Builders FirstSource Q2 2023 Earnings Call Transcript

Quartr
Provided by Quartr
August 2, 2023

There are 16 speakers on the call.

Operator

Good day, and welcome to the Builders FirstSource Second Quarter 2023 Earnings Conference Call. Today's call is scheduled to last about 1 hour, including remarks by management and the question and answer session. I'd now like to turn the call over to Mr. Michael Neets, Senior Vice President, Investor Relations for Builders FirstSource. Please go ahead, sir.

Speaker 1

Thank you, Angela. Good morning, and welcome to our Q2 earnings call. With me on the call are Dave Rush, our CEO and Peter Jackson, our CFO. Today, we will review our results for the Q2 of 2023. The earnings press release and investor presentation are available on our website at investors.

Speaker 1

Bldr.com. We will refer to several slides from the investor presentation during our call. The results discussed today include GAAP and non GAAP results adjusted for certain items. We provide these non GAAP results for informational purposes, and they should not be considered in isolation to the most directly comparable GAAP measures. You can find the reconciliation of these non GAAP measures to the corresponding GAAP measures where applicable and a discussion of why we believe they can be useful to investors in our earnings press release, SEC filings and presentation.

Speaker 1

Our remarks in the press release, presentation and on this call contain forward looking and cautionary statements within the meaning of the Private Securities Litigation Reform Act and projections of future results. Please review the forward looking statements section in today's press release and in our SEC filings for various factors that could cause our actual results to differ from forward looking statements and projections. With that, I'll turn the call over to Dave.

Speaker 2

Thank you, Mike. Good morning, everyone, and thanks for joining our call. Entering 2023, we prepared for a challenging and dynamic year. During the first half, we had better than anticipated performance, Driven by the strength of our value added product portfolio, continued outperformance in multifamily and a more stable housing environment than originally Rejected. Multifamily is an area we identified as providing strong growth potential and end market diversification over the long term.

Speaker 2

We are truly seeing the differentiated platform we have put together over the past few years to generate results. We continue to exceed our near term targets through contributions from operational initiatives instilled over the last few years And by executing our strategic priorities, which is a testament to the unwavering commitment and dedication of our amazing team members. We are focused on delivering exceptional customer service and always strive to be the easiest company in the industry to do business with. We are driving mix improvement through value added share growth, while continuing to expand through tuck in acquisitions. Our acquisitions in recent years have allowed us to enhance our value added offerings and also extend our reach to a more diverse customer base In attractive markets.

Speaker 2

Moreover, these acquisitions have proven to be immediately accretive to our earnings. We continue to consistently generate robust free cash flow and prudently deploy capital, making 2 tuck in acquisitions And repurchasing over $700,000,000 of shares in the 2nd quarter alone. Despite the headwinds posed by elevated mortgage rates and affordability challenges, our resilient results in the first half of twenty twenty three Give us confidence that we have the right strategies in place with a customer centric approach and an incredible team that is executing At the highest level to successfully navigate this dynamic economic environment. Many single family builders are showing Stabilizing demand, partially due to widespread shortages of existing homes for sale, driving healthy new construction. Public builders have been reporting a stream of stronger than expected results and taking proactive steps Such as interest rate buy downs to help get prospective buyers off the sidelines.

Speaker 2

With home prices normalizing in many places, Our focus on value added solutions, digital innovations and customer service is helping builders improve their construction efficiencies. We are helping our customers lower cycle times, which is highlighted by our continued improvement on in full deliveries From 93% last year to 96% during the Q2. On time and in full deliveries ensure our customers Have the right material at the right time. Looking at our 2nd quarter highlights on Slide 4, Our gross margin percentage increased 40 basis points to 35.2% due to stronger mix in value added products overall, largely driven by our multifamily segment and the related positive impact from commodity cost timing. We maintained a healthy double digit adjusted EBITDA margin, showcasing our ability to execute effectively from an operations perspective In a challenging environment, this execution is a reflection of our talented field leadership team, which averages 30 plus years of industry experience.

Speaker 2

Turning to Slide 5. We drove strong productivity across the business by delivering $50,000,000 in savings during the quarter. Our BFS OneTEAM operating system continues To generate robust efficiencies focused on manufacturing and delivery improvements. Our recent acquisitions in Multifamily contributed an increase of 4% on the top line and 9% to EBITDA compared to the prior year quarter. Multifamily was an exceptionally strong tailwind this quarter, and we expect this strength to continue for the remainder of 2023.

Speaker 2

While we expect multifamily to normalize around the 1st or second quarter of next year, We remain optimistic that single family starts will be on stronger footing in the same period compared to the first half of twenty twenty three. As it relates to our cost structure, controlling SG and A and other expenses remains a vital focus for us. This includes the ongoing optimization of our footprint and balancing the need for variable cost reductions against future capacity needs. We are focused on our discretionary spending, and our team has done a great job on managing costs in the short term, While executing our strategy over the long term. Turning to M and A on Slide 6.

Speaker 2

We continue to target attractive opportunities with a disciplined approach. Thus far in 2023, we have completed 4 deals and are still committed to our goal of investing an average of $500,000,000 in M and A per year for the next several years. During the Q2, we added millwork capabilities through the acquisitions of JB Millworks and Builders Millworks Supply. And earlier this week, we acquired Church's Lumber, which expands our presence and scale in the Detroit market. We're excited to welcome our talented new team members to the BFS family.

Speaker 2

Our M and A and organic investments Have substantially increased our value added product mix and diversified our end markets since Q4 2021 as shown on Slide 6. We have seen the fruit of this growth in recent quarters and we have driven our gross margins higher even in a down housing starts environment. Moving to Slide 7. I would like to provide an update on capital allocation. In the Q2, we deployed over $850,000,000 of capital towards organic growth investments, tuck in M and A and share repurchases.

