Hayward Holdings, Inc. (HAYW) Earnings Call Transcript & Summary

Thanks again for joining us in person. We really appreciate it. And I just want to welcome the Hayward Holdings team with us today. My name is Mike Halloran, industrial analyst here with Baird, and we're pleased to welcome Hayward to their first-ever in-person industrial conference since they came public and we were still in COVID lockdown essentially. Here to tell you more about the story, Kevin Holleran, CEO; Eifion Jones, CFO; Stuart Baker, VP; Kevin Maczka is buried in the crowd here, who's IR. So we got the whole team with us today. Kevin is going to give us a quick intro, and then we're going to go through questions. And so if you've got any questions, please e-mail me. I'll make sure we weave it in. We're going to start higher level, and then we're going to kind of dig through the P&L and into the balance sheet. So any questions you have, we'll make sure we weave it in. With that, Kevin, please.

Great. Good morning, everyone. It's good to meet Mike in person. We share a similar last name. He spells it the more common H-A, as opposed to H-O, but it's good to be with you all today. I'm pleased to be joined by a couple of my colleagues. I've got 2 slides and then we'll turn to the fireside and answer more live Q&A there. So I know that we're a new story to some in the audience today. So I thought, first slide, I'd just give a quick overview of who Hayward is. So just looking at the pie charts, we're 85% North America; 15% Europe, Rest of World. We view that as advantage given the pricing and the margin profile, and North America is best in the industry. Moving right, residential pool, we are a pool pure-play, largely tied to the residential backyard with smaller businesses in the commercial pool and flow control. And then you can see we are a full-line supplier. Innovative, environmentally sustainable products, everything that you need to safely operate, any type of pool, whether it's an in-ground commercial or above-ground pool. Hayward is the best-known and most trusted brand in the industry. We have a large installed base that results from decades of focusing on the pool business. So that's part of our competitive moat. New pool construction gets a lot of attention. But really, the revenue profile of our business is really tied to this roughly 80% resilient, largely nondiscretionary aftermarket, which is -- which results from repair, replace, upgrading and full-scale remodeling. And then finally, the business boasts strong financials with 28% adjusted EBITDA margins on $1.3 billion in sales. Next slide. So now I'll just pivot to the industry that we participate in for my second and final slide. We consider it a large, growing and predictable. So what do we mean by large, 25 million pools in use around the globe day-in and day-out, with nearly a $6.5 billion TAM. It's growing both in terms of number of pools in the installed base as well as average spend per pool pad. So dating all the way back to 1970, the number of pools has grown, meaning that there are more new pools constructed than decommissioned every year. It may go back further than 1970, but that's as far as the data actually goes back. And over the last 10 years, we've seen an 8% new construction growth rate. But in addition to just the raw number of pools in use, using equipment day-in and day-out, is this increase in the ticket price to the pad. Admittedly, some of that is price-driven over the last few years based on inflation. But more so than that, you see pool owners expressing greater interest in higher-functioning, connected, environmentally sustainable products to really drive further enjoyment to their backyard living. And then finally, predictable. The -- it's a choice whether you want to build a pool or buy a home that already has a pool. But once you've made that decision, we have a lifetime relationship with that pool owner or with that homeowner. Depending upon usage, equipment starts to need replacement somewhere in the 7-year time period. And then a full-scale remodel somewhere between 15 and 20 years is really when you see folks doing a more whole, full-scale remodel, tearing out the vinyl line or putting in new hardscaping, normally a new pad of equipment at that point in time. And then the final piece is, again, over the last couple of years, more inflationary pressures. But this is a very well-structured industry, that normally to start off the fall season. There's an expectation to absorb somewhere between a 2% and 3% pricing increase to offset inflation. That's been passed along and realized for years on end. So that's a little bit about who we are as Hayward and then, more broadly, the pool industry that we participate in. Thanks, Mike.

Great. Thanks for that. And as a reminder, if you have any questions, you can e-mail me. Use the card in front of you, and I'll make sure I get those questions in.

