JELD-WEN Holding, Inc. (JELD) Earnings Call Transcript & Summary

Hi, everyone. This is Adam Baumgarten, Credit Suisse's homebuilder and building products analyst. It's my pleasure to introduce John Linker, CFO of JELD-WEN. Thanks, John, for participating. Before we jump into Q&A, I'd like to open up things to John to go over some remarks.

Thanks, Adam. I appreciate you having us, and thanks, everybody, for joining us. A quick overview of JELD-WEN before we do our Q&A. Company profile for us. We are a global leader in manufacturing windows and doors. About 70% of our revenue comes from doors, the rest from windows and ancillary products. We've got leading market positions and strong brands. We've got #1 market position in the vast majority of the markets that we serve. And we operate in 3 segments: North America, Europe and Australasia, with a little over half of our revenue coming out of North America. A bit of history. Business was founded in 1960 by the Wendt family. They did a great job growing the business for many years, largely through acquisition, about 40 acquisitions over the time period. And the business transitioned to private equity in 2011. Really started the operational transformation about 5 years ago, demonstrating some good operational improvements and financial performance, margin expansion and some revenue growth and went public in 2017. And then fast forward to mid-2018, new leadership was brought in to sort of accelerate the transformation. And that's when Gary Michel, our CEO, joined us a little over 2 years ago, 2.5 years ago from a distinguished career at Ingersoll Rand and then at Honeywell as well, running industrial businesses for them. And then I moved into the CFO role shortly after that. So Gary and myself and the rest of the leadership team are really just trying to accelerate the transformation now at JELD-WEN, which is our value creation story. Three aspects of that. The first is reinvigorating the top line growth of the business. So that's investing in new products and innovation to drive volume growth as well as investing in service enhancements to drive share gain as well as focusing on pricing as well. The second aspect of our story that's fairly well-known is the self-help margin improvement story really on the manufacturing side using our JELD-WEN Excellence Model, or JEM, as the foundation of that. So that's driving productivity in our day-to-day manufacturing operations and efficiencies. But also, there's a very specific cost takeout program around our manufacturing footprint in a number of rooftops that we have and leaning that out. And the last piece of our value creation story is really around disciplined cash deployment. We use a disciplined, risk-adjusted, returns-focused look on how we deploy our cash. We've got some nice high-return internal projects that we've been investing in. We also have a good track record of M&A. We've done about 14 bolt-ons over the last 5 years. Those are returning ROIC in excess of our cost of capital. So a good use of cash there. And we've also successfully deployed cash through share repurchases as well. So with those 3 aspects of our program is really how we're transforming the business again. This year has been a very unusual year with COVID, certainly for everybody in our sector. And we've navigated the year pretty well. We're on track to deliver earnings growth this year as well as some nice margin expansion. We're on track to deliver the strong improvement in year-over-year free cash flow as well as a nice reduction in net leverage. So the balance sheet is improving as well. And notably, our liquidity is at all times high as well, which gives us some flexibility to fund some of our initiatives. We're excited about 2021. I think we're teed up well and set up well to have a good year, demonstrating both some revenue growth and some margin expansion. I think that we've got demand heading in the right direction, particularly in North America, to drive some volume growth in the business. And with that, I'll open it up to you, Adam, to take us through some Q&A.

Thanks, John. That was a really good overview. I guess maybe stepping into North America to start here. Just maybe high level before drilling down into maybe doors and windows and some of the other dynamics, kind of what you're seeing across residential new construction, residential remodel, maybe wholesale versus home center, sort of how that's been trending and sort of the opportunities as we move into next year.

Certainly. So the R&R side of our business, which we largely serve through the retail channel, has been the most resilient through all this COVID disruption as those customers stayed open throughout a lot of the early stay-at-home orders and a lot of people investing in their homes, just a lot of traffic in the retail channel. And that's continued. It's really throughout the year. There is a dynamic there where we're seeing a lot more activity in stock units, SKUs as opposed to special order SKUS, and we can talk about the dynamics of really what's driving that. But we are seeing very strong activity through those retail partners. The new construction side, which we typically service through our wholesale distribution channel, has definitely been spotty as the year progressed. Early on, markets like the Northeast, where the lockdown restrictions were the most severe, really slowed down a lot of the new construction activity and then with the strongest activity maybe in the South and West. We are seeing that -- the new construction activity really start to pick up, although projects are taking longer, it seems, and it seems like supply chains across the spectrum of building products are a little bit challenged not just in doors and windows but -- so those projects are taking longer from availability of product and -- as well as availability of labor. So certainly, we're seeing the recent reports from homebuilders that are talking about some pretty substantial order growth here in Q3 and into Q4, which is starting to manifest into starts and then -- which hopefully will turn into demand for us 4 to 6 months after those starts happen. But certainly, it seems like those new construction projects are taking a little bit longer and then -- maybe than they would have in the past. And so therefore, the lag for us may be a little bit longer than it has been in the past.

