Compass Diversified Holdings

Good afternoon and welcome to the Compass Diversified's third quarter 2022 conference call. Today's call is being recorded. All lines have been placed on mute. If you would like to ask a question at the end of the prepared remarks, please press the star key, then the number one on your touchtone phone. At this time, I would like to turn the conference over to Cody Slaw of Gateway Group for introductions and the reading of the Safe Harbor Statement. Please go ahead, sir.

Thank you and welcome to Compass Diversified's fourth quarter and full year 2022 conference call. Representing the company today are Elias Sabo, Cody's CEO, Ryan Falkingham, Cody's CFO, and Pat Massarello, COO of Compass Group Management. Before we begin, I would like to point out that the Q4 and full year 2022 press release, including the financial tables and non-GAAP financial measure reconciliations for adjusted EBITDA, adjusted earnings, and pro forma net sales are available at the investor relations section on the company's website at compassdiversified.com. The company also filed its form 10-K with the SEC today after the market closed, which includes reconciliations of certain non-GAAP financial measures discussed on this call and is also available at the investor relations section of the company's website. Please note that references to EBITDA in the following discussions refer to adjusted EBITDA as reconciled to net income or loss from continuing operations in the company's financial filings. The company does not provide a reconciliation of its full year expected 2023 adjusted earnings or adjusted EBITDA because certain significant reconciling information is not available without unreasonable efforts. Throughout this call, we will refer to Compass Diversified as COTI or the company. Now allow me to read the following Safe Harbor statement. During this call, we may make certain forward-looking statements, including statements with regard to the future performance of COTI and its subsidiaries, the impact and expected timing of acquisitions, and future operational plans, such as ESG initiatives. Words such as believes, expects, anticipates, plans, projects, and future or similar expressions are intended to identify forward-looking statements. These forward-looking statements are subject to the inherent uncertainties in predicting future results and conditions. Certain factors could cause actual results to differ on a material basis from those projected in these forward-looking statements, and some of these factors are enumerated in the risk factor discussion in the Form 10-K as filed with the SEC for the quarter ended December 31, 2022, as well as in other SEC filings. In particular, the domestic and global economic environment, supply chain, labor disruptions, inflation, and rising interest rates all may have a significant impact on Cody and our subsidiary companies. Except as required by law, Cody undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. At this time, I would like to turn the call over to Elias Sabo.

Good afternoon, everyone. And thanks for joining us today. I would like to start by recognizing that 2022 was a phenomenal year for Cody. Despite persistent market headwinds driven by rapidly changing monetary policy, supply chain imbalances, and rising inflation, we produced record annual results. For the full year, our branded consumer net sales were up 14% on a pro forma basis, while the net sales of our niche industrial businesses were up 9%. helping to drive record adjusted earning and adjusted EBITDA. These results confirm that our diversified subsidiaries combined with expert operational and financial execution can grow and take share even in a difficult market backdrop. I'd like to acknowledge our recently announced divestiture of Advanced Circuits. We are proud of our partnership and success with their team, which started more than 16 years ago. Cody's permanent capital structure and support throughout this partnership has generated significant value for our shareholders, and we are grateful for their contributions and look forward to their continued success. Jumping back to our 2022 performance, our subsidiaries manage the various macro challenges exceptionally well, and we remain confident in their ability to continue to grow and take market share over the long term. That said, our near-term outlook is clouded by some unique cross-currents. Our branded consumer subsidiaries with exposure to wholesale are experiencing significant inventory destocking headwinds. This is being driven by events that unfolded coming out of the pandemic. In the first half of 2022, we benefited from extremely high demand from customers who needed our product to help manage their own supply chain issues. With the pandemic winding down, and some retailers reckoning with the fact that they over-ordered, it has created a whipsaw effect until inventory is right-sized. For our brands further down the supply chain, like BOA and Primaloft, the destocking headwinds are exacerbated. Pat will walk through specific brand performance shortly, but I will just say that we expect the first half of 2023 to reflect lower performance from some of our companies with a re-acceleration anticipated in the back half as inventory is worked through and comparisons eased. On the other hand, we are seeing no signs of slowing demand with our companies that have material direct-to-consumer components to their business, like 5.11 and Lugano. This gives us confidence that the balance sheet of the affluent customer to which we sell many of our products is healthy. More specifically, It tells us that rising wages and the continued imbalance in the labor market are more than offsetting inflation and rising borrowing costs. Notwithstanding the difficult macro climate and inventory headwinds, we firmly believe our subsidiaries are well positioned to achieve their long-term growth targets. To demonstrate this, I'd like to highlight one of our niche industrial businesses, Arnold Magnetics, as a case study of how we improve value for our shareholders. We acquired the business in 2012 based on Arnold's technology leadership in the permanent magnet subassemblies industry and strong growth tailwinds for the use of permanent magnets to enable the clean energy transformation. In 2016, we made the decision to replace senior management at Arnold, bringing in Dan Miller as CEO of that subsidiary. As a reminder, Arnold is a long cycle business, and Dan was confronted with the reality of some programs going end of life while the pipeline of new opportunities was extremely weak. Restructuring and repositioning a long cycle business is an especially challenging situation. Entering 2022, Arnold's strategic priorities have been successfully repositioned to focus on new end markets like aerospace and defense, among others, which match Arnold's high end, high margin, low volume technical engineering and manufacturing capabilities. Arnold added a tech center to improve its products, advance its technology edge, improve its partnership with its customers, and complete Arnold's transition from a products company to an engineered solutions company. We supported Arnold's acquisition of Ramco Electric Motors to offer turnkey electric motor solutions, further positioning the Arnold business for the green economy. Arnold executed well on this strategy and reported a record-breaking year for bookings and double-digit sales and EBITDA growth. Arnold ended the year with $83 million in backlog and a book-to-bill ratio of 1.13, setting it up for another strong year in 2023. The strength of this business and the long-term runway for growth underscores the power of our diversified permanent capital model, which enables us to make long-term decisions to maximize value creation for our shareholders. In 2022, we launched our first new vertical since coming public. entering into the healthcare vertical with the announcement of Kurt Roth as our leader. Kurt brings over 25 years of experience and a decade-long partnership with Cody, and we couldn't be more excited to have him at the helm. Since his joining, Kurt and his team have been working hard at developing a robust pipeline of M&A targets. Like other markets, deal activity has been suppressed by the macro environment, but we remain proactive and prepared for the inevitable turnarounds. Before turning the call over to Pat, I would like to summarize our performance and outlook. 22 was a record-breaking year despite unprecedented headwinds, proving the strength and durability of our subsidiaries and the power of our permanent capital structure. As we sit here today, the majority of our businesses are performing above our expectations and we believe are well-positioned to achieve their growth potential. A few of our businesses are working through the inventory shock that is making its way through the marketplace in a post-pandemic world. We believe these headwinds will be short-lived and expect a recovery in the back half of the year. Our financial outlook takes into consideration these headwinds. But the power of diversification is real and implicit in this outlook. For example, we expect our niche industrial segment to have another year of robust growth in 2023. And we expect BOA, who is currently in the crosshair of the inventory destocking headwind, to be down versus 2022, but up versus 2021, which was an extraordinary year of growth. Notwithstanding a weaker demand outlook, we are confident in our company's competitive positioning and market share growth and believe we are poised to outperform our peers. With that, I will now turn the call over to Pat.

