targets. Our consolidated balance sheet as of March 31, 2008 includes a preliminary allocation of the purchase price to the assets

COMFORT SYSTEMS USA, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

March 31, 2008

(Unaudited)

4. Acquisitions (Continued)

acquired and liabilities assumed based on estimates of fair value. The results of operations of Merit Mechanical are included in our consolidated financial statements from March 4, 2008 through March 31, 2008.

        On February 29, 2008, we completed the acquisition of Riddleberger Brothers ("Riddleberger"), a full service commercial HVAC company based in Mount Crawford, Virginia. The total consideration for this transaction was $34 million, comprised of $23 million of cash and a note payable to the seller for $11 million. Additional contingent purchase price ("earn-out"), capped at $9.0 million will be paid if Riddleberger achieves certain profitability targets. Our consolidated balance sheet as of March 31, 2008 includes a preliminary allocation of the purchase price to the assets acquired and liabilities assumed based on estimates of fair value. The results of operations of Riddleberger are included in our consolidated financial statements from March 1, 2008 through March 31, 2008.

        On October 1, 2007, we completed the acquisition of Air Systems Engineering, Inc. ("Air Systems"), an HVAC contractor based in Tacoma, Washington. The total consideration paid in this transaction was approximately $5.6 million, comprised of $3.6 million of cash, a contingent payment of $0.3 million, assumed capital lease obligations of $0.2 million and a note payable to the seller for $1.5 million. Our consolidated balance sheets include a preliminary allocation of the purchase price to the assets acquired and liabilities assumed based on estimates of fair value. The results of Air Systems are included in our consolidated financial statements from October 1, 2007 through March 31, 2008.

        On March 9, 2007, the Companywe completed the acquisition of Madera Mechanical Company ("Madera"), an HVAC contractor based in Tucson, Arizona. The total consideration paid in this transaction was approximately $4.5$5.4 million, comprised entirelyof $5.2 million of cash lessand a holdbackcontingent payment of $0.2 million, net of cash acquired.million. The consolidated balance sheet of Comfort Systems includes a preliminarysheets include an allocation of the purchase price to the assets acquired and liabilitiesliability assumed based on estimates of fair value. The results of operations of Madera are included in the Company'sour consolidated financial statements from March 10,9, 2007 through September 30, 2007.

4. Discontinued OperationsMarch 31,2008.

        SaleAs of Assets to Mesa Energy Systems, Inc.—On June 1, 2006,March 31, 2008, we had $82.5 million and $14.4 million, respectively, of goodwill and net identifiable intangible assets (primarily based on the Company along with its wholly-owned subsidiary, ARC Comfort Systems USA, Inc. ("ARC")market values of our contract backlog, customer relationships, non-competition agreements and trade names), entered into an asset purchase agreement to sell certain assetsprimarily arising out of ARC to Mesa Energy Systems, Inc. (a subsidiarythe acquisition of Emcor

Group, Inc.) for approximately $0.7 million in cash. Thesecompanies. As of December 31, 2007, goodwill and net identifiable intangible assets were sold at book value.$68.6 million and $2.2 million, respectively. The Company recorded a tax benefitincreases in goodwill and net identifiable intangible assets (net of approximately $0.2 million during the second quarter of 2006. This is included under the caption "Estimated gain on disposition including income tax benefit." The Company shut down the remaining operations of ARC during the third quarter of 2006. The after-tax loss of this company of $0.2 million for the first nine months of 2006 has been reported in discontinued operations under "Operating loss, net of income tax benefit."

Sale of Companies to ALC—Onaccumulated amortization) since December 31, 2005, the Company sold two operations to Automated Logic Corporation and Automated Logic Contracting Services, Inc. (together, "ALC") for approximately $22.9 million in cash, net of transaction costs and a purchase price adjustment based upon the closing balance sheet for the transferred assets. The receivable2007 were related to this sale was paidthe acquisitions of Riddleberger and Merit during the first quarter of 2006. The Company paid $7.02008, pending completion of final valuation and purchase price adjustments. As of March 31, 2008, we have accrued contingent payments of approximately $1.1 million in taxes related to this transaction during the first quarter of 2006.

        Assets and liabilities related to discontinued operations are as follows (in thousands):

        Revenues and pre-tax loss related to the operations discontinued in 2006 are as follows (in thousands):

        The Company's consolidated statements of operations and the related earnings per share amounts have been restated to reflect the effects of the discontinued operations. No interest expense is allocated to discontinued operations.

Sale of Companies to Emcor—In March 2002, the Company sold 19 operations to Emcor Group, Inc. ("Emcor"). The total purchase price was $186.25 million, including the assumption by Emcor of approximately $22.1 million of subordinated notes to former owners of certain of the divested companies. Of Emcor's purchase price, $5 million was deposited into an escrow account to secure

potential obligations on the Company's part to indemnify Emcor for future claims and contingencies arising from events and circumstances prior to closing, all as specified in the transaction documents. Of this escrow, $4 million has been applied in determining the Company's liability to Emcor in connection with the settlement of certain claims. The remaining $1 million of escrow is available for book purposes to apply to any future claims and contingencies in connection with this transaction, and has not been recognized as part of the Emcor transaction purchase price.

        There are ongoing open matters relating to this transaction that the Company continues to address with Emcor. The Company does not believe these open matters, either individually or in the aggregate, will have a material effect on the Company's financial position when ultimately resolved. The Company maintains reserves for these matters, net of amounts receivable from escrow that it believes will ultimately be applied in settling these matters.acquisitions.

5. Restructuring Charges

        The CompanyWe recorded restructuring charges of approximately $3.2 million pre-tax in 2003. These charges included approximately $1.5 million for severance costs and retention bonuses primarily associated with the curtailment of the Company'sour energy efficiency marketing activities, a reorganization of the Company'sour national accounts operations and a reduction in corporate personnel. The restructuring charges for this period also included approximately $1.6 million for remaining lease obligations and $0.1 million of other costs

COMFORT SYSTEMS USA, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

March 31, 2008

(Unaudited)

5. Restructuring Charges (Continued)

recorded in connection with the actions described above. The CompanyWe increased itsthe accrual for these remaining lease obligations by $0.6 million in 2004, $0.3 million in 2005, $0.1 million in 2006 and approximately $64,000$34,000 in 2007, based on revised estimates of when and to what extent it believes itwe believe we can sublease the related facilities. These increases to the accrual were included in "Cost of Services" and in "Selling, General and Administrative Expenses" in the Company'sour consolidated statement of operations. Accrued lease termination costs remaining from past restructuring charges are expected to be completed by 2009.

