Q1 2021 W W Grainger Inc Earnings Call
[music].
Greetings and welcome to the Grainger first quarter 2021 earnings conference call.
At this time all participants are in a listen only mode. A question and answer session will follow the formal presentation.
And once you require operator assistance during the conference. Please press star zero on your telephone keypad.
Please note this conference is being recorded.
I will now turn the conference over to our host.
Irene Holman Vice President of Investor Relations. Thank you may begin.
Good morning, welcome to Grainger, Inc. First quarter 2021 earnings call with me are D. G Macpherson, Chairman and CEO, Andy Mary weather Senior Vice President and CFO.
As a reminder, some of our comments today may include forward looking statements actual results may differ materially as a result of various risks and uncertainties, including those detailed in our SEC filings reconciliations of any non-GAAP financial measures and their corresponding GAAP measures are found in the tables.
At the end of the slide presentation and in our Q1 earnings release, both of which are available on our IR website.
Earnings call will focus on adjusted results, which exclude restructuring and other items that are outlined in our earnings release now I'll turn it over to D. G.
Thanks, Irene good morning, and thank you for joining us today I'll provide a brief overview of our first quarter results key initiatives and encouraging signs for our business as the economy recovers.
This will be our first quarter with results aligned to our two new reportable segments also.
So it's not a toro our majority owned subsidiary is a publicly traded company on the Tokyo stock Exchange, we have now aligned the timing of our earnings releases.
I am very proud of the way the Grainger team has continued to serve our customers through the recovery and his address new challenges as they arise.
We are supporting many customers through vaccination deployment, including pharmacies and other large sites.
Recently, we partnered with the State University Medical Center, the National Guard and the Department of health to support Max vaccination site.
We outfit at the site with important pandemic related products like safety equipment as well as more traditional MRO product needed to support the operations like power and extension cords lighting and traffic counts.
It ramped up this site, it's been able to facilitate thousands of vaccination today.
We're seeing vaccination distribution progressing around the world, albeit at different speeds in the U S. As more of the population gets vaccinated, we're seeing many customers return to their normal operations at purchasing patterns.
This is evident as our non pandemic sales continue to return to normal levels and net sales in most end markets grow sequentially in the U K, we're seeing business activity rise Inc.
Canada slower vaccine distribution and potential shutdowns or slowing the business recovery. We're also seeing a modestly slower recovery in Japan.
No matter what stage of the recovery our customers are in our relationships with them are very strong given our supported their operations over the past year.
Being there for our customers and then having the products they needed when they needed it.
To bring this to life at this time last year when customers need a hand sanitizer, we sold them 55 gallon drums, and they were filling their own containers.
Supply creeps up.
Constraints eased customers reverted back to purchasing more normal PPE skus and free.
If you were at 55 gallon drums.
As I've said before we took calculated risks to procure pandemic products and reasonable alternatives, especially in the second quarter of 2020.
As the pandemic progressed and market dynamics changed we had to revalue some of our inventory in Q4 and again in Q1.
We anticipate further price deterioration on some of these non core alternative credit pandemic products, while our profitability on these products, including all potential write downs was below normal supporting our customers by taking these risks was the right thing to do.
We improved relationships with our existing customers develop new repeat business and delivered strong incremental growth at lower but still profitable margins.
Last quarter's call, we shared our first quarter expectations as it relates to revenue in the first quarter all of our businesses surpassed our outlook.
We expected first quarter company G P to be down 150 to 200 basis points versus prior year and our actual results fell within the stated range excluding.
Excluding the inventory adjustments our U S. GP was up versus prior year, giving us further confidence in the path forward.
Based on our strong results and improving economic trends, we are providing full year guidance, which Neil will discuss in a few minutes.
Within our high touch solutions segment, we continue to make progress on our key initiatives across geographies.
The U S is seeing positive signs of economic recovery with growth of non pandemic sales in virtually all segments. The exception is health care, which is very high pandemic fuel Cox gross margins returning to pre pandemic levels in the U S. Net of inventory adjustments in Canada. The path to recovery is slower as they struggle to get the virus under.
Control. Despite this grainger, Canada achieved its revenue and margin targets in the first quarter.
The endless assortment segment grew over 27% as we execute the playbook and gain momentum with our strategy.
The team continues to add skus beyond traditional MRO products, which helps grow web traffic.
Marketing efforts and more targeted discounting strategies are working well and driving operating margin expansion at zoro.
Also we are gaining real traction with new customer acquisition apples or I'm gonna true.
Finally, I'm excited to announce that <unk> opened its newest distribution center in Ibaraki, Japan, which will allow the business to stock additional high demand products locally.
Shifting to the financial results, we achieved organic daily sales growth of five 9% for the total company.
Constant currency basis in the U S. We started to lap the volatility of 2020 and the first quarter of 2021, we drove approximately 250 basis points of market outgrowth.
Normalized for all the volatility we've looked at a two year average share gain which we believe is a more reasonable measure of outgrowth. Using this we averaged 475 basis points of annual market outgrowth from.
2019 to 2021, we anticipate showing both measures going forward.
Endless assortment had strong performance in the quarter with 27, 4% daily sales growth.
For the total company, we delivered operating margin of 11, 6% with 210 basis points and adjusted SG&A leverage more than offsetting the anticipated GP pressure from pandemic inventory adjustments to.
To be clear, we expect to sell through the remainder of these non core pandemic products and complete any potential market driven inventory adjustments by the end of Q2.
