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spk10: Welcome to the AzEC Company's second quarter 2022 earnings call. At this time, all participants are in a listen-only mode. After the speaker's remarks, there will be a question and answer session. Please be advised that today's conference is being recorded. I'd now like to hand the conference over to Chris Russell. Please go ahead, Chris.
spk05: Thank you, and good morning, everyone. We issued our earnings press release this morning to the investor relations portion of our website at investors.azetco.com, as well as via AK on the SEC's website. I am joined today by Jesse Singh, our Chief Executive Officer, and Pete Clifford, our Chief Financial Officer. I would like to remind everyone that during this call, we may make certain statements that constitute forward-looking statements within the meaning of the federal securities laws including remarks about future expectations, beliefs, estimates, forecasts, plans, and prospects. Such statements are subject to a variety of risks and uncertainties, as described in our periodic reports filed with the Securities and Exchange Commission. That could cause actual results to differ materially. We do not undertake any duty to update such forward-looking statements. Additionally, during today's call, we will discuss non-GAAP financial measures, which we believe can be useful in evaluating our performance. These non-GAAP measures should not be considered in isolation or as a substitute for results prepared in accordance with GAAP. Reconciliations of such non-GAAP measures can be found in our earnings press release, which is posted to our website. At this point, I will turn the call over to Aztec CEO, Jesse Singh.
spk15: Good morning, and thank you for joining today's call. The ASAC team delivered record second quarter performance, highlighted by a 35% increase in net sales and a 27% increase in adjusted EBITDA over the comparable period last year. We have consistently posted strong results each quarter since our initial public offering in June of 2020 and have growing momentum as a company. Since 2019, our last year as a private company, We have grown our last 12 months net sales and adjusted EBITDA by approximately 70% during an unprecedented time of labor, supply chain, and raw material volatility and inflation. While we are very proud of these results, we continue to remain focused on the future, and as a team, we believe that the best is yet to come. Our performance is the result of a clear and focused strategy to revolutionize outdoor living and create a more sustainable future. I am very proud of our experienced management team and what they have been able to deliver over the last few years. We consider our management team to be the most diverse and most experienced team in the industry and a key point of differentiation. Our announcements on the promotions of John Skelly to president of our residential business And Morgan Walbridge is our new chief legal officer to highlight the strength and breadth of our team. Over the last 10 years, our team and our strategy have delivered an 18% net sales CAGR in our residential business and expanded adjusted EBITDA margins. As a reminder, the key elements of our strategy are, one, to deliver double-digit above-market sales growth, by playing in fast-growing markets, benefiting from a material conversion opportunity, and by launching new products, expanding our channel, improving the customer journey, and attacking adjacency through organic development and selective M&A. Two, to expand our adjusted EBITDA margins through continuous improvement. expanding the use of recycle and selective use of price and mix to capture value. Our third key element to our strategy, to positively impact the world through our foundational commitment to ESG stewardship, a purpose-driven strategy and by our core values. Fourth, continuing to invest in our core strengths of brand, material science, U.S.-based integrated manufacturing, and strong customer connections. These strengths allow us to deliver a unique value proposition to the marketplace and build a sustainable and profitable enterprise. The long-term secular trends around our business are strong and underpin our confidence to achieve our guided revenue growth long-term of 8% to 12%. Repair and remodel has been and we expect will continue to be driven by thematic trends. These trends include the historic underbuilding of homes, rising average age of U.S. housing stock, a large millennial generation driving household formations, low inventory of homes to purchase, and rising home equity levels providing strong support for repair and remodel into the future. We see the repair and remodel market contributing mid single digits growth to our growth algorithm. We continue to see an acceleration in material conversion from wood to our types of low maintenance, high performance alternative materials over time. As stated in our earlier calls, our research suggests that we are in the early innings of this shift with only approximately one quarter of the decking market converted to date. This wood conversion is an additive element to growth in all of our markets and will be an important aspect to sustain growth of the business through economic cycles. As an example, in decking, we believe that every one point of wood conversion adds an additional three to four points of growth to the overall market. Outdoor living continues to experience increased attention and focus, and we believe the unique environment over the last couple of years has increased consumers and commercial desire for outdoor living environments. Given our breadth and capability to add new, innovative solutions, we believe that we are well positioned to continue to win an increasing share of the dollars spent in this area. Our recent structure acquisition is a terrific example of adding additional capability to provide a more complete consumer solution for outdoor living spaces. We believe our company-specific strategies across the breadth of our product portfolio will drive additional above-market growth. Collectively, we are confident the repair and remodel market, material conversion, and outdoor living and ASEC-specific initiatives will drive 8% to 12% long-term growth. More specifically, this year, we continue to see incremental growth opportunity through new product development. Our Impression Rail Express product platform is a great example of this innovation. Leveraging Ultralox's differentiated time-saving technology, the platform continues to exceed expectations and deliver growth in excess of 100% year-over-year in Q2. We announced the introduction of a number of new products in the second quarter, both to broaden and deepen our already strong rail product portfolio. These products include Vertical Cable Rail Impression Rail Express and Mat Expresso in our Classic Composite Rail series. Both of these new product launches have seen strong initial orders, and we will begin shipping and selling them in the next few months. In addition to that, earlier this month, we also announced the launch of Captivate, our new line of Azek Exteriors pre-finished siding and trim developed in collaboration with Russins, a premier distributor and pre-finisher of building materials in the Northeast. The new Captivate pre-finished trim and siding collection is designed to target and drive conversion away from wood, and other