Q3 2021 Wesco International Inc Earnings Call
Hello, and welcome to the West coast that quarter 2021 earnings call I would like to remind you that all lines are on listen only mode. Throughout the presentation. If you would like to ask a question. Please press star followed by one on your telephone keypad. Please note. This event is being recorded I will now hand the call.
Over to Leslie Hunziker, SVP Investor Relations and corporate communications to begin.
Thank you and good morning, everyone before we get started I want to remind you that certain statements made on this call contain forward looking information forward looking statements are not guarantees of performance and by their nature are subject to inherent uncertainties.
Actual results may differ materially please see our webcast slides as well as the company's SEC filings.
Additional risk factors and disclosures.
Any forward looking information relayed on this call speaks only as of this date and the company undertakes no obligation to update the information to reflect the changed circumstances.
Today, we'll use certain non-GAAP financial measures.
Required information about these non-GAAP measures is available on our webcast slides and in our press release, both of which are posted on our website at Wesco Dot com on the call. This morning, we have John Engel, our CEO and Dave Schulz West Coast, Chief Financial Officer, now I'll turn the call over to John.
Thank you Leslie and good morning, everyone.
Well, we had another exceptional quarter and again delivered outstanding results across the board.
We're early into the second year of our transformational combination of Wesco and anixter and a substantial value creation of the new Wesco is underway and is building.
The impressive progress, we're making and the integration is a direct result of the dedication commitment and relentless execution of the entire wesco team.
I want to thank all our associates for their strong teamwork their supplier engagement and their exceptional customer focus and providing the products services and resilient supply chain solutions that our customers need.
Now moving to page four are.
Our sales growth accelerated versus 2019 pre pandemic levels in the third quarter and our margin performance and backlog achieved new records for the company.
Based on our strong third quarter results, we are raising our sales margin and profit outlook for the year.
We are outperforming the market across our three business units, our comprehensive products and value added service offerings are broad and deep supplier relationships and our technical expertise are proving to be critical differentiators for our company.
Importantly, we're ensuring continuity of supply for our customers, which is especially critical as the economic recovery continues.
At the same time, we've built a foundation for sustainable margin improvement through our increased global scale, our value based pricing program and realization of cost synergies at both the pace and scale that continues to exceed our expectations.
Our new earnings power is reflected in our third quarter.
Quarter profit performance, which was at record levels.
And it's been a key catalyst for rapid to rapidly delevering, our balance sheet since acquiring anixter in June of last year.
In just five quarters since closing the transaction, we've improved our leverage ratio by one six turns which is well ahead of schedule and highlighted very clearly the power of our business model.
Now moving to page five.
We have an expanding pipeline of sales opportunities and our cross sell momentum is building. We are on track to deliver $500 million of accumulative cross sell synergies by 2023, we're capitalizing on the strength of the complementary portfolio of products and services as well as the minimal overlap that exists between <unk>.
<unk> Wesco and legacy anixter customers.
Our customers are benefiting from our ability to be the one stop shop for their products service and supply chain solution needs.
Opportunities exist across all three of our global business units, we have already generated over $220 million of sales synergies since the merger closed in June of last year with 105 million being realized in the third quarter.
Recent cross sell wins in the third quarter include our EES business, expanding our local relationship with a solar contractor into a national multi brand service model that now provides wire cable and balance of system electrical products.
In another example, our CSS business as the supplier of choice for one of the largest data center providers in Latin America, one of multi year data Center project by utilizing the combined technical expertise of both our CSS and EES team.
And finally, our UBS business is also growing through cross selling where we recently expanded the scope of a three year project for an electric utility customer by supplying wire and cable. In addition to our inventory management project planning and storm response services.
Our cross sell growth opportunity is further amplified by the six secular growth trends that we've outlined previously.
Last quarter I talked about how we're capitalizing on growth opportunities in grid modernization and the Royal brand broadband build out.
Today I wanted to spotlight, how we are capitalizing on the ongoing.
Ongoing growth opportunities in data centers.
Currently there are approximately 27 billion connected devices around the world and this number is expected to surpass $40 billion by 2023.
These devices generate substantial amounts of data that is being captured routed.
Stored retrieved analyzed and ultimately operationalized with the rise of Iot and industry four point out customers and suppliers are increasingly relying on big data and data analytics to enhance the efficiency productivity security and cost effectiveness of their businesses.
As a result more data centers are being constructed and we're participating in these data center upgrades and build out and we're doing that by providing solutions for our customers electrical infrastructure network infrastructure, physical security and thermal management needs.
Our dramatically increased scale expanded portfolio positions us very well to capitalize on these secular growth trends that will sustain the current economic recovery and are foundational for the global economy in the years ahead.
So in summary, this is really a growth story, we're transforming into a growth company as a result of our digital investments cross selling our expanded portfolio of products and services and providing resilient and sustainable supply chain solutions for our customers around the world.
Continued execution of our aggressive integration plan and capitalizing on the secular growth trends will only accelerate this shift.
Finally, I'm happy to say the value creation potential of the new Wesco is building and we are only in the early days.
With that I'll turn it over to Dave to walk you through the details of the third quarter and our updated guidance Dave.
