Q3 2022 Builders FirstSource Inc Earnings Call
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Good day and welcome to the builders first sourced third quarter 2022 earnings conference call.
Today's call is scheduled to last about one hour, including remarks by management and the question and answer session.
In order to ask a question. Please press the star key followed by the one on your Touchtone phone at any time during the call.
I'd now like to turn the call over to Mr. Michael Neese Senior Vice President Investor Relations for builders first source. Please go ahead Sir.
Yeah.
Thank you Todd good morning, and welcome to our third quarter 2022 earnings call.
With me on the call dates Woodman, our CEO and Peter Jackson.
Bo.
Today, We will review our third quarter results for 2022.
The third quarter press release, and Investor presentation for today's call are available on our website at investors <unk> com.
We will refer to several slides from the investor presentation during the call.
Okay.
The results discussed today include GAAP and non-GAAP results adjusted for certain items.
We provide these non-GAAP results for informational purposes, and they should not be considered in isolation from the most directly comparable GAAP measures.
You can find the reconciliation of these non-GAAP measures to the corresponding GAAP measures, where applicable and a discussion of why we believe that can be useful to investors in our earnings press release, SEC filings and presentations.
Our remarks in the press release presentation and on this call contain forward looking and cautionary statements within the meaning of the private Securities Litigation Reform Act and projections of future results.
Please review the forward looking statements section in today's press release and in our SEC filings for various factors that could cause our actual results to differ from forward looking statements and projections.
With that I'll turn the call over to Dave.
Thanks, Mike Good morning, everyone and thanks for joining our call.
Our strong third quarter results reflect the fundamental strengths of our business.
<unk>, our value added products and services that resonate with our customers and our consistent execution.
We are winning new business and strengthening existing customer relationships by consistently.
Providing customers tailored solutions and excellent service, which collectively make us a partner of choice.
In the third quarter, we delivered a six 9% increase in core organic sales.
Including nearly 20% growth in our higher margin value added products.
That performance combined with our investments in core operations, our relentless focus on cost controls and acceleration of productivity helped us produce record adjusted EBITDA.
On slide three I would like to remind you of our long term strategic priorities.
Expanding organically and value added products and services.
Driving operational excellence.
Continuing to build our high performing culture.
And growing through strategic tuck in acquisitions.
On slide four we outlined how we continued to execute against our strategy this quarter specifically we.
We delivered record results in the quarter by increasing our value added product sales.
We leveraged our BFS, one team operating system, leading to $33 million in productivity savings in the quarter.
We deployed additional capital towards tuck in acquisitions as highlighted by our recent purchases.
Since the BMC merger, we have now deployed $2 billion of capital to strategic M&A.
Through October we have repurchased $2 billion in common stock this year.
We still have slightly more than $500 million remaining on our current $2 billion share repurchase authorization.
And we will continue to look for favorable opportunities to repurchase shares.
<unk> market dynamics, and our ongoing commitment to maximize long term value creation.
Since we launched our buyback program 15 months ago.
We have invested approximately $3 8 billion.
And repurchasing roughly 61 million shares.
Retiring nearly 30% of our common shares outstanding.
Let's turn to our third quarter results on slide five.
We delivered approximately $6 billion in net sales.
Core organic sales and value added products grew by nearly 20%.
While single family sales increased almost 2%.
Repair remodel and other increased over 30% and multifamily increased 16%.
R&R and other growth was mainly attributable to a weaker prior year when supply constraints limited our ability to support growth in this segment.
Okay.
Multifamily was driven by solid organic growth and a strong backlog of projects.
Once again value added products drove our growth story.
Further validating that we are well positioned to be the supplier of choice for these products.
During the third quarter, we generated $1 $2 billion of adjusted EBITDA with a margin of 23%.
These results were driven by our strong execution.
Share gains.
Ongoing productivity initiatives and pricing discipline in a market that has been supply constrained, but is returning to normal.
Turning to M&A on slide six.
In addition to our focus on profitable core organic growth, we continue to execute tuck in acquisitions that are aligned with our strategy.
Since the start of the quarter, we have completed four acquisitions that collectively advance our objective of expanding our geographic footprint in key markets.
Enhancing our value added portfolio to better serve our customers and.
And diversifying our end market exposure.
In September we closed our acquisition of trustworthy.
Which expands our footprint in multifamily trusses accelerating our growth in the southwest and southeast.
We also acquired from building group in September provides.
Providing us with pro contractor focused lumberyards millwork facilities and additional resources in the high growth markets of the Gulf Coast.
In July we closed our acquisition of Hong Kong lumber and hardware, which enhanced our footprint in Flagstaff, Arizona.
Then in October we acquired Pima door in supply.
Which provides us with dedicated millwork capabilities in Phoenix.
