Q3 2023 WESCO International Inc Earnings Call
Hello, and welcome to watch the coast third quarter earnings call.
I would like to remind you that all lines are in listen only mode throughout the presentation.
If you would like to ask a question. Please press star followed by the number one on your telephone keypad.
Please note that the C band is being recorded.
I would now hand, the call over to Scott Geffner Senior Vice President Investor Relations to begin.
Thank you and good morning, before we start I want to remind you that certain statements made on this call contain forward looking information.
Forward looking statements are not guarantees of performance and by their nature are subject to inherent uncertainties.
Actual results may differ materially please.
Please see our webcast slides as well as well as the company's SEC filings for additional risk factors and disclosures.
Any forward looking information relayed on this call.
<unk> only as of this date and the company undertakes no obligation to update the information to reflect the changed circumstances.
Additionally, today, we will use certain non-GAAP financial measures required.
Information about these non-GAAP measures is available on our webcast slides and in our press release, both of which are posted on our website at Wesco dotcom.
On the call. This morning, we have John Engel West Coast, Chairman, President and Chief Executive Officer.
Dave Schulz Executive Vice President and Chief Financial Officer.
Now I'll turn the call over to John.
Thank you Scott.
Everyone and thank you for joining us today for our call on the third quarter earnings release.
As you've seen from our earnings press release and webcast materials, we delivered a strong set of operating results in the third quarter highlights for the quarter included great cash generation stable gross margins SG&A cost actions now taking effect there or the actions we took over the last two quarters.
Sequential EBITDA growth and sequential EBITDA margin expansion better inventory management strong cross sell execution and continued market share gains the power of our portfolio and industry, leading value proposition is clear and we're in a great position to create value across all phases of the X.
Omics cycle that is without regard to the exact economic environment that will prevail over the near term.
So starting with cash we generated very strong free cash flow of $357 million or more than 140% of adjusted net income and this highlights the strength of our <unk> distribution business model over the past two years global supply chain constraints due to the pandemic required us to invest in our inventories to service our customers.
We supply change healing, we were focused on reducing our inventory and returning to our historical levels of strong and consistent free cash flow generation. We saw this in the third quarter in fact and deployed capital in a balanced manner to reduce our debt and return cash to shareholders through a share.
Share buybacks.
Importantly, our financial leverage now stands at two seven times.
Although the midpoint of our target range and is at the lowest level since the anixter acquisition in June 2020, we expect our strong free cash flow generation to continue and we expect to use that cash to invest in above market growth continue to pay down our debt and increase the return of capital to shareholders.
Now turning to our third quarter financial results overall results were in line with our expectations with improved performance in our E business and that was coupled with continued share capture and higher operating margins in both our CSS and UBS businesses the.
The multi speed economy has increased the importance of our array of internal initiatives at our continued operational excellence as we drive outperformance versus our end markets.
We again exceeded our expectations for cross sell and I'm happy to say and are raising our sales synergy target from 2 billion to $2 2 billion.
Our long term secular growth drivers remain intact, and our portfolio mix shift into higher growth end markets has driven and is expected to continue to drive more consistent financial performance.
We remain focused on what we can control as we continue to invest in our digital transformation plan and deliver game changing digital capabilities that will benefit our customers and supplier partners. We've revised our full year outlook to reflect a moderating economic environment and are confident in delivering record.
Sales record adjusted EBITDA and record free cash flow in 2023 finally, as we look to 'twenty 'twenty four and beyond remain we remain confident in and committed to delivering the financial value creation objectives presented at our Investor Day last year and as you know these include our <unk>.
Long term margin expansion profit growth and cash generation targets.
So now let's move to page four.
The strength of our business model and the success of our integration efforts since closing the anixter acquisition in mid 'twenty 'twenty have established a track record of success and exceptional results for our company.
Over the past three years, we've outperformed the market and delivered impressive sales growth and margin expansion and we did this all while rapidly deleveraging our balance sheet.
With a three three year integration program coming to a close at the end of this year, we are exceptionally well positioned to capture the benefits of the enduring secular growth trends as well as the anticipated increased infrastructure investments in North America.
And we will do this by using our global scale industry, leading positions and now expanded portfolio of products services and solutions.
So with that I will now turn the call over to Dave.
Thanks, John and good morning, everyone I'll start on slide five with a summary of our third quarter results as John mentioned the company delivered record third quarter sales up 4% on a reported basis.
Year over year increases in our CSS and UBS businesses were partially offset by a decline in sales and certain EES segments.
On an organic basis, which includes the adjustment for one less workday in the quarter.