Just on that lag, maybe could you give us a sense for what that historical lag was and maybe how much that's been pushed out.

Yes. I would say on average, and it does depend, depending on the price point of the home, but the windows and doors typically are going in sort of 4 to 5 months after that start is announced. Window is a little bit on the sooner side and then doors more towards the end of the project. So in that sort of 4 to 6-month time frame. I don't know that I have real concrete data to share with you on sort of what we're seeing now other than it just feels like it's taking a little bit longer not only for the orders to turn into starts but then those starts to turn into holes in the ground. And then everything is just kind of getting dragged out a little bit. So -- but yes, we're -- we do feel like the new construction demand will certainly be a tailwind for us regardless of however long that lag is as we move into next year.

And then just on the home centers, it seems like that was a bit more of a priority to some degree in the near term. And you mentioned the mix impact of more stock versus made-to-order type of products. I guess it seems like the stock piece probably remains pretty heavy in terms of exposure there in the near term. But as we move into next year, and I imagine, seasonally, there's some level of production that's able to pick up where you can catch up, I would imagine, across all your channels from an inventory perspective. But do you see that normalizing next year as availability and potentially growth somewhat normalizes given comps start getting tough at least for home centers as we move into next year?

Yes. So I think the dynamic that we've been seeing for us this year really is on that stock special mix. And this -- just to be clear, it's not a trade down where we don't feel like the builder or the consumer is trading down to a lower-priced product. The dynamic we're seeing happen is that builders or contractors who are going into retail to work on projects because inventories are low right now for stock units. And so us and other manufacturers are spending a lot of our time trying to get inventories back up to target levels within the retail, which means that special order lead times are probably extended beyond normal. And so contractors are really just not really willing to wait for special order lead times. And so in the past, where they may have waited for a special order door or window to complete a project, we're finding those same contractors just taking what they can get from retail and maybe doing any customization or painting or pre-hanging themselves. So it's really driving kind of this mix shift. And for us, that manifests into a margin headwind, which we've seen in the last quarter or 2 just because the profitability for us on stock SKUs is lower than it is on special order SKUS. And so in order for this to kind of get normalized, we need to see inventories that, at retail, get back to more normal levels, which will then allow the stock/special to sort of stabilize. I'd say sitting here today, we're still seeing on the POS data that we get from retailers that dynamic is still the same, where the stock sale is higher than the special order. In some cases, the special orders are definitely still negative in certain product categories. So as long as we're seeing that on the POS, it's probably going to impact our sales into retail as well. So certainly, for the fourth quarter and into the first quarter, we think there's probably a little bit of continued mix headwind, but that has the opportunity to flip. And sort of thinking about Q2 and then beyond for next year, what has been a headwind to margins for us for the last few quarters has the opportunity to be a tailwind as those special orders come back and those build-to-suit type projects start happening. So it's kind of where we are right now.

So just to clarify, the way to think about that is that you guys are scrambling so hard on the stock side to keep up with demand that it's taking away from the ability to timely produce special order. And that as you catch up, then things can bounce back out. And like you said, it's not a conscious decision that someone wants to spend less on the door. It's just you need product now. So as that kind of normalizes, you expect that piece to kind of grow concurrently with the rest of the industry.

Yes, that's well summarized. I mean certainly, labor has been a constraint for us in a lot of the industry in terms of either absenteeism or just getting enough labor. And so our ability to meet -- our ability to meet both this accelerated stock demand as well as special order demand is just constrained right now as we are scrambling, to use your words, just to make sure we get our retail partners -- get their inventories back to a healthy level where they want them to be. And in the meantime, what that means is that it does -- it would make a special order have a longer lead time and sort of less attractive to a contractor that would be wanting to potentially make that purchase. And so that's kind of -- it's kind of where we are right now. But as labor normalizes, we've been working hard on our labor force. We've been investing in more hourly workforce, particularly in North America. I think we're up about 10% in terms of hourly headcount since the summer. So really trying to invest in people to make sure we can support the demand. And now we're moving into the seasonal -- sort of seasonal slow period where less new projects may be getting started seasonally just because of the winter weather in certain parts of the country. And that does give our -- that will give our supply chain and our plants ability to sort of recover and try and meet all that inventory levels. And then, therefore, as we get into next year, get through this sort of seasonal winter period, we'll be in a better position to serve both the stock and special order demand.

