Holley Q3 2023 Earnings Call Transcript

Quartr
Provided by Quartr
November 8, 2023

There are 10 speakers on the call.

Operator

Greetings. Welcome to the Holly Third Quarter 2023 Earnings Call. At this time, all participants are in a listen only mode. A question and answer session will follow the formal presentation. Please note this conference is being recorded.

Operator

I'll now turn the conference over to your host, Ross Collins of Investor Relations. You may begin.

Speaker 1

Thank you, operator. Good morning, and welcome to Holli's Q3 2023 earnings conference call. On the call with me today are President and Chief Executive Officer, Matt Stevenson and Chief Financial Officer, Jesse Weber. This webcast and the presentation materials, including non GAAP reconciliations, are available on our Investor Relations website. From time to time, we post new information that may be of interest or material to investors on this website.

Speaker 1

Our discussion today includes forward looking statements that are based on our best view of the world and of our business as we see them today and are subject to risks and uncertainties, including the ones described in our SEC filings. This morning, we will review our financial results for the Q3 and share our guidance for the full year 2023. As always, We'll leave time for your questions at the end. And with that, I'll turn the call over to our CEO, Matt Steepensen.

Speaker 2

By the team and the incredible opportunity that exists with this great company. Not only there are tremendous prospects for growth, but we are also finding ways to be more efficient, while we are also enhancing our service levels to both consumers and distributors. We are undergoing a comprehensive transformation of the company to unlock all these opportunities and prepare our organization for extensive growth. Focused on becoming even more consumer centric, the development of a robust product development cycle, Increasing the engagement levels with all our customers, including our great distribution partners lowering our cost to serve by taking a holistic look at our operations and adding new leadership talent to the team. Plus, while transforming the company for the long term, we are also continuing to deliver in the short term through strong alignment of internal resources and an intense daily focus on meeting our commitments.

Speaker 2

All of this hard work continued to pay off as we delivered a solid Q3.

Speaker 3

Now let's take a look at some

Speaker 2

of the highlights from the quarter. On Slide 5, we've highlighted the key takeaways. Due to seasonality, the 3rd quarter is historically our lowest for order demand. But even under those circumstances, we continue to build a path toward our goal of gross margins of approximately 40% and EBITDA margins greater than 20%. Year over year for the Q3, we dramatically improved gross margins by 600 basis points and increase EBITDA margins by 840 basis points.

Speaker 2

We also continued the progress on bringing down inventory The summer is always an exciting time for us regarding consumer engagement as it is the peak of our event season. And we had 4 amazing events in the 3rd quarter that focused on unlocking growth in our consumer verticals and empowering our leaders in our product categories and brands. We'll dive into this in more detail in a few slides. On Slide 6, you can see some of the financial and ongoing business highlights from our Q3. Net sales were $156,000,000 up 1% year over year for the quarter.

Speaker 2

Gross margins and EBITDA margins were both up significantly from the prior year. Gross margins were 37.3% and EBITDA margins were 19% as our lower fixed cost base and numerous operational improvements elevated the bottom line year over year. Free cash flow was $21,700,000 for the quarter, a $32,000,000 improvement versus the prior year. This improvement was driven by solid operational performance and meaningful reductions in past due in inventory.

Speaker 3

Now on to some of

Speaker 2

the business highlights for the quarter. We continued our leadership in product innovation, introducing over 65 new products in the 3rd quarter, including a new plug and play adapter kit for Sniper 1 owners to upgrade to Sniper 2. As you recall, Sniper 2 is our new electronic fuel injection system, which we discussed last quarter, is a marquee product for us and is our mainstream EFI offering. Of cars, including a high mount accessory drive in the oiling system and a low profile cast intake manifold. Plus, we are expanding our offerings in modern truck, new exhaust kits under our Flowmaster brand for the popular 2022 and up Toyota Tundra.

Speaker 2

As the leading consumer platform for automotive performance enthusiasts, our events are critical for engaging consumers at the grassroots level. Summertime is the height of our event season, and we held 4 major events this past quarter. All 4 of those events were held on our home turf here in Bowling Green, Kentucky LS Fest East, Ford Fest, Jeep Experience and Mo Party. These events hosted over 75,000 enthusiasts, up over 12% year over year. These events give us unparalleled Direct connection with our consumers and allow us to understand firsthand where the enthusiast automotive performance aftermarket trends are headed.

