Newell Brands Inc. (NWL) Earnings Call Transcript & Summary

The company's President and Chief Executive Officer, Chris Peterson; and the company's Chief Financial Officer, Mark Erceg is with us today. Chris is -- opening words, then we get started at the fireside.

So our legal department has told me I need to read this to start. Today's remarks will contain forward-looking statements, which involve risks and uncertainties. Actual results may to differ materially, and we undertake no obligation to update such statements. I refer you to the risk factors in our SEC filings for further details.

So well done. You might have to conduct a fireside chat.

That's right.

Okay. Great. So Chris, maybe we can start with you. So since becoming the company's CEO, you announced a new strategy that focuses on the where to play, how to win choices. Just knowing there could be people here who are kind of newer to the Newell story or just as a refresher? Could you give an overview of how that -- what that looks like in practice? And how it diverges from the way that Newell has been operating in the past?

Yes, it's a pretty significant difference. If you alter the Newell story, we've been a turnaround for a couple of years. Over the last few years, we've been focused on and made tremendous progress on putting an operational foundation in place that is much stronger. So we've gone from 42 ERP systems down to 95% of our business on two ERP systems. We've taken our legal entities down by several hundred. We've consolidated IT systems from 7,000 apps to 700. We've taken our SKU count from over 100,000 down to 28,000 and importantly, more than tripled our number of SKUs. We put in place a fuel productivity program in our supply chain that's driving significant cost savings on a year-over-year basis, typically in the 3% to 4% cost of goods sold take out. We put in place a very strong automation system. We've completed a project Ovid, which has moved us in the U.S. from 23 unique supply chains to a single integrated supply chain. And as I came in earlier this year and was announced as a CEO, what I wanted to do was turn the company into a new direction. And so we started with a full-scale capability assessment. We looked at the 11 capabilities that we think are important to win in this industry, things like consumer and customer understanding, brand building, innovation, go-to-market, procurement, supply chain, et cetera. We benchmarked ourselves against best-in-class competitors. And what we found was that although we had done very well in making improvements on the supply chain and a lot of the back-office functionality, we had major gaps in our capabilities on the front end and specifically in the area of consumer and customer understanding, brand building, innovation, go to market. And so myself, together with the leadership team developed a new strategy that is a major pivot in the front-end capability of the company. And we're excited about it because we think that as we embark on this capability improvement on the front end, when you couple that with what we've done on the supply chain in the back end, we think we've got significant opportunity for shareholder value creation going forward. So that's the pivot that we've made. We announced the strategy in June. So just a few months ago, I became the CEO of the company about 3.5 months ago. We are very much in execution on the new strategy and it's a very different type of approach than what the company has taken in the past.

So one thing, I think that's really struck me with these changes that you're in the midst of, is the effort to factor in scale, right, the Newell and predecessor Newell and predecessor [charge] and so on that were very much detailed,? So, maybe could you talk a bit about that, too, sort of how scale plays into the strategy? And the changes you're making?

Yes, it's a good observation. And it's one of the things that has been a plague of this company over the last number of years as the company has been so disaggregated and so diffused that it really hasn't leveraged scale, but we have the opportunity to do that. So when you look at the new strategy that we've declared, it's an integrated set of where to play and how to win choices. The where-to-play choices are all about focusing our resources and our efforts on the things that have the greatest impact and the greatest return on investment. So for example, we have 80 brands that we sell today. But 25 of those 80 represent 90% of the company's sales and profits. We've made a choice to focus on the 25 brands that disproportionately make up the sales and profits of the company. From a geographic standpoint, we have on-the-ground operations in 50 countries but 10 countries represent 90% of the sales and profits. So we're making a similar choice to focus on the 10 big countries. When you look at the parts of the market that we compete in. We compete with our product portfolio and opening price point products, medium price point products and high price point products. 70% of our business is in MPP and HPP. We believe that focusing on that is disproportionately will yield a greater return on investment as opposed to OPP, which has historically been a focus of the company. And so the where to play choices are all about distorting investments to drive scale. The how to win choices are all about taking operational discipline and singular process and technology across the front end of the organization, similar to what we've done on the back end. So that we can become a scaled provider in general merchandise. For most of the retailers that we do business with, we are the largest supplier in general merchandise. And they're looking for us to lead the way. We just haven't been doing it as well as we can...

And now you're setting yourself up to be able to have the company behave that way. But something that I guess I've gotten from investors over now many years covering Newell.