Dave.
Thanks, John and good morning, starting on slide seven the summary table compares our third quarter results to the prior year sale.
Sales were up 14% on both a reported and organic basis currency added 140 basis points to growth, which was partially offset by the divestitures we completed in February.
We estimate pricing added approximately 5% of sales in the quarter, notably sales were up 8% versus 2019 pre pandemic pro forma levels.
John mentioned, our backlog reached another record level this quarter up 60% from the prior year and up 15% from the prior record in June.
Each business unit posted backlog increases of more than 50% over last year.
Heading into the fourth quarter demand continues to be strong.
Preliminary October results are encouraging.
With sales up mid teens year over year on a workday adjusted basis.
Gross margin was also a record at 21, 3% in the quarter up 170 basis points versus the prior year.
The strong gross margin performance included a 50 basis point contribution from supplier volume rebates.
We recorded a 10 basis point impact related to the write down of safety inventory.
As you know, we've been managing the change and carrying value and inventory levels of certain personal protective equipment products like K N 95, masks and hand sanitizer all year.
Here, we don't expect any further material inventory write downs related to the safety products.
The balance of the gross margin improvement approximately 130 basis points was driven by the benefits of our margin improvement program and inflationary pricing.
Mix did not have a material impact on gross margin versus the prior year.
Sequentially versus the second quarter gross margin increased by 30 basis points, approximately 10 basis points of the improvement was due to a lower inventory write down related to safety equipment.
The balance of the sequential increase was driven by the benefits of our margin improvement program and positive price cost.
Adjusted EBITDA, which excludes the merger related costs stock based compensation and other net adjustments was 31% higher than the prior year and represented 7.0% of sales, which was 90 basis points above the prior year and 150 basis points above the 2019 third quarter on a pro forma.
Basis.
Adjusted diluted EPS for the quarter was $2 74.
Up 65% from the prior year.
Turning to page eight you can see that the higher sales expanded gross margin and integration cost synergies drove the $78 million increase in adjusted EBITDA.
As you would expect in a strong demand in an inflationary environment. We also experienced higher volume related operating cost, including shipping and sales commissions as well as higher expenses for employee benefits.
As a result of our performance year to date and expectations for the year. We also increased our accrual for incentive compensation, which we alerted you to last quarter.
Finally, the temporary cost reduction actions taken in response to the Covid pandemic weren't reverse until October last year.
Overall strong operating leverage is evident as we generated a 31% increase in adjusted EBITDA on a 14% organic sales growth.
Now let me walk you through the results by business unit beginning on slide nine.
Sales in our EES segment were up 19% year over year with double digit growth in all operating groups.
This growth reflects construction sales that continued to increase with the recovery of the nonresidential market.
We also continue to see increasing momentum in our industrial and OEM businesses in line with the broader industrial recovery.
We continue to experience robust bidding activity levels that are driving a further increase in our EES backlog from its record level in the prior quarter.
We also made further progress on our cross sell initiatives and are capturing demand driven by the secular growth trends.
Adjusted EBITDA for EES was $174 million up 60% from the prior year.
Adjusted EBITDA margin was eight 8% 220 basis points higher year over year.
This increase reflects the gross margin initiatives I discussed earlier.
Price cost pass through strong cost synergy realization and operating cost leverage.
Turning to slide 10 sales in our CSS segment were up 6% versus the prior year on an organic basis.
We saw high single digit growth in network infrastructure, driven by the data center and Hyperscale projects that John mentioned as well as continued investments in cloud based applications and professional audio visual installations. The security operating group sales increased by low single digits.
Backlog was up more than 90% from December to another record level due to continued strong demand along with the impact of supply chain challenges on project deliveries.
Profitability was also strong in CSS with adjusted EBITDA at 9.0% of sales 30 basis points higher than the prior year, driven by operating leverage integration cost synergies and the execution of our margin improvement initiatives.
Went out that most of the PPE inventory write down that I mentioned was recorded in CSS, which negatively impacted adjusted EBITDA by approximately 20 basis points.
In addition to our cross sell programs CSS is positioned to benefit from numerous secular trends the need for increased bandwidth 27 connectivity IP based security solutions and the capacity demands related to remote work and school applications.
Turning to slide 11 organic sales in our UBS segment were up 15% versus the prior year.
Utility demand has remained strong as both our investor owned utility and public power customers continued to invest in grid hardening and monetization.
In the quarter, we benefited from storm recovery sales in both the Gulf Coast and in the northeast However year over year storm recovery sales were slightly below the prior year activity levels.
Our broadband business was up double digits versus the prior year driven by continued strong demand for data and high speed connectivity as well as expansion in connectivity requirements for home based applications.
Additionally, we are benefiting from sales activity related to phase one of the federal government's rural digital opportunity fund projects.
For UBS adjusted EBITDA in the quarter was up 34%.
With margin 130 basis points higher at nine 1% of revenue versus the prior year.
This growth was driven by the scale benefit of set of sales and gross margin expansion.
Turning to.
<unk> 12 on.
On the left side of the slide you can see in blue boxes that we have realized cumulative run rate cost synergies of $128 million year to date through September.