Finally, we generated 294 million in operating cash flow returned $256 million to shareholders through dividends and buybacks and maintain strong ROIC of 33% all in all we're very pleased with this performance and our trajectory and with that I'll turn it over the day to take us through our first quarter results.
Thank you D G.
As we move to our new Reportable segment, you will continue to see a total company flight than a familiar for line P&L for both high Tech solutions, North America and endless assortment.
Well I hope will continue to provide transparency into the U S, Canada monitor O and dessert business.
As we lap the pandemic, we will continue to provide pandemic related data to clarify our result, especially for the U S.
Turning to our quarterly results.
Organic daily sales would you just from the divestitures of Bayberry in China finished up 7% and five 9% on a constant currency basis underpinned by growth in both segments.
Now that we have one less selling day in Q1 2021 versus Q1 2020.
And the total company level G. P was down 190 basis points.
180 basis points of that was driven by pandemic youll inventory adjustments in the U S consistent with what we shared in our Q4 2020 earnings call.
Anticipated the need for adjustment.
As <unk> shared we expect to complete any potential Martin market driven inventory adjustments.
And on the second quarter, and we estimate the amount will be similar to or lower than Q1.
This expectation has been factored into our GPU brand as well as our 2021 guidance.
Oh, it's assortment expanded gross margins overall, driven by continued improvement at all.
The mix impact of growing these businesses dilutive to company gross margin it drives incremental gross profit and earnings dollars and is an important driver of company performance.
SG&A of 735 million was favorable by $43 million year over year.
In line with our expectations shared last quarter.
We captured 210 basis points of SG&A leverage in the period due continued prudent cost control and the high touch solutions segment, and strong expense leverage and endless assortment.
This resulted in total company operating margin of 11, 6% up 20 basis points over last year.
The business continues to produce robust cash flow with operating cash flow of 294 million, 124% of net adjusted earnings Inc.
Free cash flow of $221 million.
We also returned 175 million back to shareholders through repurchases and 81 million through dividends in the period.
Turning to our high Tech solutions segment.
Daily sales increased three 4% compared to the first quarter of 2020.
We started to lap the pandemic sales by mid February resulting in more challenging comparisons.
In the U S daily sales were up three 5%.
In Canada Daily sales were up three 3% in U S. Dollars, however, still down two 8% in local days in local currency.
Canada declined was primarily driven by pandemic disruption, most notably with our natural resource customer.
As we diversify beyond natural resources, we are seeing improvements in our targeted end markets, including healthcare higher education and manufacturing.
Whereas the segment G. P finished the quarter at 37, 4% a sequential improvement of 30 basis points versus Q4 2020.
And down 230 basis points versus the prior year.
The year over year decline was due to the inventory adjustments in the U S and pandemic mix in Canada.
Excluding the adjustment U S. G. P would have been up versus prior year, which is a better indicator of expected performance moving forward.
We have included a chart towards the end of this presentation, which highlights the impact of the pandemic inventory adjustments in the U S by quarter.
Finally, we continued to gain SG&A leverage with our cost down $24 million driven by reduced travel expenses and general operating efficiencies in both the U S Canada.
Canada expanded operating operating margins 110 basis points over prior year.
As a part of our commitment to providing continued transparency of our U S and Canadian businesses. We've included a chart with detail in the appendix.
Moving onto slide nine.
Looking at pandemic product growth trends, we have started to lap the spike experienced in early 2020.
For reference.
They make product sales grew 41% in the first quarter of 2020.
Quarterly growth rates have eased throughout the quarter this year growing a very modest 1% year over year.
And then it makes as a percentage of the total remain elevated at 25%.
As a comparison point.
It was 19% in 2019 and rose to 28% for the full year of 2020.
Most importantly, though on the non pandemic side things continue to improve.
We started to see year over year sales growth and non pandemic product sales in March of this year with daily sales dollars increasing sequentially each month during the quarter with April ending up roughly 36%.
The highest growth to date in 2021.
This is a very encouraging sign that trend, especially for customer visit activity or bidding beginning to revert to more normal levels.
Looking at share gain on slide 10, we estimate the U S. MRO market grew between half to one 5% in the first quarter.
Showing continued improvement as the economy recovers.
We knew there would be tremendous noise and measuring share gain throughout 2021, given the extreme volatility of the prior year.
Our 2020 share gain was inflated due to the pandemic corresponding correspondingly our 2021 and share gain will be muted as we lap the unusual sales pipes from non repeating orders.
We outgrew the market by roughly 250 basis points in the quarter as we lapped the pandemic cell site.
So eliminate the noise and better understand our market outgrowth. We've also provided a two year average share gains metrics.
While imperfect it does normalize activity across a two year period and provides a more reasonable view and so our share gains since the end of 2019.
But to your average was approximately 475 basis points.
Each quarter, we plan to share both numbers, we think this will be especially helpful. In the second quarter, given the extreme volatility volatility.
We remain confident in our ability to serve new and existing customers. During these challenging times.
And to produce three to 400 basis point of sustainable growth in our U S High Tech solutions business.
Moving to our endless assortment segment.
Daily sales increased 27, 4% or 23, 3% on a constant currency basis.
Driven by new customer acquisition at both Zoro and <unk> as well as Marshalls continued pursuit of large enterprise customers in Japan.
I will share some of our key growth metrics to provide further color into how we think about these businesses.