Thanks, Elias. Throughout this presentation, when we discuss pro forma results, it will be as if we own Primaloft and Lugano from January 1st, 2021. On a combined basis, pro forma revenue and adjusted EBITDA in both our branded consumer and our niche industrial businesses grew significantly in 2022 and exceeded our expectations. For the year, pro forma revenue grew by 12% and pro forma adjusted EBITDA grew by 13% to $467 million. Excluding advanced circuits, pro forma adjusted EBITDA grew by 14% in 2022. In the fourth quarter, on a consolidated basis, pro forma revenue and adjusted EBITDA growth met our expectations, growing by 4% and 3% respectively. Before I get to our subsidiary results, I want to provide a high-level view of the quarter. As Elias mentioned in Q4, Several of the businesses in our consumer segment were impacted by inventory drawdowns in the supply chain, and therefore our sales at these subsidiaries lagged in consumer demand for their products. This impact was most pronounced at our businesses who operate further down the supply chain, specifically Boa and Primaloft. As mentioned, we see this trend continuing in the first half of 2023. Despite the challenges in the quarter, on a consolidated basis, we were able to meet our expectations. our subsidiary management teams once again executed well in a continuously changing environment. Now, onto our subsidiary results. I'll begin with our niche industrial businesses. For 2022, revenues increased by 9% and adjusted EBITDA increased by 8% versus 2021. Excluding advanced circuits, revenues increased by 10% and adjusted EBITDA increased by 11% in 2022. Driving these results, were meaningful revenue and adjusted EBITDA growth from Arnold and Altor. Arnold continued to show improving margins driven by technology investments made over the last several years and is benefiting from a shift in its sales mix towards higher growth industries focused on electrification. As we mentioned last quarter, the company comped against a very large defense-related order that benefited Q4 21, but the company's book-to-bill ratio remains very strong and we believe points to continued growth in 23. Altor once again had solid growth in the quarter. Gross margins improved both sequentially and versus Q4 21. And we expect this trend to continue as raw material price pressures continue to abate and Altor management achieves efficiency gains. The Sterno Group was down slightly in the quarter and for 22. So the company's food service business is benefiting from the continued return to normal levels of activities in travel and conferences. Company continued to see pressure in sales of its value-driven line of scented waxes. On a combined basis, we believe this business will be stable in 23 and likely to return to moderate growth. Turning to our consumer businesses. For 2022, pro forma revenues increased by 14% and pro forma adjusted EBITDA increased by 15% as compared to 2021. FOA had a very strong 22 and finished the year with 26% and 38% growth, and revenue in adjusted EBITDA, respectively. For the fourth quarter, however, revenue declined slightly, and EBITDA was approximately flat due to the factors we discussed. We believe these supply chain pressures will continue in the first half of 2023, prior to the company returning to growth in the back half of the year. To put what we are seeing at BOA into context, Cody purchased a company in late 2020, and in that year, BOA produced slightly over $30 million of EBITDA. Due to significant market share gains and strong consumer demand for product incorporating boas technology, the company grew to over 60 million in adjusted EBITDA in 2021, and most recently over 82 million in 2022. We believe the inventory destocking headwinds discussed will lead to a short-term decline in financial performance in 2023. We believe performance will be above 2021 levels. We are also confident that the company will then return to growth as these pressures abate. Headwinds notwithstanding, BOA is making significant strides in market share and expansion of its technologies. Measured by model count on which BOA's products are used, the fall-winter 2023 season will see growth of close to 10 percent, which is expected to accelerate further in fall-winter 2024, based on initial discussions with brand partners. In addition, we were ecstatic at the market's reception to BOA's Alpine ski technology as four of the company's brand partners recently pre-launched Alpine ski boots integrating the BOA system, giving skiers unprecedented fit and performance. The quantities are limited until the official launch this fall for the 2023-2024 ski season. The excitement is significant, and we believe that, with its brand partners, BOA has the opportunity to revolutionize fit in the industry. Lugano's growth continued in the fourth quarter, and for the year as both revenue and EBITDA grew by over 45% and 60% respectively. In the quarter, we benefited from the recent openings of Lugano's Houston Salon and its flagship salon at Fashion Island in Newport Beach. In addition, the company continued to benefit from increases in average transaction size. In 2023, the company will open locations in Washington, D.C. and Greenwich, Connecticut. and is considering other avenues for geographic expansion and additional new flagship salons. Marucci continued upon its strong run of quarters as sell-through and reorders of its CatX line of bats were above expectations and the company continued growing a new market. For the year, Marucci's revenue and EBITDA grew by 40% and 27% respectively. Those margins remained strong in the quarter as supply chain related issues continue to improve. Marucci continued to diversify its product mix and enter new markets in 2022. The company saw significant growth in its apparel and fielding glove categories and made significant inroads geographically through opening its Japanese operations. Though 2023 represents a year without a major cat bat launch, the company is launching several new products and its growth in adjacent categories and geographies drives optimism for the year. 5.11 continued to buck the trend of struggling apparel brands and in 2022 grew revenue and EBITDA by 9% and 6% respectively. We remain proud of the company's performance in a difficult environment. In the fourth quarter, EBITDA growth outpaced revenue growth and the company's DTC comps remained positive, led by strong e-commerce sales. 5.11 is having a solid start to 2023 and we believe it will be another year of growth for the company. Turning now to Primaloft. In 2022, pro forma revenue and EBITDA increased by 21% and 24% respectively. In the fourth quarter, on a pro forma basis, revenue growth grew slightly and EBITDA declined slightly from 2021 as the company's price increases did not take effect until the end of 2022 and several extraneous factors led to higher margins in Q4 of 2021. Despite facing similar challenges as BOA, given its position in the supply chain and inventory levels within the channel, we believe Primaloft will show growth this year and remain confident in the medium and long-term outlook for the business. Velocity Outdoor continued to struggle in the fourth quarter, as inventory levels at retail and its archery business remained high, and sell-through remains challenged in both segments of the business following COVID-related surges in outdoor activities. We are working diligently with management to rationalize the company's cost structure to this new environment while remaining focused on innovation. We expect a challenging first half of 2023 for this business as we proceed down this path, but are confident in the outcome. As a whole, we are very pleased with the performance of our businesses in 2022. Though the fourth quarter was challenging for several of our subsidiaries and the outlook for the first half of the year is mixed in several places, we are confident in the positioning of our businesses and the outlook for Cody. I will now turn the call over to Ryan for additional comments on our financial results.

