Q3 2021 Lennox International Inc Earnings Call
Okay.
Ladies and gentlemen, thank you for standing by welcome to the Lennox International third quarter Conference call at the request of your host all lines are currently in a listen only mode. There will be a question and answer session. At the end of the presentation. You may enter the queue to ask a question by pressing one and <unk>.
Arrow on your phone pressing one zero again exits the queue. As a reminder, this call is being recorded I would now like to turn the conference over to Steve Harrison Vice President of Investor Relations. Please go ahead.
Good morning, Thank you for joining us for this review of Lennox International's financial performance for the third quarter of 2021.
Here today, with chairman and CEO, Todd <unk> and CFO, Joe Reitmeier.
Todd will review key points for the quarter and Joe will take you through the Companys financial performance and outlook for 2021.
To give everyone time to ask questions. During the Q&A. Please limit yourself to a couple of questions or follow ups and re queue for any additional questions.
In the earnings release, we issued this morning, we have included the necessary reconciliation of the non-GAAP financial measures that will be discussed to GAAP measures. All comparisons mentioned today are against the prior year period.
You can find a direct link to the webcast of today's conference call on our website at Www Dot Lennox International Dot com.
The webcast will be archived on the site for replay.
I would like to remind everyone that in the course of this call to give you a better understanding of our operations, we will be making certain forward looking statements. These statements are subject to numerous risks and uncertainties that could cause actual results to differ materially from such statements.
For information concerning these risks and uncertainties see Lennox International's publicly available filings with the SEC.
The company disclaims any intention or obligation to update or revise any forward looking statements, whether as a result of new information future events or otherwise.
Before I turn the call over to Todd I would like to announce the date of our annual investment community meeting the event will be held the morning of Wednesday December 15th.
Matt will be virtual again this year.
Mark your calendars invitations and more details will follow.
Now, let me turn the call over to chairman and CEO Todd <unk>.
Thanks, Steve Good morning, everyone and thank you for joining us.
Strong strong demand continued in the third quarter across all our businesses, but global supply chain and COVID-19 disruptions to production and labor availability negative impact of our financial results approximately a $75 million impact to revenue and $75 million to operating profit in the quarter.
<unk> revenue was up slightly to a third quarter record of 1.06 billion with the benefit of strong price and the shipment constrained environment.
GAAP operating income was down 3% GAAP EPS from continuing operations was relatively flat at $3 41 compared to $3.42 in the prior year quarter.
Total segment profit was down 7% and total segment margin was down 120 basis points to 15, 5%.
Adjusted EPS from continuing operations was down 4% to $3 40 <unk>.
Including approximately 55 cents of negative impact from the global supply chain and COVID-19 disruptions.
Looking at business segment highlights for the third quarter residential revenue was down 2% and segment profit was down 6%.
Segment margin was down 90 basis points to 23% residential revenue from placement business was down mid single digits revenue from new construction was up low double digits.
Brand revenue was down low single digits and revenue from Allied and our other brands were up low single digits.
Market demand remains high entering the fourth quarter and we remain bullish on the residential market. As we look ahead to 2022 in the coming years more people continue to work from home and run rates that systems than before the pandemic with global warming. The hotter weather. We are seeing has an exponential impact on reducing the LIFO.
Cooling systems and there are more complete HVAC system sales, taking place with all R 22, refrigerant systems and replacement window. This is driven by the EPA ban on the sale and distribution of equipment using R. 22, refrigerant effective January one 2010, and the ban of the production or import of R 22 refrigerant.
January one 2020.
While R 22, refrigerant is still available in the market is significantly more expensive than <unk> in many cases, it's cheaper to replace with the new <unk> system, which is also more efficient and it comes with a new warranty then to repair the old R. 22 system from 2005 to 2010, 60% of air Conditioners, and heat pumps sold where R 22.
The need to replace these has a meaningful benefit to residential growth.
We expect these dynamics to lead to strong residential market conditions conditions for the years ahead.
In addition, Lennox and allied will be running our proven playbook for market share gains moving to our commercial business third quarter revenue was up 2% commercial profit was down 42% segment margin declined 800 basis points to 10, 7%.
On top of supply chain shortages and bottlenecks disrupting production, Arkansas factory was hit the hardest by COVID-19 in the quarter and labor availability was a significant issue.
Constant currency commercial equipment revenue was down low single digits in the quarter.
Within this replacement revenue was up low single digits with cramp planned replacement up more than 20% in emergency replacement down more than 30% new construction revenue was down mid single digits.
Breaking out revenue another way regional and local business revenue was down high single digits National account equipment revenue was up high single digits.
The team won two national account equipment customers in the third quarter to total 11 year to date.
On the service side Lennox National account service revenue was up mid teens.
<unk> revenue was up more than 30%.
In refrigeration for the third quarter revenue was up 10% North America revenue was up more than 20%.
Europe refrigeration revenue revenue was relatively flat in Europe, HVAC revenue was down mid single digits.
<unk> segment profit was up 12% as margin expanded 20 basis points to 10, 6% looking.
Looking ahead for both our refrigeration and commercial businesses demand remained strong backlog is up approximately 60% for refrigeration and 90% for commercial and order rates continued to be strong demand is clearly not an issue.
