Q3 2023 MasterBrand Inc Earnings Call
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Welcome to the Master brands third quarter 2023 earnings Conference call.
During the Companys prepared remarks, all participants will be in a listen only mode.
Following management's closing remarks Colm.
Colors are invited to participate in a question and answer session.
Please note that this conference call is being recorded.
I would now like to turn the call over to foreign policy.
Vice President of Investor Relations and corporate communications.
Thank you. Good afternoon. We appreciate you joining us for today's call with me on the call today are Dave Banyard, President and Chief Executive Officer, Danny Simon Executive Vice President and Chief Financial Officer.
We issued a press release earlier this afternoon disclosing our third quarter 2023 financial results. If you do not have this document is available on the investors section of our website at Master brand Dot com.
I would like to remind you that this call will include forward looking statements in either our prepared remarks or the associated question and answer session.
Each forward looking statement contained in this call is based on current expectations and market outlook and are subject to certain risks and uncertainties that may cause actual results to differ materially from those currently anticipated.
Additional information regarding these factors appears in the section entitled forward looking statements in the press release, we issued today.
More information about risks can be found in our filings with the securities and Exchange Commission, including under the heading risk factors in our full year 2022 Form 10-K, and updated as necessary and our subsequent 2023 form 10, Qs, which are available at SEC Gov and at Master brand Dot Com.
The forward looking statements in this call speak only as of today and the company does not undertake any obligation to update or revise any of these statements except as required by law.
Today's discussion includes certain non-GAAP financial measures. Please refer to the reconciliation tables, which are in the press release issued earlier. This afternoon and are also available at SEC Gov and at Master brand Dot Com.
Our prepared remarks today will include a business update from Dave.
All of my discussion of our third quarter 2023 financial results from Andy along with our current 2023 financial outlook.
Finally, Dave will make some closing remarks before we host a question and answer session.
With that let me turn the call over to Dave.
Thanks, Darren Good afternoon, everyone. We appreciate you joining us here today for our third quarter 2023 earnings Conference call.
I'm pleased to report that Master brand delivered another solid quarter of financial performance.
Net sales in the third quarter were $677 million or 21% decline over the same period last year.
This decline was slightly greater than our expectations due to the impact of higher than anticipated trade downs.
Absent the roughly 3% effect from trade Downs net sales for the third quarter were roughly in line with our previous outlook.
Despite the net sales decline adjusted EBITDA margin expanded by 150 basis points to 16, 2% in the third quarter.
This equates to a year on year decremental margin of less than 10% well inside our stated guidance.
Exceptional margin expansion was driven by the team's continued execution on master brands strategic initiatives, particularly around supply chain improvements and productivity savings.
This performance was higher than our internal estimates as our associates continue to outperform our expectations.
Our strategic initiatives drove another quarter of working capital improvements as we reduced inventory by roughly $50 million sequentially from the end of the second quarter to the end of the third quarter.
Our supply chain efforts, which are rooted in our aligned to grow initiatives.
Are allowing us to reduce inventory as we continue to drive communization, amongst our componentry product and processes.
Our rollout of RFID technology across our manufacturing network is helping improve inventory control at our facilities, while simultaneously, reducing the labor costs.
These inventory improvements helped us generate free cash flow of $133 million in the third quarter of 2023, a three fold increase over the prior year quarter.
Our year to date strong free cash flow not only demonstrates the value of our operational performance, but has also strengthened our balance sheet and provides us with great optionality in an uncertain market.
Now I'll take a moment to discuss the end markets served by our customers and the trends we saw in the third quarter.
The single family New construction market remains the most resilient with underlying demand running flat year over year.
We saw expected seasonality in this market late in the third quarter, which has continued into the fourth quarter.
Trends across builders vary as some are more equipped to navigate rising interest rates.
Our large builder partners continue to find ways to lower the cost of ownership for potential homebuyers.
This includes buying down mortgage rates or providing other discounts.
As a result, we've seen that portion of the market performed better than the overall market.
As we have mentioned in the past builders are using product trade down to help reduce their costs and we saw this accelerate in the third quarter.
We expect this trend to persist through the fourth quarter.
On the whole we continue to be encouraged by the resiliency of homebuilders. Despite the current interest rate environment, and we believe that the long term fundamentals for new construction are strong.
The repair and remodel market, which we serve through our dealer and retail customers continued to be tepid in the third quarter.
