Q3 2022 Hayward Holdings Inc Earnings Call
Welcome to Haywood Holdings third quarter 2022 earnings call. My name is Adam and I'll be your operator today at this time all participants are in a listen only mode. Later, we will conduct a question and answer session. During the question and answer session. If you have a question. Please press star one on your Touchtone phone. Please note that this conference is being recorded I would now.
I'll turn the Kuwait, it's Kevin <unk>, Vice President of Investor Relations you may begin.
Thank you and good morning, everyone. We issued our third quarter 2022 earnings press release. This morning, which has been posted to the Investor relations portion of our website at Investor Dot Hayward Dot com.
There you can also find an earnings slide presentation that we will reference during this call.
I'm joined today by Kevin Holleran, President and Chief Executive Officer.
Ivy and Jones, Senior Vice President and Chief Financial Officer.
Before we begin I would like to remind everyone that during this call. The company may make certain statements that constitute forward looking statements within the meaning of the private Securities Litigation Reform Act of 1995.
These include remarks about future expectations anticipation beliefs estimates forecasts plans and prospects.
Such statements are subject to a variety of risks uncertainties and other factors that could cause actual results to differ materially from those indicated or implied by such statements.
Such risks and other factors are set forth in the Companys earnings release.
Hosted on the web site and in our Form 10-K, and Form 10-Q filings with the Securities and Exchange Commission.
The company does not undertake any duty to update such forward looking statements.
Additionally, during today's call the company will discuss non-GAAP measures, which we believe can be useful in evaluating our performance.
The presentation of this additional information should not be considered in isolation or as a substitute for results prepared in accordance with GAAP.
Reconciliations of net income calculated under U S GAAP to adjusted EBITDA as well as reconciliations for other non-GAAP measures discussed on this call can be found in our earnings release and the appendix to the slide presentation.
I would now like to turn the call over to Kevin Howard.
Thank you Kevin and good morning, everyone. It's my pleasure to welcome all of you to <unk> third quarter earnings call before we begin I'd like to say that our thoughts are with everyone that was impacted by natural disasters in the southeastern United States and Australia and those in Europe impacted by the ongoing war in Ukraine, we are.
Doing what we can to assist during this extremely difficult time.
I'll start on slide four of our earnings presentation with today's key messages first our third quarter performance was in line with our expectations. During the quarter, we continued to leverage our competitive advantages increase market share and capitalize on the sustainable secular trends in our industry I am pleased to see our primary channel partners reported continued.
Growth in channel sell through for Hayward products in our core U S market, however, consistent with the expectations, we communicated a quarter ago, we saw a meaningful divergence between channel sell through and our net sales into the channel as our partners reduce the level of inventory on hand in response to normalized lead times and safety stock.
Mark requirements, we are making significant progress on this recalibration necessary to support 2023, with a normalized level and mix of product in the channel.
Second we are winning in the marketplace. We continue to see positive adoption of our innovative best in class products and we are actively converting target accounts to Hayward loyalty programs I am encouraged to see this result in further market share gains during the third quarter third we are taking proactive steps to realign our call.
Structure to current conditions, while prioritizing our strategic growth investments and productivity initiatives. We expect these actions to result in substantial variable cost savings and a structural SG&A reduction of approximately 10% on an annual basis, we will provide additional details on our cost plans in a moment.
Fourth we are refining our full year 2022 guidance to reflect higher than expected inflation impacting Q4 continued normalization of channel inventory and the consequence of geopolitical events in Europe , we have addressed inflation with additional price announcements in the fourth quarter to be fully realized in 2020.
We now expect full year 2022, net sales to decline approximately 6% and adjusted EBITDA of $365 million to $370 million.
Finally, ESG is very important to Hayward and our shareholders. So I am pleased to report continued progress on our journey.
Following the development earlier this year of our ESG strategy and framework, which aligns to products people planet and principles. We completed our first scope one and two emissions inventories in partnership with a third party expert these results and other SaaS b align reporting metrics are included in our first standard.
Alone disclosure Hayward ESG data sheet, which we published on our website during the third quarter I would encourage stakeholders to review these disclosures and I look forward to updating you on our accomplishments going forward.
Turning now to slide five to discuss the results of our third quarter net sales declined 30% year over year to $245 million largely due to channel inventory correction and softer conditions in certain markets, such as Europe and Canada.
We are encouraged by continued price realization market share capture and resiliency of our core U S market as I mentioned sell through in the U S increased during the quarter, reflecting continued underlying demand in the market adjusted EBITDA in the third quarter was 60 million, yielding a 24, 6% margin.
Rental EBITDA margins for the quarter were 36% as we initiated manufacturing and SG&A cost reduction plans and realize lower costs associated with incentive compensation and sales rebates.
Turning now to slide six for a business update where consumer demand vary significantly by region within North America U S. Sunbelt continues to be an area of strength with softer trends in the northeast U S and Canada. Following the unfavorable weather earlier in the year to date Sunbelt markets have grown 36% faster.
