Beacon Roofing Supply, Inc. (NASDAQ:BECN) Q3 2023 Earnings Call Transcript

Beacon Roofing Supply, Inc. (NASDAQ:BECN) Q3 2023 Earnings Call Transcript November 5, 2023

Operator: Good afternoon, ladies and gentlemen. Welcome to the Beacon Third Quarter 2023 Earnings Call. My name is Matt, and I will be your coordinator for today. At this time, all participants are in a listen-only mode. We will be conducting a question-and-answer session towards the end of this call. [Operator Instructions] As a reminder, this conference call is being recorded for replay purposes. I would now like to turn the call over to Mr. Binit Sanghvi, Vice President of Capital Markets and Treasurer. Please proceed, Mr. Sanghvi.

Binit Sanghvi: Thank you, Matthew. Good afternoon, everybody. And as always, thank you for taking the time to join us on our call today. Julian Francis, Beacon’s Chief Executive Officer; and Frank Lonegro, our Chief Financial Officer, will begin with prepared remarks that will follow the slide deck posted to the Investor Relations section of Beacon’s website. After that, we will open the call for questions. Before we begin, please reference Slide 2 for a couple of brief reminders. First, this call will contain forward-looking statements about the company’s plans and objectives and future performance. Forward-looking statements can be identified because they do not relate strictly to historical or current facts and use the words such as anticipate, estimate, expect, believe and other words of similar meaning.

Actual results may differ materially from those indicated by such forward-looking statements, as a result of various important factors, including, but not limited to, those set forth in the Risk Factors section of the company’s 2022 Form 10-K. Second, the forward-looking statements contained in this call are based on information, as of today, November 2nd, 2023. And except as required by law, the company undertakes no obligation to update or revise any of these forward-looking statements. And finally, this call will contain references to certain non-GAAP measures. The reconciliation of these non-GAAP measures to the most comparable GAAP measures is set forth in today’s press release and the appendix to the presentation accompanying this call.

Both the press release and the presentation are available on our website at becn.com. Now let’s begin with opening remarks from Julian.

Julian Francis: Thanks, Binit, and good afternoon, everyone. I’ll begin on Slide 4. Once again, Beacon’s third quarter results reflect our team’s collective ability to execute on our Ambition 2025 strategic plan and the power of our business model and the resiliency of our core markets. Once again, we demonstrated that we have multiple paths to growth and can deliver results in a variety of conditions. The foundation of our end markets are the repair and replacement of exterior weatherproofing products on residential and commercial buildings. This activity is driven primarily by necessity and is much less subject to interest rate changes, consumer sentiment or commercial financing. While core demand for residential housing remains robust, clearly, macroeconomic factors are negatively impacting both new builds and existing for-sale units.

Commercial construction activity has been slower than we anticipated at the start of the year and channel destocking has been a larger headwind. Nevertheless, the Beacon team has delivered yet another record quarter, aided by tailwinds from storms, but primarily as a result of executing well on our strategic plan. In the third quarter, we grew daily sales by approximately 9% year-over-year, at the high end of our 7% to 9% expectations. Our gross margin came in at 26%, above our guidance of mid to high 25% range. As our team worked diligently to execute on the August shingle price increase, manage a dynamic non-res market and mitigate product cost increases. In addition, we delivered value to our customers, especially in the essential products and services we provide in storm-impacted areas.

We stayed focused on labor productivity and carefully managed our indirect cost inputs in the face of continued inflation. As a result, we achieved record-setting top-line and strong bottom line performance, including a record for quarterly adjusted EBITDA and the highest calendar third quarter EBITDA margin in our history. Operating profits and our active management of working capital, in particular, our inventory continued to generate substantial cash flow, allowing us to deploy capital to both growth initiatives and returns to our shareholders. We continue to execute on the acquisition pipeline with five, since the end of the second quarter. And in October, we added to our industry-leading waterproofing footprint by acquiring Garvin Construction Products.