Because of the accelerated pace of execution and synergy realization. We have increased our 2021 targeted cost synergies from 170 million to $182 million and our 2022 target from $210 million to $230 million.
Recall that these savings are relative to the 2019 pro forma base.
On the right side of the slide we've outlined the total $300 million cost savings target by synergy type and then the chart you can get a sense for the synergies that have been realized to date in each category for.
For example, the majority of the targeted $45 million in corporate overhead savings have been realized.
The largest remaining synergies are those that take longer to execute including the supply chain and field operations buckets.
Moving to slide 13, reducing our leverage is a top priority in the third quarter, we reduced leverage by 0.4 times trailing 12 months adjusted EBITDA for the third quarter in a row.
Total debt was reduced by $91 million in the third quarter with net debt down by $55 million.
Free cash flow was $85 million in the quarter or <unk>, 54% of adjusted net income.
Net working capital was a use of cash of $233 million in the quarter.
<unk> $150 million for accounts receivable and a $160 million for inventory, partially offset by a higher accounts payable balance.
We are gaining efficiencies in working capital using a four quarter average calculation net working capital improved six days versus 12, 31, 2020, and just over one day sequentially versus Q2.
We have been investing in our inventory to support the strong demand, we have been experiencing and to support projects in our backlog.
As John mentioned since closing the Anixter acquisition 15 months ago.
Our leverage is one six turns lower.
We're committed and remain on track to return to our target leverage range of two to three five times in the second half of 2022.
Moving to the outlook on slide 14.
Based on continued strong demand the effectiveness of our value based pricing program inflationary benefits and the progress we're making on the integration front.
We are updating our outlook for 2021.
As we close out the year, we're raising the lower end of our sales growth range and now expect 2021 sales of 11% to 13%.
For our strategic business units, we now expect the electrical and electronic solutions SBU for the year to be above the company's range of 11% to 13% given the macro recovery and performance to date.
We expect our communications and security solutions SBU to be below the range, noting the strong backlog and continued management of supply chain disruptions.
For the utility and broadband solutions SBU, we expect full year sales will be within the range utility market demand continues to be strong and we expect continued growth in broadband.
As we think about the supply chain, we're in daily contact with our supplier partners to stay up to date on capacity levels in shipping timelines we.
We expect to continue to be able to mitigate the supply constraints in the fourth quarter through managing our inventories effectively supplier engagement and alternate sourcing as necessary.
The fourth quarter is off to a strong start with October sales up mid teens.
For adjusted EBITDA margin, we've raised our outlook to the range of six 4% to six 5%.
We continue to expect our effective tax rate to be approximately 23% for the year, assuming proposed tax changes do not take effect in the fourth quarter.
We've also increased our adjusted diluted EPS outlook to a range of $9 20.
To $9 40.
When it comes to free cash flow conversion, we're modifying our outlook to approximately 80% of adjusted net income to reflect continued investment in working capital to support customer demand and maintain our service levels.
To date, we've spent $25 million of cash recorded as capital expenditures and about $30 million of cash flow recorded in other for investments in it and digital.
We are narrowing our forecast to approximately $100 million for the full year for capital expenditures and other it slash digital investments.
Turning to page 15.
Before opening the call to questions, let me provide a quick recap.
We've had an exceptionally strong performance year to date in the third quarter organic sales were up double digits and our backlogs are at record levels in each of our businesses.
We are capitalizing on our leadership position and the benefits of scale and are executing well on the cross selling opportunity, resulting from the anixter merger.
We are also effectively managing global supply chain challenges to ensure we continue providing high levels of customer service.
When it comes to margins, we're leveraging our value proposition to improved pricing and increased operating leverage through cost synergies that are tracking well ahead of our original schedule.
Our rapid pace of deleveraging continues.
We reduced leverage by 0.4 turns for the third consecutive quarter and have delivered a total leverage reduction of one six turns since closing the transaction just 15 months ago.
These strong results have enabled us to increase our full year outlook for sales growth adjusted EBITDA and adjusted EPS for the third time this year.
With that I'd like to open the call to your questions.
Okay.
We will now begin the question and answer session. If you would like to ask a question. Please press star followed by one on your telephone keypad. Please limit your questions to one question and one follow up.
First question today comes from some dock ACH at Raymond James Your line is open.
Good morning, John Good morning, Dave how are you.
Good morning.
Terrific margin gross margin performance in the quarter two questions first I wanted to re explore the topic of M&A.
I mean, you've rightfully been in deleveraging mode post anixter, but.
A few weeks ago <unk> announced it was acquiring mayor in a half a billion dollar deal at what looked like a very attractive multiple at least to sales.
I imagine that mayors fit isn't great with wesco, but they are a major a member of a buying group, which I would imagine probably shakes out a whole bunch of other folks that are looking for large sized dance partners.
I guess my question is at what point do you believe Wesco is ready to take on M&A of some size under what circumstances would that occur and how would you look to finance those deals.
So thanks for the question Sam.
I've said for years that.
The market was very fragmented and it would take some external catalyst to accelerate the consolidation.
It's true today that the distribution portion of the value chain is much more fragmented than our supplier base.
We clearly saw this.