In line with our prior commentary this market demand is down more than our original expectations for the year as consumers are prioritizing other spending.
At the beginning of the year, we expected this portion of the market to be down mid single digits.
We finished the year, we anticipate closer to double digit declines for the overall R&R market.
Generally speaking larger ticket R&R tends to have a greater magnitude change than the smaller project Arnold.
Additionally, our dealers are relying that consumer's decision lead time is extended from a year ago, which adds some further inertia into the buying behavior.
Specific to the U S retail channel, we experienced the final stages of Destocking. This past quarter and we now believe that we have worked through the impact of it with our retail partners and our underlying consumer demand levels.
Retail Pos just following the double digit decline in this category that I mentioned earlier.
In the U S dealer channel, we saw similar trends overall to the retail channel, but within dealers, we continue to see better performance and the higher and lower end product categories. We.
We expect that dynamic to continue moving forward as cash customers' favorite more premium products and the rest of the market target's value priced products.
As we heard last quarter from our dealer network. The inconsumable getting multiple quotes before doing a remodel project and looking for trade down opportunities to achieve a desired price points.
We continue to experiment with price to ensure that we are putting the right products in front of the right customers and are being disciplined about promotions.
And Canada, both new construction and repair and remodel markets remained weak declining over 25%.
Canada represents a relatively small portion of our net sales slightly less than 10% year over year declines of this magnitude of presenting a headwind to our business.
As discussed in our last earnings call. We expect continued weakness in this portion of our business in the second half of 2023, and we're seeing that play out as anticipated.
In summary, we expect the dynamics that started in the third quarter with both current demand levels and product trade down to continue into the fourth quarter.
Domestic new construction continues to hold up better than repair and remodel and we expect continued weakness across both Canadian markets.
Coupled with normal seasonality, we now expect the overall market to be down sequentially from the third quarter our.
Our performance matching that trend on a daily sales cadence.
Andy will provide more color on this later in the call.
With this backdrop in mind, we remain encouraged by our ability to deliver incremental cost savings, despite an environment with softer down volume.
At the same time, we are investing in the business and positioning our company for growth.
Now I'd like to talk a little more about some of the investments, we're making for our strategic initiatives.
On the last earnings call I mentioned that our strong performance gave us the confidence to accelerate investment spending, particularly in our tech enabled initiative.
During the third quarter, we did just that.
More than doubling our investment in technology sequentially and as mentioned on our previous earnings call. We plan to increase the spending further in the fourth quarter of 2023.
These opportunities are across the plant floor back office and customer facing.
For example, we believe our tech enabled initiative presents a meaningful opportunity in the area of quality processes.
Much like supply chain efficiency quality processes are hindered by complexity and product offering and manufacturing.
With our common box initiatives and more standard work across the plants. We can now improve the overall efficiency and cost of the quality processes that exist today in our manufacturing.
Using technology, we'll be able to inspect product quicker and with a higher degree of accuracy.
Master brand has robust automation throughout its facilities, but we see ample opportunity to introduce newer and more advanced automation to support our quality processes.
While this technology might be newer to the cabinet industry. It has been proven in a number of other industries.
Accordingly, we are Trialing advanced yet time-tested solutions in a number of areas this year and into 2024.
Yeah on the plant floor, we have expedited our efforts around cloud migration.
It varied systems that organically grew and constrained our ability to optimize decision is a cross functions, creating reporting inefficiencies and out of support hosted applications.
With our cloud migration efforts, we are standardizing our processes based on our leading practices leveraging centralized master data in near real time analytics.
This helps us automate processes across master brand and enables shared service models for functions like a P. N E R.
This is also helping us allocate our internal resources for manual process steps to value added activities.
Finally, we continue to invest in technology to improve the overall buying experience for our customers. Our new tech platforms are designed to improve the connection between master brand and our channel.
As mentioned last quarter, we have invested in the team and in applications to bring these tools to life for our customers.
Our digital and technology team is making good progress in this area and are rolling out the first of these applications this quarter.
Initiatives such as these serve as a reminder, that the tools of the Master brand way not only drive efficiency, but also target growth.
I look forward to sharing more details about our progress on these efforts going forward.
Now I'd like to hand, the call over to Andy for a more detailed discussion of our third quarter financial results and our revised 2023 outlook.