With the changes that we're putting in place to grow faster than that because we should be able to disproportionately grow market share and have the opportunity to drive category growth disproportionately and drive trade up in the category. And so we should be leading that. We have examples of where we're doing that. If you look at the Sharpie business, we're gaining share on Sharpie. We introduced gel pens on Sharpie a few years ago, many of you heard me talk about Gel pens if you've been following the story. Category growth and drive disproportionate growth renewal. I will say it's not durable and discretionary. And so we are in a tough macro environment right now because we had a COVID surge and now we're having some normalization in our categories, but we are very confident that we're taking the right actions to return the company to growth over time.

Okay. Great. So just taking longer purchase cycle in a lot of the brands and categories. So are there certain segments that kind of normalize more quickly than others because it's such a different degree of magnitude of length of time and purchase cycle in that way.

Sure. We have a -- if you look at our product portfolio and the businesses we compete in, we have products that span from very short purchase cycles like writing to products that have longer purchase cycles like small kitchen appliances, which tend to have purchase cycles that might -- those businesses, which are really the home and the outdoor and rec businesses, we're now seeing those categories normalize to more normal levels. But on the converse side, on writing, we're continuing to see strong growth on that business because that has shorter purchase cycle. So we monitor consumer dynamics very closely. I think our visibility is pretty good. sort of 3 to 6 months out. I wish that our visibility was better longer than that. I will say that the combination of the pandemic, this COVID cycle, the inflation environment that we're in has made this one of the more challenging times to really forecast go-forward demand. And so we don't believe that we're going to get it right. What we're doing is more of a scenario planning model to say we want to be prepared to operate well, drive improvement in our capability in a variety of different scenarios so that over the long term, we're making progress, and we're getting back to sustainable core sales growth as the market normalizes.

But that when you lowered your sales guidance in July, and that came with a substantial hit to operating margins and fixed cost deleveraging. So just building on what you just said, like our impression was that you'd rather be kind of lower on inventory to protect cash in the near term would be ahead of inventory should demand rebound or play out differently? I mean, is that kind of the right way to think about?

Yes. When we started this year, we said that we really had five priorities for this year. The first one was to drive cash flow improvement and return our inventory to normal levels. We've made very good progress on that. So our operating cash flow for the first 6 months of this year is up $700 million versus a year ago. We've taken our inventory down by $700 million or more versus the same time a year ago. So our inventory is now getting back to normal levels, and we are making very strong progress at returning to strong operating cash flow, strong free cash flow, which is going to allow us to delever this year. The second priority we set this year was driving structural improvement in gross margin through fuel productivity savings, automation, the Ovid implementation. We're on track to have a record high productivity year this year in terms of cost takeout as a result of those programs. The third priority we said was overhead cost takeout as part of the Phoenix initiative, and we are on track to deliver that, which we've targeted $220 million to $250 million of cost savings once as the program is fully implemented, which we are very close to finalizing. The fourth priority was to continue simplification and SKUs count reduction. We are very much on track to end this year with SKUs below 25,000. So continuing the reduction effort there, which we believe will yield long-term benefit in terms of our operating ability, and then the final priority for this year was moving into the new operating model. As part of the new strategy, we've changed the operating model of the company to go from what was seven business units to three operating segments. We've also centralized supply chain and manufacturing, where we believe we've got a big opportunity to drive scale and efficiency in the supply chain. And the third key plank of the operating model change was to change the go-to-market organization and the geographies to go with a One Newell sales approach to the market as opposed to having each individual business go to retailers separately.

Okay. This -- speaking of inventory and the kind of go-to-market, last year, when we were here, a key theme was retail inventory de-stocking, and it means at least that, that passed [indiscernible] for everybody. But you did discuss this quarter, this change in retailer shipping terms. So, could you elaborate a little bit more on that? What is the change in that like let us start there?

So one of the things that we changed our guidance for when we updated our guidance in July was some of our largest retailers had been ordering our products under a model called direct import. And the way direct import operates is for goods that we particularly source from Asia, they take possession of the goods in Asia and they then import the goods and move them into the U.S. into their DCs and so forth. That contrasts with another way of delivery, which we call domestic fulfillment, where we import the goods we take them into our DCs and we then ship them to their warehouse from our warehouse in the U.S. If you look at our business, because we've now implemented Ovid, a meaningful improvement, which has resulted in a meaningful improvement in our delivery times. Our customer fill rates are up dramatically. Retailers have come to us and say, what they were previously taking via direct import, they now want to take via domestic fulfillment. We view this as a very positive development. Because it enables us to leverage scale in our distribution network that we've set up, ship more full truckloads improve the delivery time to retailers, allow inventory, more inventory to come out of retailers, which improves their return on inventory. However, in the short term, what it results in is a onetime inventory de-stocking because of the move because typically, there's about 6 weeks of inventory between the port in Asia and the distribution center. And so that 6 weeks, which would have been an inventory that was owned by the retailer is now inventory that's owned by us. And so again, we view it as a good long-term thing I might add that we expect to end this year with our direct import business being reduced by over 50% from where it was last year. So this is a pretty meaningful reduction in direct import, and I think it's a good sign of confidence in what we're doing with our domestic fulfillment model as part of the Ovid implementation.