inferior materials in the northeastern market while also saving contractors time in the field and enabling increased productivity. On the recycling and ESG front, we recently announced an alliance with DTG Recycle, a recycler of construction and demolition, or C&D, materials based in Mill Creek, Washington. Alliance will expand AZAC's full-circle PVC recycling program to include the collection of PVC-based C&D scrap, including PVC pipes and siding that traditionally would have otherwise reached landfills. The Alliance is another step toward AZAC's long-term goal of diverting and utilizing 1 billion pounds of waste and scrap annually by the end of 2026. During the quarter, we were also able to start using our capacity to increase our formulation work on lower-cost recycled materials, and we expect to see the benefits of these additional efforts in 2023. The AZAC company has also been named the Newsweek's 2022 list of America's Most Trusted Companies, ranking third in the construction industry. This recognition is a testament to the team's focus on our core values and unyielding dedication to and passion for our customers and our purpose-driven strategy. We also continue to make progress against our Boise factory build-out and achieve key milestones over the last few months, including shipping customer orders out of our new fulfillment center, and in April, we started commissioning our first set of new decking manufacturing lines. We anticipate the completion of Boise factory build-out during the first half of fiscal 2023, at which time we will have increased our capacity by approximately 100% over a 2019 baseline for our decking products. We are bringing this capacity online in an incremental manner, quarter by quarter, which allows ASEC to responsibly stage capacity while we capture new growth opportunities. As a reminder, this investment provides us with ample space to continue to cost-effectively add capacity beyond this phase as needed in the future. As part of our ongoing optimization of capital allocation, we announced today that our board of directors has authorized a share repurchase program. While we continue to make substantial investments in growth, we believe that our model will generate additional excess cash flow that could be deployed to add additional shareholder value. The program will allow us to repurchase up to $400 million of shares, and we expect to invest approximately $50 million in an accelerated share repurchase in the first two months of the program. Now turning to second quarter results. ASAC net sales and adjusted EBITDA increased 35% and 27%, respectively, over the same period in the prior year. Net sales in our residential segment increased 34% driven by strong performance across both our deck rail and accessories and exteriors businesses. We saw strength in decking and exteriors where innovative products such as our higher recycle content trim and sheet products grew significantly in Q2. These products are high in recycle content and were developed specifically to compete against non-PVC trim materials, including wood and wood composites. We benefited from our increased shelf position with the Pro Channel, as this channel continued to show healthy demand within the quarter, consistent with what we've seen over the last 18 months. We have benefited from incremental decking capacity coming online each quarter. This new capacity and our already strong service in exteriors and trims has put us in a position to provide best-in-class service to our partners. The integration of our recently acquired Structure Pergola business continues to progress well, with top-line results growing over 90% year-over-year in Q2 and a healthy backlog heading into the next few quarters. While primarily a residential-focused business, Structure's products are also sold in the commercial settings, such as restaurant and hospitality, which were particularly strong in the quarter. We saw similar trends in sales to commercial and multifamily residential settings for our UltraLox railing business. Net sales in our commercial segment saw strong performance, increasing by approximately 48% year over year, driven by a combination of strong demand and disciplined pricing actions to offset inflation. We saw continued strength in end markets, including outdoor living, marine, and semiconductor. Backlog for this business remains at near record levels, and the margin recovery continues, driven by our team's focus on productivity combined with pricing actions. As previously guided, our adjusted EBITDA margin was impacted during the quarter by the price versus commodity lag startup costs, and the impact of our recent acquisition of structure. As stated last quarter, we expect to bring the overall EBITDA margins of structure into the 20s in fiscal year 2023. As we turn to the outlook, let me provide some context on what we are seeing in the market in the period we are entering. Internally, we continue to monitor demand signals, And these all continue to show positive trends, with key leading indicators showing increases over an already elevated base in the prior year. While we did see a reduction in generic composite decking searches, sample orders grew high single digits year over year, and leads in Q2 were up double digits over the same period in 2021. Our dealer and contractor surveys point to continued growth expectations with extended backlogs similar to prior quarters. These signals are consistent with what we are seeing externally across our markets. While we recognize that the macro environment has shifted over the last few months, there continue to be strong backlogs, favorable thematic trends including strong housing values, and ongoing material conversion. Third-party industry projections show sustained larger ticket repair and remodel spend as homeowners stay in their homes longer and invest in new spaces to extend the livable space of their existing homes and make them more comfortable. In addition to addressing a lifestyle trend, outdoor living spaces are a cost-effective way to increase the livable area of a home. Before Pete provides more detail on our outlook, I wanted to provide some context for our top line and margin guide as we enter the second half of the year. As a reminder, in the second half of fiscal year 2020, we were unable to fully meet demand and compressed our channel inventory. In the second half of 2021, as new capacity came online, we replenished our dealer and distribution inventory, leading to an improved channel inventory position as we exited 2021 as previously communicated we will be lapping more than 60 million dollars of this channel inventory replenishment in the second half of 2022 and our guidance reflects that elevated year-over-year comparison during the second quarter we also saw an additional 40 million dollars of annualized inflation primarily driven by the effects of the recent conflict in Europe, bringing the total material inflation to approximately $250 million. We have offset all of this inflation with pricing and productivity, subject to the approximate one-quarter timing lag that we experience in the channel. As the lag subsides, we expect net price to raw material to be a benefit to margins in fiscal 2023, as we see the full benefits of our actions. With this context, I'll now turn it over to Pete, who will take you through the financials and guidance.
spk16: Thanks, Jesse, and good morning, everyone.