G. P expanded 35 basis point year over year, driven by improved discounting strategies.
Operating margins expanded 185 basis points due primarily to substantial SG&A leverage zoro.
Moving to slide 12.
We have provided further transparency on the results of both businesses.
As Youre aware monitor as a public company and as such monitor Power's Japanese generally accepted accounting.
Accounting principles or GAAP.
Which differs from U S GAAP.
And Grainger has consolidated result, we translate monitoring financial into U S dollars and U S GAAP and.
In addition, we continue to report monitoring result, one month in arrears.
As a result, the numbers, we disclosed will differ somewhat from monitoring public statements.
In local currency and using Japan local selling days.
We occasionally differ from the U S, which occasionally different from selling days minus hurdles daily sales grew 25, 5%.
G P, finishing the quarter at 26, 5% 10 basis points below prior year.
Operating margin expanded 30 basis points to 12%.
This is a very strong quarter from Minotaur, we're excited for the new distribution center that will allow them to stock many of their fastest moving items locally.
They also continued to make it Stan Smith, and both product information and order management systems, helping to improve the customer search experience and delivery speed preparing them for the future.
Switching to Zoro U S.
Our strongest average daily sales month since <unk> inception in 2010 with daily sales up 15, 2% driven by strong customer acquisition.
In addition, we drove solid SG&A leverage, resulting in 370 basis points of operating margin expansion.
I'd like to spend a minute on the metrics, we are using to measure progress on our growth initiatives for both zoro and longer term.
On the left side of the chart. We've listed total registered users for both businesses.
This is a long standing metric monitor all his share externally.
Growing our registered user base is an important driver of top line performance.
And as you can see both businesses have shown tremendous progress.
Moving to the right side.
Laura is aggressively adding skus to the portfolio.
Having an expansive assortment is a key factor to zoro customer acquisition and growth strategy.
As of Q1, 2021.
We had a total of $6 7 million skus available online.
We are excited by our robust pipeline and targeting to reach 10 million total skus by 2024.
Before I discuss our full year 2021 guidance I'd like to first provide additional color on the current quarter to help you understand what we expect as the economy recovers and our business performance improves.
From a sales perspective, our preliminary results for April are strong.
His last April was our softest sales months of the year, we expect to grow we expect our growth to moderate in May and June and two in the second quarter up between 14, and 16% on a daily organic basis.
Note that our reported revenue growth will be about 280 basis point, Laura as fabry in China, both of those businesses were divested.
After June of 2020.
We expect Q2 company G P to be roughly flat on a sequential basis, which implied down about 30 basis points year over year.
The pandemic impacts, including inventory adjustments in mix continued to improve improve both sequentially and year over year.
We're starting to see modest cost inflation, especially on some specific product categories and raw materials, such as resin and steel.
While the quarters may still be a bit bumpy as the timing of cost increases and price actions do not align perfectly we expect price cost spread to be neutral for the year.
We're also starting to see general inflation in the freight market, especially in ocean freight rate and L. T O shipping.
In the second quarter, we expect free hit.
Free hit will be muted as we're lapping inflated prior year costs from air shipments.
For SG&A, we expect to see cost step up most notably from the second quarter as business activity resumes.
Specifically, we expect increases in travel variable compensation in there as well as advertising spend as we take advantage of higher returns.
With this we anticipate SG&A between 780, and 800 million, whereas the second quarter of 2021.
And to remain in this general range for the remaining quarters moving here.
This will drive leverage for the full year versus both 2020 in 2019.
As always we remain focused on managing costs, while continuing to invest in the business for the long term.
We have learned a great deal to the pandemic and don't expect all costs to return to pre pandemic levels moving forward.
Related to U S. G P.
We still expect to see improved races pandemic mix reverts to more normal levels and as we put no core pandemic inventory adjustments behind us.
Run rate margins are stabilizing and we maintain our expectation that we will exit the year with U S. G P rate as high or higher in Q1 2020 levels.
As a reminder, this slide relates to U S business.
We chose to highlight it because it represents more than 70% of the total company results.
It was most heavily impacted by the pandemic.
As we become more comfortable with the pace of the economic recovery, primarily in the U S.
Coupled with our recent performance, we are providing full year 2021 guidance and we'll provide updates as we move through the year.
For the total company, we expect daily sales growth between eight and a half and 11% or 10, and 12 and a half.
5% organically.
Driven by strong topline performance in both segments.
Within our high touch solutions segment, we anticipate U S business will grow between seven and nine 8% based on estimated MRO market growth between six and a half at 90%.
This yields when your market outgrowth of roughly 50 basis points.
And to your average annual outgrowth of 425 basis points.
To your average normalizes for the extreme sales price experienced in 2020 and anchors to 2019.
In Canada, the recovery is a bit more choppy in the U S with the slower vaccine rollout and recent business shut down.
With that in mind, we do expect volumes to stabilize as we move through the year.
We expect endless assortment to continue growing at roughly 20% as the monitoring team delivers consistently strong results and as we rapidly add skus and continue to drive greater marketing efficiencies zoro.
From a profitability perspective total company G. P is expected to be between $36, one and 36, 6%.
Up between 20, and 70 basis points in 2021.
Both the high Tech solutions and endless assortment are expanding gross profit margin. However, there was a roughly 30 basis point dilutive impact to total company G. P is the lower margin endless assortment.