And as you know and we've talked at length M&A is a critical value creation lever for us we signaled strongly back in 2019 at our Investor day that.
Okay.
The bigs had to start to come together.
Quite frankly, wesco and anixter coming together and the first move or the biggest consolidating.
I think we have a situation where the bigger they are going to get bigger faster now and so that's just an intro to my answer Sam.
We don't look at M&A as an event its a process we have a pipeline of opportunities we're managing right now.
As we speak we have several NDA that had been signed with potential targets.
We are we are thrilled with our deleveraging performance.
Not a surprise to us I know, it's a surprise for many investors, particularly those that don't understand our business and our leading distribution model, but it's not a surprise to us we're delevering very quickly.
And we always said, we can't perfectly time.
The M&A transactions that we've gotta be positioned when.
The deals are put into place to be the.
Final bidder.
We'd like to be the only call in many cases, we inspire them to be put into place. So that we're working that.
Set of opportunities as we speak to them.
We think that as a result of the two companies coming together and we got we got and how quick we're delevering showing the strength of our model.
Profit growth in the.
We paid down debt further in the quarter.
We are an exceptionally strong.
Position that continue to drive M&A, we're committed to delever back within our target range and as Dave mentioned, but were working a whole multitude of opportunities in parallel.
Sure. Thank you second question John in your experience.
Where would customer double ordering most likely occur in your business and what is your assessment whether that is in fact occurring or.
We know what sorts of guideposts are you looking at to manage that dynamic.
I find this question very interesting.
It's something where we've been all over in the process of how we're engaging with customers.
We have a very clear view of.
Well, we'll get multiple will be we will see it in the bid activity, but not multiple orders.
Well I don't have one example of where where something was double ordered.
And look we're not seeing cancellations out of our backlog.
And so.
Just.
Find it a very surprising question quite frankly, I know a lot of folks are asking about this we are not seeing that on the customer end of our value chain period on the supplier end of the value chain I can tell you.
Across the board, we've not placed a single double order.
So I just.
Is this is a really interesting I know that this has some narrative out in the end investor and analyst community you need to think about as a distributor we have many many supplier partners.
We are a supply chain management solutions company. So we're in the position to help customers solve their supply chain challenges, what we have been seeing and there are clearly supply chain challenges.
But I think we're doing an exceptional job of managing through it and they said if our John we're seeing new customers come to us and were seeing current customers wanted to make one our assurance that we can ensure integrity of supply.
And resilience as they ramp up their operations. That's why we very purposely increased our inventory significantly over the last few quarters.
Terrific to hear thank you gentlemen.
The next question comes from Deane Dray at RBC capital market.
Please go ahead.
Thank you and good morning, everyone.
Hey, Deane.
Hey, doing real well. Thank you. So first question can we stop start with what's the assumptions in the boosting the low end of sales guidance.
By the percentage point I would've thought pricing alone would have accounted for all of that.
But just on that topic, you said five percentage points of price in the quarter.
Where does that put price cost I know thats not a lot of specifics you typically provide here, but in this environment any further color would be really helpful.
Yeah, Deane. So we noted a 5% benefit that we received under our revenue line from price as we think about the balance of the year, we've assumed that that 5% stays steady as we go through the fourth quarter and what we have not included is any incremental new pricing that we can.
Could potentially see in the fourth quarter again, thats very hard for us to predict so when you think about the impact of pricing on our outlook for the year and raising the bottom end of the range price contributed.
One of the things that we're also taking into account is just the strength of our business the backlog that we see.
And then obviously, we're still effectively managing through the supply chain constraints.
We also taking into account that December is always a wildcard month, and particularly with how the calendar falls where.
The holidays on a Friday, so 12 31 2021 as of Friday. So obviously will be opened for business, but we're not sure where our customers will be we think we've got the appropriate guide given that risk.
Yes.
David that's really helpful and maybe it will just stay there for a follow up question.
If we kind of think about the comps for October November December and recall that you stopped giving monthly sales update a year ago.
But by our numbers in order to hit the 2021 sales guidance on an adjusted days basis.
We would actually have to slow down to low double digits in the quarter and you've told us in October already is up mid teens. So.
Are you assuming just tougher comps.
The timing of holidays, maybe some conservative notice on supply chain issues, but any color there would be great. Thanks.
Yeah, It really boils down to the December wildcard D.
As you mentioned if you take a look at the midpoint of our outlook for the full year you imply the fourth quarter, it's a low double digit at the midpoint in terms of the year over year increase remember that our December comp from prior year, our Q4 comp from prior year.
We're essentially flat.
Sales, so again, a slightly tougher comp, but it really boils down to the December wildcard and whats shipments our customers will be receiving given the holiday period.
Great and it's not a question just a shout out nice work on gross margins. Thank you.
Thanks Dean.
The next question today comes from David Manthey at that David. Please go ahead.
Thank you good morning, everyone.
Good morning, Dave John in your monologue you what.
Ensuring customers continuity of supply and Dave you talked about the some of the sourcing efforts that you've made and there's clearly issues everywhere, but having listened to a lot of conference calls.
This earning season and talking to a number of other companies.
