Q3 2022 Watsco Inc Earnings Call

Good morning, and welcome to the Watsco third quarter 2022 earnings Conference call.

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Please note. This event is being recorded I would now like to turn the conference over to Albert <unk>, Chairman and CEO . Please go ahead.

Good morning, everyone.

Welcome to our third quarter earnings call.

This is al <unk>, chairman and CEO .

And with me is a J.

President of the company, Paul Johnston, Barry Logan and Rick Gomez.

Before we start our usual cautionary statement. This conference call as forward looking statements as defined by the FCC laws and regulations that are made pursuant to the safe Harbor provisions of these various laws.

<unk> results may differ materially from the forward looking statements.

Now onto the.

The quarter, we delivered another record quarter.

Sales grew 14% to a record $2.04 billion and operating income increased 14% to a record $236 million.

This third quarter performance builds on what we believe will be a record year for our business.

So far nine months sales increased 19% to a record $5 $7 billion.

In nine months operating profits.

Increased 37%, 37% to a record $694 million.

Year to date cash flow also improved increasing 12% to $359 million.

Now given our earnings growth cash flow expectations, and our confidence in the business, we announced today, an 11% increase in our annual dividend to $9 80 per share effective in January of 2023.

But I might comment that we believe the last two years have been among the most challenging.

And also the most gratifying periods in our history.

Our growth and stability speaks to the fundamental necessities of the products, we sell into the value that our industry provides homeowners and businesses.

Given our long term focus watsco has also invested over the past two years in people technology and infrastructure.

And we do these things to build market share.

In our $50 billion market.

As industry demand and supply chase normalized it is the right time to expect more productivity.

And we have challenged our leadership to improve operational efficiencies across our network.

We are also working closely with our OEM partners to develop forward looking growth initiatives.

Watsco does maintain good relationships with virtually every domestic and international and industry manufacturer.

What do you believe collaboration with the manufacturer is it all the more important given the industry changes taking place in the coming years.

Many views of our company fundamentals are in this morning's press release.

I really do urge investors to read that release and understand why we believe we have an exciting future.

We have an immense technology advantage and we investing there grow that advantage.

These technologies, bringing in new customers.

They help our existing customers grow.

And they reduce attrition of customers and most important they help us gain market share.

Our active are active technology user community has grown 21% this year to more than 45000 users.

And on called Air that's a platform that reaches into homes keeps growing.

During the quarter contractors as presented quotes to approximately 66000 households.

That is the 39% increase in households over last year and generated $269 million.

Sales for our contractor customers.

That is a 47% increase.

Okay.

Watsco is diversity of products and brings us an important competitive advantage that allows us to serve contractors in any economic environment.

We also have a leading market share position in Sun belt markets, where both population migration is greatest and the necessity of H D. C. H P. A C products is the most absolute.

You Gotta have cooling and heating you live in the sunbelt.

In addition, there are several important catalysts for growth that will play out.

In the next few years.

Or H P. A C equipment, the minimum federal efficiency standards will increase in 'twenty 'twenty three across the entire United States.

Price points associated with these higher efficiency products will increase and should benefit our 'twenty to 'twenty three results.

Federal mandates and are in place to phase out high global warming potential refrigerants.

Used in millions and millions of existing systems.

But in 2020 five we'll mark the introduction of new HVAC systems they'll incorporate Laura.

W. P refrigerants.

We also see a strong movement towards electrification of heating systems through the year.

Use of more heat pumps, which generally come at a higher price higher margins in the long run a shorter replacement cycle.

Our sales of heat pumps grew 27% in the first nine months.

And interesting, 32% during the quarter outpacing overall sales growth rates.

The new inflation reduction Act, which takes effect next year also revised tax credits and incentives.

Qualified efficiency upgrades and electrification.

All of this provides the basis for homeowners and businesses to upgrade systems that will over time be more efficient and more inviting them environmentally friendly.

And all of this is good for climate change and good for watsco.

We certainly believe our scale.

Technology and financial strength position us to capture these new market opportunities.

Finally, we always concern ourselves with our balance sheet. So that we are in a position of financial strength.

And today's balance sheet remains in pristine condition to invest in growth opportunities in coming years.

I like to say that we can fund almost any size of investment to grow our business.

With that let's go onto Q&A.

Yeah.

We will now begin the question and answer session.

I ask a question you May press Star then one on your telephone keypad.

If you are using a speakerphone please pick up your handset before pressing the keys.

To withdraw your question. Please press Star then two.

At this time, we will pause momentarily to assemble our roster.