Speaker 2

We have cumulatively deployed approximately $5,300,000,000 since the end of 2021 and remain on track to achieve our 2025 goal of $7,000,000,000 to $10,000,000,000 Communicated at our Investor Day in 2021. Now let's turn to Slide 8 for an update on our digital strategy. We firmly believe our long term commitment to new digital innovations and technologies We'll deliver greater efficiency across homebuilding and enhance our product and service offerings. We continue to play a pioneering role in the digital transformation of the homebuilding industry and have made a significant investment in growing Our digital platform. We have made it a priority to ensure digital adoption is integrated across our operations as we seek to create a platform that will lead to building better, more affordable homes.

Speaker 2

Mybldr.com Serves as the entry point to our collaborative project management platform. It is designed to create efficiency for both BFS And our customers by offering improved transparency and engagement in the homebuilding process.

Speaker 3

It

Speaker 2

combines Paradigm's next generation estimating technology with our 3 d home configuration model. Together, these tools allow our customers more control over their design, cost estimating and building process, Ultimately saving both our customers and their clients time and money. We are still in early innings and have more to come As we continue to roll out these digital solutions to our end users, but we remain confident in our ability to gain an incremental $1,000,000,000 in product sales by 2026. We believe our sustained commitment To investing in digital innovations and technologies, we'll extend BFS' lead as the partner of choice in the market, and we look forward to providing more detail on our long term strategy at our Investor Day in December. Before I turn the call over to Peter, I want to say how grateful I am to our team members for continuing to execute in a challenging environment And providing excellent service to our customers on a daily basis.

Speaker 2

At BFS, we keep our high performing people first culture At the heart of all we do. That's why we like to recognize team members in our organization that embody the true spirit of our Be More, Do More, Build More To gather philosophy. Perla Hoebert is an inventory control supervisor in Houston, Texas, who has made a huge impression On her managers and colleagues. In May, she was honored as one of our first team MVPs for exemplifying our core values. Rola's attitude, positive attitude, her willingness to jump in and help and her pursuit of excellence really makes a difference on the team.

Speaker 2

Her supervisors appreciate how she embraces learning new skills and mentoring others, especially young women due to our industry. Employees like Pearl have made me proud to lead this great organization. Without the full effort of our team, we would not have had the outperformance that we achieved during the first half of this year. I'll now turn the call over to Peter to discuss our Q2 financial results in greater detail.

Speaker 3

Thank you, Dave, and good morning, everyone. Our performance during the quarter further highlighted the resilience of our business in the face of macro pressures. I'm particularly proud of our gross margin results driven by our increased mix of value added products and services. We are well positioned in the marketplace with differentiated solutions and a healthy balance sheet. We continue to generate robust free cash flow And prudently deploy capital.

Speaker 3

I'm confident that the combination of our industry leading scale, Ongoing investments in value added and digital products and strong financial position will lead to a double digit adjusted EBITDA margin this year And sustained growth in the years to come. I will cover 3 topics with you this morning. First, I'll recap our 2nd quarter results. 2nd, I'll provide an update on capital deployment. And finally, I'll discuss our full year 2023 guidance.

Speaker 3

Let's begin by reviewing our Q2 performance on Slide 10. We delivered $4,500,000,000 in net sales. Core organic sales decreased by 22%, which was better than expected despite a 31% decline in single family due to slower demand over the prior year. Multifamily continues to be a bright spot, growing by nearly 30%. As Dave mentioned, the strength in multifamily was driven by our recent acquisitions as well as favorable margins, largely attributable to the longer lead time for this R and R and other grew by nearly 5%, mainly due to increased sales focus and capacity versus the prior year.

Speaker 3

The cumulative effect of our acquisitions over the past year contributed approximately 4 percentage points of growth to net sales. Importantly, value added products represented 53% of our net sales this quarter versus 45% in the Q4 of 2021, reflecting our improving position as the supplier of choice for these higher margin products. During the Q2, gross profit was 1.6 $1,000,000,000 a decrease of 33.9 percent compared to the prior year period. Gross margin increased 40 basis points to 35.2%, driven primarily by a stronger mix in value added products overall and with particular strength In multifamily value add, SG and A decreased $28,000,000 to $1,020,000,000 mainly due to lower variable compensation, partially offset by additional expenses from operations acquired in the last year. Acquisitions increased SG and A by $52,000,000 in the quarter.

Speaker 3

As a percentage of net sales, Total SG and A increased by 7 40 basis points to 22.5%, primarily attributable to decreased leverage on net sales. We remain focused on operating efficiently, containing costs and effectively integrating operations and acquisitions. Adjusted EBITDA was approximately $769,000,000 a decline of 49%, primarily driven by lower net sales, including the decline in core organic products attributable to a slower housing market and commodity deflation. Adjusted EBITDA margin remained a robust 17%, up 70 basis points sequentially as we continue to execute and drive improved productivity across the business. Adjusted net income was $498,000,000 down from an adjusted net income of $1,070,000,000 in the prior year quarter.

Speaker 3

The 54% decrease in adjusted Net income was primarily driven by a decrease in sales volumes and commodity deflation. Adjusted earnings per diluted share or $3.89 compared to $6.26 in the prior year period. The decrease in adjusted EPS Was partially offset by our repurchase of nearly 7,000,000 shares, which added roughly $0.20 per share during the quarter. Our second quarter results exceeded the guidance we provided in May, supported by our core business mix and gross margin strength Amid outperformance in value added products. We continue to gain confidence in the strength and deliverability of our margin performance, And we believe our long term normalized gross margin percentage is now at 29% plus versus our previous expectation of 28% Now let's turn to our cash flow, balance sheet and liquidity on Slide 12.