Is electrical just bearing better as it relates to these supply chain issues or is that my imagination. It seems like you mentioned it is in Europe since it doesn't sound as as dire as some other industries are portraying it today.
And there's a lot of David Great question, Theres, a lot of variation by category.
So I don't want to paint electrical with one paintbrush, there's portions of electrical that are a bit more challenged than others.
There are portions of wire and cable and electrical that.
Capacity is.
Utilization rates of our suppliers are at all time high.
But in general I would say.
If the <unk> system, we are delivering a lot of semiconductor content.
Does that supplier have a lot of semiconductors built into that product.
Pending on the type of semiconductors, and how they've been positioned with their build plans and their inventory build to support.
There are manufacturing schedule, that's where I think the most acute issues Eric.
There are clear challenges out there so I don't know.
We didn't really see any material impact Dave in Q2 in Q and Q3, I mean, we're thrilled with how we've executed.
And I think we're again seeing the benefits of our our newfound scale.
Global supplier partnerships as a result of.
Doubling up the company.
But sales would've been a little higher.
We had zero supply chain constraints.
Past dues from our suppliers.
And they would have been higher to the tune of 1% to 2% of sales in the quarter.
And so I think that's just an important mark.
And those sales don't go away remember there those sales their sales now occur into Q4, just move it moves forward. So I mean, we're thrilled with what we posted in the quarter.
But but you know we're not completely immune from from supply chain challenges.
That said I think a lot of folks have reported now and I think you can put into context, how we perform.
Versus others, we're very confident that we're executing at a high level and feel very good about our value prop.
Mhm yeah.
I would agree with that.
And.
Looking at.
Unallocated corporate expenses.
I think if we look at pro forma numbers, even versus the third quarter of 2019, those are up like 30%.
And they were up pretty sizable.
Last year as well could you talk about the key components of corporate expenses driven that uptick.
Yes, Dave good morning, So very clearly as we've done the merger and we've recognized some synergies in our corporate overhead.
There are a couple of factors that are also adding to our overall corporate expense.
Portion of it is really the incentive compensation.
We also have from an overall net income perspective, we've seen the increase in our interest expense and some of our other expenses to run the company. We've also been investing in some of our digital transformation and we've talked about that as we brought both wesco and anixter capabilities together, we think about the future of how we create competitive.
Vantage, we had been investing in some of those digital applications that we believe are going to help create competitive advantage versus our peer group those are primarily sitting in that corporate overhead bucket.
Okay. Thank you.
Yeah.
The next question today comes from Christopher Glynn from Oppenheimer. Christopher Please go ahead.
Thanks, Good morning, everyone.
Oregon, Chris just curious.
Hey, John so.
SG&A that's been a nice build in the spend rate I know variable comp is.
Proving with the great results, but.
In the past I recall, you have kind of leaned into SG&A.
Pretty regularly.
Now you can.
Leverage topline and gross margin execution, a little more so curious how to think or is there some capitalized spend what we might call going into SG&A or is it really the variable kicking in.
So Chris it's Dave Schulz, So if you're if you're taking a look at our Q3 numbers versus the prior year.
The majority of that increase is really twofold.
The incentive compensation accruals were expecting to pay out.
Much higher than our target compensation and if you compare that to the prior year, we were below our target compensation. So that's the majority of the increase the second factor is we had COVID-19 into base. So you're seeing that increase year over year. We will continue to manage effectively all of our focus on SG&A and being cost effective.
<unk> as I mentioned just on the previous response, we're also investing in some of our it and digital capabilities, particularly as we think about the.
The year over year capabilities that we want to build and again keep in mind that we're also paying out not just incentive compensation from a short term incentive we're also paying out much higher.
Compensation to our sales force given the results that we had year over year.
And Chris on that point, that's really important.
Remember when we took all the investors through the recipe.
Of our of our enterprise wide margin improvement program last quarter.
Key pillar a key component of that recipe program is sales force compensation.
So look at the gross margin results, we're getting and the commission rate on gross margins is also showing up as Dave outlined which again is.
Obviously very accretive we're seeing excellent pull through on that investment to the bottom line.
Yes.
Stat as well curious too or are you seeing any suppliers make material strides.
Against past dues in recent weeks ability to get stuff through and then comment maybe net basis variance or does it shift around to other suppliers.
Yes. So that's a great question I can tell you. We're in we're in real time dialogue with our supplier partners I personally.
Spending a larger percentage of my time engaging with the senior leadership of our top supplier partners I'm very confident that they are they are aggressively attacking.
Were there any bottlenecks in the process as well as a number of them are selectively expanding their capacity.
They've got some real tough challenges on the supply chain and I think you have.
Many of them in turn are in there.
Reports this quarter talk about that.
But I do think that.
We're just we're closely coupled with them great partnership and we're.
Ensuring we get our proper fair or kind of our fair share given the size of the relationship of the allocation coming off their manufacturing lines in many cases, we're their largest customer if we're not their largest for them their top three clearly that's the first point I would make second point I would make is and this is really important.
And depending on the end customer application.
Some cases, the suppliers product slash brand effect in so in that case, there's not the ability to offer alternative suppliers or sources of supply, but in other cases, that's not the case and so we obviously lean in heavily owner and are working in partnership with our TARP preferred suppliers to help them grow.
