Q2 2025 Ferguson Enterprises Inc Earnings Call
Good morning, Ladies and gentlemen, my name is lithia and there'll be a conference operator.
Today at.
Speaker Change: At this time I would like to welcome you to Buckskin second quarter Conference call.
Speaker Change: Lines have been placed on mute to prevent any interference with the presentation at the end of the prepared remarks, there will be a question and answer session.
Speaker Change: To ask a question at that time. Please press Star then the number one on your telephone keypad.
Speaker Change: To ensure your question. Please press Star then the number today.
Brian Lantz: Thank you I'd now like to turn the call over to Mr. Brian Lantz.
Speaker Change: Vice President of Investor Relations. Thank you ma'am your indication you.
Brian Lantz: You may begin your conference call.
Brian Lantz: Good morning, everyone and welcome to <unk> second quarter earnings Conference call and webcast hopefully you've had a chance to review the earnings announcement, we issued this morning.
Brian Lantz: The announcement is available in the investors section of our corporate website and on our SEC filings webpage recording this call will be made available later today.
Brian Lantz: I want to remind everyone that some of our statements today may be forward looking and are subject to certain risks and uncertainties that could cause actual results to differ materially from those projects.
Brian Lantz: Including the various risks and uncertainties discussed in our Form 10-K available on the Sec's website.
Brian Lantz: Also any forward looking statements represent the companys expectations only as of today and we disclaim any obligation to update these statements.
Brian Lantz: In addition on today's call. We will also discuss certain non-GAAP financial measures.
Brian Lantz: Please refer to our earnings presentation and announcement on our website for additional information regarding those non-GAAP measures, including reconciliations to their most directly comparable GAAP financial measures.
Brian Lantz: With me on the call today are Kevin Murphy, our CEO and Bill Brown, our CFO I will now turn the call over to Kevin.
Kevin Murphy: Thank you Brian.
Kevin Murphy: Welcome everyone to <unk> second quarter results conference call.
Kevin Murphy: On the call today I will cover highlights of our second quarter performance I will also provide a more detailed view of our performance by end market customer groups and growth initiatives before turning the call over to bill for the financials.
Kevin Murphy: I'll then come back at the end and give some closing comments before bill and I take your questions.
Kevin Murphy: During the second quarter, our associates executed well for our customers delivering continued volume growth driven by market outperformance.
Kevin Murphy: Sequential step up in our volume growth rate generated sales of $6 9 billion.
Kevin Murphy: An increase of 3% over prior year. Despite continued commodity led deflation of approximately 2%.
Kevin Murphy: We delivered adjusted operating profit of $449 million as we manage through the sixth consecutive quarter of overall deflation in what was a subdued market.
Kevin Murphy: We continue to execute our capital priorities deploying approximately $500 million in capital during the quarter.
Kevin Murphy: And the $1 billion increase to our share repurchase authorization reflects our confidence in our business.
Kevin Murphy: We remain confident in both our residential and nonresidential end markets over the medium term and we continue to balance investment in our customer facing associates, our capabilities and our value added solutions.
Kevin Murphy: That said, we are taking near term actions to increase speed and efficiency to better serve our customers and to better position the organization for future profitable growth.
Kevin Murphy: Turning to our performance by end market in the United States.
Kevin Murphy: Net sales grew by 3% despite continued deflation driven by commodity products across both residential and nonresidential end markets.
Kevin Murphy: The residential end market, which comprises approximately half of U S revenue remain subdued across both new construction and repair and maintenance and improvement.
Kevin Murphy: Our teams grew revenues in our residential end market by approximately 2% in the quarter.
Kevin Murphy: The nonresidential market was slightly more resilient with continued activity on large capital projects, where we saw healthy levels of shipments bidding activity and open order volumes.
Kevin Murphy: We continue to take share with our total non residential revenue growth of approximately 4%.
Kevin Murphy: Sales grew modestly in both commercial and industrial with particular strength in civil infrastructure.
Kevin Murphy: Our intentional balanced market exposure, new versus repair maintenance and improvement in residential versus nonresidential continues to position us well both in the current environment.
Kevin Murphy: And well into the future.
Kevin Murphy: Moving now to revenue performance across our customer groups in the United States.
Kevin Murphy: We are pleased with the continued sales growth in our HVAC customer group, an increase of 17% in the quarter building on growth from prior year.
Kevin Murphy: As we continue to strategically invest in distinct growth initiatives, which I'll cover in a bit more detail later.
Kevin Murphy: Residential trade plumbing revenues were flat broadly consistent with recent quarters.
Kevin Murphy: Does this face continued headwinds in new construction and ongoing price deflation, while repair maintenance and improvement is performing slightly better.
Kevin Murphy: We saw similar trends in residential building in remodel and residential digital commerce with a higher end project is holding up better than the broader remodel market.
Kevin Murphy: We will discuss later how these groups are coming together to create a unique experience in the market.
Kevin Murphy: Waterworks revenues were up 10% with robust activity in public works general municipal and meters and metering technology offsetting weaknesses in residential.
Kevin Murphy: Additionally, our diversification efforts continue to drive incremental growth positioning us well for the long term.
Kevin Murphy: Commercial mechanical customer group grew 2% driven by large capital projects, such as data centers, partially offset by weaker activity in traditional non res projects.
Kevin Murphy: We are optimistic as we ended the third quarter as our open order book continues to grow.
Kevin Murphy: Our industrial fire in fabrication and facility supply customer groups delivered a combined net sales decline of 6% heavily impacted by commodity deflation in steel pipe, particularly in our fire and fabrication business.
Kevin Murphy: We remain committed to driving productivity for our specialized professional customers and maximizing value to the total project across each of our customer groups.