Then seasonal markets within Europe , and rest of world economic conditions are especially challenging in Europe , whereas we continue to see solid growth in the middle East Southeast Asia and Australia we.
We estimate that Hayward captured approximately $130 million or 200 basis points in share since 2019, which we believe is more structural than transitory. We saw evidence of further gains in the third quarter, most notably in the strategically important U S Sunbelt region and in critical products on the pool pad like.
<unk> variable speed pumps and water standardization.
Speaking more detail on this in a moment, we continue to see growth in our totally Hayward partner base and strong adoption of our innovative new products. We added another 1800 totally Hayward partners year to date. After approximately 1500 full year 2021, we believe these dealer additions are key to our long term growth through their.
<unk> and advocacy of Hayward products and evidence of stickiness of share gain further in the past 12 months through September the U S sales team signed new accounts with annual sales value of approximately $80 million with over 80% being larger account conversions. This new business is overlaid.
<unk> in the Sunbelt markets.
Our strengthening Iot digital leadership position is driving the development of connected products within our omni automation ecosystem, resulting in 17% growth in our new product vitality index, turning to the price versus cost dynamics, a series of out of cycle price increases will required over the last few years.
Combat inflation and protect the structural margin profile of the business, while we have seen some commodity and freight costs start to ease our total cost of goods sold continues to increase as a result, we announced an additional 4% to 5% price increase in the fourth quarter to take effect at the beginning of 2023.
Pool industry has been very disciplined on price historically, and we expect the recent price increases to hold as noted earlier, we're making progress on recalibrating the level of Hayward inventory held by our channel partners distributors are reducing safety stocks built up during the period of strong demand and significant supply chain disruption and we.
We estimate a reduction of approximately $80 million occurred in the third quarter 2022, compared to a meaningful inventory build in the prior year period after.
After adjusting for these changes in channel inventory levels are sell through the channel increased year over year, we are working with our channel partners to be appropriately positioned entering 2023. Finally, we are taking proactive and responsible actions to streamline the organization and optimize the cost structure to support margins.
This includes a reduction of variable cost with specific attention to eliminating cost inefficiencies in our supply chain and reducing variable labor in our manufacturing cost base to maintain attractive gross margins in the mid to high Forty's. In addition, we are targeting the structural SG&A reduction of approximately 10% on an annual basis.
Or 25 to 30 million when fully realized in 2023 with initial savings of approximately $8 million to be realized in 2022, we are taking actions to maintain a high twenty's adjusted EBITDA profile.
Turning now to slide seven.
I'd like to share some perspective on the company's transformation and strong financial and operating performance over the last three years base.
Based on our 2022 guidance, we will have grown net sales and adjusted EBITDA by approximately 80% and 115% respectively from 2019 to 2022. This represents a CAGR of 22% for net sales and 29% for adjusted EBITDA. We are extremely proud of these accomplishments this period.
It was characterized by strong demand across the industry and we substantially outperformed following a successful transformation under our new and experienced leadership team that included several initiatives, we accelerated new product development and introduced innovative best in class products and the industry's top growth categories I will provide.
Some additional product detail on the following slide we also revamped our go to market model to drive growth. This included restructuring the sales force and introducing dedicated business development teams focused solely on new customer acquisition. The result has been an impressive signing a pool builders remodelers and servicers.
We also introduced a unique e-commerce approach that resulted in a true multichannel capabilities across distribution retail and online.
Hayward has a long standing commitment to lean enterprise and continuous improvement and we substantially improved our manufacturing and supply chain capabilities, resulting in a doubling of production within the existing manufacturing footprint. We also established two new distribution centers in the U S and invested in automation where appropriate to drive productivity.
As a result, we far outpaced the industry delivering robust growth and margin expansion. In this transformation has laid a strong foundation for profitable growth longer term.
Turning to slide eight I'd like to provide some additional detail on our new product development strategies here, we highlight the rich source of opportunity for technology upgrades in the U S aftermarket as we've discussed in the past the existing $5 4 million in ground pools have an average age approaching 25 years. These pool.
<unk> have significantly less technology installed when compared to a new pools being built in 2022. This slide highlights the three key technology products segments of Iot enabled controls salt coordinators and energy efficient variable speed pumps when building a new pool consumers are educated to the benefits of these.
Products, which deliver ease and convenience of use as well as a more affordable and enjoyable swimming experience.
Take rate of these technologies when compared to penetration on existing installed pools is significantly different the opportunity gap presents a compelling opportunity for the industry to provide a runway for growth in these three segments alone we see a potential revenue opportunity for the industry of approximately $6 5 billion.
In recognition of this opportunity we are focused on new product development priorities to deliver exciting IP rich products, attracting consumers and trade professionals to upgrade the installed base.
