Builders FirstSource, Inc.

Good morning, and thank you for joining Builders FirstSource First Quarter 2021 Earnings Conference Call. Today's conference is being recorded. Michael Neese, Senior Vice President of Investor Relations for Builders FirstSource, will now provide the company's opening remarks. Please go ahead, sir.

Thank you, Brad. Good morning, and welcome to our First Quarter 2021 Earnings Call. I hope you and your families continue to remain safe and well. With me on the call are Dave Flibman, our CEO, and Peter Jackson, CFO. Today, we will provide an overview of our record first quarter results, discuss the integration highlights, and share how we are well positioned for continued success in 2021 and beyond. We have provided GAAP results, which include BMC in Q1 of 2021 and standalone BFS in Q1 of 2020. We also provided proforma results as if we own BMC in Q1 of 2020. A slide deck and this morning's press release are available on our website at investors.bldr.com. The results discussed during the call will include GAAP and non-GAAP results adjusted for certain items. We provide these non-GAAP results for informational purposes, and they should not be considered in isolation from the most directly comparable GAAP measures. The reconciliation of these non-GAAP measures to the corresponding GAAP measures were applicable, and a discussion of why we believe they are useful to investors can be found at the back of the earnings press release and in the presentation. Our remarks in the press release, presentation, and on this call contain forward-looking and cautionary statements within the meaning of the Private Securities Litigation Reform Act and projections of future results. Please review the forward-looking statement section in today's press release. and our SEC filings for various factors that could cause our actual results to differ materially from forward-looking statements and projections. With that, I'd like to turn the call over to Dave.

Thanks, Mike. Good morning, everyone, and thanks for joining us. The positive momentum in our business continued with our record first quarter results. I very much appreciate the efforts of our more than 26,000 team members who are working tirelessly to provide best-in-class service for our customers in these unprecedented market conditions. They continue to grow our business while meeting the needs of our customers in a highly constrained supply environment. We are working closely with our customers and suppliers to reduce cycle times amid material availability constraints and capitalize on our nation's very strong demand for single-family residential housing. And in that context, the power of our platform is evident as we are seeing rapid growth across all product lines, and I could not be more pleased with our team's results. I'll cover five important topics on today's call. First, the positive macro and residential housing environment. Second, our record first quarter results and what drove our outperformance. Third, our excitement about how we think about our core business and a brief word on commodities. Fourth, an update on our latest acquisition and the strength of our M&A pipeline. And finally, an update on the integration of BMC which is running ahead of our plan. I'd like to take just a minute and share why I remain bullish on our industry and our company. First, let's look at residential housing. According to Freddie Mac, the U.S. housing market is 3.8 million single-family homes short of what is needed to meet the country's demand, representing a 52% increase in the nation's home shortage compared with 2018. The gap has widened significantly over the past two years as builders have struggled to keep up with demand in part due to labor and material supply constraints. These challenges play to our strengths, including our structural component and value added offerings. In recent years, we have seen accelerating success in these areas, and we believe there remains a tremendous opportunity for demand and demographically fueled growth ahead of us. In terms of demand, According to the US Census Bureau, total housing starts jumped 19.4% in March, to a seasonally adjusted rate of 1.74 million. The National Association of Home Builders reported that this is the fastest pace for combined single family and multifamily construction in 15 years. There were only about 1 million existing homes for sale at the end of February, a nearly 30% drop compared with February of 2020. That is the largest annual decline ever and the lowest supply on record. This should bode well for a strong construction pace of new housing starts as we move into the summer season. Improving housing starts, historically low mortgage rates, and a shift towards single-family living are all positive trends that remain tailwinds for our products and services. We now operate in 47 of the top 50 and 86 of the top 100 MSAs. many of which are not only among the largest, but also some of the fastest growing MSAs in the country. Our ability to manufacture and assemble structural components at our offsite facilities provides an integrated, one-stop solution that helps solve the most challenging needs for our customers, labor availability and job site productivity. As a result of this area of strength and innovation, we expect to continue to outpace market growth for many years to come. Now let's turn to our record first quarter results. We delivered another very strong top and bottom line quarter, and importantly, our organic growth again outpaced the market as we continued to gain market share. On slide three of our investor deck, on a combined basis for BFS and BMC, total sales grew 54% to $4.2 billion. Our core organic sales growth increased 22%. Gross profit increased more than 50%. And adjusted EBITDA increased an impressive 187% to $455 million. These record results reflect the favorable housing market, our industry-leading position, our ability to deliver value, and a continuation of our disciplined approach to cost management. We firmly believe our core organic sales growth is sustainable for the long term, and we are positioned for outperformance through economic cycles. We have received questions from analysts and investors over the past quarter about commodities, wondering what our underlying growth would look like in recent years if we normalized the commodity side of our business. Floating commodities flat at $400 per 1,000 board feet, Our estimates show we have outpaced market growth by 20% from 2018 through 2020, resulting in a roughly 8% revenue taker. And that momentum continues to accelerate in the first quarter of this year. Said another way, we have consistently demonstrated our ability to far outperform the market and take advantage of our differentiated product platform. Now, as a combined entity, we have the geographical presence and even stronger platform to further advance our strategy. Turning to M&A, we announced today that we closed on our most recent acquisition earlier this month, Johns Lumber, a premier building materials supplier serving the largest housing market in Michigan. The acquisition provides enhanced scale that will benefit our existing 14 locations in the state. The company generated approximately $49 million in net sales for the trailing 12 months ended March 31st, 2021. We're excited to welcome the Johns Lumber Team members to the BFS family. With our very strong balance sheet and robust free cash flow generation, we will continue to reinvest in our business while actively pursuing M&A opportunities. As you can see on slide five, we have identified over 500 targets, and we will continue to be a consolidator in this industry for a long time to come. Finally, I'd like to update you on the BMC integration. Our efforts are ahead of schedule, and we remain highly confident in achieving three-year cost synergies of $130 to $150 million. For 2021, we expect to meet or exceed $60 to $70 million in realized savings. We saw merger-related cost savings begin to accumulate in the first quarter and are accelerated in the second quarter. We continue to drive our internal operating system, which will allow us to accelerate productivity, improve processes, and continue to grow our margins while servicing our customers more competitively. We believe we can continue to help offset cost escalation with our offsite manufacturing processes and other value-added products, including truss, millwork, wall panels, and ready frames. We are also seeing positive momentum in our growth efforts. as our teams work together to leverage our scale and product strengths. The early returns are reflected in our exceptional first quarter results. These are exciting times, and we are continuing to build our world-class home building distribution platform that positions us as a partner of choice. Before I turn the call over to Peter, I would like to highlight one of our many valued team members. May is Military Appreciation Month. Throughout the month, Builders First Horse is celebrating our many veterans and profiling several of their success stories. One such story focuses on Jason Bennett, the general manager of our De Pere, Wisconsin lumber location. He joined BFS five years ago after serving for 23 years in the U.S. Army. As a first sergeant, Jason was responsible for 200 soldiers. He ensured their safety, welfare, and training while in active duty roles. And he learned key management skills that would last long after his military career. When it was time to retire from the military, Jason looked for a company that shared the values instilled in him by the Army. And he found that in Builder's First Source. Jason joined BFS as a delivery manager in Colorado Springs and immediately fit right in. He worked his way up to operations manager and then general manager. He led his team in adopting new logistics technology. specifically our delivery and dispatch management system, and was able to increase delivery efficiency by 20%. Jason is now a general manager in Wisconsin, where he focuses on the safety of his team members and customers. His location continued at Accident Free Street and recently hit four years without a single recordable incident. We are proud to be a place where veterans feel valued and where their skills and experience translate into a rewarding civilian career. We're grateful for veterans like Jason and how they served our country and are pleased to have them as part of the BFS family. With that, let me turn the call over to Peter to go through a detailed look at our Q1 results and our 2021 updated financial guidance.