Despite near term market headwinds, we're very pleased with the results of our investments in key growth areas.
Kevin Murphy: Within HVAC, our markets are large fragmented and highly attractive.
Kevin Murphy: We're taking a three pronged approach to growth with a combination of dual trade counter product conversions.
Kevin Murphy: Geographic expansion of our HVAC network and strategic acquisitions.
Kevin Murphy: When we determine needs of the rapidly growing dual trade professional by completing over 500 counter conversions that now better serve both plumbing and HVAC professionals.
Kevin Murphy: We're ahead of our pace to complete our goal of over 650 dual trade counters in fiscal 2026.
Kevin Murphy: We deploy a multi equipment brand strategy partnering with a number of branded suppliers to ensure our customers have access to the product choices that they require.
Kevin Murphy: Additionally, our private label HV AC line Dora Star has shown solid growth and is building momentum is a high quality equipment line that is accessible across the United States for our customers.
Kevin Murphy: Our waterworks business is both our largest most diversified customer group.
Kevin Murphy: Were involved from the design stage through project management.
Kevin Murphy: Our diverse business provides solutions for water wastewater and storm water management as well as erosion control urban green infrastructure treatment plant construction and metering technology.
Kevin Murphy: We've expanded our capabilities to offer more holistic solutions for our customers.
Kevin Murphy: Day in and day out we're solving problems to support the nation's aging infrastructure.
Kevin Murphy: With the use of artificial intelligence, we advise our customers in areas, such as preventative maintenance and leak detection.
Kevin Murphy: Our knowledgeable waterworks associates leverage the scale of our business and our supply chain to provide outstanding service and deliver comprehensive solutions for our customers.
Kevin Murphy: Waterworks is also a unique and critical piece of our focus on large capital projects in area, where tailwind to emerge in an otherwise muted nonresidential end market.
Kevin Murphy: Our multi customer group approach on large capital projects drives collaboration and expertise across our waterworks commercial mechanical industrial and fire and fabrication customer groups to solve complex project requirements.
Kevin Murphy: The sophistication and size of these projects, particularly data centers demand extensive expertise for <unk>.
Kevin Murphy: <unk> and the ability to scale.
Kevin Murphy: By engaging early in the project lifecycle.
Kevin Murphy: We partner with owners architects engineers, and general contractors, we influence and address project challenges effectively leading to successful outcomes.
Kevin Murphy: Finally, the recent launch of Ferguson home represents another area of growth as a unified brand that fully integrates our showroom and digital channels offering customers a seamless project based experience.
Kevin Murphy: This best in class Omnichannel approach is the next step for the evolution of our digital footprint, while leveraging the expert consultative approach within our showrooms.
Kevin Murphy: For our customers. This results in a more consistent and connected experience that simplifies and enhances residential projects, bringing additional value to our residential building in remodel and residential digital commerce customer groups.
Kevin Murphy: We're pleased with the progress of these key growth areas and we will continue to invest in them to drive long term growth and returns.
Kevin Murphy: I'll now pass you over to Bill who will discuss the financial results in more detail.
Bill Brown: Thank you, Kevin and good morning, everyone.
Bill Brown: Net sales of $6 9 billion were 3% ahead of last year.
Bill Brown: Organic revenue increased two 1% with an additional one 2% increase from acquisitions.
Bill Brown: Total volume increased by 5% offset by continued commodity led price deflation of approximately 2%.
Bill Brown: This represents our fourth consecutive quarter of volume growth.
Bill Brown: Gross margin was 29, 7% a decrease of 70 basis points over last year impacted by weak end market demand and persistent deflation along with the sales mix impact of outsized growth in HVAC in waterworks.
Bill Brown: Operating costs grew largely in line with our 5% sales volume growth.
Bill Brown: The 60 basis point decline in operating leverage was largely driven by the impact of price deflation on sales along with the impact from continued selective investments in core capabilities for future growth.
Bill Brown: As a result, adjusted operating profit of $449 million was down $71 million on the prior year delivering a six 5% adjusted operating margin.
Bill Brown: Adjusted diluted earnings per share of $1 52.
Bill Brown: Was 12, 6% lower than last year, driven by lower adjusted operating profit, partially offset by the impact of share repurchases.
Bill Brown: And our balance sheet remains strong at one two times net debt to adjusted EBITDA.
Bill Brown: Moving to our segment results net sales in the U S grew 3% with an organic increase of 2% and a 1% contribution from acquisitions.
Bill Brown: Adjusted operating profit of $455 million decreased $70 million over the prior year delivering an adjusted operating margin of six 9%.
Bill Brown: In Canada net sales were three 2% ahead of last year with organic growth of three 1% and a five 4% contribution from acquisitions, partially offset by a five 3% adverse impact from foreign exchange rates.
Bill Brown: Markets have been broadly similar to that of the United States with nonresidential activity remaining more resilient than residential.
Bill Brown: Adjusted operating profit was $11 million in the quarter $2 million above the prior year.
Bill Brown: Turning to our first half results.
Bill Brown: <unk> has been challenged by persistent commodity led deflation and subdued end markets.
Bill Brown: Despite this we have consistently outperformed our markets.
Bill Brown: Net sales were one 8% ahead of last year with organic sales up <unk>, 8% and an acquisition contribution of one 2% offset by <unk>, 2% from the adverse impact of foreign exchange rates.
Bill Brown: Gross margin was 29, 9% down 40 basis points.
Bill Brown: Adjusted operating profit of $1 2 billion was down 10, 7% compared to the prior year.
Bill Brown: <unk>, a seven 9% adjusted operating margin.