Thanks, Dave and good afternoon, everyone. It's great to be joining you here today I'll begin with an overview of our third quarter financial results and then discuss our updated 2023 outlook.
Third quarter net sales were $677 $3 million or 21, 1% decline compared to $858 $4 million in the same period last year.
Our topline performance was primarily the result of anticipated volume declines in the market.
Dave mentioned, we also experienced some softening in our net E. S. P. Due primarily to more pronounced trade down activity.
Mentioned in previous calls we were the leader in price enactment in 2022 but the benefit of price to the top line was limited by trade downs in the third quarter.
Gross profit was $237 $5 million in the third quarter down 10, 3% compared to $264 $9 million in the same period last year.
Gross profit margin expanded 421 basis points year over year from 39% to 35, 1%.
Margin expansion was driven by continued execution on master brand strategic initiatives, particularly around supply chain improvements and productivity savings, which mitigated the impacts of reduced trade downs and personnel inflation year over year.
Also I want to highlight that this year's third quarter gross profit includes two discrete items.
We received insurance proceeds of $2 million related to the tornado damage sustained at our Jackson, Georgia facility earlier in the year as well as $3 million and accumulated medical rebates related to the favorable renegotiation of our health insurance program.
Excluding these two discrete items, we still delivered strong gross margin expansion.
Selling general and administrative expenses were $143 million, 23% lower compared to the same period last year.
On freight savings as well as an additional $700000 in medical rebates discussed earlier lowered our SG&A spend even as we invested more quarter over quarter and our strategic initiatives, particularly tech enabled.
As I've previously discussed we were allocated a portion of fortune brands home and security costs in 2022 but that allocation is now gone.
Instead, we have standalone costs, but if you compare the impact of the two it remains a net savings year over year in 2023 as anticipated.
You should expect a sequential increase in SG&A spend in the fourth quarter as we continue to ramp up the pace of investment in our strategic initiatives.
I'll provide more color on this when I discuss outlook shortly.
We delivered net income of $59 $7 million in the third quarter compared to $52 $2 million in the same period last year.
A 14.4% year over year increase was driven by higher operating income and lower income tax expense.
Actually offset by higher interest expense.
Income tax was $18 $2 million or 23, 4% effective tax rate in the quarter compared to $26 $1 million or a 33, 3% rate in the third quarter of 2022.
This quarters Laurie effective tax rate was driven by favorable state and local income tax items recognized this year and the mix of earnings in different jurisdictions, while our third quarter 2022 effective tax rate was unfavorably impacted by adjustments made by fortune brands' filing an IRS audit settlement.
In the third quarter of 2023 interest expense of $15 $3 million was it related to debt necessary to fund the dividend at fortune brands at the time of the spend.
As a reminder, in 2022, we did not have any external debt assigned to our balance sheet and therefore, there was no external interest expense and our earnings during the prior year.
Further we recognize related party interest income of $4 $3 million from loan agreements with fortune brands in the third quarter of 2022.
Diluted earnings per share were 46 cents in the third quarter, an increase from our pro forma diluted earnings per share of 41 cents in the third quarter last year. Please.
Please note that prior year pro forma diluted earnings per share is calculated using 128 million shares outstanding it's under U S. GAAP. It is assume that there were no dilutive equity instruments prior to the separation as there were no equity awards and N B C outstanding.
Adjusted EBITDA was $109 $8 million compared to $126 million in the same period last year.
Adjusted EBITDA margin expanded 153 basis points to 16, 2% compared to 14, 7% in the comparable period of the prior year despite lower sales.
Our strong margin performance was driven by continued execution on master brand strategic initiatives, particularly around supply chain improvements productivity savings and the discrete items I mentioned earlier.
He has more than offset year over year volume declines the impact of trade downs and personnel inflation.
As I mentioned earlier, we recognized two discrete items in the quarter that were not factored into our previous outlook.
To quickly recap, we received $2 million in insurance proceeds related to the tornado damage sustained at our Jackson, Georgia facility earlier in the year.
Second we received $3 $7 million and accumulated rebates related to the favorable renegotiation of our health insurance program.
Excluding these two discrete line items, we still expanded our adjusted EBITDA margin and I am pleased with the operational excellence our associates delivered in the quarter.
Turning to the balance sheet, we ended the third quarter with $122 $5 million of cash on hand, and $482 million of liquidity available on our revolver.
