Simpson Manufacturing Co., Inc. (SSD) Earnings Call Transcript & Summary

Hi, good afternoon everyone. My name is Maggie Miller. I cover building products here at Jefferies. Thank you for coming to our conference this week. We are thrilled to have Simpson Manufacturing here. We have Mike Olosky, the CEO; and Brian Magstadt, CFO. I think Mike is going to give a few introductory remarks, and then we'll get started on Q&A.

Great. Thank you, Maggie. So I've got 4 slides, and let me start very, very high level. So Simpson Strong-Tie is a leading provider of structural solutions to the building and construction industry. We provide these solutions through 5 end-use markets in our overall North American segment. So the first one is residential business. Our residential business generally, we believe we are 50% linked to housing starts, and that really comes through our residential business. The next one is our commercial construction business, then our OEM business. So think manufacturing housing, sheds and similar structures we use wood-to-wood, wood-to-steel connections, wood-to-concrete connections. The national retail, that's the big box retailers. And then our component manufacturers, which you think trust manufactures. So we believe that we've got the broadest and deepest product line, making us really a one-stop shop for structural solutions for the building and construction industry. We have 5 main product lines. So these are engineered, heavily tested fasteners, connectors and anchors and also trust plates. And then the fifth one is our digital solutions. So the digital solutions helps us sell hardware. It helps us be easier to do business with. And we believe in the future, we can monetize those digital solutions more going forward. And the part that I think really makes Simpson unique is our strong business model. So we've got a long-standing relationships with building code officials, building agencies, engineers, architects. We work with them very closely to help them design and build safer, stronger structures. We also provide a broad range of innovative products that helps them specify these products. We also have long-standing relationships with the builders. We have builder programs with roughly 300 builders, representing 50% of the housing starts, and that helps pull through the demand that we create by working with the building code officials and with the engineers and specifiers. And then in the middle, we have our pro dealers, lumberyards, contractor, distributors, where we provide excellent service to them so that they don't have to carry that broad range of products because if they place an order today, we typically ship it out this afternoon, and they receive it the next day. Then you layer over the top of that digital solutions that help our customers, engineer specify and pick the right product for the particular application. And in the trust area, it helps them run their business. So that strong business model, we believe, creates a very sticky relationship with all of our customers and really helps create that competitive advantage at Simpson. And as a result of that, that has helped us drive above-market growth. So if you look at how we've done versus the market the last 8 years. We've averaged roughly 250 basis points above U.S. housing starts, and we use housing starts as our main financial benchmark. In the last 2 years, we've been able to grow 800 basis points above the market. And we've done that by continuing to drive that strong business model, by continuing to gain share. If you look at our business, it's very specialized. So we have lots and lots of small applications that added up over time, have contributed to that 800 basis points of over proportional growth. And last comment, let me just talk about the market. So we're on pace for basically 3 years of declining housing market. So maybe 1.4 million housing units this year. Last time that happened was 2020. In 2020, we had a $1.25 billion business. It was a 20% operating income. And as you can see from the chart, we had a nice little bump over 2019. So if we finish with the same size of a market this year, 1.4 million housing starts. This year, we're going to add about $1 billion on the top line. So it will be over $2.2 billion and we'll add another couple hundred million of operating profit. So in a relatively challenging market, we've implemented pricing that's stuck. We've made a couple of nice acquisitions, and we've also gained share contributing to a significantly different business than we had in 2020, even though housing starts are relatively flat. Maggie, that was my 4 slides.

All right. Great. I'm going to kick off the Q&A, but if anyone from the audience has a question at any point, just raise your hand and someone will come to you with the mic. I guess going off of that last slide, your above-market growth. Can you talk about what specifically is driving that? And are there any particular end markets or products or customers where you feel you're best positioned to continue that above market growth?

So we run the business with playbooks by our 5 market segments that I showed you and also by those 5 product lines. So we've got very specific plans on where to play, how to win. And when you look at our business, again, and I use a baseball analogy here, it's lots of singles and doubles. We don't have a whole lot of customers that have really driven a significant growth in that. It's just been good progress across all 5 of those segments. The component manufacturing, the last couple of years has done quite well. Our commercial OEM business has also done well. But -- and really given the state of housing starts, we're also pleased with how our residential businesses develop. So pretty much across the board growth across all markets and all product lines.