Bill Brown: And adjusted diluted earnings per share of $3 98.
Bill Brown: Was down nine 5%.
Bill Brown: Next our cash flow performance adjust.
Bill Brown: Adjusted EBITDA of $1 6 billion.
Bill Brown: Was down approximately $130 million on the prior year.
Bill Brown: Capital investments of $200 million.
Bill Brown: We're above the prior year by $87 million driven by investments in <unk> to support our growth initiatives as well as the transition to new equipment efficiency standards.
Bill Brown: Along with an increase in receivables driven by sales growth.
Bill Brown: Interest and tax were down approximately $40 million in the prior year.
Bill Brown: As a result operating cash flow was $685 million.
Bill Brown: We've continued to invest in organic growth through capex investing $158 million.
Bill Brown: Slightly down on the prior year as projects are taking longer to complete.
Bill Brown: Resulting in free cash flow of $545 million in the first half.
Bill Brown: Turning to capital allocation as previously mentioned, we invested $158 million into Capex during the first half to drive further above market organic growth.
Bill Brown: Our board declared an <unk> 83 per share quarterly dividend. This is consistent with the first quarter and represents a 5% increase over the prior year, reflecting our confidence in the business and cash generation.
Bill Brown: We continue to consolidate our fragmented markets through bolt on geographic and capability acquisitions.
Bill Brown: We announced one completed acquisition during the second quarter Templeton and its affiliate Temps go.
Bill Brown: In addition, subsequent to quarter end, we signed a definitive purchase agreement to acquire independent pipe and supply our leading commercial mechanical business in the northeast.
Bill Brown: And finally, we are committed to returning surplus capital to shareholders. When we are below the low end of our target leverage range of one to two times net debt to adjusted EBITDA.
Bill Brown: We returned $508 million to shareholders via share repurchases during the first half compared to $250 million in the first half of the prior year reducing.
Reducing our share count by approximately $2 6 million.
Bill Brown: Today, we've announced an increase to our share repurchase program by an additional $1 billion, reflecting our confidence in the business.
Bill Brown: As a result, we have approximately $1 4 billion outstanding under the share repurchase program.
Bill Brown: Next I'll cover our revised outlook for fiscal 2025.
Bill Brown: We are pleased with our continued market outperformance, but challenging end markets and persistent commodity led deflation have resulted in adjusted operating margins coming in below our expectations in the first half.
Bill Brown: While we continue to expect improvement in the second half we believe our markets will remain somewhat subdued and are therefore updating our full year outlook.
Bill Brown: Our fiscal 2025 guidance is as follows.
Bill Brown: We maintain our view of total sales growth in the low single digit range.
Bill Brown: With the continued assumption of markets being down low single digits inclusive of pricing being slightly down for the year driven by ongoing deflation in commodity based products.
Bill Brown: We expect continued market outperformance and just under a 1% contribution from already completed acquisitions.
Bill Brown: This was partially offset by one fewer sales day in the third quarter.
Bill Brown: We expect an adjusted operating margin range between eight three to eight 8%.
Bill Brown: Interest expense will be between $180 million to $200 million.
Bill Brown: Our adjusted effective tax rate will be approximately 26%.
Bill Brown: And we've revised our capex estimate to be between $325 million to $375 million to.
Bill Brown: The extended project delivery timeline and pace of expected capital deployment.
Kevin Murphy: Also as Kevin mentioned earlier, we are currently taking actions to increase speed and efficiency to better serve our customers and deliver value.
Kevin Murphy: While we have been disciplined in managing costs in relation to volume growth there is additional opportunity to reduce complexity.
<unk> management structures and drive greater speed and accountability within the organization.
Kevin Murphy: These actions, we are taking will better position the organization for profitable growth.
Bill Brown: Thank you Bill.
Speaker Change: As we conclude our remarks, let me reiterate our thanks to our associates, who is continued execution has driven further share gains despite a backdrop of market headwinds and commodity led price deflation.
Speaker Change: With leading positions in large highly fragmented markets, we expect to continue to outperform our markets as we leverage our size scale and strategy.
Speaker Change: We're operating in a unique time, where we must continue to drive disciplined cost management, we're taking actions to better position the organization for future profitable growth.
Speaker Change: We differentiate ourselves on service levels, focusing on value added solutions.
Speaker Change: Suite of digital tools backed by the strength of our knowledgeable associates and a supply chain that delivers the best breadth and depth to our customers where and when they need it.
Speaker Change: And residential markets, we continue to see strong long term fundamentals with an aging and under build housing stock. In addition to our structural growth opportunity in HVAC.
Speaker Change: On the nonresidential side, our diverse exposure, coupled with multiyear tailwind from large capital projects.
Speaker Change: Are expected to drive continued growth.
Speaker Change: Well positioned for this growth as we engage in a more holistic involvement earlier in the design phase to leverage our scale, our value added solutions and our digital capabilities.
Speaker Change: We believe our markets remain attractive over the medium term and we continue to balance investment in our core customer facing associates and our capabilities focusing on the principles that underpin our strategy for sustained growth and market leadership.
Speaker Change: Thank you for your time today, Bill and I are now happy to take your questions operator, I'll hand, the call back over to you.
Speaker Change: Thank you.
Pat: For Q&A, if you'd like to ask a question. Please press star one on your tenant thank you Pat.
Speaker Change: You changed your mind, Please press star followed by <unk>.
Speaker Change: Turning to ask your question. Thank you for all your devices Amit.
Speaker Change: Our first question comes from Matthew Bouley with Barclays.
Speaker Change: Please go ahead your line is open.
Speaker Change: Good morning, everyone. Thank you for taking the questions.