Growth outpaces the high Tech solutions segment.
Both segments are expected to deliver high rois.
And dry GP and earnings growth for the company.
For high Tech solutions, our G. P guidance incorporates the sequential improvement from the back half of the year as we move beyond the unfavorable pandemic impacts and get back to more normal business operations.
For the year the U S. We expect our price cost spread to be neutral.
Total company operating margins are expected to be between 11, eight and 12, 4% and expand between 50 and 115 basis points versus 2020.
At the midpoint, we expect our operating margins will be back to 2019 levels.
Operating margin improvement are expected to be driven by both GP expansion versus 2020 loans and SG&A leverage as we grow the top line, while maintaining cost discipline.
These top line and profitability targets as well as continued execution of our share repurchase program are expected to produce earnings per share between $19 and $20 50.
That's growth between 17.5 and 26, 5%.
Continuing with guidance on slide 17.
In addition to the total company guidance, we wanted to provide some additional color by segment as well.
Our plans for capital allocation.
At the segment level, we expect operating margin expansion in both of our reportable segment with margins and high touch solutions between $13, two and 13, 7% and endless assortment landing between eight eight and nine 2%.
Cromwell represented and other is expected to reduce operating losses and anticipate closing the year with operating margin down approximately 7%.
We expect to cut Cromwell Cromwell losses in half and return the business to profitability in the back half of 2022.
From a cash flow perspective for the year, we expect operating cash flow to be between one and $1 2 billion.
Our capital expenditures outlook for the year remains between 225 and 275 million.
The large majority of our investment. This year include DC expansion in Japan keep stock enhancements in the U S.
Continued investment and a normal level of maintenance capital.
We expect the balance of our cash to be used to fund our quarterly dividend and to continue executing against our new share repurchase authorization.
For 2021, we're expecting between 600, instead of a 100 million share repurchases, which continues to reflect our confidence in successfully executing our strategy and growth initiatives.
And I'll close with a highlight on our dividend announced this week, representing 50 consecutive years of dividend increases.
Testament to the strength and stability of our business and our commitment to our shareholders.
With that I'll turn it back to D. G for some closing remarks.
Thank you D I'm proud of the team and our results for the quarter across both segments and I'm confident in our performance moving forward that day.
Discussed we expect to end this year, having gained strong share and to be in a better profitability position than before the pandemic as we enter into 2022.
We remain committed to fulfilling our purpose of keeping the world working as we get through the rest of the pandemic and back to normal operations as well as continuing to execute our strategy. So we can achieve this purpose for years to come.
With that we will open it up for questions.
Thank you.
Ladies and gentlemen at this time, we will be conducting our question and answer session.
Please note.
We would like to ask you to limit yourself to one question and one follow up question.
If you would like to ask a question. Please press star one on your telephone keypad.
A confirmation tone will indicate that your line is in the question queue.
You May press Star followed by the number two if you would like to remove your question from the queue.
For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys.
Once again to ask a question press star one on your telephone keypad.
Our first question comes from Ryan Merkel with William Blair. Please state your question.
Hey, Thanks, and good morning all.
I guess first off your sales outlook is encouraging and a little bit better than I was thinking can you put some context around a 36% non pandemic growth to the high touch business in April I know it was an easy comp, but it feels like the macro noticeably picked up is that the right read.
Yeah.
Thanks, Ryan for the question.
I think.
As we as we've talked about before comparison.
2020 are going to be pretty pretty silly.
Given what happened here.
And so if you go back from 2019, what we see is a very consistent increase in non pandemic.
Relative to that 2019 anchor and we see you know.
The pandemic sales.
Sales continue to be elevated but not as elevated as time goes on and so really if you think about the revenue outlook for for US, We're basically taking run rates and looking at what we think's going to happen with run rates and that gets us to the numbers. We're talking about so you don't have to believe a lot about anything really changing in the macro versus <unk>.
Continued recovery, we still you know we still have some some segments that are that are struggling that are aren't anywhere near where they were before but a lot of the economy is really back and running fairly smoothly in the non pandemic is as well with those segments.
Okay helpful and then.
Secondly.
The gross margin outlook for the high touch looks pretty consistent with the outlook in February but my question is and I think you hit on this are there cost headwinds that creep in the second half relative to what you just reported here in the first quarter I ask because the first quarter adjusted results near 40%.
Implied at the second half could be 40% or higher you know because the mix is going to improve so is there offsets is the question.
You know not not not really offset so we we think there's going to be some inflation. It's already started to come in as Dean mentioned, we think that she said that price cost is going to be neutral for the year.
We think most of that is gonna be noise, we think we're going to get a little better mix moving forward and then we get through the inventory write downs.
And you know where we're at now is similar to where we're likely to be moving forward. So it's not going to be a big a big shift due to cost increases that we foresee at this point.
Thank you. Our next question comes from David Manthey with Baird. Please state your question.
Hi, good morning.
This all looks very good. Thank you for all the modeling detail.
The strategy question.
Could you update us on the high touch strategy. If you want to talk about sales force technology service offerings any key initiatives for the rest of this year and into 2022. Please D. J D. G sorry, yes.
Sure sure absolutely. Thanks, Thanks, David So I would say that are our strategic initiatives remain similar to what.
To what they've been in the last year or so.
We continue to invest pretty heavily in technology to improve our digital offerings to make it a more curated it helps us.
That's true.
Right.
Yeah.
Right.
Okay.