Speaker 2

In addition to connecting with consumers in person, digital engagement is critical to our success. And through activating on our Q3 events, We are also able to partner with popular social influencers with over 29,000,000 followers, enabling us To continue to build our digital community and social engagement. To promote our Sniper 2 launch, we also worked with key Digital media partners such as Hot Rod Garage, HP Academy, MotorTrend's Engine Masters and Ford Muscle, which generated 4,800,000 digital impressions. We're also bringing in new leaders to continue to elevate our customer We engaged a former Chief Marketing Officer of Bridgestone to lead our customer experience marketing team. Then our effort to increase innovation to implement a comprehensive product stage gate system across our business.

Speaker 2

For us and hired a new leader with extensive OEM experience with major tire manufacturers and Fox Factory to lead this for us. As you'll see on Slide 7, we finished up last week with a strong presence at SEMA in Las Vegas. We continued our leadership and product innovation by winning CEMA's best engineered new product award with our new HOLLY EZ Level fuel level sender, which uses LiDAR technology to precisely measure the depth of fuel remaining in your tank. It prevents the need to set up float type Pictured here, accepting the award is John McLeod, leader of our classic instrument in Detroit Speed Brands. We also took home a number of Global Media Awards.

Speaker 2

These awards are nominated by premier journalists from throughout the world that come to the SEMA show with the purpose of identifying and discovering What new products are likely to succeed in their home countries? Included in that list were the following Holly performance products: Our Sniper II EFI system, our Detroit Speed 19 60 4 to 19 70 Mustang front end kit and our Hooker Blackheart brand's LS Swap On the right side of the slide, you can see another project we're really excited about. They debuted at CEMA. To our Detroit Speed brand, we are one of the premier restomod builders, and that reputation gets recognized by some of the biggest celebrity names out there. Plus, it gives us a platform to promote all the possibilities that Holli can provide on your next project.

Speaker 2

At this year's SEMA, we displayed a project we've been working on for comedian and actor, Kevin Hart. As an avid auto enthusiast, we're delighted Kevin chose us for his build on this 1969 Pontiac GTO. In addition, our APR brand, which focuses on European platforms, also won an Innovation award at CEMA for one of our major customers for its direct turbo replacement kit for the Audi 3 point liter engine found on many 2018 and our platforms. Last quarter, we introduced you to our 3 fundamental steering principles. You can see those on the left side of Slide 8.

Speaker 2

We expect to make these principles a reality by focusing on the 4 key areas to the right. The first centers around our teammates and making Holly a great place to work. The second area we focus on is enhancing our operations to not only remove non value added activities, but also ensure we have the right products available and the right inventory levels to serve the market. Plus, we must offer enthusiast consumers and distribution partners the best omnichannel customer experience in our space. The 3rd key area is optimizing acquisitions.

Speaker 2

Poly has acquired some amazing brands and businesses over the last few years, We realize that each of these has their nuances. We must foster these differences to enable them to continue to deliver in their distinct markets. We are working to ensure that there is no one size fits all approach and that the appropriate structures in place with leadership and accountability to make sure these businesses achieve outsized market growth in their respective areas. Finally, we are putting a focus on all customers first. This not only includes our fabulous base consumers, but also our loyal distribution partners.

Speaker 2

We're finding ways to grow and expand our sales channels in an effort to reach and serve a broader range of enthusiasts. On to Slide 9. The transformation occurring in our organization is extensive as we work to grow the company both organically and inorganically. There are 4 areas we'd like to highlight for today's call, and they include marketing and sales evolution, cost to serve, enhanced product development and the rollout of our new organizational structure. When it comes to marketing and sales capability, there is a comprehensive evolution happening.

Speaker 2

We are aligning our resources around the goal of increasing our customer engagement with both our consumers and distribution partners and focusing on key areas of opportunity with the greatest impact. On the distributor side, We're finding more ways to partner with key distributors in our consumer verticals to win a larger share of their business and identify mutual growth opportunities. We have also refocused resources to be even more customer focused and have advanced what was our call center into a new Customer Experience and Engagement Center. This new path with additional resources is rooted in providing the highest level of customer support. We are investing in our digital capabilities to offer the leading experience in our space to attract and convert more customers through our own as well as 3rd party consumer and distributor platforms.

