Colgate-Palmolive Company

Good day and welcome to today's Colgate-Palmolive Company Third Quarter 2021 Earnings Conference Call. This call is being recorded and is being semi-classed live at www.colgatepalmolive.com. Now, for opening remarks, I would like to turn the call over to Chief Investor Relations Officer, John Fauché. Please go ahead, John.

Thanks, Jennifer. Good morning and welcome to our 2021 Third Quarter Earnings Release Conference Call. This is John Fauché, Chief Investor Relations Officer. Today's conference call will include forward-looking statements. Actual results could differ materially from these statements. Please refer to the earnings press release and our most recent filings with the SEC, including our 2020 Annual Report on Form 10-K and subsequent SEC filings, all available on Colgate's website, for a discussion of the factors that could cause actual results to differ materially from these statements. This conference call will also include a discussion of non-GAAP financial measures, including those identified in Tables 8 and 9 of the earnings press release. A full reconciliation to the corresponding GAAP financial measures is included in the earnings press release and is available on Colgate's website. Joining me on the call this morning are Noel Wallace, Chairman, President, and Chief Executive Officer, and Stan Satula, Chief Financial Officer. I will provide commentary on our Q3 performance, as well as our latest thoughts on 2021 guidance, before turning it over to Noel to provide his thoughts on how we will continue to deliver on our growth trajectory. We will then open it up for Q&A. As usual, we request that you limit yourself to one question so that as many people as possible get to ask a question. If you have further questions, you are welcome to reenter the queue. Our focus on innovation, premiumization, pricing, and productivity allowed us to deliver solid Q3 and year-to-date results despite a very difficult operating environment. We continue to deliver against our targets because we are executing consistently on the strategy Noel laid out at Cagney back in 2019. We are focused on delivering consistent, sustainable, profitable growth, both volume and pricing growth, growth in all of our categories, growth in all of our divisions emerging in developed markets. And this has enabled us to deliver 11 straight quarters with organic sales growth in line with or above our long-term target of 3% to 5%. This is despite very difficult comparisons and a challenging operating environment. The current operating environment is challenging in many different ways. Consumer mobility is limited in many markets, particularly in Asia, due to government restrictions to stop the spread of COVID-19, which is having a negative impact on category growth. These restrictions have also led to temporary closure of manufacturing facilities across many industries, as you have heard in the news, and from other companies. We are not immune to these restrictions, although given the essential nature of our categories, we produce products that people and their pets use on a daily basis to lead healthier lives, we have been able to resume production throughout our network, although sometimes at a lower than normal level. This did have a slight impact on sales in the third quarter, and we expect a modest impact in the fourth quarter, as we ramp production back up. We are fortunate to have a flexible and resilient global supply chain that has helped us to offset some of the effects of these supply chain challenges, albeit sometimes with additional logistics costs. Speaking of logistics, the stress on global logistics networks is creating shortages of raw materials, lengthening shipment times, increasing costs, and adding additional uncertainty. All of this is on top of the significant increases in raw material costs and continued movement in foreign exchange. These challenges will continue into next year, but we will continue to meet them head on. Our net sales grew 6.5% in the quarter, driven by 4.5% organic sales growth and a 2% benefit from foreign exchange. Our organic sales growth in the third quarter was led by oral care, where we were up mid-single digits, and pet nutrition, where we were up double digits. We delivered organic sales growth in home care despite a difficult comparison, which puts our home care business at double-digit growth on a two-year stack. As expected, organic sales and personal care declined mid-single digits as we lapped the COVID-related growth in liquid hand soap in the year-ago period, but sales remain above 2019 levels. We grew volume 1.5% in the quarter. Pricing grew 3% in the quarter, up sequentially from Q2, despite a more difficult 4.5% comparison. as we continued to layer in new pricing to try to offset accelerating raw materials costs. Pricing was up in every category and every division. Raw materials continued to increase in Q3, putting further pressure on our gross margins despite additional pricing and productivity efforts. Our gross margin was down 180 basis points in the quarter. Pricing was a 110 basis point benefit to gross margin, while raw materials were a 510 basis point headwind despite a slight benefit from transactional foreign exchange. Productivity was favorable by 220 basis points. On a GAAP and base business basis, our SG&A was up 50 basis points on a percent to sales, driven by significant increase in logistics costs as advertising was up on a dollar basis, but flat on a percent to sales basis. Excluding logistics and advertising, our overheads were down slightly on a dollar basis, and down nicely on a percent-to-sales basis. We continued to increase our investments and capabilities like digital, e-commerce, and data and analytics, but this was more than offset by sales leverage and tight expense controls. For the third quarter, on a GAAP basis, our operating profit was down 5% year-over-year, while it was down 3% on a base business basis. Our EPS was down 7% on a GAAP basis and up 3% on a base business basis. A few comments on our divisional performance. Net sales in North America grew 1% in the third quarter, with organic sales growth of 0.5% and 50 basis points of favorable foreign exchange. Volumes were flat in the quarter, despite a negative nearly 400 basis point impact from lower liquid hand soap volumes, while pricing was slightly favorable. We made significant progress on our North American business in the quarter, with solid oral care growth driven by mid-single-digit growth in toothpaste, which led to improved toothpaste market share performance through the quarter. Personal care and home care were both down as we lapped COVID benefits in the year-ago period, although Elta MD and PCA Skin delivered strong growth in the quarter. North America operating margins were negatively impacted by raw materials and higher logistics costs. The impact of plant closures on our global supply chain required us to incur additional air freight charges to fulfill customer orders in the quarter. We also incurred some additional manufacturing costs in the quarter that should help improve the long-term profitability of the division. Latin America net sales were up 11%, with 8% organic sales growth and a 300 basis point benefit from foreign exchange. All three categories delivered organic sales growth in the quarter, with oral care organic sales growth in the high single digits. Volume was plus 2.5% in the quarter, while pricing was up 5.5%. Brazil and Mexico led the growth in the quarter, while Colombia delivered double-digit growth following last quarter's political unrest. The natural segment continues to be a key driver of growth for us across Latin America, particularly Colgate Natural Extracts Charcoal, and we recently launched Colgate Zero Toothpaste in Brazil. Our strong Latin America pricing growth highlights the success of our revenue growth management program with a combination of list price increases, premium innovation, and trade promo adjustments. Europe net sales grew 1% in the quarter, with organic sales minus 1%, and foreign exchange adding 2%. Volume was down 1%, and pricing was flat. Oral care organic sales grew high single digits, while personal care organic sales were down sharply, driven by difficult liquid hand soap comparisons due to COVID-related consumption in the year-ago period, and a decline in Philorga duty-free sales. Colgate Elixir toothpaste continued to drive growth in the quarter, along with strong contributions from LMEX and Meridel. Asia-Pacific net sales grew 1%, and organic sales declined 0.5% in the quarter, with volume down slightly and pricing in foreign exchange both slightly positive. Oral care saw low single-digit organic sales growth in the quarter, while personal care and home care were down due to difficult COVID comparisons. We did see government-imposed mobility restrictions negatively impacting category volumes in several markets, including many in Southeast Asia. India and the Colgate China business both delivered strong volume growth behind robust innovation in the Ayurvedic segment in India and in e-commerce in China. Our Holly and Hazel JV saw significantly improved performance in Q3 versus Q2, with trends also improving sequentially through the quarter. Africa-Eurasia net sales grew 1% in the quarter, with an organic sales decline of 1%, lapping double-digit organic growth in the year-ago period, more than offset by a 2% positive impact from foreign exchange. Volumes were minus 4.5%, while pricing was plus 3.5%. The organic sales growth decline in the quarter was driven by personal care, as we lapped double-digit growth in the year-ago period due to COVID-related demand and pricing. Oral care organic sales in the quarter were flat, as disruptions in the global supply chain had a negative impact on product availability. Hill's strong growth continued in the third quarter, with 20% net sales growth and 19% organic sales growth, with strong growth in both emerging and developed markets. Organic sales growth was driven by double-digit volume growth and high single-digit pricing through list price increases and our premiumization strategies. Our focus on the microbiome, which Pat Verdun talked about during our Cagney presentation this year, continues to pay dividends with the ActiveBiome Plus technology, including in Hill's prescription diet, Gastrointestinal Biome, and Hill's science diet, Perfect Digestion, both of which are driving sales growth and share in this important segment. And now for guidance. We still expect organic sales growth for the year to be within our 3% to 5% long-term target range. As I mentioned previously, we have seen an impact from government actions to stem the spread of COVID-19, including reduced consumer mobility and supply chain interruptions. We are managing through these issues, but we would expect modest headwinds from this to continue in the fourth quarter. Using current spot rates, we expect foreign exchange to be a low single-digit benefit for the year, although slightly less favorable than when we gave guidance in July. Please note that at current spot rates, foreign exchange would have a negative impact on Q4. All in, we still expect net sales to be up 4% to 7%. Given the continued pressures from raw materials, we are projecting a greater decline in gross margin than when we last gave guidance in July. Fourth quarter gross margin is expected to be roughly in line with the third quarter, although the raw material situation remains very difficult. We continue to take additional steps to mitigate the impact of these cost headwinds, including additional pricing, optimizing trade spending, accelerating FTG where available, and many others. We are focused on recouping the gross margin we have lost due to cost inflation over time and are planning to take the actions necessary to do so. Advertising is still expected to be up on a dollar basis, but flat on a percent to sales basis. Given the issues surrounding logistics networks on a global basis, our logistics costs will continue to be a headwind, particularly in the U.S. and Africa-Eurasia. Our tax rate is now expected to be between 22% and 23% for the year, on both a GAAP and base business basis. On a GAAP basis, we still expect earnings per share growth in the low to mid single digits, and as we said on the second quarter call, towards the lower end of that range. On a base business basis, we continue to expect earnings per share growth in the mid to high single digits. Again, we would expect to land at the lower end of that range. And with that, I'll turn it over to Noel.