Their business, but a third if theyre short and they're not specced in at the end customer and again. This is the power of distribution, we have a much broader supply base, an array of products and services in any of our individual suppliers have that's part of our value prop to our customers.
We we it's our job to provide.
Fleet and resilient supply chain solution for our customers and help them manage their challenges and that is what we're doing in those categories, where we can.
Were limited.
If and only if were limited.
Just on the output of our preferred supplier partners.
Does that help.
Yes.
Great. Thanks for the color and good to see the numbers.
Thanks.
The next question today comes from Nigel Coe Wolfe Research Nigel. Please go ahead.
Thanks, Good morning, everyone.
So inventory.
Building quite nicely.
In contrast to your suppliers.
Claiming that the channel is low ends and.
It probably needs to restock. So my question is number one are you satisfied with your inventory levels.
Secondly would you expect to see the typical liquidation going into <unk> or do you think thats going to be more moderate than it was a buffer those inventories.
My real question is do you think youll suppliers prioritizing U.
This is competitive because you all know the big gorilla in the market.
Great question Nigel.
It's very clear that we increased our inventories and that was by design, we purposely purposefully did it and we want to ensure.
First of all we have an all time record backlog and I'll just I'll stay on this for a moment.
That backlog has increased every month this year.
That in my tenure.
I became CEO in 2009, I have not seen this.
In my tenure.
So and we're setting new records each and every successive month as we move through this year. So we've purposely increased our inventory to support the book of business.
Higher demand, we're seeing and what we've got booked as well as maintaining high customer service levels and that's represented by the fill rates and we're holding up our fill rates at very high levels, we've not seen a real fundamental or material.
Degradation in our fill rates, which we're thrilled with.
That's paramount for us.
I do believe doubling the company in this one move and the transformation, we're going through puts us in a much stronger partnership position with our top supplier partners.
We feel that given our value prop with our end customers that were driving differentiated demand.
Of our suppliers.
And at the end of the day it as we do that they will they will invest in our relationship.
If we can drive differentiated demand of our supplier partners they invest in us and that is what we're seeing.
By the way with what.
You would it should happen it needs to happen when you scale up that way.
And I think I'm, so proud of the team in terms of how they're managing that scale up and to your point, we still got headwinds.
<unk>.
The economic recovery cycles underway, it's building momentum and it is still supply chain constraint.
With that said I think we're doing an exceptional job given that.
Yes, No question no question I will say I will say that and then Nigel it's important but one other point there are select categories.
And I think you'll all understand with regard to various companies I'm talking about where there is a greater shortage in the value chain.
And so you know.
But again when you think about the whole value chain and the role that a beat of be distributor players it's our job.
To manage that problem and because we have a wide array of global suppliers.
That's how we're going about it.
Great Great and then my follow on is it's really about long term EBITDA margins.
If we just run rate that the remaining cost synergies.
We get probably close to an eight handle if not above an eight handle on the EBITA margin.
Do you do you underwrite that mean do you think that we have transitioned to like an 8% to 9% EBITDA margin over the next two or three years.
So for Nigel we have not put the longer term target out there yet, but I can I will.
I'll make this strong statement, which ive already made.
But now we have five quarters under our belt.
This is not a one or two quarter phenomenon, we now have five quarters under our belt post anixter merger and.
In a market. That's recovering we are still a lot of headwinds and in gens that challenging set of market conditions, we are demonstrating outstanding margin expansion.
Inherently we have a stronger margin profile for the combined company going forward.
So absolutely we see art.
We're well on the path of significantly expanding our EBITDA margins.
Look at where we stand today not versus last year.
Because many companies from 2019 to 'twenty and in 'twenty to 'twenty one.
Their business is impacted in different ways or measurements against 2019, which is pre pandemic levels and we got pro forma we've got pro forma results out there that we're measuring ourselves against that's how we're measuring our synergy look at what our margins have done.
Versus 2019.
Just up substantially.
And so and getting tremendous operating leverage so yeah, I, just I'm thrilled with the with the with the trajectory we're on and.
I think as a result of this strategic combination and the transformation we're going through.
We're going to be delivering margins that are well above anything that we had done historically either legacy anixter legacy Wesco. The combined company inherently has a much stronger margin profile.
Okay I'll leave it there thank you much.
Our next question comes from Steve Barger at Keybanc capital markets. Steve. Please go ahead.
Thank you John.
John Your last comments really kind of segue into the question that I was going to ask.
After all of the positive changes this year, presumably 2022 will look more normal in terms of year over year comps and cost structure, if we get a mid to high single digit growth year wasn't it.
Gary tailwind what do you think the right incremental operating margin is for this business now.
Yeah.
I can't answer I'm, not going to answer that yet Steve.
We will I mean, clearly we all have our sights on expanding margins and generating strong profit growth in 2022 versus 2021, we've got outlined our guidance yet.
And outlook and we will do that as part of our Q4 earnings call.
I think it'll be.
It's a very important time, when we deliver Q4 earnings to do that because where will we be.
We will be six quarters in.
Post anixter merger.
So it will be halfway through to the three year integration period.