Net debt at quarter end was $585 million, resulting in a net debt to adjusted EBITDA leverage ratio of one five times down from two times and one seven times at the end of the first and second quarters of 2023, respectively. Our third successive quarterly reduction.
Our balance sheet remains strong with the financial flexibility to invest in the business for growth.
Operating cash flow was $336 $5 million for the nine months ended September 24th 2023, compared to $117 $9 million in the comparable period last year.
Our working capital improvement plans as well as strong operational performance, specifically around inventory management and collections drove this tremendous year on year improvement.
We expect our working capital to be flat in the fourth quarter as our pace of improvement slows as we plan for normal seasonal activities.
Capital expenditures for the nine months ended September 24th 2023, or $21.4 million, we anticipate significant payments in the fourth quarter as invoices come due and now expect to spend $50 million in capital expenditures in 2023.
Free cash flow was $315 $1 million for the nine months ended September 24, 2023, compared to $85 $7 million in the comparable period last year.
This is a $229 4 million dollar improvement year over year.
As we have discussed previously cash outflows are expected to increase in the fourth quarter due to our last significant spin related payment to fortune brands of roughly $30 million increased capital expenditures and a slowing of improvement on our working capital.
Because of these items, we now expect fourth quarter free cash flow to be slightly positive.
Finally during the quarter, we repurchased approximately $11 $5 million of our common stock under our existing stock repurchase program.
Turning to our outlook, we remain optimistic about the steady demand we've seen with our customer servicing the new construction market and expect this trend to continue through the balance of the year.
Are those customers servicing the repair and remodel market, we anticipate our current pace of weaker year over year conditions will persist throughout the fourth quarter.
Additionally, we believe the entirety of the Canadian market will remain weak into the fourth quarter.
In total we expect net sales in the fourth quarter to be down mid teens year over year.
Given this market backdrop and the typical fourth quarter seasonality. We are currently planning for a two week holiday shutdown in December.
Included in this two week shutdown is our 50 <unk> week. So we will see no benefit from that in our fourth quarter topline performance. As a reminder, this extra week is the result of our normal 445 fiscal calendar.
From an adjusted EBITDA standpoint, our operational momentum is expected to continue through the fourth quarter.
As discussed on the last earnings call, we plan for accelerated investment spending in the second half of 'twenty twenty-three, particularly in our tech enabled initiatives to position the company for future growth.
Based on our strong operational performance again in the third quarter, we are raising our adjusted EBITDA outlook range to $370 million to $380 million or $20 million increase at the midpoint compared to our prior outlook.
This updated range, we now expect adjusted EBITDA margins of roughly 13.5% to 14% for 2023.
This revised 2023 outlook shows our confidence in our ability to expand adjusted EBITDA margins year over year, even in a softer environment.
Because we have already collected a final payment of $3 $2 million in the fourth quarter. This full year outlook includes these final insurance proceeds related to the tornado damage sustained at our Jackson, Georgia facility earlier in the year.
We expect the benefit of this payment to be nearly offset by certain anticipated foreign exchange headwinds in the fourth quarter.
Our expected 2023 interest expense of $65 million to $70 million remains unchanged and our 2023 year to date effective tax rate of 25, 4% is the approximate tax rate for the year.
He established tools and principles of the Master brand way have helped the team deliver strong results in the first nine months of 2023.
We believe that continued execution on our strategic initiatives and further investments in the business will yield incremental savings in future years positioning us for net sales growth and market outperformance.
With that I would like to turn the call back to Dave.
Thanks, Andy.
As you can see there's a lot of great work, taking place across the organization.
Our associates are executing at a very high level and their progress on our strategic initiatives continues to drive results.
The ability to deliver strong EBITDA dollars on declining sales and expanded adjusted EBITDA margins as a result of their disciplined use of the tools of the master brand way.
Beyond our financial operational results I'm extremely pleased with our ESG efforts and the impact we're having on our broader stakeholders.
During the third quarter, we participated in habitat for humanity as 2023, Jimmy in Roswell in Carter work project as the exclusive cabinet provider.
Our associates have supported habitat events from coast to coast for over two decades and now we're excited to support the organization and a more focused way.
As a platinum level partner, we were pleased to provide design material and labor to help build that twenty-seven home community in Charlotte North Carolina.
