Q2 2022 Lennox International Inc Earnings Call
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Ladies and gentlemen, thank you for standing by welcome to the Lennox International second quarter Conference call at the request of your host all lines are currently in a listen only mode. There will.
At the request of your host all lines are currently in a question only mode. There will be a question and answer session at the end up at the presentation. You may enter the queue to ask a question by pressing one N zero on your phone pressing one and 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 second quarter of 2022 I'm.
I'm here today, with CEO , elope, Mascara, and CFO Joe Reitmeier.
Local will discuss highlights.
Highlights from the quarter and key strategic developments.
Joe will take you through the company's financial performance and outlook for 2022.
After that our local provide closing comments and take us into Q&A.
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 question.
The earnings release with GAAP to non-GAAP reconciliations today's presentation slides and the webcast link for today's conference call are available on our website at Www Dot Lennox International Dot com the.
The webcast also will be archived on the site for replay.
All comparisons mentioned today are against the prior year period, unless otherwise noted.
Turning to slide two 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.
<unk> publicly available filings with the SEC the.
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.
Let me turn the call over to CEO elope Mascara.
Good morning, and thank you for joining us today.
I have enjoyed meeting with many of you since I started on mainline.
And I look forward to more conversations so that I can continue to get insights and perspectives from all our key share holders.
I'm happy to kick off my first Linux earnings call by reporting a record quarter with record revenue record EBITDA and record EPS driven by strong growth.
Before I begin I want to thank all our employees for their hard work towards improving service levels, given the global supply chain disruptions.
It is their hard work and perseverance that has enabled us to deliver record revenues and profits.
Please turn to slide three.
I want to highlight four key messages.
One we.
We had a record quarter driven by continued strong execution in our residential and refrigeration segments.
Company revenue was a record at more than 1.3 billion up 10%.
Adjusted earnings per share was a record as well at $5 per share up nearly 10%.
Our turnaround efforts in our commercial factory in Stuttgart remains on track and we are pleased with the sequential improvement in our quarterly results.
However, supply chain disruptions continue to constrain production and our ability to meet strong demand.
Second we continue our disciplined capital allocation strategy, as we repurchased $100 million of stock and paid 33 million in dividends in the second quarter as we generated $97 million in cash from operations in the quarter.
Third the company continued to advance its strategic priorities with a focus on innovation and E. G.
I will talk more about these in a moment, but we are the first company to complete the department of Energy's Cold climate Heap bump challenge and we recently published our latest ESG report that includes the company's science based targets.
Fourth we are increasing our full year revenue guidance.
And are also raising the low end of our full year EPS guidance range.
Now.
Please turn to slide four to discuss the company's recognition for being the first to achieve the objectives of the D O E cold climate Heap challenge.
Homeowners in colder climates have traditionally relied on fossil fuel heating for their homes.
The D O E challenge was created to accelerate cold climate heap bump advancements.
For colder climates, and revolutionize the H E Z industry with the solution that offers comfortable cooling and heating while significantly lowering greenhouse gas emissions.
In June I was honored to host the secretary of energy, Jennifer Granholm, who traveled to the Dallas area to recognize the Linux team for their accomplishments and advancements in affordable clean and efficient heating and cooling solutions.
Linux takes great pride in designing manufacturing and delivering the most efficient climate control products on the market.
Even before the challenge well enough advanced technology team was already working on the development of our cold climate heap bump to add to our extensive line of best in class heat pump products already on the market.
The cold climate heap bump represents our dedication as a company to accelerating environmental sustainability to ongoing product innovations advances and efficiency gains.
And greenhouse gas emission reduction targets.
Turning to slide five.
Our 2021 ESG report has been published and is now available on our website.
Beyond our leadership and heat pumps and dedication to decarbonization.
Our latest ESG report highlights that our emission reduction targets are now approved by the science based target initiative.
This initiative is focused on climate action in line with the goals of the Paris agreement to help prevent the worst impacts of climate change.
The ESG report covers.
We are meeting or exceeding our improvement targets in environmental.
As well as the continued progress, we're making in diversity and inclusion.
And of course strong governance is fundamental and the bedrock of Linux.
I encourage all our stakeholders to read the report and continue following our ESG progress.
Now I will hand, the call over to Joe to discuss the second quarter financials on slide six.
Thank you Luke and good morning, everyone looking at the second quarter for Lennox International overall, the company posted record revenue of 1.3 dollars $7 billion up 10% as reported and up 11% at constant currency.
GAAP operating income was a record $227 million up 5%.
And in the chart you see that total segment profit rose, 4% to a new record $230 million.
Total segment margin was 16, 8% down 110 basis points, primarily due to inflationary pressures global supply chain disruptions and factory inefficiencies.
GAAP EPS was a record $4.96 up 10% and adjusted EPS was a record $5 up 9%.
Moving to the business segments, starting on slide seven you will see a record quarter for residential in revenue and profit.