So let's start high level with a few things here, [ level set ]. A question I get a lot, particularly from people who are getting up to speed on the supplier side of this pool space is, what the differentiation point is between you, Fluidra, Pentair and some of those smaller fragmented pizzas that are actually still out there? So maybe just talk on that and what you see your differentiation is in the marketplace.

Yes. Good question. The industry, I guess, particularly in North America, would be considered an oligopoly. There really are 3 large, full-scale players: ourselves; Pentair; and Fluidra, who market under a couple of different brands. I would say in North America, what we really view our strengths to be, vis-a-vis, others is from an operational standpoint, when we were a private company up through 2021, we really thought we were advantaged from a supply chain and an operational management standpoint. Lean culture. I think that was on full display during the supply chain challenges over the last 2 years as we were able to ramp production and manage the complexities of supply chain shortages by most accounts better than some of our competitors. I think second to operations management would really be our product planning. Admittedly, we do not necessarily identify every single product category is something that you need to have product leadership in. We've identified what we think are the pacesetting products on the pool pad, where if you can exhibit product leadership around things like the variable speed pump, automation and controls, water sanitization, that creates a halo around other equipment decisions, and that's really where a disproportionate amount of our resources are allocated. And then I would say, finally, I'm really proud of the balanced approach to our sales profile. Two-step distribution is the primary means to market in this industry. However, we are the in-store brand with Wesley's, it's a long-standing relationship. I'm pleased to be benefiting and helping to enable some of their growth. We're the leading e-commerce provider. We came out with a totally new policy back in 2020 that really put some discipline into the Wild Wild West, with some map pricing and pair down the number of open SKUs that could be sold across the Internet. And then finally, people like a Blue Haven or some of the large buying groups out there like UAG and Carecraft, we deal with on a direct based, have the ability to plan their inventory. We'll deal with them happily on a direct basis. So I think it's really three things that we focus on, our operations management, product planning and our go-to-market strategy, I think are some differences between ourselves and others in the industry.

And let's ignore the last couple of years and next year, where you've got kind of wide swings with what the market's going to give you. What's the run rate growth profile? And how do you build it up between pricing, volume, opportunity set and mix? And then maybe dig a little bit in on what that mix opportunity looks like?

Yes. Setting aside the last couple of years this industry, I think why it's attracted so much outside interest is that this was a high single-digit growth industry for years and years. And it really is, there's kind of several ingredients that go into that. It's still on the slide in the lower right corner there. Again, the assumption that you're going to realize a couple of percent every single year on top of the volume and the mix that comes with a growing installed base, churning through equipment, bringing more technology, more connectivity to the industry. So really between pricing, a couple of percent, and then somewhere between, call it, 4% to 6% annually, that's due to new construction, full-scale remodel and then this large 80% profile for the aftermarket. That's really what's driven the sort of 6% to 9%, pretty much count on it the growth profile for years and years in the pool industry.

And the mix piece should be ongoing, right? I mean on a forward basis, it feels like this continuous shift up towards a little more technology, maybe a little more reliance in using the app, some of the features around it, correct?

Yes. I mean we have some material on our [ investors' side ] illustrating the difference between take rate at time of new construction and then what's buried in the installed base. And there is -- it's kind of eye-popping the take rate difference. When someone's building a pool, they're perhaps no more educated than that very time, right? They do all their research both online and talking with their builder, and they know exactly what they want and they're really up to speed on what the technology and some of the ambience options are. But again, we've got this 5.9 million in the lower left corner there, 5.9 million in-ground pools in North America alone, many of which were constructed before IoT was even a thing, long before variable speed pumps have largely replaced single-speed pumps from an energy efficiency standpoint. So this mix-up is absolutely going to continue when you consider the embedded conversion rate in the aftermarket. But it's on us as OEMs working hand in glove with our dealers to make sure that as those servicers are going out of the service calls to replace a broken pump, that they're comfortable and they have the selling tools to be able to upgrade and make a sales call. While they're replacing what they were called for, they can take stock of what's on there and perhaps do an upsell. Has been much of that the last 2 years, those servicers have been so busy just filling the inbound calls that there really hasn't been this opportunity to upsell. So that's something -- that's a vein that the industry is going to be able to mine for the next several years.