Our success is evidenced in the blue column, which highlights hayward's very strong growth over the last three years in these critical product categories relative to industry growth, resulting in share gains recent new product introductions, extending our omni one of Iot enabled control products, our new S. Three low salt core.
Our nation system, and XC Ultra high efficiency Doa compliant pumps are just the start of several new impact products being released to support hayward's position as the equipment supplier of choice in fact, our new <unk>, three and <unk> III omni slow Korean generators are uniquely able to operate.
Hey, just 800 parts per million of salt roughly a quarter of the solidity required by most commercially available systems. This opens up significant markets and certain southern states, such as Texas, where the adoption of salt chlorine generators has been more limited.
Further our new industry, leading high efficiency Tristar, XL variable speed pump and XC multi speed pump ranges are great. Examples of product leadership, resulting in share gains in a critically important category. This work was recently recognized by the United States Environmental Protection Agency with Hayward risk.
<unk>, It's 2022 energy Star partner of the year award with that I'd like to turn the call over to IV and Jones, who will discuss our financial results in more detail.
Thank you Kevin and good morning, I'll start on slide nine all comparisons will be made on a year over year basis.
Net sales for the third quarter decreased 30% $245 3 million a decrease was in line with our expectation and primarily driven by a 44% reduction in volume and 1% unfavorable foreign exchange impact, partially offset by 12% price realization.
On a 3% contribution from acquisitions.
The net price realization reflected the full accumulative impact of our previously announced price increases to mitigate the escalating inflationary cost pressures.
The volume decline during the quarter was primarily driven by distribution channel Destocking, which we anticipated stepping into the quarter.
Lead times have now normalized that most supply chain constraints have eased.
Tied to some specific electronic based material shortages.
This improvement gives us the confidence to communicate normalized lead times to the channel and relieves then need to hold excess safety stock. It's important to understand in our primary U S market, we have positive channel sell through and the volume reductions, we experienced compared to last year due entirely to channel inventory.
Movements.
In the comparable quarter of the channel pulled in inventory, whereas this quarter as Kevin mentioned the channel D. Stumped approximately $80 million. In addition, global uncertainty and geopolitical events continued to weigh on certain European markets.
Our other markets in the rest of World segment performed well as those markets continue to open up post pandemic.
Despite this unfavorable channel dynamic we continue to experience good adoption of new products, particularly controls sentences Asian energy efficient variable speed pumps and lighting.
Gross profit in the third quarter was 107 8 million gross profit margin declined 239 basis points to 43, 9% as continued strong price realization was offset by inflation and lower operating leverage on reduced volumes.
Our pricing initiatives have enabled us to successfully offset the majority of inflation.
In addition, the adverse one time impact purchase accounting related to the acquisition of the specialty lighting business from Alka in the quarter two period.
Impacted gross profit margins by over 100 basis points in the third quarter adjusting for this purchase accounting entry gross profit margin was 45, 1% in the third quarter.
Selling general and administrative expenses during the third quarter decreased 27% to $55 million, primarily driven by lower performance related compensation and warranty expenses as a percentage of net sales SG&A increased modestly to 21%.
Adjusted EBITDA was $60 4 million in the third quarter adjusted EBITDA margin was 24, 6% with the decremental margins limited to 36%.
We implemented significant manufacturing cost down actions during the third quarter to support gross profit margin as well as an initial structural cost savings in SG&A.
The quarter also benefited from lower incentive compensation and lower sales rebates.
Our effective tax rate was 13, 3% in the third quarter compared to 22, 2% in the prior year period as we benefited from discrete items, resulting from certain state legislation changes and the tax benefit resulting from the exercise of stock options.
Adjusted EPS was <unk> 14.
We deployed $50 million to repurchase four 8 million shares during the third quarter, our cumulative share repurchase activity resulted in the year over year reduction in share count of approximately 23 million shares or 10% of shares outstanding.
Now I'll discuss our reportable segment results for the quarter.
Beginning on slide 10, North American net sales for the quarter declined 32% to $203 7 million the year over year change was driven by 47% lower volumes, partially offset by a 12% favorable price impact and 3% contribution from acquisitions.
The reduction in volume was due to the channel inventory destocking in the quarter compared to channel pull in during the comparable quarter last year as I mentioned this destock was expected in the quarter and we do project continued normalization of inventory in the channel in the fourth quarter gross profit for the third quarter was <unk>.
91, 9 million, yielding a gross profit margin of 45, 1%.
Adjusting for the purchase accounting entry I mentioned gross profit margin was 46, 4% in the third quarter. Adjusted segment income was $56 9 million with an adjusted segment income margin of 27, 9%.
Turning to Europe , and rest of World on Slide 11, net sales for the third quarter decreased 21% to $41 6 million net sales benefited from a price increase of approximately 10%.
Virtually impacted by 23% decline in volumes.
In addition to channel Destocking geopolitical circumstances in Europe negatively weighed on consumer sentiment, particularly in northern Europe .