And our first question will come from Tommy Moll Stephens Inc. Please go ahead.

Turning to hybrid.

Good morning Al Thanks for taking my questions.

Yeah.

I wanted to follow up on your comment regarding.

Finding more operating efficiency in a more normal business environment.

If we go through yes.

No.

If we go through a period where industry volumes are pressured.

I presume that still applies but can you actually can.

Continue to show leverage on SG&A.

And to the extent you can is it intention with market share opportunities.

That you might.

Otherwise be able to go after and are in a period of pressured industry fundamentals is there a natural tension there.

We should think about how you might reconcile.

I think that's an excellent question and I'm going to have Barry Logan and Paul Johnston answer that and a J.

You're going to get and try to tried back there.

The last the last part first time and just to get some sense of of product and brand and OEM and manufacturer in general.

Conceptual stuff.

We've really been two years, where I can I can attest to you that going to Oems and saying how are we going to grow.

<unk> was met with the response of of our supply chain difficulty.

Yeah, Oems have capacity, but yet they've had supply chain supply chain constraints.

And in that environment. It's it's it's it's almost kind of bizarre honestly.

To go to Oems and say, how do we grow what do we add what brands can we can we go to market with what incrementally can we do with you to help you grow.

And to be told you'll have to wait.

So now we have that opportunity ahead of us in the next couple of years too.

To play offense, we think the supply chain is better there is still more to do we're going through a big product transition as we head into next year.

That's a very that's a very unique and important opportunity that doesn't have it doesn't have much to do with our discussion on efficiency.

Has everything to do with how do we use our balance sheet, how do we use our presence how do we use our structure how do we use our technology to go grow brands and grow our relationships beyond where they are.

So I I think I would put that aside as as a discrete strategy.

And on the efficiency side, it's again a very.

Kind of a simple story to tell we have to go go prosecute and execute strategy.

But it has been a while two years.

There's really been nothing customary nothing that's been ordinary.

And in dealing with both the strength of the market.

The real difficulties by the supply chain.

I have a lot of inflation going on you have really a fire drill going on to serve customers and we were at no time going to.

So look at cost as the as the critical item in serving customers in this environment, we were able to do anything it took to serve customers in this environment.

So we're out of season as we head into the shoulder season here in the fall.

And the message is very clear to our leadership al made that message extremely clear.

About about stepping back from the business looking at cost looking at cost to serve looking at efficiency looking at technology.

And and challenging them to be more productive as we get as we get into the next environment.

Paul anything.

Yeah. It's.

The supply chain disruption, obviously caused a dysfunction in our productivity.

And that was basically around being able to match up systems, having an outdoor unit and one warehouse in an indoor unit and another warehouse. So it did stretch our people to be able to satisfy the customer and make sure that we were we were able to put the pieces together so that they can complete the job that they were on.

And so that did did create some dysfunction that as I said in our and our ability to.

To improve the efficiency with all the tools that we provide is our people.

The second thing that we're gonna be going through now is as we go through the transition to the new product line, it's obviously going to reduce the number of SK use scanner hopefully simplify the supply chain and hopefully we'll have a long term benefit from that going into 2023 and beyond.

A J.

Yeah, I'll just add some figures to give you some sense of scale.

We process into F L roughly 7 million customer orders every year.

That's product going out product coming in receiving the.

Product coming in there's also millions of them.

Seating.

Touches that we have to do with the product.

And then we move products around our 700 or so locations with 800 ourselves vehicle not the fork lift off of humans and lots of touching and.

A lot of the product various times.

And like Barry said, given the supply chain.

Chain challenges and not necessarily receiving product when we hope to receive them or in the locations. We have three seen more on the quantities we have to be like do we see them and a surge in demand we theres a lot of scrambling going on.

And our policy or not the policy, but the.

Our heart was to fill customer orders take care of our customers.

Now as things start to come down if you will a little bit in the supply chain and we expect them to continue to quote unquote normalize we'll have more opportunity to improve.

Our processes improve our technology and improve our ability to smoothly you cede all of those products move product around west because we'll have product in the right place at the right time, right quasi get customer orders still accurately and on time and efficiently. So I'm just trying to give you some sense of scale.

Of the operation.

The chaos that ensued and now as the chaos comes down and we can really drive some product productivity and efficiency through the system.

All very helpful. Thank you and as a follow up I wanted to hit on technology investment is it safe to assume.

That's a separate discussion here and that you'll you'll remain.

Forward leaning I guess, we could say on technology investment any view you could give us there for the coming quarters would be helpful and.