But as we look at the fourth quarter, we continue to expect a material impact to production for supply chain shortages and bottlenecks. We currently expect a similar negative financial impact to our business as we saw in the third quarter, approximately $75 million of revenue and $25 million of operating profit.
We continue to see broad inflationary pressures, including for commodities and components, but we've enacted three rounds of price increases. This year. The latest one was just on September one with a focus on staying ahead of inflation.
The yield at 4% price overall in the third quarter, including 5% in residential in addition to the carryover benefit next year from our June and September price increases, we're announcing additional price increases heading into 2022, our refrigeration business has announced a price increase of 8% in North America effective for December one <unk>.
Our European business has recently announced another round of increases generally from 5% to 10% to drive price in 2022.
Our commercial business has announced a price increase of up to 13% effective January 1st.
In our residential business will be announced another round of price increases in November to be effective heading into 2022.
For 2021, we are nearing our revenue and EPS guidance for the year. We are narrowing 2021 guidance for revenue from 12% to 16% to new range of 13% to 15% Foreign exchange is still expected to be a 1% favorable to revenue.
We are narrow in 2021 guidance for adjusted EPS from continuing operations from $12 10 to $12 70.
To a new range of $12 10 or $12 30.
Our free cash flow guidance remains 400 million for the year.
As a company continues to battle through the disruptions to production from the global supply chain and COVID-19, we are also positioning the company for the future. This.
It's too early to set guidance for 2020, but as we think about next year, we expect strong pricing power to continue the company yielded 4% in the third quarter, which had just one month of benefit from third price increase this year for 2022 wheel carryover price benefit from our June and September 2021 price increase we have announced additional <unk>.
This increases enter next year with a strong price benefit to offset commodity headwind next year.
The market drivers and our strong backlog position and order rates, we see residential commercial unit turn refrigeration up in 2022 as you get more and more of the supply disruptions behind US we expect to return to strong growth and profitability as we capitalize on market opportunities now, let me turn it over to Joe.
Thank you Todd and good morning, everyone I'll provide some additional comments and financial details on the business segments for the quarter, starting with residential heating <unk> cooling in.
In the third quarter revenue from residential heating <unk> cooling was $711 million.
Down 2%.
Volume was down 6% price was up 5% and mix was down 1% with foreign exchange neutral to revenue.
Residential segment profit was $144 million down 6% segment margin was 23% down 90 basis points.
<unk> profit was primarily impacted by lower volume due to global supply chain and COVID-19 disruptions to production factory inefficiencies unfavorable mix higher material freight distribution tariffs and other product costs with partial offsets included favorable price and lower SG&A expenses.
Now turning to our commercial heating and cooling business in the third quarter commercial revenue was $212 million up 2% volume was down 6% price was up 1% and mix was up 6%.
Foreign exchange had a positive 1% impact to revenue.
Commercial segment profit was $23 million down 42% segment margin was 10, 7% down 800 basis points.
<unk> profit was primarily impacted by lower volume due to global supply chain and COVID-19 disruptions to production.
Factory inefficiencies higher material freight distribution tariffs and other product costs with partial offsets included favorable price and mix.
In refrigeration revenue was $137 million up 10% volume was up 9% price was up 2% and mix was down 1% foreign exchange was neutral to revenue.
Refrigeration refrigeration segment profit was $15 million up 12% segment margin was 10, 6%, which was up 20 basis points.
Global supply chain, and COVID-19 disruptions to production constrained revenue and profit growth.
Segment profit was negatively impacted by factory inefficiencies and higher material freight and SG&A costs.
Results were positively impacted by higher volume and favorable price.
Regarding special items in the quarter. The company had net after tax benefit of $5 million that included a benefit of $2 $7 million for excess tax benefits from share based compensation and a net charge of $2 4 million in total for various items excluded from segment profit, including personal protective equipment and.
<unk> deep cleaning expenses incurred due to the COVID-19, pandemic and a net benefit of <unk> two.
$2 million for other items.
Corporate expense was $16 million in the third quarter down from $28 million in the prior year quarter, primarily due to lower incentive compensation.
Overall, SG&A was $134 million compared to $152 million in the prior year quarter.
SG&A was down as a percent of revenue to 12, 7% from 14, 4% in the prior year quarter.
In the third quarter cash from operations was $222 million compared to $440 million in the prior year quarter.
Capital expenditures were $23 million in the third quarter compared to approximately $12 million million in the prior year quarter.
Free cash flow was $199 million in the third quarter compared to $428 million in the prior year quarter.
The company paid $34 million in dividends and repurchased $200 million of stock in the quarter.
Total debt was $1 $2 8 billion at the end of the third quarter and we ended the quarter with a debt to EBITDA ratio of one eight <unk>.
Cash cash equivalents and short term investments were $44 million at the end of the third quarter.
Now before I turn it over to Q&A I'll review current market assumptions and our guidance points for 2021.
For residential and commercial unitary HVAC and refrigeration markets in North America for the full year, we continue to expect low double digit shipment growth for the industry.
For the company, we are now narrowing guidance for 2021 revenue growth from 12% to 16% to a new range of 13% to 15% and we still expect a 1% benefit to revenue from foreign exchange.