Sales were up 3% over the prior year, driven mostly by a low single digit contribution from price as volume was approximately one.
So flat volumes in the quarter represent a modest year over year decline in market volume that was fully offset by the combination of share gain and our cross sell program.
During the quarter, we experienced some negative impacts from the normalization of supplier lead times, which led to customer destocking in certain parts of our business.
Project backlog continues to be at a historically high level supporting our outlook for the rest of the year and into 2024, but it's normalizing.
In total backlog was down 6% year over year and down approximately 7% sequentially from the end of June.
We expect our backlog will continue to moderate as supply chain lead times have improved for most product categories.
Gross margin of 21, 6% was flat sequentially with the second quarter and flat year to date with the comparable period in 2022.
Gross margin in the quarter it was down compared with the prior year due primarily to lower supplier volume rebates as a percentage of sales as well as mix.
We continue to prioritize profitable topline growth and as an industry leader, we intend to protect the progress. We've made on gross margin with continued execution of our enterprise wide margin improvement program.
Adjusted EBITDA was down slightly versus the prior year as the benefit of higher gross profit was offset by increased compensation and volume related costs and higher costs associated with our digital and it transformation.
Adjusted SG&A was 13, 7% of sales flat with the prior year and down 40 basis points sequentially driven by the cost reduction initiatives executed in the second and third quarters.
As we mentioned last quarter, we took steps in June to address higher costs, and we took additional cost reduction actions in Q3.
Collectively these actions are expected to reduce costs by approximately $45 million on an annualized basis.
Adjusted diluted EPS for the quarter was $4 49 flat with the prior year as the increases from raw he a lower effective tax rate and lower share count were offset by foreign exchange rates and higher interest expense.
As we start the fourth quarter end market demand trends have moderated versus our prior expectations.
We experienced a step down in demand in October with preliminary reported sales per workday down 2%.
CSS was up low single digits, including the benefit from Rohit.
EES was down low single digits with growth in industrial.
By declines in construction and OEM.
UBS was also down low single digits as we continue to see broadband down double digits offsetting modest growth in utility and integrated supply.
Notably book to Bill remains above one dot O for all three of our business units.
Turning to page six this slide bridges the year over year changes in sales and adjusted EBITDA.
As I mentioned, a moment ago organic sales increased 3% versus the prior year, including an approximate 3% benefit from price while volumes were roughly flat.
Market volumes declined and were offset by share gains.
As expected the contribution from price moderated again in the quarter relative to 2022 as there have been fewer supplier price increases and the magnitude of these increases has been smaller.
You can also see the drivers to the decline in Q3 adjusted EBITDA of note adjusted EBITDA margins in the quarter improved by 40 basis points sequentially, driven by our cost reduction actions.
Turning to slide seven.
Organic sales in our EES business were flat year over year on a like for like basis sales were up 2% over the prior year adjusting for the impact of intersegment transfers at the beginning of 2023.
Construction sales were flat with large project growth offset by continued declines in wire and cable.
Industrial sales were strong up high single digits over the prior year driven by strength in automation.
OEM was down high single digits in the quarter.
Backlog was down 5% sequentially and up 3% from the prior year driven by strong bookings for large projects. As we are now beginning to win large projects associated with the unprecedented levels of infrastructure investments in North America.
In the third quarter adjusted EBITDA was down approximately 15% from the prior year.
Adjusted EBITDA margin was eight 7%, a 140 basis points lower year over year.
The reduced profitability in EES was driven by lower supplier volume rebates.
This mix and higher SG&A as a percentage of sales.
EES margins improved slightly compared to the second quarter, and we expect sequential improvement in the fourth quarter driven by the benefit of the SG&A reduction actions previously taken.
On this slide we've also highlighted that we were awarded a five year $250 million contract to provide electrical and electronic products to support MRO and capital project activity of a major metal producer in the United States.
This is an indication of the larger project activity in the electrical industry.
Turning to slide eight third quarter sales in our CSS business were a record and up 11% versus the prior year on a reported basis and up 4% organically.
We saw solid growth in network infrastructure with reported sales up low double digits, driven by data center and cloud applications.
These gains were partially offset by Destocking at service providers, along with overall softness in the structured cabling business.
While security sales were up low single digits and professional audio visual installations were up double digits driven by strong international sales.
As we noted earlier in the year backlog continues to moderate to normal levels in CSS as supplier lead times have returned to pre pandemic levels.
Backlog was down 19% year on year and down 10% sequentially.
Profitability was also strong with record adjusted EBITDA margin of nine 9% 10 basis points higher than the prior year driven by operating leverage integration cost synergies and the continued successful execution of our margin improvement initiatives.