Just.

Throw out a couple of data points that maybe you can discuss.

I just I noted the contractor assist users were up meaningfully quarter over quarter.

Oncall Air quotes were down meaningfully quarter over quarter I realize there's a lot of noise in those kpis that you would give us every quarter, but to the extent you want to clarify any of those trends would be helpful. As well. Thank you.

I don't think that lost I don't think that that's exactly right Gary.

Ankle air quotes.

When you say quarter over quarter, you were talking about second quarter versus third quarter or sequentially is that what youre looking at.

Correct.

Yeah.

Oh, Yeah, we have to look at it year over year, because there is seasonality in the business.

What does that mean.

Starting with the Yeah go ahead Barry.

I would say there is a there is a seasonality aspect at 222 that that answer right now.

I'll call Air is thriving and other customers of ours that are using it which is a growing number there their performance with us me and their sales growth rate with us.

Significantly higher than non users, they're winning more times in the marketplace.

And that leads to more purchases from our business units.

As far technology in general or will they continue to lean in and be a technology driven company. The answer is yes.

I like to say, maybe it's become cliche now that way we are a technology company that has happened to sell HVAC products and technology I mean, really we really use that as an umbrella term. It really means modernizing the company I'm trying to you know people skill sets our processes our systems, how we operate and how we.

Are able to.

To impact our customers, but as far as their experience and their ability to find the product they need get orders.

Deliberate or fulfill it quickly and accurately it really technology touches all parts of who we are and what we do.

And it's all customer focused and depreciate it customers that are using our technology, our better customers their attrition rates are much lower and their growth rates are significantly higher.

So those numbers continue to grow as far as customers using our tools and we continue we believe it then made an impact in our ability to take market share from our customers from our competitors, who don't have nearly the breadth or depth of technology offering that we do.

Thank you both I'll turn it back.

Yeah.

The next question comes from Nigel Coe of Wolfe Research. Please go ahead.

Arnie, Nigel Hi, Hi, Al Hi, How's it going so yes. Thanks for the question I'm. Just wondering you know how we should think about your inventory levels would be as we go into year end and you know it.

It sounds it looks like third quarter.

Back on a more seasonal pump.

Lower inventories in <unk>, but just wondering how you're managing inventories since yearend and cool curious about the 14 seer versus 15 and see a dynamic as well.

So those are two great questions well I can generalize this inventory will be lower and we hope not to have any or very few units that wouldn't qualify in the south.

Given the efficiency mandate and the south.

We are very conscious of that but let me give you more in depth that would be Paul.

Yeah, Nigel we we monitor you know the the street cool units in the south to make sure that we are we have a smooth landing at year end when when those units become basically obsolete in the south.

So we feel we're on the right trajectory there.

We're gonna beginning to receive the new products hopefully.

Late October early November so we'll be set up to be in business on January 1st.

The new product will be more expensive than the than the existing products we have.

But generally speaking the inventories are a little bit restrained right now in certain certain product areas and in other product areas are on heat pumps for instance.

We have sufficient product to guide us through the.

At least the fourth quarter and into the first quarter.

Oh great.

Thanks, Paul and then just my follow on is really around I don't know if you want to throw at the price mix impacts are in an HVAC products. This quarter. It is essential.

Yeah, sometimes.

Yeah, we did do alright, Okay I'll go back to that I.

I missed that.

I'm sorry, it's in the press release.

Okay got it got it okay, and my sights terrible, but if we think about that.

Mentioned, the Hurricane obviously tragedy for the Florida, but just wondering you know what what impact you saw in the quarter and what opportunity do you see some of the rebuilds.

With H B C concern.

This is Paul.

I live in I live in Fort Myers, if I'm right in the middle of the of the Hurricanes zoning.

And I've been out visiting our branches and I was very proud to say that our our branches were opened.

Within 24 to 48 hours after the hurricane passed.

And taking tours of them, we had one branch that was missing 160 feet of its wall.

And there were 10 trucks lined up outside and we had our staff was there.

[noise] doing their job in filling orders.

What did we lose in the quarter.

You know, it's a it's an estimate I would say somewhere between 16 and $18 million.

Worth of business was probably pushed either into the into.

Into Q4, or perhaps was is gonna be lost.

However, we've got a very strong market share presence in the three counties that were impact we've.

We've got 12 branches, it's yes.

It's a a marketplace, which are you know this is about equivalent to the size of the state of.

Louisiana.

So obviously as they are work begins we expect to see some some upside in this marketplace.