These acquisitions represent our ability to acquire high return assets that will boost our long term value proposition.
We're excited to welcome the Hong Kong trustworthy, Fulcrum, and Pima teams with our longstanding customer relationships and track records of profitable growth to the BFS family.
We have spent approximately $630 million on M&A, so far this year.
The highly fragmented nature of our industry supports our ambition to invest on average $500 million per year for the next several years, while deploying capital in a disciplined manner.
As we navigate near term market dynamics, we will continue to be acquisitive, where valuations makes sense.
We remain vigilant stewards of capital to ensure we continue to drive long term value creation for our shareholders.
Now, let's turn to slide seven to discuss our pioneering role in the digital transformation of the homebuilding industry.
At the end of the third quarter marks just over one year since the completion of our paradigm in Apollo acquisitions.
The original paradigm business continues to perform exceptionally well and we are investing in the long term growth of that business.
On the homebuilder software side, we remain committed to executing our development plan to.
The build out of our digital sales team and integration with PFS operations.
As we highlighted last quarter, we successfully integrated our structural design material takeoff and visualization models into one streamlined process for our pilot customers.
We now have 18, new digital sales representatives in place with more than 330 customer meetings held during the third quarter.
And we are excited to tell you about a new technology that we will be introducing to the marketplace at the beginning of 2023.
Our new might be LDR dot com website.
Which will provide our small builder customers easy to use digital tools to virtually designed and build their next home.
And engage with key operational functions, including planning spec.
Specifying products.
<unk> materials and budgeting.
We believe our launch of this platform will help us grow the <unk> brand and build on our momentum as the supplier of choice in the homebuilding industry.
Turning to productivity.
In addition to the $55 million of carryover synergies, we have delivered $73 million in savings so far in 2022, and we expect to exceed $100 million in productivity savings for the full year.
As we drive improvement projects and leverage our BFS one team operating system.
Last quarter, we outlined the increase resilience of our business model.
And we believe these are important points to reiterate in this current environment of macro uncertainty.
In a scenario of a challenged market where housing starts are down significantly we have many levers to pull.
As shown on slide eight.
Will allow us to quickly respond including.
Effectively managing costs through our variable expense structure to flex expenses with demand.
Optimizing capacity and further streamlining our footprint.
Reducing discretionary spend.
Accelerating productivity projects.
And taking appropriate workforce actions.
Our scale combined with these initiatives allow us to operate in a much more proactive and effective manner compared to the last recessionary cycle 15 years ago.
As we have all seen in the public builder announcements. The commentary has suggested a 30% to 40% decline in order rates on average.
While we had very strong third quarter results, we have begun to see a slowdown in average daily sales as higher mortgage rates and declining consumer confidence are weighing on demand and commodity prices.
Our September and preliminary October volumes were down low double digits versus a year ago amid a significant decline in early stage build products.
As such we quickly pulled a few levers to curb our costs.
Including.
Bringing our inventory in line with evolving sales levels.
Putting a moratorium on nonessential travel.
Reducing head count and over time to align with volumes and.
And rationalizing facilities.
This work is never easy.
And these are difficult decisions with respect to our affected team members, but.
But we must be responsive to the market deceleration and best position the company to navigate this environment.
We are proactively managing into the downturn and we are prepared to act decisively to protect and resize the business as necessary.
We anticipate that the operating environment will remain challenging for the foreseeable future.
We are committed to strategically accelerating our leading market position.
Allocating capital towards value generating organic and inorganic growth opportunities and delivering on our overall value proposition.
We are confident that no matter the operating environment, we will continue to execute well.
Outpace the market.
And create long term value for our shareholders.
As laser focused as builders first force is on making fundamentally sound business decisions that drive value for our shareholders. We are equally devoted to supporting the communities, where our team members and customers reside.
Especially in times of need.
Yes.
The past several weeks have been difficult for many due to the devastation caused by hurricane Ian.
Our Hearts go out to all the individuals and families who have been impacted.
We were relieved to learn that our team members are safe.
But saddened that a few of them suffered catastrophic damage to their homes.
We stand behind each of them as they work to rebuild.
In recent weeks, we've donated over $500000 to humanitarian organizations supporting the hurricane relief efforts.
The organizations builders first sources made contributions to include the American Red Cross.
Samaritans purse and BFS tiers.
The company's emergency assistance program that helps team members, who are facing hardship immediately after a natural disaster.
Moreover.
I want to recognize our countless team members, who are selflessly gone above and beyond to support those displaced by Hurricane Maria.
With special gratitude goes to our team members in Wausau, Wisconsin, who partnered with a local community to send the semi truck filled with supplies under central's more than 500 miles to Fort Myers, Florida.
It's times like these that truly humbled to lead such a caring and supportive organization.