Thank you, Dave. Good morning, everyone. I too would like to thank all of our team members for delivering fantastic results in this unprecedented environment. Your focus and execution is frankly incredible. I'll cover three topics with you this morning. First, I'll review our combined first quarter results compared to the pro forma results from the prior year quarter. Then, I'll discuss our free cash flow and strong balance sheet. And finally, I'll provide updated guidance on the markets and our forecasted results for full year 2021. Net sales of $4.2 billion for the quarter increased 54.1% compared to the combined pro forma prior year period. Value-added core organic sales increased by 22%, led by 41.5% growth in our manufactured products category and 7% growth in our windows, doors, and millwork category. Commodity price inflation increased net sales by 31.3%. and acquisitions contributed 2.4% to net sales growth. In Q1, we experienced stronger-than-expected demand in single-family stars across the country, and we are well-positioned to support that demand. Our strong relationships with suppliers enable us to bridge product availability constraints, and our value-added products and services provide relief from labor shortages. Our Q1 gross profit of $1.1 billion was an increase of 52.1% year over year. Gross margin of 25.6% was slightly better than expected, but decreased 40 basis points compared to the prior year period, primarily due to a one-time purchase accounting adjustment. In light of the dramatic increase in costs this year, especially in commodities, I am pleased with our performance driven by the disciplined execution of our procurement and sales teams. SG&A increased 35.3% in the quarter, driven primarily by higher variable compensation related to the increase in profitability, as well as depreciation and amortization in one-time charges, primarily related to the BMC merger. Excluding these variables, underlying SG&A decreased by 2.6%. SG&A as a percent of sales decreased 270 basis points to 19.7% amid cost leverage on higher sales and continued strong expense controls, which more than offset higher variable costs. Adjusted EBITDA increased 187% to $455.2 million. Driven by strong demand in single-family new construction, commodity price inflation, and cost leverage. Our adjusted EBITDA margin improved to a record 10.9%, which was up 500 basis points compared to 5.9% in the same combined pro forma period a year ago. Leverage on sales, along with cost management and early synergies, drove margin expansion. Core organic value-added product sales were especially impactful due to its rapid growth and higher average margins. We are in the early innings of our cost synergies and pricing opportunities, and we are accelerating our synergy capture and leveraging our combined capabilities. Let's turn to our first quarter cash flow, which was an outflow of $237 million due to our normal seasonal timing of working capital. In the quarter, we used $200.5 million in operating activities, primarily related to investments of over $500 million in net working capital. At the end of the first quarter, our pro forma net debt ratio was approximately 1.2 times our LTM adjusted EBITDA. We have no long-term debt maturities until 2027, and our total liquidity was approximately $1.1 million, providing us with significant financial flexibility. Our strong first quarter results are a testament to our category-leading team and product portfolio meeting the demands of the strong market momentum. While the impact of increased commodity cost is evident in our results, what is most important to us is that we continue to generate exceptional and sustained growth in our core business with a strong margin profile. The focus of our business is in higher margin specialty and value-added products and services, Our portfolio of efficient, problem-solving products, such as trusses and millwork, continues to grow faster than the overall market. These specialty and value-added products and services have improved our margins over the years as we help our customers solve labor availability, speed of construction, and quality challenges on the job site. And as we have continued to consolidate the industry, we have created a consistent trend of improving operations and driving above-market growth while delivering accelerating EBITDA fall-through. We have clearly created a competitively differentiated platform that can drive above-market growth, accelerate that growth with M&A, and deliver fantastic bottom-line results in any market environment. Let's turn to our 2021 full-year outlook. We continue to see strong underlying demand in both new housing construction and remodeling. As we anticipated, builders are seeing such strong demand that they are limiting sales in certain communities to keep from increasing backlogs due to material and labor availability constraints. Consistent with our first quarter results, our strong organic sales continued in April. Based on our Q1 performance, our positive conversations with customers, our realized synergies with the BMC acquisition, and a better view of our pricing and cost environment, we are increasing our full-year 2021 outlook. We expect full-year net sales to grow to a range of $16 to $17 billion, or approximately 25 to 33%, over our 2020 pro forma net sales of $12.8 billion. This is driven by by an increase in single-family starts as well as record commodity prices. We expect adjusted EBITDA to be in a range of $1.75 to $1.85 billion, or approximately 64% to 73% over our 2020 pro forma adjusted EBITDA of $1.07 billion. Of the $500 million increase in adjusted EBITDA guidance from last quarter, roughly half is driven by poor organic growth in share gains, while the other half is driven by higher commodity prices. As a result of that outperformance, we are increasing the midpoint of our free cash flow guidance by $550 million to $1.4 billion. Our outlook is based on several assumptions which are outlined in the earnings release, including low double-digit growth in single-family starts across our geographies, high single-digit to low double-digit decline in multifamily starts, and low to mid-single-digit growth in R&R. Our commodity assumption provides a 5% to 15% lift to our top-line growth. Commodity costs remain high, with recent futures trading over $1,600 per thousand. While levels remain elevated so far this year, we anticipate commodity prices to normalize by the fourth quarter. For some added context, if commodity prices were to stay elevated at current levels through year-end, we would expect to exceed our current guidance. Turning to capital allocation, we are committed to reinvesting in the business for maintenance and growth. We are focused on increasing our capacity through our list of internal CapEx projects, and we have a solid pipeline of M&A candidates. As Dave mentioned, we have already executed one bolt-on acquisition this month, and we are looking at several more. We continue to assess capital allocation options in light of our accelerating cash flow. Our local field teams are focused on delivering strong core organic growth, and we continue to proactively manage expenses across our distribution footprint. We will meet or exceed our cost synergy goals of $60 to $70 million this year, and also deliver on our operational excellence initiatives. Overall, we are continuing to build a world-class distribution network to deliver exceptional value to our stakeholders. We have never been more excited about our strategy and our future. Let me turn the call back to Dave for his closing remarks.