Tragic that are you know that creates business, but we are here to help everybody get their lives normal again.

I would say just to add color to that is we had about 40 locations under hurricane warning that had the irritation during during the quarter.

Another 200 under Hurricane watch that I'm I'm sure there was some distraction.

That plays out into the fourth quarter. There is some short term you know immediate.

Requirements to six systems.

While we have seen in other markets, where theres destruction like this.

As you know just conceive of a 20 billion dollar insurance.

Claim collectively in aggregate.

Flowing capital into a market like this.

And some portion of that 20 billion is our stuff that as part of either rebuilding remodeling or retrenching or or new building and that came in that case. So there is a longer tail than just one quarter.

But it's one of those events, where we are we we are witnessing real destruction and again.

So to some extent, that's oh and an opportunity.

For those markets within our business.

Right, Okay fair enough.

I'm happy to add that none no serious injuries in any of our employees, which we care a lot quite a bit of.

Who were.

Play during the areas of the okay.

Thank you very much.

The next question comes from Jeff Hammond of Keybanc capital markets. Please go ahead.

Hey, good morning, guys.

Hey, good morning.

So just wanted to come back on and I just questions on on inventory, maybe just speak to what you're seeing from your Oems and end parts suppliers around lead times and just you know I think al you said inventory is going to be lower in the fourth quarter or not I don't know if that's a seasonal comment, but we've just seen some aggressive destocking.

You know and the other kind of building products area not so much HVAC and I'm just I'm. Just wondering you know as you see lead times whats the kind of the want and willingness to kind of bring inventory levels more normal.

Well I would say generally speaking.

The manufacturers did the best they could.

More and more cases than not they were not able to deliver either on time or or a complete order. They would send the outdoor unit, but not the indoor unit and so.

We had the inventory something we weren't going to be able to sell it until they sell.

Fulfilled a second part of the order that sort of thing.

And since they're catching up.

We're gonna be getting complete systems, especially with the new products that are coming up towards the end of the year.

And.

That's why I think that not only will the inventory come down, but the cash flow will come down because everything is going to get better.

And the point of view of investing in inventory and.

Improving the mix of what's in the inventory.

Anybody want to add to that yeah yeah.

Thank God I indicated this earlier the one good feature about the change to the higher efficiency products.

A fairly large reduction in the number of excuse me, we have to handle and what.

But our hope is obviously is that there's a number of S. P use come down that makes it a more efficient for us to be able to have the right inventory and a lower inventory at the same time should also make it a simpler manufacturing process. We hope for our manufacturers so that they'll be able to provide us the products that we need.

So we're still having some we're still having some problems. There still is a you know sporadically something more will go haywire at the at the manufacturing plants and we'll have a shortage of something.

We're experiencing increasing demand as I as we indicated in the press release on heat pumps were seeing increasing demands on commercial products and we have a continuous demand increase that we've seen over the last several years on <unk> and.

Ductless products.

Well yeah.

What we can see in October .

The numbers drove strong growth.

Which is another reason why I feel good about the inventory.

Okay, great Great color just just on gross margins I know you know there's been a lot of questions on that I think very last couple of calls you've kind of talked about you know.

Some of the structural improvements in kind of a new target of 27% gross margins I think you're you're there. This quarter just wondering if that's a reasonable target for kind of <unk> and into 'twenty two 'twenty three or if we start to you know maybe dip below that as some of the inflation normalizes. Thanks.

Yeah.

Are you on.

Yes, I am Jess I, just just to give some color first in and in the quarter or to speak very narrowly about the quarter.

You know the the key business you know component of gross profit in the business is always simply called selling margin what is the price cost.

Effectiveness during the quarter.

During the third quarter that was raised about 80 basis points. So we're still seeing.

Higher margins and that in a kind of raw margin aspect of our best selling products.

That will you know we there's not a reason to think that will change much as we play out the rest of this year.

And so that's that's the that's the that's the positive and the negative was part of gross profit also is how we how we pay vendors when we pay vendors to the extent, there's volatility in and paying vendors and there are cash discounts there are in vendor incentives or rebates that flow.

In that equation.

And then that volatility in the quarter that that took away.

Some of the gross profit our profitability this quarter.

So that's a short term one quarter conversation long longer term. The good news is the price cost selling margin actually increased meaningfully this quarter.

The selling margins there you go again.

That's the healthy part of our business.

Okay, that's great color I appreciate it guys.

Yeah.

The next question comes from Ryan Merkel of William Blair. Please go ahead.