We continue to get better at.
Yes.
I'm not sure if anybody else has had a trouble hearing you is the moderate around here.
Yeah, I suppose from Macpherson Docker, Mike here.
Well.
You're cutting out quite a bit.
Okay can you hear me now.
Yeah.
Alright, so what I was saying was that the initiatives that we have a very similar to what we've had.
The last year, our merchandising we continue to invest in merchandising. The assortment. We can do continue to invest in technology to improve our our digital solutions, we continued to improve our marketing capabilities and increased spend in the marketing area.
And you know our R.
Our sales initiatives.
Lot of what we're doing with our sellers is just getting back in front of customers again, we've done a really nice job of staying connected to customers and we're now getting out in the field more and we're able to visit customers and Reengage and get started on things that might have been might have been put off and the other thing I'd say is we've really seen nice growth.
In our keep stock technology, and we're going to continue to invest and keep stocking and improve our ability to serve customers and maintain their inventories. So those are the main initiatives from the business all are moving along well and effectively.
Sounds good thanks, again D G I appreciate it.
Thank you.
Our next question comes from Christopher Glynn with Oppenheimer. Please state your question.
Hey, thanks.
Low double digits or Gannett daily outlook clearer.
Clearly very good I'm wondering what amount of lower pandemic product sales.
Net net out it was sort of thinking 3% given the 50 basis point Delta with the H T S outlook versus the market for the present year versus your normal 3% to 4% outgrowth, but maybe you have a better way to frame it up.
So Chris just so I understand the question are you asking what we think is going to happen to pandemic product sales as the year progresses.
Well well your basically your topline guidance has some heads.
Headwind net it out from lower pandemic sales I'm wondering what kind of the.
Midpoint basis of that is.
Yeah, Okay. So so.
And as Dave mentioned last year.
At the peak of the pandemic, we were probably 30 or 30% pandemic sales in it for the year was 28.
You know, where we're running about 25 now we do expect that to moderate and get closer to 'twenty I would say, we expect relative to 2019, we still expect some elevated pandemic sales, we're seeing that with certainly for any of you that have been in the hospitals or medical offices theres still much much more PPE them in.
The past, we see that in government agencies, we see that in retail establishments and and certainly in warehouses. So we expect some elevated but we expect to slowly see that go from that 25% number down approaching 20%.
Closer to 20% by the end of the year. So we expect that the comparisons year over year to go down with pandemic as non pandemic comes up but.
But we don't expect the elevated sales to go away entirely we expect there to be some long tail here, where there's going to be elevated pandemic sales. So that's our expectation.
Okay, Great and just a point of clarification I missed the.
Revenue comment from the second quarter.
Oh on the call.
Yes.
Good day to you want to hit that yeah, I mean, the only thing we mentioned related to Q2 really was.
What we kind of lay out for high current solutions on page nine which is between the range in April of 15 to 16.
Thank you.
Our next question comes from Nigel Coe with Wolfe Research. Please state your question.
Thanks, Good morning.
Great color.
Slides so thanks for that.
I wanted to true.
Home and on the <unk> gross margins on first of all if we could just quantify the price cost recovery mutual comments is that on a dollar basis, because I'm, assuming the dollar basis, and therefore that'd be some element of margin dilution from from that so if you just clarify that and then on an <unk> margins gross margins are we still in a situation where.
You know normal seasonality whatever normal means would have gross margins down Q over Q and then how do we size the inventory impact into Q2 <unk>.
So do you why don't you go ahead and picked out sure I mean as a total company level, we are expecting GDP to be about flat year over year.
I would also reference you to.
You know we.
We really didn't size Q2, specifically, we kind of talked about.
We believe the size of the impact this quarter.
And that we do not expect an inventory adjustment to be actually any larger than the adjustments that we had in Q1, we are still selling through a lot of the pandemic product very well. However, as we go through the year, we really wanted to get back to focusing on non pandemic through <unk>.
Best again inventory and serving our customers well so.
Based upon the sell through and whatever we have remaining will be the adjustments that we expect in the second second quarter, because we really want to get past that and get back to a much normal operating.
Numbers on a go forward basis.
And then that the price cost impact.
Well this is Martin.
So from a price cost impact that would go back probably to the earlier question and response, which is you know we're seeing some inflation in the market.
We took some pricing actions earlier in the year.
We continue to work with our supply base on you know on any increases we have a pretty rigorous process that we work with our suppliers on based on facts and from the outlook perspective, if we continue to see any more inflation.
That we feel and dean is needed to be passed on to customers. We feel confident in our ability to do that and that is why from the outlook perspective, we are targeting price cost neutrality for the year.
And Nigel just to your point.
The numbers the inflation numbers are small enough that it doesn't really have a meaningful impact on rate, whether it's dollar or rate. So we expect that to be very little impact either on dollars or rate.
Thank you our.
Our next question comes from Chris Snyder with UBS. Please state your question.
Thank you you guys have talked about zoro margins getting to the high single digit range, but if we think longer term beyond the three five years you guys have talked about is there a structural reason that zoro cannot get to the mono Taro 12 ish percent level and I ask because zoro gross margin is running five.
Hundred bps above Molotov ROE, which is quite meaningful and I presume is supported by the Grainger U S distribution network.
So there's a there's a lot of that question. So you know we do expect zoro margins in the three to five year frame to be back to be in the upper upper single digits. There are some differences in the Japanese market in the U S market are the digital advertising market is very very different.