spk04: Before we get into the second quarter results, I wanted to provide some color on the operating environment during the quarter. From a revenue perspective, as Jesse mentioned, the bulk of our demand indicators point to positive trends with construction activity in line with last year's record levels and contractor backlogs at elevated levels. In the fall, we established great shelf position at dealers heading into the building season. We expect that our strong service levels will only strengthen as we continue to bring online incremental capacity during the second half of the year, positioning us for best-in-class service to our customers. From an operating perspective, we continue to execute in a challenging environment. We started the quarter and managed our way through six weeks of COVID variant disruption in the plants. As you recall, we exited last quarter with healthy commodity availability and stabilizing input cost environment. During the second quarter, availability remained strong, but inflation picked up in the supply chain, primarily caused by the disruptions from the conflict in Europe. We will talk more about the industry-leading actions that we've taken in response to this changing environment in our outlook section later on. Finally, as we had previously communicated, We expected our price commodity inflation relationship to be positive on a dollar basis, but lag on a rate basis during the second quarter. We are excited to report that even given the supply chain challenges, we delivered the first half in line with our guided expectations. For the second quarter of 2022, we delivered net sales growth of 35% year over year to $396.3 million. with strong and broad-based growth in both our residential and commercial segments. These results are a testament to our team's ability to manage through any environment. 2Q22 gross profit increased by $24.6 million, or approximately 25%, to $122.5 million. 2Q22 gross profit margin rates decreased to 30.9% versus a prior year of 33.4%. 2Q22 adjusted gross profit increased by $29.1 million, or approximately 25%, to $143.8 million, while our 2Q22 adjusted gross profit margin decreased to 36.3% compared to 39.1% in the prior year. Note in our GAAP results, we incurred $1.2 million of inventory step-up adjustment expense related to our recent acquisitions. Selling and general administrative expenses increased by $10.7 million to $70.8 million, or 17.7% of sales. Adjusted EBITDA for the quarter increased by $19.4 million, or up 27.1% to $90.9 million. Adjusted EBITDA margin for the quarter declined 150 basis points to 22.9% from 24.4% in the prior year. Note that 2Q deletion impact from acquisitions was 90 basis points and startup costs were another 60 basis points. Net income increased by $13.2 million to $35.8 million for the quarter compared to $22.6 million in the prior year. Earnings per share increased by $0.09 per share to $0.23 for the quarter compared to $0.14 per share in the prior year. Adjusted net income increased by $11.4 million to 50.8 million or 33 cents per share for the second quarter compared to adjusted net income of 39.4 million or 25 cents per share a year ago. Now turning to our segment results, residential segment net sales for the quarter increased by 88.2 million or approximately 34% to 350.4 million. The increase was driven by strong growth in both our exteriors and deck rail and accessories businesses, along with 16 million in structure-related sales. Residential segment adjusted EBITDA for the quarter increased by 16.7 million, or approximately 20%, to 98.4 million. Commercial segment net sales for the quarter increased by 15 million, or approximately 48%, to 45.9 million. We saw both commercial businesses Drawing excess of the company's average with exceptionally strong growth in Viacom. Viacom continues to see strength in outdoor living, marine, and semiconductor end markets. Commercial segment adjusted even though for the quarter increased by $5 million or approximately 134% to $8.7 million. From a balance sheet and cash flow perspective, we ended the quarter with cash and cash equivalents of $25.8 million and approximately $107.2 million available for future borrowings under our credit facility. Working capital defined as current assets minus current liabilities was $347.3 million. We ended the quarter with gross debt of $564.9 million, which included approximately $57 million of capital leases and $40 million drawn on the credit facility. As a reminder, our fiscal 2Q is typically our seasonal high point from an AR perspective driven by extended terms offered to customers during the winter months. We expect cash from operations to build in the following quarters. Net debt was $539.1 million, and our net leverage ratio stood at 1.8 times at the end of the second quarter. Subsequent to quarter end, we completed the refinancing and upsizing of our term loan fee in April 2022. Through the transaction, we refinanced our existing term loan fee of $467.7 million, a principal, with a new $600 million term loan fee. The excess proceeds, less associated fees and expenses, went to our balance sheet to be utilized for general corporate purposes. Subsequent to the close of the quarter in May 2022, our board of directors authorized the share purchase program. The program will allow us to repurchase up to $400 million in shares over an indefinite period. We expect to invest approximately $50 million in an accelerated share repurchase in the first two months of the program. And just to echo Jesse's points, our capital allocation priorities remain the same as we previously discussed. We will continue to invest in our business, both organically and inorganically, and to the extent we have excess cash flow, we will look to repurchase shares opportunistically. Capital expenditures for the quarter were $48.7 million, largely driven by timing of cash flows related to our capacity expansion programs. Net cash used and operating activities was $36.9 million during the quarter versus net cash used and operating activities of $12.2 million during the prior year. As we turn to the outlook, let me provide some context and color on what we're seeing as we enter the quarter. First, some comments on the top line. As we communicate on our fiscal year-end call in November and included in our original guidance, we delivered strong sales in our residential business during the second half of 2021 as we built inventory levels back up in both our dealer and distributor channels. Our second half revenue growth rate was approximately 40% year-over-year in the residential segment and included strong organic growth combined with approximately $60 million of inventory replenishment during the period which we begin lapping this third quarter. On the cost side, as I mentioned at the beginning of my remarks, commodities which were starting to moderate in 1Q22 began to rise in the second quarter. As we have in the past, we led the market with pricing for inflation coverage. We took an incremental pricing action in the second quarter in the mid-single-digit range that will start to benefit our results in late May to counter the cost headwinds. Similar to historical pricing actions, we will experience a 60- to 90-day lag in price realization as pricing actions work through the channel. Due to the lag, we will not