At that point, we'll be setting our targets for 2022, but based on I mean, I'll just answer it this way, though we've got very strong and positive momentum that we built throughout 2021, that's going to carry through the end of the year as represented by our increased guidance.
We increased our guidance three times this year, so part of that the biggest part of that quite frankly was our was the accelerating execution on the integration and putting these two strong companies together, we think 2022 is an excellent setup.
The economic recovery cycle continues we do we do envision strong demand across our end markets all our end markets.
We are in the recovery cycle and as we move into 2022, you'll see in the supply chain issues get.
<unk> mitigated because the supply chain, they're gonna get rebuilt it's not if it's just when and at what rate of speed.
Coupled with our record backlog our strong execution.
And particularly cross sell and that's one of the most notable accomplishments. This quarter remember this is the first quarter, where we've disclosed actual numbers and quantified the delivery of cross sell that proves to be the most elusive synergy in any acquisition and I couldnt be more pleased with those results and so we clearly.
With the expanding cross sell pipeline that that execution contributes to a greater fashion and drive that market outperformance next year and then finally as Dave talked about the digital transformation that we started is well underway I recognize we've not talked a lot of details about that that's something we will be doing in 2002.
'twenty two.
It's very very exciting and the digital transformation is going to build momentum as we move through 2022.
I appreciate that context.
That's good.
Just looking at some of the growth drivers for the business.
Doesn't seem like there's a national strategy for grid infrastructure upgrades, but it's obviously a really important topic. What are you seeing more locally or maybe what percentage of the country is showing a sense of urgency around that.
This is clearly building momentum.
It's why we spiked it out as one of our six secular growth trends in my time with the company.
They haven't been having joined let's go back in 2004.
You've talked at length about this over the years about the state of the grid.
Several decades old the design is a massive need of investment and upgrade and that was with before digital.
Kind of and five G and all these other technology started to end the convergence that we are seeing starting to impact the entire grid.
So these are these discussions we're having with our utility customers now are unlike anything we've had in my tenure with the company and.
I think theres, a real sense of urgency on behalf of our customers and they are having those discussions if it's an investor owned utility youre seeing them increase their capital spending.
You can literally look at their disclosure, you're seeing a step up capital spending if it's public power and municipal co ops et cetera, theyre going and trying to make their case for increased investment.
With the regulators and so this is why exactly why we spiked it out as one of the six secular growth trends. This is going to be a meaningful growth driver for our business for the next several decades.
I will also make the final point on this which should not be underestimated.
Coupled in with Green energy. So you just see a tremendous ground.
Around.
ESG, but particularly around sustainability and so that that to me is you know.
A key underlying driver to this secular growth trend now and we are exceptionally well positioned we're not a manufacturer right remember that we're not a manufacturer. So the best way, we can impact the overall value chain.
And the greatest impact that we can have is on our customers' operations and supply chain and we do that by delivering sustainable solutions are.
Led lighting turnkey retrofit renovation and upgrade capability on new automation solutions safety, our safety or other renewables.
So just a terrific an outstanding growth opportunity and again, that's one of the six that's why I'm. So bullish on the future of this company and Thats why I test US now as a growth story.
The past is not prologue.
We are not yesterday's wesco.
This is a new company.
No question about that thanks very much.
Yeah.
The next question comes from Patrick Baumann at J P. Morgan Patrick. Please go ahead.
Hi, Good morning, John Good morning, Dave Congrats on the results.
But a lot of great questions yes.
Good morning, Tom.
But a lot of great questions already answered, but just have some minor ones here can you update us on the merger related costs to achieve the synergies just kind of where we are to date versus plan. It's just hard to reconcile.
With some of the detail you provided I'm just trying to get a sense of when you might be true with that and then relatedly what were the biggest items within the $36 million during the quarter.
Yeah, Patrick it's Dave Schulz. So I appreciate the question. So we've talked about the cumulative cost to achieve through 2021 of $125 million. We've obviously had some changes between what were classifying as capital versus operating expense at 125 was all operating expense.
We are still trending below that number in terms of our total spend year to date through September what youre seeing in the numbers that we reported for Q3, it's primarily related to some of the pure execution. We did have some FTE reduction. So we recognize separation expense. We also have a series of consulting.
<unk>, who are assisting us with some of the implementation and execution of our synergy capture.
<unk> expenses had been accrued for and recognized in the quarter and as we think about our 2022 outlook, where we talked to you about that in our next earnings call. We'll provide a full update on our synergy our synergy timeline and also the cost to achieve.
Got it okay, So 125 million through 'twenty, one and.
That was relative to that was at a $2 25 number you had last mentioned I'm not asking for an update on I just want to make sure. It's apples to apples. That's correct. So we have not updated those numbers yet we're still working through some of the annual operating plan requirements for 2022 as we provide you our full year 2022 outlook, we'll update those numbers.
Helpful. And then my follow up is on the sales synergy synergies, which sound pretty positive can you talk about some examples of where you're seeing the most traction on the cross sell and then how do you go about measuring when these are in reality synergies.
Yeah, well, let me talk about how we capture it and track it and then I'll turn it over to John who will walk you through some of the examples so one of the things that we put in place was a very rigid set of guidelines.