        The following table shows the remaining liabilities associated with the cash portion of the restructuring charges as of December 31, 20062007 and September 30, 2007 (inMarch 31, 2008(in thousands):

---

(a)

These charges were included in "Cost of Services" and in "Selling, General and Administrative Expenses" in the Company'sour consolidated statement of operations.

6. Long-Term Debt Obligations

        Long-term debt obligations consist of the following (in thousands):

        On February 20, 2007, the Company amended itsWe have a $100.0 million senior credit facility ("the Facility"(the "Facility"). The Facility consists provided by a syndicate of a $100.0 million revolving credit facilitybanks which is available for borrowings and letters of credit. The Facility expires in February 2012 and is secured by substantially allthe capital stock of the assets of the Company except for assets related to projects subject to surety bonds.our current and future subsidiaries. As of September 30, 2007,March 31, 2008, the total of the Facility was $100.0 million, with no outstanding borrowings, $27.3$37.8 million in letters of credit outstanding, and $72.7$62.2 million of credit available.

        The Company hasWe have a choice of two interest rate options for borrowings under the Facility; these rates are floating rates determined by the broad financial markets, meaning they can and do move up and down from time to time. The Company estimatesWe estimate that the interest rate applicable to the borrowings under the Facility would be approximately 6.37%3.95% as of September 30, 2007.March 31, 2008. Commitment fees are payable on the portion of the revolving loan capacity not in use for borrowings or letters of credit at any given time. These fees

COMFORT SYSTEMS USA, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

March 31, 2008

(Unaudited)

6. Long-Term Debt Obligations (Continued)

range from 0.20%-0.30% per annum, based on the ratio of debt to Credit Facility Adjusted EBITDA, as defined in the credit agreement.

        The Facility contains financial covenants defining various financial measures and the levels of these measures with which the Companywe must comply. The Company isWe are in compliance with all the financial covenants as of September 30, 2007.March 31, 2008.

Notes to Former Owners

        We issued a subordinated note to the former owner of Merit, as part of the consideration used to acquire the company. This note had an outstanding balance of $2.0 million as of March 31, 2008. This note bears interest, payable annually, at a weighted average interest rate of 6.0%.

        We issued a subordinated note to the former owner of Riddleberger, as part of the consideration used to acquire the company. This note had an outstanding balance of $11.0 million as of March 31, 2008. This note bears interest, payable quarterly, at a weighted average interest rate of 6.0%.

        We issued a subordinated note to the former owner of Air Systems as part of the consideration used to acquire the company. This note had an outstanding balance of $1.5 million as of March 31, 2008. This note bears interest, payable quarterly, at a weighted average interest rate of 6.0%.

7. Income Taxes

        The Company adopted the provisions of FIN 48 on January 1, 2007. As a result of the implementation of FIN 48, the Company recognized an increase of approximately $40,000 in the liability for unrecognized tax benefits, which was accounted for as a decrease to the January 1, 2007 balance of retained earnings. As of the date of adoption and after the impact of recognizing the increase in the liability noted above, the Company's unrecognized tax benefits totaled $0.9 million.

        The Company recognizes potential accrued interest and penalties related to unrecognized tax benefits in income tax expense. In conjunction with the adoption of FIN 48, the Company recognized approximately $0.1 million for the payment of interest and penalties at January 1, 2007, which is included as a component of the $0.9 million unrecognized tax benefit noted above. The Company's tax records are subject to review by the Internal Revenue Service for the 2004 tax year forward and by various state authorities for the 2000 tax year forward.

8. Commitments and Contingencies

Claims and Lawsuits

        The Company isWe are subject to certain claims and lawsuits arising in the normal course of business. The Company maintainsWe maintain various insurance coverages to minimize financial risk associated with these claims. The Company hasWe have estimated and provided accruals for probable losses and related legal fees associated with certain of its litigation in the accompanying consolidated financial statements. While the Companywe cannot predict the outcome of these proceedings, in management's opinion and based on reports of counsel, any liability arising from these matters individually and in the aggregate will not have a material effect on the Company'sour operating results or financial condition, after giving effect to provisions already recorded.

        In addition to the matters described above, we have accrued $4.4 million for potential and asserted backcharges from several customers of our large multi-family operation based in Texas. The accrual is included in "Other Current Liabilities". We believe these accruals reflect a probable outcome with respect to such backcharges and potential backcharges, however, if we are not successful in resolving these disputes, we may in the future experience a material adverse effect on our operating results.

Surety

        Many customers, particularly in connection with new construction, require the Companyus to post performance and payment bonds issued by a financial institution known as a surety. If the Company failswe fail to perform under the terms of a contract or to pay subcontractors and vendors who provided goods or services under a contract, the customer may demand that the surety make payments or provide services under the bond. The CompanyWe must reimburse the suretiessurety for any expenses or outlays they incur.it incurs. To date, the Company iswe are not aware of any

COMFORT SYSTEMS USA, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

March 31, 2008

(Unaudited)

7. Commitments and Contingencies (Continued)

losses to itsour sureties in connection with bonds the sureties have posted on the Company'sour behalf, and doesdo not expect such losses to be incurred in the foreseeable future.