I extend my heartfelt appreciation to these exceptional team members and so all of those individuals and organizations offerings support on the ground and assisting with the relief efforts.
We stand ready to support these communities and help them rebuild.
I will now turn the call over to Peter to discuss our third quarter financial results.
Thank you, Dave and good morning, everyone.
I'm pleased to report that we delivered strong financial results in the third quarter.
We generated a record quarterly free cash flow of $1 4 billion and repurchased $658 million of our common stock during the quarter, all while maintaining a strong balance sheet.
Our financial performance reflects consistent execution disciplined operational management and alignment with our strategic priorities.
We are operating with a proactive mindset and have enhanced our already strong expense management processes amid a challenging operating environment.
Our fortress balance sheet, low net leverage profile and substantial liquidity provide us with the flexibility to navigate a dynamic but decelerating market all of them.
While we are maintaining focus creating long term shareholder value.
I will cover three topics with you. This morning first I'll review, our third quarter results second I'll provide an update on capital deployment and finally I'll discuss our guidance for full year 2022.
Let's begin by reviewing our third quarter performance on slide nine.
We generated net sales of $5 8 billion for the quarter, which increased four 6% compared to the prior year period.
Core organic sales in the value added products category grew by 19, 9%, reflecting our work to enhance our product mix and meet customer needs.
Gross profit was $2 billion at.
At 17, 6% increase year over year.
Gross margin increased 390 basis points to 35% as we increased sales in our value added product categories and continued pricing discipline and what has been a supply constrained market, but is returning to normal.
SG&A grew 14, 3% to $1 billion with about half of that increase is driven by two factors.
Additional operating expenses from locations acquired within the last 12 months and higher wages and variable compensation costs. As a result of increased net sales and profitability.
The remainder of the increase was driven by fuel related expenses and strategic initiatives such as <unk>.
Productivity and digital investments.
As a percentage of net sales total SG&A increased by 150 basis points to 17, 4%.
We remain focused on the importance of controlling expenses and driving EBITDA accrued we.
We executed successfully during the third quarter as adjusted EBITDA increased 21%, primarily driven by net sales growth higher mix of sales from value added product categories and disciplined pricing.
Adjusted EBITDA margin improved 260 basis points from the prior year period to 23%.
Adjusted net income was $814 million or $5 20 of adjusted EPS compared to adjusted net income of $697 million or $3 39 of adjusted EPS in the prior year period.
To 16, 8% increase in adjusted net income was primarily driven by an increase in net sales and gross margin.
Should we offset by higher income tax and SG&A expense.
Now, let's turn to our strong balance sheet and liquidity on slide 11.
Our third quarter cash provided by operating activities was one $5 billion while capital.
Expenditures were $84 million.
We generated robust free cash flow of approximately $1 4 billion.
Primarily driven by core organic sales growth increased profitability due to effective pricing and cost management and disciplined working capital management.
Free cash flow yield was 33, 3%, while operating cash flow return on invested capital was 39, 8% for the trailing 12 months.
Ended September 30.
Moving to capital deployment as Dave mentioned this year, we have approximately $630 million to work through six acquisitions.
During the quarter, we repurchased approximately 11 2 million shares for $658 million at an average stock price of $58 57.
<unk>.
To put this in perspective, the repurchase equates to $1 24.
Nearly 70% of the $1 81, adjusted EPS change.
In addition, we have repurchased approximately one 8 million shares so far in Q4 for $112 million at an average stock price of $61 54.
We are committed to prudent capital deployment.
We'll continue to look for favorable opportunities to repurchase shares.
Our net debt to EBITDA ratio as at September 30 was approximately <unk> seven times, our last 12 months' adjusted EBITDA.
And approximately one four times, our estimated 2022 base business EBITDA well within our stated target of 1% to two times.
Excluding our ABL, we have no long term debt maturities until 2030.
At quarter end, our total liquidity was $1 3 billion.
Consisting of $1 2 billion of net borrowing availability under the revolving credit facility and approximately $100 million of cash on hand.
We have fantastic quarter, we achieved strong metrics across the board deployed capital and enhanced our overall leadership in our industry.
To thank our entire team for their skill and dedication.
Turning to slide 12, we continue to believe it is important to assess our results using a base business methodologies.
This approach showcases the underlying strength and profitability of our company by normalizing commodity volatility.
As a reminder, our base business definition assumes normalized margins and static commodity prices at $400 per thousand board feet.
We are maintaining our full year guidance on our base business sales and adjusted EBITDA.
Turning to slide 13, I would like to discuss our full year base business and total company outlook as we enter the final months of 2022.
We expect results to decelerate over the balance of the fourth quarter amid higher rates normal seasonality declining commodity prices and the cooling housing market.
While we are seeing slower single family starts we expect our results through the end of the year to be supported by the substantial backlog of homes under construction.