Got it. And then just thinking about wholesale, too, given their higher exposure to new construction, which given the lag you spoke about earlier and some of the strength we're seeing on starts and orders, especially in the back half of this year, should start to play out for you maybe mid- next year or in the second quarter. I guess that will then create an additional surge of demand, maybe just as you've potentially caught up in the seasonally slow period on the retail side. I mean how are you thinking there? Is there a dramatically different product mix there? Is the builder product much different? Do you think that, that first quarter, let's say, or maybe December combined is enough to catch up given the surge you're seeing from new construction?

Certainly, our -- we don't have much of a backlog given we're a relatively short-cycle business. So sort of our open orders as a proxy for backlog. I mean they're certainly up year-over-year. And so we're seeing that demand. And we really need to focus on serving that. I wouldn't say there's a dramatically different product mix necessarily between new construction in the wholesale channel and the R&R other than that sort of stock versus special mix that we've already spoken about. So for us, I think it is really -- it's focusing on the demand planning side of our business. We've made quite a bit of investment in sales inventory operations planning or IBP, as we call it, which really makes sure that we plan labor levels and the plants to meet the demand that we're seeing from our customer base and that the demand that our supply chain can support. And so for us, the -- I think the focus area is really just making sure we staff the plants appropriately, plan for the labor and demand appropriately so that we can -- if there is a sort of a spike in demand that we're ready to support it and that there's no operational disruption in terms of execution or lead times or anything like that.

Got it. Okay. That makes sense. Maybe switching gears to pricing. It's been a really nice bright spot in North America this year. There's some additional price increases out in the market for next year. Can you maybe talk through those? I mean I think you've guided to roughly $90-ish million, maybe a little more in pricing this year. Looking forward next year, maybe if we could wrap our heads around kind of how you're thinking about that. It seems like it's similar magnitude. Maybe give us some color on there. And then maybe kind of the -- I think the prior price increase, maybe more of an industry concept here was that the value of what you guys produce is worth a lot more than it was currently selling at. I guess on a go-forward basis, does that kind of -- is that still somewhat the argument? Is part of it maybe some cost inflation that you're likely incurring that maybe you didn't this year? Maybe just walk me through the mechanics there.

Sure. So -- and I assume the question there is mostly focused on North America, right?

Yes. Yes.

Yes. So we're on track this year to deliver roughly sort of 5% price realization in North America. Last quarter, it was a little bit more than that. But on average, around 5%. And that's a true price. That's not AUP concept or anything. And certainly, that's higher than it has been in the last few years and has been a nice driver to help us on the margin side going forward. We are in the midst right now of working on pricing for 2021. We put out a month or 2 ago a notice to the wholesale channel in terms of price increase for next year. And then we're working through with our retail partners right now in sort of what pricing will look like for next year. There are some additional inflationary headwinds that we're seeing, particularly as it relates to some of the COVID-related disruptions as well as some of the hangovers from the hurricanes. So resins, for example, are definitely going up, and we're seeing a bit more exposure there in our vinyl prices. Metals are starting to increase as well, and freight is going up a bit. And so I think there are some inflationary headwinds that we're having to focus on as well as some tariff headwinds in our North America door business related to some millwork antidumping duties that have gone into play. So there are some additional costs we're going to have to cover next year. That said, I would say, based off of where we are with sort of the pricing process right now in North America and what we're seeing from a inflation standpoint, I still feel that 2021 price/cost will be certainly margin accretive. Too early to say sort of order of magnitude exactly what pricing we might realize next year. But I would say that, certainly, as I just said, the price/cost piece should be a nice margin driver even with all those puts and takes. For the longer term, yes, I mean, we absolutely believe that we need to earn a fair return on invested capital for our business. And there are certain pieces of the portfolio that we feel like pricing won't certainly help us earn that return. And I think the elasticity in the cost of a home, doors and windows are still a relatively small piece of the overall cost of the home. And so from an elasticity standpoint, we don't think that if the prices of doors and windows were to continue to increase, that would impact -- meaningfully impact any sort of demand for housing as we move forward. So it will be an area of focus certainly for the next -- not just this year or next year, that's a scenario of focus for us all the time to make sure that, that goes well.

