Q2 2022 Diversey Holdings Ltd Earnings Call
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Greetings and welcome to diversity Holdings second quarter 2022 earnings conference call. At this time all participants are in a listen only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance. During the conference. Please press star zero on your telephone keypad as a reminder, this conference.
Is being recorded I would now like to turn this conference over to your host Mr. Grant Graber Investor Relations. Thank you. Sir you may begin your presentation.
Thank you Hello, everyone and welcome to diversity second quarter 2022 earnings call with me today are Phil Whelan, our Chief Executive Officer, and Todd Herndon, Our Chief Financial Officer.
As a reminder, during this call we will make forward looking statements.
Some risk factors that may impact these statements and could cause actual future results to differ materially from our projected results are described in this morning's press release and in the reports we file with SEC.
The company does not undertake any duty to update such forward looking thing.
On today's call the company will discuss certain non-GAAP measures and make reference the supplemental data, which we believe can be useful in evaluating our performance.
<unk> of this additional information should not be considered in isolation or as a substitute for results prepared in accordance with GAAP.
A reconciliation of these non-GAAP measures and records supplemental data can be found on our website IR.
Dot com and in our most recent annual report.
I'll now turn the call over to Phil.
Good morning, everyone I want to start with the headlines about Q2 results about what Sean very proud unexplained why they make me continue to fail so positive about the long term.
Firstly revenue improved by 10% as compared to the prior year and 20% on a constant currency basis, reflecting strong organic growth in fact pricing a new customer win.
Secondly growth was strong across both our institutional and food and beverage businesses, which increased by 7% and 18%, respectively, or 17% and 29% on a constant currency basis.
Thirdly, adjusted EBITDA margins improved sequentially by 330 basis points to 12, 4% as.
As we stated last time, we spoke we expect our consolidated margins to improve quarter on quarter throughout the pricing and cost initiatives are implemented.
Our second quarter results reflect our commitment to driving revenue growth, while improving margin and a $46 billion market. While we are one of only two global players.
Now moving to the macro environment, we're clearly operating in challenging times with the rising inflation and supply chain bottlenecks and other operating factors, including currency exchange rate.
<unk> been extremely pleased with the resiliency of our business model and our management team's agility in the short term, while maintaining focus on our long term growth goals.
Let me give you a couple of highlights of our current multiple.
Firstly, we've been focused on pricing to cover inflation.
I'll input costs have continued to rise we are implementing price increases across our various geographies and products in the second quarter, we realized more than 10% revenue growth from pricing and I expect this level of pricing to increase further as we move through the year.
Our price increases have been well accepted as.
As evidenced by our more than 20% constant currency revenue growth in Q2.
We expect the majority of these increases to remain intact.
The value diversity provides.
Hello.
Secondly, we've continued to focus on controlling our fixed cost.
Reaching out variable cost.
Second quarter, adjusted EBITDA margin, which improved by 330 basis points versus the prior quarter 12, 4% is still reflective of the near term inflationary environment in which we operate as our pricing actions continue to be implemented including additional pricing as needed would expect Ahmad.
To continue to improve significantly between now and the fourth quarter of the yeah.
We're also continuing to invest in opportunities to expand margins for the next year and beyond like upfront investment in Kentucky, which remains on track to be completed by the end of this year and is expected to improve total company margins by roughly 100 basis points starting in 2023, how can we work with.
Deliver our targeted long term EBIT.
Margin up 20% in the coming years.
So in summary, we're pleased with our pricing and cost containment actions.
We will maintain pricing and cost discipline. So we can drive revenue growth and capture margin expansion opportunity as of yet.
Yes.
Just as important.
<unk> seen strong progress on our strategic growth drivers, we continue to enhance our value proposition with digital innovation and a focus on service, which is leading to high retention levels and acceleration of net new customer wins and a robust pipeline of additional opportunities.
As an example of our innovation, we recently entered into a multiyear global partnership agreement with Golar to collect.
Actively disrupt the machine market with robotics technology.
The focus of this partnership is to unlock the full potential of cleaning right pocket with greater operational efficiency and intelligence for our customers.
Around the world.
This is part of our task machines business, which is almost 10% of our institutional business and has grown by over 28% on a constant currency basis in the first half.
It's this type of innovation, coupled with our strategic focus in U S foodservice.
Global accounts and water treatment that leads us to expect strong growth going forward.
With that let me now I have to tell us to give you. Some additional details for the quarter and also cover our outlook for the remainder of the year.