We also experienced a 7% headwind from unfavorable foreign currency translation, primarily related to the euro which dropped below dollar parity in the quarter.
Gross profit for the third quarter was $15 $9 billion, yielding a gross profit margin of 38, 3%. Adjusted segment income was $8 6 million when adjusted segment income margin of 28%.
Turning to slide 12 for a while.
Review of our balance sheet and cash flow highlights. We are pleased with the quality of our balance sheet and the strong cash flow generation characteristics of the company.
Cash and cash equivalent balance at the end of the third quarter was $73 million and total liquidity was 128 million.
Our ABL matures in 2026, and our term loan matures in 2028, and the subtractive maturity schedule provides financial flexibility as we execute our strategic plans net debt to adjusted EBITDA for the last 12 months was two four times compared to two three times in the second quarter.
2022.
Modest sequential increase in leverage reflects the capital deployments in the quarter, which included $50 million in share repurchases at the end of the quarter diluted shares outstanding was 222 million shares.
Cash flow from operations was a source of the $80 million in the third quarter compared to a source of $76 million in the year ago period, and $144 million year to date.
Working capital used year to date has been comparably higher as we took safety stock positions in certain raw materials and finished goods.
Inventories peaked at the end of the second quarter and are moving down as we all cells reduce our safety stock positions.
Capex was $8 million in the third quarter compared to $9 million in the year ago period.
Free cash flow was $72 million in the quarter and $120 million year today.
This represents a net income conversion of 312% in the third quarter and 73% year to date.
The business has strong free cash flow generation characteristics, indicating high quality earnings and supporting our growth investments.
Turning now to capital allocation on slide 13.
We intend to maintain a disciplined financial policy going forward, our capital allocation priorities will be balanced emphasizing strategic growth initiatives initiatives and shareholder returns, while maintaining prudent financial leverage we intend to continue investing in new product development operational excellence.
Commercial programs and productivity initiatives to drive growth in the business.
We also remain an acquisitive company and seek to augment organic growth with tuck in opportunities that enhance our product offering geographic footprint and commercial relationships. We are building a successful M&A track record after integrating all companies in the last 12 months and controls.
Water features and lighting, which collectively contributed 3% sales growth in the quarter.
Finally, the strong free cash flow generation supports continued opportunistic return of cash to shareholders, we deployed $50 million to repurchase four 8 million shares in the open market in the third quarter and $343 million to repurchase 23 million shares yet.
Today.
Oh year to date share repurchase activity is accretive to adjusted EPS by approximately 10%.
At the end of the third quarter, we had $400 million remaining on the existing $450 million three year share repurchase authorization.
And with that I'll now turn the call back to Kevin.
Thanks, Ivy I'll pick back up on slide 14, and address the main trends supporting our outlook. We remain very positive about the long term health of the pool industry, particularly the strength of the after market. It continues to grow every year with the addition of new pools to the installed base and provides a rich upgraded remodel opportunity is this.
As space continues to age and adopt new technologies.
Aftermarket has proven to be resilient across economic cycles. We firmly believe there has been a significant increase in the appreciation for the backyard as a consequence of numerous favorable secular trends.
We also remain very encouraged by the execution of our teams, which continue to deliver solid market share gains and price realization, while implementing our cost reduction programs with that said the current operating environment is increasingly uncertain, especially in Europe inflation remains persistent and we are working through the <unk>.
Reset channel inventories as a result for the full year 2022, the company now anticipates a decrease in consolidated net sales of approximately 6% and adjusted EBITDA of $365 million to $370 million.
I'm confident in our ability to successfully execute in this dynamic environment and remain very positive about the long term growth outlook.
Turning now to slide 15, before we close let me reiterate the key takeaways from today's presentation.
Our third quarter results were consistent with our expectations. We continue to win in the marketplace as we introduce new products convert target accounts to Hayward and increase our market share. We are controlling what we can control optimizing our manufacturing base and taking proactive steps to realign our cost structure to current.
<unk>, while positioning for future growth.
I have every confidence that these efforts will drive compelling financial results and shareholder value creation with that we're now ready to open the line for questions.
Thank you. That's a reminder, if you'd like to ask a question today. Please press star followed by one on your telephone keypad now if you wish to withdraw that stoffel I'd like to.
Francesco question. Please ensure your headsets fully plugged in and Amit Luckily.
And our first question today comes from Jeff Hammond of key Cold Jeff. Please go ahead. Your line is open.
Yeah, Hi, good morning.
Good morning, Jeff.
So just.
I guess on these.
These SG&A cuts, maybe just frame how you're starting to think about demand destruction or are some of the consumer weakness.
Lingering into a into 2023.
Yes, I think let me just start off with the cost actions that Kevin talked about.
The latter part of your question are we back we began the cost actions Jeff in Q3 with initial actions taken across primarily our manufacturing base.