Thanks, Peter. With underlying demand the strongest it's been in nearly 15 years, coupled with the broad-based product supply constraints, and our country's continued recovery from a horrific pandemic, these truly are unprecedented times. I couldn't be more pleased or proud of how our team has responded. We delivered core organic sales growth over 20%, while also successfully managing through one of the largest mergers this industry has ever seen. We have the right strategy, we have the best team on the field, and we're executing at a very high level. Our future is bright. and I'm highly confident in our ability to continue to outpace industry growth while operating in a $120 billion addressable market. Thanks for joining us today. And with that, Brad, let's open the call for questions.

Thank you. If you would like to ask a question, please signal by pressing star 1 on your telephone keypad. If you're using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. And again, press star 1 to ask a question. We'll pause for just a moment to allow all callers an opportunity to signal for questions.

And we'll take our first question. This comes from Keith Hughes with Truist.

Thank you. Many good things initially. I guess the one that jumps out is some of the success you had in manufacturing products. Could you talk about what went well during the quarter and what sort of your outlook was? for those products in light of this resident guidance that you've given us?

Good morning, Keith. Thanks for the question. Yeah, as you point out, we've had a lot of success in our manufacturing products. And I think it goes back to the success that each company was having individually. It was part of our strategies. It was something that we focused on historically. And what we've seen over the last few years is increased penetration and adoption by the homebuilders because it's solving those problems we've talked about. It helps them You know, build the homes faster. It helps them manage the job site more effectively and just be overall more productive. And we're excited about it. You know, as you pointed out, you know, our organic growth and components was about double what our core organic growth was this quarter, which was outstanding. We expect that will continue. We continue to see rapid adoption in these component categories. No one is better positioned than we are in terms of being able to supply the needs of our customers in this area across the country. And so we're excited about it.

Yeah, so we've added shifts, we've added facilities, and we'll continue to do that on that path.

Absolutely. Okay. And one other question, gross margin. You talked about the purchase accounting adjustment in the quarter. As you look within this guidance range, with gross margin, what would it look like for the year based on, you know, what we know today and the numbers?

Yeah, I think we're feeling pretty good about being able to hold stable, maybe even see a little bit of tailwind depending on the trajectory. It's a dynamic market, as you know. Price increases, not just in commodities, but across the board have been very impactful. But in terms of our discipline and our structure around passing through those prices, we've done a good job. Very proud of the team, and I think we can continue to perform at this level. I think it's something we're very proud of.

Okay. Thank you. Thank you. Thank you.

And we'll take our next question from Matthew Booley with Barclays.