Good morning, Hey, good morning, good morning, So I wanted to pick up on the gross margin question. So just to clarify year over year, you're saying that there was a positive 80 basis points of positive price cost, but that was offset by what rebates being lower and.

Why would rebates be so much lower in one quarter I don't recall ever seeing that in the past.

Oh it it's a it's because of the level of purchasing activity and receipt activity of a year ago versus this year.

And that's where the chunk and Funkiness us of.

Inventory receipts that have kind of had been volatile play out a year later, so I would say a year ago.

There was a benefit in gross profit relative to the timing of receipts.

All right.

A year later.

A bit of an air pocket or.

And we're talking about about 30 basis points to put that in perspective.

Got it Okay, and then gross margins were flat year over year. So what was the other part that offset a positive price cost.

Great Interbranch freight where we move products around was it was negative in the quarter for all the reasons that we're talking about when we talk about freight and moving products around that's an inefficiency in gross profit year over year.

I got it okay. So.

How do we think about the trend there and I I would presume that that positive price cost situation will be with us for a bit and then what about those other pieces. How do you think those evolve in the next couple of quarters.

Yeah. It does go back to the purchasing patterns and again inventory as we reduce inventory seasonally which is normal all through the rest of the year versus what we did last year or there could be a small amount of volatility in that I don't have to go back and look at a year ago, but.

But I don't think to the same extent.

As what we saw in the third quarter.

And as far as as moving inventory around I think that is better but still in your <unk> and your attention.

And it's probably one of those a year from now opportunities to actually improve margin.

So I would I would still stick with them.

Our target is 27% as a baseline.

And in some of the volatility that we're talking about this quarter.

Flattens out or goes away as we get into next year.

Got it okay. That's what I was driving at so thanks for that Barry.

And then my last question I, just wanted to go back to the price mix impact in 'twenty three from from this year change. So I think I think what we're hearing is a lot of the Oems are up sort of mid teens for price increases on new base units and I think theres actually come up they're up 20 <unk>.

Are those that right numbers and you know I think the mathematics it'd be price mix next year, it could be 678% with carryover price for next year is that right.

I would say you're a little high that that's everybody announces you know some of these price increases, but I think what we're going to see is it it probably and this is a guess on my part is probably going to settle somewhere around the 10% to 15% range.

I see okay, great. Thanks for that appreciate it.

The next question comes from David Manthey of Baird. Please go ahead.

Good morning, David.

Hey, good morning Al Good morning, everyone.

So playing off of that are that pricing question I apologize I asked this before but could you remind me the percentage of your parts and supplies products that might be more subject to commodity deflation like skill ductwork, and copper tubing and that sort of thing.

Good question Paul.

Yeah. It's.

It is copper tubing.

Steel, we sell a lot of steel that's used in the menu in the production of the duct work.

Refrigerant is another another area that we look at which is generally for us it's mostly for Kenny.

Which I think is going to have upward pricing pressure you know throughout the next four to five years.

And then our general parts business, you know, which is compressors and motors are representing the largest portion of it.

On the supply side its a everything from the.

From the duct work that goes out there the flex stuck to our insulation products.

Grills registers you know we've got.

Gosh, I'm, probably a couple hundred thousand skus, when you get into that product.

But when you look at that Paul I'm, just thinking about the types of products that are very sort of commodity heavy like copper tubing and steel what percentage of your mix does that represent given that equipment and and refrigerant are obviously seeing inflation inflation.

<unk>.

What what components might see some deflation as commodity prices retrench. It would be I would say just hazard I'd I'd have to give you an exact number but it would be south of 5%.

Okay, Yeah, Yeah, I agree with that I don't remember I.

I don't know if I have to hazard it I'm looking at the numbers [laughter], it's at about 35% a refrigerant, which is you know again, we label or commodity.

Which has it has had nothing but inflationary reality is going on.

It would be you know where is there, but as a group that that commodity group is still.

So even with refrigerant right around 5% of sales.

Okay. Okay. Thank you for that.

And then secondly, I hate to get too granular on this but could we talk about the the operating expense investment that you've been making here.

I'm looking at this.

At the Opex level this quarter relative to a 2 billion revenue number and I'm just trying to understand are all of those investments kind of at a full run rate in the third quarter and then as we get into the shoulder periods. Some of your variable costs might come off a bit but the $3 22 SG&A. This quarter is a high watermark for the next couple of quarters.

Or where are you implementing those and those programs during the quarter and we could actually see more flatness or higher SG&A going forward I'm, just trying to understand the timing and what more we should expect as we look to the next couple of quarters here.