The Garvin acquisition adds strength to our position in the Northeast, adding five locations from the D.C. Metro up to Boston, as we continue to develop and enhance our capabilities in the growing waterproofing category, which we believe like roofing is largely non-discretionary. As discussed in the last earnings call, we also continued returning capital to shareholders. In July, we deployed a little over $800 million to repurchase all of the outstanding preferred shares on top of the $100 million of common share repurchases that we’ve completed so far this year. Impressively, we have invested nearly $1.1 billion this year in shareholder returns and growth capital, including the highest CapEx in our history, while at the same time maintaining our net debt leverage at less than 2.7x, a true testament to the cash generating ability of our business.

At our Investor Day last year, we said that we would unlock the potential of Beacon, and I can confidently say today that we are well on the way to achieving that goal. Now, please turn to Page 5 of the deck. Early last year, we laid out our targets to drive above-market growth, deliver double-digit adjusted EBITDA margins, build a great organization and generate superior shareholder returns. Creating value for our customers is central to achieving these goals, and our team has relentlessly focused on doing that every day. Let me provide you with an update on our strategic initiatives, starting with how we are building a winning culture. Our branches are heavily trafficked with large pieces of equipment and heavy materials. Our findings show that newer employees are at greater risk of injuring themselves and we continue to enhance our onboarding practices.

One way this manifests itself is that our new employees now wear a Green Hardhat for the first 90 days with us. This signals to teammates that they are in a learning phase and require additional direction and coaching on safe and efficient operations, as well as preparing these employees to be top-notch operators and coaches themselves. In addition to caring for our people, we are caring about the environment to support the communities in which we work and live. During the quarter, our Corporate Social Responsibility Council developed a program to engage all employees in building better for the environment, a program designed to create ownership and accountability and ask our employees to be an active environmental steward at all levels of the organization.

We are already generating ideas and buy-in on how we can engage more deeply with local environmental initiatives. And for example, in Canada, we have introduced an EV car program for our sales force. Our second pillar is driving growth above market and enhancing margins through a set of targeted initiatives. Expanding our customer reach continues to be a major lever in our growth plans. This includes our investments in greenfields and acquisitions. Our dedicated greenfield team continues to execute on our pipeline. Year-to-date, we have opened 19 new branch locations, which enhances our ability to serve new and existing customers. We started the year with plans for at least 15 locations. And each time we add a new location, we are adding sales resources and reducing the average distance and time for us to serve our customers’ orders.

This enhances our overall value proposition, giving us the opportunity to earn market share. We have now opened 36 new branches since the beginning of last year and will exceed our initial Ambition 2025 goal. These new branches are ramping up ahead of expectations and will contribute nearly $250 million to the top line this year alone. On acquisitions, we discussed the recent purchase of Garvin, providing a delivery footprint for waterproofing products in the Northeast. But we also completed four other acquisitions since the end of the second quarter, including All American Vinyl Siding Supply, S&H Building Materials, Crossroads Roofing Supply, and this week, H&H Roofing Supply. I’m pleased to report that our acquisition portfolio is performing well and delivering better-than-expected results.

Since announcing our Ambition 2025 plan, we have acquired 14 companies adding 43 branches, which together are generating around $400 million in annual revenues and like our greenfield strategy, expanding our ability to serve our customers across the country. Our online capability continues to be a clear competitive differentiator for Beacon since we provide the most complete digital offering in the industry. Sales through our online platform deliver approximately 150 basis points better margin compared to offline channels. We continue to expand our offering to serve customers in the ways that brings the customer the most value. Our digital integrations with solutions providers drove an impressive 22% year-over-year increase in digital sales in the third quarter and the highest percentage of residential sales ever at 22%.