We are narrowing guidance for 2021, GAAP EPS from continuing operations from $11 97 to $12 57.
To a new range of $11 97 to $12 17.
And we are narrowing 2021 guidance for adjusted EPS from continuing operations from $12 10 to $12 70.
To a new range of $12 10 to $12 30.
And as previously mentioned the fourth quarter of 2021 will have a headwind of 6% from fewer days than the prior year quarter.
The first quarter of 2021 had a 6% benefit from more days in the prior year quarter for 2022, there are no days differences.
Like this to highlight.
Now, let me run you through the key points of our guidance assumptions and puts and takes for 2021 <unk>.
First for the items that are changing.
We now expect a benefit of $130 million from price for the year up from prior guidance of $110 million benefit.
We continue.
With continued inflation in components, we are reducing our net savings from sourcing and engineering led cost reduction to neutral down from prior guidance to be a $5 million benefit.
We now expect LIFO accounting adjustments to be approximately $20 million. This year up from our prior prior guidance of $15 million due to higher material costs from inflationary pressures.
About 40% of that was in the third quarter and about 40% is expected in the fourth quarter.
Factory productivity is now expected to be a $10 million headwind down from prior guidance to be a $10 million benefit.
Residential mix is swinging from a $10 million headwind.
Excuse me swinging to a $10 million headwind from a $10 million benefit.
In corporate expense is now expected to be $95 million down from prior guidance of $100 million of lower incentive compensation.
Overall SG&A is now expected to be approximately a $40 million headwind down from prior guidance of $45 million.
Within SG&A, we continue to make investments in research and development and for continued innovation and leadership in products controls E Commerce factory automation and productivity per.
For headwinds that are unchanged from our prior guidance commodities are still expected to be a headwind of $80 million and freight is still expected to be a 5 million dollar headwind with tariffs is still expected to be $5 $5 million headwind as well.
Other guidance items that remain the same foreign exchange is still expected to be a $10 million benefit we.
We still expect the net interest and pension expense to be approximately $35 million.
The effective tax rate guidance remains approximately 20% on an adjusted basis for the full year and we still expect capital expenditures to be approximately $135 million. This year about $30 million of which is for the third plant at our campus in <unk> Mexico.
This is still on track to be completed by the end of 2021 pilot runs of the initial products took place in mid October we now plan to start initial production before the end of 2021 and ramp up to full production in mid 2022, and we expect nearly a $10 million in annual savings from that third plant.
Free cash flow is targeted to be approximately $400 million for the full year in the third quarter, we repurchased $200 million of stock to complete our target of $600 million for the full year and then guidance for our weighted average diluted share count for the full year remains between 37% to 38 million shares and with that operator.
Let's now go to Q&A.
Certainly and ladies and gentlemen, just a quick reminder, if you do want to ask a question. Please press. One then zero on your telephone keypad you may withdraw your question at any time by repeating the ones Youre on command and first line of Julian Mitchell with Barclays. Please go ahead.
Thanks, Good morning.
Maybe just wanted to understand.
Good morning, Todd from you, how you're thinking about sort of the pace of a catch up here from some of these issues.
55 headwind in Q3 similar in Q4, how quickly can lennox sort of come back from these headwinds when youre thinking about aspects like market share recapture getting this plant inefficiencies down into 2022.
Yes, let me unpack it and sort of swing away at that question because that's obviously the topic of the day.
We get AHRI data, we look through August year to date were sort of flat on share. So I think others are having issues too.
I know watsco reported a larger number.
But again there their carriers primary our top distributor if you looked at our top 80% dealers and distributors Theyre up also 20 or 30% that were shutting off that are down so much.
So I think share wise I think we're sort of doing.
Our senses.
Different people or different Oems at different times have had their turn in the penalty box. We think were middle of the pack, maybe even slightly above middle of the pack, but let's see how it let's see others report sort of see where they're at.
In terms of timing of getting things behind us.
We're making very good progress both on the Covid impact, which I'll talk more about in a second and about supply chain impact things are getting better although financially fourth quarter will look similar to third quarter. That's just.
The way it works because the costs get hung up on the balance sheet, you don't see it until you sell it so sort of the absorption impact in the overtime impact and our problems are being seen and then on the on the revenue side. It's because we're entering we ended the quarter with lower inventory, while we need but on a production line rates were.
Seeing nice improvements so let me unpack it a little bit.
Yes.
65, 70% or so of the issues are driven by supply chain are balanced from Covid, Let me talk about Covid first.
We saw unplanned absenteeism in our southern factory, South Carolina, Arkansas, Georgia, Mississippi double due to Covid.
The good news is that Delta variant is really sort of run its course in our factories and we're confident at least as we stand today that the worst is behind us on the supply chain side I mean, it's the things we all know.
It's integrated circuits, which arent motors, which are in compressors, it's things as mundane as corrugated cardboard and pallets.
We've aggressively.
Work to sort of address that.
Taking inventory.
And parts and buying a year's worth of inventory and things like integrated circuits to protect ourselves.
We're re qualifying different parts with.
Suppliers and we have tiger teams literally in key factories, making sure in supplier factories getting what we need so.
It's not the best news, obviously, but from a competitive viewpoint data we've seen so far we don't think we're losing much we think others are.