Thank you, Pat. Moving to our consolidated financial results for the quarter ended December 31st, 2022, I will limit my comments largely to the overall results for Cody, since the individual subsidiary results are detailed in our Form 10-K that was filed with the SEC earlier today. As a reminder, our sale of advanced circuits occurred in the first quarter of 2023. ACI's results of operations are included in our fourth quarter and full year 2022 operating results. ACI will be reclassified to discontinued operations in our first quarter 2023 10Q. In addition, our 2023 guidance discussion that I'll make shortly excludes ACI's results. Now to our quarterly consolidated results. On a consolidated basis, revenue for the quarter ended December 31st, 2022 with $594.9 million, up 6% compared to $559.9 million for the prior year period. This year-over-year increase primarily reflects our acquisition of Primaloft during the third quarter of 2022. In addition, we had strong sales growth at our brand and consumer subsidiaries on a combined basis. Consolidated net loss for the fourth quarter was $11.8 million compared to net income of $25.9 million in the prior year. The decrease was primarily due to a $20.6 million impairment of our Ergobaby subsidiary in the fourth quarter and an increase in management fees and interest expense as a result of the Primaloft acquisition in the third quarter. Adjusted EBITDA in the fourth quarter was $87.3 million, up 5% compared to $83.3 million in the fourth quarter of 2021. For the full year, adjusted EBITDA was $369.8 million, up 20% compared to a year ago. The increase was primarily due to the strong performance at Cody's branded consumer subsidiaries and the benefit of the Primaloft and Lugano acquisitions. Adjusted earnings for the fourth quarter was in line with our expectations at $28.7 million, down from $37.1 million in the prior year quarter. This decline was primarily a result of financing costs for the acquisition of Primaloft in July ahead of its seasonally slow third and fourth quarter earnings periods. Now on to our financial outlook for 2023, which is unchanged versus the preliminary expectations we shared at our January investor day, however now excludes advanced circuits. For the full year 2023, we expect consolidated subsidiary adjusted EBITDA to range between $420 million and $460 million, And we expect adjusted earnings to range between $105 million and $135 million. As Elias and Pat have covered well, this outlook expects a challenging first half of the year, given the headwinds discussed, and then a reacceleration in the second half of the year. Turning to our balance sheet. As of December 31, 2022, we had approximately $61.3 million in cash, approximately $443 million available on our revolver, and our leverage was 3.97 times. We have substantial liquidity, and as previously communicated, we have the ability to upsize our revolver capacity by an additional $250 million. Subsequent to year-end, we received approximately $170 million in net proceeds from the sale of advanced circuits, which we used to repay our revolver balance and reduce our leverage levels. With this liquidity and capital, we stand ready and able to provide our subsidiaries with the financial support they need, invest in subsidiary growth opportunities, and act on compelling acquisition opportunities as they present themselves. Turning now to cash flow, during the fourth quarter of 22, we received $11.6 million of cash flow from operations, primarily a result of strong operating performance. We used $29.2 million in working capital during the fourth quarter, and continued to strategically increase inventory levels at Logano to support near-term demand. We expect to produce strong consolidated cash conversion in 2023. Also of note during the fourth quarter, the manager waived 50% of the management fee owed by the company in respect of Primal Left. And finally, turning to capital expenditures, During the fourth quarter of 2022, we incurred $24.6 million of capital expenditures of our existing subsidiaries compared to $12.6 million in the prior year period. The increase was primarily a result of the timing of retail build-outs at Lugano and 511 to support their continued growth. For full year of 2023, we anticipate total CapEx spend of between $70 million and $80 million. This spend will be in line with 2022 We continue to see strong returns on invested capital at several of our growth subsidiaries and believe they will have short payback periods. The 2023 capital expenditure spend will primarily be at Lugano for new retail salons in Washington, D.C., and Greenwich, Connecticut, as well as expansion of its Palm Beach, Florida location. And at 511, as we continue to increase its retail store count from its current 117 stores. With that, I will now turn the call back over to Elias.

Thank you, Ryan. I would like to close by briefly providing an update on the M&A market and our strategic initiatives. M&A activity continues to be significantly below historical levels. We are hopeful that the M&A environment improves in the back half of 2023 if economic headwinds moderate. On the ESG front, we continue to advance our key initiatives. And we're excited to announce that in the fourth quarter, we implemented a customized ESG technology platform for data collection, which will enable us to consider setting time-bound targets in the future. In fact, we are already preparing to collect scope one and two emissions data for our subsidiaries. This will aid in the continued advancement of our ESG platform and ensure we are tracking the necessary metrics in order to regularly improve our ESG strategy. We also publicly released our corporate citizenship statement on our website, which provides shareholders access to information on our ESG approach and a summary of our policy. In conclusion, we're proud of our 22 results, which were significantly ahead of our expectations despite a challenging macro backdrop. I'd like to thank our management teams, and employees for their continued commitment to success. With that, operator, please open up the lines for Q&A.

At this time, I would like to remind everyone, in order to ask a question, press star, then the number one on your telephone keypad. Your first question comes from the line of Chris Kennedy from William Blair. Chris Kennedy, please go ahead.

Good afternoon, and thank you for taking the questions. it's clear the first half will be a little bit more challenging relative to the second half. Can you give us an update on kind of trends quarter to date and how we should think about, you know, first half performance relative to the second half, if you can. Thank you.

Sure, Chris. And thank you for the question. Yeah, I mean, it's, you know, apparent to us that the first half is going to be difficult and it really is due to David Morgan, inventory D stocking. I mean, what we're hearing in the companies, you know, that are having the biggest challenge bow and primal loft is that our product. David Morgan, And the end market are actually selling really well. And so, you know, I think as we tried to highlight, you know, 22 was abnormal in the first half, due to the supply chain issues that caused an overordering throughout the end of 21, and then a fulfillment in 22. So if you think about it, we're comping against a really, you know, kind of high level in 22. And then we have to burn off some of this inventory. And I think it's masking some of the, you know, kind of the positioning within the companies that is just much better. And Pat alluded to, you know, BOA, for example, where our model count growth is up, you know, kind of north of 10%. That should be the best indicator of, you know, kind of growth and market share taking. But the inventory headwinds are just so steep here and significant that it's going to, you know, create some headwinds. So, um, I would say, you know, initial trends in read that we're seeing, you know, frankly, outside of the, you know, kind of probably BOA, um, and Primaloft to some degree, um, I would say the business is actually performing better in the first two months than we would have anticipated. And, you know, if you look kind of from where we were at investor data today, You know, the companies that have direct consumer exposure, I can tell you 5.11 and Lugano both feel better right now than they did at Investor Day. And beyond that, you know, you got companies like Marucci and our entire, you know, industrial businesses, you know, all three of them, you know, those businesses feel really good too. So on the, you know, kind of the whole, most of our businesses are actually performing better than expectation and what, you know, we felt, I don't know, a little over a month ago at Investor Day. on the other hand i would say the severity of the inventory headwinds especially for a company like boa which sits so far down the supply chain you know and if you think about it um you know take a retailer they have excess product so they don't order from the shoe manufacturer so now that stocks up you know kind of um product with our customer and then our customer has to bleed through not only the retailer getting back to ordering, but then they got to, you know, get through their inventory to reorder. So we think it's going to be a little bit more elongated in terms of how long it takes to work through this, but it's nothing structurally. That's a problem with the company. In fact, if anything, the company is, you know, better positioned today. And, you know, we look at Alpine, which we just launched and, you know, we have one brand partner, which said, you know, this is the biggest thing to hit the Alpine market in 60 years. And so we think this is revolutionary. And, you know, that's kind of some of the things that Bo is working on. I mean, their management execution, you know, is an A plus. And these are, you know, just straight market, you know, kind of conditions that are causing this from inventory build. You know, to specifically answer your question, I think, you know, we would see the first half trending, you know, down, you know, or at least in the first quarter, you know, we see it trending down kind of high single digits to, you know, kind of low double digits. But as Ryan had indicated, we see that turning around. So I would say we expect the first quarter to be the worst quarter for comparisons for us. We expect the second quarter to be down, but not down as much. And then we would expect a reversal and to be able to make up for any of the headwinds that we have from the first half to be made up in the second half. And again, I would say what we're seeing in terms of consumer strength and our direct consumer performance And what we're hearing from a lot of our partners in terms of our product sell-through gives us confidence that once this inventory destocking is completed, that, you know, we should be reverting back to our normalized growth rate.