Against the 30% prior your prior year revenue growth comparison residential revenue came in at a record $978 million up 17%.
Price was up 13% and volume was up 5%.
Mix was down 1% as we still saw supply constraints on our high end products in the second quarter and we expect this to be the case through the second half of the year.
Residential replacement sales were up mid teens and new construction was up high teens.
Residential segment profit rose, 14% to a record $216 million segment margin contracted 50 basis points to 22, 1%.
Cooling degree days were favorable in the prior year quarter in the South East South East and South central regions in the U S, but cooler elsewhere.
We opened two new Lennox stores in the second quarter and are targeting 20 to 30, new stores. This year weighted to the second half and we now have 235 Lennox stores.
Now turning to slide eight and our commercial business.
Revenue was $220 million down 13%.
Volume was down 22% price was up 4% and mix was up 5%.
Commercial segment profit was down 62% to $17 million and segment margin contracted 1010 basis points to 748%.
Commercial end market replacement demand remained strong and we have made significant progress in hiring factory direct labor at our factory in Arkansas to support that.
But supply chain disruptions continue to significantly impact the equipment business.
Commercial improved sequentially in the second quarter, and we focus on prioritizing key national account customers in school business during the summer months.
We announced a third commercial price increase effective August 1st and continue to expect commercial improvement in the second half of the year.
Looking at our refrigeration business on slide nine.
You see second quarter record revenue and profit.
Refrigeration revenue was $169 million up 14% as reported price was up 12% volume was up 9% and mix was down 1%.
Foreign exchange had a negative 6% impact so revenue growth at constant currency was 20% led by more than 30% growth in North America order rates and backlog remains strong and in Europe refrigeration revenue was up high single digits at constant currency.
Europe commercial HVAC was up mid single digits at constant currency. The geopolitical environment is weighing on the market regionally and supply chain disruptions continue to impact our European operations.
Overall for the refrigeration segment profit rose, 73% to $23 million and.
Segment margin expanded 470 basis points to 13, 8%.
Turning to slide 10, let's review, our 2022 full year guidance.
We are raising revenue growth guidance to 10% to 15% up from prior our prior range of 7% to 11% for.
For the industry would continue to assume low single digit shipment growth in north American residential market in the North American residential market at mid single digit shipment growth in North American commercial unitary and refrigeration markets.
We are raising the low end of our guidance for GAAP and adjusted EPS to a range of $13 80 to $14 50.
Compared to the prior range of $13 50 to $14 50.
Price is now expected to be a $400 million benefit for the year, which was a nine 5% yield and this is up from our prior guidance of $335 million in price.
Residential mix is expected to be a $25 million headwind for the full year compared to the prior year guidance of being neutral this.
This is primarily due to continued supply disruptions that are impacting the high end of our product lines.
Commodity cost inflation is now expected to be $130 million down from the prior guidance of $140 million. However, we are still seeing inflationary pressures on components and other materials and now expect a 100 million dollar headwind compared to prior guidance of a $70 million headwind.
For other components.
Factory inefficiencies are now expected to be a $15 million headwind compared to prior guidance of being neutral and freight costs are now expected to be a headwind of $20 million up from prior guidance of $15 million.
Interest and pension expense guidance is $35 million down from prior guidance of $40 million.
Other guidance points are not changing.
We still expect corporate expense to be $95 million.
The effective tax rate is still expected to be between 18% to 20% and foreign exchange is still expected to be neutral for the full year.
We are planning.
For $125 million capital expenditures and then regarding free cash flow for this year. The third quarter has a solid start with continued hot weather and as we get into the other side of the summer season, we have more of a read on macroeconomic and on the macroeconomic environment with rising interest rates as well as the supply chain and our progress with.
Converting raw materials and whipped into finished goods in shipments we will know more.
We are maintaining free cash flow guidance of approximately $400 million at this time for the full year as well as $400 million of total stock repurchases for the year with $300 million already completed.
We still expect a weighted average diluted share count of approximately 36 million shares for the full year.
Now with that let's turn to slide 11, and I'll turn it back over to <unk>.
Thank you Joe.
Looking at the second half we are mindful of a potential slowdown in the U S economy.
And with interest rates rising a potential decline in residential new construction.
We are prepared and have contingency plans in place but to be clear that's not what we are seeing in our business today.
Demand continues to run ahead of our ability to fully satisfy our customers as supply chain constraints persist.
Due to the supply chain challenges.
Inefficiencies continued to impact performance, especially at our Arkansas for three and four are commercial.
As we look ahead, we have a strong backlog and order rates across residential commercial and refrigeration.
Commodity inflation is easing and our ongoing productivity and material cost initiatives will positively impact that business and be evident as the supply chain normalizes.
Before we go to Q&A, let me close our prepared remarks on slide 12 by summarizing.
Why I believe Lennox is a great company and what excites me most about being the CEO of <unk> a company with 127 years of history.