Well, thanks, John, and good morning, everyone. So what I take away from our performance, I guess both in the third quarter and on a year-to-date basis, is that we continue to make good progress on our strategic and operational journey, despite the significant volatility we are encountering across our entire business. At the heart of this is our strategy to deliver broad-based, sustainable, profitable growth, every division, every category, both volume and pricing. That's our aspiration, and over the past few years, we have changed our mindset about how we drive growth. We're more proactive in attacking the opportunities for growth. Think core, premium adjacencies, faster alternative channels and markets. And of course, we've talked a lot about building capabilities. Think digital, data, e-commerce, innovation. All of these are helping us mine these important areas of growth. While lapping our most difficult comparisons in over a decade, We've delivered organic sales growth at the high end of our long-term target range of 3% to 5%. And on a two-year basis, both pricing and volume growth increased sequentially in the quarter. Importantly, this growth is being driven by our two most important categories, oral care and pet nutrition. Oral care organic sales were at mid-single digits in Q3 against the mid-single-digit comparison and are at high single digits year-to-date. We're driving this growth through more impactful innovation, share growth and faster growth channels like e-commerce and pharmacies, and hire more efficient marketing spending. Our premiumization strategy is paying off with our focus on breakthrough and transformational innovation, changing how we interact with the people who use our products. A great example of this is how we've changed our approach to whitening. In the U.S., you're familiar with optic white renewal, which has done incredibly well. Outside the U.S., the story needs to be more about just hydrogen peroxide levels. In China, it's about enzyme-based whitening. In other markets, we have whitening products targeted towards consumers who love tea or coffee or consumers who love wine or tobacco. We're targeting the whitening opportunity much more broadly with new technologies, formulations, and delivery systems expanding our growth potential. Pet nutrition organic sales growth was up 19% in the quarter against an 11% comparison and is now up 14% year-to-date through quarter three. This growth is driven by Hill's science-based equity messaging behind our core. It's driven by meaningful premium innovation and the continued expertise of our digital and e-commerce teams. The launch of Prescription Diet Derm Complete shows breakthrough therapeutic nutrition for both food and environmental sensitivities has led to share gains in the category and is being rolled out internationally over the next few quarters. Hill's goal of ending pet obesity, where studies show over 50% of pets are overweight, It's the impetus for our Hills Master Brand campaign. This campaign has been rolled out globally and has driven growth in both our therapeutic and wellness anti-obesity products. In this type of environment, we couldn't deliver the results this year without the amazing work done by Colgate people every day. Our customer development organization is reacting quickly to the changing cost environment so we can take pricing as part of the revenue growth management initiative. Marketing and R&D are working together to accelerate the launch of premium innovation to drive mix and profitability. And most importantly, our global supply chain team has delivered these results despite freight and logistics disruptions, plant closures, congested ports, and supplier outages. Importantly, all the efforts we have put into building capabilities over the past few years is not just about driving growth. It's also about creating an organization that can respond more rapidly to all these challenges we face around the world. For example, our focus on data and analytics is helping our revenue growth management program pinpoint the best opportunities for incremental pricing as costs continue to rise. We're getting this pricing out in the market more quickly, and the data that drives the process gives our people on the ground more confidence in their decisions. Our investment in e-commerce and digital marketing continues to pay off. In our six largest e-commerce markets for oral care, we finished the third quarter with year-to-date net sales already ahead of 2020 net sales. And toothpaste share growth in five of the six markets. We've implemented new media buying strategies to drive efficiencies, both online and offline, and launched a four-tier training program to enable 14,000 of our employees to help drive our digital strategies. As I've said, the key to all of this is that we recognize that the strategy is working, and while we address the pressing issues of raw materials, logistics, and supply chain, we can't lose sight of our long-term areas of focus. Our innovation calendar for 2022 will show an increase in the percentage of innovation that is breakthrough and transformational. We've announced our new sustainability and social impact strategy this year, which includes 11 new targets and actions in areas like zero waste, climate change, using less plastic, as well as bright smiles, bright futures, and our diversity, equity, and inclusion efforts. And we will continue to build our people and capabilities through new ways of working that are truly changing how Colgate people do their jobs. 2021 has been a very challenging year for us, and many of these challenges will continue in 2022, but I'm confident of the changes that Colgate people have put in place over the past several years, which will allow us to continue to deliver our goal of sustainable, profitable growth. And now I'll open it up for questions.