Similar situations, although we see all the OEM numbers published.
But what we see and share data from AHRI and we think.
<unk> is behind us to a large degree and supply chain. While we are still battling it is better now than it was a month ago and significantly better than two months ago, Although we'll still see the tail of the financial impact in Q4.
That's really helpful. Todd maybe just one follow up on residential market demand.
You emphasized your bullishness on the market trend there as you look at 2022.
The volumes in Lennox residential I think were down about 6% year on year. Joe had said in Q3, you sort of thinking that yes. There is some noise in there from sort of inventory absorption and supply chain.
So that sort of flat to down slightly.
Good sort of place holder year on year for the next couple of quarters and then as you go through 2022 momentum sort of year on year on the volumes Reaccelerate.
I think high level chest, but let me put it in my own words, which I think will be constructive to your question.
If you adjust for the volume Miss that we have a cost of production.
Our Lennox residential revenues.
Three 4%.
And I think compared against the very tough third quarter comp that we had from last year that people are really intimidated by including US quite frankly, I think would have been a very nice performance.
And then I lay on top of that.
All the things you've heard me talk about.
Around unit running longer.
That R 22 systems, 60% from 2005 to 2010 and our system sales kick in.
And the fact that just continues to be warmer summer so I still feel.
As we talked about are bullish about the market.
Great. Thank you.
Thanks.
Our next.
<unk> is from Jeff Hammond with Keybanc capital markets. Please go ahead.
Hey, good morning, everyone. Good morning, Jeff.
Todd maybe you can jump into this mix shift I think you just wanted a $20 million.
On the guidance is that what people are buying or is that tied to.
The supply chain and corporate issues.
It's tied to Covid issues, I mean, we talked about the resi business.
That new construction was up.
And replacement was down.
And Theres a couple one supply.
The other issues, we protected our big builders for obvious reasons, and so that drove it and then on the on the supply side.
As.
Our Mexico facility.
So <unk> has been the most resilient facility.
Both COVID-19 and around supply chain for for a myriad of reasons and it's a lower mix of product category that comes from there. So we would've been able to have a more rich mix. If we can produce more out of <unk>.
Sure not a south Carolina anonymous.
Okay, and then just on the I mean, it sounds like the Covid dynamic is getting better and.
Who knows what happens with resurgent, but the supply chain dynamic.
You thought that that carry us well into the into 'twenty, two or I mean.
I know you mentioned that getting better but when do you think you get back to normal there.
I'm not sure. So honest answer I think what I know on a micro level. When we look when I sit down with the businesses and supply chain reviews as it's been like I said, it's better than a month ago, it's better than two months ago significantly better than the three months ago and were sort of putting things to bed around integrated.
Circus, because when we find them, we buy them and we have significant inventory to buffer us.
Okay and then.
I think we're close enough to 2022 that I think it clearly supply chain issues.
In corporate America are industrial America arent done.
Okay, and then just on price if we snap the line on all of the increases you've announced or planning to announce like us.
A 4% kind of.
Favorable price a good starting point to think about for 2022.
Yes.
We're going to get significant price math that I'll give you is what we said on the call which was.
In the script, we've got 4% in Q3 <unk> was up five and we guided at 130 for.
For the full year, if you do the math, which you will when you have time.
Through Q3 were up about $70 million, so that implies we're going to get over 6% prices incorporation of fourth quarter.
Now that's going to be the best run rate quarter.
But but we still think about second third and the fourth quarter price increases. This year, we're going to have lots of carryover going into next year.
Okay, great. Thanks.
Yes.
Next we'll go to Jeff Sprague with vertical research partners. Please go ahead.
Hey, Thank you good morning, everyone.
John could you just pick up on on price a little bit more so it sounds like we should expect a normal kind of December ish January ish bump of some reasonable magnitude also.
Yes.
What we tried to convey in the call or on the script was we've already announced commercial up to 13% effective I think January one and.
And the resi guys are just sort of putting a final wraps on things to probably aggregate me because they wanted to communicate it probably on their own but we're going to announce something similar.
<unk> effective January one and then refrigeration already went out both in Europe and the U S. In December with pricing pricing increases effective December. So yes. There is another way that is effective in essence at the end of the year.
And I Wonder if you could actually update us on on the succession process.
That's that any other kind of update on.
Expected timing or anything.
Yes, I think it's as is I mean to searches ongoing <unk> fully into it and.
When we have something to say, we will announce it I think so long and short of it.
Alright ill leave it there thanks, guys I appreciate it thanks.
And we'll go to Ryan Merkel with William Blair. Please go ahead.
Hey, Thanks, So first off when do you expect to ship the $150 million of pushed revs and was the majority in commercial or what's the rough split.
I'll answer the second part of the question I'm not sure. The first part of the question, but the second part of the question is.
And third quarter.
It was more resident excuse me more commercial than residential and then fourth quarter will be more residential than commercial and sort of the split is like 60 40. So third quarter is 60% commercial 40% resi and then next quarter, it's the flip.
And then what's the first part of question, one we're going to ship it.
Yes, when theyre going to produce it and ship the push yes.
I think it's sort of just I think what's happening short answer is the fourth quarter right. So theres sort of a bubble that moves through the system.