Thanks Bill in summary, there are few things I would like you to take away from today's discussion.
First our confidence in the resiliency of this business is strong.
Second we posted solid Q2 results in the current environment.
Third we are updating our full year EBITDA guidance to reflect the current exchange environment.
As you all know we're living in an interesting environment and we continue to be very encouraged with the resiliency of the business and our ability to gain share in a fragmented market.
While at the same time implementing aggressive pricing actions reflective of the inflationary environment, we are excellent.
We remain on track with our daily execution in growing our business organically with significant net new business.
And we continue to invest in both our product innovation and distribution channels to expand market share and margins.
Our delivery in the first half of the year has been consistent with our initial outlook.
That being said the macro background continues to be broad ranging and unpredictable.
As a point of reference our core execution in the quarter drove revenue growth of more than 20% on a currency adjusted basis.
However, the volatility and global exchange rates is diminishing our strong execution.
As we look to the remainder of the year I want to update our outlook to reflect the current exchange rate environment.
While we have a number of exchange rate hedges in place.
And the business of predicting foreign currency swings and when they may revert.
Accordingly, I believe it is prudent to assume as such headwinds continue to occur for the remainder of the year.
We are reducing both the lower end and higher end of our previous guidance range by $30 million.
Reflect the current exchange rate environment.
To be clear, we're not changing our guidance with respect to any other matters.
Our core execution of what we control is strong and on track.
Now, let me talk about our quarterly results.
Net sales for the quarter was $715 million, an increase of $65 million or 10% as compared to Q2 prior year.
And 26% on a constant currency basis, reflecting strong topline growth across both of our business segments.
I'm happy to report our institutional business.
Which is roughly 70% of our revenue reported $510 million or a 7% increase over Q2 prior year.
On a constant currency basis, our institutional business revenues increased by 17, 4%.
Driven by a combination of new customer wins.
Reising actions and expansion with existing customers as we continue to progress towards a return to pre pandemic levels.
We're more than 90% recovered versus pre COVID-19 volume in our institutional business.
Our F&B business, which is roughly 30% of our revenue also continued positive momentum supporting our long term growth goals.
We continue to experience high customer win rates for new business and recently introduced water treatment to further expand our organic growth initiatives.
Our Q2 revenue of $206 million is 18, 4% above prior year as reported and 29, 3% above in constant currency.
As Bill mentioned, we're especially pleased with our Q2 adjusted EBITDA delivery in light of the numerous inflationary pressures we've had to overcome throughout the first half of the year.
<unk> adjusted EBITDA for Q2 was $88 4 million or 12, 7% decrease compared to prior year as reported but.
Flat in constant currency.
Our institutional and F&B beverage segments delivered adjusted EBITDA of $74 5 million and $23 5 billion, respectively, representing declines of four 6% and 33% as reported.
Both segments were impacted by currency and high input cost inflation.
Particularly in Europe due to the Warren Ukraine.
And we're taking aggressive pricing actions to address the price cost timing gap.
Well cost continue to increase I'm committed to ongoing pricing and cost containment to ensure we hit our long term, 20% adjusted EBITDA margin target.
To offset and get ahead of costs as we progress towards 2023.
Said in May that we expected our full year pricing for 2020 to be greater than 8%.
Now, we're expecting more than 10% for the full year.
As of May we've been offsetting monthly direct material cost inflation in dollars and as inflationary pressures moderate combined with our steady productivity gains.
Believe we will capture margin improvement over time.
Now, let's quickly touch on what a strong position our balance sheet is.
First with respect to operating cash flow, we had a negative outflow of roughly $9 million for the first six months of 2022.
As compared to minus $109 million in the same period last year.
We continue to expect positive free cash flow in the back half of the year consistent with historical cash flow seasonality.
Our expectations for full year free cash flow are the same as when I spoke of May after.
<unk> for currency and rising interest rates.
The good news on the last topic is that we've hit our interest rate caps, meaning we only have $350 million of debt exposed to further interest rate rises.
This means each 1% increase in rates represents approximately $3 5 million in annualized incremental interest expense.
Which puts us in a positive position considering our strong liquidity.
At quarter end, we had cash and cash equivalents of $248 million and available liquidity of $690 million, which I view as a position of strength.
Our net debt leverage ended the quarter at four eight times.
As we expect to generate increased positive cash flow for the full year 'twenty two.
We also expect to see net debt leverage improved by year end.
So we continue to be encouraged with the execution by the team and the resilience of the business in this challenging environment.