Speaker 3

Our 2nd quarter operating cash flow was approximately $391,000,000 down $556,000,000 compared to the prior year period, Mainly attributable to commodity deflation and a reduction in single family starts. Capital expenditures were $121,000,000 All in, we delivered healthy free cash flow of approximately $270,000,000 In the trailing 12 months ended June 30, our free cash flow yield was 17.7%, while operating cash flow return on invested capital Was 41.4 percent. Our net debt to adjusted EBITDA ratio was approximately 1.1 times, while base business leverage was 1.6 times. Excluding our ABL, we have no long term debt maturities until 2,030. At quarter end, our total liquidity was approximately $900,000,000 consisting of $800,000,000 in net borrowing availability under the revolving credit facility and $100,000,000 of cash on hand.

Speaker 3

Moving to capital deployment. During the second quarter, We repurchased approximately 7,000,000 shares for $723,000,000 at an average stock price of $103.68 per share. In total, we have repurchased approximately 41% of Our outstanding shares since August of 2021. We have approximately $600,000,000 remaining On our most recent $1,000,000,000 share repurchase authorization from April 2023. We remain disciplined stewards of capital and will continue to look for organic and inorganic growth opportunities, while maintaining our fortress balance sheet.

Speaker 3

Let's turn to our outlook on Slide 14. Our July sales trends are encouraging and fuel our confidence in the resilience of our industry. Several of our national customers have begun to provide full year guidance, providing us with better visibility and greater confidence in the strength of the market. As a result, we are establishing our full year base business and total company guidance as we enter the back half of twenty twenty three. Our base business approach showcases the underlying strength and profitability of our company by normalizing for commodity volatility.

Speaker 3

As a reminder, our base business definition assumes normalized margins and static commodity prices at $400 per 1,000 board feet. This is helpful to clearly assess the core aspects of the business where we have focused our attention to drive sustainable outperformance in our industry. Our base business guide on net sales is $16,600,000,000 Our base business EBITDA guide is $2,200,000,000 at a margin of roughly 13.3%. At this time, we are also providing total company guidance for full year 2023, including total net sales, gross margins, adjusted EBITDA and adjusted EBITDA margin. For full year 2023, We expect total company net sales to be $16,800,000,000 to $17,800,000,000 We expect adjusted EBITDA to be 2.6 to $2,900,000,000 Adjusted EBITDA margin is forecasted to be 15% to 17%.

Speaker 3

And we are guiding gross margins to a range of 33% to 35%. Our recent above normal margins Reflect a greater mix in value added products, along with disciplined pricing required to offset our increases in operating costs from inflation. As we move through the second half of the year, we expect both our gross margins and multifamily business to continue to normalize. We expect full year 2023 free cash flow of $1,600,000,000 to $2,000,000,000 Our free cash flow forecast assumes average commodity prices in the range of $400 to $4.50 Our 2023 outlook is based on several assumptions. Please refer to our earnings release on Slide 15 of the investor presentation for a full list of these assumptions.

Speaker 3

As I wrap up, I want to reiterate that we are exceptionally well positioned to drive our strategic goals. Our guidance illustrates our belief that we will deliver a double digit adjusted EBITDA margin this year and sustain that momentum in the years to come. As we continue to reap the benefits of our transformed business, we are positioned to achieve an upwardly revised long term normalized gross margin of 29% or higher. I'm confident that our best in class operating platform will continue to generate substantial free cash flow, Providing further financial flexibility on top of our already healthy balance sheet. Importantly, we will continue Diligently deploy capital and maximize long term shareholder value.

Speaker 3

With that, let me turn the call back over to Dave for some final thoughts.

Speaker 2

Thanks, Peter. Let me close by saying that we feel better about the current building environment today that we did at the beginning of the year. We're executing our strategy and continuing to invest to drive future growth. Our results in the first half reflect our hard work over the past few years to build a differentiated platform That has BFS set up to win in any environment. I am proud of our operational excellence, which is driving increased safety, productivity And profitability despite market headwinds.

Speaker 2

We are in great position today. And as end markets further stabilize, We are positioned for an even stronger future. We'll continue to be at the forefront of technology with our digital strategy, Which I am confident will be a game changer for the industry. We are exceptionally well positioned to drive shareholder value this year and in years to come. I'm excited to share more details at our upcoming Investor Day on December 5 in Atlanta and look forward to seeing you there.

Speaker 2

Thank you again for joining us today. Operator, let's please open the call now for questions.

Operator

Our first question today comes from Matthew Bouley with Barclays. Please go ahead.

Speaker 4

Good morning, everyone. Thanks for taking the questions and congrats on the results. I'll start with a question on the long term gross margin guide, which you've now raised twice consecutively. So my question is what's changed in the past 90 days that's kind of given you that incremental confidence? And then of course to take another step forward, Given your gross margin of 33% to 35% this year, what are the signs you'd be looking for To kind of give you step and confidence in yet another step higher from that 29%.

Speaker 4

So I'll pause that first question.

Speaker 3

Well, first of all, thanks, Matt. Appreciate it. We're excited about the business and certainly pleased with the way gross margins have been continuing to evolve. We've talked about it for, well, a couple of years now actually. The strength of the core business, particularly Post merger and what we've been able to do to grow value add as a mix of our business has been very impactful.

Speaker 3

And what we've continued to look for, particularly this year, is the normalization, Right. With the supply chain getting back to normal, the reset and the level of starts, we were really Concerns about what that would mean in terms of the overall market's ability to sustain margins. I don't think we were alone in that. What we've looked for this year is the performance being at a stable level. And while we're not quite there yet, We've certainly seen stability be established in a lot of parts of the market, a lot of regions, a lot of product categories Where we've seen things sort of get to normal and level out.

Speaker 3

When we talk about gross margins, it can be a little bit misleading. Again, this quarter, we saw a substantial tailwind due to multifamily, what I would describe as sort of transitory tailwinds. At least a couple of 100 basis points this quarter was really just due to the way the commodity timing that The cost of commodities played out versus some of our contracts. So we're pleased with it. Obviously, we'll take it, But we don't want to signal to anybody that that's permanent.