Great. So let's spend a little more time on the top line trends, current and perspective here. So you're right. I mean if you look back over the 2000 to midyear this year type time frame, your ability to scale your capacity to meet market demand was very differentiated. Now we're on the flip side of that, and we're talking about the inventory destock period. So a couple of things here. One, maybe just talk about how you think the market share piece tracked over that period of time as you were able to meet demand? And how much do you think you can keep? Because this typically is a slower-moving market as far as share shift goes. So any help would be great.

Yes. I think during the pandemic, we probably captured about 2.5% market share. Again, Mike, you follow the industry pretty closely, share movement is kind of at a glacial pace. So that is a meaningful pick up there. We feel -- well, I'm with the company now a little over 3 years. And from the day I joined the company, our top-level improvement priority was to grow profitably greater than market every year. So our entire organization is aligned around not conceding or handing back share that was earned through product, through go-to-market, through operations management, but to continue growing and taking share. I think what gives me comfort that we're going to be able to build from here is the fact that some of our reorganization within our sales force creating specialization, creating hunter roles that are out there targeting new builder conversions and bringing servicers into the Hayward family. We've had enormous success over the last couple of years bringing 1,500 new totally Hayward dealers into our loyalty program; and through 9 months this year, another 1,800, many of which are competitive builders that bring big portfolios of business with them. So from the folks out representing us carrying the flag in the backyard, and we're going to continue arming them with the best in the industry products. I like our chances to continue building from here.

So now we're in the destocking mode. And a lot of that happened because you're putting content in the market so quickly to meet demand and demand turned quickly, right? So you made some progress in the third quarter. Maybe talk about a couple of things here. One, when do you think the destocking piece is mostly going to be over? And then two, if there are pockets in there that maybe have a little less need than others when you look at the product category?

Yes, I'll start and I'll hand off to one of my colleagues. So we did make meaningful progress. We came out of Q2, and we saw from a month on hand standpoint, we thought that we really needed to destock. Right up until then, I mean, the channel was still angrily placing phone calls about filling their orders, but I think it was wise for us to pump the brakes and to be able to get the inventory to the correct level as we exit 2022 and head into 2023. Our assumption is, being 1 quarter into it, that will be where we want to be by the end of 2022. The big assumption there is that we'll continue to see the type of retail sell-out of the channel that we've experienced this year, which is, throughout the year it ebbs and flows, but it's somewhere between kind of low double-digit to high single-digit pull-through, which is still really, really strong with some of the economic uncertainty out there. So that's a big assumption that we have. During this earnings season, some of our competitors kind of realized the same thing we did 90 days ago, and are calling for more of a channel destock. There's some talk that may bleed into 2023 for them. Our expectation is that we'll be able to be at the right levels exiting 2022. My last part of the question was some product categories, frankly, never got to an overstocked position. Variable speed pumps, we got kind of back to normal lead times faster than some of our competitors on the variable speed pumps. But just about anything that required electronic componentry or PCBAs were just -- printed circuit boards were really in short supply. So things like automation and controls, even some of the salt cells, water sanitization and LED lights were things that, I would say, never really got to an overstock position. Whereas we've seen better performance, in the first 90 days or so, around heaters, heat pumps, cleaners. And even some of our pumps, we've seen nice depletion of inventories.

Helpful. And maybe one question I get a lot that you could help with is POOLCORP -- not your only customer, but POOLCORP is someone who's talking about bleeding inventory off through the second quarter. You look at your commentary or you hope to be done by year-end, partially since you started sooner than others. When you look at the other 2 big players are not saying anything all that differently, bleeding into the first quarter a little bit. What's the difference between your commentary and what POOLCORP's commentary is? Because -- and we'll get to this as the next question, it's not like the end market expectations for next year are all that different when you look across the pool space and what people are saying. Is it just a product difference? Is it -- any help on that?

What I would say is echoing what Kevin has said, we're getting after the channel destocking a little bit more quickly than the rest of our peer set in the industry. We're still behind on electronics. The assumption going into next year is it's a similar retail pull-through environment. We don't expect to have a lot of bleed into Q1. Could there be some? Possibly. But we expect to be normalized by the end of this year. I'm not sure if that answered your question.