So that that structural difference.
We expect.
The one thing I'd point out is over time and you've already started to see this as we've added.
Skus to the assortment, we've actually leveraged third party <unk>.
Our relationships more we've already seen.
You know what.
We're getting away a little bit from the U S supply chain you have supply chain still makes up the bulk of the shipments, but not will not be in that position forever.
And one of the thing reason that's important is on any way you look at the return on invested capital of the business going forward is going to be very strong today, we need to reallocate some of the U S inventory at strong very strong in and as it goes forward it'll even be stronger. So we are we don't expect to get fully to the Japanese <unk>.
Margins.
A different market different market dynamic, but we do expect to have very strong profitability from the business. Both from an operating margin perspective, but even more so from a return on invested capital.
I appreciate that and then turning to the U S High touch how do you feel about the the revised 304 hundred bps of outgrowth relative to when you first gave the guidance last year and are you seeing new customers that came last year for pandemic products reorder non P.
<unk>.
I'd say the short answer we feel good about the 303 to 400 basis points.
Last year, if you take all the mess away.
From what we saw which was positive for us in terms of share gain.
Given our given our supply chain strength of position, we were over 400 basis points of share gain just on sort of our demand generation activities.
This year adjusted will be we think we'll be in a similar position. So we like that number we think its a good number for us at this point what was the second or the second half of that I'm sorry.
Are the new customers that came last year for pandemic products are you seeing them the order non pandemic.
Yes, absolutely we're seeing we're seeing strong repurchase from those customers.
And we.
We one of the things I would say that.
In the heat of the pandemic, we had more.
Consumer volume than we typically would have had filtering through that and getting the business customers. We're seeing strong business repeat business repeated market dynamic product as well.
Thank you. Our next question comes from Deane Dray with RBC capital markets. Please state your question.
Good morning, everyone and also echo the I'm not sure I appreciate the slides, even though it's the first time, we've seen new casting it seems pretty intuitive fed a lot of detail. So thanks.
Here's my question Andy's remarks, she said that not all costs will come back and was hoping you could either just size for us or just.
Frame, what kinds of cost maybe magnitude and did I hear correctly that you're assuming only 50 basis points of outgrowth was that a second quarter or 2021 assumption.
Sure, Let me start D G here.
Yes go ahead.
So.
As it relates to not all costs will come back I think you know I know we've learned a lot.
During the pandemic about working remotely.
And.
Internally, we're looking at what that could mean for us long term as it relates to helping us improve SGA leverage on a ongoing basis.
There may be different ways as you can imagine we can interact.
With investors and a more virtual means as an example.
With suppliers and with customers to some extent in the future. So we may have some impact.
On a long long term basis on overall company travel expenses as a as an example, those are the type of things that we're thinking about and looking at now to help us look at long term leverage opportunity.
So hopefully that helps answer that part of the question.
And can you repeat the last part again, yes. It was the assumption of 50 basis points of outgrowth.
N.
And I think that was for 2021 it seems that's under trend, but if you look out on the two year average maybe you're you're in line, but what's causing that to eat more modest outgrowth. Yeah. So you know you know we continue to share that there was a lot of noise last year in 2020, and you know.
Last quarter end and then now we talk about the fact that we believe our 2020 share gain was inflated due to the pandemic and so then this year.
As we lap that our share gain will be less than that it'll be muted as we lap those one time.
Non repeating pretty large orders that we experienced last year. So that's why we put the two year metric in we think it's more reasonable because it takes out some of the noise is not perfect.
So yes. It didn't this year based upon that we expect to outgrow the market by 50 bps, but as you said.
Last year at 800, when you average those two we get to about $4 25, and that is still above that.
The targeted goal we set.
Consistently growing 3% to 400 basis points above the market.
Alright, that's real helpful. And then just as a second question the 30 basis points of structural headwinds from the lower margin endless assortment growing faster than high touch.
Is that.
The same kind of headwind and we should expect for 2022.
Like the same magnitude.
If not what might change thanks.
Yeah.
Right right.
Yeah, I would say yeah, but we haven't we haven't calculated that exactly but I would see no reason why it wouldn't be similar our expectation is that our endless assortment business will continue to grow at about 20% a year.
Moving forward and we'll continue to gain share in the U S.
Hi, touch at a similar pace, so that that should be roughly right.
The math changes a little bit as he almost silver it gets bigger.
But there should be roughly right.
Thank you. Our next question comes from Hamzah <unk> with Jefferies. Please state your question.
Good morning, Thank you.
My question is on the medium customer growth was pretty good in Q1, and 11% could you maybe talk about what your market share today is now on the medium customer business and then just remind us how accretive medium customers are our two <unk> to gross margins as well. Thank you.
Sure I'm sorry, yes.
Okay.
Okay.
Mr. Macpherson it sounds like your mic is cutting out again.
Okay.
Sorry about that is this is it better now.
Go ahead, please alright.
Alright day again, so you know.
In terms of midsize customer growth, we're seeing very good growth right now.
We will continue to see good growth one of the reasons is that last year during the height of the pandemic we were you.
Allocated inventory to hospitals and government agencies, absolutely the right thing to do and so we had that deflated the growth with midsize customers last year. So we're going to see very good numbers this year.
And a lot of that is real but a lot of that is due to the fact that we just held inventory last year.
We are expecting we were about 2% share with midsize customers, we have a lot of room to grow.