The value driven culture.
We are the leader in energy efficient climate control solutions operating in high growth end market.
Strong replacement demand.
We have an ESG mindset and are narrowly focused on H B C. R.
The company has innovative products with a unique direct to dealer network and we have a history of robust execution and disciplined capital deployment.
Thank you for listening, Joe and I will be happy to take your questions now operator, let's go to Q&A.
Ladies and gentlemen, if you wish to ask a question. Please press. One then zero on your Touchtone phone you may remove yourself from the queue at any time by pressing one zero again, if you are using a speakerphone. Please pick up the handset before pressing the numbers.
Once again, if you have a question you can press London zero at this time, we're going to start Q&A question and answer with the line of Julian Mitchell with Barclays. Please go ahead.
Thank you very much.
Welcome Hello can I hope its been a smooth start so far.
I suppose Julian good morning excited to be here.
Good morning, maybe just.
Our first question around.
That commercial business and how youre thinking about the pace of margin improvement there as you go through the third and fourth quarters. It does sound like you.
Becoming more satisfied or less dissatisfied with the sort of plant efficiency. There. So what kind of maybe margin exit rate could we see entering into 2023 for example in the commercial segment.
Julian.
Great question I would hate to give you a number now we are still in the midst of a turnaround.
I was pleased to see sequential improvement in our long term goal of getting that business to an 18% to 20% range and margin still remains valid, but given the shortage of components that not just line up the whole industry is facing right now and the disruption in supply.
It's a little early for us to give a specific number for Q3 and Q4.
We are focused on commercial shall remains serving our customers.
Protecting our key accounts, serving our school based.
And personally I will be expecting small, but steady sequential improvement in the business going forward.
But you know, it's going to be slower than I like slower than our shareholders would like but we are making good steady progress Julien.
That's good to hear thank you and then maybe my second question just IRA.
Around the sort of any sense of the waiting of earnings between Q3, and Q4 anything unusual this year because of price cost.
And in terms of how that plays out and I guess to sort of put a finer point on it if if we're looking at say slide 10, we've got a very good summary on the right hand side that you ran through.
If we're thinking about the the price of 400 and the commodity cost of minus 130.
How do we think about those in the second half versus the first half those two numbers.
Yes, I think Julien I think you can almost mirrored the price where we've got $400 million of price out. There 225, we've already captured first half 175 second half I would split the cost almost accordingly with respect to that and then the cadence or seasonality of earnings I think we're getting more and more close to what I would.
The rise is more routine.
Routine or normal seasonality within our business last year. It was a little bit disrupted given the strong first half we have but what we are up significantly first half and then.
Things seem to slow down second half things can be just the opposite this year.
Where we had a little bit slower start the first half largely because of the tough comps, but that momentum continues in the second half and I think once again, we will get back to more normal earning seasonality. If you were to look back to 2017 2018 timeframe.
And Julian I would just add to that to remind that the second half pricing is going to appear to be lower just because we start lapping ourselves on price increase of degradation last year correct. So it doesn't mean, we're giving back price or anything like you know we are clearly going to hold price right.
Great. Thanks, Hello can joke.
You bet.
Next question comes from the line of Jeff Hammond with Keybanc. Please go ahead.
Good morning, guys.
Good morning, Jeff.
So just back on on a commercial how are you thinking about kind of the balance between the headwinds being supply chain and the headwinds being labor.
And just kind of update us on progress on <unk>.
Recapturing the labor and strict garden and any thoughts around kind of diversifying you know.
Production within commercial long term.
Sure. So I think commercial turnaround remains a huge focus of ours on the labor situation in the actions. We took earlier in the year are bearing fruit and we are now meeting our hiring goals and our attention goes so I think while you don't declare victory on that I think the labor situation is now.
Under control and our biggest bottleneck at this stage remains.
Availability of components and improving factory processes to get the right quality output.
I guess from a <unk>.
Going forward perspective, as I look at supply chain.
Clearly, we got to diversify our supply chain get more than one supplier, but there are some industry wide part shortages that we are dealing with and that remains our focus.
On a longer term question, Jeff Yeah, I mean listen this is a growth industry.
Previously talked about our desire to have a second factory.
And we remain committed to that thought process.
To go a little slower than what we may have thought simply because if you take a factory with poor processes and replicate it.
We'll have two factories with poor processes. So I think we're going to take our time to make the right decision and find the right location and improve the processes, but be on the look out you know when we have the Investor day in December we'll give you more color on it Jeff, but we remain committed to expanding capacity.
And winning back the share that we might have lost through this disruption.
Okay, great that's good color.
Just on.
Some of the early feedback on this sheer and some of the regulatory changes in the price.
Are the cost price component you know into 2023 around that has been coming in higher and I'm. Just maybe just speak to one your readiness for the change in kind of the Redesigns Youre doing and what you think.
The the inflation around the regulatory changes in the 'twenty three look like thanks.