Yes. No, good enough. And so let's talk the sell-in through sellout. Obviously, it's the sell-in part that's got to be excess, and that's what's being adjusted how. The sellout side, when you talk about through this year, high-single digits. Low teens kind of sell-out. Is that including a positive volume environment? Or is most of that -- I'm not sure a chunk of that is still going to be the pricing side of things, but any help on that, that would be great.

Yes. I would say for the full year, we'd expect the volume to be only slightly positive on the pull-out, and by the time we get to the end of the year, there is a lot of price comparatively this year versus last year. So we would say price is definitely, as we exit into the second half, high-single digits. And so when you look at the overall growth factor, that would mean in the second half of this year, and there's probably a little bit of a decrement on volume in the second half, vis-a-vis, last year.

That's for you. Are you saying that from an industry sell-through as well?

I would say from an industry sell-through in the second half, that's probably got correct as well.

And then when we think about next year, and you guys have given a little bit of preliminary help here, maybe just help everyone understand how you're thinking about the 3 buckets: repair/replace, large-scale remodel and then the new housing kind of tied to the new pool type business?

Yes. I mean I'd probably add 1 other, pricing is obviously a big piece. So there will be some carryover from some midyear announcements this year. And we've also announced in late Q3, which will be effective January 1, another kind of weighted 4.5% based upon our basket of inputs required another price increase. Starting on the repair and replace. I mean, pools are being used, right? So that's 55% of our revenue or whatnot, we believe on the pure repair/replace, [ is it ] going to continue to stay resilient. At that point in time, some people are upgrading. So you see some mix benefit going on with the repair and replace. New construction. New construction, based upon our analysis, is really most closely aligned to single-family home starts. And we all presume that, that will be down here in 2022, perhaps again in 2023. So our initial thinking is new construction could actually take a bit of a step back. But again, for 20% of our business, you can make an assumption, and we will, which will ultimately inform our guidance. When we come out after the new year, that could present a bit of a headwind. But again, with pricing and with resiliency of the repair/replace, there's certainly some positive offsets. This thing that the industry has been talking about, and we're not quite sure when it's going to monetize, is this pent-up repair full-scale remodel opportunity. It's an aging installed base out there. And we know that, that was deprioritized over the last couple of years, really by both parties. The homeowner did not want to lose use of their family entertainment and the builders and the same people who do the remodels. And we know that they were prioritizing what, frankly, is an easier project to build new than to deconstruct and then build back. So that does have some tie to the interest rate environment, whether that opportunity materializes in 2023 or continues to get pushed a little bit to the right. This we know that, that's going to monetize at point in time. We just need to get more clear on whether that's a 2023 or later opportunity. So those are some of the things around price, remodel, break/fix or repair/replace and new construction that we are weighing as we work through the final quarter of the year here.

Helpful. And go ahead.

Can you just touch on general capital allocation philosophy as well as where you went [indiscernible]

The question was just capital allocation philosophy and how we want to think about leverage on a go forward.

Yes. So I'll just reiterate what we said before, which is our priority remains, first and foremost, the organic business. So we'll protect the organic business. Reinvestment, I mean, particularly right now, we're going through a reinvestment campaign into our manufacturing base, automating our facilities, particularly in North America. Secondly, is M&A. We've executed on a few tuck-in acquisitions over the last 12 months. Relatively small, but we have executed and put about $50 million on to the top line additional revenue. And then thirdly, return to shareholders. The cash profile of the business is strong, and we have the opportunity to look at all 3 elements of capital allocation. We've deployed $343 million in share repurchases this year. We have about $400 million remaining under our approved share repurchase program. But again, the first and foremost is the organic business. In terms of leverage, we feel comfortable between 2x and 3x. Right now, we're at 2.4x coming out of Q3, and we would expect to stay within that range.

Strong cash generation, right?

Very strong cash. You think about the income statement profile of this business, high gross margins, high EBITDA margins and conversion of net income growth in the 100% outside of working capital investment periods. This year will be a working capital investment period, but you heard my commentary on the earnings call, most likely, we'll be deleveraging our inventory positions over the course of the next 6 to 9 months. So that will be a nice source of liquidity.