This was a great event in a meaningful way to support local families in the Charlotte area.
Since this is our last earnings call before our one year anniversary as a standalone public company I'd like to take a moment to thank our more than 13000 associates for their hard work and dedication this year.
We exceeded our initial expectations for what we would accomplish this year and I look forward to a 'twenty 'twenty four will bring us.
And with that I will open up the call to Q&A.
Thank you.
We'll now be conducting a question and answer session. If you would like to ask a question. Please press star one on your telephone keypad.
A confirmation tone will indicate that your line is in the question queue.
You May press star two if you'd like to move your question from the queue.
For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys.
One moment, please while we poll for questions.
Thank you.
Our first question comes from the line of Adam Baumgarten with Zelman. Please proceed with your question.
Hey, good evening, guys nice quarter.
I guess, maybe to start just if you could give us.
Rough sense of the tailwind that you got from material and freight costs in the quarter.
They are pretty meaningful.
Yeah, I think it's.
I'd say that the combination of tailwind from continued.
Price sorry, excuse me continued.
Cost reductions sequentially as well as the continuous improvement efforts that we've put into the business. Adam is what's driving the results that you're seeing in Q3.
Did you want to add anything you want to talk a little bit more detail about any of the particular elements. Yeah. Sure. So really bad you know Q3 was a great quarter, and you know, especially with those decrementals below 10%, but our continued progress.
Progress really on continuous improvement in the supply chain initiatives.
Very significantly offset the headwinds we had whether it was market related volume the trade downs, which Dave mentioned in the prepared remarks that about 3%.
Increased spend in our tech initiatives and personnel costs. So we did you know.
That price discipline and continued initiatives in supply chain and cost improvement really helps us out.
And then of course.
We have the streets in the Q3 as well of $5 7 million and that was that our prepared remarks, which also helped the quarter.
Adam I'll add one other thing in terms of the pace of change in the market No labor is still a headwind.
And we we have various layers of that throughout the year.
The other aspect is framed I'd say has stabilized now.
And so that as we look forward those those benefits are are probably behind us.
Materials is still not what I would say below COVID-19 levels, there's still been inflation that stacked up over the year. It has sequentially come down, but again I'd say that that part of the market and all of those things have stabilized moving forward here.
Okay got it.
And then just on pricing generally are you seeing a pickup in pricing pressure, whether it's promotions or outside.
Outside of mix, obviously, passing promotions or outright price cuts.
Specifically in the R&R market.
If so maybe you can talk about your versus retail.
Yes, I think the into the pricing environment is similar to what I said last quarter, which is normal and cabinets do have a normal tempo of promotional activity and we're seeing some of that but I think it's not outsized in terms of what we would normally see so.
There's obviously, there's situations where somebody is anxious to get particularly maybe at a large deal done and theres. Some promotion that goes along with that there are certain seasonal promotions that you certainly see in retailers. That's normal course, and so we've we built that into our plan.
And the guidance that we've given but I wouldn't say anything's outsized in terms of.
Change in price.
Got it and then just lastly from me how much of your revenues, new multifamily channel and I guess, what trends you're seeing there.
Yeah, I mean, we follow the multi family.
Activity because it gets released around the same time as single family, but it's de Minimis for US we've intentionally not focused on that portion of the market.
Okay got it thanks best of luck.
Thank you. Our next question comes from the line of Gerrick Schmoose with loop capital markets. Please proceed with your question.
Oh, hi, thanks, Thanks for taking my question.
Just first off for the fourth quarter, how much of the anticipated sales decline do you anticipate being impacted by the trade Downs is at a similar rate as what we saw in Q3 years or any change in.
That anticipation.
Yes Jack.
Actually expect it to be greater than the Q3 impact so I would say more mid single digit.
We had 3% impact to the top line in Q3 and it'll be more in Q4 as that.
It's taken hold more and so obviously, we look at that.
We've said before that we're comfortable with mix change within our portfolio in terms of the margin that that drives but we're cognizant of the fact that there are fewer dollars coming in when you have a trade down like that so we have to look at that and as we look ahead. That's part of our planning process is to be prepared for that.
You know that requires at certain points you have to look at your fixed costs. So we're doing that and we're reacting to that but that is a trend that we think is continuing.
Great.
Just given the.
I guess relative performance and new construction reverses to read the remodel market is there anything that you're able to do or are you contemplating doing as you look out to 2024.
