MSC Industrial Direct Company, Inc.

Good day, and welcome to the MSC Industrial Supply Fiscal 2022 Third Quarter Conference Call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on a touch-tone phone. To withdraw your question, please press star then two. Please note, today's event is being recorded. I would now like to turn the conference over to John Corona, Vice President of Investor Relations and Treasurer. Please go ahead, sir.

Thank you, and good morning, everyone. Eric Gershwin, our Chief Executive Officer, and Kristen Actis Grande, our Chief Financial Officer, are both on the call with me today. During today's call, we will refer to various financial and management data in the presentation slides that accompany our comments. as well as our operational statistics, both of which can be found on our investor relations webpage. Let me reference our safe harbor statement under the Private Securities Litigation Reform Act of 1995, a summary of which is on slide two of the accompanying presentation. Our comments on this call, as well as the supplemental information we are providing on the website, contain forward-looking statements within the meaning of the U.S. securities laws. including statements about the high inflationary environment and global economic conditions on our operations, results of operations, and financial conditions, expected future results, expected benefits from our investment and strategic plans and other initiatives, and expected future growth and profitability. These forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from those anticipated by these statements. Information about these risks is noted in our earnings press release and the risk factors in the MD&A sections of our latest annual report on Form 10-K filed with the SEC, as well as in our other SEC filings. These risk factors include our comments on the high inflationary environment and global economic conditions. These forward-looking statements are based on our current expectations, and the company assumes no obligation to update these statements, except as required by applicable law. Investors are cautioned not to place undue reliance on these forward-looking statements. In addition, during this call, we may refer to certain adjusted financial results, which are non-GAAP measures. Please refer to the GAAP versus non-GAAP reconciliations in our presentation or on our website, which contain the reconciliations of the adjusted financial measures to the most directly comparable GAAP measures. I'll now turn the call over to Eric.

Thanks, John. Good morning, everyone, and thank you for joining us today. I hope you remain safe and healthy. On today's call, I'll reflect on our recent performance, provide color on Q3, and also share our perspective on the current environment. Kristen will provide more specifics on our financial performance and outlook, and I'll then wrap things up before we open up the line for questions. We're now three quarters of the way through fiscal 2022 and our drive to improve execution and financial performance is in full swing. Each passing quarter is another proof point of progress on our mission critical journey. During our fiscal third quarter, we achieved revenue growth of roughly 500 basis points above the IP index. We demonstrated continued gross margin expansion both sequentially and year over year, and we translated the growth into strong operating leverage. Adjusted incremental margins for the quarter were just over 33%, and adjusted operating margins expanded to 200 basis points. Our fiscal third quarter represented the highest revenue in the history of our company and the lowest operating expense-to-sales ratio since fiscal 2013. While we're encouraged with progress, we are far from satisfied. On the growth front, we're seeing historically high contribution from realized price in light of the inflationary environment. And so we still expect more growth above IP, and we're focused on capturing it. On the profitability front, operating margins are improving, but we strive for consistent margin expansion before we declare victory. Turning now to our performance, I'll begin with revenue growth. We remain focused on the same five growth levers that have had our attention all year, and those are metalworking, solutions, selling the portfolio, digital, and customer diversification with an emphasis on the public sector. Today, I'll highlight metalworking, selling the portfolio, and the public sector. Metalworking remains the cornerstone of our strategy. We use our expertise to bring productivity and profit improvement to our customers. These efforts are driving customer satisfaction, new wins, and the strong price realization rates that we've been seeing. A recent example underscores the power of our metalworking team. One of our experts recently consulted with a customer who produces machinery for the food processing and consumer goods industries. He recommended numerous process improvements to both their drilling and milling operations. Those recommendations reduced cycle times in the customer's milling operations from nearly three minutes down to just 10 seconds per part. Similar improvements were made in their drilling operation, taking cycle times from over two minutes down to just 15 seconds. In total, this translated into increased capacity and reduced energy consumption, yielding $700,000 in annual profit improvement for the customer. For MSC, this has resulted in a several-fold increase in share of wallet. In order to bolster our metalworking leadership, we acquired Ingman Taylor, a premier metalworking distributor headquartered in Wisconsin after the quarter end. We have long admired the company and are excited about the combination of our two businesses. Ingman Taylor brings to MSC a deep bench of metalworking expertise, a great reputation with customers and suppliers, and a culture that aligns with ours. CEO Rick Starr will continue running the Ingman Taylor business and I'm thrilled to welcome him and the entire team to MSC. Next, I'll touch on selling the portfolio, which is about cross-selling additional product lines, most notably our C-Parts consumable offering of CCSG. This business is particularly important because it solves a big challenge for our customers through an outsourced VMI model, and at the same time, creates high degrees of loyalty and stickiness for MSC in a high margin category. We have sharpened our focus on this business, and we're seeing performance improve as a result. Growth has been pacing ahead of company average, with Q3 coming in the mid-teens. We view this as the early stages of our plan, and we expect momentum to build. Finally, on the growth front, I'll update on the public sector. While sales remain down in the quarter, I'm encouraged by progress. During the course of Q3, we completed implementation across the entirety of marine bases for the 4PL contract. We've begun to see revenues build and we're on pace with our initial expectations. Partially as a result of this, we saw the public sector inflect during the quarter. March and April were slightly under 20% negative, whereas May flipped to growth, and we expect double-digit growth in our fiscal fourth quarter. Turning to gross margin, I remain quite pleased with our performance. Following a strong output in our fiscal Q2, gross margins lifted sequentially another 40 basis points in Q3. This is largely the result of the late January price increase and supplier rebate upside due to higher purchase volumes. Realization rates remain strong against the backdrop of severe inflation as our value proposition is resonating with customers during these extreme times. Our customers are plagued with rapid inflation, labor shortages, and extended lead times. The need for product availability and for tangible productivity gains are paramount. MSC is delivering on both fronts, as evidenced by the example I shared earlier. I'll also mention that in response to continued supplier cost increases, we implemented a low single-digit price increase towards the end of May. Finally, I'm particularly excited by our progress this quarter on operating profit improvement. Thanks to our mission-critical initiative and to the efforts of our entire team on expense control and productivity gains, we reduced adjusted operating expense to sales ratio by 140 basis points and hence expanded adjusted operating margins by 200 basis points. These efforts are pushing adjusted ROIC into the high teens and we are ahead of schedule with our original 2023 goal. Turning to the external landscape, we are in interesting times indeed. On the one hand, there are several yellow or red macro indicators, such as high inflation, rising interest rates, and ongoing supply chain shortages and challenges. On the other hand, we are experiencing a more encouraging picture. Order levels, backlogs, and overall activity remain strong. Most segments of the industrial economy are still seeing robust demand patterns as evidenced by the Industrial Production Index. That said, many of our customers are feeling the effects of extreme inflation in all lines of their income statement, along with the ongoing labor and supply shortages. resulting in the need for productivity and process improvement. Despite supply chain constraints easing gradually, we are nowhere near back to a normal environment. And while all of this continues to put pressure on our customers, we are not seeing the evidence of an imminent recession that is suggested by the headlines. As a result, we remain in growth mode. In fact, we expect double-digit organic average daily sales growth to continue in fiscal Q4, as evidenced by our June reading. If, however, we were to see a change in environment at any point, we're prepared to adjust quickly. Through the pandemic, we've become more agile and we've improved our ability to course correct. In addition, our balance sheet remains strong and our cash generation will continue improving leaving us well-positioned to capitalize on any opportunities that would emerge. I'll now turn things over to Kristen.