All right. And digging in more to each of your end markets, can you walk us through what you're seeing in the current demand backdrop by end market? And you're obviously exposed to cyclical end markets. Where do you see Simpson's growth profile through the cycle? And how do you -- your diversified end markets kind of play into that?

Yes. So we -- just start with our housing market. Again, our view is based off everything we're hearing from our customers in the markets, we're going to be flat to down low single digits. Again, that will be the third year in a row. We believe with the 2 million units short of housing, eventually, that's going to start to pick up. You probably heard that from a lot of other companies here. So we're assuming that starting in sometime in 2025, housing starts are going to be clicking around 4%, 5%, 6% market growth, and we're going to get there for a couple of years, okay? Assuming no hard landing, everything else kind of stays the same. Interest rates happen as I'm sure you've heard 100 times now. If you look then at the commercial business, our view on the commercial business this year, it's going to be up slightly low single digits. We think that's going to continue to go forward. If you look at our national retail business, so repair, remodel, that's going to be flat to down slightly, market, I'm talking. The market is flat to down slightly, and we're anticipating that to be up a couple of percent next year. And our component manufacturing business really tracks the housing starts. So all in all, we think you add all that up from a market perspective that fits with our business, again, we're thinking low to mid-single digits market growth next year. And how we play the cyclical part of it. Our target is to drive above-market growth. And as long as we are optimistic about the markets in the mid- to long term, we're continuing to invest to make sure that we take great care of our customers and deliver the service that they're used to, and that helps us gain share in the long run.

All right. And you mentioned rate cuts. I have to ask, what are you hearing from customers about the potential impact of rate cuts coming up? And how do you see that flowing through your business?

Yes. So I mean, a lot of different opinions. The 2 versions of it, rate cuts happen, things start to tend to pick up slowly. But we've also heard from a couple of areas. If rate cut happens, things will slow down before they get better because now people will see those rate cuts coming and maybe they'll wait 3, 6 months until they see 2 or 3 of those to really take advantage of it. So we're on both sides of that. And if anybody knows the answer to that, I would like to incorporate that into our budgeting process, Maggie.

Me too. Yes, it's interesting. Have you heard from your customers about a certain threshold of where mortgage rates need to be to really get that demand going? Or is it just too uncertain at this point.

Too uncertain at this point. And what we have heard though, and we've had some builders ask us, hey, are you ready if we bump up our business x amount? We've had some of our pro dealers ask the same. So I think they all feel it's coming and they're concerned that there's going to be a short story again. Our answer is, we have plenty of capacity, and we've got all the investments we've been making over the last couple of years to support them as they grow their business.

Okay. And in terms of your residential business mix between single family and multifamily, how do you think about those 2 pieces? And are you more exposed to one end? Is there a mix benefit or drag from going between single-family and multifamily.

Yes. So as we think about single-family and multifamily. So we're more exposed to single family, largely built with wood versus multifamily about 1/3 of multifamily would be built with wood versus concrete or steel. And the starts from a single-family perspective, really matter where the starts are located. So if they're on the West Coast, with seismic, code requirements or on the Southeast or Eastern Seaboard with hurricane, high wind requirements and along the Gulf as well, high wind requirements put more -- require more Simpson content on a single-family start versus parts of the U.S. where the building code is less stringent, and we see less Simpson content. On a multifamily, it's actually more across the board, more consistent. Due to the density of those structures are more highly engineered. So the Simpson content in the multifamily that we participate in will be fairly consistent for a Simpson dollar content per unit versus again, that -- single family. And on the single family in California with seismic or in Florida with high wind, we could see a 10:1 factor in the dollar amount of Simpson content in those starts relative to, say, the middle of the country. So where starts are, do matter, and we definitely see more benefit on the single-family versus multifamily.

Got it. And sticking on demand for a second, the large retailers have recently been signaling some weakening consumer trends. Curious what you're hearing from your retail partners about trends there?

Yes. So we've got a fairly good-sized team that's calling on the national retail customers. I really like our approach of branding off-shelf merchandising efforts, working on the labeling. But we believe that's helped us grow above what our national retail customers are doing. I don't want to comment too much on their business. But obviously, the lower lumber prices have helped the good growth and the lumber and building materials section, and we are tending to comp well versus the growth rates that our customers are seeing.