Thank you. If you'd like to ask a question, please signal by pressing star 1 on your telephone keypad. If you are using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Again, star 1 to ask a question. We'll pause for just a moment to allow everyone an opportunity to signal for questions. And we'll go first to Dara Mosinian with Morgan Stanley.

Hey, guys. Hey, Dara.

So, Noel, can you review your oral care market share performance globally, maybe compare and contrast some of the regions that are performing better versus laggards? And if you take a step back, looking at the strategies you laid out at Cagney a few years ago, you know, which strategies have sort of taken hold in oral care or working? Maybe what are some of the areas where you might need some more work? And if I can just slip in a related second part, can you also update us on the competitive and the pricing environment in oral care in light of the higher cost environment here? Thanks.

Sure. Thanks, Dara. You know, so overall, we're pleased with the progress that we're making on oral care, particularly in toothpaste and manual toothbrushes. If you take our shares on a constant currency basis, you know, they're relatively flat, which is better than where we had been. When you start to go around the world, particularly as you look at new channels, we're very pleased with the progress we're making in e-commerce and pharmacy. So let's just bounce around the world a bit. North America still has been a little bit soft, but we've seen the shares bounce back nicely in the last 13 weeks. And where our shares are actually flat now on an all-outlet basis, if you take e-commerce and all the untracked channels, our estimation is our shares are back to flat and U.S. slightly up. which is good progress, particularly as we've seen the acceleration of some of the premium skews that we've launched in the market, particularly whitening over the last 13 weeks. And likewise, our e-commerce shares continue to be good, not as strong as our general market, but progressing in North America. Europe, the shares have been strong. Our strategy behind Elmex and Meridal has been very successful in pushing those businesses across all of our core markets. Our shares continue to be up across that region, and we continue to see the shift toward our premium bundles. which was, again, part of the strategy change that we outlined back at Cagney that we were going to focus on underserved channels like pharmacy with some of our premium therapeutic equities like Meridol and Elmex. Latin America, the shares continue to be very strong, flat in the quarter, slightly down as a result of some of the promotional volume that we've given up in Mexico, which has been quite significant, but Brazil shares continue to be pretty good. and trending nicely, particularly behind strong revenue growth management initiatives that have characterized the Brazilian subsidiary for so long. But overall, pretty good. Africa, pretty good. Good shares in South Africa, better shares in Russia as we move to a premiumization strategy there. So we're pleased with that aspect as well. China has been a terrific performance in the quarter forest era. We've seen our e-commerce shares across both the Hawley and Hazel joint venture as well as the Colgate franchise. be the fastest growing SKUs in the market. We are the fastest growing manufacturer in the market. Our shares on the Colgate business in China now are up after many years of declines when you combine both brick and mortar as well as e-commerce. So overall, very pleased. And again, I think that's a testament to the strategy and the strategic changes we made with our portfolio. Remember that a big focus in China was getting the premiumization part of the portfolio fixed. The growth in e-commerce has all been premium SKUs, which price at about a 300 index to the general market. So, again, I think good innovation at that end of the market is helping to drive our business. And you heard in the upfront comments, obviously, e-commerce across the world, once again, is driving nice shares for us, particularly in oral care, where we've had a lot of focus. Coming back to the question around the strategy on oral care, again, the focus was premium SKUs. innovation, and new channels. And if you take our pharmacy growth across the world in toothpaste, very strong, particularly in key markets where we really focused, which have been in Africa, Europe, and Latin America, particularly Brazil, you see our pharmacy shares continuing to grow. And we've got a good pipeline of innovation coming in 2022 that's going to be specifically tailored towards pharmacy growth. And likewise, e-commerce being the other fast growth channel, and I obviously just articulated the success we're having there. Therapeutic was the other big focus that we had in Cagney in terms of where we were going to push the oral care business, particularly toothpaste. We've expanded Meridol and Elmex strategically into core markets where we see big pharmacy classes of trade and where we see the therapeutic segment growing, and our success has been quite notable, particularly in those markets, whether you look at Brazil specifically, whether you look at the Middle East where we've been quite successful as well. So, again, I think that strategy seems to be taking hold. Naturals has quite frankly been a little bit soft, and I think that's coming out of the COVID period where consumers traded to more therapeutic efficacious brands, so to speak, and the natural segment was softer than we would have expected. So hello here in North America. Shares are stable but not growing as much as we anticipated. We did indicate that we're rolling that out selectively into some core markets around the world, and that will unfold soon. in the balance of this quarter and into the first quarter of next year. So overall, I think the strategies that we outlined are working, certainly as you've seen from the results there, mid-single digits in the quarter and high single on the year for oral care, which has been absolutely terrific and consistent. And that is on top of a marketplace that, quite frankly, is growing considerably below that right now. So again, we think we're driving share globally when you look at it on an all-outlight basis.