Good morning. Well, congrats on the results, everyone. And I concur with the prior comments that there's a lot of good topics to discuss here. My first one will be on M&A. I think it was notable that you included that M&A opportunity slide in your earnings presentation this morning. You know, reminiscent of the slide you had at BNC, you know, when you completed the acquisition of Johns, which, you know, we actually thought that the integration, you know, may preclude some M&A at least further into 21, so congrats on that as well. My question is, you know, how have you continued to cultivate this pipeline that you're now disclosing, you know, amidst the integration in terms of your own capacity to do so, And, you know, how does this commentary suggest, you know, potentially something more programmatic on the M&A side on the horizon? Thank you.

Yeah, great question, Matt. Thanks for asking that one. So, you know, as you pointed out, it's been a part of our strategy in both legacy companies. And as I said on the last call, and I'll say again here, this integration between BFS and VMC could not be going better. Our teams have come together extremely well. You heard our comments on the synergies. We're ramping those up. We're having great success. The teams have meshed together extremely well. And obviously, based on our first quarter results, we stayed focused on our customers and meeting their needs, which is exactly what we needed to do. Importantly, you know, the fourth pillar of our strategy is M&A. And we have an extremely strong balance sheet. You know, as we've talked about, we have a relatively small overall share in a very large market. It's an important part of our strategy. We've got the wherewithal and the focus to continue to drive acquisitions. And as you pointed out in my comments this morning, we're focused on it.

Wonderful. Okay. Well, helpful call there. And then the second one, I wanted to ask on manufactured products again, because, you know, at a high level, you would say it's not a coincidence that with framing lumber prices this extreme, you know, in the near term that, you know, may foster adoption of prefab components. My question is, is that too simplistic? Or have you found that, you know, as into this spring that builders are actually coming to you even more so now looking for options to address this issue and what you can do for them on the component side? And really, you know, longer term, does something like this you think impact the penetration of manufactured products going forward?

Thank you. Sure. I think what you've seen is steady adoption of these component categories over the past several years in both legacy companies. Obviously, we've got a very strong team on it. As Peter has mentioned, you know, we've added capacity in several locations across the country. You'll continue to see us invest not only in component manufacturing, but automation of those facilities. to make sure that we're meeting the demands of the marketplace and we're providing as high quality and consistent product as possible. To your question, I think the adoption continues to accelerate. Some of it is probably related to, you know, what's going on with commodities near term. But more importantly, and I think more broadly, what we're seeing is the customers that have experienced the benefits of our component offerings are adopting those more rapidly across their geographic footprint. And that's probably the greater tailwind in what we're seeing here over the near term. I do believe it's sustainable. I believe we'll continue to convert the market this way, and we'll continue to invest in this category of the business.

Makes sense. Yes, that's exactly what I was wondering. So thank you for those details, Dave, and congrats, and good luck this year.

Thanks a lot.

Thank you. Thank you. And we'll take our next question from Mike Dahl with RBC Capital Markets.

Thanks for taking my questions. My first question is, I'll keep probing on manufacturer. I mean, tremendous results there. If you were to kind of run rate or analyze the levels that you're seeing today, what utilization rate would you be at across your components footprint? And can you elaborate a little bit more? You talked about adding shifts and investments. Could you kind of just refresh us or? outline some of the incremental steps that you're taking, if possible, any sort of quantification around additional investments and plans that, you know, may or may not have changed over the past few months in terms of plans for 21?

Sure. Yeah, I mean, for context, you know, we've got well over 100 facilities. We've opened between the combined entities around 13 over the last few years. We've continued to invest in terms of the capacity utilization. You know, a recent analytic on a single shift baseline would say we were about 75% capacity, at about 75% capacity. And, you know, Mike, we've talked about this before. That's very, that's a tough description because that's on an average. So you've got some facilities that are below and some above that number. But we certainly have a, you know, a really nice trajectory right now in terms of being able to leverage those new facilities, get them more fully ramped up, but also be able to do things like add second shifts, which as you know, doesn't quite double, but nearly doubles the capacity of any given facility. Also adding lines, also adding automation equipment to increase the productivity and capacity of any one of those lines. That's been the primary way that we've responded You know, more recently, our Riverside facility in California has come up and running. You know, we've been able to add capacity at other facilities, a number of other facilities, double-digit facilities around the country through new equipment. So, certainly, it's an area that we've gotten pretty good at extracting more volumes. But at the end of the day, our forward look is absolutely adding footprint. New locations around the country, the adoption in certain markets in particular is very encouraging. And we see that as a long runway of strength as, you know, admittedly the adoption is good, but the incremental share of how much of the home is built off-site is continuing to grow. We think the trend continues to come our way with those labor costs going up, which inevitably happens in a market like this. But every time a cost goes up, those efficiency savings that we provide with manufactured products are magnified. We can save, you know, 10 board feet of waste on a particular trust. It's more meaningful at $1,600 than it is at $400.

If he was right on, and just to add an exclamation point to that, you know, we talk about our number one priority for uses of capital to be reinvesting in our company. The first portion of that goes to maintaining our facilities and making sure our people have what they need to get our products to the customers. The second order of priority is this area, our value-added capabilities and continuing to invest heavily in that area of the business.

That's great. Very helpful. Second question, much as I'm tempted to push you on some of your conservatism around commodities, I'll switch over to the capital allocation question. To your point, Dave, I mean, there's obviously first and foremost investments for organic growth. You talked about the M&A pipeline a bit also, but if we look at your cash flow and your leverage profile, I mean, you're on track to be, you know, zero net leverage by year end, if not in a net cash position, you know, barring future M&A. And so when you look at that pipeline, as impressive as it is, it seems like there's going to be plenty of excess cash flow available beyond your organic investments beyond M&A. As you think about kind of priorities for that use of cash and comfort level in terms of then actually implementing a plan, whether it's buybacks, dividends, can you just give us a little more color or an update on how you're thinking about that? There just seems to be an awful lot of dry powder.