Speaker 2

We're also focused on improving our cost position through a project we put in place called Cost TO Serve. With some outside assistance and by combining data sources that were Previously not available, we're able to identify by product category the cost to serve various customer types. The focus of this project is on both the inbound cost of the sourcing of the components for a product as well as the internal and external distribution of the product and after sales support that is required for us to serve the various channels. Now not only are we finding Low hanging fruit inefficiencies in our operation, but at the same time, we are uncovering ways to improve our customer service. Now that's definitely a win win scenario.

Speaker 2

Product innovation is key to our business and with so many great brands and categories, We needed a more refined structure and process to manage our product development efforts. This has meant installing 7 new Consumer verticals with leaders to steer that development across the key platforms and categories. We're also creating robust product development roadmaps by category and implementing a product development phase gate system with the goal of filtering out low return projects and elevating the highest Priority product launches in the organization to ensure they are receiving the necessary resources to have successful market adoption. Better focuses on the needs of the consumer, accelerates product development, enhances customer service and drives clear accountability and responsibilities in the company. The new structure is intended to be as cost efficient as possible.

Speaker 2

Through in-depth input from our stakeholders, we settled on a matrix structure. It comprises 10 product categories that will be focused on executing a business plan developed in conjunction with our 7 Consumer vertical leaders will drive the strategy across the business as to what platforms and what products we are targeting to bring to market. Additionally, we do have developed a support structure at the home office that ensures we are providing our leaders with the right amount of functional support and resources to execute their strategies efficiently and effectively. One of the goals of this organizational structure is to drive empowerment within our brands with guardrails of support and direction. All this change has required an extensive change management focus with greatly enhanced communication across our company.

Speaker 2

On Slide 10, you can see our new consumer verticals. These consumer verticals line very closely with how Seamit and other organizations in space to look at the market. Now legacy Holly was focused on classic truck and muscle, which we've shown a clear leadership position in. But the biggest areas of opportunity based on our consumer market segmentation exists in modern truck, Euro and Off Road, which is informing much of our go forward strategy. With our vertical leaders focusing more on the needs of consumers, which includes where they shop, what vehicles they've purchased and what products they are interested in and allows us to become hyper focused on delivering platform solutions.

Speaker 2

The world of the performance automotive aftermarket is vast and confusing, and consumers do not want to spend hours and hours trying to uncover Who has what for the newer used vehicle they just purchased. They are increasingly going to specialists who understand the verticals and the respective platforms in them. Few companies, if any, have the opportunity that Holly does to present a comprehensive platform offering with all the product categories we cover. We have significant potential for growth by focusing and organizing our products in a manner that best resonates with the consumer. More to come on this in the future.

Speaker 2

Now, I'd like to turn it over to Jesse to discuss our financial priorities and our Q3 results in more detail.

Speaker 4

Thank you, Matt, and good morning, everyone. Matt and I were extremely pleased with the results the team was able to deliver in the 3rd quarter. We ended the quarter with year over year net sales growth and strong improvements in profitability across both gross margin and adjusted EBITDA. As Matt already alluded to, we believe our team's efforts to transform the organization and optimize our operations are taking hold and are driving improved financial performance. These efforts have had a positive impact on our ability to generate strong free cash flow and pay down debt.

Speaker 4

As a reminder on Slide 12, our key financial priorities for the year have been restoring profitability, improving free cash flow, optimizing working capital and deleveraging our balance sheet. These initiatives are firmly on track and are evident in our year to date results. So far for fiscal 2023, our cost initiatives are ahead of schedule have delivered $30,000,000 of year over year savings, which is in line with our original target, and we are now expecting to capture approximately $35,000,000 in total for the full year. We have also delivered significant improvements in free cash flow. Year to date, we have generated $54,000,000 of free cash, which is up $53,000,000 compared to the free cash generated year to date in 2022.

Speaker 4

Supporting our free cash flow initiatives, The efforts to optimize working capital are also taking hold as we stabilize inventory turns from the significant headwinds we experienced in 2022. Lastly, as we have highlighted in prior calls, Holly is intently focused on paying down debt and reducing leverage. In line with this commitment, we are pleased to pay down $25,000,000 in principal against our 1st lien term loan facility in September. On Page 13, we've laid out a summary of key income statement line items. As I mentioned earlier, we are pleased to see a return to year over year net sales growth and significant improvements in profitability as measured by gross margin and adjusted EBITDA.