Yeah, I would say doing first when we're talking about 400 people. It's not it's not recently it's over the last couple of years. So that's just giving a.

Big picture view that during what's been a tumultuous time, we've invested heavily.

To not just realize today's results, but investing some of the future results that we're expecting.

So I would say, it's pretty it's a pretty immature.

Looking number at this point in terms of what you see in the quarter.

There are a lot of variable costs, which moderate overtime.

And in terms of just moderating to what the top line and margins are doing you know.

Gross margins are still up.

You know what over 25% this year.

That means every commission salesperson that sells off of gross profit you know they're in time was about 25% this year.

I wouldn't expect you know I would like we'd like it but I wouldn't expect that level of growth rate you know.

Two I wanted to but it's not going to sustain at that level. Obviously, so that would be a variable cost that moderates.

Simply by the business.

In terms of the scale of the business changing.

Something like freight, where it's it's $60 million to $70 million number.

That's up 40, 50% over the last 18 months I would expect that to moderate.

For all the reasons that we're talking about.

Also you have 675 branch managers that decide every day, how many people do I need how many hours, we're going to spend how much overtime do I need how much temporary help should I add how many trucks it I am.

And so when we're talking about efficiency.

It's going out to in bringing data to the equation.

Culturally in the shoulder season, and challenge kind of the thinking on what's going on in that regard.

So a lot of moving pieces perfect.

A lot of moving pieces, all of which have not been easy to manage in the last two years.

And obviously become simpler to manage and obviously more critical to manage in terms of urgency you know over the next two years.

Yeah.

Fair enough Okay, Barry Thank you.

Yeah.

Robert Robert Baird is thinking about those kind of discussions right now [laughter].

The next question comes from Stephen Volkmann of Jefferies. Please go ahead.

Hello, Good morning, everybody. Thanks for taking the question I'm wondering if we can just focus a little bit on kind of what youre seeing from the volume perspective, and I guess I'm sort of backing into volumes were kind of flattish this quarter.

But I think maybe we started the quarter better than that did did did volumes sort of decelerate through the quarter and I know you made a quick comment on October I wasn't sure if that was a volume quarter or something specific but yeah, we'd just love to hear what you're seeing out there.

We haven't mentioned I don't believe that there is a product mix going on.

Which also elevates.

The pricing.

I think Barry.

Talk about that.

I think that's probably the.

Or significant one of the more significant things that's going on there.

The product mix is changing.

And as I.

I think that's a plus she you won't see us not unit sales as you otherwise would but you see the.

The sales that do occur they occur at a higher price.

In the marketplace.

Right well just to answer your question, Steve just on volumes volumes were up were up in July we reported that when we reported in July .

Some moderation since then and pretty flat for the quarter and probably one of the what probably would have been up a little bit.

If I you know I tried to account for some of the hurricane activity, but.

Oh, that's that's that's been kind of the way it's been now for six months. So its not a new trend that's kind of been flattish unit growth now for nearly six months, what what else speaking of is.

What about everything else in terms of of the business and.

So obviously, there's still a measure of inflation, we're capturing in the market.

But when you when we use use the term heat pump and discussed at its up 32% in the quarter.

And that's substituting for four straight cool units that are probably.

10, 15% less in price.

That's mix.

That's a that's a price achievement and in mix.

And to the extent that trend simply continues its a permanent opportunity to have that have higher average selling prices.

They're also the seer mix increased during the quarter.

And it's been going on now for about 11 years.

You have contractors, making recommendations and bringing solutions to the homeowner with confidence.

We have technology in place that's triggering.

That opportunity in a much more professional way.

And and we're seeing you know another quarter.

Our strong growth in energy efficiency mix.

And the government mandate next year, it makes that even more automatic.

So when we use the term price and mix, there's a lot of subtlety in that in that discussion.

And the heat pump discussion and the synergy mix energy efficiency mix discussion.

I think accounts for a lot of what we're talking about in price right now.

Just inflation.

And then Paul Paul Paul you can add color I'm not sure if there were any.

OEM pricing actions this quarter.

No there really.

There's some commercial pricing actions, we didn't have any residential pricing actions it really affected the quarter.

And it's very indicates you know the the heat pump gross was.

But something that's been happening sequentially over the last three quarters and we saw it accelerate in Q3 expectation is for it to continue to grow.

That grows it.

It does have a material impact on our revenue side residential products.