While we are not isolated from the macro headwinds wins impacting global markets. We.
We do believe our solid second quarter results reflect our geographic sector and product diversification as well as strong value proposition, we offer to our customers.
Accordingly, we're reaffirming high single digit percentage revenue growth for the full year, but lowering the adjusted EBITDA range to reflect the current exchange environment.
Our current outlook for full year, adjusted EBITDA is $350 million to $390 million.
If the inflation or foreign exchange environment changes, we would expect to update our outlook as the year progresses.
No one last item before I turn back over to Phil.
We recognize that this is a unique environment.
While we generally do not provide quarterly earnings guidance. Our estimate for Q3 revenue is in the range of $680 million to $720 million and.
And adjusted EBITDA is in the range of $85 million to $95 million.
For the third quarter outlook reflects volume growth and price increases that are expected to build throughout the year offset by the historical seasonality of Divorcees business and the impact of opening our new Kentucky warehouse, which could have some timing impact between Q3 and Q4, along with incremental one time costs.
Yes.
The expected increase in earnings from Q3 to Q4 reflects getting the warehouse up and running pricing.
Pricing growth and cost containment actions.
In summary.
I am pleased with our performance to date.
We are updating our guidance to reflect the current exchange rate environment and our confidence in the resiliency of our long term growth strategy and earnings power remains on track.
With that I'll hand, it back over to Phil for a quick wrap up.
Yes, I wanted to take.
Take a step back and share a few headlines about where we are in our transformation.
Firstly, we are executing well against a very clear plan for growth, including U S food service water treatment global accounts.
And commercial excellence.
We've also made some significant investments in our <unk>.
Allen to deliver that plan.
We're seeing our employee engagement and customer.
Net promoter scores are significantly up.
So despite all of the crises of Covid and inflation and supply chain.
First half revenues was 16% up on our adjusted EBITDA was 23% up versus the pre crisis period of 2019.
These currency side, we're extremely well positioned to take advantage of all the opportunities that exist in our $46 billion marketplace.
So finally, then before opening up for Q&A, just summarizing the quarter, we sold 20% constant currency revenue growth, including 10% price increases and.
We sold 330 basis points of sequential margin improvement to 12, 4%.
Now I'll try that'd be great. If you could open the line for questions.
At this time, we'll be conducting a question and answer session. If you would like to ask a question. Please press star one on your telephone keypad, a confirmation tone will indicate your line is in the question queue. You May press star two to remove your question from the queue for participants using speaker equipment. It may be necessary for you to pick up your handset before pressing.
The Star Keys.
While we poll for questions.
First question comes from the line of Vince.
Andrews with Morgan Stanley You May proceed with your question.
Hi, This is Steve on for Vincent Thanks for taking my question I just wanted to ask a question on the updated guidance.
And can you maybe just on the topline in the high single digit sales growth can you kind of bucket out how much you're expecting some volume price like whats the FX headwind assumed in there.
And then when we think about the fourth quarter versus the third quarter can you kind of just provide like an EBITDA bridge on on some of the items that you called out that that would just.
Help us size them relative to one another thank you.
Yes, Steve I can certainly do that for you say you are looking at the full year.
I think.
We said over 10% pricing.
We're going to get I think we could certainly assumed 6% to 7%.
Volume.
Youll remember against that we had a normalization of.
Infection prevention, that's worth about 3% that was all in Q3.
3%.
Full year equivalent.
I think thats, probably about 3% coming.
Coming from M&A transactions that we did in December and January of this year and then the currency could be kind of in the eight to nine.
Right.
D G.
A reasonable sense of how we're looking at the full yeah.
Top line.
If we then think about.
I think the second part of your question was on Q3.
Q4.
The biggest two impacts.
Pricing.
And the warehouse.
<unk>.
Pricing.
Maybe it's helpful. Just to explain the chronology of what we've done this year. So we had some significant price increases in Q1.
We then had some some further increases once we knew about the wall that came in relatively early in the second quarter.
Our next significant price drivers, we expect to stay at the stop of full quarter and therefore, the pricing increase from Q2 to Q3 will be relatively modest price increase from Q3 to Q4, I think it will be much bigger.
And then the other point worth talking about is the warehouse opening.
Well.
We're getting into that.
It's obviously a huge project, it's very significant in terms of the number of people in the volumes involved. It's also enormously important in terms of.
The businesses.
Margin improvement going forward, we think that could be 20 to 30 million.
Potential revenue.
Moved from Q3 into Q4 as a result of that it could be allowing number okay, but I just want to make sure that people are aware of that happening.