We have plans to build on our digital leadership by continuing to invest in this area of differentiation. Moving on, for those of you who have listened to our calls in the past, you know that we are enhancing productivity and expanding capacity through our continuous improvement and operational excellence initiatives. Our focus on the bottom quintile branches generated significant contributions to EBITDA in the third quarter. Our disciplined process for diagnosing and addressing issues has been core to our operational improvements the last two years. And I’m pleased to report that the process contributed approximately $10 million of EBITDA year-over-year in the third quarter. As we have discussed on previous calls, we have chosen to operate our branches, as a network in larger MSAs. They operate on a single P&L and work together to provide optimized service to the customer.

We have coined this approach, OTC or on time and complete. OTC provides four key benefits: first, improved customer service levels; second, the lower cost to serve; third, the ability to optimize inventory levels; and fourth, it enhances local talent development critical to us achieving our Ambition 2025 goals. These initiatives, combined with our branch revitalization have been key to delivering on our productivity improvements and generating the operating leverage that Frank will discuss shortly. And lastly, I’ll talk about how we are creating shareholder value. As we discussed on the last call, we successfully repurchased the entirety of the outstanding preferred shares, reducing the as-converted share count by 9.7 million or 13% of the equity outstanding and eliminated the related cash dividend of $24 million annually.

In addition, we continue to execute on our current authorization to repurchase our common stock. Year-to-date through July 31st, we repurchased approximately $100 million or approximately 1.5 million shares. Since the start of Ambition 2025, we have deployed nearly $1.3 billion, reducing the as-converted share count by more than 21%. It is worth repeating the impressive highlights I mentioned in my opening remarks. Even with the purchase of our shares, the investment M&A and the record spending on growth CapEx, we have maintained leverage well within our stated target range of 2x to 3x. In summary, we have a differentiated approach and have built the tools to enable multiple paths of growth, margin expansion and value creation through the cycle.

Our Ambition 2025 plan has seamlessly stitched it all together to amplify the resiliency of our business model and unlock our potential. Now, I’ll pass the call over to Frank to provide a deeper focus on our third quarter results.

Frank Lonegro: Thanks, Julian, and good evening, everyone. Turning to Slide 7. We achieved nearly $2.6 billion in total net sales in the third quarter, up 7%, primarily driven by the impact of acquisitions. Adjusting for one less selling day in the third quarter of this year, net sales increased almost 9%. Organic volumes and slightly higher average selling prices for our products also contributed to the growth. Organic volumes, including those from Greenfields increased approximately 1% to 2%, while overall price contributed less than 1%. Acquisitions, including Coastal Construction Products are performing well and contributed nearly 5% to daily net sales year-over-year. Our backlog continued to convert in the quarter, as we entered the shorter season.

While the backlog is slightly lower sequentially, it remains well above historical levels. Residential roofing sales per day were higher by more than 15%. Volume growth in the low double-digit range combined with higher prices, resulting from our diligent execution of the August shingle increase drove the revenue performance. Our resi volumes in the quarter were strong and adjusting for channel restocking, we estimate that we grew at least in line with the market. Non-discretionary residential R&R demand was supported by higher storm activity this year. 2023 storm demand continues to be stronger than our 10-year average planning assumption, more than offsetting new construction headwinds this year. Non-residential roofing sales declined by approximately 6% per day, as the expected destocking by our customers and lengthening project cycles continue to impact volumes in the quarter.

That said, even in a period of significant channel destocking and lower volumes, overall non-residential prices were relatively stable sequentially and year-over-year. Complementary sales per day increased 14.5%. The growth was primarily driven by the Coastal acquisition, which drove higher sales of our waterproofing products. Higher overall siding volumes also contributed to the increase. Excluding lumber, overall complementary product prices were stable sequentially. As a reminder, with the addition of Coastal, our complementary product category now has approximately 70% residential and 30% non-residential exposure. Turning to Slide 8. We’ll review gross margin and operating expense. Gross margin came in at 26% in the third quarter, nearly matching the year-ago quarter.