That's super helpful and Al you anticipated my follow on was was on mix actually because I've heard some channel checks sort of complaining that some of the high end units were hardest hit by supply chain issues and there are four work constrained what's your view does mix get even better because things normally.

As in 'twenty, three or are we sort of stabilize.

I certainly think it's gets better.

For us.

Every trend that we see and anticipate is it.

[noise] many factors are contributing to consumers wanting to own higher efficiency products.

And as Paul keep pointing out in the north where they've gas furnaces.

We expect them to be replaced by heat pumps or more efficient when they operate and they emit less C O two.

When you use a these are all very positive trends.

And that in the short and the long term we're in the right place at the right time.

I'd just like everything we're doing.

To meet what what what what has occurred and better yet what's coming.

We just have some fabulous capabilities that no one else has who can afford $48 million in technology investment a year.

And growing.

Or if they can't afford it they're not committed to it as we are.

And that continue we'll continue our edge in terms of staying the leader and gaining share. So I can't think of anything at the moment that I would.

Warn you that.

We see something negative.

And the.

And the early future everything I see is positive.

Can you guys add to that a J Barry Paul.

Yeah, you know we're seeing another trend that's starting to occur and that is where straight coal units in the ER and the mid south and the north are starting to be replaced by heat pumps as opposed to straight cool unit.

And what that trend recognizes it's a term that we called dual fuel where.

What are the unit will operate as a heat pump down to a certain temperature and then when the temperature drops below that point, you will switch over to the gas furnace.

Not replacing the gas furnace, just replacing the outdoor unit.

To provide non.

Fossil fuel eating.

And.

We've seen that.

Growing and now it's starting to accelerate we haven't we have not talked about the tax credit.

And what impact that will have on the high efficiency product.

Going into next year and beyond.

There's still some adjustments to be made as far as what the efficiency has to be to qualify for it. Once that's clear I think we'll have a clearer idea of what the opportunity is going to be with the with the inflation recovery yet.

Alright. Thank you guys appreciate it.

The next question comes from Jeffrey Sprague of V. R. P. Please go ahead.

Thank you and good morning, everyone.

Could you just remind us now just kind of following on from the mix.

Discussion.

What what percent of your sales in 2022 would've been at at the prevailing minimums here levels.

And therefore is kind of subject to kind of the.

Mandatory regulatory lift into 2023.

Okay.

Oh go ahead on the equate Michele yeah.

Yeah, it's it's a minimum efficiency in the quarter was was a approximately half on just the outdoor you mentioned.

And that'd be a pretty good number for the year also I suppose.

Yeah, it that hasn't really changed that much there's been a little bit of a mix up in it because of the supply chain, but generally speaking that's a that's a pretty good number.

And just back to heat pumps.

<unk> do seem particularly strong.

Even before the I R. A.

Yeah, it's come in light.

I mean are you proactively.

Educating.

In many respects I would think the average consumer doesn't know Australia or unit from a heat pump unit some air handler right. So.

Is there really a very proactive selling effort going on around heat pumps.

I think the performance there is there is a proactive among our contractors obviously, it's their responsibility they're the ones in the home.

We've got on call here, which assist them as far as making that presentation to the consumer so I think that that's a plus of watsco hazard wife's goes contractors have.

But also theres been an awful lot of discussion.

You know Bill Gates wrote a book on it California now has passed the pass a law, which states that you can have that they're going to phase out.

Fossil fuel heating five year, 'twenty 30, you won't be able to biogas furnishing and install it.

Theres been a also emotions in New York State.

Parts of Canada that are starting to phase out the department of energy also has a.

A what they call a contest to come up with a low temperature heat pump and that's been led by the state of Minnesota. So I think I think the word is getting out to consumers. He pumps are not new heat pumps have been around since the since.

Since the mid 19 fifties.

Just that it's taken a while for these things to really catch on to the technology to be able to provide a comfort heating situation for the consumer.

And so what we're seeing is we're seeing the.

The Frost line, if you will used to be the end of where you could sell a heat pump and now we're seeing that extending up into Pennsylvania, New Jersey, and even in Massachusetts.

And Andrew this time.

He said these he's bumped us improving theyre doing more things with it.

Daily more extreme temperatures and the old ones used to.

That was going to say that also it's probably 10 years ago Ductless was a fraction of a much smaller fraction of the market than it is now in most every ductless.

Residential unit or heat pumps, so if it's mitsubishi or someone like that selling twenty's here.

Ductless systems.

95% of those were heat pumps.

Great. Thank you.

Once again, if you would like to ask a question. Please press Star then one and our next question will come from Steve Tusa of Jpmorgan. Please go ahead.