Yeah, that's very helpful. Thank you. And then just a quick update on the healthcare initiative, please. Thanks for taking the questions. Sure. So, you know, Kurt is here.

He's engaged, working with our team members to, you know, kind of create a plan for our healthcare vertical. You know, a lot of kind of legwork is being done right now, meeting with investment bankers and other intermediaries that, you know, are active in the deal market. You know, kind of some of the proprietary opportunities that, you know, we have through Curt are also being explored right now and trying to push those forward. So, I would say a lot of legwork is being done to establish that vertical and establish our name in the vertical. I'd say a huge positive for us is a lot of the investment banks that work within the healthcare space are also banks that are active in consumer and industrial, and we have great relationships across those banks. And so, you know, we have not been in healthcare before. Obviously, that's a disadvantage. But given the relationships with these influential banks you know, through our consumer and through our industrial practices, it gives us instant credibility in those markets. So, you know, there's a robust pipeline that is being built right now of potential target companies. You know, as Pat said, you know, or, you know, I might have said, one of us said, you know, the M&A market is really weak right now, including in healthcare. I mean, unfortunately, you know, the markets are kind of seized up across, you know, kind of all categories. Healthcare may be a little bit better than something like consumer industrial, but in general, the whole market is just incredibly weak. So right now, we think the best thing is continuing to do the legwork, continuing to build a pipeline of opportunities that we think are coming to market later in the year and starting to reach out and make preliminary contacts so that we can tee up some opportunities for later in the year and into 24. Great. Thank you.

Your next question comes from the line of Larry Solo from CJS Securities. Larry Solo, your line is open.

Just to follow up on the acquisition question, in terms of – I know you guys don't have like a target leverage, but still you're a little bit levered versus historical numbers four times – Wouldn't you probably kind of want to wait it out a little bit and maybe some opportunistic small acquisitions, but would you be in a position today to really do a large acquisition earlier this year anyhow?

Yeah, I think, Larry, the good news is there's not a lot of opportunities to transact again, so I don't think it creates a problem for us right now because the pipeline is just so weak on new M&A opportunities. We are upward, you know, towards as of 1231, we were at the upper bounds of kind of beyond the upper bound of where we want to be in terms of leverage. That is, as you know, can, you know, move up and down. And remember, we did sell advanced circuits. And so what's not included in that number is the proceeds and the application of that $170 million towards the repayment of debt. And so we deleverage by virtue of that. And then we expect to you know, create a significant amount of cash conversion as Ryan alluded to in his section. You know, we had to build a lot of inventory and over the course of 21 and 22 and our working capital really exploded. Now we have, you know, by and large slowed our inventory purchases. And so it's, you know, kind of ironic what we're talking about broadly in the market is, you know, these inventory de-stocking headwinds are hitting us, but we're doing the same thing and we're monetizing our inventory. and hitting our vendors with the same type of destocking, right? So it is going to, I mean, I'm sure you guys are hearing this from most of the companies, you know, that you're talking to, but we will be, you know, kind of monetizing a bunch of our inventory. Now, the problem is, you know, when you go through something like this, we've had inventory that's flowing in. We have inventory that took a while to get through the ports. We slow our inventory. And the first thing that happens is we pay off some of our payables. and our accrued expenses come down. So working capital actually rises in the beginning, but then we expect to have a flood of cash as we monetize inventory and we get through that cash conversion cycle. And eventually when we get back to a normal buying, we'll get our AP and accrueds back up. And I know it might be a little bit too granular, but it's how the cash conversion cycle works. And so right now, I would say we're at peak working capital, and we expect to have a significant amount of you know, liquidity come in as a result of free cash flow from operations based on our 23 plan, plus what we expect from working capital monetization. So we have what we think is, you know, kind of all the ingredients for deleveraging in place. And as a result of that, if there were to be an acquisition that was incredibly interesting, we feel that we would be able to act on it. But as you opened up with your statement, The market is so weak right now, it's not an issue that we really have to even deal with.

Got it. And then just on the guidance, you shared with us six weeks ago, I think about six weeks ago, about the supply concerns, inventory concerns in the front half. And you also, I think, include in your outlook, you kind of built in a continued sort of slowdown in the economy, maybe even a recession in the back half of the year. a shallow one I think you kind of were hoping or was hoping for. It feels now like, well, that could still happen, but it feels like perhaps you guys maybe are not as concerned about the economic impact on your companies. So maybe it's just more of that supply inventory issue in the front half and then more of a rebound in the back half. I'm just trying to get a little more clarity on that. And then also normally – BOA and more Primaloft, they're much more front-end loaded, but they're kind of facing a little bit more challenges in that front end. Would they be a little bit less front-end loaded this year because of that? So it's kind of a two-pronged question.