particularly given the organic growth sequential improvements that we're seeing.

We'll go next to Peter Graham with UBS.

Hey, good morning, everyone. I hope you're doing well. So, you know, Noel, I was hoping to get your perspective on kind of what you're seeing in the current environment and how that informs your view on the growth trajectory as we look ahead to 22, right? the top line momentum is strong. And as you mentioned, inflation and FX headwinds are expected to continue. And I don't expect guidance, but I would just love to get your perspective on how we should think about margin progression looking out beyond Q4.

Well, listen, Peter, you've heard it, I think, throughout the earnings season so far that obviously cost inflation is significant for all fast-moving consumer goods. And we're certainly not immune to that. And But what we are very good at is pricing. And you've seen that consistently over time and time over the years, whether it's foreign exchange inflation or raw and packing material inflation, we have found ways over time to recover that in our margin line. And that is certainly the focus right now in the business. The good news is when you have an inflationary environment that's indexed around raw materials, you tend to have everyone looking to take pricing in the market. And that makes it more conducive, certainly, from a category standpoint and making sure that as everyone takes pricing, that the volume continues to go along with that. So we're pleased that we've seen pricing in the marketplace. We've been leading that across the board, quite frankly, particularly in the emerging markets where we've taken pricing quite aggressively throughout the first half and very much into the third quarter. And we've laid out pricing for the fourth quarter and into early 2022. So we'll see the margins begin to recover now. The environment you've heard around raw materials and logistics continues to be extremely volatile, and we anticipate that we'll continue to see some headwinds in that space. The team understands that and is putting the strategies into place in order to recover margins as we move forward. We will also be heightening our focus around revenue growth management, that discipline is going to be really embedded much more so, given the fact that we've now put some analytical processes in place to help the teams, as I outlined, which we think is terrific. It will give the teams a lot more confidence on the pricing that we're taking to ensure that we're working with our trade partners to grow category at the same time as we take pricing to recover costs. So we're pleased with that. Likewise, had a lot of discussions over the last couple months on our grids, our new product grids, relative to premium innovation and making sure that we continue to focus on that area of the business where, as you know, historically we have under-indexed and we've seen good progress against that, particularly as you look at some of the premium businesses that we have around the world, whether it be Elmex, Meridal, or some of the prices we've taken on our therapeutic bundles within the Colgate portfolio. So overall, a tough raw material environment. We'll continue to be very choppy, but we're very focused in terms of taking pricing

and ensuring that we push our premium innovation moving forward.

We'll go next to Andrea Teixeira with JP Morgan.

Thank you. Good morning. So could you talk about your supply chain? And I know you mentioned the issues in China, but I think two parts to this question, right? A is like what is happening globally? Do you see mostly things sequentially improving, or it's still very tough to service clients and customers globally? And B, I think you said there was an impact in the third quarter, and that's going to linger in China in the fourth. I'm assuming this is not material, but just wondering if you can quantify. Thank you.

Sure, Andrej. You've come to know Colgate and the fact that we consider our supply chain a competitive advantage for us, and that is the fact that we operate globally with some of the most efficient facilities around the world. And the benefit of that is obviously translated into the strong gross margin progression that we've seen over the years. That being said, when you operate a global supply chain, you're not immune to decisions taken locally that will impact that. And obviously in Asia, where we have seen governments taking actions to stop the spread of COVID, whether it be that or obviously impacting some of our suppliers and our third-party contractors, we've seen disruption in the supply chain. And as a result of that, we have the contingencies in place to move that production elsewhere, which the team has done just a tremendous job in servicing the sales need of the business. And you've seen that, obviously, in the acceleration or the continuous – good top-line growth that we've had, and that's a function of our supply chain, ensuring that we meet the demand of our products and our retailers. And we've moved production around the world to do that. That comes with a cost that certainly we incurred in the quarter. Some of the disruptions specifically related to what we've referred to in our commentary, we're moving through those very quickly. We have moved behind one that was quite significant, and we're back to where we needed to be in terms of of output and we're back to pretty close on some of the other ones. We expect that to be fully back in capacity by the end of the quarter, this quarter. But that being said, the environment is very unpredictable and we'll continue to try to anticipate some of these things moving forward as we've done. But one can never be for sure when a government decides to come in and shut down a province or an area based on their needs. Likewise, this has a big impact obviously on the rest of the supply chain, whether it be raw material sourcing, whether it be our contractors. You heard in John's commentary, we did take some decisions, particularly in North America, around some of the contractors that we use in order to clean that up and move into a supply chain strategy that allows us to exit some of those and get more efficiencies moving forward. So we're taking all the right decisions, moving through the issues that we had in the third quarter,

but we're not immune to the unpredictability of the supply chain environment that everyone's faced with today.

We'll go next to Nick Mody with RBC Capital Markets.

Yeah, good morning, everyone. Noah, I was hoping you can talk about, hey, I was hoping you can talk about PET. It's been a remarkable turnaround over the last few years, obviously improvements in market share, but also category growth. So I just wanted to see if you can unpack some of the the drivers that you see for the business, and how long do you think this higher pet adoption phenomenon that we've seen during COVID will continue to be an incremental tailwind?