While line of business mix provided gross margin favorability, overall price/cost was unfavorable by approximately 40 basis points. Higher average selling prices year-over-year were more than offset by higher product costs, especially in the non-residential line of business. Importantly, we surpassed the gross margin guidance we provided on the second quarter call. Efficient execution of the August shingle price increase yielded residential price cost favorability in the quarter. Gross margin performance in the quarter, essentially in line with the prior year quarter, is even more impressive when you consider the significant inventory profits generated in the year-ago period. Adjusted OpEx was $395 million, an increase of $21 million. Adjusted OpEx as a percentage of sales decreased to 15.3% or 20 basis points of leverage improvement versus the prior year quarter.

The change in adjusted OpEx was driven primarily by expenses associated with acquired and greenfield branches. Together, these new branches accounted for approximately $30 million of the increase. Inflationary pressures in areas such as wages and benefits and travel and entertainment also contributed to the increase. These increases were offset by lower incentive compensation, selling expenses, bad debt and professional fees. Branch productivity continues to be a focal point and helped drive favorable operating leverage in the third quarter. As you can see, our sales per hour metric matched its highest level indexed back to the first quarter of 2020. Investment in Ambition 2025 initiatives to drive above-market growth and margin enhancement continued in the quarter.

These investments include our dedicated greenfield and M&A teams, as well as initiatives related to our sales organization, customer experience, pricing tools and e-commerce technologies. Notably, our adjusted operating expense to sales ratio reached its second lowest level in 10 years, proof of the team’s focus on driving growth and delivering operating efficiency. Turning to Slide 9. Operating cash flow was solid for the third quarter at $167 million, as working capital benefited from continued inventory rightsizing. We had about $80 million less in inventory as compared to the prior year quarter, even with higher product costs, inventory acquired through M&A and new inventory to support greenfields. This is a testament to the collaborative efforts of the field management team and the supply chain organization to efficiently manage working capital in this dynamic environment.

Over the past four quarters, we’ve generated $845 million of operating cash flow, converting nearly 95% of adjusted EBITDA. And we expect solid cash generation in the fourth quarter, as we begin to return to a more seasonal pattern of cash flow. While Julian previously mentioned share repurchases, let me give you some additional details that may be helpful. Common share repurchases in the third quarter were $25 million. They were made early in the quarter through a then existing Rule 10b5-1 plan. The repurchases resulted in the retirement of approximately 300,000 common shares. Net of share issuances for stock-based compensation, we reduced common shares outstanding to 63.2 million on September 30th versus 64.2 million at December 31st. Net debt leverage at the end of the quarter was less than 2.7x trailing 12 months adjusted EBITDA, squarely within the leverage range we laid out at Investor Day.

As you know, the sequential tick up in leverage is attributable to the preferred redemption. We continue to have ample capacity to invest in greenfields and acquisitions, as well as upgrading our fleet and facilities to support our customers and employees. We are also continuing to invest to unlock service improvements, future growth and branch productivity. We remain confident in our ability to successfully operate in any environment and capitalize on growth opportunities, as we close out the year. With that, I’ll turn the call back to Julian for his closing remarks.

Julian Francis: Thanks, Frank. Please turn to Page 11 of the slide materials. Before we head to Q&A, I’d like to update you on our outlook for the remainder of the year. As we look forward, we expect current momentum will continue in the fourth quarter. We expect all three lines of business to show positive growth in the quarter, including our non-residential business, which has trailed all year. For the fourth quarter, we expect sales per day growth to be approximately 11% to 13% year-over-year, in line with our October pacing of approximately 13%. Keep in mind that the fourth quarter of last year included the acquisition of Coastal Construction Products. We expect gross margin to be in the 25.5% range. And remember that the prior year quarter had significant inventory profits.