Got it. And then just on windows, there was some share loss a while ago. I know you guys are still working on gaining that back. It seems like from an operations perspective, things are pretty much back to normal. Maybe just the update there because there has been some disparate growth doors versus windows of late. So maybe if you could kind of square those.

Sure. Thank you. Thanks. Yes. I think if you go back a few years, we did have some operational challenges in our window business that did result in some share loss, particularly on the wood window side. And we've moved well past that at this point operationally. We're very happy with where our window business is. We're back to delivering some strong margin improvement. I'm very happy with the quality of our products and the operations there. I would say in terms of the different aspects of our window business in North America, you've got our window business, our vinyl window business and then also a more recent entry into sort of multifamily or light commercial business with our VPI acquisition that we did early last year. And what I would say there is certainly in wood windows, we definitely still have some work to do to gain back some share there. We've got some capacity to grow. And that's a big area of focus to make sure we're getting representation with dealers and earn that back. On the vinyl side, I would say that demand is quite strong. We've picked up some new business at retail in vinyl. And then just more generally, I would say that vinyl, we're seeing good demand for that to the point where we do have some capacity constraints. Some of that's related to demand. Some of it is related to the absenteeism and sort of workforce constraints that we talked about a few minutes ago. And so we're making some select capacity investments in vinyl to support customers in key markets. It's not -- and these would be capacity investments that would improve productivity as well as improve capacity. And so that's going to be a key area of focus to make sure we can grow that vinyl business in the 2021 from improving the productivity, from improving the absenteeism situation as COVID kind of hopefully improves and then as we get some of these capacity investments in place. And then the last piece of our window business is that VPI business, which focuses on multifamily, light commercial. And they're performing fantastic. Well, I mean, while it's a smaller piece of our business in windows, they're demonstrating double-digit to teens revenue growth this year, taking some nice share. And we're very happy with that aspect of the business. So I think the focus for windows on us is continue to demonstrate the operational improvements that we have shown for the last few quarters to continue to demonstrate the margin expansion and then be prepared from a service standpoint to make sure we can support growth as it comes. And as I said, we're making some investments to prepare for that as well.

Got it. And just maybe more across the enterprise given COVID -- and hopefully, it's by next year contained. But it seems like, to some degree, it's here to stay in one way or another maybe. Anything you've been able to do or plan to do on maybe the automation side across windows, doors that may have a pretty nice payback over a short period of time and could maybe solve a bit of that absenteeism/COVID-related disruption kind of long term?

Yes. I would say that was something that we were working on sort of pre-COVID. I mean a big aspect of our JELD-WEN Excellence Model, or JEM, efficiencies is to look for those opportunities where there are good investments to make. And I don't think we're ever going to be and our locations are never going to be sort of fully automated production sites. But certainly, there's key aspects of the production process, whether it's material handling or welding windows or the way we produce our doors, going from sort of batch to single piece flow. So there's definitely aspects of our business that would benefit from either automation or just investments in technology. And those are investments that we've been making as part of our JEM journey. And we -- those projects would carry nice paybacks. I mean typically, those productivity automation projects would have paybacks sometimes less than 2 years, depending on what it is. And so those are -- we think those are good uses of capital, which, as you say, kind of helps the business be prepared for disruptions in labor force and workforce, but also in addition to that, drives margin improvement, which helps the productivity story.

Got it. And then just on some of the costs, yourselves and many companies were able to take out some of the temporary travel and entertainment and things like some of the health expenses that came out of the cost structure this year that will likely come back. I guess is the way to think about those, at least I think you've sized it at $40 million, is that you need to kind of return to some level of growth for all of it to come back? There's probably some piece, I imagine, that comes back almost no matter what. But maybe just kind of walk us through the phasing of that, kind of how we should think about in different scenarios how that looks.