You're right, Mike. We have a very strong position right now. Our cash flow is tremendous. We've talked in the past about wanting to maintain a fortress, a bulletproof balance sheet. I think we have every reason to be confident in that right now based on what we've done, and we'll continue to stay vigilant. Dave mentioned our priorities around capital allocation with regard to internal investment and expansion internally and organically, but also the inorganic opportunities are certainly out there. I think it's a fair question, right? We are going to generate a tremendous amount of cash And I'm very specific when I say going to, because as you see in our results now, we borrowed money this quarter. So we're not sitting on cash. This is not a burning platform. We are absolutely looking at it. We continue to work with our board, come up with strategies that we want to put to work in terms of putting all of our capital to work in an efficient way. We've talked in the past about being committed to retaining some level of leverage in order to maximize shareholder return. We will stay committed to that. We just don't have any new announcements today.

Okay. Appreciate it. Thanks for the call. Thank you. And we'll take our next question.

This comes from David Manthe with Baird Capital.

Yeah. Hey, good morning, everyone. Good morning, David. Clearly, you raised your guidance for single-family housing from high single-digit to low double-digit growth, and it's safe to say that you're not seeing any signs of demand destruction because of the high lumber prices, I should say. And then what I'm wondering is, are there any changes in tone of the business in any other way? I'm thinking like, you know, what you're seeing in size of homes or stress on custom home builder balance sheets or anything that's beyond the obvious here, sort of a tangent, something else we should think about as it relates to these unusually high lumber prices?

Yeah, that's a great question. We're keeping our ear to the ground on that because obviously we're making sure that our optimism at this point isn't misplaced. The short answer is no. You know, the demand is tremendously strong. One of the things we said in the last call that I think was met with a little bit of skepticism is this idea that there's going to be a limit on how many homes builders can build, even though there's virtually unlimited demand for those same homes. The level of announcements, I don't remember which analysts put it out there, but 54% of home builders have announced constraining sales in some number of communities around the country. They're recognizing an inability to deliver homes at that high level. That, again, is really a sign of that strong demand and it's far less about suppression of that demand by the level of prices as we see today. Some of these prices will normalize on their own. That's definitely a theme of ours in terms of commodities that we do expect it to normalize over time. But in the meantime, it is certainly a matter of responding to that continuing strong demand you know, keeping up with those shortages around the country and staying disciplined in our management of, you know, both the flow through to maintain our position as a premier supplier, but also to maintain our management over prices and make sure we're fairly compensated for the work we're doing. But strength across the board.

Okay. And then when you noted that you're adding ship, Some other companies we talked to are saying that they're competing for talent with the Xbox right now. What are your views on labor, not so much your customers' labor situation, but your own labor in terms of your access to adding people today? Okay.

Yeah, I think that's pretty consistent over the years. It's regional. We haven't seen widespread inability to get people the usual pockets of demand, drivers, you know, certain members of the trust manufacturing world challenging in certain areas. You know, there's things you can do. There are, you know, certainly we're doing well. Our profit sharing and bonuses are motivational to folks. We like our driver pay. you know, models in a lot of markets, and we're continuing to enhance that, certainly looking at shift differentials. So there are things you can do to react in a measured way that allows you to, you know, evolve and respond depending on how the market is doing. If things pull back, we could pull back. But we haven't had any massive issues to date, you know, pockets here and there.

It seems like these trends are playing to your favor, which sounds good. So thank you. Best of luck, guys. Thank you.

Thank you. And we'll take our next question. This comes from Keaton Montora with BMO Capital Markets.

Thank you for taking my question. I want to come back to, you know, sort of the value-added products that you all have. As you look out over the next, you know, kind of three to five years, and clearly it seems like, you know, the housing backdrop is supportive. How do you think, you know, how do you see that sort of mix evolving from the current sort of 42% that you have right now? And within that kind of where do you see the most opportunity? And just related to that, how does it kind of shift your margin profile?

Yeah, so it's a great question.

This is a dynamic time. This whole, you know, commodity pricing being at record level certainly has thrown us a curveball. You know, I would say that the mix of the business, just because of the mathematical change, has shifted towards commodities. It's probably roughly 50% at this point based on the increased prices. On the long term, though, the way we see the dynamics is very similar to where we were 12 months ago, and that's that value-add continues to be an increasing part of the business. Over the last couple of years, at least, it's been the biggest component of the business, with value and specialty making up, you know, 60-plus percent of what we sold in an average year. We think that continues. We think the trend of the broader product portfolio, as well as the emphasis and the dependence of the greater home building market on this offsite approach, given its efficiencies, given its, you know, ability to be safer and cost less in total, we think that continues to grow. There kind of is no top side to that. You know, we talk about BFS, you know, back as we came, out of the Great Recession before the ProBuild merger was about 50% value-add. You know, certainly think that's an achievable goal in the long run. But, again, this is a long game we're playing.

I think what you've seen over time is both legacy companies had a strong emphasis on pricing models and getting more efficient at how we take price to the marketplace. And then, secondly, you know, that margin profile, as Peter pointed out, will continue to improve based on our penetration of value-added products, which we see no end to.