Maybe strengthening your position, even more new residential or any way to.
Target the market that's.
Forming for for the next.
An indefinite period of time.
Yeah, absolutely I think the.
Probably the biggest thing that that I mean, there are a lot of factors that matter into how you win business in any given market, but I think overarching part of winning in new construction is the service level that you provide.
Think we we are world class at that and we have a great team that's focused on that and that's a lot of what we sell and I think also builders are appreciating our ability to adjust product mix with them.
And get them to a lower cost point and not take away anything from what they're delivering to their customers and you saw that all through COVID-19. When it was a very difficult time for all of the builders, both with labor or material you name it.
We were very reliable with them in many ways and I think thats carried through this year and that's that's what we lead with we Havent great product don't get me wrong.
But I think that our ability to really deliver the service level that they need to be successful because we're one piece of a very large project in a stamp that project out over and over again. So if you can.
Frankly, it's the tools that we use internally that we bring to them.
When it comes to things like lead through lean, we bring that kind of approach to our customers because we know that helps them.
Understood last question is just on the.
Incremental or decremental margins moving forward.
Done a fantastic job this year, but you know it seems.
It seems like.
The top line is still going to be a bit choppy given the trends that you discussed it seems like you're lapping some of the.
Material and transportation cost benefits, but you are contemplating.
The fixed costs out of the system. So just.
Kind of curious how to think about the incremental margin line you know moving forward.
Any additional color that you could provide would be great.
Sure I think that you know maybe Andy can speak a little bit about Q4.
As you do the math on that but I think that as we we want to outperform but we're also cognizant, particularly with what we've been able to accomplish in the second half of this year, we're cognizant of our desire to keep investing in the business because of the investments we're making right now are focused on growth in the future.
Some of them take more time to come to fruition and we'll talk more specifically about those as they develop.
But I think that that's the balance and so.
Our team I think has institutionalized as part of our culture of continuous improvement mindset and so that's just part of how we do things and so they take that money and we can either make it higher return for shareholders and or it's usually an end.
It takes some of that money and invest it in that's going to really dictate moving forward. How we have decremental margins, but our goals are always to be world class and to be better than contribution margin and we'd look at the fixed cost base that we have always looking to make sure we're optimizing that along with the continuous improvement on the variable side.
To build the.
The headroom, if you will for us to make decisions about investments and obviously as you go into them.
A market like this year even.
We were unsure and so we wanted to hold off and wait until we saw how things progressed before we delve into investments and we'll treat it the same way any any given year as things go better we'll invest more in as things go.
If things don't go well, we'll trim back.
Yeah, I think I can add a little color on our Q4, if that's helpful.
Generally for this year, we do still plan to stay within our stated guidance those decrementals no more than 20%.
So we continue that trend and really will see that Q4 from a what's impacting the quarter perspective to be very similar to Q3, and again it'll be that continuous improvement supply chain initiatives on top of deflation that we expect to again heavily to offset the volume decline trade Downs TJ initiative spend which we aren't going to.
Continue for growth purposes.
And those personnel costs.
Just a slight clarification just to make sure we understand on the discrete of course, the Q3, the streets will not repeat in Q4, but as we mentioned in our prepared remarks.
We do have that last insurance payment coming through from that tornado we experienced earlier in the year of $3 2 million that is in the outlook. However, just to be clear, we do anticipate that to be offset by some FX headwinds and also some just normal holiday related inefficiencies, which we talked about last quarter.
Yes to put a finer point on what Andy said.
Similar, but we will be investing more in Q4, and we do have the inefficiency, which we're going to we've already seen far enough ahead to say, we're going to take a couple of weeks shutdown for maintenance in our plants and that fixed cost. Therefore, it just comes and hits the bottom line. So it's you know I think if you do the math.
On the numbers that the.
It's not quite as good a performance as Q3, but that's for a number of reasons that we are looking at controlling and deciding to do.
No understood. Thanks for all that and all personnel.
Thank you. Our next question comes from the line of Tom Mahoney with Cleveland Research. Please proceed with your question.
Hello, Good afternoon.
I wanted to ask about the working capital comment in the fourth quarter were.
Neutral and you'd mentioned normal seasonal activity.
Is there some restart of production that's associated with that are just trying to get a sense for how you think about building it into the end of this year and looking forward into 2024 from a working capital perspective.