As we enter the winter months, we will balance product availability with our inventory reduction and productivity with growth investments. And importantly, as Frank mentioned, we expect to finish the year with significant cash flow. We are increasing our full-year 2023 adjusted EBITDA guidance in the range of $910 million to $930 million. This increase is an impressive accomplishment for the team, proving that we can navigate in any environment. I will remind you that we had confidence coming into the year that we could grow the top-line, and now we have line of sights to bottom line growth, too. I’m very pleased that we are guiding to full-year 2023 EBITDA that is likely to surpass our record year of 2022. Given our current valuation and our balance sheet strength, we expect to resume our share repurchase program under the remaining authorization granted earlier this year.

Our focus remains on the areas within our control, including safety, customer experience, labor productivity and pricing execution. We will continue to deploy capital on initiatives that we expect will result in accelerated growth, including executing on acquisitions and delivering on our greenfield locations, which we now expect to be around 25 branches in 2023. Our results demonstrate that our strategy provides us with the ingredients for us to grow faster than the market. While we still have more to achieve, I’m pleased to say that we expect to exceed the revenue and shareholder return targets that we laid out in our Ambition 2025 plan in this year, a full two years ahead of plan. Looking forward, we plan to continue making investments in our sales organization and our service model, our digital offerings and our private brand categories.

We’re investing in improving our operations, delivering results today, but also getting ready for the future. We are adding platforms for growth that we expect will result in accelerated performance with targeted acquisitions and our greenfield locations. Our business model is resilient, leveraging predominantly non-discretionary R&R demand and our momentum is strong. We’re looking forward to the rest of 2023 and helping our customers to build more. And with that, we will open it up for questions.

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Q&A Session

Operator: [Operator Instructions] The first question is from the line of Ketan Mamtora with BMO. Your line is now open.

Ketan Mamtora: Thank you. And congrats on another good quarter. Maybe, Julian, to start with, can you talk to sort of just regional trends this quarter, areas, where you saw things that were better than what you guys were expecting or areas, which were not as strong as you guys were expecting? Thank you.

Julian Francis: Sure. Thanks for the question, Ketan. Thanks for the wishes. Yes, I mean, obviously, the storm impacted markets were the strongest markets we had, and that included the California from the rain earlier in the year. We saw that come through. We saw storms through the Front Range, Denver, so Colorado, strong, Texas was strong. And we saw continued strength in the Upper Midwest as well. The weaker markets, I mean, probably the surprise to us in the quarter was the softening in Florida. Obviously, we’re seeing a little bit of a lapping of the Hurricane Ian impact. And I think we mentioned on the last call the impact of integration status, and there seems to have been a tightening labor market there that’s reduced output in the state as well.

So that has slowed down. And generally speaking, the northeast of the country has been final year, but it’s not been as strong as some of the other areas. So we are seeing a very regional outlook. But we continue to believe that in general, we’re outperforming across the country. We see very good trends in Beacon’s performance really across the country. So we’re very, very pleased, even in some of the weaker states, where we’ve seen good momentum with our marketing initiatives and our sales initiatives, greenfield acquisitions, et cetera. So we’re really very, very pleased with the performance across the board.

Operator: Thank you for your question. The next question is from the line of Joe Ahlersmeyer with Deutsche Bank. Your line is now open.

Joseph Ahlersmeyer: Yes, thanks. Good evening everybody. Thanks for taking the question. And obviously, congrats on these strong results as well, certainly a favorable environment, but your action is clearly helping you capitalize. My question is on the market from here into next year. Julian, last year, you had offered some thoughts on volumes, market level volumes into next year and what that might mean for pricing. Wondering if you’d like to indicate how you’re feeling about pricing and volumes into next year, just given the storm contribution in 2023.

Julian Francis: Sure. We’d be happy to do some of that. Obviously, we’re still a little ways away from providing guidance into 2024, but I’ll give you some sort of thoughts on how we’re thinking about it. First of all, we don’t believe this is a particularly outstanding year in terms of the macro environment. Obviously, storms have had a positive impact. They are above the 10-year average. But they’re not so far above the average that you’d say that it was an extraordinarily high year either. I mean rather there were no hurricanes this year, we’re lapping some hurricanes from prior years. So while it was above the 10-year average, it’s by no means an extraordinarily strong year. And we’ve obviously had macro headwinds in some other areas, higher interest rates, contracted destocking.