We have we're getting back to where we were you know several years ago, but we think we've got 10 years ago, but we think we've got a long ways to go to grow.
And both with uncovered customers through digital means and through covered customers and inside sales, we're seeing nice growth rates and in terms of in terms of margin at significantly higher gross profit.
On a contribution.
Contribution margin level, its not as big a difference, but it's still a difference.
And we've talked about 500 basis point plus difference in the past.
Gotcha.
Just my follow up question is just on the endless assortment business could you maybe talk about.
Well, you know monitor Aro growing sales with enterprise customers is that something that's new is that something that zoro can do as well or is that just sort of a difference in the marketplace in Japan versus the U S.
It's a great question, it's not new.
<unk> been doing it for five or six years, I think I may have that a little bit wrong, but something like that.
I'm better at it the market in Japan is very very different I would say that there arent distributors like Grainger.
Serving customers with the kind of intensity that we have in the U S. There are enterprise customers and so.
We're going to keep the world focused on small and mid sized businesses, there's a ton of runway with small and mid.
Mid size businesses that end and as they get better or.
We're seeing the fruits of that work and so that's going to be our focus in the U S.
Thank you. Our next question comes from Jake Levenson with Melius Research. Please state your question.
Good morning, everyone.
Just turning to Canada for a second.
I just wanted to ask a few of them and do you guys see a path to profitability in that business that looks more like what we're saying in the U S over time.
Yeah. The answer the answer is yes, we do.
Obviously, we've.
We've had a long ride has been challenged in Canada I think for the last two years for the first time, we have a really good customer.
<unk> experience, we have a team that's really energized.
You know we will be we feel we will be right at breakeven. This year, we will be profitable next year and that's with what has been a very difficult patch economically for Canada. So we feel good.
You know whether or not we're going to get it up to the levels that the U S far as debatable. We felt we feel like we have line of sight to getting it to.
Strong profitability in Canada.
And there's really no structural reason why are we why we can't do that.
We're just on the execution path to making that happen.
Okay.
Okay. That's helpful.
I'll pass it on.
Thanks.
Our next question comes from Kevin Merrick with Deutsche Bank. Please state your question.
Yeah, Hi, Thanks, good morning.
Good morning.
Just with respect to the full year guidance wondering if you could talk a little bit more about some of the the general supply chain conditions you touched on it's obviously a topic that's been talked about a lot and I'm curious what you're seeing and then what kind of improvement or lack thereof, you're expecting within the full year guide.
Yeah. So.
Assume I assume youre, referring to.
Sort of a lot of the global challenges with the supply chain.
We see we see some of those issues certainly the.
The freight market is challenging right now.
It's actually easing a bit and getting a little bit better as we head to head throughout the year. It appears and we feel like.
Servicing costs are going to be.
We have a decent sense for where that's going to go you know, we see some of our customers disrupted by supply chain.
Challenges certainly you know automotive has been one that that there's there's been a lot of press on most of our customers are not are not disrupted by some of the supply chain challenges that we see so we don't expect huge disruptions, although we expect a lot of messiness.
In the supply chain I would say some things are getting a little bit better I think port clearance is getting a little bit better now, which is which is good to see.
Where we're trying to bring a bunch of inventory into our into our buildings is as we grow and and you know theres challenges I would say in the entire supply chain certain things are slower than they've been historically.
And I think that's that's definitely its a condition that everybody has.
Our assumption is that theres going to be messy. This we'll manage it as well or better than anybody else and come through it well at this point, but we do recognize that there's a lot of challenges supply chain right now.
Got it thank you.
Just as a follow up just looking at the other segment you've narrowed the loss.
<unk>.
Just curious what you're seeing there I think you said having losses in 'twenty, one turning to profitability in the second half or is there a medium term kind of <unk>.
<unk> ability target or a framework that we should be thinking about.
Yeah, I think most of that is most of it to Cromwell business and I would say a couple of things about the Cromwell business one is.
That business has very high customer satisfaction now it has very high team engagement. They were just saying the 11th.
I guess best employer in the U K for large large companies.
That is very different than where we were at three years ago on both of those dimensions and.
They are starting to see a return to growth now.
He is doing okay coming out of the pandemic.
We have some confidence that they're going to actually be able to to get back to growth and get back to profitability to take a bunch of cost out of the business.
And Theyre doing a lot of great things. So we feel good about it I. It's too early for me to talk about where they're going to be kind of mid term weeks, we've talked about we need to see profitability from that business next year.
We expect to exit the year profitable.
And Cromwell and Thats going to be kind of a day checkpoint for us, but there's a lot of positive signs that we will be able to do that.
Okay.
Yeah.
Thank you. Our next question comes from Adam Uhlman with Cleveland Research. Please state your question.
Hey, guys. Good morning, Congrats on.
Good execution this quarter.
I had a couple of questions on Zoro first of all I think you mentioned.
There's been some changes with the discounting strategies Zoro, I guess whats changed there to help drive the gross margin expansion.
Yeah, I won't I won't go into too many details Adam. Thanks for the question I you know I would just say that we view some some analytics to determine where discount works and where it doesn't work.
And that has allowed us to be more targeted in our discounting.
To acquire new customers and that is a big part of what the benefit in improvements.
Okay, and then related to the customer accounts.
Thanks for sharing all of that detail. It's it's really helpful. I guess I'm surprised that zoro and monitory will have the same number of customers, but non of tariffs twice the size in revenue indices.