Yes, Tom I'll I'll add a few things and then Andy may want to add some some further detail but <unk>.
Generally speaking in a normal year.
<unk> tend to have a slight build in inventory at the tail end of Q4 and into Q1 and a lot of that is driven by lunar new year in Asia.
You have to get material on the water sooner to bolster through a couple of weeks of shutdown in that region. So that's a normal course I will say, it's it's really hard to look through our financials for last year because that wasn't the case last year.
We actually extended the lunar new year shutdown with our suppliers longer to kind of.
Help reduce some of the Choppiness that we had and we had plenty of inventory. Obviously, so it's really hard in this particular, one year period to look at a year over year is what's a normal Q4 into Q1, so I would say the normal pace for our working capital is we have to build some inventory for lunar new year and then on <unk>.
Or that you know if you think about the <unk>.
New construction market. It does have some seasonality to it because of the weather and in the north and so we tend to have higher activity coming out of Q1, and so you start building. Some inventory ahead of that as well. So those two dynamics are back in play this year.
Again, we still think we have improvements to make to inventory. So it's it's kind of bally.
Balances each other out maybe not perfectly but somewhere in the middle to balance each other out. So we're going to continue to work on improving inventory with the supply chain initiatives that we have.
There is a dynamic of needing to order more material starting sooner rather than later here in the fourth quarter. Andy is there anything yeah, maybe just kind of and you know we talked a bit about our tech enabled initiatives and I want to talk about how that's really helping us with working capital. It's not just about volume coming down and just the inventory where fundamentally.
Reducing our need for inventory and improving our collections in just a couple of examples.
Using a master brand way, we've developed a pretty robust ethanol P program and that's really been a key driver in the year to date reduction of inventory of $100 million and then secondly, we have really embraced our tech enabled initiatives to improve the data availability of our customers and customer receivables and it's allowed us to collect faster.
And more completely so those types of trends despite the cyclicality those types of improvements will continue.
And probably this is a good time to mention just for a reminder, on the Q4 on cash flow again, we expect real we expect great operational performance and cash flow generated from that however, as we stated in the last quarter. The Q4 has some unique cash outflows that will offset that cash flow generation.
On a year to date and again, it's related to the sports that final fortunate related spend payment of about $30 million. We have remaining capex to go out the door of about $30 million and most of that is related to the timing of invoices and when theyre doing paid.
We are increasing that S E investment and will have even though working capital again keeps improving that slowing of pace of improvement will occur in the Q4. So just a reminder of that and that's why we stated in our comments, we expect that free cash flow to be.
Positive, but not not at the level, we've seen year to date.
Got it appreciate the color on the cadence and then.
As you look out into 2024 and think about the market environment.
I realize that it's early but are there any any way you could.
Characterize how you are thinking about 2024 from a demand perspective, primarily on the repair remodel side as Mike as my question, but I'm curious what thoughts you have there.
Yes, Tom we're not going to give an outlook today, we will in a normal course as part of our guidance in the Q4 earnings.
Next year I think what I will say is that the market is hard to gauge right now.
And so the way we're approaching that is we do scenario planning and I think that's.
What our strategy is designed to do is to give us the flexibility to be nimble in any environment that we have.
Enter into and I think you saw a lot of the elements of that this year.
We plan to add for this year, we saw what was coming we took the appropriate action from a fixed standpoint, and then really went to work hard on continuous improvement and that's as I said, that's our methodology. We look at what we think might happen in this case I would say we have multiple a multiple several scenarios that we.
Think might happen in that that applies this year, obviously it was in a focusing on a down environment. We don't know there could be a wide variety of outcomes next year, we want that flexibility and that nimble.
Aviary to apply both up or down that we can react both with from a.
An overall picture of our capacity, but all but beyond that just how we can drive continuous improvement to be able to deliver on whichever direction. The market goes. So that's how we think about planning where we've done that planning so far with our budget.
But not ready yet to really tell you what we think about the market because frankly, it's it changes quite a bit.
Week to week here right now so we're letting that settle out a little bit before we really tell you which scenario. We think is most likely.
Understood that's helpful.
Thank you. Our next question comes from the line of Julio Romero with Sidoti. Please proceed with your question.
Yes, hi. Thank you. This is Alex happening on Korea, I could we talk a little bit about the impact of higher interest rates curious you know how you guys think about this directly and indirectly across the value chain.
