Pricing, Barry, you covered a lot of it. What I think you left out was the key fundamental block there is that our transaction margin or as I think it’s been written structural margin going in the right direction for 2023. I think there’s more momentum around that in 2024. I think we’re doing a good job. Our leaders and our teams in the field are doing a good job managing expenses given all the craziness in the space and the balance sheet. The balance sheet being without any debt well positioned for any opportunity that comes our way. So I guess my point is then in a crazy industry in a crazy time, I like where we sit and I like our performance, and I remain very optimistic about the year and the future.
Jeffrey Sprague: Thank you for the perspective.
Albert Nahmad: And I think that’s well said.
Barry Logan: I agree.
Operator: The next question comes from Joe Ahlersmeyer with Deutsche Bank. Please go ahead.
Albert Nahmad: Good morning, Joe.
Joe Ahlersmeyer: Hi, everybody. Thank you for taking my questions. I think right after your last call. There was a rule by the EPA interpreting the AIM Act, just wondering if you have any thoughts on the impact of that rule as it relates to the dates around the transition?
Paul Johnston: Yes, it doesn’t change the dates of the transition. All it really did was change the sell-through process. Originally, the AIM Act out and indicated that you had to see selling any 410A product at the end of the year. The EPA came out with that with what you’re talking about and has a one year sell-through now. The units have to be manufactured and produced in 2024. The date for building anymore is December 31 of this year, and then there’s a 12-month sell-through.
Joe Ahlersmeyer: Understood. And I think there was also some consternation around what constituted manufacturing and if that could actually apply to things that were charged in the field, wondered if you had any thoughts on that? And then over — like bigger picture, though, does this actually change the time frame over which the OEMs are taking the actions that they’re taking. Just any thoughts there?
Paul Johnston: No, it doesn’t really change. The manufacturers have had to plan for this transition for the last several years. So it did not change the way that they’re going to flow this through. They had to get their manufacturing processes in order. They had to change their plant, get their vendors lined up. There was no real change in direction based upon that ruling. They still have to stop manufacturing all 410A units at the end of the year. I think what you were referring to had more to do with what was a component? Was the outdoor unit a component and hence, it could be replaced. That question is still a little bit up in the air. There’s still some fuzziness around that so that subsequent to the sell-through period, can you still install a 410 outdoor unit or indoor unit as a repair component? That has not been clarified yet.
Joe Ahlersmeyer: Okay. Understood. And if I may, I don’t think I heard earlier what your commercial HVAC sales were year-over-year relative to residential — and if you have any thoughts on where commercial can go in the year ahead?
Albert Nahmad: Well I did comment that commercial is very strong, and then we have backlog for at least a year. Can you add anything more to that, Barry or Paul?
Barry Logan: I mean for the year, commercial was up in the teens. So I think that’s been the trend all year long. The fourth quarter was near double digits and leave it at that, residential down a little bit.
Joe Ahlersmeyer: And looking forward?
Barry Logan: And I was going to say, and for the quarter, for the sake of the algebra, we had one less selling day in the quarter, so you can adjust for that if you choose to. Sorry, what was your question?
Joe Ahlersmeyer: Just the outlook for commercial?
Barry Logan: Again, we don’t measure backlog in the same proportions as the OEM to make large quantities of large commercial but like we said, I think, in the release or in the commentary, the backlog is still strong. We haven’t seen much variation in trend. And so not a reason to think that there will be.
Paul Johnston: Yes. And most of our commercial unitary products go at once. It’s a replacement demand. So there is no backlog.
Barry Logan: I always remember to put it in perspective, commercial for us is about 15% of what we do. Between 15% and 20% of what we do
Operator: The next question comes from Jeff Hammond with KeyBanc Capital Markets Inc. Please go ahead.
Jeffrey Hammond: Hey, good morning guys. So I heard a bunch of different things on gross margin. I wanted to come back to that. It sounds like transaction margin moving in the right direction. You got these kind of headwinds that carry over maybe 1Q, 2Q. Just mean maybe level set us on how you think about gross margins for 2024. Is that kind of 27% margin doable or do we kind of run a little bit below that given some of the moving pieces?
Albert Nahmad: You better take that Barry. Barry and Paul, do you want to deal with that?
Barry Logan: Yes, I’ll handle it. Well, first, I want to go back to the transaction margin. A.J. mentioned that, and it’s important to emphasize that I think so for the year, which I really want to speak about the year. In the year, the headwind in terms of all this noise about weighted average cost gains and inflation and so on. That headwind in 2023 was about 120 basis points. And that’s what we expect that to diminish greatly, importantly as we get into 2024. The margin gain, the selling margin gain in the year was 70 basis points. So the — that transactional margin that we make by improving pricing, improving everything we do relative to price and margin did improve in 2023. So the question for 2024 is can that continue?
Can that trend continue? And then some of the other noise diminishes, I would say, has largely diminished. So to answer your question, we’re going to stick with 27% of the goal for next — for 2024. And there’s some good momentum in the selling margin and some of these other pricing action discussions we’re having will have to play out as we think in the second, third quarter, especially for that to play out. But I think it’s where we stand today.