In the quarter, the combined Wesco and anixter datacenter and power portfolio enabled wesco to win a three year $135 million contract to supply datacenter infrastructure wire and cable power and switch gear products to support the construction of a Hyperscale data center in Latin America.
Global Hyperscale demand remains strong and we are exceptionally well positioned to capture this secular growth.
Turning to slide nine third quarter sales and UBS were up 6% versus the prior year on an organic basis sale.
Sales in our utility business were up high single digits as electrification Green energy and grid modernization investments continued.
Integrated supply was up low double digits versus the prior year.
Broadband sales were down double digits as certain customers continue to work through inventory and delayed purchases as projects are pushed out.
We now expect broadband sales remain pressured until the second half of 2024 as customers in the supply chain continue to work through inventory Destocking, along with the expected timing of government stimulus funding in 2024.
Backlog continues to normalize and was down 7% from the prior year and down approximately 8% on a sequential basis, but remains at historically high levels.
Profitability was exceptionally strong as Q3 adjusted EBITDA was an all time record of $196 million and EBITDA margin was 11, 7% of sales driven by operating leverage on higher sales margin improvement initiatives and integration synergies.
In the quarter, we were awarded a five year $100 million contract to supply high voltage equipment to support the construction of utility scale renewable energy projects again, a testament to our industry leading value proposition.
Now moving to page 10.
The size of the cross sell opportunity continues to exceed our expectations.
This quarter, we recognized more than $270 million of cross sell revenue.
Bringing the cumulative total to more than $2 billion since the beginning of the program three years ago.
Our pipeline of sales opportunities remains healthy we are continuing to capitalize on the complementary portfolio of products and services as well as the minimal overlap between legacy Wesco and legacy anixter customers.
As we look at the last three months of the program in 2023, we are increasing our expected cumulative total to $2 2 billion, reflecting the strength of our value proposition and cross sell execution against the backdrop of accelerating secular trends.
Turning to slide 11, we realized cumulative run rate cost synergies of 108 $88 million in 2021 and $270 million through 2022.
We remain on track to meet or exceed our expected target of $315 million of cumulative cost synergies by the end of 2023.
Our focus through the balance of the year is on our supply chain network optimization and field operations to drive the remaining cost synergies.
Turning to page 12 recall that after a cash draw in the first quarter, we were approximately neutral through the first half of the year.
In the third quarter, we generated free cash flow of $357 million or more than a 140% of adjusted net income highlighting the strength of our b to B distribution model.
Working capital management, specifically lower accounts receivable and inventory contributed to the strong cash generation in the quarter.
Over the past two years global supply chain constraints due to the pandemic required us to invest in inventory to service our customers.
With supply chain ceiling, we are focused on reducing our inventory and returning to our historical levels of strong and consistent free cash flow generation we.
We saw this in the third quarter and used our available cash in a balanced manner to reduce our debt and return cash to shareholders through a share buyback.
Moving to slide 13.
Reducing our leverage has been a top priority since we announced the acquisition of Anixter and we are pleased that leverage is now at its lowest level since closing the transaction in June of 2020.
Notable this quarter was that our strong cash flow enabled us to reduce net debt by approximately $250 million, which was the primary driver of the lower leverage.
Leverage is now approximately two seven times trailing 12 months adjusted EBITDA.
A reduction of three turns since June of 2020.
We are now below the midpoint of our targeted range of two to three five times trailing 12 months EBITDA and.
In delivering on this commitment enables us to pursue additional capital capital allocation options to increase shareholder returns.
During the third quarter, we purchased $50 million of our shares.
Based on our outlook for continued cash flow generation through the balance of the year, we expect to fund additional share repurchases and pay down debt in the fourth quarter.
Now moving to page 14.
This slide shows the uniquely strong position of our company to drive growth and profitability in the years ahead.
The end to end solutions that we provide to our global customers are directly aligned with the six secular growth trends shown on the left side of this page.
Our participation in these trends coupled with increasing public sector investments in infrastructure broadband and partnerships with the private sector position wesco exceptionally well as.
As we outlined at our Investor day last year over the long term, we expect to grow 2% to 4% above the market due to the combined benefit of secular growth trends and increasing share.
Moving to page 15, we are updating our 2023 outlook today based on year to date results and current market conditions.
For the year, we expect organic sales to be up approximately 4% at the low end of our previous range of 4% to 6%.
The change in our outlook reflects moderating market conditions, including the slow start to the quarter in the month of October.
We now expect volumes to be down slightly year over year as gains in CSS and UBS are offset by a decline in EES with price driving total market growth of approximately 3% to 4%.