Later on in the quarter, we started to address our SG&A through specific cost actions.
That will start to primarily affect Q4, and then have a full effect in 2023.
We have announced that as of today further actions both across our manufacturing cost base and across our SG&A right.
We're focused really on right sizing our factories to the current production levels that we see.
And as we mentioned.
Our remarks and in the release reduce about 10% of our SG&A base, which is approximately $25 million to $30 million.
We'll continue to update you as we go forward.
Giving you a fulsome update as we step into 2023 I mean at the end of the day. These actions that are to support and protect.
As we've become accustomed mid to high 40% gross margin and protect our adjusted EBITDA in the high <unk>.
The demand environment Jeff.
Seeing still high single digit.
Retail pull through or out of the channel. That's obviously coming off of some incredibly high comps from last year.
Really encouraged.
That data indicates a continued share gain into the retail marketplace.
Which has been really our top level priority for.
For the last several years running.
There's been quite a bit of discussion during this earnings season around new construction.
We agree that based upon permit data.
That that likely will be softer when the year closes out 2022.
I guess the positive offset there on the new construction side as you know, it's really impacted the entry level and there is still a net higher values come in across the bad but you know again, what's really driving this industry.
Is the aftermarket and the break fix.
Repair replace.
Some of the technology upgrading.
It is still it's still very optimistic and it's and the data shows that there is still great retail pull through out into the marketplace. So I'll just close obviously theres been a lot of pricing we spoke about it in our prepared remarks.
The market is accepting those those those prices there's been a lot of it put into the marketplace.
Because of inflationary headwinds and we expect that to continue to hold through the latter half of this year and into 2023.
Okay. Good color there.
So just on the kind of implied fourth quarter Guide Deca.
Decrementals I thought were quite good in the third quarter. It seems like you would take a pretty big step down in the fourth quarter.
Any any kind of moving pieces, there and then just.
Okay.
What are the expectations about around any early early buy if any in the fourth quarter got it. Thanks.
Yes, I'll lead off and then again.
And on the lack of volume I mean, it's pretty clear based upon the full year guidance that we've given sales in the fourth quarter are expected to be in the range of.
Hi, 250, <unk> hundred 60, <unk> call that mid <unk> to 60.
We expect EBITDA to be between $51 million to $56 million.
As you point out structurally the margins around 21% at the midpoint adjusted EBITDA margin.
Gross margins will be impacted in the fourth quarter by lower absorption, we're really focusing Jeff in the fourth quarter on the Destocking on our balance sheet. In addition, obviously to continue to work with the channel on that destock, so production in the fourth quarter.
It will be limited we are.
<unk> going to rightsize, the menu fracturing cost base about production will be down sequentially in.
In Q.
Q4.
We will have as we talked about continued inflation on acquisition costs in Q3 was higher than expected. It didn't necessitate us to put in another price increase that price increase will be effective.
In January of 'twenty, three so we will still have a bit of pinch and inflation also in in Q4.
As for early by Jeff We did run a program. This year I would say you know as it as it's closed out here in the month.
Of October it's a more normalized early buy kind of back to pre pandemic expectations admittedly, we put a slightly lower expectation on it given the given the channel stock position.
We hit that expectation, which I find encouraging.
And a great sign that the channel remains confident in that end market demand.
And the expectation that we're going to get inventories down to the correct level correct days on hand by year end. So we're working with the channel.
I'm getting that shift.
We continue to deplete, we also want to make sure that the inventories in the right position and we got the right mix as the season kicks off into into 2023.
Okay. Thanks, guys.
The next question comes from Ryan Merkel with William Blair Bryan. Your line is open. Please go ahead.
Hey, guys. Thanks for taking the questions.
So picking up on that last comment you made Kevin It sounds like you think the channel destock is going to be done by the end of 'twenty. Two and then can you update us on how much you were assuming for the total destock now I think the prior estimate was $150 million.
Yes so.
I would say on the change what we discussed on last quarter I'd say, it's playing out as expected.
We had nice destock.
Hit expectation.
Through Q3 more work to be done in Q4, but you know.
<unk>.
With the assumption of current demand trends continue.
We think that we will largely be done.
And have inventory in the right balance as we turned the year into 2023.
Would say as you compare year over year.
There was some inventory build as I said in my prepared remarks in 2021 and this year, we saw a nice reversal of that as our share continue to to grow into the marketplace. So where there was some inventory build in Q3 last year, we've actually depleted at by that $80 million or so.
We had in the prepared remarks, so in terms of overall, we hit we've kind of put us put a range of about 120 to 150 on it and like I said as of now.
Just upon retail pull through.
And our expected Q4 ship back into the channel, we would say that we expect to be largely done and reset and balanced coming out of coming out of Q4.
Great. Okay, that's encouraging.
And then on pricing how much will price contribute in 2023, just given the recent increase you talked about and I think there'll be some carryover that would be helpful. Thanks.