        Surety market conditions remain challenging as a result of significant losses incurred by many sureties in recent periods, both in the construction industry as well as in certain larger corporate bankruptcies. As a result, less bonding capacity is available in the market and terms have become more restrictive. Further, under standard terms in the surety market, sureties issue bonds on a project-by-project basis, and can decline to issue bonds at any time. Historically, approximately 25% to 30% of the Company'sour business has required bonds. While the Company haswe have enjoyed a long standinglongstanding relationship with its primary surety and hashave added another surety to further support itsour bonding needs, current market conditions as well as changes in the sureties' assessment of the Company'sour operating and financial risk could cause the sureties to decline to issue bonds for the Company'sour work. If that were to occur, the alternatives include doing more business that does not require bonds, posting other forms of collateral for project performance such as letters of credit or cash, and seeking bonding capacity from other sureties. The CompanyWe would likely also encounter concerns from customers, suppliers and other market participants as to itsour creditworthiness. While the Company believes itswe believe our general operating and financial characteristics, including a significant amount of cash on itsour balance sheet, would enable itus to ultimately respond effectively to an interruption in the availability of bonding capacity, such an interruption would likely cause the Company'sour revenues and profits to decline in the near term.

Self-Insurance

        The Company isWe are substantially self-insured for worker's compensation, employer's liability, auto liability, general liability and employee group health claims, in view of the relatively high per-incident deductibles the Company absorbswe absorb under itsour insurance arrangements for these risks. Losses up to

deductible amounts are estimated and accrued based upon known facts, historical trends and industry averages. Loss estimates associated with the larger and longer-developing risks, such as worker's compensation, auto liability and general liability, are reviewed by a third-party actuary quarterly.

        The Company'sOur self-insurance arrangements currently are as follows:

        Worker's Compensation—The per-incident deductible for worker's compensation is $250,000. The next layer, $250,000 in excess of $250,000, is covered by the corridor deductible policy explained below. Losses above $500,000 are determined by statutory rules on a state-by-state basis, and are fully covered by excess worker's compensation insurance.

        General and Employer's Liability—For general liability and employer's liability, the per incident deductible is $250,000. The next layer, $250,000, in excess of $250,000 is covered by the corridor deductible policy explained below. The Company isWe are fully insured for the next $500,000 of each loss, then hashave a single, aggregate excess loss insurance policy that covers losses up to $50 million across both these risk areas (as well as auto liability noted below).

General Liability—For general liability, the per incident deductible is $500,000. We are fully insured for the next $500,000 of each loss, then have a single, aggregate excess loss insurance policy that covers losses up to $50 million across both these risk areas (as well as auto liability noted below).




COMFORT SYSTEMS USA, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

March 31, 2008

(Unaudited)

7. Commitments and Contingencies (Continued)

        Auto Liability—For auto liability, the per incident deductible is $250,000. The next layer, $250,000 in excess of $250,000, is covered by the corridor deductible policy explained below. The Company isWe are fully insured for the next $1.5 million of each loss, then hashave a single, aggregate excess loss insurance policy that covers losses up to $50 million.

        Corridor Deductible Policy—Worker's compensation, generalemployer's liability and auto liability claims that exceed $250,000 but are less than $500,000, are subject to the corridor deductible policy. This policy insures 100% of losses that fall in this layer, once aggregate retained losses within this layer reach $500,000.

        Employee Medical—The Company'sOur deductible for employee group health claims is $300,000 per person, per policy (calendar) year. Insurance then covers any Company responsibility for medical claims in excess of the deductible amount.

        It is important to note that the Company'sOur $50 million of aggregate excess loss coverage above applicable per-incident deductibles represents one policy limit that applies to all lines of risk. In other words, the Company doesrisk; we do not have a separate $50 million of excess loss coverage for each of general liability, employer's liability and auto liability.

9.8. Stockholders' Equity

Earnings Per Share

        Basic earnings per share ("EPS") is computed by dividing net income by the weighted average number of shares of common stock outstanding during the year. Diluted EPS is computed considering the dilutive effect of stock options and contingently issuable restricted stock.

        There were less thanUnder EPS calculation methods established by generally accepted accounting principles, including the effect of options whose exercise price exceeds the average market price of the Common Stock for a given period would increase calculated EPS. This impact is called "anti-dilutive." Generally accepted accounting principles for determining EPS require that any options or other common stock equivalents whose inclusion in determining EPS would have an anti-dilutive effect be excluded. Accordingly, options to purchase 0.1 million shares of Common Stock at prices ranging from $12.75 to $21.125 per share which were outstanding for the three months ended March 31, 2007 and 0.1options to purchase 0.4 million anti-dilutive stock options thatshares at prices ranging from $11.94 to $21.125 per share which were required to be excluded fromoutstanding for the calculationthree months ended March 31, 2008, were not included in the computation of diluted EPS for the three and nine months ended September 30, 2007, respectively. Therebecause they were 0.1 million anti-dilutive stock options that were required to be excludedanti-dilutive.

from the calculation of diluted EPS for both the three and nine months ended September 30, 2006, respectively.COMFORT SYSTEMS USA, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

March 31, 2008

(Unaudited)

8. Stockholders' Equity (Continued)

        The following table reconciles the number of shares outstanding with the number of shares used in computing basic and diluted earnings per share for each of the periods presented (in thousands):

---

(a)

Excludes 248,000408,203 and 312,532470,716 shares of unvested contingently issuable restricted stock outstanding as of September 30, 2006March 31, 2007 and 2007,2008, respectively.

Share Repurchase Program

        On March 29, 2007, theour Board of Directors (the "Board") approved a stock repurchase program to acquire up to one million shares of the Company'sits outstanding common stock. On November 16, 2007, the Board approved an extension of our stock repurchase program to cover an additional 401,200 shares of our outstanding common stock. On February 27, 2008, the Board approved an extension of our stock repurchase program to cover an additional 712,083 shares of our outstanding common stock.

        The share repurchases will be made from time to time at the Company'sour discretion in the open market or privately negotiated transactions as permitted by securities laws and other legal requirements, and subject to market conditions and other factors. The Company's Board of Directors may modify, suspend, extend or terminate the program at any time. The CompanyWe repurchased 261,300337,483 shares for the ninethree months ended September 30, 2007.March 31, 2008.

10.9. Subsequent Event—Event

        On OctoberApril 1, 2007, the Company2008 we completed the acquisition of Conditioned Air Systems Engineering, Inc,Mechanical Services ("Air Systems"Conditioned Air") an, a commercial HVAC contractorcompany based in Tacoma, Washington.Phoenix, Arizona. The total consideration paid infor this transaction was approximately $5.8$7.0 million, comprised of $5.0 million of cash and a note payable to the seller for $1.5of $2.0 million.