Our share gains and cross sell initiatives remain a powerful driver of our performance and are expected to provide another one to two points of organic growth.
After factoring in the additional revenue from Rohit the impact of one less workday in 2023, and the impact of foreign exchange rate differences, we estimate our reported sales growth for fiscal year 2023 will be approximately 5%.
For our strategic business units, we now expect EES reported sales to be down low single digits year over year versus our prior expectation for growth to be flat.
As we noted earlier, we have experienced headwinds in EES due to customer destocking, along with overall weakness in commercial construction and certain end markets and our OEM business.
Our outlook for CSS remains unchanged from our prior outlook with the topline is expected to be up mid teens.
And lastly for UBS, we now expect reported sales to be up high single digits year over year versus our prior expectation of high single to low double digit growth.
The lower expectation is driven by our an extended period of inventory destocking within our broadband business.
Along with deferred purchasing at some of our utility customers, who are balancing near term customer affordability and cash generation with long term service reliability.
For the fourth quarter, we expect UBS revenue to be relatively flat due to a difficult comparison year over year.
Softness in our broadband business and moderation in utility growth rates.
We expect lower project activity limited storm recovery in the current year and customers adjusting order patterns to align with reduced lead times.
This aligns with a more normal seasonal pattern for our UBS business.
For adjusted EBITDA margin, our outlook is for a range of seven 8% to 8.0% unchanged from our prior outlook and still representing approximately $1 8 billion of EBITDA.
We expect stable gross margin in the fourth quarter as we overcome notable year over year headwinds related to supplier volume rebates.
Based on current assumptions supplier volume rebates for the full year are expected to be a headwind of approximately 20 basis points.
We are increasing our outlook for adjusted earnings per share to $15 62.
$16 10.
Driven by a lower full year effective tax rate and lower share count.
We continue to expect free cash flow between $500 million and $700 million.
This outlook still reflects record sales record adjusted EBITDA and record cash flow.
In the appendix of this presentation, we have shown our revised underlying assumptions for certain items on the income statement.
We increased the low end of our expectation for interest expense for the year from a range of $370 million to $390 million to a range of $380 million to $390 million, primarily driven by higher variable rates and the timing of debt Paydown in 2023.
Additionally, we now expect other expense to be approximately $20 million for the full year versus $20 million to $30 million previously.
Regarding the quarterly cadence, we expect Q4 top line results to be down low single digits sequentially.
This is in line with typical seasonality and note that there is one less workday compared to Q3.
Before opening the call for questions. Let me provide a brief summary of what we covered this morning.
Free cash flow was particularly strong in the quarter as we delivered approximately $360 million of free cash flow.
Our year to date total to $384 million.
Overall sales and earnings in the third quarter were in line with our expectations with internal initiatives and operational excellence driving outperformance versus a multi speed economy.
We delivered record third quarter sales in both CSS, and UBS, which offset the impact of supply chain destocking and select market weakness within EES.
Profitability improved sequentially in the quarter with adjusted EBITDA of $15 million and adjusted EBITDA margin, increasing 40 basis points.
We reduced our leverage this quarter to the lowest level since acquiring anixter in 2020, and we are now below the midpoint of our target range.
We expect to generate significant cash flow in the fourth quarter, enabling continued investment in our strategic objectives and increasing shareholder returns.
With that we'll open the call to your questions.
Thank you we will now begin the question and answer session.
I would like to ask a question. Please press star followed by the number one on your telephone keypad.
Please limit your questions to one question and one follow up.
Our first question today is from Deane Dray of RBC capital. Please go ahead.
Thank you and good morning, everyone.
Good morning Deane.
Hey, maybe we can start with your read of the multi speed economy.
Certainly you could see it dipped a bit more in October.
And take us through your read of quote activity daily stock and flow and address the destocking because last quarter was unprecedented it. It seems like that has leveled out a bit it's still a headwind, but if you could just give us the context, there it looked like it impacted us a bit more.
But take us through your read please.
Through the date I think.
Daily bid activity levels, let me address that first very strong.
Dave mentioned, it but I'll emphasize that we did see a moderating.
Moderating sales growth.
October.
And market driven I'll come back to that in a minute, but book to bill ratios were above a 1.0 for each of the three SP use so.
And that's after.
As you saw from our release Thats after.
Eating into a little bit of backlog as we move through the third quarter. So bid activity levels strong feel very good about that.
The Destocking that we saw that was significant in the second quarter relative to EES is as seem to kind of moderate a bit Q3 was similar to what we expected.
More pronounced in Q2, you can see that Q U S had a nice sequential improvement in the third quarter versus the second quarter. So.