Got it. That's very helpful. And then just one other clarification. Peter, in your prepared remarks, you kind of referenced your expectation of lumber prices kind of normalizing by the fourth quarter of 2021. Is it fair to say, you know, kind of normalize, you're looking at something sort of in the historical average range of 400? Is that the right way to think about it? And I understand, you know, kind of prices, you know, are very volatile, but I'm just curious at a high level.

Yeah, that's how we think about it. That long-term average feels like the reference point that we need to continue to communicate against, recognizing that, you know, there's a displacement right now in prices, displacement in demand and supply. Probably the primary should be in supply. But eventually, it'll likely go back to a more normalized long-term average, that 400 range. It's really just a matter of, you know, when. Are we right on that? We know we're not right. That's the nature of commodity forecasting, so we figured we'd give you a sustainable, consistent target to head towards when you think about our numbers, and you can adjust as you see fit in terms of your expectations of lumber prices.

Got it. That's very helpful. I'll turn it over. Thank you.

Thank you.

Thank you. And our next question comes from Ruben Garner with The Benchmark Company.

Thanks. Good morning, and congrats on the results and the outlook, guys. Very impressive. Thank you. Let's see. So, question, manufactured products has been hit pretty hard so far, you know, question-wise. The 40-plus percent growth that you saw in the quarter versus the, I think you said, 7% in windows, doors, and millwork, is that just a function of timing of when those products are used in the job cycle? Is that just kind of showing you how maybe there's an acceleration in use of your manufactured products? Or is there going to be a, you know, a backlog of activity that you're going to see kind of an acceleration in the windows and doors as you move through the through the year?

Yeah, good question. I think it's twofold. I think, you know, I think the whole build cycle, as we've seen, you know, completions get extended out here has just been extended. So it's just changed the point at which, you know, our millwork is brought into the home. And then secondly, we've talked a lot about this, Ruben, the supply constraints have been hit pretty hard in the windows and door piece of the business. And, you know, we're getting what we need, but it certainly has had an impact on our growth. for the near term. We expect that it will correct here for the course of the year.

Perfect. And then I love the comment about kind of normalizing lumber and you guys are growing at an 8% CAGR in the last few years. What did the EBITDA flow through look like on kind of a normalized basis? Is there a good way to think about that?

Yeah, that's a great question. You know, in looking at that analysis historically, we did get kind of a better sense. And you've heard us, Ruben, talk about how we've got 12% to 15% fall through as sort of our standard incremental around sales. What we've noticed in these numbers is that the inclusion of the value-add mix, the inclusion of the operational excellence has actually driven that a little better. So we're in that kind of high teens range or the fall through related to our incrementals when you include all of those components, the growth of the business. And then specifically to point out right now, the nature of commodities and the way that the market has changed, the constraint, the velocity of everything, that fall through is actually a little higher. That's probably right around 20% right now. So, you know, pros and cons of that, certainly taking advantage of it right now, but, you know, something to think about in the long run.

Wow, that's very helpful.

Thanks, guys, and congrats again on the quarter. Good luck as you move to the year.

Appreciate it. And our next question comes from Stephen Ramsey with Thompson Research Group.

Hi, good morning. I wanted to dig in synergies a little bit. that you're ahead of target, which is great, but maybe can you describe if that was maybe some conservatism going in, what areas you're ahead on and what is causing that? And then lastly there, do you see this as getting to your target synergy faster or potentially raising the total synergy target as you make more progress?

Yeah, good question. You know, I don't think we went into this intending to be conservative. You know, that $130 to $150 million range, you know, is solid, and we're executing very well. And as you heard me say, you know, the teams have come together extremely well. And what I think is benefiting us are two things. One is the cultural alignment of these two legacy companies, very, very similar. And then secondly, and perhaps to your question a little more importantly, is the experience that our teams have had in executing large mergers in the past. Our teams knew what to expect. We had very strong leadership that's been through this before, and we just got on with business. And so I think that's reflective of the early ramp-up that we've seen here, you know, over the first quarter of work. You know, we're excited about it. You know, if we can deliver more, we certainly will. But I would say, you know, at this point, we're ahead of our plan and feeling good about the momentum.

Okay, great. And then last one on kind of the networking capital investment cash outflow there. Would this have been a greater cash outflow without material constraints that you guys have seen and relative to the cash outflow? I can't remember if you discussed how much of this was due to investment to get the synergies.

Yeah, from a cash outflow perspective, the investment percentage is pretty modest. We had talked about it being in the similar 130 to 150 range for expenses. I certainly don't think we're going to outspend that forecast either. Yeah, the investment is really just in the incremental value of the inventory that we're maintaining. the normal increase in the amount of inventory that we would maintain at our yards in order to carry the increased level of business just seasonally, and then probably, you know, most importantly at the end of the day, the incremental accounts receivable that ends up on the books at these higher price levels across the board. Would we otherwise have had more if not for the material availability constraints? I think the answer is unequivocally yes. I don't know how much more and really run the math on that, but certainly there are areas around the country where it's quite difficult to get the level of inventory that we would normally have, you know, especially products like OSD, for example, just extremely difficult to make sure you have what you need. And, you know, while we feel like we get more than our fair share, we'd sure like more.

Great. Thanks for the color. Thank you. And we'll take our next question from Trey Groons with Stevens.

Thanks. This is actually on for Trey. I just want to say, again, congrats on the really strong results. Thank you. So, first, following up on, I guess, the answer to that last question, you know, there's been a lot of talk of material constraints across the industry. But overall, they don't really seem to be holding you back. So maybe if you could just speak to your outlook for lumber and other product availability with everything being so short and just how you're able to manage through that.