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

        The following discussion should be read in conjunction with our historical Consolidated Financial Statements and related notes thereto included elsewhere in this Form 10-Q and the Annual Report on Form 10-K as filed with the Securities and Exchange Commission for the year ended December 31, 20062007 (the "Form 10-K"). This discussion contains "forward-looking statements" regarding our business and industry within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are based on our current plans and expectations and involve risks and uncertainties that could cause our actual future activities and results of operations to be materially different from those set forth in the forward-looking statements. Important factors that could cause actual results to differ include risks set forth in "Item 1A. Company Risk Factors" included in our Form 10-K. The terms "Comfort Systems," "we," "us," or "the Company," refer to Comfort Systems USA, Inc. or Comfort Systems USA, Inc. and its consolidated subsidiaries, as appropriate in the context.

Introduction and Overview

        We are a national provider of comprehensive HVAC installation, maintenance, repair and replacement services within the mechanical services industry. The services we provide address a very broad need, as air is circulated through almost all commercial, industrial and institutional buildings virtually year-round. We operate primarily in the commercial, industrial and institutional HVAC markets and perform most of our services within office buildings, retail centers, apartment complexes, manufacturing plants, and healthcare, education and government facilities. In addition to standard HVAC services, we provide specialized applications such as building automation control systems, fire protection, process cooling, electronic monitoring and process piping. Certain locations also perform related activities such as electrical service and plumbing.

Nature and Economics of Our Business

        Approximately 85%87% of our revenues are earned on a project basis for installation of HVAC systems in newly constructed facilities or for replacement of HVAC systems in existing facilities. Customers hire us to ensure such systems deliver specified or generally expected heating, cooling, conditioning and circulation of air in a facility. This entails installing core system equipment such as packaged heating and air conditioning units, or in the case of larger facilities, separate core components such as chillers, boilers, air handlers, and cooling towers. We also typically install connecting and distribution elements such as piping and ducting. Our responsibilities usually require conforming the systems to pre-established engineering drawings and equipment and performance specifications, which we frequently participate in establishing. Our project management responsibilities include staging equipment and materials to project sites, deploying labor to perform the work, and coordinating with other service providers on the project, including any subcontractors we might use to deliver our portion of the work.

        When competing for project business, we usually estimate the costs we will incur on a project, then propose a bid to the customer that includes a contract price and other performance and payment terms. Our bid price and terms are intended to cover our estimated costs on the project and provide a profit margin to us commensurate with the value of the installed system to the customer, the risk that project costs or duration will vary from estimate, the schedule on which we will be paid, the opportunities for other work that we might forego by committing capacity to this project, and other costs that we incur more broadly to support our operations but which are not specific to the project. Typically customers will seek bids from competitors for a given project. While the criteria on which customers select the winning bid vary widely and include factors such as quality, technical expertise, on-time performance, post-project support and service, and company history and financial strength, we believe that price is the most influential factor for most customers in choosing an HVAC installation and service provider.

        After a customer accepts our bid, we generally enter into a contract with the customer that specifies what we will deliver on the project, what our related responsibilities are, and how much and when we will be paid. Our overall price for the project is typically set at a fixed amount in the contract, although changes in project specifications or work conditions that result in unexpected additional work are usually subject to additional payment from the customer via what are commonly known as change orders. Project contracts typically provide for periodic billings to the customer as we meet progress milestones or incur cost on the project. Project contracts in our industry also frequently allow for a small portion of progress billings or contract price to be withheld by the customer until after we have completed the work, typically for six months. Amounts withheld under this practice are known as retention or retainage.

        Labor and overhead costs account for the majority of our cost of service. Accordingly, labor management and utilization have the most impact on our project performance. Given the fixed price nature of much of our project work, if our initial estimate of project costs is wrong or we incur cost overruns that cannot be recovered in change orders, we can experience reduced profits or even significant losses on fixed price project work. We also perform some project work on a cost-plus or a time and materials basis, under which we are paid our costs incurred plus an agreed-upon profit margin. These margins are typically less than fixed-price contract margins because there is less risk of unrecoverable cost overruns in cost-plus or time and materials work.

        As of September 30, 2007,March 31, 2008, we had 4,5624,163 projects in process. Our average project takes six to nine months to complete, with an average contract price of approximately $390,000.$450,000. Our projects generally require working capital funding of equipment and labor costs. Customer payments on periodic billings generally do not recover these costs until late in the job. Our average project duration together with typical retention terms as discussed above generally allow us to complete the realization of revenue and earnings in cash within one year. Because of the integral nature of HVAC and related controls systems to most buildings, we have the legal right in almost all cases to attach liens to buildings or related funding sources when we have not been fully paid for installing systems, except with respect to some government buildings. The service work that we do, which is discussed further below, usually does not give rise to lien rights.

        We also perform larger HVAC projects. As of September 30, 2007,March 31, 2008, we had foursix projects in process with a contract price of between $15 and $30 million, 1412 projects between $10 million and $15 million, 5246 projects between $5 million and $10 million, and 216238 projects between $1 million and $5 million. Taken together, projects with contract prices of $1 million or more totaled $1,092.0$1,136.2 million of aggregate contract value as of September 30, 2007,March 31, 2008, or approximately 61.2%61%, out of a total contract value for all projects in progress of $1,785.2$1,860.0 million. Generally, projects closer in size to $1 million will be completed in one year or less. It is unusual for us to work on a project that exceeds two years in length.

        In addition to project work, approximately 15%13% of our revenues represent maintenance and repair service on already-installed HVAC and controls systems. This kind of work usually takes from a few hours to a few days to perform. Prices to the customer are usually based on the equipment and materials used in the service as well as technician labor time. We usually bill the customer for service work when it is complete, typically with payment terms of up to thirty days. We also provide maintenance and repair service under ongoing contracts. Under these contracts, we are paid regular monthly or quarterly amounts and provide specified service based on customer requirements. These agreements typically cover periods ranging from one to three years and are cancelable on 30 to 60 days notice.