Is there a scope for that to be reduced further? Should -- you think are doing well.

I think we were over 10% of our U.S. business was direct import, and we're now going to be under 5%. So could it be a little bit more? Yes. But I think it's there's a limit to how far it can go.

Okay. So the piece where it will always make sense to. Okay. Let me step back and look a little bit longer term. So in June, when you discussed the new strategy, you spoke to a number of top line opportunities, new product development, pricing, or [indiscernible] expansion. You said that some of these could yield 3 to 6 points of incremental top line growth. So just to be clear, there is some confusion maybe on the way that it was discussed. Once changes capabilities are built up and is in place, Does that mean your evergreen target goes to high single digit? Like how should we think about that comment on the 3 to 6.

Let me help with that a little bit. So there were 3 things that we were really excited about when we first presented the new modified strategy that Chris talked about. One was getting after new product innovation in a more systemic way. We're going to be focusing on our top 25 brands in our top 10 countries, and as part of that, we've got fewer bigger product innovations that are based on our understanding of consumer research. That was one of the capabilities where we were not sufficient, shall we say, and that we know we need to beef up. So once we have consumer-led innovation, we can then put a tiering system in place so that we have Tier 1, Tier 2, Tier 3 initiatives, we can distort resources appropriately to the biggest ideas that we have that we think will really drive our sales and category growth for our retail partners. We believe if we do that correctly, we can add one to two points of revenue growth from that intervention. In part, it's also driven by the fact that we're going to be focusing more on MPP and HPP so that when we do launch product initiatives, they are gross margin accretive and they grow category sales. That's the first piece. The second thing we're really excited about is we call pricing and revenue growth management. When we had over 100,000 SKUs, frankly, it was really hard for us to do the diagnostic work to really understand the price architecture of all the product sets that we have in the marketplace. Now that we've gotten it down to a more reasonable level, we can actually do the diagnostics, and we found a whole bunch of places where our price curves were just illogical, there were just kinks in the pricing architecture, and we're addressing those. In addition, we have a tremendous opportunity to leave over $1 billion in trade funds. But we don't have a centralized trade fund management system more did we have a pay-for-performance approach with our trade accounts. So effectively, it was $1 billion that we were just giving away without any performance criteria associated with it. Correcting the revenue growth management and the price architecture, we think, is also worth 1 point or 2 of revenue growth per annum. The third area is distribution growth as we really focus on our leading brands, which I should say, 2/3 of those in their home markets are actually the leading brand. We believe that we can drive distribution gains with our existing customers, also take our product set into customers today where we're underdeveloped. And then we also have the opportunity to also take certain product groups and categories into other geographic marketplaces. That, we think, is worth 1 to 2 points of revenue growth as well. So you put that all together, and it's 3 to 6 points. Now, we're not going to grow at 3 to 6 points each and every year, but we have the potential to do that in a normalized operating environment. As far as our Evergreen targets, they remain unchanged. It's still low single-digit growth, core sales growth on the top line. It's basically extracting roughly 50 basis points of operating expansion every year and in free cash flow productivity at 90% or better.

Because -- understanding it's not the evergreen, right? Just thinking about Newell having the potential of the capacity to grow mid-single digits is like a -- that's a big mindset shift?

It is.

It is a big mindset, Jeff. Look, we've got to, as I started this, we are in a turnaround situation. We recognize it. I think the thing that we're excited about is that we've gotten this capability assessment. We know what needs to happen to fix the company on the front end, and we're now attacking it with vigor. We put capability improvement projects in each of the areas that we've talked about from a how-to-win standpoint, we have owners assigned. We have clear action plans and clear KPIs that we're running against. It's not going to happen overnight. This is not going to be a next quarter or the following quarter story. But over the next 2 to 3 years, I'm very confident that we're going to return to top line growth. And as we do that, we're going to be able to leverage the scale that we've put in place on the supply chain and the back office. And I think we've got an opportunity to really leverage our retail partner relationships even more significantly. And so the thing that gets Mark and I excited is we need to show, the proof is going to be in showing that we can actually deliver on this. But if we can, I believe there's a real opportunity for this company to be reiterated in investors' minds.