offset all of the incremental inflation in the second half of 2022. However, we believe we are well positioned for fiscal 2023 as our pricing actions in 2022 should bring us favorable net recapture of 30 to 40 million in 2023. Consistent with recent history, we will continue to navigate the environment going forward and will respond accordingly. Now turning to our guidance, our updated outlook for the remainder of the fiscal year reflects the solid demand trends and indicators we monitor. For the full year fiscal 22, we expect consolidated net sales between $1.39 billion to $1.43 billion, reflecting a year-over-year increase of approximately 18% to 21%. This guidance implies approximately 12% growth in the second half of fiscal year 2022 at the midpoint of our guidance range, while lapping $60 million of channel inventory replenishment in the second half of fiscal 2021. Turning to our adjusted EBITDA guidance, due to the incremental inflation pressure we expect through the balance of the year, we now expect adjusted EBITDA between $316 million to $332 million, reflecting a year-over-year increase of approximately 15% to 21%. We expect a four-year adjusted EBITDA margin dilution impact from the structure acquisition of approximately 40 to 50 basis points and 60 to 70 basis points from our Boise startup costs. For the third quarter of 2022, we expect consolidated net sales between 384 million to 390 million. We expect adjusted EBITDA between 78 million to 82 million. We expect Q3 adjusted EBITDA margin dilution impact from the structure acquisition of 50 to 60 basis points and approximately 50 basis points from our Boise startup costs. To assist in modeling, we continue to expect approximately 180 to 200 million in capital expenditures for the fiscal year 2022. We now expect 26 million to 28 million of interest expense for the full year, with the increase driven by term loan refinancing and associated expenses with the transaction fiscal Q3. Our tax rate for 2022 is estimated to be approximately 25%, Our full-year weighted average diluted shares count is expected to be approximately 155 to 156 million shares. Finally, before I turn back over to Jesse, we will host our inaugural Investor Day in New York at the New York Stock Exchange on Wednesday, June 15, 2022. We are excited to take the opportunity to talk through the ASEC strategy and highlight our long-term growth opportunity, competitive differentiation, and products and brands across the AZAC company. We will outline our strategy and growth drivers, our financial strengths, capital allocation strategy, and other topics. We look forward to spending time with each of you. And I'll turn it back to Jesse for some closing remarks.
spk15: Thanks, Pete. I would like to take a moment to highlight the tremendous efforts of our dedicated team members, channel and supplier partners, and contractors to support the AZAC company. Thank you once again for your continued focus, dedication, and your contribution to the results in the second quarter. As we close the call before the Q&A session, it is clear why we are excited about our company and the opportunity that we have in front of us. We have a stated target of double-digit growth in our residential business and an EBITDA margin expansion target of 500 basis points. We remain confident and our ability to achieve our goals. ASEC is benefiting from strong tailwinds that we believe are in the early innings of a long-term growth and value creation opportunity. When combined with our clear strategy and ASEC-specific initiatives to drive incremental growth in the market, we believe that we are well-positioned to win and deliver on our growth and margin improvement, all while creating a more sustainable future. With that, operator, please open the line for questions.
spk10: If you would like to ask a question, press star, then the number 1 on your telephone keypad. If you would like to withdraw your question, again, press the star 1. We ask today that you limit yourself to one question and one follow-up. Thank you. Your first question comes from the line of Keith Hughes with Truist. Your line is now open.
spk16: Thank you.
spk11: I guess digging into the raw material acceleration that you discussed in the prepared statements, is that heavily driven by PVC? Are there other products that you see in inflation? If you give me a kind of proportionality, that would be helpful.
spk04: Yeah, Keith, this is Peter. The way I would think about it, the bulk of it is centered around PVC, aluminum, and to some degree polyethylene products. From the conflict, we saw PVC pop about 15%. It's now settled about 10% up from our last few guidance. And on the aluminum side, it was a pretty sharp reaction up about 30 after the conflict, and it settled at about 20.
spk11: Okay, thank you. One other question within residential. Can you break out how much of the non-acquisition gain was volume and how much was price?
spk04: Yeah, I think on that one, I appreciate the question, but I'm not sure that we're going to parse out necessarily every quarter our price versus volume versus mix. What I think I can say is, look, in our original kind of guide, we communicated roughly about half price and half volume. And since then, we've taken a very, very small price action in one Q22. And obviously, the announced price increase here, it's really only going to impact three or four months of the remainder of the year.
spk16: Okay, thank you.
spk10: Your next question comes from the line of Tim Woods with Baird. Your line is now open.
spk13: Hi, good morning. This is Josh Chan calling in for Tim. I guess my first question is on sort of the implied margin cadence for the second half. So I guess it dips a little bit in Q3, but it seems like margins are coming back pretty strong in Q4. So is it all because of the price-cost timing? And if so, I guess, you know, could you talk to how that kind of sets you up for 23 as well?
spk04: Yeah, Josh, good question. So as stated, you know, first half in line with expectations from a margin perspective. This is purely the nuance of us having basically three months of inflation without the price coverage, as most of the pricing is not really coming in until June. And so, obviously, it puts us back in place to deliver expansion, both sequentially and year over year in the fourth quarter. And then, obviously, I get the benefit of that price carryover into 23, where I'm going to be winding up basically with three months of price without any inflation in 23. So that's why we feel pretty bullish about the start to 23.
spk15: Yeah, I think we provided a lot of – this is Jesse – we provided a lot of detail about on the call, but I think in the numbers that Pete gave during his prepared remarks, he tried to size that a bit as $30 to $40 million as we move into next year.
spk13: Appreciate that.
spk04: And I'll just add on to Keith's previous question. We priced at those highs. Right, and obviously anything that we see in terms of receding back, we price to cover the initial movements after the conflict.
spk13: That's fair. Okay. And then for my follow-up, on the $60 million restock comp in the second half, could you talk to how that kind of splits between the two quarters? Is it kind of more heavily weighted to Q4? And is there some restock comp also as we look into Q1 of 2023?