Speaker 3

And we still are have certain areas of the market where things continue to normalize. We're not quite sure where things will end up, but we know the pressure is down. We've certainly seen that we're up 40 bps overall on gross margins, but certainly that indicates if you take out multifamily, some pretty decent step down in the core. That's what we thought What's going to happen and that's pretty much how it's played out and we'll continue to look for that. But even with all of that said, It's better than we expected.

Speaker 3

We certainly have gained a lot of confidence in the strength of our business, the strength of value add, which continues to be Really, really desirable for our builder customers and we're continuing to invest in it and feel good about what that means for normal margins going forward. We'll We'll continue to monitor it. I mean, we've left the plus at the end because we think, obviously, we're performing better than that now, and we're just going to wait and see where things normalize over time.

Speaker 2

Hey, Matt. Thanks again. This is Dave. I would just add, since the merger with BMC, we've invested over $100,000,000 in Upgrading and automating our manufacturing capabilities, and we're starting to see the fruits of that. And we're getting a better feel of how that's going to contribute to Margins over the longer period as well.

Speaker 4

Got it. Thanks guys for that comprehensive answer. Very helpful. So I guess some of what you mentioned Peter on the multifamily side is going to address this next question. Kind of zooming into the base business, It looks like you're saying there's, I don't know, maybe some rounding, but roughly $600,000,000 of earnings above the base this year.

Speaker 4

How much of that is that multifamily commodity cost timing, other commodity, maybe OSB? And could you break down if there's anything else in there besides commodity that's kind of above the base business? Thank you.

Speaker 3

Yes. No, good question, Matt. So just a basic reminder, the base business is really just trying to take out Any commodity fluctuation in 2 ways, right? Anything that's not $400 lumber, we normalize for and we also normalize for margins Attributable to those same commodities. So we don't normalize for margins anywhere else, but it does have the impact Within that 600 that you mentioned, yes, there's some rounding.

Speaker 3

Within that 600 that you mentioned, that's attributable to margins. And this Particular year, it's mostly margins. So the vast majority of what has slowed through is the normalization Of those outperforming margins over the course of the year, there is certainly a component of that, that is from the multifamily, Right. So it's because a piece of the commodities flows into our manufactured products, including roof and floor trusses as well as wall panels, which obviously have a Significant component of commodity in them. So we take an adjustment for that.

Speaker 3

So that is the primary driver is the margins attributable to The commodity change this year.

Speaker 5

Got it. All right. Well, thank

Speaker 4

you, Peter. Thanks, Dave. Good luck, guys.

Speaker 3

Thanks,

Speaker 5

Tom.

Operator

The next question comes from Trey Grooms with Stephens. Please go ahead.

Speaker 6

Hey, good morning, everyone. And yes, I have to echo the congrats on the outstanding work in the quarter.

Speaker 3

Thanks, Trey. Appreciate it.

Speaker 6

Sure. So on multifamily, I think you mentioned that you Expect that to remain strong through this year. But are you seeing anything in your backlog or hearing anything from your about their backlogs in multifamily that would suggest that this slowdown is kind of coming around that time Or anything on the timing there? Or is that more just kind of a high level expectation at this point?

Speaker 2

Hey, Trey. Thanks. Yes, we are seeing evidence from our customers that at the tail end of this year, there's going to be a lot Supply that comes online, all at around the same time and that in a typical year Would have to be digested before a lot of these other new projects come online. That's one factor. The other factor is the cost of capital and Being able to make sure that the rents that they're going to generate versus the cost of capital, that equation has to work out exactly right as well.

Speaker 2

And until some of that Backlog or some of that glut of openings that comes online at the end of the year gets digested. Those kind of dynamics Have a little bit of time to work themselves out. So what we're hearing is there might be a little bit of a delay in the first The second quarter and then things start picking back up again. The problem, as you know, is these projects are so long in Time from plan to execution that we feel like there's going to be a lag in the first half of next year. But Overall, we believe multifamily will be a great segment for us to be in and it will be a temporary scenario, not necessarily something long term that we got to worry about.

Speaker 6

Right. Got it. Okay. And then, Peter, you mentioned you're expecting gross margins to moderate through the year. Sorry if I missed this, But you're calling out 33% to 35% for the year.

Speaker 6

You've been running at the 35% range. So are you seeing any change or any more normalization in the margin thus far in the Q3? Or is it still kind of holding in at that high end of the range for now?

Speaker 3

Yes. No, good question. So we continue to see again, it goes to the countervailing Trends. We continue to see some erosion in the core market gross margin, less than we expected, But it has continued and I think we'll continue to see that through the back half of this year. And then we know Pretty reasonable accuracy how multifamily will play out just because of the timing of the contracts that were related to The current purchase price of commodities and kind of where we're at.

Speaker 3

So we've got a pretty decent look. Certainly, there's been Good performance in gross margins throughout the year, and I think July is significantly different, but The trends remain the same with the overlay of multifamily's normalization being pretty significant over the next year.

Speaker 7

Great.

Speaker 6

Thank you. If I could sneak one more in at a little bit more higher level. Dollars 100,000,000,000 or so invested in automation over the last which you said is bearing fruit, which is pretty clear. Where are you in that process? Or maybe how should we think about The amount of plants that you have that you would classify as automated and where would you like that to be kind of over

Speaker 5

time? Yes.

Speaker 2

I would tell you, we feel really good about the level of automation we have where every plant has some level of automation. Obviously, there's More opportunity, and we have a pretty long runway there to continue to improve, and we're excited about that prioritizing those projects. And as you know, as we do acquisitions typically, there's a level of automation that we go back in and upgrade those Acquisitions with and we'll have that plan ongoing. We're a good customer for our automation vendor. And as much as we're always excited about talking about digital, we're also

Speaker 3

on our front foot when it comes to technology in this multi In this manufacturing space as well. So, yes, we're excited about where this can continue to go.

Speaker 6

Great. Thanks for taking the questions and good luck for the rest of the quarter. Thanks.