So in passing that one surprise.
The impact has been seen when we report Q3 numbers I hope that helps.
Yeah.
Yes. Thank you.
Our next question comes from the line of.
Andy Wittmann with Baird. You May proceed with your question.
Yes. Thanks.
Excuse me.
It looks like there was a comment here that you unwound a swap in the quarter was that was that in this quarter's free cash flow.
Or is that a contributor to the reason why the second half cash flow is supposed to be more positive.
It would be a part of cash flow, it's not actually technically part of free cash flow.
So depending on the definition, we're talking about just to be clear, we did unwind the swap in the stack.
Second quarter, it had the effect of more than $60 million.
In the quarter of a benefit to cash.
In the second quarter.
And of course will contribute for the year free cash flow in general.
Got it okay. That's helpful.
And then just on the F&B segment I was wondering if you could just address.
I mean, obviously the raw material impacts are different between the two segments, but it looks like it was a lot more significant in F&B, maybe you could when you guys talk a little bit about.
Why why that's the case and help us understand the magnitude of the difference between the two segments and what's happening with raw materials.
Yes, I can certainly do that.
Overall, our Q2 raw material inflation was about 34.
<unk>.
But that breaks out quite differently across the two divisions, it's more like 25%.
Institutional.
North of 50%.
Food and beverage.
The reason for that is just the different constitution of the materials used in the business. So food and beverage is very heavy on caustic, which you all know.
As trading multiples.
The costs do they look good.
If you go back 12 or 18 months.
Whilst we're seeing ethylene and propylene starting to move back a little bit cost it continues to to increase that.
That's really the.
The biggest driver of why the margin profile in food and beverage looks tough.
Then the one in institutional.
And maybe you could just build on that by commenting on how the price discussions are going by segment recognizing that.
Many of your institutional customers can be smaller and while your typical F&B customers are larger.
Customer maybe considered more sophisticated from that is it harder to push price in other words in F&B than it is in institutional maybe you could talk about that.
Sure.
Actually I would say.
Really good.
Assessing both.
So youre right Theres, maybe a slightly different mix of small versus large.
And in the two businesses, but the food and beverage team who've done a fantastic job of pricing.
Just that the.
Currently what you see with inflation is different I think by the time, we get to the end of the year.
We will see that the pricing in the food and beverage.
As you can see that's a significantly ahead of the institutional business in general.
Hum.
Understanding and accepting the current landscape.
In fact, I can only think of.
One customer.
Business, where we've really struggled.
On the pricing side.
Well I think we're making very good progress and I wouldn't I wouldn't draw any distinction between the two businesses.
Thank you.
Thanks.
Our next question comes from the line of John Roberts with Credit Suisse. You May proceed with your question.
John You May proceed with your question are you on mute.
Our next question comes from the line of Joshua Spector with UBS. You May proceed with your question.
Hi, Good morning, this is Lucas on for Josh.
Wanted to go back to pricing.
In the quarter, you're basically running now at a 12% or your stack.
Based on your second half guide I think youre going to get probably like a 16% to 17% exit rate in the fourth quarter on that.
A two year basis.
So how much of that.
When you stack should sort of flow into 2023 and could you just sort of split that 16 to seven 9% for us between what's vice pricing versus the surcharge. So we can think about how much of that is sustainable.
Yes sure so.
I think the numbers on the <unk>.
Stack.
Our mobile.
In line.
About 20%.
The increase that we've taken this year.
I guess that makes it probably more like about 15% of the two year stack.
Is in respect.
Charges.
The balance would be.
The more the more.
Structural pricing.
As we.
As we go into next year, obviously, we're going to get a full year effect.
All the pricing that we've taken.
Partway partway through the fall.
If we had 6%.
Went through in Q1, this year and that is going to be in the low teens.
As we as we get into Q4, you. Obviously you can you can calculate.
The full year effect of that as we get into 'twenty.
Alright, Thanks, and then.
Just sort of going back to the performance in SMB for the quarter. So.
That was probably a fair bit better versus expectations in terms of the volumes.
So if we just sort of a similar to like <unk> crossing.
Your volumes seem like they will probably up about 12%.
Could you just kind of discuss the drivers there and sort of what you're thinking in terms of volumes in the second half of this place.
Yes sure.
I think we've been talking for a while about.
About what performance in food and beverage.
On volume that they've been doing really well if you go back to <unk>.
2020 one it was the traditional cleaning and hygiene business that was.