Sure. So the answer is we are 100% ready thank.
This is a smaller change than what us and the industry have dealt with in the past.
We went from 10 to 13 in the past I mean, we are going from 13 to 14 or 14 to 15. So I think we are 100% ready and I believed overall the whole industry is going to be ready.
We are in the most inflationary time that we have ever seen in our careers at least a few applies so clearly I think this is a great opportunity for us and the industry to make sure that we capture the full value of the CEO change in pricing, we intend to do so so.
If you are seeing indication in the industry that the price is going to be better I think that's good discipline and that helps us.
Invest more in products that are environmentally friendly or in the newer technology, So we 100% ready.
The value will be captured in price and if anything I think the industry margin should expand because of the change.
And I don't expect any huge stock up or pre buy just because at least we still remain in a supply constrained environment not a demand constrained environment.
Okay. Good color. Thanks, so much.
Next question comes from the line of Gautam Kahan with Cowen. Please go ahead.
Yeah.
Hi, good morning, congrats on the new role.
Hello, Thank you.
I had a couple of questions first I was curious.
If you could speak to.
The long term framework that the company has provided in the past for financial guidance has been somewhere around mid single digit sales.
Sales growth of 30% Incrementals.
Do you do you agree due largely by into that framework.
I do and the reason we didn't talk about long term guidance. This quarter because there is no change to it. So there is no update and I think you previously said that I wouldn't expect any updates just because there's a new CEO I mean, if we need to change things because of macroeconomic conditions or something else, but yeah.
I read the Incrementals at 35% and I'm looking at joined smiling as I say that but no. There is no change or update to that got them.
Okay and when.
We've seen a dip in copper aluminum and steel cost.
Could you update us on how quickly those could the spot rates that we've seen in the last quarter.
Flow through the P&L and.
You mentioned component costs are still rising and so just maybe if you could square the percentage of Cogs that comes from raws.
Components of how it all kind of.
Can net benefit next year looking at all.
Sure Simon at this stage as commodity cost ease of majority mentioned, Doug we have reduced some of our <unk>.
Guidance range from making up by $10 million.
If the cost is more we might see slightly more benefits, but frankly most of the benefit of any commodity easing is likely to be in 2023.
Because given the inventory we hold in the pre buys we all have gone for <unk>.
Locking in commodity pricing.
Impact is going to be in the Q4 of 2023 timeframe I'll, let Joe talk about some of the walk between the different pieces, but keep in mind that beyond the commodity and component costs. We have many other inflationary pressures such as labor costs, such as health care costs, such as real estate cost.
But Joe please feel free to add any more color to that yeah, I think that's correct.
We did take the commodity guide down $10 million and that's for the benefit of what we see in the second half of the year net of our hedge positions and if commodity costs remain where they're at today. What we'll see is we'll see a lift in the second half of 2023 once again largely become aware prices were in the first half and then also where we have prices locked in with our hedge positions.
Yeah.
Okay and then just the last one have you seen any.
If you could talk about the supply chain, where things still are you know what your visibility is to things improving where our pinch points getting worse, where they've been stable where they are getting better.
Just if you could talk about sure.
Sure. So I'd say for things such as freight and availability of freight things are getting better. So I think that's an industry wide phenomenon, we like that if you look at availability of sort of components.
As a mixed bag I think they are quite a few components, which is getting better but in some commercial components, we seem to be facing industry wide shortages right. So I think thats something that we have to continue watching out for.
The whole issue around semiconductor micro chips, I mean that remains our biggest pinch point right now.
And despite redesigns respite, adding vendors, we still expect to.
See significant improvement only in early 2023 at this stage.
But net net you know the policy of here is that things are no longer getting worse I mean for the longest time as we looked at it we.
We get that.
Finding new things as we play it back a mall so we're still playing a bit of whack, a mole, but it's an existing things and.
And we don't see anything specifically getting worse, but every time I see something positive I turn out to be wrong here. So let's be cautious as we go forward. The team is working extremely hard you know we were very talented team that continuously watches and monitor the performance of our supplier base.
Thank you.
Our next question comes from the line of Jeff, Jeff Sprague with vertical research. Please go ahead.
Thank you good morning, everyone.
Hi, Jeff.
Hey, Joe.
A lot of ground covered already.
I'd be interested in a little bit more context from a kind of an overall portfolio.
Thought process of look.
You expressed.
A lot of comfort in the fact that you like that the companies basically.
A pure play company. So it doesn't sound like you have big strategic moves on your mind, but as you settled in there a little bit and look at the portfolio.
Do you see opportunities for bolt ons in various areas.
Also a lot of discussion about commercial but.
And I, just wonder about refrigeration, what you know what.
Work you might need to do there.
To get the margins even better trajectory.
Sure so.
Jeff I think the view hasn't changed we like being focused we like being HB ACR and we will continue doing so so yes, if you're a big strategic thing means if I'm going to go buy a smoke alarm company then probably not.