Zoro is.
As we think about like the path forward closing that gap Inc.
All of that just the SKU expansion that you that you mentioned.
Net better customer penetration within the zoro customers are there other levers that you need to pull to continue to drive sales growth.
I think it's I think it's two things Adam I think its SKU expansion and I think it's.
To your point about the size of the customer file on the revenue, it's repeat buying and absorbed business is getting traction on on doing better at getting repeat volume from customers and.
In building our relationships with existing customers more.
And that's been Oh.
Lesson that we're learning from the Japanese business that they've done very very well is how do you take how do you take a customer who buys it actually turned them into a customer for a long time and that's the other piece that the team is really working hard to drive and those are the two the SKU count and the data are really the drivers of what we need here.
Thank you our.
Our next question comes from Michael Mcginn with Wells Fargo. Please state your question.
Hey, Thanks, a lot for sneaking me sneaking me in here I just want to go back to the endless assortment model can you talk about the true trajectory of G. M D versus the sales and maybe the SKU count.
And as you shift away.
From the U S supply chain I think you alluded to does that change your private label mix within your overall business.
Okay.
Yeah, I'll ask you to repeat the first part of that.
The private our private label mix should.
Shouldn't change.
All that much most of the private level, we sell is true the Grainger brand.
And and we are.
Going to continue to push on growing private brand.
And we have great brands and great products and working hard to make sure we're able to cross those with with national brands and that type of thing I didn't quite understand the first part of your question could you repeat that.
Yeah, so sequentially active skus on zoro and from six 1% to $6 seven.
I'm trying to kind of back into what is what is the internal I guess sales contribution versus what's being done on a G. N V basis that would be more indicative of that reseller model that youre shifting to so the skus went up 9% sequentially does that is that.
<unk> sales trend following that same kind of trajectory yeah.
Yeah. So so what what I would say there is a couple of things. One is most of the new Skus, we're adding are going to be third party.
We already have access through zoro through all the Grainger greater skus.
So most of them are going to be third party not not all but most.
The other thing I would say is that if you look at we look very carefully at sort of revenue per SKU.
For different tranches of ads, we continue to see very high productivity productivity.
And similar revenue per SKU as we add items across the assortment at zoro and in fact, given the number of Skus read out of the last couple of years. If you look at those curves you would get pretty confident that we're going to see a big lift over time.
As we continue to add Skus, given what we've seen so we're pretty confident about true revenue path and what what what SKU expansion will add for that business.
Okay, and then I don't know if this was asked or it was in the script, but the variance in national versus.
Smaller and midsize accounts is that simply a function I think you've turned off some skus.
Last year to protect somebody of the large customers, so as an easy comp or.
Some of their distributors and our large customers are coming back faster than the local accounts. So any color there yeah.
Yeah, I mean, we're seeing we're seeing good activity with both large and local accounts I would say that for us.
You're going to see particularly in the second quarter Youre going to see a bigger lift with midsize and local accounts.
As a result of holding holding skus and inventory from hospitals and government agencies in the peak of the pandemic last year. So we turned off used for for a number of our customers to make sure that we should get the product to the most shelter in place and so that's going to be a big factor in what you see.
Thank you. Our next question comes from Justin Bergner with G Research. Please state your question.
Oh, Thank you for double sneaking me in.
N D.
My first question is.
With respect to mix as we look at the business over the medium term.
Obviously midsize customers, who are growing a little bit faster, maybe theres some headwinds from from larger customers getting larger is mixed sort of a neutral for your U S business as you look at the business on a two to three year view.
Yeah.
So we haven't we haven't shared that.
With a full perspective I think mix is.
Likely to be some if at all slightly positive in the in the high touch business.
It's slightly negative from from the growth of the endless assortment as a company level, we would expect it to not be a huge a huge lever.
Either way, but we do we do feel like the midsize customers are likely to grow a little faster over the next several years. So I think that's that will be a slight positive.
Okay and then the other question I'll slip in was the government sales looked very strong this quarter and they were lapping a pretty good comp I mean, I realize there's a lot of comp noise. There, but is there anything you wanted to call out that was particularly positive in the government.
Performance this quarter that maybe it was beyond the pandemic.
No I mean, I think I think that our government team does a great job and we have great relationships with government customers.
Their comps get tougher in the second quarter for sure.
And the third quarter.
Given the pandemic activities I would say the initial flow last year of the pandemic hospitals, where we're far and away.
The biggest demand demand and then government came in after that but overall, we're seeing really nice run rates with our government customers and expect that to continue.
Thank you.
Ladies and gentlemen, there are no further questions at this time I will turn it back over to Mr. D. G. Macpherson for closing remarks. Thank you.
Alright terrific. Thanks, Thanks for joining us really appreciate having you on the on the call.
Reiterate that you know what we've seen as we've looked through the last 18 months is.
Certainly a remarkable for all of us, but if you sort of boil it down I think what you're what we're likely to see us.
For us significant share gain over two year period, and I think our economics will be in a better place when we come out of this than when we started.
But going into the pandemic at the end of the end of 2019.
We feel like we've got great customer relationships and our team has done a very nice job of providing good service to what has been a challenging time and we feel like we're really in a good place going forward, so with that I'll close and I wish you all.
Thanks.
Yeah.
Thank you. This concludes today's conference all parties may disconnect have a great day.