Yeah, I think, you know, to a large extent, you're seeing two or three things happening right now. First of all, I think you're seeing the power and the strength of the platform that we've put together here with our unmatched geographic presence and the strength of our team. Secondly, I think you're seeing the power of the strong relationships that we've built through both legacy companies with our suppliers, and they're doing their very best job to meet the needs that we have. And then third, I think we have seen a shift in the marketplace where the builders, just given the significance and the broad breadth of the supply constraints, have been a little bit more brand agnostic, I think, to what they're putting into their homes. just driven in large part by the need. And then given, you know, the access that we have to the broad base of suppliers and products, you know, we've been able to meet those needs probably better than most. And we'd expect that to continue.

And from a forecast perspective, you know, we've talked about the inability of the broader industry to meet the massive amounts of demand. Noah, I know you know this, but for the broader group, we've talked about the seasonal capacity availability, that the shoulder seasons by nature offer more opportunity for rapid percent growth. We always would have expected a far higher year-over-year percent growth in Q1, candidly Q2 because of the COVID lapping, and Q4 just because summer months always are maxed capacity every year. So, we fully expect the ability to grow on a year-over-year basis to be suppressed as we get through those summer months. But, you know, that's already accounted for in our numbers. It's nothing new. But I think it's just important to keep in mind that those, you know, off-season, if you will, shoulder-season type of quarters will naturally lend themselves to eye-popping percent increases.

Yes. Yes, that makes sense. And then just for my follow-up, on the free cash flow guide, how much is expected from lower commodity prices flowing through to working capital?

Yeah, so I actually feel pretty good about that forecast, regardless of whether or not prices for commodities come down or not. Just because of the way the math works, if prices come down, I spin off cash, and if prices stay up, I make more EBITDA. So that's... All right, perfect.

Thanks, and good luck going forward. Appreciate it. Thank you.

And our next question comes from Jay McCandless with Wedbush.

Hey, good morning, everyone. So my first question, I know you all gave the growth rate on value-add, but what, as a percentage of net sales for this year and last year, What was the value-add percentage?

The value-add percentage for the prior year? I'm not sure. Well, for this year and for the prior year. Yeah, so value-add a year ago, I want to say, was right around 40%, 41%. This year, it drops to 30%. Is it in the presentation? 36%?

36% or something.

36%, 37%. So you lose a few bips. It grew fast, but that window stores and millwork pulls down the average. You know, where you saw the shrinking of the mix was really in the, you know, the R&R, like you'd expect, right, the R&R, the multifamily, some of those other areas that just don't keep pace right now with the single-family starts businesses or products.

Got it. And then I just want to clarify, the builders may be slowing down some of their sales, but they're not slowing down on the backlogs, correct? Because what we've heard is that cancellation rates are way down and that the builders still have a pretty, you know, in general, a pretty heavy backlog to fill out. Is that still the case? No question about it. They're full steam ahead.

Yeah. Those guys are full off. They're not pushing out sales because they need them. They're pushing out sales because they're full to the brim. Okay. All right. That's all I have. Thank you.

Thanks, Jerry. Thank you, Jerry.

Our next question comes from Kurt Inger with DA Davidson.

Great. Good morning, everyone.

Good morning, Kurt.

Hey, I just wanted to start on commodities. How has this volatility in the current environment changed how your customers kind of purchase a framing package today? And what type of risk are you willing to take in terms of locking prices for a certain period of time?

Yeah, I don't think it's fundamentally changed how people think about purchasing. I think there's certainly a bigger emphasis on making sure they're staying efficient, which I think lends itself to some of this off-site manufacturing product model that we sell. I think there's also a willingness to consider substitution, species and material substitution. We've certainly heard a lot more about that. It's an availability game, right? You're trying to make sure as, well, as a home buyer, trying to make sure you get a house. But as a home builder, you want to make sure you're able to stay on some sort of a schedule. So the expectations, the ordering ahead, for us, it's making sure that we have a significant percentage of our buy that's on a contractual basis so we make sure we're getting our place in line, if you will. You know, historically, and I know you know this, Curtis, that we've maintained a goal to keep a steady flow. We are going to be in the market consistently over time. At our scale and our size and our demand around the country, we don't just sit on the sidelines for any meaningful period of time. That is true now. That will continue to be true. I think that maintains our relationships with the mills in a very positive way. And we will continue to make sure we're building up inventory. You know, you've got to be in this game for the better or for worse. You know, we've talked about in the past in terms of fixed price contracts. Certainly those contracts have shrunk in recent months and year as a percentage of our total sales. But it's still, I think it's representative of the type of commitment we have to our customers that we've got the balance sheet, we've got the credit, we've got the relationships. We're your partner that you want to rely on to be able to get you what you need for you to be successful. And we're committed to having inventory to do that.

Okay. Okay. So to the extent that, you know, we were to see commodity prices roll over, you would still expect some kind of short-term benefit just from the trend in prices. Is that fair?

Yeah, but certainly less than it used to be, right? With a reduction in the amount of fixed price contracts, you'll see less suppression on the way up and less expansion in the way down of the gross margin percent. Okay. Got it. I did mathematically get smaller.

Right. Right. Okay. And then just my second one, you know, it sounds like you're pretty confident in the year one synergies. Could you just talk a little bit more about some of the other focus areas in terms of operational excellence and You know, any examples of wins as far as shared best practices since the businesses have come together over the last couple months?