Awesome. The last few years, you've reorganized your sales teams to be more market-oriented rather than product oriented. Can you talk about what drove the shift in your strategy there? And any results you're starting to see from those efforts?

Yes. So we had our sales teams previously organized by our connector product line, our fastener product line and our concrete connections product line. And so that met for some of our customers and some of our dealers or channel partners they would see 3 Simpson reps. So they wouldn't have a single point of contact. And since the connector part of the business, product line is the largest part of our business, that meant that in some areas, we didn't really get as much contact as we wanted to. So we moved to having a market-based approach along those 5 market segments that I showed you earlier. So that now means our customers have a one-stop shop to be able to get the product setting for the particular applications. And it took a lot of training for us to make that happen. And the benefit of that is, I think that's part of the reason why we've seen the over-proportional growth versus the market lately is now our connector sales teams are predominantly our residential sales force teams, the lumber yards and the pro dealers, they have great relationships with. They are now selling not just the connector products but all the other parts of the product line. And that has contributed to us getting a better penetration rate with our current customers, and that's helped us accelerate growth overall in the last couple of years.

And how -- what's been the response from the teams at Simpson.

Change is never [indiscernible].

There was definitely a change management process. So our sales teams for the most part have had long, long-standing relationships with our customers, which is great. So then when we had to move things around a little bit, there was a little bit of angst about, hey, I've been calling on that customer for a long time. I got a great relationship with that customer. I don't want to change it, and we also heard that from some of our customers, but we spent a lot of time and effort making sure that our sales teams understood the complete product line. They understood the market they were selling into. And eventually, our customers have seen that, that's a benefit to them to have that single point of contact.

Got you.

We have a question.

Oh, here we go.

Could you talk about the relative outperformance in the component and OEM businesses? What do you think is behind that? Is it what you just talked about? Or is it something different? And then also the digital solutions, just what's the plan there?

Yes. The component manufacturing business, that is basically trust manufacturers. And our competitor in that space ran into a couple of supply chain challenges, and they've got a fairly unique business model where, there you can only buy product through them if they use the software, they expect you to buy the plates from them. And when they ran into some supply chain challenges and they put some customers on allocations, they came to us, and that created a little bit of angst with their customer base. And that opened up some opportunities for us. At the same time, we have significantly developed our software solutions. So we're at a much better point. We've got new people on the team that have helped us really develop enterprise-wide software systems. And that has helped us make progress. And the third part of that is, we know all of those customers anyways. A lot of them are buying our connector, fastener, anchor product lines so they understand the service. And I think all that combined has helped us accelerate the progress in the component manufacturing. On the OEM side, really, we're in a space where there's not somebody that is a parts manufacturer, a component manufacturer, a hardware manufacturer, probably a better way to say it, that's selling into them. It's typically versus distribution partners. So Fastenal, for example. So now we're going to these manufacturers, and we have a dedicated team just focus solely on manufactured housing sheds and other type similar structures made in the factory, and that's helped us accelerate growth in that area. But to be quite honest, we think we got a lot more room to expand growth. So we think we're in the early innings of that ball game, and there's some more opportunities for us.

On digital?

So on the digital side, our view on the digital piece is that these digital solutions make us easier to do business with. It helps our customers select, specify, and engineer in the right solution. We have 18,000 SKUs. So they're trying to work through the complexity of that, and we think the digital tools will help us do that. But right now, it's predominantly focused on making our business model around hardware stickier, but we do believe that there's the opportunity to optimize the software part of it and monetize some of the software that we're selling to some of our customers, and we're putting teams in place to make that happen. We have not released any targets or any specifics on it yet, but we do believe that's an opportunity going forward.

Maybe just a follow-up on your digital initiatives. Kind of what inning would you put yourselves in those initiatives? And where do you think you are versus the industry?

If you look at the residential market, there are not a lot of large players offering digital solutions to that market segment. You have [ BSF ] and Paradigm, [ BSF ] is a very good customer. You've got Hyphen, you've got a couple of other players that are in that space, MiTek and the component manufacturer part of it. But the number of people that have digital solutions for the builders and the number of people at digital solutions for the lumber yards pro dealers are relatively small. So from an industry perspective, I think we're in the early innings. From our perspective, I think we're maybe a touch ahead in a couple of areas, but we have not started to scale that to the level that I think we can do that going forward.