spk04: Yeah, you know, I'll take that one, Josh. You know, I would just say the slant is the impact on the 60 million slants more towards the third quarter, 21 modestly, than the fourth quarter. And as far as the first half of this year, look, I would characterize our first half as normal, right? The traditional cycle in the business is is the 2Q is the quarter that you're preparing for the season and you're building inventory. And I think what we would say is, you know, the inventory put in and 2Q was in line with historical, you know, days on hand preparation for the season.
spk16: Great. Thank you both for the color and good luck for the rest of the year.
spk11: Thank you. Appreciate it, Josh.
spk10: Your next question comes from the line of Michael Rehot with JP Morgan. Your line is now open.
spk03: Good morning, everyone, and congrats on the results. First question, just wanted to make sure I was thinking about the $60 million of inventory infill from the second half of 21 correctly. You know, you're obviously guiding for, you know, roughly, I believe, 17% to 20% sales in the third quarter, which would imply at the midpoints, only about 6% growth in the fourth quarter. So is the predominant amount of that 60 million from last year in the fourth quarter of 21? And, you know, if you could give a rough split of that, that would be helpful because it certainly appears that way based on the growth. And also, you know, just bigger picture on growth, how are you thinking about some of these new products that you've detailed earlier in the call as being additive to sales, I guess, as it kicks into gear in the back half of this year and into next year?
spk15: Yeah, let me start. This is Jesse, and good morning, and thanks for the comments. Relative to your macro comment, first off, as we think of new products, those new products are really us planting seeds for the future. And in certain cases, when those new products are launched in the core, like our new Grail products, we would expect those products to continue to progress as we move through the season. And in other cases, you know, for example, our move into pre-finished products, that's really a progression that will see some benefit within this season, but it's really intended to be building platforms for the future. And then just a general comment on our guides as we look at the back half of the year. As those of you that have gotten to know us, we're being, let's call it appropriately conservative as we look at revenue progress. We've clearly seen positive momentum. We continue to see strong momentum and, you know, having said all that, we're still early in the season. And so I think as we think of our progression, we feel comfortable with our guide and it's consistent with how we've guided in the past, you know, taking into account all the different variables.
spk16: Okay.
spk03: So, you know, before I just hit my second question, you know, again, the Is it fair to say, based on the math, that most of the $60 million is kind of believed to be in the fourth quarter of last year?
spk04: Yeah, it was fairly balanced, the split between the quarters. Again, a little bit more in the third quarter. You know, our prior year growth rate in 3Q for residential was 51%, followed by 31% in the fourth quarter. Give some color.
spk03: Okay. Thanks for that. I guess just secondly, on the price-cost tailwind into 23, I believe you're talking about $30 to $40 million. Against the revenue base that you're expecting for fiscal 22, that would represent about 250 bits of margin catch-up, let's say. You're also looking at an implied margin in the fourth quarter in the high 25s and, you know, the 250 on the 23 midpoint would also put you in the mid 25s. So is that, you know, a good way to think about, you know, next year as we start, you know, kind of modeling in, not asking for forward guidance on 23 yet, of course, but You know, are there any other kind of, let's say, takes that we should be considering in terms of any types of offset against that, you know, 250-bit price-cost catch-up?
spk04: Yeah, I mean, I think the way we're thinking about 2023 is put volume aside. I think the things that we can see that we can control, i.e., price carryover, the carryover impact of M&A, you know, regardless of what happens with volume, with recycling, we kind of control our own luck to expand margins. So the things in front of us that we can directly control would feel really, really good about 23 as we sit here at the midpoint in the year.
spk15: I don't know if you... Yeah, you know, you're specifically within our guide for 22. Your interpretation is, you know, generally consistent. We're, you know, we're... We feel pretty good about what's ahead of us. As we look to 23, you know, as Pete mentioned, you know, we certainly have some tailwinds as we move forward, and we're not guiding specifically, but we feel really good about our ability to continue to execute as we work our way through the lag.
spk16: Great. Thank you.
spk10: Your next question comes from the line of Matthew Bully with Barclays. Your line is now open.
spk12: Hey, good morning, everyone. Thank you for taking the questions. I wanted to ask on those leading indicators of demand that you mentioned at the top there, Jesse, that you said continued growth in some of the samples and leads and positive dealer surveys and all that. I think I also heard you say that there was a decline in generic composite decking searches. I just wanted to understand, you know, if there's anything to read into that, how do you interpret that? You know, and typically how strong an indicator are those search trends in your view? Thank you.
spk15: Yeah, so, you know, as I mentioned earlier, our focus is really on our metrics and our capability to execute, you know, what our contractors say what our dealers say, and what our own internal data says. You know, the context is, over the last couple years, we have had elevated activity and searches, not just in our area, but in a lot of parts of the housing sector. And whether or not that manifests itself to revenue, I think, remains to be seen. So I would just, I mean, the way we're considering it is there was heightened activity Search interest, that doesn't always translate to volume, and in particular, we tend to play in the more premium segments, and we tend to play in the repair, the pro repair and remodel segments, and so based on that, we are looking at our own specific data, but it's publicly available that searches were down, so we wanted to make sure that we acknowledge that in the call, but that's how we're looking at it.
spk12: Got it. Okay. Thank you for that, Jesse. And then second, I wanted to ask on the Boise facility progress, I think you highlighted completing the build out in the first half of 23 and that you're already commissioning new lines. I'm just curious, number one, if anything has changed around the timing of that ramp, you know, just given everything going on with supply chain and all that. And just secondly, kind of to what extent the second half revenue guide is and embeds any of the ramp of that new capacity.