So there will be some carryover I'll ask Gavin to give some more detail. There is carryover from an announcement call. It in the mid year Mark when it took effect and then of course. This this most recent announcement on.
Here in Q4, which will which will start to impact Q1.
Shipments so we're probably going to give a range now until we come in with our with our 2023 or formal.
Guidance.
Yeah, Ryan, obviously without giving definitive guidance on price carry at this point, but what I would say is as I mentioned earlier, we have now recently announced a 45% price increase which is consequential to the inflation, we saw coming through Q3.
<unk> will be carry into next year.
I appreciate it thanks.
The next question comes from Brian Lee at Goldman Sachs. Brian . Please go ahead. Your line is open.
Hello, everyone. This is miguel on for Brian . Thanks for taking the question. My first one was just.
Maybe going back on the on the updated revenue growth guidance.
Maybe could you just decompose a bit the change.
And the guidance was that all.
Related to channel inventory or.
Maybe you could you talk through how much of that was perhaps lower expectations on volumes, maybe in Europe versus other regions and then I'm, assuming price remained a headwind and it's going to remain a headwind.
And an offset to those things, but just wondering if you could just.
Maybe give more color on the change of the guidance versus prior.
Yes. So let me just talk about sales last time, we talked around $200 million at the midpoint.
From our original guidance to our revised guidance coming out of Q2, now we expect it to be around $230 million to $240 million.
Would be the take down from our original guidance stepping into 'twenty, two and that really is centric around three three central themes. One the channel correction is as Kevin mentioned, we said 120 to $1 50, but kind of trending up into that mid range right. Now 130 to 135 as the channel correction. We think we're done at the end of the year.
We go back.
We identified it earlier, we got after it earlier, so I think we're.
In a good position now to get through that channel correction by the end of 'twenty two in terms of Europe and rest of the world I think youre aware that market remains thats a complicated.
Originally we had.
Taken down our view on Europe , and rest of world by $60 million I think we're now at $70 million in our guidance and then in terms of the seasonal markets.
They've got a slow start so this is the Midwest and northeastern Canada slow or stop this year, we've seen no improvement throughout somewhat on those <unk> markets now are essentially closed down for the season, and we expect better things next year, but in terms of this year.
The Siegel seasonal market detriment is around $55 million to our previous expectations.
Out of Q2 of only 40 million. So it really it centric around slightly higher channel correction little bit of deterioration in Europe , and rest of the world, including the FX consequence.
The recognition that the seasonal markets now have.
Had a solid 22.
Period.
And you also mentioned pricing I believe at the end of the question there Mcgill we would.
I think you said headwind, we actually see pricing benefit.
Benefit tailwind kind of working through the next the next several periods.
Okay got it I I meant I meant tailwind I have that reversed out when I was when I said, it but yes great.
Awesome I appreciate all that.
I appreciate all that additional color second question and then I'll pass it on just maybe just start on cost in general.
Looking at the spot prices on sort of freight and met all you know we're here.
All of those have come down and then we're hearing from others and then you've noted in your prepared remarks that.
There might still be some a bit of challenges around the electronics, but can you just maybe talk about the state of the state in terms of supply.
Supply chain in general and then specifically.
Maybe one how we should think about the timing of when those.
Prices in the market.
Start to translate and potentially more upside.
On margins in that number too.
On the supply constraints, what's gotten easier and what's still a bit more challenging thanks.
Yes, let me come at it in reverse order I think makes sense.
The responsive correctly here so in terms of sourcing we have seen.
A nice improvement in sourcing.
When I look at all.
All key main commodity raw materials and other components.
Components items, we really are now only constrained from a sourcing perspective in electronics, namely PCB components.
Microprocessors, we continue to work with our suppliers to get those materials.
That remains the only let's call it red traffic light commodity dashboard everything else from a supply quantity perspective has improved.
In terms of costs.
Stu.
Will remain elevated in the in our purchase costs you have to recognize that we operate on a lag so the raw materials that we purchase in any given Q.
On a three month lag and obviously than any cost of sales that we sell in the quarter are really based upon prior quarters acquisition. So we can be dealing with a lag of anywhere between three to six months.
From the market price of our commodity through that being recognized in our cost of sales.
And so when you look at the year to date inflation in commodities, we still see RASM is elevated in our purchase price we have seen some abatement in steel costs, we've got some specialists metals, which still a hot and copper based upon some contractual hedging we did is higher but we do expect that these.
We'll start to cool off here.
Possibly now starts to provide a tailwind into next year to me, it's a little bit too early to call definitively.
It will be in terms of inflation in 2023, and we reacted accordingly.
Purchase costs with a further price increase.
Understood. Thanks, Thanks, a lot for the additional color I'll pass it on thank you.
The next question comes from Nigel Coe with Wolfe Research. Please go ahead.
Thanks, Good morning, Thanks for the question.
So I mean, I think listen to you good morning.