Speaker 4

On Page 14, highlighted net sales for the quarter, which increased $2,000,000 or 1% versus Q3 of 2022. Our net sales growth was largely driven by strong growth within our electronics category, which increased approximately 13% as the team made tremendous progress on past dues in the quarter from their proactive efforts on chip procurement. Net sales in the 3rd quarter benefited from $8,000,000 in the reduction of past dues across both electronics and non electronic categories, which can be found on Page 15. This marks the 7th consecutive quarter of past due reductions Overall, since the peak of $56,000,000 in the Q4 of 2021. And for the first time since 2020, We made meaningful progress on electronics past dues, which were reduced by nearly 50%, down to 5,500,000 As of the end of Q3, past dues on electronics were the lowest we've experienced since Q4 of 2020.

Speaker 4

Turning to gross margin on Page 16. You can see that our gross margin of 37.3% is up 600 basis points compared to 31.3% last year. This strong increase was primarily driven by meaningful improvements in freight, lower warranty expense and some favorable impacts in product mix. Moving to Slide 17, adjusted EBITDA for the quarter increased $13,300,000 which is an increase of more than 80% over the prior year. This resulted in an adjusted EBITDA margin of 19%, which is 800 basis points better than the 11% adjusted EBITDA margin from Q3 of 2022.

Speaker 4

Our year over year adjusted EBITDA improvement was driven primarily by operating improvements as can be seen in our gross margin results as well as lower SG and A expenses. For the Q3 of 2023, SG and A excluding equity compensation was $26,000,000 down $3,000,000 from $29,000,000 in the Q3 of 2022. The $3,000,000 reduction primarily driven by our efforts related to cost to serve and optimizing freight. SG and A excluding compensation at roughly 17% of sales versus 19% of sales in Q3 of 2022 remains in line with historical trends for Q3 and reinforces the team's original commitment to cost containment coming into the year. As can be seen on Page 18, our EBITDA results for the quarter combined with cash generation from improvements in inventory, resulted in strong free cash flow of $21,700,000 Importantly, this is a continuation of the solid cash generation we delivered last quarter and represents roughly a $32,000,000 improvement when compared to the Q3 of last year.

Speaker 4

Moving to Slide 19. Our free cash flow has been a significant Contributor to the reduction in net leverage we have experienced year to date. We ended the quarter with a net leverage ratio of 4.89x, which is meaningfully below the covenant that is outlined in our amended credit agreement and down from 5.58x at the end of last quarter. This is also below the original debt covenant of 5 times. Our previously announced debt pay down of 25,000,000 directly in line with our commitment to prioritize near term debt reduction.

Speaker 4

And at current rates, it's expected to reduce our cash interest and benefit free cash flow by roughly $1,000,000 on an annualized basis. While we no longer need the amendment, Given our net leverage ratio is below the covenant originally put in place, we are keeping it in place to ensure we have the financial flexibility needed to continue making progress on all our strategic initiatives. In the near term, we expect continued strong free cash flow to support further debt pay down and we'll be providing investors with more guidance on net leverage targets during our year end call in early 2024. Moving to Slide 20, as it relates to Holly's long term debt profile, I would like to remind investors that we proactively entered into a costless interest rate collar earlier this year that hedges 500,000,000 of our debt against 3 months SOFR rate fluctuations through February of 2026. Taking these steps Earlier in the year, combined with our efforts to prepay our debt has greatly reduced our exposure to Fed interest rate policy.

Speaker 4

Set us up to continue making progress on both cash flow and maintaining our leverage below our original net leverage covenant of 5 times. Now I'd like to cover our revised 2023 outlook on Slide 21. Given our year to date results, we are raising the bottom end of our net sales and adjusted EBITDA guidance. For the full year, we are now projecting net sales in the range of $645,000,000 to 6.75 and adjusted EBITDA between $123,000,000 to $128,000,000 While the reduction in past dues this year is encouraging, It does provide a tailwind to results. But as we look ahead to the Q4 and next year, we'll be more intently focused on order growth trends for guiding our perspective on near term performance.