Our base business guide on net sales remains unchanged at 8% to 12% or $17 2 billion at the midpoint.
Our base business EBITDA guidance also remains unchanged.
Continue to expect growth of 18% to 22% or $2 2 billion at the midpoint.
Given that we have less than two months left in the year. Today. We are also providing guidance for the full year 2022, including total net sales adjusted EBITDA and adjusted EBITDA margin.
This will provide you with our anticipated full year total company performance.
We expect full year total company net sales to be $22 $5 billion to $23 billion or approximately 13% to 16% over our 2021 net sales of $19 $9 billion we.
We expect adjusted EBITDA to be four 2% to $4 $4 billion were approximately 35% to 42% over our 2021 adjusted EBITDA of $3 1 billion.
Adjusted EBITDA margin is forecast to be 18, five to 19, 5% or approximately 310 to 410 basis points over the 2021 adjusted EBITDA margin of 15, 4%.
We now expect full year 2022 free cash flow of three one to $3 $3 billion, an increase from our prior range of two five to three point Olga.
The improved free cash flow forecast is based on a higher profit outlook on total results and the timing of commodity price fluctuations.
Our 2022 outlook is based on several assumptions, which are outlined in the earnings release and presentation.
Given inflation higher mortgage rates and cancellation rates in the double digits, we expect full year single family starts across our geographies to be down low double digits.
We continue to expect multifamily starts to be up in the low double digits.
And R&R to be up in the low to mid single digits rigor.
Regarding near term demand multifamily is gaining momentum and will improve diversification of our mix in coming quarters.
Capex guidance for 2022 was $275 million at the mid <unk>.
Versus our prior estimate of $300 million.
Due to continued supply chain delays.
As we begin to close the books on 2022 and are in the midst of finalizing next years budget. We thought it might be helpful to provide a reminder of our ability to weather a challenging operating environment.
We will provide our full 2023 demand outlook during our Q4 call in February .
However, in the spirit of transparency to give you a high level sense of what our business is capable I'd like to provide you. An illustrative example of single family starts declining 20% to 800000 next year from approximately $1 million in 2022.
In that example, we believe we can sustain that double digit EBITDA margins and deliver solid cash flow of over $1 billion, given our differentiated platform consistent execution and disciplined operational management.
We are operating with a proactive mindset and have enhanced our already strong expense management processes to tightly control costs, our premier positioning and robust operating platform have provided us with line of sight to more than $3 billion in free cash flow this year.
A fortress balance sheet with no long term debt maturities until 2030 and over one $3 billion of liquidity to outperform into 2023 and beyond.
With that let me turn the call back over to Dave for his closing remarks. Thanks Peter.
I want to close by reiterating the underlying strengths of our business that will enable us to gain share in any environment.
We are the market leader in a highly fragmented industry.
We have a growing portfolio of value added products and solutions that resonate with our customers, making us a partner of choice.
We have a diversified revenue stream and are constantly optimizing our capacity and operations for long term growth.
We are laser focused on operational excellence, which adds to our competitive advantage.
We take a disciplined approach to organic and inorganic growth with a long term focus.
We generate.
Significant free cash flow, which enables financial optionality in times of uncertainty.
And we consistently generate solid returns while executing our long term strategy.
Our industry is clearly experiencing deceleration versus the prior year.
But we are not discouraged.
We are confident in our ability to navigate through any market environment, and we will remain proactive in implementing our downturn playbook to streamline costs and stay close to our customers and supply partners.
We will continue to execute through near term market volatility, while keeping our sites on our long term goals.
Our core values and our operating principles as our guidepost.
Finally.
And perhaps most importantly, we have a very strong seasoned and highly experienced leadership team that has succeeded through many prior cycles and knows how to deliver compounded shareholder bag.
Over the long term.
You again for joining us today, Todd let's please open the call now for questions.
Okay.
Thank you at this time, if you would like to ask a question. Please press the star and one on your Touchtone phone you may remove yourself from the queue at any time by pressing star two.
Once again that is star one to ask a question.
We will take our first question from Matthew Bouley Barclays.
Please go ahead.
Good morning, everyone. Congrats on the results.
Thanks for taking the questions.
So the.
The comments you made at the end there about about sustaining double digit double digit excuse me EBITDA margin in the scenario of 800000 single family starts.
If I look at the Q4 guide for example, I think youre, implying something like a 70% decremental margin on EBITDA I know, we're kind of in that period of commodity normalization and loosening supply chain, but.
How does that decremental for Q4 kind of breakout between commodity and non commodity and then just kind of give us some comfort around.
What that decremental could look like in 2023 that sort of allows you to sustain that double digit EBITDA margin. Thanks, guys.
Hey, Matt sure, Yes, no thats a good question I think what you're highlighting there is what we're seeing in the market in terms of.