Speaker Change: I wanted to ask first around the growth investments.
Speaker Change: In Opex and <unk>.
Speaker Change: A lot of these areas <unk> been speaking about for a while kind of a large capital projects in the HVAC counter conversions and now it sounds like you've got a few more growth initiatives beyond that as well.
Speaker Change: As you guys sort of invest for growth despite a bit of a choppy end market backdrop here. So basically where are we in the cycle of these growth investments I am curious if you can maybe quantify any of that kind of year over year opex in the second half and.
Speaker Change: And then maybe balance that with with some of the areas that we're looking to reduce costs that I heard you mentioned as well. Thank you.
Kevin Murphy: Yes, Matt This is Kevin I'll start and then pass over to Bill.
Bill Brown: When you look at the investments that we're making you're right to call out both HVAC and large capital projects that would probably spread that into waterworks is relative as well as the rest of our traditional business. If you take HVAC and we've talked about this in the past we want to make sure that we're building out counter locations across the entirety of the United States.
Bill Brown: That can take care of not only specialized HVAC contractors with a great product offering and experience set.
Bill Brown: But also the dual trade contractor that does hold HVAC and plumbing.
Bill Brown: And so we're well on our way to that conversion and so the investments in both people.
Bill Brown: Product and expansion have been across 500 counters and we're probably on track to north of 650, as we look towards the next fiscal year.
Bill Brown: We've also been growing organically because as you know we want to make sure that we have great HVAC capabilities.
Bill Brown: Cross all markets in the nation and so we've actually expanded to over 20, new markets from an HVAC perspective, again, complementing that traditional plumbing business and complementing the dual trade contractors, it's growing in the market. So that's been a good source of that investment and then the third prong, obviously being from an M&A perspective on the <unk>.
Bill Brown: Large capital project side, it really has been taking the complexity and the scale of these projects.
Bill Brown: Sure that we're there to add productivity to the contractor base.
Bill Brown: Areas like fabrication valve and automation, what we are doing with digital product content for Bim models were.
Bill Brown: We're also engaged in more up funnel work together with the general contractor the owners the engineer to make sure that across multiple customer groups, we're bringing value to the job as a whole and then when you look at the waterworks side and both from an M&A perspective, as well as what we're doing organically.
Bill Brown: <unk> more capabilities to water and wastewater treatment plant and infrastructure.
Bill Brown: So that we can be more valuable to the project as a whole more product set more execution more up funnel engagement I think youre seeing that play out we're pleased with that from a growth perspective, not only in the core waterworks business, but across the civil infrastructure space.
Bill Brown: Really it was across multiple customer groups.
Bill Brown: And balancing that with driving the volumetric exposure that we have inside the business and we're pleased with what that has been.
Bill Brown: But additionally, when you look at our business across time.
Bill Brown: Areas that we can address from spans and layers perspective make sure that one more streamlined where more accountable.
Bill Brown: Driving focus for our customers, yes, Matt maybe just a.
Speaker Change: Build on to that a bit from a quantification standpoint, as we mentioned in the prepared remarks. If you look at the cost growth that we had in the second quarter cost growth was about five 5%. The vast majority of that was driven by that 5% volume growth and the teams to Kevin's point are doing a really nice job managing that volume.
Speaker Change: In fact, if you look at our full time equivalent head count, it's about flat year over year versus that volumetric growth of 5%. So we're driving good underlying productivity in the core business.
Speaker Change: Do you think about that 60 basis point deleverage and you think about a 2% top line impact from deflation.
Speaker Change: It's about $130 million of sales from a pricing perspective.
Speaker Change: Is the 2% equivalent that's.
Speaker Change: That's driving roughly 40 of that 60 basis points of deleverage in the quarter. So the remainder is the fact that we are driving underlying productivity offset by some cost inflation and those those investments so.
Speaker Change: And with a really an underlying 20 basis point step up in Opex deleverage.
Speaker Change: Our opex cost as a percentage of sales in the quarter. We're quite pleased with how that was managed in a tough environment.
Speaker Change: When you look forward to Kevin's point, we are taking some actions and we're right in the midst of those actions really focused on non customer facing roles layers and structure.
Speaker Change: That work is well underway, we plan to execute most of that work in the third quarter and into the fourth quarter.
Speaker Change: And while I won't give an exact number our intention is to slow the rate of cost growth as we move through the second half.
Speaker Change: Still against that backdrop of a challenging market.
Speaker Change: Excellent perfect. Thank you for that comprehensive answer.
Speaker Change: Secondly, I wanted to ask about the two customer groups.
Speaker Change: <unk> back up 17% in waterworks up 10.
Speaker Change: And I'm sure the growth investments, you've been making as part of the answer to this question, but I guess, firstly any way to quantify how much M&A is in those kind of roughly versus organic and then we'd just love to hear further elaboration on what drove the acceleration in both of those customer groups, maybe from a market perspective beyond.
Speaker Change: Your growth investments and kind of if you're expecting those to remain above the company average.
Speaker Change: In terms of your second half guide thank you.
Speaker Change: Yes, Matt.
Speaker Change: Vast majority of the growth in both of those customer groups is organic.
Speaker Change: Probably pencil in a couple of points of acquisition growth, So again was 17% and 10% respectively.
Speaker Change: Growth from those customer groups. The vast majority is organic.
Speaker Change: I'll take it in reverse Matt and tough water and then HVAC from our Waterworks perspective as the group has heard me talk over and over again couldnt be more pleased with the balanced business mix that our waterworks business operation and drives and so if you look across residential commercial and municipal public work.