Speaker 4

With that in mind, a likely scenario could be that our full year revenue could be positioned in the bottom half of the guidance range, while efforts on operating efficiency and cost containment support our full year adjusted EBITDA to be towards the top half of the guidance range. And on a sequential basis, adjusted EBITDA would normally be expected to come down in the 4th quarter, which is consistent with historical trends. This is largely driven by the impact of our holidays promotion and the step up in outbound freight in SG and A from an increase in sales going through our D2C channel, which has a higher percentage of small parcel freight charges. We are also narrowing our CapEx guidance range to between $6,000,000 $8,000,000 from the prior range of $5,000,000 to $10,000,000 Our depreciation and amortization guidance range has been adjusted to between $24,000,000 $26,000,000 and our interest expense Expectation excluding the mark to market on the collar is unchanged and remains $58,000,000 to $62,000,000 In closing, we are encouraged by the return to top line growth we saw in the quarter, supported by the significant reduction in past dues and most notably on Electronics. Our year to date performance has been strong, highlighted by our gross margin and EBITDA margin performance, cash generation, working capital management and focus on reducing leverage.

Speaker 4

In addition, I'm even more excited about the opportunities that lie ahead and the long term growth prospects of Holly and the industry as a whole. Armed with leading brands and a strong focus on operational We look forward to continuing to build a path towards gross margins of approximately 40% and adjusted EBITDA margins greater than 20%. This concludes our prepared remarks and we'd now like to open up the line for questions.

Speaker 1

Operator, please open the line for questions from our participants.

Operator

Thank you. Our first question comes from the line of Brian McNamara with Canaccord Genuity. Please proceed with your

Speaker 5

Good morning, guys. Thanks for taking our questions. First, I'm curious how Sniper 2 has been received, particularly at Last week, given it was like I believe it was the first time you did new product seminars with it. If you care to share how revenues are trending on the product relative to your expectations?

Speaker 2

Hey, good morning, Brian. This is Matt. Yes, I mean, we're very excited about Sniper 2. As you saw in the prepared remarks, one of those Global Media Awards and received a ton of attention at the show relative to our training sessions and both with the consumers that attended the show towards the end of the week And our distribution partners towards in the beginning half of that week. And it's a product that really is going to example how we move forward on product launches in the future by really partnering with the market, getting ahead with a proper launch calendar, partnering with our distribution to make We have inventory in stock and are driving the right promotional and consumer engagement efforts around it.

Speaker 2

So very Excited about where that's trending. As of right now, we're not going to give specific revenue on products, but we're very Excited about where it's headed.

Speaker 5

Great. And then secondly, I mean, I know Jesse kind of covered this A few moments ago. Your implied Q4 guidance on the top line is pretty wide, I think minus 9% to plus 11%. I know the benefit of past dues winding down as Are there any other puts and takes we should be aware of?

Speaker 4

No, Brian. I think that the main thing on the top line piece that we're Continuing to focus more and more on as we've done a great job on the past due side is just what the order trends look like. And I would say that In the guidance, we're looking at flat to slightly positive on order trends. And on the past due side, we're looking to make progress there to hopefully based on the path that we have as a team internally get that down to $4,000,000 by the end of the year. And I think one of the things that we called out in this is we feel like really good about the work the team has done on cost to serve and the continued opportunities there to be able to prop up the EBITDA margin even in light of any headwinds in the range on the top line.

Speaker 4

But this is hopefully, that gets you what you need on sort of the drivers there.

Speaker 5

Got it. Thanks a lot, guys. Best of luck.

Operator

Our next question comes from the line of Joe Altobello with Raymond James. Please proceed with your question.

Speaker 6

Good morning. This is Martin on for Joe. I just wondered if we can get a little more color around gross margin expansion. I know you said it was 600 bps And included meaningful price, some mix and lower warranty costs. Just wondering if we can get some idea around what those numbers are, that bridge and whether that's sustainable going into the New

Speaker 4

Year? Yes, Martin. This is Jesse. The big part of this On the gross margin side, just to kind of give you some rough numbers about nearly 550 basis points to 600 basis points of it I think as a reminder, Q3 of last year, we had a pretty meaningful warranty charge as it relates to one of our key suppliers actually Sending us a lot of warranty claims a little late in the process versus what we're typically used to. So those are the big drivers.

Speaker 4

We did call out a slight benefit from product mix, but the 2 biggest ones, like I said, were freight and warranty expense.