Yes. So certainly, like a lot of folks, we took some pretty severe austerity measures back in the second quarter, everything from furloughs to salary reductions to freezing discretionary spend and travel and some marketing in some cases. And so -- and then there were some areas where we did see some government subsidies from governments in exchange for not furloughing our workers. There were subsidies offers from certain governments to support that. And so those are types of things that particularly -- and what we're assuming is going to be a pretty strong demand environment next year based off of our discussion earlier in this call. We're anticipating that we're going to need to make sure we have that workforce, both the blue collar, hourly labor as well as the white collar labor in place to support the growth of the business. And so yes, that number you mentioned that we talked about in the last earnings call, I think that assumes if revenue growth comes in sort of as we're expecting, which would be some nice volume growth in North America, seeing some growth in Europe and then also in Australia, probably a little bit weaker, but just given the housing environment, if all that sort of happens as we're expecting, then yes, that's cost that we need to come back in the business just because it's going to not be there like it was this year. But also, there are some discretionary investments that we pushed out this year, investments that we think would really help drive the top line of the business in future years and some discretionary investments that we want to make going forward. So I think the way to think about it is if everything is working as we plan in 2021, so the pricing is coming through, the productivity is coming through and the volume is coming through, yes, then those SG&A and investments would kind of come back in the business. If any one of those aspects is not working as planned, then we will toggle the spend to make sure that we're still able to have a successful year and drive margin improvement next year. So it's just something that we're going to kind of pay as we go as the year happens.

Got it. And then just one more on cost before capital allocation, just in the interest of time. Just on freight, I think back in '18, we saw somewhat of a similar environment from a cost inflation perspective. Spot, I think there's a view that contracted rates will be up next year, not nearly as much as spot but up a fairly healthy amount. Is there anything you're doing different this time as we look into next year that might blunt some of the impact from freight going up? Or maybe there's some reason to believe it doesn't impact you as much. It seems like we're in a similar environment, but would love to hear your kind of thoughts there as we look into next year.

Yes. I think back in 2018, we were upside down in mid sort of 2018 on price cost both from a material inflation as well as freight inflation standpoint. So I think what's different this go around, certainly, we talked about pricing. We're getting in front of it on the pricing front to make sure that we have pricing put into the market to offset what could come at us from an inflationary standpoint. And then from a contractual standpoint, I would say a lot more of our freight is under contract at this point. And domestic U.S. freight is a lot more of that would be under contract at this point, which would give us protection. At least through the majority of 2021, we feel like we're -- we will be fairly well insulated as it relates to the freight inflation because of those contractual obligations.

Okay. Great. And then just lastly, leverage coming down probably by the end of the year, pretty close to, if not at your, kind of target range long term of 2.5x -- 2 to 2.5x. As that -- as conditions pick up next year and you kind of grow into that lower leverage with your EBITDA growth, M&A, share repurchase, how should we think about redeployment of capital after kind of pulling back a bit, obviously, to delever mostly over the last year, 1.5 years?

Yes. So we've -- as you mentioned, the balance sheet is rapidly improving. We started the year slightly above 3x. We'll exit this year, hopefully, 2.5x or less on a net basis and with liquidity that's at all-time highs. And so the balance sheet is improving. And if we execute on our plan in 2021, net leverage would come down even more, which does give us the ability to start thinking about playing more offense on the M&A front. We did go through a pretty acquisitive phase back in the 2015 to '19 time frame, mostly bolt-on size deals that were both strategic but also drove some nice value creation for us. We have kept up the M&A funnel. We've kept up the M&A cultivation so that when the balance sheet is ready to go, that we'll be ready to start deploying capital again. And so I think we're looking at it through a cautious lens, and we have a lot on our plate operationally internally. And so we want to make sure that anything we do doesn't disrupt our margin improvement commitments that we've made in the core business. But there are certainly some strategic properties out there that would make a lot of sense for us. And as the balance sheet improves and we can find a way to do those deals in a way that doesn't disrupt the core and do those deals in a way that's at attractive valuations and returns, that's certainly something we would think about. And then on the share repurchase front, yes, we do have $150 million of authorized under our current share repurchase program. We look at repurchases just like M&A through sort of a risk-adjusted return levels. So if there's a dislocation in the stock, we would definitely be in a position to buy back some shares as long as our balance sheet is in good shape. At a minimum, we will buy back enough next year to offset the impact of any equity plan dilution. And then beyond that, we'll be more opportunistic. So yes, I think, to your point, balance sheet is really becoming a rapidly improving area of the business that should give us some flexibility to play offense going forward.

Okay. Great. Well, I think that's all for time. John, really appreciate the time here, and best of luck going forward.

Thank you, Adam. Appreciate you having us.

Thanks.