Thanks. Yeah, so I'll answer the first, and I'll ask Pat to answer the BOA and Primaloft question on seasonality. In terms of, you know, really it's sort of a macroeconomic, you know, kind of outlook, I think, in terms of is it a recession? Mm-hmm. that's coming and what do we look at? We don't see any signs of it. And, you know, I think we're in conditions that we've largely never seen before. We have an employment market where demand for labor dramatically exceeds supply of labor. And every month that we go through thinking these kind of rapid increases in monetary policy is going to push inflation down significantly. Well, it has on the good side. But if you pull inflation apart, it's not doing a lot on the surface side because labor inflation is continuing to run at a pretty high level. And so, you know, as we look at it today, you know, we would say from a macro standpoint in the U.S., we still have a lot of savings that got transferred during the pandemic. Right. There was something like six trillion dollars that got printed and, you know, kind of pumped into the economy. And so that really fattened consumers savings. And we may be whittling it down. But if you look at a graph, it's still higher than it was pre the start of the pandemic. So savings, you know, are still a net positive. You have jobs that creation that is really an unprecedented level right now. And the demand for labor is so high. It's been my experience over time that when a consumer has money and they have a job and they have mobility to go to another job. they spend. And so, you know, I think there are impacts like inflation, which is coming down on the good side. So that actually is positive. Right. Um, and there's, you know, kind of tighter monetary policy. So financing costs are going up, you know, but a lot of mortgages were locked in and a lot of them are not floating right now. So the ingredients for consumer spending still feel really, really healthy. And, you know, and I know we skew more towards an affluent customer, But we're not seeing a slowdown. And I know that you would say, well, but you're expecting to be down, you know, kind of, you know, high double, high single digits to double digit and even down the first half. That's straight. That's, you know, strictly inventory because the companies that are driving that are not suffering from end market demand, at least from what we're hearing from, you know, kind of our customers, customers. So we feel really good, Larry, that conditions are not present for a recession and Now, if anything, I would say I might feel that interest rates have more to go than what the market is predicting because it's hard for us to see inflation coming down significantly from here given that labor demand remains so strong and wage growth is still running 5% plus. I think that's generally consistent with inflationary conditions. And as long as JOLTS keeps coming out with 10 and 11 million prints, you know, compared to a historical norm of six or seven, it just demonstrates the, you know, kind of power that the labor, you know, kind of has today in this market. And so I think that's a nice tailwind, you know, for the rest of the year. I would also say when you look internationally, you know, we are now getting China, which was comping against, you know, kind of zero COVID policy and, you know, kind of shutdowns that were periodically running through the country. When that happens in China, it impacts Asia dramatically. And so now that China has reopened, we're seeing strength in some of our international operations where we have Asian, you know, kind of distribution. And that's, you know, likely a positive tailwind to global growth. And as you know, Europe last year after Russia invaded Ukraine, dealt with inflation that was four to five times higher than us and an energy inflation that was an order of magnitude higher than what we were dealing with. And that really hammered the consumer over there. So I know there's still a war going on, but their inflation is coming down. And, you know, we took a very difficult, you know, kind of dose of medicine in Europe in 2022. And now 2023, if anything, has upside from the severity of the drop in 22. So from where I sit, I would tell you, Larry, it feels better in terms of end market sales and the economy through the rest of this year. Now, that may not bode well for 24 if interest rates have to go up significantly higher. But I think that's something that the Fed and economists will generally have to kind of think about and plan out. For us and where we're looking for 23, things feel relatively robust. And so I think when we get through this inventory destocking, there's nothing that makes us feel like our core growth rate or even exceeding our core growth rate isn't possible, you know, kind of given some of the dynamics that exist within the consumer today.

I appreciate that. Thank you.

On BOA, last year they were front-end loaded, a little bit maybe in 21. They're not historically as front-end loaded as that. And I think clearly they will be more back-end loaded this year than last year, and probably than 21.

And Primaloft, how about Primaloft, which is usually, I believe, well, at least last year was much more front-end loaded.

Primaloft will still be much stronger in the front-end than in the back-end. You know, what's happening is our customers are ordering the products later and later because they don't have the supply chain worries that they did a year ago or even two years ago. And so we may get a little bleed, a little more bleed into Q3, and Q3 may be proportionally a little bit bigger than typical, but it'll still be a largely front-end business.

Okay. If I can just slip one more question in. Just from a simplistic level, the The EBITDA is dropping, you know, 470 to 440. That's mostly on the sale of ACI. How come the adjusted net income goes from 160 to 120? I mean, I guess it's the ACI EBITDA, that little tax, and then there's the higher interest expense. But don't you also get back some interest expense on the sale of ACI? And you had premium for a full year this year, so I'm just trying to,

connect those two those dots yeah no Larry you're right it's you know it's come down you know the numbers you highlighted are accurate and you're correct the sale of ACI which was a you know pretty pretty good adjusted earnings contributor just given that business model but yeah it's it's primarily interest cost right we've got you know at year-end we had the 395 million of term a plus the $155 million revolver, all floating. We've seen that rate go from roughly 1% call it a year, or 0% a year and a half ago, to now over 4%. That's meaningful to adjusted earnings. No slowdown, I'd say, in general, in terms of operating opportunity for the businesses. It's really corporate costs that's overlaying that.

It's really that $20 million interest plus the sale of ACI, I guess, is really what's doing it. Okay. That makes sense. Thanks so much, guys.

Thank you, Larry.

Your next question comes from the line of Matt Karanda from Roth. Matt Karanda, your line is now open.

Hey, guys. Good afternoon. Thanks for taking the questions. I just wanted to make sure I understood the inventory destocking commentary more specifically. It sounds like It may be more acute with OEMs versus retailers, but wanted to see if you could parse that out for us. And then also just, it sounds like you're signaling the stocking cycle goes to the first half, but then we pick up in the back half of the year. Just any data points on your comfort that things can get better in the second half? What are you seeing in terms of the order books maybe that give you comfort there? That's my first question.

Yeah, just I'll answer real quickly on your sort of inventory level question. It varies geography by geography. So in Asia, for example, there is inventory at retailers as people have been locked up, locked up, excuse me, as people have been in their homes and not out and about quite as much as, you know, due to COVID. I think it's probably less at the retailers in North America. And my guess would be somewhere in between in Europe. So I'll just answer that and then I'll let Elias answer your other question, Matt.

Yeah. And your other question about what gives us confidence, Matt, going into the back half of the year that things are going to improve. I mean, if we look at where the consumer, you know, at least again, if we go back to our DTC businesses, right, where we have a big present Lugano's all direct to consumer and then five 11, and we look at the sales that both of those companies are generating. And then we look at, you know, a company like Marucci, uh, and how well their sell-through is doing. We look at our industrial businesses, which had a great 2022 and, frankly, have come out in January even stronger than where they finished in 2022. And so that encompasses right there five of our businesses, and they are incredibly strong. And outside of that, Ergo is doing fine right now, and we could go through some of the other businesses. You know, principally where we're seeing some weakening demand is, you know, kind of at velocity and velocity had, you know, a pandemic run up that more than doubled earnings. And as you know, when companies go through cycles that have sort of a boom and bust characteristic to them, the down cycle, you know, unfortunately it's like a pendulum of a clock. They don't ever stop right in the middle. So we had a boom cycle and now the bust cycle is, you know, kind of taking it past where mid-cycle is. That's the one company that we have right now where we would look and say end market demand does not feel good. Outside of that, we have nine businesses where end market demand feels good. Now we have to trust our customers and we have to trust our customers know their customers, in some cases like a Brola and a Primaloft. But, you know, given how robust everything feels, outside of really velocity and then kind of BOA with kind of the inventory destocking, it just leads us to believe that there's more strength in the economy and there's more strength in the consumer than what we had forecasted. And so if anything, I would say we may be a little bit conservative in the back half as we stand right now and incorporate it into our guidance based on how things are running. How things are running right now, Matt, would imply a better back half than what we've built in. And so that inherently suggests that we have built in some economic softness into the back half from where we stand today. So we do feel that when we get through this, things are going to revert to feeling pretty good in the back half. And generally, as you know, economies unless there's some extraneous event don't really turn on a dime um and so it's you know i don't think we're looking at the economy just falling off a cliff next month or the month after um and so you know where we sit today it feels like you know 23 from a gdp standpoint could be better than you know what we anticipated a month ago okay super helpful detail thanks elias um

And then just more specifically on Lugano, I'm curious how you guys are contemplating growth in Lugano in 2023 within the framework of your guidance that you've given. I mean, it just looks like it continues to grow pretty aggressively and the margins are coming in well ahead of at least our expectations. You know, it seems like... And based on your commentary during the call so far, it sounds like that consumer is just super healthy. So just curious how you're thinking about the growth of that segment in 23.