Not going to be doing that so I think from that perspective, that's good but being a smaller player in a larger industry.
We have one of the lower market share among the top four companies, we see tons of opportunities for bolt on.
Tons of opportunities for product expansion in terms of opportunities for geographic expansion within the U S and outside the U S.
So, yes, I do see a significant opportunity there.
Refrigeration you know it's a good business there are pockets that are better than others and that's a review that's ongoing for us as we look through it.
Oh of course.
Short term focus is to improve the performance of their business.
I believe every business unit within the refrigeration segment has an opportunity to do better and that's what they want the team to focus on as we look through the overall situation and come back and present to you in December on how we would tag each of our business segments.
To a higher margin level.
So still remain very excited about the portfolio still continue to evaluate lots of bolt on and partnership opportunities.
Yes, we would not be going into Florida, adjacencies in any big bold strategic move because I think that's not who landmark says.
Great and could you elaborate a little bit on how you're thinking about share gain or share recapture.
<unk>.
I would assume that's maybe.
Kind of a deal oriented strategy, but.
I'll, let you answer any color there would be appreciated.
Sure Jeff you know what I think the first thing for us is to be able to restore our supply and manufacturing capability, we had a history of.
Share gain or maintaining share and ever since the Marshalltown tornado, we have struggled to recapture share or gain.
Gained share so our first focus is gonna be restoring our manufacturing capability. So our salespeople instead of apologizing to dealers for not having products are going to spend more time getting new dealers on both so I think that's our number one piece right second for us is relying on our innovative new products.
And we have quite a few but again given supply conditions, we have not been able to fully market and launch doors to gain share, let's take heat pumps as an example that we talked about.
Third one is just proven strategy in opening new stores.
When we didn't have enough products, we didn't open new stores, because the stores would be half empty, but as we get inventory to be in a better spot you're going to go back to opening new stores and yeah. It's a package it all together.
Of course, we need to add more dealers of course, we got to get back into the commercial.
The curbside replacement business, which we've sort of walked away from and of course, we got to expand our geographical footprint. There are pockets of U S, where our market share is much lower.
Just because of our historical footprint and no other reason.
So I'm very excited about the opportunity to gain share. We believe we have strong value propositions and our dealers love our value proposition that we have direct to market.
I don't have to go through a distributor all the time, so I think there's lots of opportunities and we'll tell you more in December yet.
Great. Thanks, Good luck.
Thanks.
Our next question comes from the line of Ryan Merkel with William Blair. Please go ahead.
Thanks, I wanted to go back to the question about the Seer change impact for 23, how much are you raising prices on base that's for 'twenty three because of this year change.
You know Ryan we haven't declared the price $4 23 lineup yet but at minimum. If you think we are going from 13 to 14 or 14 to 15, you should think of that as being baked into the price right. The percentage change baked into percentage price, where clearly there are many more complicating factors.
And it depends also on where we are in the inflationary cycle, but yes, we do expect to capture that on price.
But we haven't announced a price level for our 23 line card yet Ryan.
Got it.
And what percent of sales with this change impact.
You know as you know the lowest.
So out of the base layer typically accounts for 50% to 60% of the industry sales and we expect that news here would be about the same now we hope to use the opportunity to upsell to consumers on a higher seer product because we still make the.
Our highest year product in the industry, but I think of 50% to 60% number Ryan which has historically been true will remain for the shutdowns.
Okay makes sense.
And then a follow up on commercial there's a view that commercial could buffer potentially slower resi demanded three so how is quoting and booking trends looking and do you have enough backlog to hit that extends into 'twenty.
Such that there could be a buffer.
You know if razzies floors, which as he mentioned earlier, we haven't seen signs in our order book, but it could be masked because of the weather patterns. We have a yes, I do think commercial it should be a buffer.
A based on volume B for US also based on the margin opportunity because remember our commercial margin opportunity is probably larger than others given that our garden state is the challenging.
The whole industry not just us at this point, we are sold out for 2022. So yes, we do have backlog for 'twenty three as well.
But some of those backlogs fill tentative as we walk through pricing availability and design.
In the short term.
We are extremely busy just so we enter 2020 to order.
But every other residential slows I agree with you Ryan I think commercial should give us buffering, both from volume and from margin perspective.
Perfect. Thanks, so much.
Our next question comes from the line of Josh Sullivan.
Scott with Morgan Stanley . Please go ahead.
Hi, Good morning, all and local welcome to welcome to the call.
Hi, Josh Good morning, Josh.
Just wanted to follow up on an earlier comment Joe that I think you made in terms of recognizing commodity deflation really more in the second half of 'twenty three based on the hedges.
I guess, yeah that that sounds like I don't know couple of quarters later than than history, and I guess as it pertains to steel.
It's kind of outerwear that mills would let you walk out that far so just wondering if there's something kind of unusual about this environment.