Sure. Listen, the pet business has been terrific, obviously. I think a lot of the change in strategies that we deployed a couple years ago, which, again, are based foundationally on exactly all the stuff we're trying to deploy across the world, really working on the core of our business, looking at premium innovation and continuing to really dial up our focus on high growth channels. And that's exactly what's unfolded over the last couple of years. And that strategy is continuing obviously to get sharper and sharper as we execute it more broadly across the Hills network around the world. A lot of that growth has come out of North America, which has been terrific. I mean, the double digit growth compounding each other, uh, us had another outstanding quarter in the third quarter. Again, we're benefiting from a quite buoyant category, but the important part that you called out is we're growing share quite consistently, not only across our wellness products or our core products, but also our therapeutic products and prescription diet. We're seeing, obviously, veterinarians open back up. That is certainly improving the consumption of our prescription diet. We talked at length about the innovation process we have behind Hills, which I think is second to none in the category right now. bringing real science and real therapeutic benefits to pet owners, and we're seeing that translate into obviously more penetration and growing share. We continue to talk about the low awareness of hills, both in North America and around the world. That affords us the significant opportunities. We continue to build that brand consistently all over the world, and we'll continue to invest behind that business. Despite the fact that raw materials are a headwind, we're not going to jeopardize the health of the brand by cutting back on our investment. We will continue to invest to grow awareness, and that ultimately is growing penetration in the category. So we feel very good about where we are. Obviously, the comparisons continue to get tough, but those have been tough, and we continue to see good progress on the strategy, our ability to take pricing, and our ability to bring in new consumers to the franchise.

We'll go next to Chris Carey with Wells Fargo Securities.

Hi, good morning. Morning.

I wanted to get a bit more context in North America. So you said that you had incurred some extra manufacturing costs in the quarter. I think you just noted there was some efficiencies with contract manufacturers, but... The comment was in the prepared remarks, I believe, to improve the long-term profitability of that business. And I was wondering if you could just expand on that. Do you think like a lack of scale or efficiency or something else in the manufacturing base has been a cause of the margin compression in that business? And that you have opportunities to offset that? Am I reading that wrong? I guess just, you know, overall in the context of the of the pressure on margins and the commentary around some of the actions you're taking, I'd love a bit more perspective. So thanks so much.

Sure. Yeah, let me jump into that in a little bit more detail. Obviously, it was somewhat of a perfect storm in the third quarter for us as we looked at the business in North America. Significant inflation in raw materials, obviously, that came through in the quarter. Logistics was probably the most significant headwind we had in the last couple months. versus where we were previously. Obviously, you're clearly aware of the logistics industry and what's going on, tighter capacity, tighter labor, higher costs, obviously, which have obviously fueled significant increases in rates internally within North America, not to mention the fact that there's a lot of congestion going on and a lot of delays in getting product to and from where it needs to be. So as a result, we've been very focused on working with our retailers to ensure that we can continue to improve upon that. The other areas I mentioned earlier, we have this incredibly efficient global supply chain, but we do source product from different parts of the world. And you've seen, obviously, ocean freight increases increase dramatically over the last three months or four months. We have not been immune to that. North America, quite frankly, brings quite a bit of its product from overseas, while we have very substantial manufacturing presence in North America, we do bring product from overseas, which has obviously been a victim of those price increases we've seen in ocean freights. The other one is we have seen increased demand, particularly in some of our oil care products, and we want to continue to service that, as we always have, consistently and reliably to our trade partners. And as a result of that, We made decisions to air freight product in to ensure that we had sufficient supply for our retailers. That air freight did not come without a significant cost. We will move through that clearly as we move through this year and into next year. And so we'll see those costs come out. And as you alluded to in your question, we did take some important strategic decisions on how we look at our network and our supply chain, both from a contractor standpoint as well as what we source internally within our facilities. and made some decisions in the quarter that will allow us to rework some of those contracts and hopefully drive more profitability in the long term. So, you know, overall we're pleased good oil care growth, which is obviously where we want to see that business continue to grow. The business is looking at obviously a pricing environment is becoming more conducive to take pricing historically, which has not been the case. And they're very focused on their new product grids around premium innovation, which is a strong plan for 2022. and a resurgence of focus around revenue growth management, given how important it is that we offset some of that compression we're seeing at the margin line. So overall, we're a difficult quarter for North America, but they've got the plans in place, and we think some of the things that we were working through in the quarter will be behind us as we move forward in 2022.

And we'll go next to Wendy Nicholson with Citi.

Hi, good morning. You know, you guys have such huge market shares in some of your categories in emerging markets. I wondered if you could take a step back and just comment on what you're seeing. I mean, you know, we don't really have a sense for has consumer behavior changed in some of those markets? Is there a lag effect from COVID either the consumer stockpile or has there been price sensitivity change, just in some of your bigger markets. I figured you guys are a good company to ask about what you're seeing on the ground. You know, you had 3.5% growth in emerging markets on the volume side, which is good but not great. And I'm just wondering if there's something other than just tough comps, if there's a change in the way consumers shop or how much they have to spend, kind of from a high-level, big-picture perspective. Thanks.