A.J. Nahmad: Including the transition to the A2L products, that will be — have to see how that plays out in the market as well.
Jeffrey Hammond: And just to clarify, the non-equipment down six, did you have negative price in there where there were some actually real disinflation around whether it be refrigerant or copper steel?
Paul Johnston: I don’t — go ahead Barry.
Barry Logan: Go ahead, Paul. You got it.
Paul Johnston: I don’t think there was much of the way of a deflation that was really occurring there. Yes, we had a couple of product areas where — we did see some price degradation, but it stabilized and came back. But I just think it was overall demand. And we just saw a slowdown in demand on those products.
Jeffrey Hammond: Okay. And then just last one. On the — Barry, you talked about kind of being a merchant and you’ve got pricing kind of a little bit later but you’re also kind of managing dry down inventory. So how should we think about kind of buying ahead of price increases to be a merchant versus managing inventories lower as you go into the selling season? Thanks.
Barry Logan: Yes, I mean is it more direct question whether we’re buying Ford in some way and beating the price increase and so on. I’m not going to, again, publicly say what we do in terms of competing for — but it’s not a practice that we entertain on scale. I think we look at it here and there. We look at it market by market. At no time do we look at Watsco as a scaled company and say, let’s buy Ford. And it’s not something that really is a responsible thing to do in that sense. So I think in markets we consider it and certain brands we consider it, but nothing on scale that would be remarkable, Jeff.
A.J. Nahmad: Yes, I would say we are emerging, but we don’t bet the ranch, and we take a risk-adjusted approach to [indiscernible].
Paul Johnston: Plus, Jeff, I think you’ve got the phase-in, phase-out of we’re going to be phasing out of 410, phasing into the A2L product. So I think right now, we’ll buy we’ll buy a product that we need when we need it.
Operator: Was there a follow-up, Mr. Hammond?
Jeffrey Hammond: No. I’m all set. Thank you.
Operator: Thank you. [Operator Instructions] The next question comes from Steve Tusa with JP Morgan. Please go ahead.
Steve Tusa: Good morning. How are you? So just to get the math down on the kind of resi unit sell-through, it looks like if we kind of parse that between light commercial and resi, that was down roughly 10% for the year, the resi stuff — on units? It was down 8%, including commercial?
Barry Logan: We don’t really — I mean, we don’t include commercial in our unit volume discussion, Steve, [Multiple Speakers].
Steve Tusa: Okay. That’s great. And I guess, just thinking about the gross margin, I mean, there’s just such a wide gulf between what you did this quarter and what you did last first quarter. Can you just give us — and you mentioned the price increases are coming a little bit later. Can you just give us any flavor for like where that 1Q might land in this whole construct on gross margin?
Barry Logan: I would say without constituting official guidance, I think I tried to say it earlier, which is something sequentially better than the fourth quarter, start looking at things more sequentially than year-over-year. It takes some of the year ago volatility out. So an improvement sequentially from what you saw this quarter into the first quarter.
Steve Tusa: Right. So not up year-over-year, but something better than the fourth quarter?
Barry Logan: That’s correct.
Steve Tusa: Yes, okay. That’s helpful. And I guess this whole discussion on pricing, are you assuming that the non-A2L products that you get price on those? I mean you’re making it sound like the degree of price you get will depend on what kind of A2L product you sell. Are you assuming some lift on the non-A2L equipment? And then secondarily, if like there is some pushback in the channel, are you kind of prepared to ask your OEMs to kind of help you guys maintain or gain share in this market with price?
Paul Johnston: Those are all great questions of what if. Obviously, we keep in mind of some contact with our OEMs, and we’ll be — we’ll be ready to make any sort of a judgment that is required to be competitive in the marketplace. We’re not going to lose our competitiveness. And our OEMs certainly are not of that vein either. So yeah, we’ll be working with them on that. One thing that makes the A2L introduction unusual, if you remember when we went from the 410A to the R-22, 410A was introduced five or six years before we transitioned over to — transition out of the R-22. So you had a price basis that gradually was inserted over that six year period before we actually implemented the transition. This time, we’re not going to have that. So I think there’s a lot of question marks around exactly how this price can be set. And will the price go up or will be said too low, will it be so too high. And so that’s a what if that — I guess I’m not smart enough to answer.
A.J. Nahmad: Yes, I think it’s more of a when, not if because I think different customer segments will adopt the new products sooner and then others and the prices will shake out as all this transpires and it’s not going to happen in Q1. We know that. And so really the summer that we’ll see how it works out in the market.
Steve Tusa: But — are you assuming capture on the older — are you assuming price capture on the non-A2L? Or is most of the price lift from the A2Ls?
Paul Johnston: We have not assumed the price that there’s going to be captured on the 410. [indiscernible] We’ve got the price increase so far for the 410. It’s not anticipated that we’re going to be able to price that up against the A2L. I don’t think anybody is assuming that.
Steve Tusa: Against the A2L. I’m just saying like-for-like relative to where the price was in ’23 for the non-A2L, like do you assume year-over-year capture if A2L wasn’t happening would you assume year-over-year capture on the 410A type product?