Yeah, we generally like to be conservative. It's hard for us to own a company that's great. Not hard. We love owning a company that grows 50% a year. But it's hard for us to forecast that that will continue. And so there's nothing right now, Matt, in the first two months that suggests that that isn't the case. You know, Pat can speak to the January and February results and how they were relative to last year. But we embedded in our guidance is that Lugano would, you know, come down materially from the growth levels that we had in 22, but still be a good, strong double-digit grower. Now, Pat, in January and February, you know, I think it's... January is very strong.

February is coming... Beginning of the year is fine and is, you know, in line with exactly what Elias was saying, if not a little better.

Yeah, so, you know, there's been no slowdown, Matt, in that business in January, February from where we exited 22 and what the Q4 year over year was. But again, we just, we would rather be conservative and plan for that business to grow, but grow at a more reasonable rate

and then over deliver and have that help carry our results going forward okay makes sense and then just last one from me um 170 million in proceeds from aci divestiture just if you could put a finer point on how much debt repaid after sort of fees what does that do to pro forma net leverage kind of um you know post debt pay down. And then just you mentioned on the working capital front, like plenty of opportunity to flush inventory. I think that's maybe underappreciated among the investment community. So maybe just if you could help us kind of shape up the potential inventory flush that you have this year and how much that contributes to cash and where perhaps that leverage could shake out by the end of this year.

Yeah, sure. Matt, happy to Happy to assist with that. Yeah, so, you know, the $170 million proceeds we used to pay down Revolver, as we mentioned, and, you know, there is a profit allocation payment that will be made on that gain. So that will be, you know, net against that. And that amount's not calculated yet. It's in process. So, yeah, a couple tenths of a turn, essentially, is the effect of that. And you can kind of do the math on what those proceeds would do to our leverage. Um, and we highlighted, so to, to your, to your second question, we highlighted investor day, um, you know, the retained cash that we have in the system now and, you know, 2023, uh, we expect to be, you know, at or above 2022 levels. And, you know, we had, we had said on the, in the investor day, deck that we had just about $75 million of retained cash pre-working capital. So as we think about that amount next year, and then as Elias highlighted, some of our working capital coming back in, it sort of implies north of $75 million. Now as I think about inventory levels, we had used last year about $200 million in throughout the year of working capital. A good portion of that was inventory. Some of that, though, was to support Lugano. And as Lugano continues to grow, as we hope it will, you know, that business will still, you know, need some inventory. So, you know, we don't see that inventory coming back. Some of that inventory was just needed to support the, you know, 14% growth we had last year. But then there's another roughly third of that that's excess. And that's what we expect in addition to the retained cash I mentioned that will come back, you know, into the system. So, you know, hard to put dollars on that for you, but I think a, you know, good reasonable amount would be to assume, you know, same level of retained cash. Hopefully no working, you know, working capital bill next year. And then, you know, roughly third of last year's inventory use coming back as cash conversion in 2030.

Okay. Very helpful and detailed, guys. So I'll jump back in queue. Thank you. Thank you, Matt.

Your next question comes from the line of Robert Dodd from Raymond James. Robert Dodd, your line is now open.

Hi, guys. And some of these questions, what Mike says has partially been answered, I think. But particularly on BOA, as you look into the expectation of a rebound in the second half of the year, When, and you talked about, you know, the sell through the end product is there, et cetera, but when would you need to be getting, you know, booking the orders, not necessarily readily, but when would the firm orders need to be coming in for that to be actually manifesting in terms of the second half of the bank? And how much visibility, I mean, you talked about the visibility and the expectation, but when would you know, if I can put it a different way, that it's actually going to happen?

Yeah, the short answer is that our Q1 earnings call will have a pretty good picture on kind of the beginning of how Q2 is trending. It varies industry by industry on sort of who's taking the orders. But, you know, there's a good usually four, six, eight, you know, in that sort of lag, in that sort of time frame, right? So we'll have a better picture if what we believe is being confirmed sort of, you know, at the end of our Q1. We'll have a little bit of a picture sort of at our Q1 earnings call. I would say, though, part of the comfort comes from what we're also hearing from our OEM partners about inventory, if that makes sense, and about sell-throughs, and what we're seeing in terms of model count, right? So there's several different factors that play into Elias' and mine confidence in that statement. Yeah, and Robert, we can take, you know, the backlog.

We take orders four to six weeks out is when we can take an order and still ship it. So... you know, it's, um, I would say it's not a business where you have like a three or four month, you know, kind of lead time. It's a lot shorter than that. It's a monthly time. So in, you know, we won't be able to tell definitively, you know, kind of the back half likely until we're, you know, in June, July, and we're starting to get, you know, kind of trends for, you know, what the third quarter bookings are going to look like and what we can ship against that. Probably by July, we'll have a pretty good read on that about the third quarter, and that will inform a lot from a trend standpoint where the fourth quarter is. I will tell you that as the first quarter has gone on, Bookings have gotten better. January was incredibly slow. February is not great, but it's not awful. And so there's been a general pickup that we've seen already starting to happen. And the depth of the drawdown that we're seeing in Q1 might actually work to have this business recover more quickly. It could be in Q2. We just aren't at a point where we're going to see that yet, given the short-term nature of how quickly we can fulfill an order.

Got it, got it. Thank you. I really appreciate the extensive color. The second one, and you probably just answered this in the previous answer. Lugano, I mean, it was, I think, the biggest or one of the biggest contributors to working capital build in 22. To be clear, I mean, you talked about you're still investing. There hasn't been any change or is it the fact that, you know, you're only currently scheduled to open two stores, salons, sorry,

I mean, we're going to build as we grow working capital. I want to remind you that this working capital is not widgets that if you had to sell, you'd sell it cents on the dollar, right? We're selling the closest thing. Our inventory is made up of the closest thing to money that you have, right? In sort of gold and diamonds and other fine stones, right? But the short answer is we'll continue to build.

It's been really good, so... That's the question. Is it still going to be heavily invested in because of the turn on the growth that Lugano has been, let's just say, quite... Robert, yes.