Sure. Let me just address the 3.5% quickly, Wendy. Obviously, that was drawn down by some of the shutdowns we saw across Asia and the lack of mobility. Southeast Asia, in fact, very little mobility. We saw categories fall off quite dramatically across Southeast Asia, and that certainly had an impact on volume in the quarter. And as you heard John mention, if you really want to dimensionalize a lot of the volume softness in the quarter, it was liquid hand soap. which was a headwind of 400 basis points in the North America business alone. But let me step back to your broader question on what's going on around the world, you know, coming out of COVID and what we're seeing in terms of category behaviors. You know, oral care was not a COVID beneficiary, and obviously it was not in the same camp as we saw from some of our personal care businesses, which saw significant acceleration in consumption and a more systemic behavior change across the world. So oral care, as mobility comes back into the market, we continue to see the oral care categories growing. And that's good for us long-term. Obviously, getting more and more consumers back into stores will allow more consumption and more category-driven initiatives to take place. And so we think over the longer term, we're going to see oral care continue to accelerate. Personal care and home care were obviously quite significant beneficiaries during COVID. While the liquid hand soap has taken a significant drop off this year, it still remains above the 2019 levels. And as you rightfully said, we're the number one liquid hand soap player, certainly in North America and around the world. And we'll see that behavior at least stay with the consumer above the 19 levels, but certainly not anywhere close to where they were in 2020. Hygiene products that we're very focused on in our home care business, whether it be dish liquids, or floor cleaners, I think we'll continue to see nice growth in those categories. You heard John mentioned the home care growth that we've seen. As more and more consumers stay home, obviously there's more dishes being cleaned and more floors being cleaned, and that has allowed that category to continue to be quite robust. But as consumers move back and mobility comes back into markets or people return to work, you may see a little bit of softness in those longer term. But overall, we think we're positioned well, particularly in the oil care space. If you go to pet food, obviously the significant adoptions that we've seen over the last two years during COVID and the fact that we're now executing much, much better against our strategy, we feel very good about where things are moving there. And there has been a behavior change unquestionably in that category where consumers have returned to science and nutrition and very focused on that space, which we are obviously very driven by right now.

We'll go next to Jim Grundy with Jefferies.

Great. Thanks. Good morning, everyone. Question though, I wanted to come back to the pricing strategy and implications on gross margin over the next 12 months. Specifically, with all the pricing that's going into place, you guys have done a fantastic job with funding the growth for decades. My question is, is the intention, as you sit here today with all the volatility in the environment, that you can fully offset the input cost pressure and everything you're dealing with the supply chain perspective with pricing and productivity? Is that a realistic ambition? Is that the realistic goal as you're sitting here from a risk management perspective? Is that something you think you can do? Or is the cost inflation and supply chain pressures just too great at this point? I'm just trying to get a better understanding of how you guys are thinking about it, how you're pricing, and how you're thinking about productivity. And then if I could sneak in one related question, a lot of interest around demand elasticity, which has been relatively low, I think, across many categories, which understandably is going to vary by category, by geography, by channel. Just some broader observations there, Noel, what you're seeing so far with the pricing in place for your business would be helpful. So thank you for all that.

Sure. So, Kevin, you obviously watched us closely, and pricing has always been a key driver of our organic growth, given the how we look at the markets around the world, and we've consistently looked for quick ways to get pricing in the market, not only to drive category growth, but obviously to protect the margin, which ultimately allows us to protect the advertising. It's worth mentioning that obviously on a two-year stack, that this was the highest pricing number we've seen in many years for us. So again, I think it reflects a consistent discipline we have across the board of taking pricing quickly in the markets. You heard me talk a little bit about how we're using data and revenue growth management now to get that information on the ground quickly to the teams so they can do what they need to do to analyze to take pricing across the board. But it's not just going to be pricing. We will look at obviously premium innovation and getting our mix improved, not only within our portfolios, but channel mix as well. I talked a little bit about the importance of driving pharmacy growth around the world, which is a growth opportunity for the company, particularly in oral care. That typically trades at a much better margin for the company given the therapeutic profile of those bundles. We're obviously going to continue to embed significant revenue growth management initiatives all over the world, not just in some of the key inflationary markets. And as we talked about earlier, we're deploying some pretty nice strategies around the emerging markets right now to ensure that we get pricing up beyond just list prices. The other piece of this is productivity. Historically, you've seen us do a really good job around funding the growth. This quarter was no exception, you know, adding 220 basis points to the margin line. But we're really dialing that up, not just simply from a cost standpoint, but really looking at efficiencies across the organization. And going into 2022, looking at how we look to find optimized ways to run our business more efficiently. And we'll continue to do that as we historically have done. and find ways to pull costs out of the system. John mentioned it in his commentary, our overheads were actually down very nicely in the quarter on a percent to sales. And again, I think that's part of the cost focus that we have at looking at our business and making sure that we're finding ways to optimize. So it's going to be a multitude of different things and we'll continue to see that evolve. It'll take some time to be sure. These things don't move in a straight line. We're taking pricing where we can as quickly as we can. We're obviously watching the competitiveness of the market. But as I mentioned earlier, this is an environment that everyone is facing right now, which tends to allow everyone to find ways to take pricing up in the category. So we don't feel we will be in an anti-competitive position, but we will be very close to watch that in markets to ensure that we continue to remain competitive. The other piece of this we haven't really mentioned is the advertising, and we continue to focus on building our brands and being competitive in the marketplace, and that is a key driver of the consistent top-line growth you're seeing in the company right now. And we'll continue to do everything we can to protect that advertising line, and obviously working through the middle of the P&L will be critical in that regard.

We'll go next to Jason English with Goldman Sachs.

Hey, folks. Good morning. Thanks for coming in. I guess I want to pick up on Mr. Graham's question around margin progression, but zooming in a bit more just in North America. If we step back, I know it's a tough year with cost and logistics, et cetera, but if we step back and just look over the last five years, you're on track to a loss of 1,300, 1,400 basis points of profit margins in North America. And I think you're also on track to actually have market shares lower than you were five years ago over that duration. So, Noel, can you just give us some context around what's happening when the investment plans in North America, what's happening with the strategy there? And do you think you've got the right investment posture, the right innovation plans to compete effectively in the market? Is this a low point on margins? Can we bounce back from here? Is this like an enduring point? Any context you can give us around the profitability and the performance in that market? Thank you.

Sure. Thanks, Jason. So we talked about oral care, obviously a big focus for us in the North America business. That was strong, again, in the quarter, up mid-single digits. I won't repeat what I talked about in terms of share growth, particularly the last 13 weeks. We are more competitive in the U.S. market. We were not competitive in the first half. We've dialed up our competitiveness, and we're seeing the benefits of that translate into better share progression, particularly across some of our premium bundles. We continue to support the business quite well. We think we're in a good place where we need to be, but obviously, as any marketer would say, more support is always better. We're looking for increased efficiencies in that business as we move forward in order to accelerate gross margins. As I mentioned earlier, North America was disproportionately hit with raw material inflation and logistics, and we took decisions very deliberately in the quarter to address demand that obviously had an effect in that quarter. So we anticipate that will start to come out as we move through the fourth quarter and certainly as we move into the first half of 2022. That being said, the raw material environment continues to be very volatile and unpredictable, and we'll take the decisions that we need to take to remain competitive. We are very focused on growing the North America business. It is a priority for the company. We are ensuring that we give them what they need in order to address the challenges and the competitiveness of that marketplace, and we expect that we'll continue to see good gross margin expansion over time. I do think this is a low for us, but I say that in the context of an environment that's quite unpredictable.