        A relatively small but growing portion of our revenues comes from national and regional account customers. These customers typically have multiple sites, and contract with us to perform maintenance and repair service. These contracts may also provide for us to perform new or replacement systems

installation. We operate a national call center to dispatch technicians to sites requiring service. We

perform the majority of this work with our own employees, with the balance being subcontracted to third parties that meet our performance qualifications. We will also typically use proprietary information systems to maintain information on the customer's sites and equipment, including performance and service records, and related cost data. These systems track the status of ongoing service and installation work, and may also monitor system performance data. Under these contractual relationships, we usually provide consolidated billing and credit payment terms to the customer.

Profile and Management of Our Operations

        We manage our 3940 operating units based on a variety of factors. Financial measures we emphasize include profitability, and use of capital as indicated by cash flow and by other measures of working capital principally involving project cost, billings and receivables. We also monitor selling, general, administrative and indirect project support expense, backlog, workforce size and mix, growth in revenues and profits, variation of actual project cost from original estimate, and overall financial performance in comparison to budget and updated forecasts. Operational factors we emphasize include project selection, estimating, pricing, management and execution practices, labor utilization, safety, training, and the make-up of both existing backlog as well as new business being pursued, in terms of project size, technical application and facility type, end-use customers and industries, and location of the work.

        Most of our operations compete on a local or regional basis. Attracting and retaining effective operating unit managers is an important factor in our business, particularly in view of the relative uniqueness of each market and operation, the importance of relationships with customers and other market participants such as architects and consulting engineers, and the high degree of competition and low barriers to entry in most of our markets. Accordingly, we devote considerable attention to operating unit management quality, stability, and contingency planning, including related considerations of compensation, and non-competition protection where applicable.

Economic and Industry Factors

        As an HVAC and building controls services provider, we operate in the broader nonresidential construction services industry and are affected by trends in this sector. While we do not have operations in all major cities of the US, we believe our national presence is sufficiently large that we experience trends in demand for and pricing of our services that are consistent with trends in the national nonresidential construction sector. As a result, we monitor the views of major construction sector forecasters along with macroeconomic factors they believe drive the sector, including trends in gross domestic product, interest rates, business investment, employment, demographics, and the general fiscal condition of federal, state and local governments. Although nonresidential construction activity has demonstrated periods of both significant growth and decline, it has grown at a compound annual rate of approximately 4.2% over the last twenty-five years.

        Spending decisions for building construction, renovation and system replacement are generally made on a project basis, usually with some degree of discretion as to when and if projects proceed. With larger amounts of capital, time, and discretion involved, spending decisions are affected to a significant degree by uncertainty, particularly concerns about macroeconomic and geopolitical trends. We have experienced periods of time, such as after the terrorist incidents on September 11, 2001 in the US, and prior to and during the war in Iraq that occurred in early 2003, when uncertainty caused a significant slowdown in decisions to proceed with installation and replacement project work. We believe that the current economic environment remains favorable.is favorable relative to the activity levels of recent years.

Operating Environment and Management Emphasis

        Nonresidential building construction and renovation activity, as reported by the federal government, declined over the three year period of 2001 to 2003 and has expanded moderately during 2004 and 2005, and was strong during 2006.2006 and 2007. During the decline and through 2003, we responded to market challenges by pursuing work in sectors less affected by this downturn, such as government, educational, and health care facilities, and by establishing marketing initiatives that take advantage of our size and range of expertise. We also responded to declining gross profits over those years by reducing our selling, general, and administrative expenses, and our indirect project and service overhead costs. We believe our efforts in these areas partially offset the decline in our profitability over that period. We have experienced notable improvements in both industry activity as well as our own results since 2004, as discussed further under "Results of Operations" below.

        As a result of our sale of certain assets and our continued strong emphasis on cash flow, our debt outstanding under our revolving credit facility is now zero, and we have substantial uncommitted cash balances, as discussed further in "Liquidity and Capital Resources" below. On February 20, 2007, we put a new credit facility in place with considerably less restrictive terms than those of our previous facilities. In addition, we have added a second surety to further support our bonding needs, and we believe our relationships with the surety markets are positive in light of our strong current results and financial position. We have generated positive free cash flow in each of the last eightnine calendar years and will continue our emphasis in this area. We believe that the relative size and strength of our balance sheet and surety support as compared to most companies in our industry represent competitive advantages for us.

        As discussed at greater length in "Results of Operations" below, we have seen increased activity levels in our industry since 2004. We expect price competition to continue to be strong, as local and regional competitors respond cautiously to changing conditions. We will continue our efforts to find the more active sectors in our markets, and to increase our regional and national account business. However, our primary emphasis for 20072008 will be on internal execution and margin improvement,margins, rather than on revenue growth. We plan to continue our involvement in multi-family work; however, we have decided to focus a portion of our resources away from this work and we expect that as a result, the portion of our work that is multi-family will diminish somewhat in the future. In addition to the work we have done on our underperforming units, we have increased our focus on project qualification, estimating, pricing and management, and on service performance. This focus includes significant increases in unit level training.

        Based on indications of continuing strength in industry conditions and on our emphasis on internal execution and margin improvement, we continue to believe that our 2007 profitability will improve as compared to our 2006 results, although there can be no assurance that we will achieve this outcome. Over the longer term, if industry conditions are stable to improving, we believe we will experience more periods of increased revenues. In addition, given the size and fragmentation of our industry, we believe it makes sense for us to consider acquisition possibilities. However, we plan to do so on a selective and opportunistic basis, and expect our growth in 2007 will largely be generated internally.

Critical Accounting Policies

        In response to the Commission's Release No. 33-8040, "Cautionary Advice Regarding Disclosure About Critical Accounting Policies," we identified our critical accounting policies based upon the significance of the accounting policy to our overall financial statement presentation, as well as the complexity of the accounting policy and our use of estimates and subjective assessments. We have concluded that our most critical accounting policy is our revenue recognition policy. As discussed elsewhere in this report, our business has two service functions: (i) installation, which we account for under the percentage of completion method, and (ii) maintenance, repair and replacement, which we account for as the services are performed, or in the case of replacement, under the percentage of

completion method. In addition, we identified other critical accounting policies related to our allowance for doubtful accounts receivable, the recording of our self-insurance liabilities, valuation of deferred tax assets and the assessment of goodwill impairment. These accounting policies, as well as others, are described in Note 2 to the Consolidated Financial Statements included in our Form 10-K.