So we believe that the market next year will probably see some retrenchment in some of the markets, but there will be some carryovers from storms as well. So we’re still working through some of the plans. But we still believe, overall, it will be a very constructive market in historical terms, sort of a very decent overall residential outlook. We would expect to see solid new home starts. We would expect to continue to see the overall market for repair and replacement of necessary products that we carry to be — to continue to see some growth in that area probably. I mean, we’ve been emphasizing the fact that the building stock is what we work on, and the building stock has never gone down. It goes up every year. There are more homes at the end of every year.

There are more commercial buildings at the end of every year. And it’s always been thus, and that’s the market we work on. So we believe the market is going to be constructive. We think we’ll see obviously less destocking in the non-res space. And we’ll see what next year has in the residential space. It’s going to be somewhat dependent on which direction interest rates go. We would expect them to remain in this range. We’re not expecting them to tick up, but you’ll have to ask Chair Powell to explain that one to you. But overall, we see a constructive environment, Joe. So we think that we will grow top-line next year. That’s our going-in assumption right now.

Joseph Ahlersmeyer: Thanks for all the thoughts.

Operator: Thank you for your question. The next question is from the line of Mike Dahl with RBC. Your line is now open.

Mike Dahl: Thanks for taking my question. Interesting to hear in the near-term, the comments on kind of 4Q including positive growth from all of your business segments, so a transition from your non-res to some form of growth. I was wondering if — presumably, that was going to be modest, which would imply your resi business is up maybe like high teens. But maybe you can give us a little bit more color, Julian or Frank, on the specifics in terms of growth across your segments for 4Q?

Julian Francis: Thanks for the question, Mike. Yes. I mean, I’m glad you picked up on that. Yes. Obviously, we have seen the impact of the inventory that was in the channel dissipate. And so, we did — we do indeed believe that we will see growth in the non-res channel. So that’s important. Obviously, we’ve got growth in our complementary channel, as we acquire businesses as well. And we see particularly some strength coming in year-over-year on the residential side. Obviously, there’s a little bit of a storm. But remember, there was Hurricane Ian had an impact on fourth quarter of last year as well. So we’re excited about what we see for the fourth quarter, and I think our guidance would indicate that. So we feel very good. But I’ll let Frank add a little bit more detail.

Frank Lonegro: Sure, thanks. Hey, Mike. So October is probably a good place to start. So we gave you the 13% per day. And remember, there’s one more selling day this year. So the total revenue is really 16%. But it’s important to think about it on a daily basis, we’ll give that — we’ll give that day back in December. But on a daily basis, in the month, resi was up double-digits. Commercial was up low singles and complementary was up mid-teens. So I think you’re going to see a lot of those same trends. We got to lap Coastal. So obviously, you got to look at the complementary piece, as of November the 1st. But when we step back and look at the guide in — at an LOB level for Q4, you’re right, it’s going to be resi up mid-teens.

Most of that’s going to be volume with a little bit of carryover price from the August increase. Non-res ought to be in that low single-digit range. And complementary, once you lap the Coastal piece ought to be up kind of high singles or low doubles. So it’s a really good quarter for us. It’s continuing all the trends that we’ve been seeing lately. And I think the highlight is really seeing all four lines of business turn green for us. It would be the first time all year that we’ve been able to do that.

Mike Dahl: Great. Thanks.

Operator: Thank you for your question. The next question is from the line of Ryan Merkel with William Blair. Your line is now open.

Ryan Merkel: Hey, thank you. I wanted to ask on non-res, the project cycle times lengthening. What are some of the key drivers there? And any visibility to improvement?