Yeah, I think this is a great area of what I mentioned earlier around cultural alignment because, you know, if you recall, both legacy companies had a strong focus on operational excellence, and we just carried that through. We've merged the teams together and have already started to focus on that in addition to the synergies. And, you know, some of the early things are just, You know, how do we most effectively get our products to the customers given the footprint that has come together? And we have seen a lot of benefit in taking miles out of the system in terms of how we've executed that, shifted some customer demand from one location to another, and, you know, we're seeing that benefit in the bottom line. So things like that, you know, where and how much inventory that we keep, you know, these are some of the early wins that the teams are already executing on.

Got it. Appreciate it, Keller, and good luck here in Q2, guys.

Really appreciate it.

And we'll take our next question from Stanley Elliott with Stiefel.

Good morning, everyone. Thank you all for squeezing me in. When you think about the M&A business, I mean, obviously you've got a very strong platform for it. Are you seeing some of these smaller operators come to you looking as an exit strategy for them in lieu or ahead of potential tax changes or any changes or any issues they may have from a capacity standpoint given the credit line increase, I imagine, for a lot of the lumber and et cetera? Yeah.

Yeah, I mean, every day, right? I mean, M&A, being the big dog means everybody calls us. So we absolutely are everybody's exit strategy, which we love.

The phones have been ringing.

Let's just say that. You know, and it's important to go in that dynamic, right? You have to keep in mind as a buyer the reality of what is a sustainable business? What is a mid-cycle business, right? You can't pay the same multiples on a peak business. But there are tremendous opportunities out there to buy at reasonable multiples, really tremendous assets. So it's good times.

Yep, no, exciting for sure. And then in terms of the footprint expansion and the focus on the manufacturing side, are you all having any problems finding real estate? Are supply chains constrained in terms of getting the machinery in? Anything like that that would keep you from executing on that part of your strategy right now?

I would say less on the real estate side, certainly on the equipment side. You know, the lead times on equipment have expanded over the last 18 months or so, but our teams are ahead of that and taking that into account. We're already ordering things that we don't expect to put in the ground for quite some time. So, you know, we've got a pretty strong forward look on that. Again, the teams have come together well. We've got experts around things like trust manufacturing. They know what they need and how to get ahead of it.

Perfect, guys. Thank you very much. Congratulations. Best of luck.

Thanks. Thank you. Thank you. And we'll take our next question. This comes from Colin Barron with Jefferies.

Great quarter, and thank you for taking my question. It looks like your guidance implies a full year EBITDA margin in line with your 1Q of almost 11%. Just given 1Q is typically the seasonally lowest EBITDA margin quarter, can you just talk about the cadence of your expected margin performance through the rest of the year, and then just how you're thinking about EBITDA margin over the long term?

Yeah, so, I mean, I won't break out the quarters, but, yes, there's certainly a – An expectation that our EBITDA margins are going to be higher this year. Our flow through has been great. Our demand, obviously, has been very high. There is certainly a seasonal nature to what we do. So, you know, inevitably, you'll see some nice quarters during the summer when we reach our peak utilization and peak leverage. You know, the nature of our long-term, you know, I think we've consistently talked about believing we could get to 9%, 10% EBITDA. We're certainly working on that internally every day in regard to what Dave was talking about on operational excellence, the efficiencies that we think we can bring into this business, this industry. you know, through technology, through operational improvements, through process. So certainly committed to that and believe that in the long run. You know, the dynamics around any given quarter obviously are a little bit unique. But for this year, it is going to be an exceptionally strong year given the combination of high demand and, you know, record prices in certain products.

Great. Thank you for taking my question.

Thank you. And we'll take our final question from Brian Gilbert with VTIG.

Hey, morning, guys.

Morning.

Morning. First question, more on manufactured products. I'm wondering if you're seeing any builders or an increased percentage of builders either going deeper into manufactured products, off-site manufacturing, or exploring opportunities to do so more than just buying a roof truss or a wall package? like maybe what Rainey has been doing in Florida?

Well, certainly Rainey has done exceptionally well in a market like this. They're a great provider and I think very valued by their home building customers. You know, and I think Dave alluded to it before, it's really been consistent. It's not as if we ever had a lull in the demand for increased utilization. There are absolutely markets around the country, and I think we've alluded to this before or talked about this before, where historically you would not have expected to see a lot of demand for, you know, that off-site fabrication type of work. A state like Texas is a good example. You know, historically very low labor rates precluded the need for the labor arbitrage that comes from, you know, the off-site fabrication. Those days are gone. You know, there is absolutely strong demand in Texas. It's strong demand across the country. It's just hard to, it's kind of hard to tell the difference. You know, carrying 500 pounds or carrying 550 pounds, I'm not sure I could tell you what the difference feels like. It's a lot.

Okay, got it. You're adding capacity on the manufactured product side. Are you seeing your suppliers either in lumber or in millwork doors and windows also add capacity or is it, has it been pretty consistent?

We are. Yeah. Yeah. You know, we've heard, you know, Peter mentioned earlier about the tightness in OSB. We've heard there are a couple of mills up in Canada that are coming back online, you know, the same in the US, particularly in the South on the lumber side. So we're expecting that hopefully will help from a capacity standpoint. And obviously, the window and door manufacturers are making similar investments here to try to capture as much of this demand as possible.

Okay. Thanks very much.

Sure.

Thank you. Thank you. And this concludes today's Q&A session. I would now like to turn the conference back to Mr. Michael Neese for closing remarks.

Thank you for your time today and for your interest in Builder's First Source. We're around all day to take your questions. Take care and stay safe.

Thank you. Ladies and gentlemen, this concludes today's call. We thank you for your attendance and participation, and you may now disconnect.