So, Kevin, earlier, you mentioned pricing is a tailwind as well. You guys are pushing through a 4%, 5% price increase as we head into next year, I think effective January 1.

That's right.

Pretty normal timeline for a price increase, if you ignore the last couple of years, right? What are the inflation metrics that are driving that? And do you expect the broader industry to follow?

The inputs, I would say, there are a few that we're starting to see some maybe reset around freight has gotten better. But the broad basket of inputs, I would say we're seeing slowing inflation, but we have not seen deflation. So as we weighed all of that, that's what ultimately led to the kind of weighted 4.5% that we announced a few weeks ago. That will take effect on invoice January 1. As for competition, obviously, they weigh their own inputs. But the fact that we use some of the same suppliers, a lot of the same commodities to build our products, I would imagine that they feel much of the same pressures that we felt, which ultimately led to our price increase.

So as I think, further evidence of your ability to be nimble on the up and nimble on the down, you also just talked about kind of an SG&A reduction plan associated with the pullback here. Maybe some of those levers, what are you trying to accomplish? And I'll stop there and add a follow-up after.

You want to take that?

Yes, sure. So we've identified approximately 10% of the SG&A base to come out of the organization over the course of the next 4 months. Hopefully, the majority of that will be in place by the end of this year, and that's the plan. It really is concurrent with an organizational redesign. We're going through the process now and identifying all the pieces through that redesign. But we're taking a more [ center approach ] out of the U.S. to manage the global footprint of the organization from an SG&A perspective. What we didn't mention is we're also looking at rationalizing some of the costs down of our manufacturing facilities. We've learned a tremendous amount over the last 4 years in terms of what we can do with those facilities. We've upsized them at times, an 80% increase in capacity over 2019. So as we take all of that learning, now we are channeling them into further lean manufacturing initiatives.

[indiscernible]

Yes. I mean, ordinarily, this business, you see over the last 5 years, we've been able to grow the organization with an incremental rate of 35% to 40% on the bottom line. Our decrementals will be, broadly speaking, 40% over the course of a couple of quarters. It may shift around a little bit quarter-to-quarter. But we are a nimble organization, both at the manufacturing level and we're deploying that lean approach to some of the SG&A functions as well.

Great. Appreciate that. And from our talks post conference call, too, it's not like the moves you're doing currently are going to impede your ability to ramp as capacity. It's necessary and that the volumes kind of return as you look to next year and probably beyond, right?

That's correct. I mean the focus here is to be able to be much more responsive to the marketplace, both at the manufacturing level and in our SG&A. You have to remember, this is a family organization for the longest period of time, is transitioning now into a world-class public company. We're adopting a data-driven, process-driven approach to our SG&A base that we believe sets us up for success in the future. A lot of work to do, and some of the decisions are not easy to take, impact people's lives, but we believe we're on the right course.

I would just point out, Mike, that as we look at the SG&A, I mean, we're paying special attention to product development and go to -- the broad go-to-market to ensure that the growth levers are not compromised through this SG&A activity that we're undertaking in third quarter and then we'll complete by end of this year.

So in the last minute or so, obviously, a smaller percentage of portfolio, less profitable percentage of your portfolio, but maybe just talk to how you see the European landscape playing out here given all of the well-publicized challenges.

Yes. It -- there are a lot of moving parts in Europe now. Clearly, consumer confidence, energy concerns, the ongoing conflict, it's a meaningful piece of our business kind of, call it, high-single digit, 10%, with enormous growth opportunities. Europe is really more fragmented than what I described about North America. There's a lot of regional players there, with 1 very large player is Fluidra. So I think the marketplace is really thirsty for another full line supplier to sort of emerge as an alternative to the primary there. We're -- we don't build as much of our product in Europe as we do in North America. So we're looking at kind of a broad range of strategic initiatives on how we can continue to improve the profitability and the conversion of the growth in Europe going forward. So it's a meaningful market that's feeling some pressure right now, but we'll get through this. And it's going to be a good growth engine for us going forward.

Great. Well, please join me in thanking the Hayward team for their time today.