A confluence of numbers happening at the same time. So if we think about what Q4 normally is just in a traditional year into decelerating time for us due to seasonality, we generally see a declining commodity prices and those fall periods.
And overall the business is sort of buckling down for the winter.
This year you overlay the market environment, where you see a slowing market you see a lot of the supply chain returning to normal and you see commodities decelerating into that as well as the seasonal decline.
So the trend.
Compared to last year, obviously is in the opposite direction in all of those categories. So what we're anticipating in that slower market is that decline in commodities and declining sales. Some retrenching of gross margins. We've talked about that I think extensively over the last year or so in terms of a return to normal over time.
We're beginning to see all of those things play out so that's really the dynamic in the in the fourth quarter. We considered all of that in our discussion about where we think we would be at with 800000 starts.
We think that the.
Normalized commodity prices, our ability to manage through the market.
As well as the strength of our business and our mix really will put us in a position to still be in that double digit EBITDA space, even considering all those factors.
Okay got it that's helpful. Thanks for that Peter and then secondly, I wanted to ask about pricing you guys mentioned a couple of times at the top that there has been pricing discipline in a supply constrained market, but that market is now returning to less supply constrained I think.
If I play with your implied Q4 guide I take what you said at the top around volumes tracking down low double digits.
Could be wrong, but it seems like you might be implying that core.
Pricing might also be negative in Q4, and please correct me if I'm wrong, there, but just how are you guys thinking about price deflation on non commodity products are you starting to feel more pushback from homebuilder customers there.
Well I will give my customers plenty of credit we always see pushback right.
I think that the dynamic in terms of the margins and the way that we're seeing margins flow through as a result of supply is.
As you would expect right as more supply becomes available becomes more competitive and that's what we baked in.
We do think there'll be a bit of gross margin progressing back towards normal we won't get there in the fourth quarter.
But certainly heading that direction.
Petition is increasing as you would expect that we are ready for that we're ready for the battle as part of kind of who we are and what we do.
I'm not sure that there's a lot of detail that I can provide you got a lot of pullback from vendors in terms of their pricing pass through slowed down a bit in terms of increases, but we haven't seen cuts in any material way, but that could happen.
Yes, I think that last point is an important one there Matt I think the volumes of the allocations that we saw for the last couple of years of pretty much gone away, but to Peter's point outside of the commodities, we have not seen price concessions from our suppliers to this point.
Got it I'll leave it there thanks, Dave Thanks, Peter Good luck guys.
Excellent. Thank you.
Thank you. Our next question comes from Trey Grooms of Stephens incorporated.
Hey, good morning, everyone and have to also say congrats on the great performance in the quarter.
Correct, that's right so.
Kind of.
Just circling back for a little bit more clarity.
On that double digit EBITDA margin youre, referring to in that kind of single family housing start around 800 Peter.
And then also kind of going back to your long term gross margin guide, 27% I mean, you've talked about kind of margins regressing towards normal.
Is that 27.
If we kind of triangulate into that double digit it seems like that's kind of the number youre pointing to.
In that environment and my off their in store in that environment is there a difference in type where should we be thinking about that long term number.
So the two pieces. The 800 is just an example, we want to give you a sense of where we think that double digit EBITDA can be defended.
This is all forecast I don't want to I don't want anybody rightness on stone tablets or anything, but it's what we think I think we've got a good business. We know we've looked at our numbers six ways from Sunday and we feel good about.
Where we think we will be even into a modestly down market.
When it comes to the gross margins, we talked about 27% plus somewhere north of 27% of.
Normalized gross margin that we feel good about the spending.
There's a lot of question marks still about where things will settle out with margins given the dynamics in the marketplace certainly it will be more challenging than it has been over the last year or two just because of the increased competition in the slower starts, but theres still a reason to believe that improve.
<unk> discipline in the market.
Improved work within our organization about how we think about pricing will allow us to maintain a level of north of 27%.
Certainly not ready to give kind of a refined guidance there, but a movement back from $35 towards that 27 is what we continue to point to what we expect to see both in Q4, but also in that sort of down 20% start single family starts metric that we throw out there.
I'll just add that I would just add just.
On the double digit EBITDA margin I think you'll recall that neither legacy company had double digit EBITDA margins at those sort of start levels and I think we've been talking a lot since the merger about the strength of the platform that we've built and the differentiation that we have and we're confident that we will see that play out through the cycle.
Yes no.
I got that very well.
Very loud and clear and you guys are executing well with all of that so hats off there and on that I guess, the $100 million in productivity savings.
Youre talking about for the full year.
How how volume or sales dependent is that and I guess, how much of that would be sustainable.
Year.
If we were looking at that kind of housing start environment.