Speaker Change: That balance is serving us quite well and we called out civil infrastructure as being a big part of the growth in this past quarter. If you look at our meter in automation group, our Geo synthetics are municipal sales, our water and wastewater treatment, that's all up double digits on a pretty sizable number.
Speaker Change: The investments that we're making to be great in that area are serving us well in the current period and then I'll go back to on the HVAC side. It really is execution of the strategy.
Speaker Change: On a geographic organic expansion and then couch or expansion for the dual trade professional.
Speaker Change: So, yes, maybe theres, a little bit of pull forward of product.
Speaker Change: Residential new construction as you see the equipment conversion or there may be a bit.
Speaker Change: Small bit of inventory build.
Speaker Change: That's not the real drivers of what Youre seeing out in the marketplace. It really is execution of what that multiyear strategies.
Speaker Change: Excellent. Thanks, guys. Good luck.
Matt: Thank you Matt.
Matt: Our next question comes from Dennis.
Matt: Jeffrey Please go ahead.
Matt: Hey, guys.
Speaker Change: I had a question on gross margins certainly a little softer in the quarter and you've lowered your full year guide for EBIT margins. So I guess, perhaps where is some of the downward surprise youre seeing is that more.
Speaker Change: Less price more pricing headwinds on the commodity side and or limited pricing on your finished goods just looking out to the back half of this year I just wanted to get any update on how price increases are shaped shaping up whether it's finished good or commodity side and especially in the backdrop, where tariffs are being implemented how does that kind of.
Speaker Change: Impact your ability to push pricing good or bad.
Speaker Change: Yes, Phil Thanks for the question. If you look at that 70 basis point decline from prior year second quarter. It really is a confluence of a few factors. Firstly, we are still operating in a overall market that's down year on year with compressed volumes, we have persistent deflation and.
Speaker Change: And I would point to that driving the majority of the decline year over year. If you think about the fact that we're now in our sixth quarter of deflation and Thats lasted a bit longer than we expected at the beginning of the fiscal year.
Speaker Change: And is lasting a bit longer as we turn to the second half.
Speaker Change: So deflation is a big component of that really all on the commodity side not on the branded product side, and then last but certainly not least we just got done talking about.
Speaker Change: Bit more explanation on the expanded growth in HVAC and waterworks and so there is some mix pressure there from a gross margin perspective.
Speaker Change: That's driving that the remainder of that that gross margin pressure year on year.
Speaker Change: Any color on the on the pricing side in the back half and then certainly there is tariffs right.
Speaker Change: On metal and stuff like that is that a good guy.
Speaker Change: Your commodity side and then any price increase on the finished good side that youre seeing out there.
Phil: Yes, Phil as Bill indicated.
Phil: Assistant deflation really is driven by commodity input based deflation and so you think about PVC resin or hot rolled coil on the steel side.
Phil: It's really driving what that deflation looks like and Thats. The biggest cause of what we're seeing from an overall margin perspective, if you look at how the market is affecting we compete in the market every day and we're very pleased with the market outperformance from a revenue perspective, and our teams are constantly and consistently working to make sure that we.
Phil: Balance share gains long term customer relationships price and margin and what we're doing with our vendor community around getting the right cost of goods sold position for the value that we add in the marketplace and that happens in every market every day across every customer Groupon every project and so we're pleased with the way that's progressing and were making.
Phil: Sure that we manage that over time when you look at the tariff impact that certainly will have some degree of a stabilizing effect on what that deflation looks like.
Phil: The steel market and what we're seeing in price increases that have already been announced and as steel pipe side of the business. So we think that that can be a stabilizing effect, but there's a great deal of uncertainty and it's a pretty dynamic process as we look forward.
Speaker Change: Okay. That's helpful and then depending on the demand trends any color on fiscal <unk> intra quarter trends certainly feels like the consumer has weakened a bit in February.
Speaker Change: All the commentary around your commercial, especially your mega projects infrastructure side of things it sounds pretty encouraging.
Speaker Change: Admittedly there has been choppiness from what we're hearing on tariffs and new policies with Doe.
Speaker Change: On that front are you seeing any choppiness on the heavy commercial side as well.
Speaker Change: Yes first of all Phil from a February perspective February topline was largely in line with the second quarter. So you can think of that as somewhere around that 3% overall growth rate so pretty consistent as we stepped out of Q2 into Q3.
Speaker Change: With that said February.
Speaker Change: 20 day billing month.
Speaker Change: Thats always got some some weather impact so I wouldn't read too much from a trend perspective. If you look at if you take a step back and you think about the guidance we set out for the full year. We've said, we expect to deliver low single digit growth for the full year, we're sitting at just under 2% growth in the first half.
Speaker Change: I would tell you that we still think the market overall will be down in the low single digit range like we set out at the beginning of the year, but probably a bit more pressure towards the lower end of that low single digits.
Speaker Change: Then we thought at the beginning of the year just to your point as the market has just been a bit more muted and as we just talked about deflation is lasting a bit longer.
Speaker Change: So that really sets us up for an expectation that the second half will still be in somewhere from a growth perspective in that low single digit range.
Speaker Change: Pretty consistent with the first half.
Speaker Change: Super really appreciate the color guys.
Ron: Thanks, Ron.
Ron: Our next question comes from Quinn Fredrickson Macbeth.
Speaker Change: Your line is open.
Quinn Fredrickson: Yeah, Hey, thanks, good morning, guys.
Quinn Fredrickson: Can you give us any details on what individual commodities are doing in terms of large diameter versus small diameter, PVC copper tubing steel pipe et cetera.
Quinn Fredrickson: How those are trending here quarter to date.
Speaker Change: Yes, sure. If you think about if we start with copper tube and we mentioned this in the last quarter call copper had been.