I would say the Destocking continues there.
And those those parts of the portfolio for EES and UBS that has still have extended lead times has continued in that being switch gears select breaker categories Transformers other engineered products the rest of the portfolio with our as we partner with our suppliers are back to pre pandemic levels. So.
Maybe the final point I'll make is broadband continued.
Have challenging year over year comps and the Destocking is continuing there we see that carrying through and not really recovering over the second half of next year.
And industrial momentum remained very strong so very strong growth rate in the industrial portion of our portfolio strong growth in utility over all.
And I think that kind of rounds out the portfolio, maybe last point and data center driven growth still remains very very strong.
In the core in the base business and also with Rocky combined our W. Dcs business had a very strong quarter.
Alright, Thats really helpful, especially calling out the book to bills on each of the SP use at <unk>.
One times or above so good to hear that and second question more for Dave is and congrats to you and the team and getting leverage down below that midpoint of your range. We know that was a target and so.
So that was successively hit.
And the consequence on that also is taking inventory down you got really good free cash flow. So just to clarify are you at a comfortable level now at $2 seven.
Is there a goal lower that you want to share and how much of the inventory reduction has been done just kind of give us a contacts of how much and neither the pace of dollar amount the number of quarters do you think you'll be reducing.
And again, that's got great free cash flow implications.
I'll start with the leverage Deane, we mentioned last quarter. Our goal was to get at the midpoint of our target range. Obviously, we were balanced in our approach of deploying available capital that included continuing to take down our leverage but then also buying back shares and we would continue to do that.
So given the high interest rate environment, we're always evaluating what is the right level of leverage versus our other capital deployment opportunities given where we are right now in the fourth quarter, we would expect to continue to buy down our debt, but then also.
Can you just try to buyback our shares so that's our approach there on inventory we've made some progress we're not where we want to be and again as the supply chain continue to heal and when you take a look at over the next several quarters, we would expect our inventory levels to continue to come down just to put that into perspective, we added.
10 days of inventory over the past 18 months and that was in response to the supplier lead times being able to service our customers at the appropriate level. We've made progress from Q2 to Q3.
While we still have more have more ways to go we will provide more details about our plans for 2024.
Our fourth quarter call.
Thank you that's good execution.
Thanks Dean.
Our next question today will come from Sam Dark Cats of Raymond James. Please go ahead.
Good morning, John Good morning, Dave how are you.
Good morning, Sam.
Two topics here you mentioned some wins in large projects, but obviously theres a lot more.
Commentary in the channel around the Mega project growth, especially heading into next year.
What's the general rule of thumb in terms of what kind or size of Mega projects go vendor direct.
What can wesco due to participate and mega projects and how real is the risk.
That mega projects crowd out the smaller projects that tend to run through the <unk>.
Sort of how much labor financing they consume.
Well I think ill.
Start with the last part of your question first you know look at the size scope and scale of Wesco the strength of our balance sheet. There is no. There is no financial limitation whatsoever. In fact that would be interesting Sam if you look at the wins, we spiked out this quarter last quarter go back over the years and look at the size and scale.
All of those wins and it's more than just the inflationary effect these are materially larger.
Materially larger so.
Over the years and I can speak with with a lot of view of the history here you know how long I've been in the saddle at Wesco, we would spike out wins that were double digit millions now youre seeing these wins that are triple digit millions. So it's just it's a.
These projects are larger Theyre more complex and I think most importantly for wesco and uniquely for US we're seeing the power of our cross sell execution, resulting in driving these larger wins that represents greater scope as well.
Because as we're successful at cross sell we're pulling in a more complete solution across EES CSS and UBS.
He will lead me to my answer to the first part of your question, which is.
There are the size and scale of these projects in general they're larger they're going to support the infrastructure build out in there.
Many people are using the term quote unquote mega projects, but in many cases in many cases it requires a more complete solution beyond just one supplier partner house.
And this is what we're hearing from our end user customers and from our large contractor and integrator partners, including the global EPC and I think a testament to that and a proof point on that is our cross sell execution headwinds. So I think you know I think that challenge is going to play out Sam now you have an interest in second part of your.
Question is very interesting because I do think as you get to the smaller and midsize players.
Some of them will be betting their company if they try to take one of these larger projects.
It's an interesting question, we're not seeing that dynamic play out yet because we're really at the front end of this multiyear.
Kind of spend supporting the infrastructure Buildout. We're just at the very front end last quarter. We cited one win this war, citing several youre going to see US site. These as we go forward with us they'll step up in 'twenty, four and even more so in 'twenty five but I think you raise an interesting question because I do believe these larger projects could significantly.