Operator

The next question comes from Ketan Mamtora with BMO Capital Markets. Please go ahead.

Speaker 8

Thank you, and congrats on a strong quarter. Couple of things, I'm just curious, one, how do you What is the M and A pipeline looking at this point? And given sort of housing has Held in better than what people expected at the start of the year. Has there been any sort of change in your

Speaker 2

Thanks for the question. Yes, the M and A pipeline Has improved. I think just the fact that things were changing at the beginning of the year and people weren't sure Exactly how the year was going to play out, kept people on the sideline for the first half. We're seeing more opportunities now In the second half and a couple that we feel like are really good to look at. And we are excited about how we'll continue To invest in M and A in the future.

Speaker 8

Got it. And is it possible at all, Peter, you talked about sort of July has started off quite well. Is there any way to sort of quantify what the July trend has been like even relative to Q2 or maybe

Speaker 5

year over year? Yes.

Speaker 3

It's been a I don't know how to describe it other than refreshing year. For all of the concerns that we came into the year with, due to interest rates, due to affordability, It has been a surprisingly and refreshingly normal year. We've seen good progression throughout the year. The normal seasonality that we would expect to see with busier months in the summer, we've seen good utilization of our capacity. Nothing's been overwhelmed.

Speaker 3

We've gotten quite busy in certain areas, but nothing has been catastrophic like during the big run around COVID. Same on behalf of our vendors. They've performed very well. Few spots here and there where it's gotten a little tight, but by and large, the market Has adjusted to the new volumes and really sold through quite well. And as we alluded to with our customer base, There's confidence in a lot of areas with regard to how consistently they've been able to sell through what they've been building.

Speaker 3

It seems pretty obvious that the demand is still out there. And with the reluctance to move out of an existing home, New construction has really been a bright spot and we're excited to be leaning into that quite well.

Speaker 8

That's helpful perspective. I'll jump back in the queue. Good luck in the back half.

Speaker 3

Thank you.

Operator

The next question comes from Adam Baumgarten with Zelman and Associates. Please go ahead.

Speaker 5

Hey, good morning guys, great results. Just a question on the environment. With the ramping starts we've seen Year to date, are you hearing about any supply chain strains, maybe not for you guys specifically, but for the industry or maybe even Extension and construction cycle times for the builders.

Speaker 2

Yes. I think, the supply chain has normalized to a great I think Bert, when you saw the COVID related issues, we're not seeing anything of that magnitude out there. There's a couple Product categories where lead times are slightly extended. Premium windows is an example, but Still things are normalizing. Now with the uptick in demand, there is some Adjustments by a lot of our vendor partners on staffing and getting staff back up to the new normal of demand, But those look to be very temporary and very slight.

Speaker 2

So I would say all in all from a supply chain perspective, we're in pretty good shape.

Speaker 5

Okay, got it. Good to hear. And then just switching gears to the R and R business, I think you had mentioned increased Maybe just some more color around that. And then also, were there any product categories that really stood out as particularly strong in the R and R channel in the quarter?

Speaker 3

Yes. So R and R, the way we service R and R, there are a few markets where we're very focused on it With specific cases, but for the most part, we serve both the pro new construction and the pro R and R markets Through the same channel. So you end up with certain timelines where you've got pretty heavy demand from 1 or the other. And Obviously, over the past couple of years, the bulk of it has come from the new construction side. So with that pulled back a bit, they just opened up more capacity, That pro R and R business and said in the past, the pro R and R contractor would generally prefer to use us if we're available Because of all the incremental services and expertise we provide versus a traditional big box or smaller player.

Speaker 3

The categories, the product categories, I would say we performed well Across the outline of products or the family of products within Pro R&R, I would say just Stepping back for the whole business, we've continued to see really nice performance in the windows, doors and millwork category. That's been an outperformer for us all year and we're pretty excited about that.

Speaker 5

Got it. That's helpful. Thanks a lot. Best of luck. Thank you.

Operator

The next question comes from Mike Dahl with RBC Capital Markets. Please go ahead.

Speaker 9

Good morning. Nice results. Thanks for taking my questions.

Speaker 3

Good morning, Mike.

Speaker 10

First question

Speaker 9

First question is kind of back on the multifamily side. Obviously, there's been a few big moving pieces. You've made some Investments both organically and inorganically in that space and then multifamily as a mix of percentage mix of the overall market Has increased. You look at permit activity that's now dropping off and you alluded to some normalization In multifamily, I think sales, not just margins looking at the next year. Maybe can you help kind of quantify what you think has been Internal versus market shifts and I don't know if it's best framed as what you think your new normal Mix of multifamily would be when you sort through kind of the ebbs and flows, maybe a little more quantification there or color?

Speaker 9

Yes.

Speaker 3

Yes. No, your point is right on. We've had a lot of change in that multifamily category. We've invested a lot and we've been very successful Even in the core business in terms of how we've competed in the marketplace. I think that the overall impact of Our kind of leaning into this has been a big change in the market and a big change for us.

Speaker 3

So it's increased that multifamily mix, but it's a mix that's attributable largely to trust, Right. So we're not in skyscrapers. We're not in shopping malls or certain large Scale apartment complexes, right? We're in 4 storey and below wood frame structures. That's sort of Our operating arena and our sweet spot, that has been doing remarkably well.

Speaker 3

And I think we have been able to Improve our positioning in the market and be seen as a serious reliable competitor. We've got the ability to withstand sort of ebbs and flows. We can be counted on to deliver even if there are some capacity constraints versus Through our network of facilities around the country. So we do think we've gained share. We do we know we bought share.

Speaker 3

And we think that that is all sort of come together to really give us some nice momentum. And that momentum is true even though we're really in the middle of integration. So this is still early days for us in terms of getting all those teams to work together. So we're really excited about what the future holds. Now you are right about the reset.