The answer is yes. I would tell you, and I mentioned this earlier, we have planned for a much more conservative growth plan with Lugano, and that has embedded in the overall guidance of the company. They're currently running... dramatically ahead of where our growth plan would be and what we've embedded in our guidance. That requires us to invest capital. What we've seen and what we experienced over the course of our ownership is that if we invest a dollar in inventory, that yields about an additional dollar of revenue. And that's sort of an incremental 40% margin, EBITDA margin, And as long as that trend continues and we're able to get a 40% pre-tax return on invested capital on that inventory, we're going to continue to do it because we can't find opportunities like that very often to deploy our capital into. So the question will, and what we look at on, frankly, a weekly and monthly basis is, Are our inventory investments continuing to yield the sales growth and are the relationships remaining, you know, consistent? And so far they are. And they have over the course of our ownership. So we will continue to invest in, you know, the growth of Lugano. And so right now our forecast is that we're not going to put a lot of capital in and there's not going to be, you know, kind of a huge amount of EBITDA growth. I think we'll all be happy if instead of having to invest 30 or 40 million of inventory, we have to invest 100 million because the incremental 60 or 70 probably generated another 20 to 25 million dollars of EBITDA. And that's kind of how we look at it. And I think to the extent we can continue to invest more in inventory, it will help us exceed our financial forecast. And it could on a meaningful at a meaningful level.

Right, and so to nail that down, the embedded Lugano assumptions are subject to a greater number of rebudget and revisions, probably upwards, during the course of the year than, say, the other businesses. Is that a way of putting it?

I think based on current trends, Lugano has the most probable reason or highest probability of upward revisions going forward based on what we've seen in January and February to our current plan.

Got it. Thank you.

Thank you.

Your next question comes from the line of Matthew Howlett from B. Riley. Matthew Howlett, your line is now open.

Oh, thanks. Good afternoon. Thanks for taking my question. First, just to start off, on the billion 2028 long-term target, I still contemplate it's about a 10%. long-term growth rate of the company. You're still good with that? That's, you know, going forward, still good with long-term growth trajectory of the subsidiaries?

Yeah. I mean, Matt, if there's anything, and it's one of the things I wanted to point out with Arnold, the purpose of doing that is, was really to suggest that the positioning of our companies is so much better today than it's been, you know, in prior years. And some companies that even were difficult like Arnold to turn around and I mean, I got to, you know, again, compliment Dan Miller and the management team. They took something that was a very difficult situation and have created a really incredible company with a lot of legs and a lot of growth. And it's positioned in the perfect part of the economy, right? Electrification and, you know, and we know that the green economy is something that, you know, regardless of what happens in the macroeconomics, you know, global macroeconomic picture, The green economy is still going to grow, and it's still going to drive growth. And so, you know, I use that as one example, but I could go across the board. Altor and the management team that we have in there, you know, Terry and his team are doing incredible things to drive efficiency and to grow margin and to grow revenues, and we're seeing it. And I could go across pretty much every one of our companies and tell you that they are better positioned today, even if they're suffering a headwind. I mean, Pat mentioned it. BOA is going to grow their model count by over 10%. this year compared to last year, they are taking market share. So we can't really like, if I look at everything that's happening and I look at the management and the execution that's going on, there's nothing that suggests that our long-term growth rate would be any different than what we suggested. And in fact, if anything, it's probably higher probability of achieving to exceed right now. On the other, on the top of that, you know, as you guys know, Advanced Circuits was a great company, but it did not grow. It was materially below consolidated growth rate so just by virtue of removing a company whose growth rate was you know kind of GDP or a little less than GDP and we're a you know kind of high single-digit to low double-digit grower that is accretive to growth so there is nothing that You know, obviously nobody likes to go through conditions like we're going through. And trust me, no one in our firm is, you know, kind of happy we're doing this. But I don't know what we could do differently other than maybe next year or last year not supplying our customers so that the comps were easier. But if you think about what's happening and how our management teams are executing, they are executing at an extraordinary level. And I think when we get through this destocking, we're going to see our core growth you know, at least be at the levels we've outlined to you.

Yeah, you're right. The comps just throw everything off. I mean, you had this huge, huge year in 21. So absolutely, I recognize that and I appreciate that. It's a great target. And I guess that falls onto the question, and you guys are long-term holders, you know, that's one of the beauties of the structure. I mean, the bankers, the conversations you have with bankers today about your portfolio, you were very close to an IPO in 511 before it shut. If things do rebound in the second half, are you being approached that maybe there could be a window, maybe there's a SPAC out there that's hungry for something? Could you look to get rid of some of the smaller stuff out there? In terms of that, could we expect something? Would you want to give Kurt a head start, more capital? You could buy back stock, a little more stock. Talk to me about what the bankers are saying and what your appetite is to maybe approach the Apple markets in the back half of the year.

So, I mean, Elias has said many times that, you know, many of our businesses are for sale. It's all a matter of price. But we're not actively, you know, going out. We don't have plans to actively go out and market any business this year at all. On the 5.11 side, I would say, you know, to the extent the IPO market opens next year, you know, never say never. The company's got a great management team. They're executing well, and it's one of the most powerful brands we've ever been associated with. if that makes sense. So that would be how I would answer both of those. Elias, what would you add?

Yeah, Matt, you know, bankers, we constantly are talking to bankers, as you would anticipate, and about the market. The capital markets have been dead. I think, correct me if I'm wrong, Pat, but I don't think there was a single consumer IPO in 2022. And I think in the first quarter, we're not going to see one. So it is incredible that we've gone this long with the IPO market being shut as it is. But given what's happened in the overall market and the uncertainty in the macro picture and kind of the Federal Reserve being as tight as it is, it's not surprising that the capital markets are closed. As I've talked to my team, and just to remind us, the sun always comes up. It may take a little bit longer, but the sun will eventually come up a day. Again, there will be a day where capital markets open up again, where the M&A markets open up again. We just happen to be in a period where, you know, the sun isn't rising as quickly as we'd all like it. But these things don't shut forever. And I would anticipate that, you know, kind of as we work our way through this year and into next year, even if macro conditions don't change, at some point, the markets will open up because they've been on pause for so long. There's a need for new supply to come in. And so, you know, it feels like we're probably going to work our way through that here in the next, you know, kind of, um, you know, few quarters. And I think to the extent that the markets are open to high quality companies and giving decent value, you know, kind of good valuations to high quality companies and five 11 is a very high quality company. Then we would consider like we did a couple of years ago, taking that company public and having a piece of that, you know, be floated in the public market and their, you know, capital requirements being funded by their, you know, the public investors. So I think we have to just wait and see where it is. I can tell you that company is very much a public ready company and its performance relative to other companies in the apparel space over a really difficult time, as Pat indicated earlier, I think does nothing other than enhance its attractiveness to public investors because when other companies are seeing huge pressure on revenue growth in the apparel space, on margins, we're able to generate almost double-digit revenue growth and had only a small amount of deleveraging. I mean, it was 9% revenue growth and 6% EBITDA growth last year. So it's extraordinary considering the conditions. And I think it really helps to, you know, kind of tie a bow on how differentiated this company is and how strong this company is. And so I think when the market opens up, it probably is more attractive to public investors than it was even a couple of years ago when we approached the market last time. I really appreciate that.