What we're calling a cross sell and it has to be a capability that was only enabled through the merger of the companies and some of the enormous.
Capability that we're able to bring together through the merger.
So we have a digital app that we're actually using with our sales reps to make sure that we track and validate each of the cross sell and as we've mentioned earlier, we're providing incentives to our sales force when they are able to do.
Record a cross sell and so we have a process. We go through every month to make sure that we can tie out the numbers not only from the for the purposes of reporting it to you, but also to make sure that we're compensating our employees appropriately.
Yes.
It's.
A rigorous process and again, we still I'll remind you that we still have that dedicated integration management office dedicated resources in place. They are in place and will be across the three year integration period, and so there's a tremendous amount of Av.
Mature process insurance amount of rigor around.
Validating all synergies we thought it was really important because we were getting the question increasingly are you starting to really see the sales synergies we had not quantified. It. So that's why we came out with the disclosure this quarter I did mentioned in the prepared remarks, three examples which are really good examples I'll give you another one or two.
This is this is a case, where anixter had a preexisting relationship with our real estate services company, so existing legacy anixter customer and we went and expanded the offering dramatically with our turnkey lighting solution and an E M, Inc, and a separate EV charging station.
Solution.
Both of those capabilities, but we're not an anixter portfolio. So here's an existing legacy anixter customer and this was another win in the quarter.
Where we sold.
Capabilities that existed on the Wesco side.
Another example, and that was in our CSS business because they have the existing relationship.
With our real estate services company and the relationship of Datacom. So we had a datacom relationship.
Another example, in the UBS business, where we were selected by a telecom and broadband provider to provide all of the fiber optic materials for our high speed Internet expansion program for over 50000 residences.
So theres a fiber to the X where the exit of the home.
Again.
Neither company was well positioned.
Previously before coming together, it's the combined capabilities that put us in a position to win this strongly.
And when it when it in the fashion that we did so theres a couple of other examples.
Very helpful. Thanks, Thanks for the color and best of luck.
Thanks.
Our next question comes from Christian Cat Capital Christian.
Line is open.
Hey, good morning, guys.
Good morning.
Just thinking about that backlog, particularly within when EES can you give any color on kind of the duration there and how things are moving I mean, just how early are customers kind of getting in line here and how much weight, we can be putting on that record backlog in the in the near term.
Yes, it's an outstanding question when you look at what's in the backlog.
It's orders that will ship within the current months within the current quarter and it extends out for the next 12 months or so.
It's really important to understand what we lay in the backlog. These are firm orders price and delivery bonafide orders, we get from the customer that goes into our backlog that we're going to execute and fulfill against a ship against.
Where we have a multiyear.
Agreement with a national counter global accounts customer and you can look at that as an annuity like business, we don't load that into backlog.
We don't we don't say Oh effectively it's in backlog because we have this multiyear agreement no we only load within backlog when we have firm Pos.
And so.
Again, I don't know I don't there's no single example of a customer double order and the earlier question. We are that's something we continue to check in and we haven't had canceled orders out of our backlog. We've had some we've had some delayed they are delayed because we may have a particular supply chain issue that pushes out the delivery date, but we haven't.
Had any cancellations so.
And we haven't had any material dis synergy as a result of anixter and Wesco coming together is something we update every quarter.
It was the case as we exit Q3 so.
That gives you a sense that back.
I put a lot of weight in that backlog personally.
Not the absolute value, but it's the trend of the backlog.
And the reality is it's.
It's so counter to anything I've seen in my tenure and has counted a seasonality it's just.
Now we do have a different set of conditions, we doubled the size of the company overnight. We brought two strong leaders together so that is a clear driver of.
Of the.
Of our backlog growth the way I look at it is you got to look at backlog growth plus sales growth, that's really what youre doing in the market.
And you put those two together it we're talking an exceptional number because our backlogs our backlogs are up strongly.
You're talking 50%, plus and Annie and UBS and EES and CSS is up 90%.
Yes.
No very very encouraging thanks for the color there much appreciated.
And just kind of a point of clarification, obviously excellent work on gross margin execution on those supply chain synergies I guess.
A clarification the gist.
Field operation savings is that entirely in 2023 or could somewhat sort of trickle in a little bit in late 'twenty two.
No some of that will be in 2022, Chris. So we are continuing to execute the field operations, we have executed and initiated some of those activities here in the latter part of 2021, but we're not going to start realizing significant savings until we get into the middle part of 2002.
92.
Perfect. Thanks, so much guys.
Well. Thank you all again I think we're at the top of the hour so I'm going to bring the call to a wrap and thanks again for all your support is very much appreciated.
We've got a number of follow up call scheduled today and tomorrow. So we look forward to diving in deeper to take you through the business and we look forward to speaking with many of you throughout the quarter as well, including our upcoming investor.
The next event will be the Baird Global Industrial conference that we're participating in that will be next Wednesday, and then we will be participating in the Stephens investment conference on December 2nd.
Thank you very much again for your support and have a great day.
This concludes today's conference call. Thank you for joining you may now disconnect your lines.
Yeah.
Yeah.
Yeah.