spk15: So let me give you a macro, and I'll let Pete get a little specific. We brought Boise Online knowing that we were, and we are bringing it online, knowing that there is a tremendous opportunity in this market in the quarters and years to come. And we have made a decision recently as we invested to make sure that we had ample capacity ahead of the curve to get after those growth opportunities. Our core production, in particular in the last couple of months, is really driving great performance, and we're getting terrific output from that. So the Boise capacity is a nice additive element And it's really at our discretion on the staging that we bring that capacity online. And so we are certainly on track. But as our core operations continue to perform well, and we're able to more than meet demand, we'll be thoughtful on how we stage the ramp up and the startup over the next few quarters. So, you know, I'll let Pete get specifics on the guide.
spk04: Yeah, no, I would just reinforce, look, we're in a good position where we can choose to either speed up the commissioning if we need it or slow it down, depending upon what we see in front of us.
spk16: Okay, thanks, Pete. Thanks, Jesse. Good luck, guys. Appreciate it.
spk10: Your next question comes from the line of John Lovalo with UBS. Your line is now open.
spk14: Good morning, guys. Thank you for taking my questions. The first one on the commercial recovery, much stronger than we had expected. Just hoping maybe you can give a little bit more color on the drivers by business. And then the margin improvement that we saw in the second quarter there, Is that sustainable or is there anything sort of, you know, one time that we should be considering there?
spk15: Yeah, just at a high level, you know, over the last really 18 months, we've talked about, we experienced, as a reminder, we experienced margin compression in particular in 20 as the pandemic set in. And, you know, that had an impact on the corporate margins. And at that point, we talked about, how we were taking very specific actions to make sure that that business structurally would operate at higher margins. I think the team's done a terrific job of investing in specific actions, taking very aggressive steps in our operations to really optimize the margin structure of our products. We are excited to see that flow through, and it's really an outcome of a lot of the hard work. And you can see the leverage we get on the actions that we took as volume starts to normalize to pre-pandemic levels and continues to grow as we've also done a nice job on the commercial side, on the sales and marketing side of that business.
spk14: Okay, that's helpful. And then second question is, you know, recognizing that your capital allocation priorities make a lot of sense over time. Do you think the stock's performance creates an opportunity to maybe temporarily change and be, you know, more aggressive on the share repurchase front?
spk15: Well, as we mentioned on the prepared remarks, we're really excited about our growth opportunities. We continue to invest in both capacity acquisitions and organic development, as you heard on the call. And certainly having a buyback in place gives us an opportunity to drive shareholder value. And certainly at this level, of where our stock is trading, it prevents a really nice opportunity for us to get a good return on buying back some of our own shares. The specific pacing, I think we announced a $50 million accelerated share repurchase. Beyond that, we'll evaluate what makes sense. I'll just highlight that, you know, you didn't ask the question, but I think as you look at our working capital, we certainly see an opportunity to be more efficient there and generate more cash from, you know, working capital management as we move through the season. And, of course, that will give us opportunities to – to deploy that cash as needed in all the areas of the capital allocation priorities that we have.
spk16: Okay. Thanks, Jesse.
spk10: Your next question comes from the line of Ryan Merkle with William Blair. Your line is now open.
spk09: Thanks. Good morning, everyone, and thanks for all the details. My first question is on price power. I'm just curious, how is pricing held up during past periods of slower demand? And then can you remind us what percent of COGS is tied to Roths? Because I assume if Roths fall at some point, you'd see a pretty nice margin lift.
spk15: Yeah, look, in general, as we've looked at our residential business, we have typically raised price and held price. Now, there's always some nuances depending on the product, in particular our exteriors business. But in general, our philosophy has and will continue to be that we take price for the long term. You've seen some of the lag of that. And we've done enough research that we believe we've got a tremendous value proposition in major parts of industry. of our portfolio and that value proposition is still very much intact as we have, as we've raised price over the last 18 months. And then relative, I know Pete can answer this in more detail, but at a high level, I think during the IPO process and in general, we've guided that raw material is typically 70% of our COGS in general. with variable labor being about another 20%. Perfect.
spk09: Helpful. And then my second question, I appreciate that demand indicators remain strong, and that's pretty consistent with what we're hearing from peers. My question is, do you think decking remains a priority investment for the consumer if things slow down a bit more from here? And maybe just unpack for us, I think you mentioned it's an inexpensive way to add livable space. Just talk about why that may be important for the consumer, just given the low housing supply.
spk15: Yeah, so let me answer the latter. And this is a little bit of back of the napkin, right? Depending on where you are in the country, and in particular with our customer base, which is affluent, you're dealing with new construction costs that might cross $1,000 a square foot. And all in, with all the bells and whistles, our types of project might hit $100 a square foot. And once again, that's with a lot of infrastructure and a lot of build-out. Typically, it's going to be much lower than that. And so as we look at the continued focus on outdoor living, the continued difficulty consumers have in expanding or moving into upgraded households, we think the capability we have to present really unique outdoor living spaces and with structure, by the way, we now have something overhead that provides protection from rain and sun. We think it's an absolute terrific value proposition. And Ryan, you may have asked another question and I forgot what it was.
spk09: No, I think you answered it there. I was just wondering if you thought decking would be a priority investment. If consumers see a slowdown in their spending, where will they spend money? I think you sort of answered it with your response.
spk15: Yeah, and the only other thing I'll add is data that we've shared in the past, there are a lot of decks beyond their useful life. Nadra has quoted that more than 50% are beyond their useful life. We've got extended housing stock. So as people have relocated, there continues to be a need to not only upgrade and add outdoor living space, but also fix existing outdoor living spaces.
spk00: Perfect. Thanks, Jesse.
spk10: Your next question comes from the line of Susan McLaury with Goldman Sachs. Your line is now open. Thank you.