What about change management as you realize thinking like this is just a lot right? And so I guess, how do you handle that from an HR standpoint. And then you talk about capabilities? And then is there an up-skilling of the organization that needs to happen?

Yes. So when we look at the capability improvement actions, there were eight projects that were sort of currently going that we're making good progress, which were largely supply chain simplification. There were 10 new projects that we've taken on. So we're now managing a slate of 18 capability improvement projects, which is a lot. And we recognized that. We went through a long discussion actually as a leadership team of can we handle all 18? Or should we try to prioritize five or 10 or something like that. And what we came back with was no, we need to do all 18, and we're an organization of 25,000, 20,000 to 30,000 people and we've built a strong leadership team at the top. We've supplemented that. We are built, bringing in new people from the outside. So we've added Mark, who's joined us 9 months ago or so as the CFO. We've added a effectively a Chief Marketing Officer to lead the brand management implementation. We've hired a new Head of Consumer Insights from the outside, who is a 20-year veteran from Coca-Cola to lead up the intervention there. We're bringing in new leadership across several of our businesses. And several of our geographies. We brought in a new head of Europe. We've appointed a new head of Latin America. And so we are building out the capability. We're signing brand managers across the top 25 brands. And, as we're doing that, we've put in place what we're calling exceptional performance standards, which is a very different expectation for the brand manager going forward versus what the historical expectation was for that role. And so we're not going to get it all right. What I've been telling the organization is, I think about this in terms of batting average. If we can do 70% or 80% success rate on these, as long as we stub our toe and we find out early, we can course correct and we're going to be better off trying to go aggressively with speed across all of these than trying to stagger it over too long a period of time.

Okay. Let me go back to the sort of -- I don't know algorithm for the conversation in June, right? So the incremental top line opportunity. We also discussed at the time, 100 basis points of annual gross margin expansion annually. Can you talk a more little bit what drives that? And how it ties to the benchmark for the 37% to 38% gross margin level?

Absolutely, so this is another area that we're really excited about. As Chris [indiscernible] made earlier. Harnessing the power of scale at Newell, believe it or not, is a relatively new construct and it presents a tremendous opportunity. So we look at it in a number of buckets. The first one is procurement. We believe we can save 2% to 3% of COGS each and every year on a going-forward basis by harnessing the purchasing pools that we have across the aggregate business. We buy about $4 billion worth of materials and source finished goods -- and I can tell you that as we stand here today, we have about 25,000 vendors, which is far too many. We're going to touch that down to probably something closer to 18,000, so will be a best-in-class benchmark, we're also going to make sure that we have multiple vendors qualified for any given purchase pool that's a real size and scope. For example, today, that $4 billion purchase pool, there's 60% of the instances across that pool, where we only have one qualified vendor. So if you think about us only having one qualified vendor and that qualified vendor is aware of that, in effect, they really have the negotiating power versus us. And so we're going to put that on its head and turn that around by consolidating all the procurement functions under our procurement leader, which wasn't the way the company was run in the past. Before when we had separate supply chains, they weren't being managed as a collective aggregated pool. So that's a huge opportunity. The second one, we're really excited. They were all managed integrated for supply chain purposes to a single business unit. So 90% of those 46 plants only produce one category of product, which is clearly suboptimal as well. That's also led to a great deal of inefficiency. Our capacity utilization is roughly 40% across the network, if you can believe that. And we don't have nearly enough automation and digitization across our factory network. So we have tremendous takeout opportunities as it relates to that area as well. Cost distribution and transportation, we see similar things. We did the Ovid program, which was a tremendous step forward as far as leveraging scale with vis-a-vis the retailer and having one invoice to that retailer and approaching a scale. But now we have an opportunity across North America, as an example, probably go from 30 DCs down to 20, we like 19 million square feet of space. We probably only need 15 million. And as we do that, we'll become even more responsive. Through the first half of the year, our fill rates in North America were 94%, which was an all-time best-in-class number that we posted was versus, I think, 82% in the base period. So we also have a whole bunch of opportunities on the distribution and transportation side, which we think it will worth up to 0.5 point of COGS each year as well. And then there's some overhead opportunities. We take that all together, and we think we can get up to 100 gross margin basis points out each and every year going forward, which will help us drive our overall algorithm to monetize the business.

And with that as the starting point, what do you see as the right spot for operating margins? As you look into cost savings, but there's also the need to set up advertising spending, does R&D need to go up?