Percentage of Completion Method of Accounting

        Approximately 85%87% of our revenues were earned on a project basis and recognized through the percentage of completion method of accounting. Under this method as provided by American Institute of Certified Public Accountants Statement of Position 81-1, "Accounting for Performance of Construction-Type and Certain Production-Type Contracts," contract revenue recognizable at any time during the life of a contract is determined by multiplying expected total contract revenue by the percentage of contract costs incurred at any time to total estimated contract costs. More specifically, as part of the negotiation and bidding process in which we engage in connection with obtaining installation contracts, we estimate our contract costs, which include all direct materials (exclusive of rebates), labor and subcontract costs and indirect costs related to contract performance, such as indirect labor, supplies, tools, repairs and depreciation costs. These contract costs are included in our results of operations under the caption "Cost of Services." Then, as we perform under those contracts, we measure such costs incurred, compare them to total estimated costs to complete the contract, and recognize a corresponding proportion of contract revenue. Labor costs are considered to be incurred as the work is performed. Subcontract labor is recognized as the work is performed, but is generally subjected to approval as to milestones or other evidence of completion. Non-labor project cost consists of purchased equipment, prefabricated materials and other materials. Purchased equipment on our projects is substantially produced to job specifications and is a value added element to our work. The costs are considered to be incurred when title is transferred to us, which typically is upon delivery to the worksite. Prefabricated materials, such as ductwork and piping, are generally performed at our shops and recognized as contract costs when fabricated for the unique specifications of the job. Other materials cost are not significant and are generally recorded when delivered to the worksite. This measurement and comparison process requires updates to the estimate of total costs to complete the contract, and these updates may include subjective assessments.

        Our contracts typically provide for a schedule of billings or invoices to the customer based on reaching agreed-upon milestones or as we incur costs. The schedules for such billings usually do not precisely match the schedule on which we incur costs. As a result, contract revenues recognized in the statement of operations can and usually do differ from amounts that can be billed or invoiced to the customer at any point during the contract. Amounts by which cumulative contract revenues recognized on a contract as of a given date exceed cumulative billings to the customer under the contract are reflected as a current asset in our balance sheet under the caption "Costs and estimated earnings in excess of billings." Amounts by which cumulative billings to the customer under a contract as of a given date exceed cumulative contract revenues recognized on the contract are reflected as a current liability in our balance sheet under the caption "Billings in excess of costs and estimated earnings."

        The percentage of completion method of accounting is also affected by changes in job performance, job conditions, and final contract settlements. These factors may result in revisions to estimated costs and, therefore, revenues. Such revisions are frequently based on further estimates and subjective assessments. We recognize these revisions in the period in which they are determined. If such revisions lead us to conclude that we will recognize a loss on a contract, the full amount of the estimated ultimate loss is recognized in the period we reach that conclusion, regardless of the percentage of completion of the contract.

        Revisions to project costs and conditions can give rise to change orders under which the customer agrees to pay additional contract price. Revisions can also result in claims we might make against the customer to recover project variances that have not been satisfactorily addressed through change orders

with the customer. Except in certain circumstances, we do not recognize revenues or margin based on change orders or claims until they have been agreed upon with the customer. The amount of revenue associated with unapproved change orders and claims is currently immaterial. Variations from estimated project costs could have a significant impact on our operating results, depending on project size, and the recoverability of the variation via additional customer payments.

Accounting for Allowance for Doubtful Accounts

        We are required to estimate the collectibility of accounts receivable and provide an allowance for doubtful accounts for receivable amounts we believe we will not ultimately collect. This requires us to make certain judgments and estimates involving, among others, the creditworthiness of the customer, our prior collection history with the customer, ongoing relationships with the customer, the aging of past due balances, our lien rights, if any, in the property where we performed the work, and the availability, if any, of payment bonds applicable to our contract. These estimates are re-evaluated and adjusted as additional information is received.

Accounting for Self-Insurance Liabilities

        We are substantially self-insured for worker's compensation, employer's liability, auto liability, general liability and employee group health claims in view of the relatively high per-incident deductibles we absorb under our insurance arrangements for these risks. Losses up to deductible amounts are estimated and accrued based upon known facts, historical trends and industry averages. Loss estimates associated with the larger and longer-developing risks—worker's compensation, auto liability and general liability—are reviewed by a third party actuary quarterly. We believe these accruals are adequate. However, insurance liabilities are difficult to estimate due to unknown factors, including the severity of an injury, the determination of our liability in proportion to other parties, timely reporting of occurrences, ongoing treatment or loss mitigation, general trends in litigation recovery outcomes and the effectiveness of safety and risk management programs. Therefore, if actual experience differs from the assumptions and estimates used for recording the liabilities, adjustments may be required and would be recorded in the period that such experience becomes known.

Accounting for Deferred Tax Assets

        We regularly evaluate valuation allowances established for deferred tax assets for which future realization is uncertain. We perform a detailedthis evaluation and calculation annually. We review the assumptions at each quarter to determine if a detailed calculation needs to be prepared for a specific quarter.quarterly. Estimations of required valuation allowances include estimates of future taxable income. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which the activity underlying these assets becomes deductible. We consider projected future taxable income and tax planning strategies in making this assessment. If actual future taxable income differs from our estimates, we may not realize deferred tax assets to the extent we have estimated.

AccountingRecoverability for Goodwill and OtherIdentifiable Intangible Assets

        In most businesses we have acquired, the value we paid to buy the business was greater than the value of specifically identifiable net assets in the business. Under generally accepted accounting principles, this excess is termed goodwill and is recognized as an asset at the time the business is acquired. It is generally expected that future net earnings from an acquired business will exceed the goodwill asset recognized at the time the business is acquired.

        Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets" requires us to assess our goodwill asset amounts for impairment each year, and more

frequently if circumstances suggest an impairment may have occurred. Impairment must be reflected when the value of a given business unit in excess of its tangible net assets falls below the goodwill asset balance carried for that unit on our books. If other business units have had increases in the value of their respective goodwill balances, such increases may not be recorded under SFAS No. 142. Accordingly, such increases may not be netted against impairments at other business units. The requirements for assessing whether goodwill assets have been impaired involve market-based information. This information, and its use in assessing goodwill, entails some degree of subjective assessment.

        We currently perform our annual impairment testing as of October 1 and any impairment charges resulting from this process are reported in the fourth quarter. We segregatedsegregate our operations into reporting units based on the degree of operating and financial independence of each unit and our related management of them. These reporting units are tested for impairment by comparing the unit's fair value to its carrying value. The fair value of each reporting unit is estimated using a discounted cash flow model combined with market valuation approaches. Significant estimates and assumptions are used in assessing the fair value of reporting units. These estimates and assumptions involve future cash flows, growth rates, discount rates, weighted average cost of capital and estimates of market valuations for each of the reporting units.

        SFAS No. 142 also requires that identifiable intangible assets with finite lives be amortized over their useful lives. Changes in strategy and/or market condition, may result in adjustments to recorded intangible asset balances.

Results of Operations (in thousands):

        Revenues—Revenues decreased $1.6increased $46.1 million, or 0.6%18.5% to $286.1$295.7 million for the thirdfirst quarter of 20072008 compared to the same period in 2006.2007. Approximately 13.5% of the increase in revenues related to internal growth and the remaining 5.0% resulted from the acquisitions of Air Systems in October 2007, Riddleberger in February 2008, and Merit in March 2008. The internal revenue decreasegrowth stemmed primarily from planned downsizing at our large multi-family operation (approximately $21.2 million). The decrease was largely offset by improving internalincreased activity in the nonresidential facilities markets throughout the United States especially in office buildings (approximately $9.4$15.5 million) and manufacturinggovernment facilities (approximately $5.8 million), as well as from the acquisition of Madera Mechanical on March 9, 2007 (approximately $5.4$15.2 million). We have seen increased activity, primarily in our MarylandWisconsin, Arizona, and central Florida operations, resulting from the start-up of several large projects.

        Revenues for the first nine months of 2007 increased $27.8 million, or 3.5%, to $816.3 million as compared to the same period in 2006. The internal growth was from general improvements in the institutional markets throughout the United States especially in hospitals (approximately $16.0 million)

and in office buildings (approximately $18.5 million) and manufacturing ($18.2 million), as well as from the acquisition of Madera Mechanical on March 9, 2007 (approximately $12.1 million). In addition, the increase in revenues for the first nine months of 2007 stemmed from activities described above in the third quarter of 2007,projects partially offset by the planned downsizing atof our large multi-family operation (approximately $50.6 million).based in Texas.

        Backlog reflects revenues still to be recognized under contracted or committed installation and replacement project work. Project work generally lasts less than one year. Service agreement revenues and service work and short duration projects which are generally billed as performed do not flow through backlog. Accordingly, backlog represents only a portion of our revenues for any given future period, and it represents revenues that are likely to be reflected in our operating results over the next six to twelve months. As a result, we believe the predictive value of backlog information is limited to indications of general revenue direction over the near term, and should not be interpreted as indicative of ongoing revenue performance over several quarters.

        Backlog associated with continuing operations as of September 30, 2007March 31, 2008 was $818.5$811.3 million (including $14.0$78.1 million from the acquisitionacquisitions of Madera)Riddleberger and Merit), a 13.7%3.1% increase from June 30,December 31, 2007 backlog of $720.0 million, and a 20.6% increase from September 30, 2006 backlog$786.7 million. Approximately 9.9% of $678.9 million. Thethe sequential increase in backlog iswas related to the acquisitions of Riddleberger and Merit. The internal decrease of 6.8% was primarily fromrelated to our Colorado, AlabamaFlorida, California, and TennesseeMaryland operations. The year-over-year increase is primarily from our Alabama, Colorado and Florida operations as well as our acquisition of Madera. We plan to continue our involvement in multi-family work; however, we have decided to focus a portion of our resources away from this work and we expect that as a result, the portion of our work that is multi-family will bemay diminish somewhat lower in the future.

        Backlog as of March 31, 2008 was $811.3 million (including $85.4 million from the acquisitions of Air Systems, Riddleberger, and Merit), a 15.8% increase from March 31, 2007 as compared to 2006.backlog of $700.5 million. Approximately 3.6% of the year-over-year increase in backlog is primarily from our Colorado and Alabama operations and the remaining 12.2% resulted from our acquisitions of Air Systems, Riddleberger and Merit.

        Following the three-year period of industry activity declines from 2001-2003 noted previously, we saw modest year-over-year revenue increases at our ongoing operations beginning in mid-2003 and continuing throughout 2006. We continue to see signs2007. Based on our backlog and forecasts from industry construction analysts, we expect that activity levels in our industry will remain strongat high levels throughout 2007. These observations are based on nonresidential construction spending trends, shipment data from HVAC equipment manufacturers, forecasts from construction industry analysts, and anecdotal indications of project consideration.2008.

        Along with the indications noted above that suggest industry activity is improving,will continue to be at high levels in 2008, there remain the following cautionary factors in the industry environment, each of which is discussed at greater length in theIntroduction above. Since HVAC and related installation and replacement decisions are capital decisions usually involving some amount of discretion, they tend to be affected to a greater degree by macroeconomic or geopolitical uncertainty. Negative developments or events in these arenas, should they occur, will likely cause end users to defer HVAC and related spending decisions, thereby reducing our revenues.

        We continue to experience a noticeable amount of price competition in our markets, which restrains our ability to profitably increase revenues.

        While we believe we will see continued strength in industry activity will continue to be at high levels throughout 2007,in 2008, in view of all of the foregoing factors, we may experience modest revenue growth or revenue declines in upcoming periods. In addition, if general economic activity in the United StatesU.S. slows significantly from current levels, we may realize decreases in revenue and lower operating margins.