So the things we couldnt ship in third quarter, we shipped in the fourth quarter I think I think we will see and AHRI data when it comes out.
That third and fourth quarter will sort of be muted quarters industrywide in units I E. It will be flat to down.
And I think what that will mean is we've all had trouble producing as I suggested.
And we're sort of at the end of the season.
And while some of the demands being picked up by watsco and people have some things, but I think broadly what's happening is the lead times from local dealers to install each back or air conditioners as long enough that people were deferring the replacement until until the summer season in many parts of the country not in Phoenix not in Miami.
But in many parts of the contract I think people are deferring. So I think there'll be a bow wave when we enter our when we get into 2022 on production picks up and we start to enter the summer selling season next year.
Yeah that makes sense, Okay, and then for my follow up you hit on this a little tied but can you talk about the newer strategies, you're implementing to offset the supply issues and Colgate and is there a timeline you can share for when the company is going to see improvements from from initiatives.
I think I think the answer is the timeline was a month ago. So we're already seeing significant improvements from the initiatives.
It's like I said, it just takes a while for it all to flow through the P&L. So I would have said the peak of disruption in our business was.
Was August early September.
And we're now past at Pekin and the things that we're doing is.
We have.
I want to say tens of millions of dollars, maybe its a little less than that just feels like that of inventory of integrated circuits were buying 18 months a year integrated circuit inventory.
We're sort of taking our.
<unk> engineering team and focused stemming on qualifying new suppliers.
And where we're spending lots of times with key suppliers. So high I think the major ones are behind us.
Again, this things a bit of a bumpy ride and we.
We're trying to work through it.
And things are getting better, but if our motor suppliers call us on the phone and say they have an issue we got to work through it quickly and we've had those phone calls compressors I never thought I'd live in a world where pallets would be short.
But they are and we've worked through that also so I think the answer is the financial news I'm repeating myself for the fifth time I note that the financial news is still bad in Q4 around this issue, but operationally we're much better. It just takes time it takes a while for the inventory cost caught up in inventory to work its way through the system.
That's helpful. Thanks.
Thanks.
Our next question is from Jeff <unk> with Morgan Stanley. Please go ahead.
Hey, good morning, guys.
Hey, Jeff Hey, Josh.
Todd just to kind of pick up that last comment on some of the good works already been done and it's just a matter of time I mean, I guess, maybe specifically in commercial not to get ahead of ourselves on 'twenty two guidance, but can margins start to kind of flatten out or go up on the year on a year over year basis in the first half next year.
Or do we need to kind of fully lapped.
Annually some of these dynamics before it gets better.
I'll be honest with you adjust and not trying to be coy I haven't I don't have that I can't see that math in my head.
But I think the answer I'll, just make a third quarter comment. The fact were down 800 basis points in the quarter Thats.
That's a one off.
We will be back what I do know is on a full year basis.
We expect margins to increase and commercial next year from this year.
Got it that's helpful and then on the refrigerant dynamic that you talked about in resi.
Yes, I think youre one of the only Oems out there that sort of pointing to that as a specific driver watsco include it hasnt really noticed that per se, but anything that you can sort of put around that number wise.
Kind of driving that Delta the consumer end.
Maybe it's kind of a high point I remember 10 years ago recycling was supposed to be a big thing like why isn't that.
Stepped in to fill in some.
Some of the supply or.
Shortages there.
Well I think watsco is talking about it too I think everyone close to the business understands it but I'll give you an example.
Your house, Josh Youre getting a big units, so you're getting a five ton unit for that.
8000 square foot you have in your house and consider the difference between a five ton air conditioner.
Right now the refrigerant charge, if you buy our 'twenty two and assume there's three.
Three pounds charge per ton.
It costs, you about 'twenty $300 for the refrigerant, it's about $153 per ton.
And.
For <unk> unit.
1100, because it's about 70 bucks.
Per ton of refrigeration.
It's about $1000 difference.
Four or five ton unit.
Buying.
Recharged refrigerant. So so I have a unit it leaks that coil and someone comes out and says Okay. It's 200 box for me to put the refrigerant backend cluster some labor with that.
Or I can sell you a whole new system for $5000 and by the way that's only $1000 refrigerant charge, that's baked into that and you get a 10 year warranty.
Get more efficiency.
Those are the conversations that are taking place and dealers know this they're very very good at this.
Theres recycling that takes place but.
It's the it's just supply and demand in our 'twenty, two spiked up and it will continue to spike up.
Got it that's helpful. I think we're more like a Westinghouse electric fan blowing over ice cubes, but good example.
Thanks.
Okay.
Our next question is from Patrick Baumann with Jpmorgan. Please go ahead.
Hi, Good morning, Todd Good morning, Joe Thanks for taking my questions.
First of all yes.
First one just looking at the fourth quarter and the guidance for organic sales.
It looks flattish in terms of the year over year and I think you said price is about 6%.
And then you have a day's sales impact, which pulse pulls down the revenue by six I guess.
I'm coming at it and looking I guess youre, assuming flattish on volume and my question on our selling days adjusted basis that is in my question is really what's your visibility to kind of improving that volume growth rate in the fourth quarter versus what it looked like it was kind of low to mid single digit decline on volume in the third quarter.