Well I think Steve Hey, guys Hey.

You're doing.

Right.

So just on the I guess just the forward look here.

Do you expect the fourth quarter to be kind of like normal seasonality for you guys on an EPS and sales basis, just from a I guess that would be sell through I mean, what what you know you said it's up in AR.

Tober out how good is it in October and just how should we be thinking about the the fourth quarter trend.

I'll give you a general comment I think fourth quarters can be very strong very detailed.

Yes, Steve I mean, the same kind of as much as you can.

I mean, you've seen double digit growth over the last two quarters in October .

Interruption in the double digit trend.

I kind of leave it at that I think it is a shoulder season as we get into off season.

And.

So it's a can be a bit more consumer oriented in the sense of that.

But we also are seeing the very strong commercial volumes flowing through the business. So.

Oh, Yeah, Yeah, now that looks a lot like the.

The trends of recent months.

I guess with the with all the cross currents around.

You know demand are the regulatory changes coming up and Ah I guess your focus on Destocking, some like what what's the inventory trend and into <unk>. There's just a lot of moving parts here because it is a shoulder season. So I mean is that going to be kind of.

You know quarter to quarter.

Operations next year, you know like just a maybe just a little color on the inventory.

Well that's a good question I don't think they're going to be higher than it would be lower but anybody fill into Blackstone there.

Yeah Yeah.

Of course, our our goal is to end up lower a lot of it is going to depend on once again on the supply chain as far as.

You know how how quickly we can restock with the the new M. One product where is that going to or is the majority of that going to fall in Q1, obviously, that's a higher priced product than what we currently have.

We're also seeing strong demand as a lot of the AR on the new.

Construction side a lot of these builders have to have to have the system operating.

Under the old standard they have to have the system operating in the home the new home that they're building before year end.

So we're seeing a little bit of a rush you know from that sort of standpoint.

And.

So I think I think it's gonna be.

I think we're gonna be down our plan is to be down and we're working we've got our inventory management system that.

Allows us to have complete visibility of it. So it's so we're not surprised at the end of the quarter by where inventories are.

And then one one.

Let's see I think careful the spreads we think our inventory is going to be down not our business. Yeah. Yeah, that's what I said.

Yeah, Yeah. So so inventory as a percentage of sales you know down a little bit but I was just wondering from an absolute perspective, and then Barry you mentioned these promotions are these rebates.

Yes, you you called them.

What what what what's the expectation for that in in our Q4 and then just any color on the gross margin in Q4.

Again, the selling margin that I mentioned, which is simply the price cost equation of selling products as we're seeing that continuing to trend better than in October .

So, let's say it that way.

And again I don't think there should be any real disruption in the fourth quarter in that respect.

The other stuff again, it's algebra on on when we order product winner receive them and we pay for them, depending on which product line.

And I think there could be a <unk>.

Small measure of irritation does knowing the inventory is coming down.

But not to the same extends what we saw in the third quarter. So net net I think.

You know nothing disruptive in terms of trend of gross profit in the fourth quarter.

Alright, So I wanted one last one for you what what's your market call on next year Whats. Your most up to date you didn't have anything in the in the released this time around kind of the the market outlook what what's your what's your guess on on the market for next year for.

For resin units.

I don't think I don't think yes, I mean overall market.

Yeah, overall, RASM unit market up down sideways.

We I don't think that week.

Unless you have industry are forecast by the associations, maybe Paul do you.

No I think yeah.

You'd have to talk to the Oems, who look at our national basis, you our forecast that we do internally.

Which is our proprietary system is only for the states in which we do business.

So that's where you know I don't know.

I'd looked at the industry for that.

Okay Alright.

Nevertheless, our planning is for another record year.

Yeah growth you guys are planning to grow no matter what.

Oh, Yeah, yeah yeah.

Okay Alright.

Alright got too many advantages that are going to continue to.

Expand our share in this business and.

And and Bergen.

Extend our and invest more in those advantages.

That's clear thanks, guys.

Yes.

This concludes our question and answer session I would like to turn the conference back over to Albert <unk> for any closing remarks.

Well thanks for your interest in our company.

We appreciate it very much.

And we walk them.

Visitors to here are.

More detailed explanation of the technology, which is.

Obviously, an important part of our future.

And come to Miami, or do a zoom or whatever it takes.

Just to learn more we're happy to do that for you.

And once again have a nice day and.

So either next quarter Goodbye.

The conference has now concluded. Thank you for attending today's presentation and you may now disconnect.

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