Speaker 6

Got it. Thank you. And I know you mentioned you want to get down to about $4,000,000 in past dues. Just wondering if this is evenly spread around your Segments or is it going to be particularly electronics? Just trying to get an idea of that mix.

Speaker 4

Yes. I mean, I think you can see in the mix Electronics versus non electronics, we ended the quarter with electronics at about $5,500,000 We have to make progress on all of them. We've Traditionally seen that in Q3, Q4, we do make good progress on those. And I think one of the areas that we called out thus far in the call It's always been for at least a while, not always, but for the last several quarters, question mark is on the electronics procurements for chips. And so seeing that that we've got that chip supply procured and the team is actively working very quickly to get these products created and out the door and the visibility we have on the inventory side in non electronics.

Speaker 4

We feel like we should make progress across both big buckets to be able to get us down to 4, which is generally what we would expect as an ongoing sort of sustainable level with some slight improvement from there at some point next year.

Speaker 6

Great. That's helpful. Thank you very much.

Operator

Our next question comes from the line of John Lawrence with Benchmark. Please proceed with your question.

Speaker 7

Hey, good morning, guys. Quickly, Matt, as you talk about redesigning the organizational structure and I know Sean's moved up into that product development. Can you talk a little bit about now that you've had a little bit more time to put that together, What's the real benefit? Is it better speed to market? Is it a broader sense of Please go

Speaker 2

ahead. Yes, We're really excited about this direction we're headed in the organization. And I think you touched on a number of the major points. It's really about Unlocking growth and driving that speed and growth. And when you look at where Holly has been really successful in the past Classic truck, classic muscle and modern muscle, there are segments that range from really about $1,000,000,000 to $2,500,000,000 each in And SEMA data, when you look at really where some of the large growth opportunities are like modern truck, that's over $14,000,000,000 You look at Euro Asian imports, which Both over $7,000,000,000 and off road which is about $6,000,000,000 It's really setting up our vertical leaders to unlock growth in these other categories which I'd say have not been primary focuses in the past.

Speaker 2

And at the same time, within those verticals, there's certain forms that really people want to modify and that are the picks of the enthusiasts. And we want to make sure we're bringing comprehensive solutions to the forefront of the market quickly to go after those platforms. And so with those changes as well as this A highly structured phase gate system in the organization, we can now uncover the product innovation faster and make sure we're resourcing it to bring it to market more quickly and prioritize those opportunities. So we're really excited about focus this is going to bring, bring us closer to the consumers and drive the growth.

Speaker 7

Great. Thanks. Good luck.

Speaker 2

Thanks, John.

Operator

Our next question comes from the line of Philip Blee with William Blair. Please proceed with your question.

Speaker 3

Good morning. This is Sabrina on for Philip. Thanks for taking my question. How did the direct to consumer business perform during the quarter? And what was that as a percent of sales?

Speaker 2

Hi, Sabrina. This is Matt. As we talked about on our last earnings call, our goal is to meaningfully grow D2C as well as a number of other channels in our business. But with that said, throughout our business, there's going to be a lot of ebbs and flows relative to that D2C percentage. As a total to that D2C percentage as a total percentage of our business.

Speaker 2

And we just don't think that Indicating on a specific percentage is the best indication of the performance of the overall business. We encourage you to look at the top line and bottom line growth of Holly in the future.

Speaker 3

Okay. Thank you. That's helpful.

Operator

Our next question comes from the line of Christian Carlino with JPMorgan. Please proceed with your question.

Speaker 8

Hey, good morning guys. My first question is on what's your general view on the current health of the enthusiast customer? Are you seeing any increased Caution from either resellers or the end customers later in the quarter quarter to date? And that's my first question.

Speaker 2

Hey, Christian. How are you doing? It's Matt. Good morning. Christian, as I had in my prepared remarks, Q3 for us is typically Our lowest order demand from a seasonal perspective and we're seeing those order demands Normalize, as we've talked about in previous quarters, there's a lot that happens in the 4th quarter In terms of as our enthusiast consumers start to buy products that prepare for their builds that they begin in the winter, Ultimately, to have those cars on the road in the late spring in the summer.

Speaker 2

So there's a lot that goes on in the Q4 for us and Various historic promotions and things of that nature. So really looking forward to seeing how The demand shakes out over the Q4 to get a better gauge of what we're going to see going into 'twenty four.