But given what we saw go through in the third quarter, we anticipate that things will get better as we move forward.

We'll go next to Komil Gajrawala with Credit Suisse.

Hi, thank you. Good morning, everybody.

Got to follow up a little bit on Kevin's second question on price elasticity.

And maybe just link to price elasticity if you could also just maybe comment on the consumer condition in various areas around the world.

Sure. Listen, you know, we've historically led pricing in so many of our markets. And, you know, in the emerging markets, you tend to see a little bit more elasticity early on, but we are focused on ensuring that our innovation processes across multiple price tiers. And so when you combine pricing with innovation at the same time, we find that we can rebuild consumption quite quickly. So elasticity tends to dissipate over time, certainly as we get the new innovation in the market and communicate that. So we're quite confident in where we are in emerging markets. Developed markets tend to be a little bit more difficult. Historically, taking pricing in Europe and North America has been a challenge. We have certainly shifted a lot of our focus to now relaunching brands, relaunching the core, bringing more premium innovation in the market in order to drive pricing. Typically then, as you bring value-added, consumer-oriented benefits to the category, you can take pricing and therefore the elasticity isn't as dramatic. We will see it over time. I think that everyone is raising pricing fundamentally in the categories that we compete in. That tends to reduce elasticity as well. One might ask, where is private label in this environment? Private label shares were down in every single category in which we compete fundamentally. So the news is big brands are winning, and I think as long as you bring good quality innovation, you continue to support that innovation with good content that's personalized and targeted. we think we can offset some of the elasticity. But that being said, the raw material environment is significant, and pricing will be significant over the next few quarters in order to offset that moving forward.

But we want to do that to make sure we protect our amortizing line.

We'll go next to Steve Powers with Deutsche Bank.

Hey, thanks, and good morning. No, I guess maybe to summarize a lot of what we've talked about so far and just try to cut through some of the noise around manufacturing closings and mobility restrictions and supply chain bottlenecks, et cetera. I guess I'm trying to get a better sense for how you're seeing Colgate's momentum trending, particularly on the oral home and personal care businesses. As I look at it, I think I see directional improvements. They're evident this quarter. But at the same time, in most regions, I think overall performance came in lighter than many of us had hoped on the outside. So, again, can you maybe just summarize the sequential momentum as you see it on a global basis, maybe how you expect things to progress in fourth quarter, X hills, and what the early setup is heading into the new fiscal year in terms of building that momentum further? Thanks.

Yes, Steve, we're very pleased with the momentum. I mentioned in my comments, up sequentially or two-year stack on volume and pricing in this environment, we think is a terrific result, driven by our core focus areas, which is oral care and pet nutrition. So oral care continues to drive good sequential growth quarter to quarter. We talked about it, mid-singles in the quarter, high singles on the year. Obviously, the pet nutrition business on double digits, comping double digits. So again, I think some terrific progress there. Personal care significantly impacted by COVID driven categories and the liquid hand soap, which is a very big business force in North America and around the world. Obviously we saw significant fall off in the category. The category was down 28% to give you some context on that. And as John mentioned, that was a 400 basis point headwind. So some of the COVID categories were certainly stabilized as we move forward and we lapped those moving into 2022. But the essence of your question is, where are we with the momentum on oil? Can we feel good about it? We feel good about our 22 plans. We feel good about the pricing we're taking. We feel good about the segments we're competing in. We feel good about the channel strategy that we've had where we're growing share in the fastest growth channels, which are typically e-commerce, discounters, and pharmacy. And the strategies that we've put in place and the portfolio execution of that is delivering against it. So we feel overall We're pleased with the underlying momentum on oral care. Personal care, as we lap some of the COVID, will improve moving forward. We've had some good discussions, particularly in North America and Europe, around some of the innovation that we need to continue to drive it. Our market share, interesting, just as a data point, our market share on liquid hand soap in the U.S. was actually up two points in the quarter, given the fact that it was still down 400 basis points versus... where it was last year on a volume standpoint. So again, we think we're taking the right decisions on portfolio and innovation in order to drive share and continue to recover some of the softness that we saw that was temporarily driven by the COVID expansion last year.

We'll go next to Lauren Lieberman with Barclays.

Hey, Lauren, I think you're on mute.

At this time, there's no response. We'll move to Brian Spillane with Bank of America.

Hey, good morning, and thank you for taking the question. Hi, Brian. I wanted to ask just a question around free cash flow and want to understand if with the inflation and just all of the noise, I guess, in supply chain, if it's having an effect at all on free cash conversion. And I ask because last year you over-delivered relative to the 90% conversion target. It looks like this year, at least year-to-date, running a little bit below that. And so I really just wanted to understand if the effect that it's having on the P&L is also having an effect on free cash flow, and if that's something we should consider as we're looking into 22.

Yeah, I'll throw this one to Stan, but let me just provide a couple top-line comments. Overall, if you go back historically where we are, it compares quite consistently with our historical numbers. There were some benefits that we certainly had last year on a comp basis around working capital, but let me turn it over to Stan. He'll give you a little bit more color on that. Stan?

Yeah, thanks. So look, we continue to cycle favorable working capital performance versus last year, and there's really an anomaly when you look at 2020. First of all, 2020 cash flow driven by the unique environment was up significantly. While we're down year to year, I think if you look back and compare it to 18 and 19, you'll see that it's more in line. Higher raw materials pricing certainly put upward pressure on our inventories, but I think important to note, as you mentioned, free cash flow is you'll see the investment we're making in the business in CapEx. So CapEx up roughly $120 million. That's really an investment, as Noel talked about earlier, in the long-term health of our business and what we're looking to grow. So that investment has an impact on free cash flow, but we think is incredibly important for the long term. So you step back and look at cash flow where we are today. We're not concerned about the positioning. We think we're confident in our ability to generate that cash. We're confident in our ability to invest in the future of the company through CapEx. So we're comfortable with the current positioning on free cash flow.