It just seem like from your comments, you're not really embedding improvement from Ike the disruptions from Covid the supply chain. So maybe its availability related to furnaces versus AC or something like that but just kind of curious if you could give some color on that.
No I think it's tied to what I said I mean, we entered it we're already almost a month through the quarter and we entered low on inventory and so on.
My comments were around our production ability our production capabilities and so there they are materially better than what they were a month ago and even more better than they were two or three months ago. So.
I mean, the guides to guide, but our production capabilities.
We're getting these issues behind us.
Okay got it.
The issues are behind but the impact from the disruption.
Thanks Ted.
I said the issues are getting behind us right.
So it's getting behind US and then I said that the costs hangs up on the balance sheet and then you have to enter the quarter with the inventory to be able to sell and you sort of catch up as you go along and so that's the issue that we face.
Okay. Thanks for the color and then my follow up is on commercial HVAC and I wrote this down quickly. So I just wanted to.
Obviously confirm these numbers, but I think you said emergency replacement down 30 in planned replacement up 20, and I'm. Just wondering if you could talk about the drivers behind that in and since it was emergency replacement that was down.
A lot of it doesn't it isn't that by definition, just hard to kind of recapture.
Yes, I didn't say, we're going to recapture market share placement, so I didn't say that but I don't disagree with that but what what it reflects is were protecting our national accounts, which is by the way higher margin business for us so.
Cash.
After it.
And yes, it's hard to replace emergency replacement, but.
But I said earlier I think others are having similar issues. So we'll sort of see what the market share shake out us.
Understood. Thanks for the color I appreciate the time.
Thanks.
Next question is from Tommy Moll with Stephens. Please go ahead.
Good morning, and thanks for taking my questions.
Hey, Tony.
Got it sounds like the pricing environment still rather constructive so I'm just curious is there any sign of that momentum.
Diminishing is there any lack of discipline among the players in the industry.
Is your confidence level that you can keep price cost neutral into 2022.
Yes, it's still it's still remains constructive.
I think that southern <unk>.
Under state and Tommy I mean, our price I'd say, it's going to be up over 6%.
That's more than constructive.
The answer is we are.
We're aggressively getting price we're offsetting it this year.
Even when we're sort of on our platform going into it but this year, we're going to get $130 million of price commodities as 80, LIFO, which isn't effects cost 15, freights five terrorists or five that all adds up to $105 million.
And so we're more than offsetting those inflationary pressures this year.
And we'll even even to have a better performance next year.
Perhaps there was a little under statement there.
Thank you.
Yeah.
So tough quarter, Tommy you Gotta be helping me here you can't be piling on.
Yes.
Wanted to ask a follow.
A follow up on the SG&A line.
Just anything you would do to level set us on.
Any comparisons next year versus this year that may be squarely, whether they'd be favorable or unfavorable or should we think about next year.
As best you know today anyway.
Where that line should deliver good typical type of incremental as we have been accustomed to expect.
I think broadly I would say that I think sort of high level things I think about us.
His salary increases may be up a hair more than normal given sort of inflationary pressures.
<unk>.
We're all seeing.
And labor issues that we see.
Think that's probably true.
Even though we.
We've taken a step down second half of the year on we had a really really strong first half of the year. So on a full year basis incentive comp is up above target. This year and so we will get a benefit next year when when we re baseline it.
And we will continue to make the investments in products and distribution and in it like we always do so I think that's a long winded way of saying, there's some puts and takes but I would end up where you started with is I would sort of look at our model over the last couple of years of SG&A increases.
Or.
Going up less than revenue and Thats, what I would bacon.
Got it thank you Todd I'll turn it back.
Thanks.
And next we'll go to Joe Ritchie with Goldman Sachs. Please go ahead.
Thanks, Good morning, good morning, everyone.
Hey, John.
So maybe just parsing out those price cost comment a little further Todd you mentioned the six points in the fourth quarter I mean should we be thinking about that as kind of like a run rate then into the next maybe the first half of 2022.
And obviously the cost curves are starting to come down so at what point do you think you start to get the benefit of that spread widening.
The next year.
I think the cost curves are coming down much slower than I thought so steel is still pretty high.
Copper is down a little bit but steels.
Aluminum is down a little bit, but steels, where we're most exposed at this point.
As we move away from two large degree copper coils.
So I think it starts to take a while to unwind.
Given the carryforward.
And the timing of things this year commodities will still be up at least we're planning for commodities and our cost structure given that we hedge.
By steel based on different formats to include prior CRE pricing prior quarters here are you pricing.
We still expect commodities on a year over year basis next year that would be up significantly.
And we're pricing that's why we passed on a significant price increase at the end of the year and so we're going to have headwinds again next year, we're really confident we're going to offset them with price though.
And I think to answer your question.
The price increase of last year were beginning of the year second quarter third quarter and fourth quarter. This year. So.
So yes, we will have some nice tailwind first half of the year.
Okay. No. That's helpful. I guess, maybe my one follow on and you kind of referred to whether you replace that being down mid single digit depends like supply chain certainly impacted that to some degree and the conversation just around kind of R 22 and the.
Potential replacement I guess any any other color you can provide in terms of.
What's left to replace I don't know if you guys have dug into that any further and how to think about.