spk08: Good morning, everyone, and congrats on a good quarter. My first question is, can you talk a little bit about how you're thinking of the conversion to recycled materials next year, given the initiatives that you currently have underway? I think you ended last year at around 55%. How do you think about that as you look to 2023, and what will be the benefit to the margin as we move through next year?
spk15: Yeah, just at a very high level, you know, we have continued to invest in the acquisition and expansion of our recycling capability. We mentioned two calls ago that we have added, that we acquired a regional recycler. That has given us the capability and raw material streams, in particular in PVC, to be able to expand our recycling across our portfolio. The addition of capacity right now has put us in a great position to do the formulation work and the transition work where we were somewhat constrained over the last 18 months, actually the last couple years, because of capacity. And so we view that as a, we're not guiding specifically. As we move into 23, it is absolutely a key initiative for us. It is one where management, R&D, and operations are heavily focused and we would expect as we exit the year to continue that progress. And I think in particular within 23, we would continue to expect an ongoing ramp of the percentage of our raw material that comes from recycle through 23. And just as a reminder, You know, a pound of recycle typically is going to be less than 50% of a pound of virgin material. So we view that as an additive element to 23. And we're not going to, at this stage, obviously, we're not guiding to 23. But we're certainly excited about the opportunity that that presents.
spk04: And I just add on, Susan, part of how we were actually able to offset the disruption and the cost pain of January and February with COVID was actually teams outperforming on the recycling execution in the second quarter.
spk08: Okay. That's very helpful, Culler. And then my follow-up is just, you know, I know you've spoken a lot about the initiatives you have underway to expand your capacity. A lot of your peers are also undertaking similar sort of efforts. Can you talk a little bit, though, to the flexibility that you have to adjust those plans should the macro change more than is expected? You know, what could potentially you do there to sort of realign the business to a slower demand environment if needed?
spk15: Yeah, well, first off, you know, we continue to see really nice trends, but to answer your question, If there were to be a slowdown, as mentioned earlier, give or take 90% of our costs are variable. I'm sorry, go ahead, Pete. Yeah, I was just going to say, 90% of our costs in COGS are variable. I'm sorry, 90% of our costs in COGS are variable. And we certainly have modular manufacturing. So just as a reminder, The way our manufacturing is lined up and the way our capital works is we effectively have extrusion lines. We have an ability to turn those on and off. With the exception of the overhead labor, the costs will go away with that. Then with respect to overhead and SG&A, we clearly have the capability to flex that as needed I think if you look at our track record including the quarter we went public where in the second quarter second calendar quarter of 2020 you saw some demand concerns and our margins actually sustained and went up during that quarter and so we certainly have many tools at our disposal And then the last thing I'll say is typically in a slower demand environment, you will see raw material costs also. But I just want to reiterate that we continue to be optimistic, but we also have the capability to respond if needed to any kind of a macro impact to our business.
spk04: And, Susan, I'd just add, I mean, we also, as we've communicated before on CapEx, so the 5% to 7% of sales, half of that's maintenance. So, obviously, in times when it's challenged, we can actually scale back CapEx closer to our kind of maintenance needs.
spk08: Okay. That's very helpful, caller. Thank you, and good luck with everything.
spk00: Thank you, Susan.
spk10: Your next question comes from the line of Phil Ng with Jefferies. Your line is now open.
spk07: Hey, guys. With the new capacity you guys have brought on, are there any areas or markets you weren't able to tackle in the past and where you're seeing wins? Justin, I'm just trying to unpack some of those comments because your competitor, your largest competitor, made similar comments. I'm just trying to understand where some of this opportunity is for all of you guys effectively.
spk15: You know, as we mentioned on the last call, We talked about the early season negotiations that we go through with our dealers, and we feel really good about the shelf position that we exited those negotiations with, and certainly capacity was helpful in that, and that sets us up for not only short-term revenue, but an ongoing expansion of relationships. You know, I would say for the leaders in the market, as we bring capacity online, you know, there's certainly opportunities in the market that were maybe filled with inferior products or, you know, other areas that Now that I can speak for us, now that we have capacity online, that we have an ability to service that kind of a market. As I've highlighted, we continue to see a lot of growth opportunity, not only in decking, but our adjacent products. One thing we don't call out a lot is our decking is used, in particular, our PVC decking. is used in a lot of different applications just because of its flame retardancy and its lightweight and its flexibility. And one small example of that that really leverages our exterior sales forces is our cladding application set. But there's certainly a lot of other opportunities that are out there. And then specific sales or customer opportunities We're not going to chat about those specifically, and hopefully there'll be opportunity to chat about those in more detail in the future.
spk07: Got it. And just digging on your margins, I guess, longer term, the exit rate for 4Q, Pete, I believe implies almost 26% EBITDA margins. Is that something we could build off when we look out to 2023 and do a lot of the startup costs? Is that largely behind you guys? And in longer term, the 500 basis points of structural margin improvement you guys have called out, how much of that have you realized? I appreciate some of that's probably masked by all the inflation you're seeing, but kind of help us unpack that margin expansion opportunity in the next few years.
spk04: Yeah, you know, I still think our biggest lever as we look forward is our recycle opportunity, and that's why we're investing aggressively, both organically and inorganically, to, you know, not only... Use that as a margin expansion lever, but as we've talked about, it's our best inflation buffer as well. We still have a really active full funnel of sourcing savings and projects as we look out at the business, and I think we're in the early days of continuous improvement on what that can bring to the bottom line. We're excited about our exit rates here this year. And as mentioned earlier on the call, I think just based upon the things that we can see in front of us that we can control, the price carryover, the cost execution on recycle and other pieces of the business, we think we're really positioned well for 2023, even in any environment.