Quinn Fredrickson: A bit of the inflation.
Quinn Fredrickson: The first quarter and that continued into the second quarter and we would expect that to continue that was really exiting the first quarter that was really the only commodity category that was in inflationary territory as.
Quinn Fredrickson: As we just talked about steel has been one of the biggest pressure points that we've had and that's impacted the commercial mechanical business and fire and fabrication business in particular, that's still in deflation today.
Kevin just alluded to we've seen some announcements of price increases largely on the backs of tariff announcements. So we would expect that deflation to lessen as we move through the second half.
Quinn Fredrickson: But.
Quinn Fredrickson: It remains to be seen what happens with those tariffs we could we could have a change in that while we're on this call quite frankly.
Quinn Fredrickson: And then PVC as you outlined is still probably the biggest commodity deflation category for us.
Quinn Fredrickson: A bit more deflation is still on the plumbing side than on the waterworks side, but both are still facing some pressure and we expect that pressure to continue in the second half.
Quinn Fredrickson: Which is driving some of that expectation of deflation lasting a touch longer.
Speaker Change: Okay. Thank you for that and then secondarily just back half operating margin sequential improvement that's embedded in the guide.
Speaker Change: Would that be consistent with just normal seasonal upticks or maybe some of the lapping.
Speaker Change: Modest deflation in some of the cost actions.
Speaker Change: Mentioned support better than seasonally normal.
Speaker Change: Yes, I'd say the majority is seasonal but if you look at the first half operating margin that we delivered.
Speaker Change: Seven 9% and the full year guide of eight 3% to 88 implies a second half that's going to be somewhere in the mid 8% to mid 9% operating margin range.
Speaker Change: Seasonally we generally take a step up to your point in the second half.
Kevin Murphy: But also we're actioning everyday as Kevin mentioned earlier to ensure that we're charging for our value from a gross margin perspective.
Kevin Murphy: And while gross margins were pressured in the second quarter that pressure was particularly early in the second quarter in November and December we've been encouraged by the movement in the progress that we've made in January and exiting February.
Kevin Murphy: And then to your point on the cost side while.
While the cost growth has been about 5% for the first half.
Kevin Murphy: And we expect that cost growth to continue particularly in the third quarter as we do take some of these actions again, our intention is to slow that rate of cost growth in relation to sales.
Kevin Murphy: As we exit the year.
Kevin Murphy: Of course, some of that will be driven by the volume environment that we find ourselves in in the second half.
Speaker Change: Our next question comes from Jon <unk> with UBS.
Speaker Change: Please go ahead.
Speaker Change: Good morning, guys. Thank you for taking my questions as well the.
Speaker Change: The first one are you seeing any dose.
Speaker Change: Are you guys seeing any dose impacts.
Speaker Change: Many of the water infrastructure construction or institutional markets and do any of the metering deployments of the big projects depend on federal funding.
Speaker Change: Yes, John Thanks for the question no we're not seeing any near term impact from a dose perspective, there is some conversation around what the federal funding structure might look like.
Speaker Change: When you look at the civil infrastructure growth that we experienced the waterworks growth in general it's not coming from a flood of federal dollars. It is coming from the focus that we've got on helping our aging infrastructure around public line work water and wastewater treatment plant construction meters and metering technology.
Speaker Change: And general infrastructure repair maintenance and improvement.
Speaker Change: It's difficult right now to understand what the federal funding picture is going to look like but we're bullish on what the needs of that overall infrastructure investment has to be.
Speaker Change: Especially in light of what we're seeing around the country.
Speaker Change: So we will invest in that both organically and inorganically to make sure that we are part of that solution.
Speaker Change: Understood and then.
Speaker Change: Is there any way to to help us kind of think about or quantify the mix impact the gross margin from the higher HVAC and waterworks sales I guess.
Speaker Change: In addition to that are you seeing any customers trade down.
Speaker Change: Yes, John broadly I'd say, yes, two thirds of the impact on gross margins was from the market and deflation.
Speaker Change: With the remaining close to one third being driven by mix.
Speaker Change: Again, that's going to vary quarter on quarter out depending on the mix of that business and from a trade down perspective I wouldn't attribute.
Speaker Change: Much of that is a trade down we talked about HVAC just like we saw in <unk>, we're seeing a bit.
Speaker Change: On the repair versus replace.
Speaker Change: That probably will continue, especially as we go through the refrigerant changes.
Speaker Change: In call it the.
Speaker Change: Back half of our Q3 in the front half of our Q4.
Speaker Change: That's to be expected, but we are seeing.
Speaker Change: Very large amount of trade down because of consumer balance sheet.
Speaker Change: Thank you guys.
Sean: Thanks, Sean.
Speaker Change: The next question comes from Sam Reed with Wells Fargo.
Speaker Change: Go ahead.
Sean: Yeah.
Speaker Change: Awesome. Thanks, so much I wanted to drill down a bit on waterworks, youre, obviously executing quite well in this category, but you also alluded to some weakness on the revenue side.
Sean: Understand.
Sean: It's a little bit more pronounced sequentially are you starting to see the large builders pull back on.
Sean: Community Count growth in response, perhaps the lower demand just wanted to unpack that comment in greater detail.
Sean: Yes.
Sean: Really is around just what the growth in the market looks like we haven't seen a pronounced turned down we havent seen any real change in builder activity. In fact, if we're looking forward the bidding activity that we're seeing on the residential side of our waterworks business has been encouraging now that's just bidding.
Sean: And so we need to make sure that that <unk>.
Sean: Lays out in actual projects being released and that when those projects are released that all phases and sections are going to be released.