Got you. And then, I guess, kind of tagging off of that, you have been making investments for growth in SG&A. How should we think about those investments going into 2025? And I guess, attached to that, the opportunity for margin expansion as you're continuing to make those investments.

Let me start on that one. So as we think about that ambition to grow above market, which we've talked about. One of our other key financial ambitions is top quartile operating income of our proxy peer group. So we would think that would be about 21% at the bottom end of that top quartile. So as we think about the investments to grow above market, we've got that operating income goal in mind as well. And we want to balance those -- market segments that Mike had talked about, the 5, there's a lot of ideas on how we can gain share in each of those categories and subcategories within those 5. So we end up with more ideas than we've got, say, bandwidth for. So we want to balance the investments we're making with the biggest opportunity, of course, and selectively choose, are we going to go after, which particular category. Of course, SG&A has grown from a dollar perspective at a rate higher than our volume growth. And we know that's not sustainable. So we want to make sure as we are balancing those investments, where do we think those are going to get us over the next say, 3 to 5 years, what are the percentages of those TAMs that are going to be achievable? And how do we feel about our realistic chance of capturing those. So as we continue down those roads of going after those opportunities, some are going to work out better than others, and we want to make sure we can pivot and go after, again, those opportunities that are right in front of us. We do recognize that in order to continue that above-market growth with that operating income target that we've set that we do need to have balance. So in the long run, we do expect, of course, those to leverage. At what point? To be determined, we're not guiding yet to 2025 operating income other than that ambition of that top quartile performance.

All right. Inflation broadly seems to be normalizing somewhat. But curious to hear what you're seeing across your major cost buckets and how that's impacting how you're thinking about pricing going into 2025?

So we feel really good with our position on steel. We carry on our balance sheet a lot of raw material. One of our hallmarks is our customer service that availability of product, Mike had noted earlier. And to be able to do that, we will carry slit steel, raw material or coil steel to the point where we've got multiple quarters worth in order to hit those service levels if demand were to spike for whatever reason. But as we think about steel on a go-forward basis, we're comfortable with where we're at today, where we're positioned from both inventory level and a cost perspective. We don't necessarily see those key raw material markets changing significantly on a go-forward basis. But if we do, that's when we're making our price changes. If we believe our raw material input costs are going to change and going to be sustained at that point going forward, we'll make those price changes. For example, in 2021, steel went from a factor of -- off of a 1x factor to 3 to 4x off of that. And we put through 4 price increases in 2021 that on an annualized basis would have been about $500 million of net pricing. We gave a little bit of that back in the first quarter of '23 when we saw steel moderate a little bit, but that was to the tune of about $50 million. So on a net basis, about $450 million associated with those significant raw material in raw material increases from those early days. So again, we feel pretty comfortable with where we're at today from an inventory position going into 2025.

All right. And if you could walk us through your capital allocation priorities and maybe related to that, how your philosophy on balancing organic and inorganic investments in the business?

Sure. So first priorities are looking for areas where we can continue to invest in the business. We've talked a lot about those already. From an M&A perspective, there's not many companies with the margin profile that we would want in a structural engineered load rated, value-added product line. We're not in the commodity business. So it's going to be a very narrow set of opportunities for us. We do find that there are tuck-in opportunities to help us add to a product line or add to our product offering, whether it be technology or a physical product. So those are the M&A areas that we've looked at. From a capital perspective, we are adding to our Midwest, our Northeast distribution facility in Columbus, Ohio. We're also greenfielding a new production facility in Gallatin, Tennessee to manufacture more fasteners domestically. So those are 2 pretty large capital projects that we have underway today. And then we have a dividend that we've modestly increased annually. We supplement the dividend with share return -- share repurchase to get to a goal or a target of about 35% of our free cash flow returning back to shareholders. And then lastly, we've got -- we took down some debt to finance our ETANCO acquisition in 2022. So we've paid down most of the revolver and the term loan goes current in 2026. So we'll evaluate at that time whether we renew that or pay that off. But our cash flow needs will get us through meeting our internal investment requirements as well as those external capital return or debt repayments.

Okay. Great. That is all the time we have. Thank you so much, and they're here if you have any questions.

Thank you.

Thank you, Maggie.