In terms of that duration kind of driving that later than expected realization there.
Not really it may be earlier, Josh you know once again, it's pretty.
Pretty volatile at this time once again, it's the year over year comps that I was referring to it does take a little bit of time for those components, because we pre build inventory earlier in the year to work their way through inventory.
And the cost of sales or on the P&L and that's really the dynamic that I was counting on.
Yeah.
Got it.
And then just second question Joshua Doug when you just don't know.
You and I bought it would be happier if it falls through sooner right. So I think what Joe said no later than second half, so lets see where volatility picks us yeah.
Okay Fair enough, Yeah, I guess, the last six months of probably humbled a lot of people trying to forecast our input prices.
The on the change in kind of a price impact of that in the marketplace look if I look back to 2015 and in the the regional Seer standard that they took over that year I think price mix for a while the industry was like low single digit that back then and.
Probably no different than a normal year I'm. Just wondering you know what's what's kind of unique about this point in time, where you would think that would be higher, especially with some of the deflation coming in in a couple of folks having seen a chair with supply chain interruptions.
Sure I mean, I could start by saying I wasn't here in 2015, so maybe we had increased price as much but I think in all seriousness.
We are in a extremely inflationary environment globally on every product.
And I think the disciplined set of competition that we have everybody is going to look at this opportunity.
To make sure we captured the full value of that and when a consumer.
Has to keep in mind that the equipment costs are less than half of the total cost that they are paying for and there's strong replacement component and other energy efficiency benefits.
So I can't answer the question of 2015.
It could be a supply constrained environment labor material all inflationary has been high.
I would expect the CEO change to drive incremental price benefits for us and for the industry and I would also add there Josh it's also going to come with a bit of a mixed benefit as well. If you remember I believe last year change only cover half the country. So you know this once the whole country. So I think that will present, a little bit different dynamic and then once again it'll.
It'd be a combination of both price and mix benefit in 2023 from the <unk> conversion.
Got it I appreciate it best of luck to you about.
Okay.
Our next question comes from the line of Nigel Coe with Wolfe Research. Please go ahead.
Thanks, Good morning.
The way I love the slide says that's a nice innovation I guess.
Just on the on the on the price.
Last conference that we would add slide Nigel it's I'm glad you noticed.
They go Yeah go [laughter] I know that these things now it's it's good.
But so first of all I look nice too nice to see you on board.
So.
The nine month same price for the full year I mean, how does that look by business and the spirit of the question is obviously commercial.
With full percent prices lagging behind so I'm just wondering if we're going to see some some catch up on price in the back half of the year and maybe that could be a fourth for improving margins for commercial in the back half, but on the peripheral business I'm just wondering how we view our normal margins for that business and again, just thinking about the labor increase.
He says the labor cost increases we've seen.
The facility does that in any way pinch longer term margins for commercial.
Yeah lots of good questions. So let me start by talking about sort of pricing. So I think your observation is correct.
Shell is lagging behind on pricing, but you know what they are doing better than where did it in Q1. So we are pleased with our sequential improvement.
As a business as you know is heavily dependent on key accounts. So as the key accounts negotiations continue.
We are moving forward and we're getting more and it was mentioned in the script that we have announced another price increase that goes into effect August 1st.
So I would expect commercial to catch up on pricing.
There's nothing to keep in mind is that the sheer change that's coming in 2023 would require a new set of products, which means there's an opportunity to establish new price levels and the current contracts do not describe price level is for the new product which are necessary in mandate.
By 2023, so I do expect a step change in <unk>.
Price for commercial as we approach 2023.
You know the labor cost is a unique thing so as we go through the Matt to your question.
First of all hourly labor is not a huge portion of our labor costs. So that's one second I think we are taking the opportunity to upscale our workforce and offset some of those increases based on higher quality lower scrap.
And also in the long term I'm looking at a second location, which are likely going to be.
And a lower LIBOR.
Location, lower labor cost location versus where we are now.
So in the short term for a quarter or so is it a headwind yeah is it material in the big scheme of thing now I think there are other things such as just our scrap.
And overtime that all killed us more than to higher hourly wages.
Thank you Don I don't lots of detail probably more that you wanted but yeah commercial needs to catch up on price and we are confident that we will do better in the second half and we're even more confident that we'll do better in 2023.
Okay No no. We we like detailed so don't worry about that.
But again come back from that firm price for the full year and then maybe just you know what what what are you baking in for residential.
That number maybe if you could just clarify are you know does the C check.
Change is that baked in at all to that number I think that's more of a mix in the price, but that's been has but just want make sure that's not in the numbers.
Yes, we've got it all broken broken and we've not given price by segment, but it's probably not much different if you were to do the math on what you see in the first half of the year by each segment.
Once again, we just instituted another price increase and in commercial that will give us more of a lift in the back half of the year and going into 2023.