<unk> tax or more traditional small and mid sized players obviously for our wesco.
No issue whatsoever.
My second question, Thanks for that by the way John My second question.
It has to do with integrated supply.
Really good to see double digit growth and new wins here.
Remind us the importance of this business strategically for Wesco and I say this in light of your major competitors stone at par. Our recently sold their integrated supply business I think call. It nine or 10 times EBITDA and you also still have some high cost debt in the preferreds also that it will get a truck.
At some point so.
Talk to us about how or if integrated supply fits in our portfolio, John or David If you could.
Yeah, I'll comment Sam Thanks for that question.
First I'll make the comment that if you look across the <unk>.
New Wesco as a result of appointing anixter and Wesco.
Together, we have an array of complete supply chain solutions that includes some people would call. Some of those business models quote unquote integrated supply so I just its important.
Not everyone. There's not a clear standard definition, we don't have a webster's dictionary definition, everybody, Greece due on one integrated supply is I just wanted to make that 0.1st because its important when you look at how we serve our utility customers are broadband customers are our global data center customers are.
Industrial global account customers in some cases some of the large <unk>, we have multi year agreements and you could argue that that theyre all different forms of integrated supply with that said.
The Wesco integrated supply captive business unit, that's part of UBS.
Which is the more traditional industrial focused MRO and selective OEM integrated supply business model.
Bob has been part of the business since I joined the company in 2000 and for the origins, where the <unk> business that was acquired in 1998.
The team has done a very good job of expanding the margins on that but.
<unk> Sam It is still it is still below our overall corporate margin. So the way we've looked at that over the years isn't.
It was an interesting business model, we learned a lot, but we've applied different variants of it to other customers in the other businesses in the end users as I mentioned and we've been dining off the Delta is because we've improved the margin profile of that business meaningfully over the years and now it's growing double digits. This year I think it's a reflects.
One of our industrial end market exposure.
Capabilities in that business with that said it is it is below our overall corporate margins and so that's something that we're looking at from a portfolio perspective.
Very helpful. Thank you.
Our next question today will come from Nigel Coe of Wolfe Research. Please go ahead.
Oh, Thanks, good morning, everyone.
Good morning.
Good morning, So on inventory I think we've touched on this topic, but.
There's definitely a little bit of a draw during the quarter, but.
Given the retro got there in terms of the energy headwinds.
Are you talking about.
I'm, just kind of curious what you're seeing across the broader industry.
Our smaller distributors.
And there the.
Inventories more aggressively than you are but I'm wondering if there's an ambition in terms of wesco inventory in light of the current demand environment, how much further to go on that solar inventory reduction.
So I think as Dave mentioned.
We added significantly to our inventories over the pandemic.
Hindsight's always 2010 and.
Turning to an onsite absolutely the right decision and it allows us to maintain our service levels and support our growth and take additional share.
As we look at our inventories today, where we've got a we've got a rigorous set of controls on it Nigel I will tell you and we're being very thoughtful of how we work it.
You saw that it was a source of cash in the quarter, but it wasn't a huge source of cash. So I'll give you. My first response to your question is there's a lot of opportunity in inventory still as we look across 2024 and beyond.
They continue to work it down we're balancing we're balancing our inventory management levels with customer service levels, and we do not want to compromise those customer service levels that is paramount and so we look at it in availability metric and our fill rate metric I've talked about this extensively.
In the past and those are the metrics that drive where we keep our inventory levels with that said and I think as things get as the economy moderates a bit where even in a better position as shown the power of this new wesco portfolio as well as how we manage working capital and so that's that.
That's my answer I think inventory does represent.
A source of cash opportunity monetization opportunity as we as we look through the fourth quarter and into 2024 clearly.
And as Dave mentioned, we will be more clear on our days reduction target for 2024, when we give our overall guide as part of Q1.
Great. Thanks, John and then looking into 2024 my segue.
Data center utility would be the two end markets that people would look to for continued growth.
Maybe just touch on raw he are we still on track between defense growth for this year and then on utility just given that we're sort of starting on growth in the fourth quarter, how do we feel about the environment in 'twenty four.
Right you still on track.
It's been a it's absolutely been a.
A homerun acquisition.
We're thrilled with with Rohit, we're thrilled withheld.
How it integrated the integration has been seamless and as we've mentioned before we took the legacy data center business. It was captive as part of CSS combine it with <unk> now calling at WPZ at Wesco datacenter solutions, and it's approaching kind of a $2 billion annualized run rate just a terrific.
Terrific combination global capabilities.
We feel terrific about the overall data center business.