Sean: It's a bit too early to tell but it isn't a pronounced movement download it really is a bit of a mix shift and what our waterworks business has experienced from a growth perspective, and public works versus residential and again I'll go back to we're really pleased with the balanced business mix that exists in that water business, because it's not dependent on <unk>.
Sean: One particular sector inside the market.
Speaker Change: Okay that helps and then maybe switching gears here I wanted to dig a little deeper on finished goods pricing, perhaps following up a bit from Phil's question when I talked through realization on list price increases versus what youre actually seeing in the market are there any categories, where youre getting something.
Close to the list price increase any categories, where youre, notably marketing, we're not seeing pricing flow through in line with those list price increases. Thanks, so much.
Speaker Change: Yes, Thank you and when you think about the finished goods side, we're still fairly early in the year in terms of what those annual price increases look like and we're still a little bit early.
Speaker Change: Tariff realization because you've got multiple things playing out at the same time in a pretty dynamic environment and so if I were to take a step back and look at us not only from.
Speaker Change: Annual price increase perspective, but also in the tariff environment, we've got the broadest supplier base in the industry. It gives us the ability to navigate solutions for our customer that match price and value.
Speaker Change: We've got people and systems in place that we can react pretty quickly to what is a dynamic environment right now.
Speaker Change: We always take the opportunity to proactively communicate with our customers and our customers' customer to make sure that we're understanding what that price move.
Speaker Change: Hard work as we go through especially when you think about tariff and annual price increase because you've got to address it.
Speaker Change: Projects that are already in flight line by line project by project and generally speaking.
We will pass through that price theyre going to be some pressure points, but generally speaking that's what we do and so it's a bit early to tell how that is going to stick.
Speaker Change: And it's a bit early to tell what tariff is going to play with annual but we're encouraged by that being a stabilizing effect because we think about what deflation has meant to the first half of our fiscal year.
Speaker Change: That's super helpful. Thanks, So much I'll pass it on.
Sam: Thanks Sam.
Mike Dahl: The next question comes from Mike Dahl with RBC.
Speaker Change: Please go ahead.
Mike Dahl: Good morning, Thanks for taking my questions.
Speaker Change: Kevin I wanted to go back to gross margins again.
Speaker Change: Interesting comment in terms of the sequential dynamics kind of being worse in November December and then a little bit better coming through Jan Ben.
Speaker Change: Your comments kind of married your prior ones, which talked about balancing share.
Speaker Change: And getting paid for your product can you just talked about did you reach a point where you thought.
Speaker Change: That balance had gotten out of whack in November December I mean, you certainly gained share from a topline standpoint, but did you do.
Speaker Change: Feel like you were giving up too much to do that in.
Speaker Change: And now you're rebalancing a little bit as you kind of think about that trade off in the back half of the year or how would you characterize the competitive dynamics right now.
Bill Brown: Yes, Youre right, we did experienced in November and December a bit more challenged and we're encouraged by what January and February looked like as Bill said it really was a mix of three different areas you got sales mix with HVAC and water via got persistent deflation thats playing out.
Bill Brown: And then you've got some challenging markets and the group is out there, especially when we think about the commodity side of the world and the input.
Bill Brown: Modesty deflating.
Bill Brown: And making sure that were right for our vendor partners.
Bill Brown: Making sure that were right for our customers that we have long term relationships with and making sure that we're marrying that value with price and margin.
Bill Brown: And we're working that every day and we're working at every customer and across customer groups and so we need to make sure that we're addressing that in real time I feel good about where we went through January and where we are in February.
Bill Brown: And quite frankly, the quarter, particularly in November and December was a pretty unique time in the market with all of those things coming together and so I feel good about where we're going and as we look forward.
Bill Brown: We intend to this business to be at 30 plus percent gross margin business based on the value that we provide assuming business mix stays reasonably similar because we're going to continue to add value added services that we charge for and make sure that we're adding productivity to our contractor customers.
Bill Brown: Yes, I think generally speaking as we're moving into the third quarter, we feel good about where we're headed.
Speaker Change: That's helpful. Thanks, and then secondly, I know a lot of questions have already been asked about the pricing.
Bill Brown: Thanks.
Bill Brown: I guess to be more specific in your prior guide I think you've contemplated that second half will get back to flat to slightly positive now you are seeing deflation.
Bill Brown: When there is a little bit longer but you do have some of these kind of tariff based increases out there.
Bill Brown: Just help us dial in what the what the pricing cadence should look like in the second half of the year is still down each.
Bill Brown: Each of <unk> and <unk> to order of magnitude.
Bill Brown: Anything you can give us quantify it would be great.
Speaker Change: Yes, Mike clearly a little bit difficult to predict the future given the commodity impact there, but if I take a step back the first half down about 2% pretty consistent Q1 to Q2, we still expect pricing overall overall pricing levels to improve as we move through the through the.
Bill Brown: Second half I would still expect overall deflation in Q3.
Bill Brown: And as you get out to Q4, I think it remains to be seen as Kevin said, what the true tariff impact what the true branded price increase.
Bill Brown: <unk> are there.
Bill Brown: That will come through largely through Q3 and into Q4.
Bill Brown: Do we get back to flat, probably close to that would be our best read.
Bill Brown: I don't think Youll see very positive pricing in the second half of this fiscal year.
Bill Brown: We continue to work through this environment.
Speaker Change: Okay. Thank you.
Mike Dahl: Thanks, Mike.
Mike Dahl: The next question comes from Keith Hughes with Julie.
Speaker Change: Your line is open.
Mike Dahl: Thank you.
Mike Dahl: <unk> talked earlier on the call <unk> been facing deflation for six six or more quarters now.