spk15: Yeah, Phil, just on the 500 basis points, You know, we, when we went public, we implied that was, you know, give or take about a five year horizon. And, you know, without getting specific, you know, we've made progress against that. It is certainly, you know, been a choppy environment where some of that progress is mass. But I would just say, you know, we feel comfortable that we have the capability to, and confident we have the capability to execute against that within the timetable that we laid out during the IPO.
spk16: Super. Thanks a lot. Appreciate it, Collin.
spk15: Appreciate it.
spk00: Thanks, Bill.
spk10: Your next question comes from the line of Mike Dahl with RBC Capital Markets. Your line is now open.
spk02: Hi. Thanks for taking my question. I had a question around what you're seeing in terms of channel inventories. Our sense is that as capacity has come on for you and your peers, distribution has been able to restock a decent amount year to date. So, you know, a two-part question would be what are you seeing and then to what degree, if any, is that playing into, you know, I know you have a tough comp in the second half of the year, but does kind of a first half dealer restock play into your potential caution on growth rates as you go through the balance of this year.
spk15: Michael, can you clarify that latter question? I'm not sure it came through right.
spk02: Sure. Sorry, Jesse. To what extent is potentially a dealer restock in the first half, which is benefiting your first half sales, impacting your view on second half growth rates, i.e., you know, our sense is that there's been some restock as everyone's brought capacity on among manufacturers. So it's kind of like, are you seeing that benefit and is part of your more balanced view on growth over the course of the year reflecting that maybe you've already sold in ahead of sell-through?
spk15: Yeah, so there's always a little bit of geography, you know, whether it's March or April or May. So there's some modest geographic movement. The way I would define the cadence of 22 so far is it's really manifested itself as a very normalized year, right? So that, you know, we went through a normal, in particular the second quarter, a normal process of of dealer stocking to position our customer set for the season. As we look at the back half of the year, I think the main element that we're looking at is just to make sure that we acknowledge that we are lapping. Third quarter last year in residential, for example, we had 50% growth. It's really important that we acknowledge that in general, as you look at the back half, we're lapping some meaningfully high growth rates that, as we've highlighted, include inventory bills. I would say at this stage, it's probably less about the first half of the year. It's much more about what we're lapping. And in general, we're returning to a more normalized environment relative to channel partners and how they view their need to carry inventory. And so, you know, just the way I would phrase it is the second half is just normal with, you know, against the higher comps, you know, combined with our improved lead times and our ability to better service the market. In general, right now, inventory in the system is a very normal level.
spk16: Okay, got it. That's helpful. Thanks, Jesse.
spk02: And my second question, it's back on the price-cost dynamics looking into next year, just another clarification. When we think about the $30 to $40 million in tailwinds, you know, how – How much of that is purely pricing at the highs versus where you see materials today? And your assumption, I guess the question is, is your assumption that material costs stay where they're at today? Is there an assumption that there is further, that costs further recede as we get into fiscal 23? And also, you know, to the extent that you've talked about the recycling expansion and initiatives, is the benefit from your shift in recycled material a part of that $30 million to $40 million net tailwind, or would that be incremental to that?
spk04: Yeah, I mean, I don't know that I'm going to get into a super detailed answer on 23 other than to say, look, it assumes sort of what we can see from an inflation perspective in front of us that's announced today.
spk15: Yeah, and then relative to recycle is... As pointed out earlier, we certainly have visibility on what we're doing and what we could do. As Pete pointed out, we're not getting specifics except to say the price raws combined with productivity, we feel really good about the opportunity ahead of us and we generally sized it for you because it's important to understand that the lag will normalize.
spk00: Okay. Thank you. Appreciate it. Thanks.
spk10: Your last question today comes from the line of Alex Riegel with B. Reilly. Your line is now open.
spk06: Thank you. A nice quarter, gentlemen. Thanks, Alex. As it relates to Captivate, can you discuss where this product fits across the pricing spectrum relative to alternatives and go into a bit more detail on your target market, R&R, new construction, and so on and so forth?
spk15: Yeah, I appreciate the question, Alex. As we've talked about, we see wood conversion opportunity not just in decking and rail, but we see wood conversion opportunity in a lot of parts of the home. And as you consider the opportunity we have in what we're defining as exteriors, There have been gating items that have limited, at times, our ability to do wood conversion. And I think one of those elements is really our ability to provide a pre-finished color, both in trim and in some of our niche siding products that allow us to really continue to penetrate that market. And our announced alliance really sets us up to continue to drive wood conversion, specifically in those areas where we think a pre-finished product has been a limiting item. Relative to specific value proposition, it fits the same general price point as our trim products with the value add. that you would expect. We're not going to get into the specific details relative to competition except that it provides a terrific value proposition to get the benefits of an ASAC material and that kind of extended use and the benefits against moisture. It does it in a way that contractors have been asking for and And in general, you know, our business tends to skew more repair and remodel, and we would certainly expect that that's where this would have a really nice position.
spk06: And lastly, has the movement in rates caused you to change any plans related to CapEx, advertising, marketing, or new product development or anything?
spk15: Short answer is no. I think we're always evaluating macroeconomic variables and the change in rates in the sectors that we play, which is predominantly repair and remodel, has not had any kind of a meaningful impact to demand. Once again, if we see the macro change, as mentioned earlier, we certainly have the capability to adjust, but right now we're not really seeing any impact from elevated interest rates at this point.
spk06: Thank you very much.
spk15: Appreciate it. Thanks, Alex.
spk10: This concludes today's question and answer session. Mr. Jesse Singh, I turn the call back over to you.
spk15: Great. Thanks again for the questions and your continued engagement. We look forward to seeing many of you at our Investor Day in the coming month. Thanks again and have a great day.
spk10: This concludes today's conference call. Thank you for attending. You may now disconnect.
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