I'll start and then I'll flip it over to Peter when we outlined our forward projections and our financial plans at the Investor Day, a year ago. We said importantly that we were targeting over the long term, 3% to 5% and fixed cost productivity.
And what Youre starting to see is that play out and we started slowly through the integration of the merger and we put those synergies behind US we've stepped on the gas on operational excellence and we continue to build momentum.
The clearest answer that I can give you is we believe we are building fundamental strengths in that area of the business Theres lots of opportunity to continue to optimize what we do and get more efficient and we're confident that we're going to move towards that long term target over time.
Yes, I guess, all I would add there Trey is that.
While there will certainly be.
Volume adjustments to certain items that are volume driven these are operational changes right. We're tracking them as a finance organization to ensure that there is a real P&L impact things that have changed before and after we're not just we're not just tracing volte.
<unk> improvements in telling you the leverage number these are changes in operations process.
Staffing expenses that we can track because we've done things differently to get rid of waste and improve our efficiency.
Got it.
So the one thanks, guys and again congrats on the great work in the quarter.
I appreciate it.
Thank you we'll take our next question from Mike Dahl of RBC capital markets.
Good morning, Thanks for taking my questions.
Mike.
Yes.
Peter Thanks for the additional color so far one more follow up.
On the 23 sensitivity I appreciate it's very high level.
At this point, if I think about <unk>.
And I'll, just build our orders down 30%, 40% in recent months.
That that hits you with.
Starts environment.
100000 are down 20 next year, it's possible that the lagged impact to us is.
Potentially.
Worse.
And so does that sensitivity contemplate that or I guess, maybe asked somewhat.
Somewhat different way that's the level it sounds like you're comfortable saying you can defend double digit margin what type of decline would it take in your sensitivity to drive margins below double digits.
Yes, I think it's a little early for us to begin Mike on 2023, we certainly were in the <unk>.
Midst of our budgeting process here, we will finish that up before the end of the year as you would expect we certainly don't want to get ahead of our customers on any projections as you know, it's a challenging market and it's changing day by day and we just gave that example is illustrative and the confidence and as I said on the last questions.
Or is it different.
Realm of capabilities in this organization and this company, we've built and we were anytime in the past so that was really illustrative and really didnt mean to opine on what starts may be next year its too early to tell.
Got it okay.
My second question just on the capital allocation, obviously, you've got free cash flow.
Your goals this year and really nice.
Buyback activity.
You have leverage on the base business ticking up a bit if youre, if youre looking out to next year and anticipating some core declines.
The business.
While you may throw off some strong free cash flow. It seems like it's possible that leverage keep ticking up towards the upper end of your 1% to two times range. So how are you thinking about.
The relative aggressiveness of your buyback program, you've got the funds earmarked for M&A, you've been really aggressive on the buyback is it time to toggle that back a little bit or any thoughts on how youre looking at the buyback going forward.
Sure. Thanks, Thanks for the question.
So look our capital allocation priorities have not and will not change through the downturn wanted us first in the future growth of the company.
Inside the company, we'll look at M&A next then we'll return capital to shareholders as our third priority. However.
Even in the M&A front, our pipeline is still very strong.
Valuations have to make sense and the same thing around share repurchases. So to this point, Mike have been very disciplined stewards of capital we will be disciplined stewards of capital through the cycle. We've got a bulletproof balance sheet, we're very comfortable with that.
To your point, our leverage May tick up so we believe our cash flow will remain strong and we're going to do the right things with our cash.
Okay. Thanks.
Thank you excellent.
Thank you we'll take our next question from Catan Ventura of BMO capital markets.
Thank you Anne.
That's on a strong quarter.
Coming back to the example that you gave and whatever.
Thats drop we may see next year, whether at this $10 $15 20, water where that number maybe just.
Just curious kind of how does that impact your beef business EBITDA of $2 2 billion. It's.
And on the margin, but just the absolute EBITDA should we think about it.
But it seemed as timely as three quarters of the poker business should we think about it as a similar drop in the base business EBITDA should be greater should be less.
Any sort of high level perspective.
That would be helpful.
Sure, Yes, no thats a great question.
If you think about our base business. It really is representative of.
The core of our operations and how it is.
Functioning as a combined entity post merger, but more importantly through the through the cycle. So it is fair to expect we would see sales on the base business move based on starts its the best predictor of our business in the long run single family starts multifamily starts representing probably a.
Mined 80% roughly of our overall sales.
As you think about the dynamics within the space more broadly there has also been and we've talked about this a lot of pretty significant impact on gross margins due to the supply chain issues. So certainly we would expect gross margins to normalize a bit.
If you think about the.
If you implement as you described a number of scenarios around single family starts are all starts declining and you account for gross margins. There is some de levering that is going to happen in the overall business. That's the nature of that math right. We will still be healthy will still be very strong, but there is going to be.