Once again, I'm not going to break down price by business, but once again, we remain confident that we're going to deliver 400 plus million at a minimum.
Thanks, Joe Thanks, a lot.
Our next question comes from Steve Tusa with J P. Morgan. Please go ahead.
Hey, guys good morning.
Our excuse me safety.
<unk> on on on the post here and I Echo I agree with Nigel great great to see the slides and a little bit easier to two.
Absorb a been a busy morning.
Just on the free cash flow, how do we expect that to.
Les out for <unk> is that I mean, I know <unk>.
<unk> is obviously.
Seasonally heavier so should we expect more of it to come in <unk> or more of a flashing for.
I think it'll be more of a flushing four to be honest with you Steve.
Another thing that we're going to continue to keep our eye on is availability of raw materials and if we have the opportunity to carry more raw materials. The normal to prevent some of the disruptions we've seen in the supply chain. We may do that later in the year. They may have implications on free cash flow, but don't think it'll be material.
But we'll have to just keep our eye on that as well, but those are sort of the things that I would expect once again, probably getting back to what I would characterize as a more normal seasonality of our cash flow once again pre tornado.
And then as far as the seasonality of your earnings in the second half should that be pretty normal just remind us of what that split would be just at a roughly.
Yeah, I think if you were to invert, the second and third second and first quarter. This year in the third and fourth quarter of this year I think youll come up pretty close.
Okay, Great and then one last one where are you in terms of your independent channel and loading it for.
The the new the new Sea air products.
Sure as you know in residential.
Most of the majority of our sales are vast majority of our sales go direct to dealer. So there's clearly no loading going on some of these guys may buy a garage Lord.
But they're not doing that on the allied other distribution channel we remain in a supply constrained world. So we are not currently have any plans to preload on our highest year basis, but that might change if demand slows and we get into Q4.
And have more of an opportunity to do that but we will be fully prepared and as you know if needed we'll move units from south to north based on manufactured date versus all the other.
Wonderful things that the industry is already used to doing so we're not concerned and <unk>.
Living in a supply constrained water will continue evolving.
But we don't expect a significant amount of pre build up are you, saying like in the previous year of change.
But I guess for the for the south they they have to they have to have the product to start selling it on you know on Jan one so I would assume that that kind of mix N has to happen there.
You know maybe not a pre buy but like certainly a you know a.
A gradual transition the channel.
Right about that or not because that's an install date youre absolutely right and that was my comment around Q4, and so by the time Q4 comes in because most of our garden doors and distribute it like at all Yeah, Tony got inventory at least four times a year right. So yep.
Four times, you would stop shipping goes yeah, yeah, great. Okay. Thanks for the color I appreciate it good luck.
Yes.
As a reminder, if you did have a question you suppress one zero.
Our next question comes from Joe Ritchie with Goldman Sachs. Please go ahead.
Hi, Good morning, and welcome of luck congratulations.
Good morning, Thank you Mani.
So oh I'm, sorry, if I missed this in your prepared comments, but I'm curious as to the 17 points of growth you saw in this quarter, how much of that was volume.
5%.
That's a 5% volume and then the DAU grew by five.
5% volume.
I'm pretty equally distributed between allied and Lenox or did one grow quicker than the other.
Yeah, we don't we've not broken that out you know once again, what I'll say is we continue to see strong demand on both channels are in both channels.
Okay, and then and then maybe just going back to the commercial margin. So clearly like obviously, it's been a it's been a difficult you know.
Last few quarters and you guys are seemingly sounds like things are getting a little bit better I'm just curious like.
As you kind of think about the margin improvement in that business for the second half of the year like how should we be thinking about kind of like the right. The right margin for that business, either sequentially or or for the rest of the rest of the year.
Yeah, I think it's really hard when you are a turnaround situation to give exact numbers, but I would say we were pleased that Q2 was better than Q1.
Even if it's modestly better you know I would expect a similar pattern in Q3 Q4, but you know even if you have to take a hit for a quarter here and there I mean, our long term goal remains to protect our customers served as schools make sure we make an award through the share dynamic.
Long term goal is to get that business up to 18% to 20% margin and that might take us two years, you know I wish it less than that.
But that's where we focus on.
I think a small sequential improvement is what we would land for rest of the year.
But given the situation and still quite volatile I wouldn't be tied down to any specific numbers yet.
No that makes a lot of fun.
And I know many of my last question I know youre not seeing it in your business today, but you know I'm sure you guys have done some sensitivity analysis around what.
Rajiv downturn can look like.
Maybe just help us.
With any type of framework that you guys would have you you guys are sort of approach.
Clinical downturn, if we start with Dave and Rodney.
Sure.
I might eat Wall Street Journal and I come to the office and say Oh, we're going to face a downturn and then I look at the order rates and it turned out to be wrong. So theres been going on ever since I started.
The broader question that you asked is you know clearly a very seasoned team we've run scenarios on all different aspects on.