Doing really well we were taking really good share we've.
We've seen some more of that this year will be I think it's fair to say that with a massive focus on pricing, maybe a slightly lower level. What we have had the coming to the party. This year is the water treatment more significantly.
We're running a kind of a double digit millions growth.
In water treatment for this year, which is helpful. A bit ahead of plan, but that's ramping up nicely I think if you go into the second quarter.
I'm really hoping to see that water treatment.
Growth can continue to add I also I think as I referenced just a minute ago I think probably the.
<unk> in the second half of the year will be slightly more skewed towards food and beverage versus institutional.
Alright, thank you.
Our next question comes from the line of Edlin Rodriguez with Credit Suisse. You May proceed with your question.
Thank you good morning, guys.
Real quick question on price.
Pricing and surcharges.
How successful.
Implementing the surcharges and when you think about pricing for the year, what does the composition will look like in terms of fundamental twice.
Versus surcharges.
Yeah. So I think on the surcharges, we've been pretty successful we've applied.
Surcharges versus structural price, depending on the particular dynamics of the market. So let me give you. An example in emerging market, where there is traditionally volatile inflation and our teams just as importantly, our customers are used to that environment.
We've continued to take structural price.
If you take somewhere like Europe , where traditionally inflation is much lower and very steady.
The current inflation because of the war is particularly acute.
We have taken some structural price, but also some surcharges and that allows us to ensure that if costs go up again.
Can react to that but also our customers to understand and have some real transparency over the drivers of the cost increase so I think it's been a successful strategy. It's something that we've put together this year, but it seems to work well and customers I think are appreciating the transparency that is but it gave them in terms of the overall mix.
About 20% of this year's pricing.
Relates to surcharges with the rest being the more traditional structural point.
Okay that makes sense and one last one.
The EBITDA margin.
So <unk> guided for this year, but that 13% to 14%, but I think you could talk about the 20% target you have out there.
When do you think you can get data do you get there by 2020 for 2025 like when do you get there and under what conditions.
Yes.
I don't think its going to be 2020 full I think we're going to see two phases to this okay.
One phase is going to be the correction of the price cost gap that results from the current issues or maybe you think you might call. It section deflation in raw materials labor and freight I think we're going to see that correcting in aggregate in Q2, that's going to continue to correct in the balance of this year.
Phase III next year.
Infection is going to be those things.
We were doing on working on way before the <unk>.
The current crisis and those things are ongoing.
I'm not going to continue and we've said before that those things will account for.
50 to 100 basis points of margin accretion per annum. So you should think of it at the next several quarters.
Need to get back to where we were we reported 15, 7% margins.
Back last year, and then we need to get back down to that 50 to 100 basis points try as we go back to focusing on our supply chain initiatives opportunity more pricing.
The SG&A.
Savings the other point just to mention in the realm of supply chain of course, we've got the new Kentucky factory, that's going to add 100 basis points and that's going to start next year.
Okay. Thank you very much.
Our next question comes from the line of Christopher Parkinson with Mizuho. You May proceed with your question.
Hey, good morning, Kieran on for Chris.
I was just wondering if you can just briefly touch on the M&A pipeline and how youre seeing those potential for deals I guess at this point with multiples having come down a little bit in the current environment.
Being more.
Mortgage deals potentially come to fruition and more opportunity on that front I'm just curious to hear your thoughts on that on that portion of the business. Thank you.
Yeah, I'll take that one thanks for the question.
I would say that our view to M&A has not changed in the past 12 months.
We are currently in an active funnel we have act.
Active discussions with eight to 10 players.
Most of which are bilateral.
The reason why that's a good thing is that we can actually.
Control to some degree the timing, which we would choose to execute some of the M&A.
We are cognizant of our current leverage ratio.
Yes.
Exceptional liquidity at close to $700 million. We're also conscious that we want to get our leverage down. So we'll manage the timing and also because of the full funnel allows us to prioritize.
Best of what's in our funnel as well and so we're excited about it but we're also manage that in the context of Holly What's also delever the business.
In the short to midterm.
Great. That's very helpful. Thank you so much.
Okay.
Ladies and gentlemen, we have reached the end of today's question and answer session I would like to turn the call back over to Mr. <unk> for closing remarks.
Thank you that wraps up our second quarter conference call a replay of this call and related slides will be available on our IR website. Thank you for your time and participation and I hope everyone has a great rest of the day.
This concludes today's conference you may disconnect. Your lines at this time. Thank you for your participation during the rest of your day.
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