Sure I mean, I think higher interest rates in general.
<unk> put a damper on housing activity.
In particular higher ticket housing activity, so that's going to be a the home purchase obviously its a direct input to the to the cost of the home because most people borrow.
Or to certain projects that people might do if they are planning on borrowing against their home equity.
So generally speaking high interest rates is not a good thing for the housing market.
What I would say is the way the market behaves and it's been an interesting year in that regard in that I think stability is another key factor in decision making around housing.
And that plays in when a consumer has money to spend when the home when the consumer feels that the home is worth what the price tag says or what they've they've paid for it gives them that wealth effect and so with interest rates stabilize in a particular zone there feel more comfortable taking the actions.
You're seeing that with new construction this year.
I think it's a proof point that there's demand there was underlying demand for housing in the world because as interest rates have significantly increased this year, new construction continues to plug along very nicely.
So I look for a there's an absolute intra.
Interest rate to look at but I also look at the rate of change and consumers generally just don't like.
<unk> of change when things cost thing.
It's sort of similar to inflation so.
I look for stability in rates, we saw that coming out of 2022 into 2023, and I think thats sparked some demand in the new construction and that rates, although higher stabilized for a while so people can plan better when you can see something that's stable I mean, we all kind of think that way. So that's what I'm looking for I mean, it's.
It's a very volatile.
Situation right now I spend more time paying attention to the 10 year than what the fed says because that 10 years really what drives mortgage.
10 year skyrocketed, a month ago, and then last week it came down.
Significantly in a week and so that's that's a lot of volatility and probably similar to stock market. Its just people tend to stop doing stuff win when it's like that I don't think that's a normal world that will live in for a long period of time, but it is the war win this week.
Yeah Super helpful. I appreciate the color there and you've spoken about a number of strategic initiatives today plant floor, where cloud migration, our supply chain and tech platforms.
Just curious you know as you look across the strategic initiative portfolio is there something you think will be most impactful.
24 P&L.
Yeah, I think the most impactful.
Saying that we do day in and day out which is I would say now embedded in our culture, but it's it's spreads itself out into these initiatives is that lean culture and the continuous improvement culture that we've driven over the last four years. This is an organization. That's that's great at problem solving and every issue.
You would even day to day issues, but strategic ish.
Issues always have problems to solve and the team has done a wonderful job of learning how to do that and are very interested and fact based way.
And that's that helps drive these projects forward.
Because when you run into a roadblock, which you invariably do and anything you're working on that's complicated problem solving really helps you get to the core of why you're at that Roadblock and it helps you come up with solutions to get around that roadblock. So.
I think that underlies everything we do it's the culture that we have as an organization and I think that's going to now.
Not only does it help drive tangible dollar savings, but it also helped us move things forward at pace and that's.
That's always key to do that so that you can get out in front of whatever issue, you're facing but I really am excited about the tech initiatives that we're working on I think they are all focused on how do we grow this business beyond the market growth rate.
Some of them take a little longer to Germany, when you plant them, but some of them are direct impact and I think we describe those things today in our prepared remarks.
We're excited about them.
I appreciate the context, there and last one from me how should we be expecting somewhat similar pacing with respect to buybacks over the next couple of quarters.
Yes, I think the Oh, we have we're still kind of working through our forward look on capital deployment I think.
As I look at our capital deployment priorities first and foremost it's invest in the business. We think we have some great investments with great return secondly is to continue to.
Ill focus on our debt position, which for US I think we're in a really good spot right now I think we have a great balance sheet.
But I think thats always prudent in a market that's uncertain. It's just it's a it's a.
Way to bolster yourself in the face of what we don't know what's going to happen in front of us.
So those are the top two priorities in terms of returning cash to shareholders I think.
The way we look at the market is where we think were.
Cheap stock, we're going to keep buying it we think it's a good investment.
And just for point of reference on that save you. Some time, we have about $35 million last on the currently approved program F N b.
The end of the Q3.
Thank you very helpful. That's all for me.
Thank you there are no further questions at this time I would like to turn the floor back over to Varun Pollock for closing comments.
Thank you operator, thank you everyone for joining us we appreciate your interest and support and look forward to speaking with you in the future. This concludes our call.
Thank you.
You may now disconnect your lines at this time, thank you for your participation.
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