Mike Dahl: But the gross margin impact of that was far greater this quarter than what we've seen over that period of time.
Speaker Change: Specifically what happened in the reported quarter that caused you to have such a such a notable impact when it hasn't before.
Mike Dahl: Yes.
Mike Dahl: I think we've tried to cover that unique factors that came together.
Mike Dahl: Other piece I'd point out it is clearly our seasonally lightest quarter. So while we are disappointed in the gross margin coming in where it did.
Mike Dahl: Yes.
Mike Dahl: Volumes being weak competitive market deflation lasting longer and then that mix, which I alluded to driving a portion of that really all came together in the quarter.
Mike Dahl: As we exited the quarter and into the third quarter as Kevin talked about.
Speaker Change: Yes, we think we're on a better trajectory.
Speaker Change: Look there are lots of factors that will impact that margin, it's never going to be a flatline.
Speaker Change: Quarter to quarter.
Speaker Change: So to Kevin's point, our intention and our belief is over the medium to long term. This is a 30 plus percent gross margin business case, and we're going to continue to balance a bunch of different factors, making sure that we're the best path to market for our supplier community, making sure that we maintain long term customer relationships, making sure that we gained share at the balanced and <unk>.
Speaker Change: Preet level, and then making sure that we've got the right price margin mix and <unk>.
Speaker Change: So.
Speaker Change: Think we're on the right track as we get through January February and into Q3.
Speaker Change: Okay.
Speaker Change: Just one question on products.
Speaker Change: Fire business was off in the quarter was most of that steel pipe deflation.
Speaker Change: Talking about units I guess is my question.
Speaker Change: You got it we feel good about the volumes.
Speaker Change: That fire business, but it is very heavily weighted towards steel pipe and that has been a very challenged commodity based input product.
Speaker Change: And so that really drove what what the operating environment was for our fire business, we're still adding a ton of value on the fabrication side of the world and making sure that our projects are better because ferguson was involved but but that steel pipe is a tough headwind to battle through.
Speaker Change: Okay. Thank you.
Keith: Thanks Keith.
Keith: Thank you we'll take our final question from Bill Jones at Redburn. Please go ahead.
Bill Jones: Thank you just a couple if I can please sorry to come back on the gross margin specifically the impact from deflation when you mentioned.
Bill Jones: You actually just highlighting that the inventory losses, so to speak in the quarter.
Bill Jones: And therefore, that's a temporary effect.
Bill Jones: But maybe some of the other mechanics.
Bill Jones: Sure.
Bill Jones: The gross margin.
Bill Jones: And then secondly, just again on business mix I think in the past you said that the businesses the operating margin level similarities.
Bill Jones: Similarities to be the case.
Bill Jones: H back in water boats continue to outgrow the rest of the business is seasonal.
Speaker Change: Thank you should we be seeing an offset in SG&A recovery.
Bill Jones: In the fullness of time.
Bill Jones: Yes.
Bill Jones: I'll take it first from the back question and then turn it over to Bill. Yes, we have said that the operating margins are fairly consistent across all of our different customer groups, even as gross margins vary and the gross margin was impacted by the growth of water in HVAC and traditionally that would flow through to operating margins.
Bill Jones: That are consistent with the higher gross margin portions of the business, but as we said we are also taking some very intentional investments in both HVAC and water as we look into not only the second quarter, but as we go forward.
Bill Jones: There is some impact.
Bill Jones: Are those investments as we look to the future.
Bill Jones: And on the gross margin side will I wouldn't think about inventory losses on deflation I would think about that deflation just putting a bit more pressure on.
Bill Jones: The bidding and quoting work that we're doing every day as we're out there battling for orders and what is a very challenging volumetric market. So.
Bill Jones: We also think that we're likely near to the end than the beginning now six quarters to deflation, but it's a challenging point in time that we're managing through right now.
Speaker Change: Thank you.
Speaker Change: Since I'm the last one maybe sneaking one more I think it was about three years ago.
Speaker Change: Investor Day, you guys finished your financial framework for sales and margin other items, just when you reflect on that.
Speaker Change: The medium term you still happy that that's it.
Speaker Change: That's the right way to think about the time line.
Speaker Change: So both topline and margin.
Speaker Change: We are where we are in a very.
Speaker Change: We're in a very unique time right now when you look at.
Speaker Change: The deflationary environment that we've talked about but also when you look at the market environment.
Speaker Change: Embedded inside of that growth algorithm was our markets outperforming GDP.
Speaker Change: US from a growth perspective, outperforming our markets call. It 300 to 400 basis points.
Speaker Change: And then driving not only gross margin expansion as markets are more normal, but also productivity leading to operating margin expansion. We still believe in that we've got to get back to a more normalized market environment inclusive of price.
Speaker Change: And we intend to get back to that growth algorithm.
Speaker Change: Thanks very much.
Speaker Change: Thank you.
Speaker Change: Thank you. This concludes today's Q&A session I will now hand over to Kevin Murphy for any closing remarks.
Speaker Change: Thank you Larry.
Kevin Murphy: Just wanted to again say thank you for your time today very much appreciate it and thank you to our associate base, who have been battling through a challenging market.
Kevin Murphy: We are pleased with the organic outperformance in the market. We are encouraged by the balanced business mix that we have and our ability to take advantage of what we think are some very strong structural tailwind and the investments that we're making are going to serve us well over the near term as well as the medium and long. So thank you again for your.
Kevin Murphy: Todd will talk to you soon.
Kevin Murphy: Okay.
Speaker Change: This concludes <unk> second quarter results conference call. Thank you for your participation you may now disconnect your lines.
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