And we'll be certainly watching for that because I do that. The price target was very high for that. It would be great to be able to monetize some of that. I guess that leads me to the last question. You guys are shareholder-friendly. You're trading at 10, 11 times. Your portfolio could be worth a lot more than that. What's the appetite to repurchase stock? You obviously didn't put the program in there if you didn't think the stock was undervalued. If you get some of this cash conversion, what's the appetite? Obviously, with this paydown situation, What's the appetite to return capital via shared purchases? Thank you.

Yeah, I mean, as you know, Matt, we already return a decent amount of capital through our annual dividend. But as you said, the stock price is, you know, so attractive today that, you know, it warrants us having a buyback in place. And so, you know, we put it in place because we are absolutely prepared to act on it. You know, as all these buybacks are, they are, you know, kind of scaled generally against where the price is in the marketplace. And, you know, our view is if investors have such a short term nature where they're looking at a quarter or two of results against what the long term is, then we'll advantage our long term holders by buying back their shares because there's nothing fundamentally that has impaired any of these businesses. These businesses are better positioned than they were a year ago. And we were trading, you know, kind of in the low 30s. So if investors want to sell shares to us on, you know, for the benefit of our long-term shareholders to accrete more value over time to them, then we'll take advantage of that, you know, on their behalf. But ultimately, we are a young growth company. And we would like to use our capital to facilitate growth through acquisition and investment in our subsidiary. So there is, you know, the reality of capital allocation that we constantly are looking at, but you know, with our stock down here in the, you know, kind of low twenties, it's just hard for us not to look and say, this is the best opportunity for our shareholders to deploy our capital against buying it back. And, you know, that may be a temporary condition, We would hope so because we hope our stock kind of rebounds and kind of reflects the value and the intrinsic value of these companies and the efforts that we're putting in. But in the near term, sometimes dislocations happen, and you're able to take advantage of that for your long-term shareholders, and we're prepared to do that.

I appreciate it. You have it at your hip pocket. I'm sure you'll utilize it, and I really appreciate it. Thank you. Thank you, Matt.

Your next question comes from the line of Barry Hames from Sage Asset Management. Barry Hames, your line is now open.

Thanks so much. I had two questions. The first one is you guys talked about some of the macro issues, the consumer doing better and the tight labor market. But the flip side of that is the upward pressure on inflation and rates. And so the question is how you're thinking about your debt and whether you want to try to raise more long-term debt or not. Obviously the 10-year yield moved down, now it's moved back up a little bit. So I'm just kind of curious how you're thinking about kind of long-term debt capital. And then the second question on Lugano, that was great feedback on the return on inventory. But I'm curious, since you're opening a couple of new locations, I imagine you've looked at lots of potential locations. How many locations do you think are potentially Lugano locations over the next three to five years? And what sort of ROIC do you get on a new location? And how long does it take for that new location to get to more of a steady state? Is it a 1218 month thing or a two or three year thing. So any color on those two would be great. Thank you.

Yeah, thank you for the question. And your first question. Remember, the vast majority of our debt is locked, you know, into the late 20s. And so I think Ryan, correct me if I'm wrong. It's like 28 in 2030. When are you? Okay, so even longer 2932. We have five and five and a quarter percent respectively fixed rate bonds in the marketplace, a billion three of the billion seven. That roughly is outstanding. As you know, we had a kind of $400 million term loan. We had revolver borrowings that were outstanding, but we paid off our revolver borrowings with the proceeds from ACI. You know, $400 million on $1.7 billion is 23%. We have 76% of our debt that is fixed right now, 23% that's floating. Clearly, you know, we would rather have 100% that was fixed right now. But if we were to enter the market, and we could, and we talked to our bond investors who have appetite if we wanted to term out that debt. And we have talked to bankers who, you know, have given us price talk. You know, the problem is it is, you know, kind of a couple few hundred basis points more than what we are paying currently. And that's just you could look at market pricing of our bonds right now trading in the, you know, I think low 80s. And it kind of indicates a yield to worse. That's two, three hundred basis points higher than where we issued our last debt tranches. So I think rather than going out and terming that debt right now, we'd rather sit with, you know, kind of a secured capacity fund. being utilized at a very small level. Remember, it's only one turn of secured debt, less than a turn of secured debt. So from a financial covenant standpoint, we have availability, we have liquidity, we have no covenant pressure whatsoever. Now, obviously, if rates continue to rise, it's going to put some upward pressure on that $400 million. But I think it's still, we'd have to consider a pretty big increase in rates happening from here until the rate picture stabilizes in order to have it make sense to have that $400 million tranched out right now. I think, you know, we think it probably makes a little bit more sense to be patient right now with that. And if the, you know, interest rate picture stabilizes later in the year and the bond market starts to recover and we can do a primary issuance you know, kind of closer to where we, you know, priced our last bonds, it's not going to be at five or five and a quarter. But I think if we were able to, you know, kind of narrow that spread down to 100 or 150 basis points and be in the sixes, that would start to look interesting to us to free up the secured capacity. But I think for right now, we feel pretty good having, you know, roughly 75% of our debt, you know, kind of fixed in our capital structure. Pat, you want to talk about Lugano?

I'll just say, and I'm going to give you a wholly unsatisfactory answer, and I apologize, but that is it depends. And I'll give you some factors around that. You know, the payback on some stores is very fast. You know, when we open in Houston and we have a lot of clientele in that area already, you know, it's definitely under 12 months. When we open in a green field, if we open internationally, if we have an international location opened in 24, you know, that may take a little bit longer to seed. On the inventory question, it's not formulated. And it's not as if you know, company has X in sales, they're opening Y salons. If they open up one more, you do the math and add that. It's a little less than that, and we gain a little bit of efficiencies in that because we share inventory sort of across salons. Inventory is not necessarily 100%, you know, salon dependent. And then as it relates to the number, you know, of stores, I mentioned a couple this year that we're targeting. There may be one more. You know, and then we need to – we'll – digest those, think through it, and probably have something that looks similar in 2024. But remember, we need to sort of build out kind of a lot of the talent that it takes to work and to manage those salons as well. And that's not, that takes time as well. These are highly skilled people, you know, that it takes time to develop.

And the number of ultimate locations, any feel for that?

This year or next year? No, no, just, yeah. I have no, and it's not, we could have a location that does, one location that does a massive amount of revenue based on where it was. So it's not, it's almost not the right question to ask, respectfully. It's more about sort of what markets can we penetrate as far as, you know, gaining new customers in.

Got it. Thanks. That's a very helpful call. I appreciate it. Thank you.

There are no further questions at this time. I would now like to turn the conference back over to Mr. Elias. Sir?

Thank you, Operator. As always, I'd like to thank everyone again for joining us on today's call and for your continued interest in coding. Thank you for your support. That concludes our call.

This concludes Compass Diversified Conference Call. Thank you and have a great day.