On the residential new construction just based on slower housing starts we can model that pretty effectively and Reno.
How many months after our homes dodged <unk> as he goes and so that Pas and easy for us to model and we're doing that.
We're clearly going to offset that with new programs to gain share.
And also remind everybody that's 20% of our business not 80% on.
On the 80% which is replacement.
We feel very good that.
Very little of that will move from replacement to repair, especially given the part shortage. There's historical represent changes the Seo changes, but then again, we have modeled that are different aspects. One is 10% changes from replacement of repairs.
And then of course, our goal is to get value out of those repairs as well.
So that's the kind of scenarios, we have dealt with no two downturns are the same.
And whatever comes through our goal is to be prepared and deliver the best value for our shareholders would be around at least three or four different scenarios and we know what cost we need to take out we know where we focus to gain share and we know that.
None of these downturns last very long in our industry.
That's helpful. Thanks Nicola.
Youre welcome.
Our next question is it Brett Linzey with <unk>. Please go ahead.
Hi, good morning, and welcome to look.
Morning, Brad.
Just wanted to come back to the commercial business I. Appreciate some of the color around backlog. You noted you were sold out there just curious what you're seeing on the new order front.
And you know, how that's been tracking and really specifically around the national account business and how those conversations are going given some of the slower consumer reads.
Coming out of those cases those customers.
Sure I mean, a good question.
We're not seeing any changes in the demand there.
We could sell whatever we make right now setting it's possible that there is the underlying weakness in none of us are seeing it because.
Because every manufacturer had an extended lead time, there I think one thing that gives us some comfort on these national accounts is.
That the higher efficiency units have a very quick payback that's apparent and these are sophisticated buyers.
So despite a consumer slowdown.
US retailer will get significant energy benefits by replacing the <unk> units and a quicker payback.
So I think that's the piece that gives us some comfort in the commercial cycle is that there is a bar and value and a willingness to pay for these upgrades, but we haven't seen any change we'll keep watching it closely.
But we don't expect larger customers to make any significant deviation from their current policy, which is like you know replacement every few years and get the value of energy efficiency.
Okay, Great and just on the contingency plans I think you made a comment on that in the opening remarks, but.
Just curious how you would handle a more shallow downturn would you just you know ride down the decrementals and try to you know.
Preserve the integrity of the organization.
What did you get it costs pretty quickly just kind of high level, how would you think about attacking that.
You know.
Every time you hit a downturn if I knew it's going to last exactly for eight weeks then yeah, we would try to preserve the organization, but in reality, we never know I mean, having lived through many downtowns no I mean, I think our goal would be to minimize the decrementals like you know take tough actions.
The opportunity I mean never waste a crisis I mean remember that we will always look at this as an opportunity to strengthen the organization, even if it's a smaller organization.
And take some of the tougher actions so no Oh, we would try our best.
To.
Minimize the decremental.
And they can offset it by G&A reduction offset by deferred investments just because we don't know how long the downturn will last.
Okay, Great I appreciate the thoughts.
And our last question comes from the line of John Walsh with Credit Suisse. Please go ahead.
Hi, Good morning, everyone and welcome I look and I appreciate the slides this quarter.
Morning, Josh Thanks for the complex to try and keep the slides going yeah, it's hard to take them away well you won't get the praise next quarter, if they're gone.
Get complaints, but while being I guess, you can cut that they enjoy it as you can be imagined I think better with Powerpoint in front of me. So we do like the small set of broad slides.
Yeah, Yeah no.
Just looking at the.
First half margin performance I think last quarter, you said that you could grow margins at the total company level. Just curious when you think about your mid point.
That's in the guidance range you have out there I mean, what our total company margins doing.
Other down slightly.
Once again, it's just the pressures that we're continuing to feel in the back half of the year, while we have commodities easing we're still combating inflation on the components and other inputs side. So it's sort of a net net there.
All in I think margins for the full year would be down roughly 40 basis points.
Got you. Thank you for that and then maybe just one follow up you know the refrigeration incrementals have been pretty strong thus far in the first half about 40%.
You know do you think you guys can maintain this ZIP code or you know how you're thinking about.
About.
Refrigeration Incrementals broadly I know you don't give a spot guidance.
Yes, I think we're benefiting from a bit of a tailwind where we're catching up on price as well there and thats lifting at something north of what we would typically target would be 30%, which is what we do for the balance of the company as well.
Yes.
Great well I appreciate taking the calls at the end here. Thank you.
Thank you.
Thanks, John .
Okay.
Okay. Thanks for all the questions to wrap up I just want to emphasize that the demand remains strong.
We are raising guidance based on the strength of our residential and refrigeration business and expectations of continued improvements in commercial.
Coming off a record second quarter, we look forward to the second half and we'll remain focused on enhancing shareholder value irrespective of the macroeconomic uncertainties.
Thank you for joining US today. This concludes our lanoxin second quarter earnings call. Thank you.
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