Kind of like the revenue replacement market as we head into 2022.
I understand the question I mean, we haven't done the math on that on the 2005 to 2010 at 60% or 22.
But I would.
When you think about 2009 2010, even 2008, there is a lot of those units still out there.
No.
They are under warranty up until.
Last year or the year before depending on the <unk>.
<unk> so people just get it fixed.
So those units are out there and it's.
Systems are out there and so I think it's a major driver of demand significant driver of demand.
Okay, all right great. Thanks, guys.
Thanks.
Next question.
<unk> Khanna with Cowen. Please go ahead.
Hey, Thanks, good morning, guys.
Jorge.
Nobody asked about Q, so I figured I might as well.
Can you comment on what Youre seeing in terms of inquiries how big it is.
Maybe in the commercial.
Business.
It still remains important but I'll be honest with you I mean, it's sort of gets pushed a little bit to the side given the other issues that we have and how we're taking care of customers and how we're prioritizing customers.
So the.
The biggest market.
For us it's probably schools.
And low rise office buildings and inquiries are still strong in resi is still important part.
But as you know.
Ben.
A little less bullish than others. So when I think about our opportunities going into 2022, I mean, we will drive in and we're focused on it but some of these other issues are obviously much more important.
Can you remind us what the incremental ticket sizes. If you do sell a system with IQ add ons what is it.
Proposal.
Yes, if you do it on resi system.
It can be 20, 20% or so on a commercial system, probably less than that 10 to 20.
If you sort of get the full package if you get everything if you just do Mirfield just upgrade filters.
It's probably three or four 5% that's UV lights, that's sort of the whole thing.
That's helpful. Thank you and Todd just to be clear on the Q3 and Q4 impacts from Covid is.
Is that almost entirely.
Commercial issue or did it also impact the resi facility in South Carolina, Iowa, You mentioned telos.
A little more resilient.
The factors that had impacted the most in order to the business was Arkansas, Arkansas factory, which is commercial but our Mississippi residential factory.
And our Lawrenceburg, South Carolina residential factory, so really sort of two ROTC factories.
And then the.
Commercial factory and again we.
We think about lots of criteria, where we put our factories.
I know I will offend people when I say this but I'm going to set any holiday, we never had a criteria where people believe in science right.
And in the southern factories are vaccines vaccine rates are much much lower than they are in other parts of the country as you would expect.
Because society reflects that and so we've had to run some of these factories.
<unk> thousand 30% backs vaccine rates.
And last question for me you mentioned the mixed dynamics.
Is it is it also true that the the higher MCR systems have more electronic components, and therefore more kind of at risk of pinch points in the supply chain relative to the to the entry level fare products work.
Or is that not true does that also have an impact on the mix just the supply.
That's probably fair.
A simplified it is thinking about it as production site that Mexico did better than Marshalltown.
Iowa, and we had lower mixed there, but I think you're probably right.
Both around variable speed.
And around control systems.
My guess is you're probably right if I dug in and that would probably be part of the answer.
Thank you very much guys.
Thanks.
Next we'll go to Nigel Coe with Wolfe Research. Please go ahead.
Oh, yes.
Your line is open if you're on mute, possibly.
Yes, so I was on mute sorry about that.
Good morning, everyone.
So.
Hi, Doug.
So when we talk about the improving conditions in supply chain sort of real time are we talking primarily about labor availability and productivity in the factory was it is it labor and supply of compresses motive.
Then just a sort of a subtext to that would be the commercial impacts on replacement was was that partly be RF.
Imports from your from midair or is that something separate.
Yes.
I'll answer maybe in reverse order the RF was up in the quarter.
So we weren't really impacted much there but.
But the emergency replacement was clearly impacted by availability because we were protecting our large national accounts I mean, we had.
To protect our existing customers before you went after new contractor business, which emergency replacement.
And what was the first part of the question Nigel Yes.
Yes, it's really just is it mainly labor that's gotten better for you.
Behind Us yes, yes.
The Covid impact.
The unplanned absenteeism.
That's that's sort of behind us at this point and again you see it in the southern States.
Covid case chart. So if you look at New York Times look at Arkansas.
South Carolina.
Look at Mississippi through down dramatically and we've seen that in our factories and supply chain.
We still have challenges that we're facing but it's much better than it was two or three months ago, and I think thats an order.
Inventory positions that we've taken on critical components.
Investments, we've made in qualifying new suppliers.
And then the third piece is I think the supply chain itself is healing, even if we hadn't taken actions on our own.
And then the auto companies are talking about some of these rare metals.
So magnesium and other metals that accounting pronouncements.
But aluminum alloys are coming up as a as an issue I know youll consumer of aluminum, but any any any sort of what kind of understand.
No not not that's on my radar screen, yet I mean that may pop up in the future, but I.
The issue around.
Different metals has impacted the integrated circuit market in some ways.
But I mean, we buy.
Straightforward aluminum.
And straightforward cultural steel.
So we're not buying anything exotic but that doesn't mean you might not be issues in the future, but right now that's not an issue with us and the auto guys slowing down.
<unk> has helped us with aluminum steel as you might imagine.
So that has actually helped us.
Okay, Great and then so can we just address once again the CEO search I mean, you you know.