Speaker 3

We think that as we get into, probably back half of next year when we're Seeing things normalize, maybe beyond that, it's probably closer to 10% directionally. We'll dial that in for you, but It's probably 10% of sales in an environment like we're in today in a normal world.

Speaker 2

Yes, I would just add, we were purposeful When we added that acquisition and entrance into that multifamily segment, knowing that it would be a diversification play from single family and vice versa. So what we're expecting is as multifamily normalizes, we're expecting single family to remain on stable footing. In addition, in the trust world, what makes it so such a good investment for us is we can run single family jobs out of a multi Family Trust plan. So we do that today. When we have multifamily plants that are maxed out, we run multifamily jobs Out of our single family plants and vice versa, when each side has more work than they have capacity.

Speaker 2

So, We've got a plan in place to manage through all ebbs and flows of both sides of those businesses, and we did so intentionally.

Speaker 9

Got it. Yes, that's very helpful. Thank you. And then my second question, you've spent a lot of time kind of I think the margins maybe at a high level just between commodities, between the multifamily Wags, when you're now talking about the 29 plus on normal, can you just kind of help us simplify this at a high level in In terms of margin differentials by not necessarily every product category, but high level, Just where do you think your new value add margin will be? Is it kind of like a low 30s value add and a 20 on lumber, just any what's kind of driving, at a high level, the blended 29?

Speaker 3

Yes. So if you think about the historical kind of guidances that we've had, We were running gross margins kind of 25% to 27%. We talked about how the commodities were generally kind of high teens to low 20s For gross margins, we talked about how value add was 800 to 1000 basis points higher than that. I would tell you kind of where we are today with some of the noise in it. We're Substantially higher than that on the value add, but we've also seen sort of increases across the board.

Speaker 3

The increases across the board, we talked about it a lot. Just to reiterate, we've seen some inflation, right? So if the cost of delivery is higher, the margins need to Higher in order to pay for the increased costs. So we've seen some incremental margin increase across the board to cover that. And then the two things that have impacted it the most is you've seen increased productivity And what we've talked about in multifamily, some displacement causing the margins to be higher, full stop.

Speaker 3

And you've seen overall a pretty substantial mix shift away from the commodity side of the business, which used to be Half of what we did back in the old days to closer to 25% to a third 25% to a third of our business now. And that has allowed that normalized gross margin to really drift further and further up the more our mix swings. So sort of all of those components are feeding in, the productivity, the inflation, the overall mix shift to allow us to see that higher amount. But again, going from 35%, 34% for the full year is What we're signaling, right, for the midpoint, down to the 29 plus, that is the multifamily. That is the continued normalization.

Speaker 3

And we're going to continue to watch that play out and we'll dial in that guidance as we get more confident.

Speaker 9

Great. All right. Thanks, Peter. Stay safe.

Speaker 3

Thank you.

Operator

The next question comes from Steven Ramsey with Thompson Research Group. Please go ahead.

Speaker 11

Hi, good morning. Wanted to continue the base EBITDA conversation along with the productivity. If I'm connecting the dots, you're saying this year sales and base EBITDA go down $100,000,000 each And then the productivity savings midpoint is $130,000,000 So backing out that midpoint of savings, Deprimental margins look like a low 20% range, if my math is correct. I mean, with the productivity flowing in, is The dollar level of productivity in future years going to be as strong as this year?

Speaker 3

Well, it's certainly what we're shooting for. Internally, we have a lot of projects that we think we can leverage to continue to improve our operations, continue to offset the impacts of inflation, Whether it be the way we buy, what we buy, how we deliver it, how we process it internally, Back office, those are all things that we're pretty confident that we can continue to improve and those are the goals we're setting for ourselves. Will every year be exactly this year or better? Well, we'll see, but certainly where we're headed.

Speaker 2

We believe there's a huge opportunity there given our platform of 5 70 plus locations and our ability to take best practices from we're a product of Multiple acquisitions, and we've learned how to take the best practice from one of those acquisitions and leverage it across the platform. We've built a continuous improvement culture. We have people dedicated to it in each of our divisions for that very purpose because we believe The part the benefit of our scale is to be able to do it the best way across 5.70 locations versus just in one area or one market. So we're confident that we can achieve at the current levels of continuous improvement that we've For ourselves each year, for a long period in the future.

Speaker 11

Okay, helpful. And then to make sure on the productivity savings, how much of that is coming from the distribution side of the business? How much of that Is more on the manufacturing side and maybe how much of that is automation driven versus other general improvements?

Speaker 3

Yes. So it's probably half and half in terms of what we're getting On the sort of the inbound versus the operating sides, we're doing a lot in both. It's a bunch of individual projects that sort of Accumulate to contribute, but directionally, it's probably right.

Operator

The next question comes from Joe Baumier with Deutsche Bank. Please go ahead.

Speaker 12

Thanks and good morning everybody. I just wanted to just based on the visibility you may have into your inventory and your multifamily back For this quarter, just maybe any help on the phasing of the gross margin and even just the overall sales and EBITDA 3rd quarter versus 4th quarter?

Speaker 3

Well, I think normally we would perform a bit lower in the Q4 just as a seasonal representation. Qs 2 and 3 are always better than Qs 1 and 4. This year, I think, is Based on what I said before, we think it's likely to be more normal. So we would expect Q4 to be a bit weaker. Certainly, as always, that's the weaker part of my forecasting confidence is 1 quarter out, we feel pretty good, 2 quarters out, it gets a little more murky.

Speaker 3

So Maybe the right way to think about it.

Speaker 12

Understood. And then on the inventory balance, that's come down as commodity costs have come down and rolled through the P and L. But Is there additional productivity you're looking to gain on the inventory balances? Or given what we've seen in the market, Could we actually see it go the other way where you're preparing, I guess, for a stronger spring in 2024, making sure that you have inventory on hand

Speaker 3

to service the market? Yes, probably more the latter. So I'll start by saying your observation is absolutely correct. We've had great performance. The operating teams have Done a fantastic job of sort of continuing to clean up post, the craziness of the supply chain over the last couple of years, Clearing out excess that we feel we had on hand tightening up, whether it be windows Or millwork or whatever.