Small or a.
Smaller amount of EBITDA to be gained on a smaller business with more competitive gross margin. So that's broadly how I would describe it what I would say are the counterpoint to that is the increased investments, we're making in value add the share that we're gaining and the productivity improvements, we're making in the business just to be better at what we do so.
There is a balance there that's what we're working through right now and are planning for 'twenty three to be able to give you better dialed in numbers.
No. This is great very helpful and then.
One other follow up question.
So obviously, we are starting to see cancellation rates start to.
Come down, but I'm just curious how long do you think of prepaid for builders to walk through some of the current backlog of homes that got that is it sort of a <unk> quarter.
Or less or more.
That's a great question I really wish I knew the answer to that.
On one hand, I think we've seen really nice trends in terms of those numbers of units those homes under construction in total stay quite high which indicates there is some some cushion there.
The counterpoint is a little bit what.
What we alluded to in the script today, we have seen a bigger decline in the early products. So say that another way do you think about the construction cycle of a home you're going to start with your framing lumber you moved to trusses that windows and doors were seeing bigger declines.
The earlier products, which would indicate that we're starting to build through some of that unit under construction backlog timing of it tough to say.
I think the most common forecast that Ive heard would be Q4, Q1, we would burn through the bulk of it but I think it's just too early to say.
Sure.
Got it that's very helpful. I just wanted to good luck in the backroom and integrate community.
Thank you.
Thank you we'll take our next question from Adam Baumgarten of Zelman and associates.
Hey, good morning, everyone.
But if you come back to this going back to the September and October volume trends can you give us a sense for how the value add business performed did it continue to outperform the overall business in a down environment.
It did it did.
A few reasons for that I mean, obviously, we've invested in.
And the value add part of our business over the last year or so both in the form of internal investments new capacity better facilities better automation better productivity, but also in the inorganic side with the acquisitions. We've made both of those have done well.
And then you layer on the other components right windows doors and millwork, that's an area. We've made a lot of investments in over the past really decade and that has yielded some really nice performance and ability to compete so are.
Our focus in those areas is paying off we think it will continue to do that now that isn't to say that we will still face challenges and in a market where theres fewer starts, but we think we're very very well positioned to compete to win in that environment.
Got it thanks, and then maybe just some additional color on might be LDR dot com that launch that's coming out it sounds like it's targeted towards smaller builders.
That an incremental opportunity to the $1 billion that you guys have sized overtime and then maybe just maybe the market opportunity for that launch just in and of itself would be helpful. Yes, very good question and no it's not incremental to the $1 billion.
As we said we bought a platform that was.
We were very excited about with paradigm, but it was very narrowly focused again on <unk>.
Window and door manufacturers in the retail side of the business and as we said we've been investing heavily in the development of that platform to build it out to be able to handle the whole host holthaus design configuration, we're hitting a major milestone with that launch.
As we've said from the beginning.
We're targeting the small builders first so consistent with what we said we're excited about that milestone there'll be more to come over time, but 15 16 months in with the heavy lifting we have continue to have on the development side, we're excited to bring that forward.
Got it thanks, a lot best of luck.
Sure. Thanks, Thanks, a lot.
Thank you we'll take our next question from Colin Barone of Jefferies.
Good morning, and thank you for taking my questions I just wanted to start back with your illustrative, 20% declining starts environment can you just provide some more color about the core organic sales declines in the decremental margin assumptions that go into that I ask just because youre, taking share, especially from the value add products there could be some changes in core pricing.
So there seems to be a lot of moving pieces here beyond just the single family start so any color there would be helpful.
Good morning Collyn.
To be honest the goal wasn't to try and get into the dissection of the sub numbers I think that my comments a little while ago are certainly applicable here in that we do anticipate there to be declines on.
A number of different areas. We think starts will go down we think commodities will continue to revert back to that long term average and we think there'll be some regression to the to the historical norms in margins.
Pretty significant slowdown.
Value add digital improvements internally and our productivity is helping to lead us through a very difficult time with a very profitable business. So it's certainly inclusive of those factors Youre right. We will have a lot more detail for you as we get into the.
So far 2014 acquisition since the merger all we believe with high level of discipline on valuation and we will continue to do that through the downturn I expect that things may slow down a bit here for a while and dependent upon the length and the severity of the downturn the pipeline may get more active through the course of time.
Great. Thank you have a good one.
Results from the quarter.
So.
Value add versus the commodity.
Or non value added businesses can you talk about what youre seeing on the margin front.
So far in this quarter or towards the end of last quarter had the had the value added margins kind of held in.
Better than commodities kind of already returned to.
Quote unquote normal or are they kind of progressed in a similar manner.
Well on the manufacturing capabilities does that just consolidation of distribution footprint as it is none of those and what kind of.
Savings are.