But clearly raw he level it up our game, we already anixter always already was the global leader.
But rohit level of up our game with a higher services value proposition.
Our services content as well as global capability and an impressive array of end user customers cite I. You know you can tell by my commentary I could not be more thrilled with that acquisition Ive said before don't don't be don't be under I don't underestimate the size and scope and scale of the impact on the overall <unk>.
Enterprise based on the size of Rocky at acquisition.
It punches way above its weight class and this was before it was clear to everyone on what AI will do at Gen. AI in terms of an additional accelerator wave of growth for global datacenter. So you add that on top and our I'm, even more bullish on the outlook for.
Hey, guys SaaS in our W. Dcs business shifting to utility.
Look we are we have a clear leadership position.
Very high end, leading value proposition, we're outperforming the market we performed exceptionally well.
This year on top of last year on top of the prior year utility had record sales and record EBITDA margins in the third quarter, we have a little bit of moderation with utility customers in the fourth quarter I have zero concerns about the end market demand.
Or ultimately what the outlook for utility as customers are.
Deferring their purchases are better managing cash.
And they can do that.
They're going to do that to land the year, but as I look out to next year.
And beyond.
I feel very very good about the secular growth drivers for our utility business, where we're seeing and we will continue to see I think an acceleration of grid modernization trends the U S electric grid.
It's going to require nor upwards of two trillion dollars worth of investments over the next 10 years think of that number that's the sustain current reliability levels.
And then there'll be direct government funding for investments in renewable generation as on top of that.
So and then you think about what's required in terms of modernizing the grid and then updating the whole tower chain of support.
You know evs and all of our forms of renewables I've said before utility historically was a GDP business. It's now secular growth as far as I can see and we remain very bullish.
Joe on utility.
Again look at the track record over the last three years, we expect strong growth in 2024 and beyond.
Okay, that's great color. Thanks Bill.
Yes.
Yeah.
Our next question today will come from David Manthey of Baird. Please go ahead.
Thank you and good morning, everyone.
John you just spoke on.
Data center being I think you called it very very strong and clearly with your CFS outlook at up low single digits in the fourth quarter versus plus four in the third youre really not seeing any.
Signs of softness in that particular segment, we've heard a few pockets of slowing in data center.
I take it from your commentary Youre not seeing anything in your CSS backlog of incoming order rates that gives you pause relative to data centers specifically.
No not at all Dave.
Fair enough.
So second.
<unk> EBITDA. So last year, you were sort of 910%. This year were more than eight 5% range. So I understand the revenues were down moderately but when we look at that 100 basis points call. It <unk>.
Margin down draft can you just talk about some of the key factors there that are deleveraging EBITDA and I assume gross margin a book in EES, specifically from 2022 to 2023.
Yes, Dave Good morning, one of the big drivers on the margin declined in the EES business clearly, we've not seen the same year over year top line growth that we've seen in some of our other businesses, we've seen a decline in gross margin.
That was primarily driven by the lower supplier volume rebates. So we had highlighted supplier volume rebates as a headwind coming into the year that has played out primarily in our EES business, particularly when you take a look at some of the product categories, where we have seen some challenges including wiring cable.
One of the other things I'll highlight is we had been investing into the business against some of the secular growth trends, we've moderated that when you take a look at how we've outlined our sales expectations for 2023, we did take aggressive actions on cost reduction. So again sequentially, we've actually seen a modest improvement in the margins.
For E S and again, we've highlighted that we expect those margins to continue to improve into the fourth quarter.
That's great Dave. Thank you. Thank you both.
Thanks, Dave.
Our next question today will come from Ken Newman of Keybanc. Please go ahead.
Hi, This is Katie Fisher for Ken today.
Good morning, good morning.
Good morning, I'm wondering if you could clarify your updated price guide a little bit.
Is that assuming carryover actions from last year, primarily from mix within EES or is that more of a push out from <unk> into 2020 four.
Yeah.
So when when you think about how we've looked at pricing we posted another three on pricing. So our pricing is a benefit to sales over the last several quarters has declined sequentially, we posted a plus five.
In the first quarter a strong three in the second quarter and then a three here in the third quarter, primarily from the carryover benefit of actions that were taken by our suppliers in the previous year. We have seen the number of supplier price increase notifications has moderated substantially and the rate at which those announcements are coming.
In terms of the percentage increase to their prices is also moderated substantially so as we think about the fourth quarter, we're still expecting there to be a low single digit opportunity on price, but again, we've seen moderation throughout the year.
Okay. That's helpful.
And then I wanted to dig into your comments a little bit on the broadband end markets. So I think you said that you expect that to remain pressured through.