How long do you think it'll take to work down inventories to the right level.
And I'm just thinking about you know how much.
I mean within your plan within the margin guide you pick up a full queue.
What sort of inventory benefit do you expect to achieve.
And I kind of I guess sort of adjacent to that question is you know normally you burn cash flow in and full Q I'm. Assuming this time is different but if you can just.
Maybe you can talk about cash flow as well.
Sure.
In terms of inventory.
Just unclear that Nigel talked about hey, with balance sheet exact.
Exactly yes.
Yes, Okay. So inventory peaked in Q2, it's now beginning to come down modestly in Q3.
But it will be lower at the end of the year as I mentioned, we are reducing production.
To allow us to get through that to finished good inventory.
More quickly and we expect that to continue actually into 2023, we will generate cash from our reduction in inventory.
The fourth quarter, but as you know the fourth quarter wholesale has some early buy sales in the which are on extended terms. So I don't expect for the quarter from our networking capital position to be a material.
Cash flow period, but we will get some from from inventory reductions.
When you think about the days on hand, we have somewhere at the end of Q3 around the four and a half months of inventory of raw materials and about three five months of finished goods. That's about six weeks either normal by the end of the year, we expect to only be about two to three weeks.
And provided we see continued supply.
Normalization from our raw material suppliers, then we will.
Continue to relieve our own balance sheets.
We stopped that strategic inventory that everybody has taken.
We're aiming now to get our cash conversion cycles back in the 90 to 100 days, which takes our raw material and finished good stand to about three.
Two months respectively.
Okay. That's really helpful. Thanks, I began my follow on question is really just maybe just slightly crisper view on sort of how we view the outlook here, so 50% of the kind of the run rate's a replacement demand remains.
Puppy remains very solid even in a consumer recession, 20% newbuild.
Almost going to be down.
Pick a number what about the other 20% the remodels, how do we view that going into 'twenty three.
Okay.
Yes, I think that's a potential.
I think it's a potential offset on the construction side as you know Nigel.
Our dealers builders also do the remodeling, we know that new construction has been prioritized for the last two to three years average age continues to push to the right approach in 25 years. So you know as we've been talking about for a few quarters, we think that that that that could be.
An opportunity to help offset some of the new construction. So youre looking at it. The way. We are is we're as we're looking into 2023, what's our expectation around new and remodel, which frankly, we view remodel as part of the aftermarket that that 80% of our business that really is.
Serving the installed base out there.
With with the pricing expectation. So those are all the factors that were weighing here through the fourth quarter and will ultimately lead to our to our guidance when we talk again in first quarter.
That's very helpful. Thank you.
The next question comes from Sean <unk> with Bank of America Merrill Lynch. Please go ahead. Your line is open.
Hi, guys. Thank you for taking my question we.
We had a couple of them pricing first with the more normalized supply chain, some easing in commodity prices and a balanced channel inventory heading into 2023.
Expecting any more price competition and promotional activity next year.
And then the second one is I believe you guys had a 4% surcharge in place. The last couple of months is that still in place and do you expect to pull that back with some relief on freight and commodity inflation.
Yes, so I'll answer.
The second part so the 4% surcharge now has become institutionalized.
And our pricing structures and.
And so that remains in the priceless and go forward.
Expectation is there'll be no give back in terms of that given where we've seen structural freight costs. So rest that over the last four months here.
As for the promotion the last two years the industry really hasn't had too.
Promote product given the demand.
Profile.
What I would expect.
2023 is maybe is a return to normalcy.
With sort of standard levels of sales promotion activity that has long existed in the industry. So we don't think it's incremental to historical trends Sean but.
Would expect it to maybe be a bit of a step up from the fact that there was very little over the last call. It two years or so.
Okay just to clarify.
The 4% to 5% increase is that just you guys turning the surcharge into a permanent price increase or is that in addition.
That's in addition, essentially at the.
The surcharge became institutionalized over Q3 and the most recent announcement is.
Further pricing fees as I mentioned.
The freight costs in the business that would normalize that we've seen some reduction and containment costs coming out of Asia, but the reality is inland transportation LCL FTL.
<unk> costs.
Sequential to gas costs diesel costs.
I'll now structurally higher than they were 18 months ago.
Okay got it and then.
I think you've mentioned that the sell through grew high single digits year over year, you have a breakout of how much of that growth was price versus volume.
So can you just repeat the question of the of the high single digit sell through what was the.
Factors between price and.
And other.
So we would we.
We don't know exactly the channel price position year over year.
It probably includes let's say negative low single digit volume offset by a mid to high single digit pricing.
Maybe a little bit of mix in there.
But what the big components, Sean would be.
Will you probably off.
Some single digit.
Single digit percentage.
Considerable price and then mix may have a little bit positive contribution.
Okay. Thank you.
Okay.
The next question comes from Josh <unk> from Morgan Stanley Josh. Please go ahead. Your line is open.