Speaker 8

Got it. That's helpful. And I guess, depending on the top line, but as you look to as you look ahead and how should we think about the path After the 40% gross margin and 20 percent EBITDA margin targets, is there enough self help and cost savings that you can get there without hitting the 6 7% top line growth?

Speaker 3

Hey, Christian, it's Jesse. I think that as Matt has

Speaker 4

been here and we talked about the cost to serve project And the work that we've done that I think you can see some of the results in Q3, Q4. We do think that there's still opportunity for us to drive further efficiencies in the operations in our costs overall to yield even better margins at comparable sales levels. I think it's a little early for us to say exactly when we would hit the fortytwenty With and as it relates to growth, I mean, growth would be a part of that equation. But long term, this industry has demonstrated resiliency In most markets and as we get into 'twenty four, we'll have a better sense as we see Q4 and the few weeks of Q1 of 'twenty four to be able to give you a sense as to is that fortytwenty something that we would be able to achieve in the next 12 months or what does the timing look like. But nothing has changed structurally.

Speaker 4

Like we said before, in the industry, there's no Netflix moment the auto aftermarket that gives us any caution to say anything other than getting back there is definitely achievable from what we can tell today.

Speaker 8

Got it. That's helpful. Thanks. Best of luck.

Speaker 2

Thanks, Tristan.

Operator

Our next question comes from the line of Joe Feldman with Telsey Advisory. Please proceed with

Speaker 9

Hey, good morning guys. I wanted to just kind of follow-up on that last question about the gross margin. Like, I get the You know, fortytwenty longer term will take some time, but what about in the near term? You know, like should we assume you guys This kind of high 30s, 37 plus in the next 6, 12 months or so or Like should we start to see a more steady rate over the coming months?

Speaker 4

Hey, Joe, it's Jesse. I think Important to kind of look back at historical trends in the quarterly seasonality of this margin, not to get into the accounting Nature of our business being a manufactured business with cap variance and all those fun things. But when you look at sort of Q1, Q2, it's typically when we see our Higher gross margin rates as we get leverage on fixed costs. And then Q3, Q4, I mean, I think it's pretty sequential as you can see. We dropped revenue perspective due to seasonality about $20,000,000 from Q2 to Q3 with 50% flow through In any given short period of time, that explains sort of that drop quarter over quarter or quarter to quarter.

Speaker 4

And what we're targeting when we say fortytwenty is not necessarily any given quarter, otherwise we would have probably rung the bell in Q2, But rather a full year view of what the margin profile would look like for gross margin and EBITDA. And so that To Christian's earlier question is what we are trying to get our arms around for what is the timing of being able to achieve that. And I think To what Matt said and I repeated, seeing how Q4 shakes out in the early parts of Q1, we'll have a better indication as we finish up our planning for next year.

Speaker 9

Got it. That's helpful. Thank you. And then another question on just capital allocation. How should we think about capital allocation now?

Speaker 9

You've done a great job managing the balance sheet and we paid some debt. Should we assume There's more to go there or will it be more continuing to invest in Growth of the products or how will you allocate capital is the question? Thanks.

Speaker 4

That's a good question. I don't We've repeated throughout the year that getting our balance sheet in line and paying down debt with excess free cash flow, which we've generated a pretty meaningful amount this year Anne demonstrated our commitment to that with what we did in Q3 is our primary focus from an excess cash perspective. I think as a reminder, This is a capital light business. I mean to be spending 8 roughly $6,000,000 to $8,000,000 in capital in the year with a business that's Generating this level of revenue, I think it can it shows you it doesn't take a lot of capital to grow the business overall. So I wouldn't suspect if that's kind of what you're looking for.

Speaker 4

Could there be investments on the capital side that would get in the way of us Meeting our debt commitments, that is not at all something that we view It's a real issue here as we drive for growth.

Speaker 9

Got it. That's helpful. Thank you. So we should expect a little bit more of excess cash being used to pay down debt, I guess, in the near term?

Speaker 4

Well, as we see how the cash profile looks Throughout Q4, it's something that as we said in our last call for Q3, we were looking at, but we're not going to make any commitments at this time on what we would do With that, we just need to really see how the cash profile looks and have a discussion internally and with our Board about what the right moves are.

Operator

Thank you.