Youre committed to the company until mid 2022, So would you describe the search right now as is intense so is it a timing still time on your hands, what we're talking about weeks months.
Any any color there would be helpful.
Yes.
It's intense.
I think we all understand that once you announce something like this the sooner you can move on the better and I got my wheels, Greg Im a hands on the wheel and driving as hard as I can.
Right and every day.
But as soon as they get somebody then then the transition will take place.
And so it's intense and what we're trying to get it done as quick as we can are the better say the board is trying to get it done as quick as I can.
Got it okay. Thanks Bill.
Thanks.
Our next question is from John Walsh with Credit Suisse. Please go ahead.
Hi, good morning.
Hey, John John.
Just wanted to come at the cost side of price cost a little differently here.
Obviously this year demand spin.
I think better for the market then than folks expected. So we've heard.
There might have been a little bit more spot buying of some of the commodities. Just curious if you would characterize this year is unusual on how much you buy in the spot market I'm just thinking about next year, what you might have unhedged in terms of commodities versus what you had unhedged this year in term.
A commodities.
I think I understand the question I'm going to ramble around it maybe directly touch on it and touch other areas I think the inflationary pressures.
To your point.
Buying on the spot in different ways, but.
Broadly.
Broadly I communicated that commodities are still going to be up significantly next year as the way we see it going forward.
I think the other way that that come in.
Inflationary pressures has hurt us in a way that we typically don't talk about as well.
<unk> cost reduction <unk> 2025, $20 million to $30 million a year with net cost we're taking out this year, it's closer to breakeven and the delta isn't that we arent doing cost reduction. We are the delta is that people are passing on price increases to us. So so we're also seeing pricing pressure.
From suppliers, who are passing on things that have steel in it and have aluminum minute.
They're passing that onto us and so we go into next year web while also not have our normal material cost reduction year, but again, we're able to offset that aggressively with pricing and thats why were seeding the new price.
At the end of this year.
Thank you for that and then maybe just one on on heat pumps.
Are they are meaningful.
Enough part of the mix yet.
They would have a mix impact if there is actually one from heat pumps I don't know, if theyre actually accretive or dilutive to the overall margin for Lennox.
I think they are roughly in line with the margin if we sell heat pumps.
Pump system with an outdoor heat pump and an indoor.
Air Handler.
It's not dissimilar to the margins that we can if we sell an AC outdoor furnace indoor.
That's a meaningful part.
Sure.
From memory third or so industry wide and with us of our total cooling capacity or heat pumps. So it's a meaningful part of our business and we've made significant investments as I've spoken about where we're coming out with us.
With a cold weather cooled reach and heat pump.
That allows you to buy as far north as Canada, and still have them be energy efficient and appropriate.
And so we've made significant investments I would've said five years ago, we lag the industry I'd say now we've caught up and maybe even ahead of people.
Maybe not sort of a carrier.
We've made significant investments, but almost everybody else we're ahead us.
Great. Thanks for taking the questions I'll pass along.
Thanks.
Our final question will be from Joe O'dea with Wells Fargo. Please go ahead.
Hi, good morning, everyone.
Yes.
First I just wanted to understand on Mexico as it is it strictly just you've had fewer COVID-19 issues for disruptions there or is there anything else about Mexico in supply chain that has made that a more favorable place to be kind of manufacturing through what we've seen in the in the supply chain environment, So far and does that continue to pay dividends.
As you increase your capacity when that factory comes online.
I think one is COVID-19 debt.
We were less hit there.
We were certainly in our other factories <unk> and <unk>.
South of the Mason decline in the U S.
I think gautam was probably on to something that I hadn't articulated that I think the more entry level product has less integrated circuits surplus at risk and then the third is just some sort of basic areas like steel supply.
Pallet supply the suppliers that we use for Mexico were more robust happened to be more robust I don't think structurally the answer that says Mexico is a better place to be for that reason.
But the way it worked out.
They in fact work.
Yes.
Okay, and then a question on emergency replace and I, just wonder as you get kind of more connected equipment and more data and maybe more preventive maintenance does that just become less of an opportunity in the marketplace for share shift over time are you seeing that where you can better protect share because youre not losing it.
If there's an emergency replacement someone tries to swoop in and get that.
I don't think so because in a sense emergency replacement is tends to be entry level product electromechanical controls theyre not monitoring it we're not monitoring it.
They turn it on when it's hot and they turn it off when it's cold and then it breaks Nicolas.
So I don't think we're going to remote monitor that in any meaningful way that will impact demand if people aren't.
Many of customers thinking about remote monitoring and we're usually able to trade them up to a better unit.
Got it thanks a lot.
Got it thank you.
<unk> and I will turn it back to you for any closing comments.
Thanks, a lot to wrap up we're battling through supply chain disruptions today, but also positioning the company for the future.
We carry strong pricing power in the 2022 to offset inflationary pressure looking at market drivers and our strong backlog position order rates, we see residential commercial unitary and refrigeration markets up in 2022.
More and more of the supply chain disruptions behind us, we expect to return to strong growth and profitability as we capitalize on market opportunities I want to thank everyone for joining us today.
Ladies and gentlemen that does conclude your conference for today. Thank you for your participation you may now disconnect.
Sure.