Hi, good morning, guys.
Okay.
If we could just talk a little bit about some of the categories here.
If I think about that sell through in the third quarter and it sounds like volumes were down a little bit, but any difference between what youre trying to actively destock in terms of categories or maybe what the channel's trying to destock versus the categories that have been more resilient or.
What kind of drove some of that sell through performance.
Yes.
Guess, what I would say there Josh is where the channel has increased inventory I think we are.
Particular categories that are.
More highly inventory I think we've made nice progress getting some of that out there is still some products out there as we've been talking now for several quarters. There are some product categories that the industry.
Ourselves included have just not been able to really get.
Get back to full.
Full supply, namely products that require some electronic componentry as Ivan said, that's still in shorter supply so I think the.
The channel did did a nice job of addressing.
Some of the heaters.
But we're still in short supply I would say net net across some of the variable speed pumps some of the automation and.
And controls.
Got it that's helpful and then I.
I know we've kind of approached this inventory question different ways, maybe just want to be crystal clear because I'm not that smart on this 130 $135 million of kind of total destock that you are targeting here is that include Hayward inventory or is that all channel facing.
Maybe if it is just channel facing what's kind of the total number that you would put on that.
Yes, Josh just to be clear, you're poking at Haywood product in the channel that is.
$135 million, we're referencing so we expect channel.
Distributors eight with inventory to be reduced to $130 million over the second half of this year with substantial.
Progress on that in Q3.
Okay.
But you also have your own balance sheet inventory you are trying to work down.
What number should we think about for that.
Yes, so right now right now when you look at the end of September .
Call it rounded up $315 million on the balance sheet, we by the end of <unk>.
Mid to third quarter next year expect that to be down to around about $220 million to $25 million.
Again Thats returning.
Returning our days on handled months on hand, raw materials to about 90 days or three months of finished goods down to 60 days or two months.
<unk> got it.
The assumption that no further supply chain disruptions consequential to any macro events next year.
Got it that's helpful and then if I could just sneak in one more in.
Any comments that you would make on I guess for lack of a better term industry backlog you know what what your dealers know about and have queued up for next year I would imagine that when these longer lead times between remodel and new pools that theyre kind of booked out a little bit farther than usual.
Starting to normalize it still stretching out pretty far any cancelations, mostly anecdotal I know because it's not really the way the industry works, but anything you can share would be helpful.
Yes, I would say we're hearing.
Very little negligible cancellations, so I don't think Thats a contributor Josh.
I would say that the conversations we have with our dealers and our dealer Council.
It feels like it's returning.
More normal profile.
We did talk about the permitting on the new construction, but frankly, new construction gets too much attention. This industry is driven by the aftermarket so that remodel and that upgraded and I break fix is really what's driving the future outlook more than anything and I would say.
As the inventory has been.
The Oems have done a nice job being able to fulfill and solve the backlog inventories in the channel and I think the the availability is in a much better position in terms of their books.
New permits new construction, we're calling flat to most likely be down this year and then we'll take a harder look at 2023, but net net I think all of that kind of adds up to it.
It's returning to more of a normal space as we finished 2022 and prepare for the new 20 <unk>.
Got it that's helpful Best of luck guys.
The next question comes from Michael Halloran from Baird. Michael Your line is open. Please go ahead.
Hey, good morning, everyone. Just one from me when you look at the margins fourth quarter, obviously low Twenty's I think is kind of the implied range.
How should I think about what the normalized margin levels look like obviously theres some artificial downside of the quarter given what's happening on the inventory side, given some of the inflationary things that you're talking about plus year.
Implementing some cost containment programs, but as we look to next year, what's the right run rate should we be thinking about when we try to adjust for a lot of those pieces.
Yes, good morning.
Yes.
As we mentioned Q4 is going to be impacted by some under absorption.
Quantify that it's around 175 to 200 bps, we think about the pricing initiatives that.
It won't be in effect until January that will contribute another couple of hundred bps, possibly up to 250 bps.
And so the aggregate of those two start to move the gross margin back into the high forties, we've instituted the cost actions, which will eliminate 10% of our SG&A costs some tough actions.
That we've got to get through to rightsize that cost space, but once completed that will allow the business to return.
Our adjusted EBITDA margins back into the high <unk>.
I appreciate it thank you.
As we have no further questions I'll hand back to Kevin Holleran for concluding remarks.
Thank you Adam in closing I'd like to thank everyone for their interest in Hayward, our business is very well positioned to navigate the near term challenges and deliver growth for all stakeholders. In the years ahead. This would not be possible without the hard work dedication and resilience of our employees and partners around the world. Please contact our team is.
Do you have any follow up questions and we look forward to talking to you again in the fourth quarter earnings call.
Adam you May now end the call.
Thank you. This doesn't conclude today's call. Thank you very much for your attendance you may now disconnect your lines.
Yeah.
Okay.
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