Speaker 3

The teams have done a great job of really managing In a very streamlined just in time way, the inventory that we've got rolling in and out of our facilities. But you're right, when we grow, We absolutely have more working capital inventory included. So coming into the future where we do See at least based on what we're seeing right now, growth on the horizon, we would expect working capital to stop being a tailwind and start being a usage

Operator

The next question comes from Colin Barron with Jefferies. Please go ahead.

Speaker 13

Good morning and thank you for taking my questions. You've highlighted the acceleration in orders from the public builders and the Census Bureau data really bouncing off the bottom here. I Just hoping you guys could talk about any differences you're seeing between your customers with the large production builders and the smaller builders. And then comment on this at this point, do you see the bottom in single family being behind BLDR at this point, particularly from a single family sales perspective?

Speaker 2

Well, we were certainly really encouraged by both the results that our public billers were reporting and even more about the projections for the rest of the year. So we feel really confident that again, I'm not calling this robust, But it's certainly better than everyone expected, over the second half of the year and stable to up over the back half of the year. And that gave us the confidence that we have for being able to project what we feel like we can do in that environment.

Speaker 13

Great. That's helpful. And then you guys provided some good color on the digital adoption, providing some takeoff figures. Can you just quantify those maybe in terms of revenues and talk about where you guys are in your journey and reaching that $1,000,000,000 sales opportunity?

Speaker 3

Yes, we're excited about digital. It's continuing to move along. The technology is coming together. The pilots are going well and we've given sort of a few hints about Some metrics and what that looks like internally, but it's all very, very early days, to be honest. We've got some revenue, but it's pretty modest.

Speaker 3

It's not the focus. The focus is not really growing that right now. It's tuning. It's completing the technology, Tuning what we have built, making sure the technology is sort of stable and capable of running at the scale that we intend to put through it. That's this year's goal.

Speaker 3

We're certainly expecting pretty significant increases in 2024 and beyond. And we'll have some more information on the timing of that and Layout of that as we get into our Investor Day in December.

Speaker 13

Great. Thanks for the color and good luck.

Speaker 5

Great. Thanks, Collyn.

Operator

The next question comes from Reuben Garner with The Benchmark Company. Please go ahead.

Speaker 14

Thanks. Good morning, everybody, and congrats again on the strong quarter.

Speaker 5

I guess,

Speaker 14

I had some connection issues earlier, so if they repeat anything, sorry in advance. But first question is on inventory. Can you talk about where your inventory stands from a volume perspective relative to kind of historically normal Times we've heard from those kind of 2 step distributors and some manufacturers that the dealer channel is kind of Sand and hesitant to add, I was just curious how you guys are viewing inventory. Is that something where you're stocking and it's an advantage you have Product over some of your smaller peers or are you the folks that are running thinner than usual now?

Speaker 2

I would say we're running normal, right? I think we're not seeing the same kind of supply challenges we did Just after COVID, it's more of a normal operating environment. Our guys have done an unbelievable job coming through that And getting back to normal for us. We're where we would be normally with just So we'll see a buildup of inventory during the Q3, and it will start to wane in the Q4 as we head into of the seasonal months, but we're kind of business as usual at this point.

Speaker 14

Okay, great. And then I'm not sure if this one was asked, but an updated way to think about sensitivity to lumber. I know you've got the base Business number out there, but if we're continuing to run $100 higher, how much of an impact does that have on revenue and profit?

Speaker 3

Yes, that's a good question, Ruben. You may have noticed we brought back the base business guidance And estimate, but we did not bring back that sensitivity chart in the back. Candidly, I think that caused as much confusion as Clarity, so we're going to try a different approach. What I can tell you, and this is really based on what we're seeing today, If lumber goes up or down by $100 a $1,000 we think it's worth between $175,000,000 and $225,000,000 in annual EBITDA. So if they use $200,000,000 as the midpoint, it's In that range, but there are two things that I need you to just keep in mind, right?

Speaker 3

There are a number of assumptions that go into that type of Rule of thumb metric, the 2 most important are, 1, that's assuming normalized margins. It's a normalized margin impact of that up and down specific to commodities. And then please keep in mind, it takes 3, 4 months, sometimes a little bit longer of lag before that change in commodity will show up in our results, Right. You think about the inventory on the ground, the order time, the delivery and then the pricing change impact as that flows through. So Just keep in mind, those two assumptions are very critical to that rule of thumb.

Speaker 3

But again, dollars 100 lumber worth $175,000,000 $225,000,000 of annual EBITDA.

Speaker 14

And a quick clarification, Peter, is that lumber and OSB Altogether commodity?

Speaker 3

Correct. And we assume a seventy-thirty lumber OSB mix.

Speaker 14

Perfect. That's very helpful. Thanks guys and congrats again. Good luck on down the list of the year.

Speaker 3

Thanks, Ruben.

Operator

The next question comes from Kurt Yinger with D. A. Davidson. Please go ahead.

Speaker 7

Great. Thanks and good morning everyone.

Speaker 14

Good morning.

Speaker 7

Just given the strength in value add and what you've talked about in terms of, I guess, the widening Kind of margin differential versus traditional distributed products. Are you seeing competitors, I guess, invest behind the category to a greater And I guess over the long term, how do you think about your ability to kind of differentiate with some of those solutions.

Speaker 2

Yes. I think we're the clear leader in this space, first of all. And We have made the most we put the most emphasis on finding ways To increase our productivity specifically in our manufacturing trust and door shops to extend that lead. We believe the investment required to do those type of improvements is not insignificant. And we believe our commitment to us has made a difference.