I think our R&D is about right. It's about 1.5% of sales. I don't think it's been focused and channeled to the biggest consumer-led opportunities, and that's one of the pivots that we're making under the strategy that Chris has been championing, so I think that piece is relatively okay. We do have an opportunity with A&P spending. As a company, we only spent about 4% on A&P, and frankly, that's a bit too low. Some brands are closer to 8% or 9%, some like the commercial product group, maybe as low as 1% or 2%. So it is a little bit dependent upon that particular product set. But overall, we need to increase that by several hundred basis points so that we can really drive consumer innovation and bring meaningful marketing weights to those innovations to drive consumer offtake and purchase. As we do that, we're going to be balancing these different competing forces. We think gross margin for us, which is around roughly 30% can be in the high 30s, frankly, based on the work that we've done and the assessment that we've completed. As we do that, we're going to put a couple of hundred basis points back into A&P over time, but we're also going to drive operating margin up considerably from where it sits today. We see no reason why that can't be in the mid- to high teens when we complete the program over the next several years.

Let's talk about capital allocation. So in May, you announced a pretty substantial cut to dividend for a 70% cut though not much of a surprise, I think, to investors by that point, we have been close to the story. So can you just discuss the decision to cut the dividend? And also then where your capital allocation priority stands today?

Yes. I think it was driven in part by the fact that we see such a huge opportunity set in front of us. As we think about the supply chain and the work that we can do there is going to require some additional CapEx. But we have really high internal thresholds established for these project, funding rates. We're targeting 30% rate of returns for these projects, and we have a plethora of items that are presenting themselves to us, whether it's the DC consolidation effort, whether it's Project Rome, which is one of the ones that we're attacking right now, which is the four-wall cost across our plant infrastructure, whether it's the automation programs that we have in place, whether it's the opportunity to put multi-node factories together, whether it's the opportunity to put single-sourced centers of excellence and for blow molding and other types of operations that all the businesses will benefit from. So we have a tremendous set of opportunities that are sitting in front of us. And so that partly informed our decision that we want to have more cash available to fund those programs. In addition, we're obviously going to work towards investment grade. We believe we should be levered about 2.5x ultimately, and we know that will take a number of years to get to, but that's what we're committed to doing. And then we want to pay a fair and reasonable dividend. And right now, we're targeting to be in the 30% to 35% range for dividend payout ratio. And obviously, as earnings move will probably tackle along with that going forward as a plan.

The only other thing I would add to that is, that was my first day on the job as the CEO was the day we cut the dividend, which is not how you want to start your first day on the job.

It's better than ending that way.

And I think it's a -- and the reason why I say that is we are very focused on driving the right thing for the long-term health of this business and getting this company back to being a strong deliverer of shareholder value. And we felt as we look through all of the stuff that Mark talked through that the leverage ratio that we wanted to get to was lower. What -- We didn't want to starve ourselves for investment in high-return initiatives in the company. And the payout ratio in that 30% to 35% range seemed much more appropriate for the long-term health of this business.

Okay. Back at CAGNY in February, Mark, you were pretty much brand new at that point in your seat. As a company. You noted the potential for tuck-in acquisitions and also possibly some small divestitures. But then in July, when you talked about that bottom 10% of the 55 brands, you're de-emphasizing, it sounds more like kind of run them for cash, maybe some are discontinued, but maybe I'm not sure on the divestiture piece. So I was just curious if there's an update, let's call it, since February and how you're thinking about M&A and the role in the strategy?

Yes. I think there really isn't an update on M&A. We do not see large-scale acquisition or large-scale divestitures as an opportunity for us at the current time. We think we've got plenty of organic opportunity to drive shareholder value. On those bottom 55 brands, we sort of put them into three buckets. About 10% of the company's sales and profits, as I mentioned. The first bucket are brands that we believe we can continue to run, but we don't need a big focus on new innovation. And so think of those as we'll continue those to manufacture, supply, distribute, sell [indiscernible] compared to the large 25 brands, which are the priority focus. There's a second set of those brands that we believe are very small making very little money that we will look to just exit effectively. And those will largely just be discontinued and replaced by brands that we have that we think can utilize the shelf space better, and so it's not that we're exiting the shelf space, we're trying to replace them with a brand that is more powerful than the small brands that are sort of ancillary. And then there's a third bucket that we're looking at potentially small-scale divestiture and/or license -- out license to another player where we would own the brand, we would license and somebody else would operate. And I think we're already making progress on that. I think we expect to end this year, when we announced the strategy in June, we had 80 brands. By the time we get to the end of this year, my guess is we're going to be closer to 60 brands in the portfolio. So we are moving with speed on this.

Okay. And they're small enough that we don't even realize it's happening?

Correct.

Okay. I think we're going to wrap there. So thank you so much for being here. It's great to have you both at the conference. And we look forward to seeing you some more.

Thank you.