Yeah, I would only add that particularly around CapEx, which has been quite consistent for us over the years, we see ourselves with some real opportunities to invest in growth areas of the business. And that's certainly what has elevated the CapEx in the quarter, which is, we think, only good news for the long term.

We'll go next to Javier Escalante with Evercore.

Hi, good morning, everyone. And another question on pricing. So basically we heard from both your competitors Procter and Unilever taking pricing either in Q3 or announcing price increases. But if you can talk about the big local players that in China, in India, is there something in their supply chain that is different that they can drag on pricing? Is this a concern? And this is something that contributed to the weakness in Q3, both in China and India. That would be very helpful. Thank you.

Sure, Javier. Thanks. You know, I think the answer is everyone is no one is immune to the inflation that we're seeing across the market, both from a raw material standpoint or from a logistic standpoint. Obviously, they may have different constituents that look at their business differently than public companies or big multinational companies, but in any case, no one is immune to it. And as I've had discussions and been able to get out and travel a bit and talk to retailers, I mean, retailers are recognizing even on their own private label brands, they're going to have to take pricing to offset the significant inflation that's being absorbed in the market right now. So I expect that you'll see all boats rise, so to speak, in this environment, that pricing will go up. There will be certainly some delay with local players as they tend to try to search out a bit more volume as the big players take pricing. But again, I think if you can combine the pricing with the right innovation, which we're very focused on delivering, and adding value to the consumer, the local brands have to react to that in some form or fashion, either with their own innovation or with their own price increases in order to stay competitive from a support standpoint. So I don't anticipate it's going to be a significant issue. Javier, you know our business really well. You know that we innovate across all price points, and we have significant focus that's very deliberate in markets at looking at shares and our innovation process across each of the key price segments that we compete in, and that will certainly be the case as we move forward.

We'll go next to Mark Astrakhan with Stifel.

Yeah, thanks, and good morning, everybody. I wanted to ask just specifically, you know, on the ad spend, are you guys getting the right returns on the absolute dollars that you're spending? If you take a look at that category, that column, you know, the increase is somewhere north of 200 basis points over the last few years as a percentage of sales. Obviously, there's a lot of discussions on the call talking about market share challenges, you know, oral care, household, you know, prior to the pandemic. You know, just, you know, maybe holistically kind of talk about how you think about that. Does that number need to move higher from here? Can it stay the same, but can you kind of work in a different way? And then, you know, how does that all kind of tie into market share and profitable growth for the business going forward? Thank you.

Sure. Well, listen, let's step back and look at what's happened over the last two years. And I think it's very clear that we have reaccelerated the top line of the company. And that has been our core focus for everyone in the organization is this growth mindset that talks about elevating our core, our adjacencies, and faster growth channels, and doing that across all categories and all geographies. And if you take a basis of two years ago, that's exactly what we were delivering against right now. So The investment, we believe, is fueling that growth. Obviously, the strategies and the execution are a big part of it, but we feel very strongly that the acceleration that we've had in investment, both on the oral care side as well as the pet nutrition side, have clearly delivered top-line growth. Now, we would like to see it reflected in some of the Nielsen-based share readings, but the market is very complex now. The go-to-market strategies and the path to purchase for consumers is much more complex than it ever was in the past, and consumers moving between channels, and obviously the emergence of online, which is quite significant, and in some markets, like China, has become a very significant part of the category, and we're seeing very strong share growth there. So overall, we feel the top line's moving in the right direction. The investment is supporting that. That being said, we are very focused on making sure that we deliver ROI against every dollar in the P&L. And we have brought in resources from the outside and amplified our capacity around the world, working with WPP, our partner, to get much more granular and much more analytical about how we're investing, particularly our digital spend, to make sure it's targeted and we're getting ROI for that spend. And we're getting much, much better at that. So as we look at our advertising, we'll continue to be competitive in terms of what's needed in the marketplace, continue to ensure the health of our brands are protected. But we're very focused from a productivity and efficiency standpoint, looking at that bucket of spend and making it work harder for us.

And that's exactly what we'll expect to see in 2022 as well.

Our last question comes from Lauren Lieberman with Barclays.

Hey, Lauren.

Can you hear me this time? I can. We can hear you just fine.

Okay, cool. So I don't know what happened. I just was curious about Mexico. It was kind of called out in the context of Latin America and shares being a little softer. So I just wanted a little bit of detail on that. Thanks so much. I know this has gone on for a long time.

No. Mexico, again, high single-digit performance in the quarter and obviously a difficult environment, particularly given the aggressive pricing that we've been taking in the marketplace. And that pricing certainly had a little bit of impact on volume shares in the quarter. but nothing that's terribly concerning to us. It's what we consider not real profitable volume, given that we're losing to the lower end of the market. Some of our competitors have been highly aggressive with their promotional levels, and we decided to protect the margin in the P&L and continue to invest in building the brands. Interesting, if you look at some of our equity measures in that marketplace, particularly given that we focus now on really supporting the equity as well as innovation, I attended their budget review just recently, and they look terrific. So, again, I think we feel like we've got a very strong position in that market. We've sacrificed a little bit of the promotional share, but that is not unusual when we take pricing and lead the market, and we'll continue to ramp up innovation and ensure that we remain competitive, but nothing to be concerned of. Brazil, likewise, which you didn't ask about, but I'll mention that shares are flat there. and doing very, very well, particularly as we see great growth in the pharmacy channel. So the balance of our portfolio has gotten much more therapeutic, which is obviously more profitable for us in the long term. So we're pleased with some of our two big markets. And you heard John mention Colombia is back on track, given the political disruptions we saw last quarter and driving some nice growth for us.

So across Latin America, good. Not concerned about Mexico at this point.

And at this time, there are no further questions. And this does conclude today's conference. We thank you for your participation. You may now disconnect.