Speaker 9

Good luck with the Q4. Thanks guys.

Speaker 4

Thank you. Our

Operator

next question comes

Speaker 7

The clarification, just to be sure I heard it right. So you raised your full year sales guidance towards the middle to high end, but you're saying the 4th quarter Should be towards the low end of the implied guidance. I just want to make sure I heard that right.

Speaker 4

Yes. I think whenever you do the Michael, that is exactly what we're saying is whenever we take a view of the range, we feel like it's Based on what we talked about, seeing the revenue come in towards the mid to low end of the range for the Q4 implied number and the EBITDA being at the midpoint to slightly above. And based upon what we talked about, which is feeling good about the Cost savings that have been put in place and the efficiencies that we are seeing to kind of make the shape of that relationship Work is where we would point investors for this call.

Speaker 7

Okay. So maybe I'll try to squeeze 2 questions into the follow-up. 1, last quarter you said Q3 and Q4 combined would be about a 48%, 52 Percent split. It seems like I think if I'm doing my math right that, that might be a little different now. So what's changing?

Speaker 7

And then Follow-up real follow-up question is, you didn't really there's been no comments on like selling versus sell through, what you're seeing from your customers in terms of Stock levels, destocking, etcetera, any color you can provide on selling versus sell through or those kind of metrics I think would be helpful. Thanks.

Speaker 4

Yes. It's a good question. And I would say to your point, you're reading what we talked about and what we're guiding to right now just Right on, where from a shipments perspective, I think what we are seeing based on our imputed guide here is about a fifty-fifty split between Q3 and Q4. The order split, I think, is really kind of what has changed there, where we've The order trends that we're taking a look at and the promotions that we're putting in place fully expecting these to be Big drivers for Q4, but I think it's the question of the timing of when those come in and our ability to get those out because a lot of these orders come in December And needing to kind of put all cylinders in gear, if you will, to get those out would really make the difference on how we're able To get more to that 48-fifty 2, but based upon what we're seeing now and what we're in this call, We feel like the guide kind of gets you more to the fifty-fifty split. Can you repeat your second question?

Speaker 4

Because that's a lot of question.

Speaker 7

Yes, I apologize. Just sell on versus sell through, I don't know if you can tell us about what you're seeing in terms of POS from your customers?

Speaker 4

Yes. I mean, this is something that we do look at. I would say that we've talked about it a bit in the previous calls. We're not giving those specific numbers. But I would say that trends improved between Q2 and Q3, but certainly something that We continue to look at it and I would say that what we're seeing is imputed in our guide here.

Speaker 7

Okay, fair enough. Thank you.

Operator

And it looks like we have reached the end of question and answer session. I'll now turn the call back over to Matthew Stephenson for closing remarks.

Speaker 2

All right. Thank you. Slide 24 highlights the compelling thesis around HOLLY. This is an incredibly attractive market driven by automotive enthusiasts. And this is not just a hobby for our customers, it's their passion and it's a lifestyle.

Speaker 2

And because it's more than just a high beer trend, it weathers economic cycles extremely well. We have a massive addressable market, nearly $40,000,000,000 that has seen decades of Interrupted growth. HOLLY is the industry powerhouse with a portfolio of iconic brands with a history of innovation. Plus, we have a track record of successful acquisitions and creating value through integrations and unlocking growth. We have a unique opportunity to create a transformational digital experience that will redefine the way our consumers and distribution partners interact with our brands.

Speaker 2

This will create a competitive advantage and drive growth. All this leads to an attractive investment thesis with the business focused on delivering consistent organic growth of at least that enables value to be unlocked in strategic acquisitions. The combination of the attractiveness of our automotive enthusiast market place in the great portfolio of Holly Brands offers a fantastic investment opportunity. Before we close, I want to thank all our teammates for everything that they do every day to deliver for our customers. And I want to thank our incredible group of consumer enthusiasts who support our brands as well as our distribution partners, many of whom have been with us for decades.

Speaker 2

And I want to thank you for your time today on the call and look forward Continuing to update you on our progress in future quarters. I hope everyone has a great holiday season that's in front of us. We look forward to talking with you in the New Year. Thank you and have a great day.

Operator

And this concludes today's conference and you may disconnect your lines at this time. Thank you for your participation.

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Earnings Conference Call
Holley Q3 2023
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