Speaker 2

And we see that in the marketplace. We especially saw it coming out of COVID where it was tough for people to Find a trust manufacturer that wasn't that didn't have a significant backlog and people had to pick and choose who they wanted to do business with. And we saw where our customers wanted to do business with us in that environment. So we feel good about our position. I think anywhere where you see opportunity, people are going to make investment.

Speaker 2

I just think we've got such a nice lead On our competition today, it will be tough for us, for them to catch us.

Speaker 7

Got it. Okay. That's helpful. And then just second, I was hoping you could just kind of frame how you would Characterize your volume performance over the first half relative to what we've seen on the single family start side. And I guess in manufactured products as well, I mean, it seems like the core organic sales there trailed single family starts a bit.

Speaker 7

Curious if that's footprint, maybe some pricing in there, and just how you kind of reconcile those different data points.

Speaker 3

Yes. No, that's a fair question. It's something we look at pretty regularly as you know. What I think it boils down to most simply is Starts are the best indicator and the best, sort of measuring stick for our performance over time. I don't think it's accurate at a quarter.

Speaker 3

And what we've seen is sort of as the market turned down, We didn't go down as much as the market. As the market has turned up, we haven't gone up as much as the market. And there's a little bit of Product mix to do with that, right? We've said in the past, we're probably 2 thirds that's leveraged towards the beginning of the start, 1 third towards the end of the start, so that's 1 piece. Another of it is that we're probably not at the start, but we know we're not at the start.

Speaker 3

We're anywhere from 30, sometimes 60 days later when our first product starts to hit the job site. So little bit of Shifting around that in terms of timing of when our orders hit, based on the trends we're seeing right now, we feel pretty good. We may have given up a little bit of share in our estimation, a couple of $100,000,000 worth. We talked a lot during the timeline of the big supply chain disruptions About how advantaged we thought we were by having more product and being more effective at meeting customer needs Where others struggled, and we're probably giving back a little bit of that as we anticipated, but that's kind of in the numbers you're seeing now. So feeling pretty good about where we are versus the overall market.

Speaker 7

Got it. Okay. I appreciate the color, Peter, and good luck here in Q3, guys.

Speaker 5

Thanks.

Operator

The next question comes from Jay McCanless with Wedbush. Please go ahead.

Speaker 15

Hey, good morning guys. Thanks for taking my questions. The first question I had, And we've seen lumber prices, especially framing lumber, move up sequentially for the last couple of months. I guess, is that Starting to flow into your pricing, not only on commodity goods, but are you also starting to be able to take some price on the value add goods?

Speaker 3

Yes, like always. Yes, sure. I mean it will take some time to fully feather in, but it has started to move modestly and we certainly follow it on a consistent basis. The one point I'll make on that though is that one of the big movers has been OSB. I'm personally a little bit skeptical on the durability of that only because we hear so much about incremental Coming online over the next year.

Speaker 3

We'll see where it pans out, but that certainly is something to keep an eye on.

Speaker 5

Okay. That's

Speaker 15

good to hear. And then just the second question, M and A phrased a different way. Are you starting to see some of this Tightening, in terms of bank lending standards and underwriting, on some of your potential acquisition targets. Is that Freeing up or making some people maybe more willing to sell than they might

Speaker 6

have been at the beginning of the year?

Speaker 2

That makes reasonable sense that we would start to see that. I would say on what we've been looking at lately, that hasn't been a factor.

Speaker 15

Okay, great. Thanks guys. Appreciate it.

Speaker 3

Thanks, Jay.

Operator

The next question comes from David Manthey with Baird. Please go ahead.

Speaker 10

Yes. Hi. This is Quinn Frederiksen on for Dave. I'll just ask one question here. Peter, your earlier comment made it Sound like the competitive environment has remained pretty benign in value add and better than you expected.

Speaker 10

Do you think that's due to the same dynamic among Competitors with the commodity price lags in their contracts or is there a structural change in improvement there? And then are you assuming an uptick in competitiveness in the expectations for the slight back half gross margin moderation?

Speaker 3

So I guess I need to be a little careful how I answer that. On the first hand, we have seen incremental competition and Margin erosion in core business, period. Full stop. Now it's not as much as we expected. It's not as much as we forecasted, Hence the outperformance in that area.

Speaker 3

I would say that there has been a lot of strength in the volumes within The value add, which gives us increasing confidence that we're meeting a need that our customers see value in it, That they're leveraging it to improve their cycle times, their job site efficiencies, their job site safety and that we're at a price point that's competitive that allows them Do what they need to do better. So we're certainly pleased with all of that and have been seeing the competition. Now The components of cost, the investments that we've made, but also the inflation we've seen, Certainly, I think that has had a structural impact on the overall market, us included, but others as well, where you got to make a little more gross margin if you want to Cover those incremental wage costs or truck costs or whatever it is. But then lastly, we've done a lot of work. We're much more efficient And that self help has allowed us to earn more on the same equipment year on year because of our efficiency improvements, Whether it be new automation that layers on the same equipment in facilities, sometimes it's new equipment, but sometimes it's just better process.

Speaker 3

And all of those things are why that strength we've seen is sustainable. I think that helps today's point us be more competitive, Right. We can still make good money where others are struggling. And if we can do it by being more reliable, Our on time and in full being better, that our quality is better, then we're always going to be the partner of choice for these

Speaker 2

And I would just add a real life example in a major market. We had a customer try someone else for 50 houses on trust for a lower price. They came back to us less than a month later at our price for those same 50 houses, which we, by the way, delivered inside of 10 days. So the stickiness we generated or by being able to do what we do best For our customers, they recognize that value proposition. And that's allowed us to make money for them and us, and that's where we want to be.

Operator

This does conclude today's question and answer session. I will now turn the program back over to our presenters for any additional closing remarks.

Speaker 1

Thank you very much. Have a great day.

Speaker 2

Thanks everyone.

Operator

This does conclude today's program. Thank you for your participation. You may disconnect at any time.

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Earnings Conference Call
Builders FirstSource Q2 2023
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