<unk>.
Of our head count in.
This was more consolidation.
We have not needed to shut those facilities down in fact, we've needed all of that capacity that we've had but times are different now.
And so we really don't want to quantify any of that at this point, but as I said on the call we will be proactive and decisive actions given what happens in the marketplace.
Great franchise in that space the ability to invest is something that we've stayed committed to our existing multifamily business on truss and.
Added to that with both panel Trust and trust way this year with acquisitions and right now we've got.
Over a 1 billion to 2 billion a $1 billion three of backlog in that space that we know we're going to be able to to meet throughout the year.
Certainly feel good about the strength in the profitability of that business and as we bring the teams together and integrate them into our consolidated builders first source team. We're excited about what they are able to deliver so we're certainly very optimistic in that space.
And multifamily.
If <unk>.
Activity planning and start activity slows down what's kind of how long how long would take to show up in your numbers.
Generally you are talking about multifamily being a substantially longer lead time, we usually are.
Months, yes, it's usually around nine months versus 30 to 60 days, probably on the single family side.
It does vary a bit but thats a good average.
Okay. Thank you.
Okay.
Thank you. Our next question comes from Stanley Elliott of Stifel.
Hey, good morning, guys. Thank you all for fitting me in.
Quick question on the slide eight and talk about some of the downside actions you guys are taking with a double digit EBITDA margin framework that you've laid out.
Yes, we didn't link those those actions directly to those double digit EBIT margin that was more illustrative and given you an indication of the levers that we have to pull depending upon how severe the downturn gifts and the Harvey balls. There just show you that we are fairly early into acting on all of that capability. So.
Help us kind of where you are I mean, I saw the Capex guide come down modestly.
Our expectation of some of those projects and how should we think about them into next year.
Well.
As we have been we continue to invest heavily in automating our manufacturing facilities, we think thats the right long term play.
Refreshing our rolling stock that is the single biggest area will deploy capital into into the company going forward and secondly, given the strength of our balance sheet, we have the ability to do that even in a slower market.
To some of this equipment that we need.
Appreciate it.
Morning, Kurt Thank you for the question. So I think that the 27% is.
Band of starts I don't know if its a specific number.
Honestly, the 27% Plusses is.
Unfortunately at this stage a bit hypothetical we're going to have to watch the market and see how it pans out with the combined entity and the starts that we grapple with we still feel good about it what by what we've seen so far I would tell you if im surprised on the gross margin side just from a forecasting perspective.
I would tell you I am surprised that stayed as strong as long as it has.
It's done quite well.
It's migrating down but in a very.
Measured way.
Right. Okay. That's helpful. And then just lastly, I mean as builders start to kind of zero in on the cost side with the last of some pricing power in and maybe trade availability, becoming incrementally better how do you think about that impacting the value proposition of some of the value added offerings.
Yes, we're excited about the long term potential of those value added offerings in any market.
Think about it.
Labor may be more readily available, but even in a downturn efficiency at the job site matters for our customers theyre going to be doing a lot.
With a lot less people theyre going to take some of the same actions that we described that we're taking here.
Any way that we can make their work more efficient.
We believe we will continue to get traction and continue to drive growth in those products and to Peter's earlier comments, we haven't seen any slowdown in our value add on a relative basis compared to the rest of the business. We think our penetration will continue.
Got it alright, well I appreciate the color and good luck here in Q4 guys.
I appreciate it.
Okay.
Thank you. Our next question comes from Alex Rygiel with B Riley.
Thank you can you talk a bit about your inventory level youre comfort with it how it compares to historical levels and any other sort of inventory that could be sort of in the channel understanding that you are most of the channel.
Thanks Al good morning.
So inventory has been a real focus for us as we observe the market and trying to make sure that where we have the right amount on hand, right. We generally manage it on a days basis in the field, ensuring that we're able to support the dynamics in the market. So that requires us to stay close to it up.
So we're feeling pretty good at.
Certainly there's always improvement, we can always optimize but certainly well within the band of what we'd like.
And then secondly on slide 17 that you chose your estimate of the base business.
Certain commodity prices.
It appeared that you didn't change it since the second quarter. Despite a number of acquisitions is there sort of.
Two or three simple.
Explanations for that.
Yes, we don't.
Full year adjusted New acquisitions, it's just the part years, we're trying to keep it linked to the current look and then applying the normalized margins in the lumber prices. We've talked about a couple of different ways is to update that sensitivity. We think we're going to have something that might be a little more helpful to folks when we do our our Q4.
<unk>.
But it has stayed the same it has not moved materially primarily because it's just the part year additions for any M&A.
Thank you.
Sure. Thank you.
Thank you. It appears we have no further questions. At this time. This will conclude today's third quarter earnings call. We thank you for your participation you may disconnect at any time.
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