The second half of 'twenty four can you just provide any more color on that.
What you're seeing within that market right now and how you kind of expect that to recover and going into next year.
Yes. It is.
Clear that there's still a little high higher than normal inventory levels that they hadn't customers. So we're seeing that destocking effect.
We're very bullish on broadband over the mid to long term secular.
Secular growth drivers are very clear we think they are intact is $24 seven connectivity, it's automation Iot along with government spending you have.
<unk> program, that's the rural digital opportunity fund you have the bead program, that's the broadband equity access and deployment program there are expected to.
Increasingly fund that growth.
And I'll also tell you where our customers are still aggressively recruiting and training line crews to support the upcoming rural broadband build out and not even just gives us additional confidence confidence that the near term softness is temporary so even with all that said, it's very clear the market's down you can see.
See that in our numbers you can see it in some of our supplier partners numbers you can see that in some other other publicly available numbers by other companies website.
We think we're even despite that challenge we think we're clearly outperforming the market, we have a leading value proposition an outstanding market position.
And that business also benefits from a cross sell so and the cross sell really is across CSS and UBS. So we think we're exceptionally well positioned in this into a set of into that end market that has fundamental secular growth.
And I do think that if this is just this is just temporal.
Okay, and just to clarify I think that Dave said, he expected to see a recovery starting in <unk> 24 is that correct.
Well, we said broadband second half or second half of 2024, while our view of second half of next year. That's our independent view based upon talking to customers looking at our inventory position. The contracts, we've won et cetera, and just customer feedback.
I would say, that's probably relatively consistent with what others are saying.
Sure.
That's the prevailing view it as our independent view as well.
Okay. Thanks for the color.
Yeah.
Okay.
Ladies and gentlemen.
We have one more question and that is from Patrick Baumann of J P. Morgan. Please go ahead.
Okay.
Okay.
Hi, good morning.
Just had.
I had one on.
Really the fourth quarter and kind of what gives you confidence that November and December pick up from where it October came in that is it is it comparable added.
Or something else I remember last quarter, you talked about like.
A counter seasonal improvement you're expecting in the fourth quarter related to like you.
I think megaproject.
And and maybe some end of destock or what have you.
But with October starting slower.
It seems like.
Even though you're expecting fourth quarter to be down normally seasonally you still need kind of November December to pick up a bit from kind of where you started the quarter. So maybe some color on visibility to that would be helpful.
You have certainly Patrick so we do see you know that.
The typical pattern, where we as we mentioned we expect our fourth quarter sales to decline sequentially.
We typically see a step up between October and November historically, and we have assumed that in our outlook for 2023 Q4.
We would expect to see some moderation in the month of December.
It gives us the confidence on on our outlook is the the project backlog and whats expected to be released during the third or fourth quarter. So that's how we've modeled this one through and again our backlog continues to be at historically high levels, it's moderated sequentially, but again, it's really the timing of that backlog.
Release, which is informing our fourth quarter outlook.
Okay, and then maybe if we could my last question would be if you could just kind of.
Dive into.
The commercial construction environment it sounds like.
Well it looked like sales bounce back a little bit in the third quarter, but your commentary around the fourth quarter was.
A little bit more muted so what youre seeing on that front and any color on kind of specific verticals within that would be helpful.
Yeah, Let me start with the third quarter, we actually saw very strong growth from projects in the third quarter.
We continue to see some impacts to our stock and flow business, we called out some of the Destocking.
At the end of the second quarter that continued into the third quarter, but our project business continues to be very strong.
And it's across a number of our verticals within non res construction. So from our perspective you know it is.
<unk> is very heavily reliant upon projects and.
We feel comfortable with how we provided our view of the fourth quarter relative to <unk> in total.
It has been challenging environment within certain end market verticals, including our construction business.
But again, we're confident that we've got the right value proposition going forward and we've got to.
Actually an increase in our backlog year over year in EES.
Okay. Thanks for the time.
Thanks, Patrick.
Okay, I think that clears, our Q today, and so a little bit before the 11 o'clock hour. So let me bring the call to a close and thank.
Thank you all for your support is very much appreciate it we look forward to speaking with many of you over the next two months as we will be participating in.
A number of conferences first the Baird Global Industrial Conference second Stephen's annual investment conference in third Citadel Securities Investor Conference. So we will.
<unk> in all three of those in the fourth quarter and Additionally, we have our date for our fourth quarter earnings release.
Locked down and it will be February 13th 2024, so with that I know.
Many follow up calls.
Scheduled thanks again for your support and have a good day.
All participants concluded. Thank you for attending today's presentation. You may now disconnect your lines.