        Gross Profit—Gross profit increased $8.1$16.9 million, or 17.5%46.3%, to $54.3$53.4 million for the thirdfirst quarter of 20072008 as compared to the same period in 2006.2007. $13.7 million of the increase is due to internal growth and the remaining $3.2 million is due to the acquisitions of Air Systems, Riddleberger and Merit. As a percentage of revenues, gross profit for 20072008 was 19.0%18.1%, up from 16.1%14.6% in 2006.2007. The increase in gross profit percentage resulted primarily from improved profitability from higher margin projects in a number of our markets as well as improved profitability at our Alabama and Northern Georgia operations (approximately $1.5 million) and strong job performance at our Wisconsin operation (approximately $0.9 million). This increase was partially

offset by continued underperformanceresults at our large multi-family operation based in Texas (approximately $1.8$5.1 million).

        Gross profit for the first nine months of 2007 increased $17.1 million, or 13.6% to $142.5 million, as compared to the same period in 2006. As a percentage of revenues, historical gross profit for the first nine months of 2007 was 17.5%, up from 15.9% for the first nine months of 2006. The increase in gross profit percentage for the first nine months of 2007 resulted primarily from improved profitability from higher margin projects in a number of our markets as well as from improved profitability at our Alabama and Northern Georgia operations (approximately $3.4Maryland operation ($0.9 million), central Florida operation ($0.5 million) and strong job performanceArkansas operation ($0.5 million). These increases were partially offset by decreased activity at our California operation (approximately $2.1($0.9 million). The increase was partially offset by continued and job underperformance at our large multi-familynorthern Maryland operation based in Texas (approximately $12.4$0.6 million).

        As noted in theIntroduction above, we are currently placing a greater emphasis on internal execution and margin improvementmargins than on revenue growth. This includes a strong focus on those of our units that have underperformed, along with increased training efforts on project qualification, estimating, pricing and management, and on service performance. While we believe these efforts will help us increase gross profits, we cannot assure that this will occur. Further, if we are successful in these efforts, we cannot assure that they will offset adverse industry trends, if such trends occur.

        Selling, General and Administrative Expenses ("SG&A")—SG&A increased $4.0$6.3 million, or 12.6%18.2% for the thirdfirst quarter of 20072008 as compared to the same period in 2006.2007. This increase is due to the acquisitions of Air Systems, Riddleberger and Merit, and higher compensation accruals due to strong

performance at a number of our locations. As a percentage of revenues, SG&A increaseddecreased from 11.2%13.8% in 20062007 to 12.6%13.7% in 2007. SG&A increased $13.5 million, or 14.6%, to $105.8 million for the first nine months ended September 30, 2007 as compared to the same period in 2006. As a percentage of revenues, SG&A increased from 11.7% for the first nine months of 2006 to 13.0% for the first nine months of 2007. This is primarily due to higher compensation accruals due to strong performance at a number of our operations, an increase in the number of selling and overhead personnel for new or expanded service operations and the acquisition and start-up of new operations.2008.

        Interest Income, Net—Interest income, net was $0.6 million and $0.7 million for the thirdfirst quarter of 20062007 and 2007, respectively. Interest income, net was $1.5 million and $1.8 million for the first nine months of 2006 and 2007,2008, respectively.

        Income Tax Expense—Our effective tax rate associated with results from continuing operations for 20072008 was 38.5%39.4%, as compared to 39.0%34.1% in 2006. Historically, our2007. The effective tax rate was generally higherfor the first quarter of 2007 is lower than statutory (federal and state) rates because2008 due to a change in expected tax expense in certain jurisdictions. One component of the effect of certain expenses that were not deductible for tax purposes. However, in the current year, the increase in the deduction for certain of our construction-related activities (discussed further below) and our tax-exempt interest income has allowed our effective tax rate for 2008 is primarily due to be lower than statutory rates. In addition, adjustmentsan increase in tax reserves. Adjustments to tax reserves are analyzed and adjusted quarterly as events occur to warrant such changes. Adjustments to tax reserves are a component of the effective tax rate. The decrease in the effective tax rate is primarily due to an increase in the production activity deduction from 3% in 2006 to 6% in 2007 and a change in expected tax expense in a certain jurisdiction. We currently estimate that our effective tax rate for full-year 20072008 will be between 38% and 40%.

Discontinued Operations—

Sale of Assets to Mesa Energy Systems, Inc.—On June 1, 2006, we, along with our wholly-owned subsidiary, ARC Comfort Systems USA, Inc. ("ARC"), entered into an asset purchase agreement to sell certain assets of ARC to Mesa Energy Systems, Inc. (a subsidiary of Emcor Group, Inc.) for approximately $0.7 million in cash. These assets were sold at book value. We recorded a tax benefit of $0.2 million during the second quarter of 2006. This is included under the caption "Estimated gain on disposition including income tax benefit." The after-tax loss of this company of $0.2 million for the first nine months of 2006 has been reported in discontinued operations under "Operating loss, net of income tax benefit."

Sale of Companies to ALC—On December 31, 2005, we sold two operations to Automated Logic Corporation and Automated Logic Contracting Services, Inc. (together, "ALC") for approximately $22.9 million in cash, net of transaction costs and a purchase price adjustment based upon the closing balance sheet for the transferred assets. The receivable related to this sale was paid during the first quarter of 2006. We paid $7.0 million in taxes related to this transaction during the first quarter of 2006.

        Outlook—As noted earlierAlthough there is uncertainty as to the overall economy for 2008, we believe that activity for our industry will continue to be at reasonably high levels in this review, while2008 and we see signs that industry activity levels are continuing to increase in 2007,encouraged by our current level of backlog. Our primary emphasis for this year is2008 will continue to be on margin improvementmargins rather than revenue growth. Our ongoing margin efforts include a focus on improving the results of units that incurred losses or subpar income (including our large multi-family operation based in Texas which had an operating loss of approximately $7 million during the first quarter, approximately $3.5 million during the second quarter of 2007 and approximately $2 million during the third quarter) andas well as on intensified project and service performance training at the unit level. Based on these margin improvement efforts and developments, on(especially with our increasedlarge multi-family operation based in Texas), our strong level of backlog as compared to recent periods,prior year and on our belief that industry andperception regarding economic conditions will remain strong,for our industry over the coming year, we continue to believeexpect that our full-year 20072008 profitability will exceedimprove as compared to our 20062007 results.