Stanley Black & Decker, Inc. (SWK) Earnings Call Transcript & Summary

On behalf of Raymond James, we'd like to welcome you to the Stanley Black & Decker presentation. With us today from the company is Don Allan, President and CEO; as well as Dennis Lange, Vice President of Investor Relations; and Christina Francis, Director of Investor Relations. Don, I think you mentioned in your prepared remarks about 20, 25 minutes or so, so that should leave enough time for Q&A from the room. And with that, Don, welcome. Welcome back.

Thank you, Sam. Good morning, everybody. Since I'd spend probably roughly 20 minutes going through some prepared remarks, and then we'll open it up for -- about 10 minutes of Q&A. And so we'll start with little bit of the history and structuring of the portfolio of Stanley Black & Decker. And I think for those of you, you've been watching our story for the last 6 to 9 months, almost a year, we've been very focused on streamlining the company and targeting some of the great franchises that we have within Stanley Black & Decker. And we're a company that has revenue of about $17 billion annually. Of that, the vast majority of it is our Tools & Outdoor business, which you can see is close to $14.5 billion of annual revenue. And then our Industrial segment was just a little bit over $2 billion of annual revenue to make up the difference. We really believe that by selling our Security business, selling our Oil & Gas business, which were completed in 2022, primarily in the third quarter of that year. We've created a company that we can streamline the efficiency and the effectiveness of what we do. And so ultimately, we've been asked the question, does that mean we sell our Industrial business someday? Time will tell. For now, it doesn't make sense to do that. But ultimately, we're going to continue to focus on streamlining the company and focusing our energy on the things that we're good at. And we know we're very good at running our Tools & Outdoor business. It's the #1 Tools & Outdoor business globally. We have fantastic brands such as DEWALT, STANLEY, Black & Decker, CRAFTSMAN, and you see many more listed there within that circle.  The dividend continues to be a very strong story for us. And although we've gone through some challenging times from a cash flow point of view over the last 12 to 18 months, we still believe that's an incredibly important part of the story. It's something we want to continue to maintain and grow as we get the company's cash flow back to where it should be and back where it will be going forward on an annualized basis. Our Industrial business is made up of 2 -- primarily 2 large pieces. One is an outstanding Engineered Fasteners business that applies fasteners to a lot of different products. It can be fasteners that are used in automotive production, plane production and then a variety of other types of products than just general manufacturing space. It's a business that tends to have solid market growth above GDP, GDP plus. We believe it can be 2x to 3x GDP over the long term. And the same is true with our infrastructure business, which is tied obviously to a variety of different infrastructure industries such as demolition, construction of buildings, construction of roads, airports, et cetera, and a lot of the large pieces of equipment that are utilized for that. And it is heavily tied to the North American market versus the Engineered Fastener business, which is more tied to a global market and has a very good global presence when you look at the dissection of a geographic point of view. Pivoting back to Tools and outdoor, you can see that a large part of the business is power tools. With DEWALT being this power brand, and that's very good global presence when you look at the business. Sure. and a smattering of some of the Stanley brands that are used in certain markets, especially the European markets. Hand tools, storage and accessories, just a little bit more than 1/4 of the business, which is where a lot of the complexity of this business is today. We have a lot of SKUs, a lot of different brands. And it's an area that we've been very focused on in our simplification efforts, and I'll talk about that a little bit later in some of the comments in later slides. And then, of course, the area that we've been really building out and expanding in the last year or so is our Outdoor Power Equipment business, which is now about 1/4 of the business, and we'll continue to grow that. On an annualized basis, it's close to $4 billion in revenue. And we think there's a wonderful opportunity to continue to grow that space as that industry and many of the products within it begins to electrify in a more prevalent way across those products. The core capabilities of our company, as you can see on this page is that we have amazing brands, iconic brands, powerful innovation, have a long track record of innovation in all these different categories. We're very broad. Our coverage is geographically broad as well as channel coverage is like very significant. We have very few exclusive arrangements in geographies across the globe. And then we leverage our Stanley Black & Decker operating model, which is really looking at how we become much more effective in our supply chain, much more effective in our functions that serve these businesses that allow them to grow at significant levels and improve the profitability and the cash flow of the company over time. So when I think about where we go from here. So when I became the CEO back in July of last year, not only did we want to become a lean, streamlined company, but we have to become a company that accelerates the organic growth performance. And we've had a good organic growth performance over the last decade, but I think it can be better. When you look at all the brands and the innovation machine that we have and the amazing talent of people within this company, we should be able to grow 2x to 3x the market growth. And we define that as GDP over the long term. There's a lot of different things that we're tied to in the construction industry, new home construction, repair and renovation, et cetera, that can have an impact on our market. But when you look at the business over a 3- to 5-, 10-year time horizon, it does correlate very well to GDP overall. And so looking at that, we believe we can grow 2x to 3x the market, and we have seen that type of performance sporadically over the last decade or so But we want to make that consistent. We also think that our gross margins obviously are not where they want to be. So our gross margins are sub-20% right now. This year, we'll make significant progress and get them in the mid-20s to high 20s by the time we exit the year very close to 30% by the end of the year and back to 35% roughly hopefully in 2024 and 2025. The pathway there, I think, is pretty straightforward. It's a matter of time in some of the transformational work we need to do in our supply chain. Free cash flow has been a great story for Stanley Black & Decker for decades. It will continue to be a great story going forward with significant free cash flow conversion of 100% or better. And then our innovation machine has to get stronger. It's been strong but we need to continue to invest in that machine going forward to ensure that we can achieve the type of growth that we're talking about, but also feed the electrification strategy, gain our market share accordingly and making sure that we have a supply chain that can support that. We've optimized our corporate structure. We are focused on the operating model, especially within supply chain and functional excellence to ensure that we can continue to transform to achieve these types of shareholder goals and objectives, which ultimately will be significant returns for the shareholder. So what have we done so far? So starting in the early summer of last year, the first step was a significant transformation of our corporate costs and dramatically reducing them. We found that we were maybe spreading our costs a little too much in too many different areas, and we want it to be a very pinpoint focused simplification effort of where we're going to spend our money and where we're not going to spend their money. And in some cases where we might take those dollars and put them in our businesses to accelerate some of the things I mentioned, such as innovation. We also went in an effort to reduce our indirect spend. All the non-people costs across the company in a significant way that began in the summer of last year as well. And we went to a spans and layers exercise organizationally, looking at our organization structure. We have developed too many layers and our span of control is too small. And so we took a significant step forward in that in the fall of last year. And we achieved about $200 million of savings in 2022. On an annualized basis, that will be about $500 million of savings in 2023 cumulatively. And so the next big effort, though, is supply chain. $1.5 billion of annualized savings we believe we can achieve. We started a lot of this in 2022, got some small wins, not big dollars in 2022. But you see the 4 areas that we're focused on and why they're important. First one is strategic sourcing and operational excellence, which is really kind of being much more efficient and effective in your day-to-day manufacturing operations in your plants. Facility consolidation. I kind of articulated this in the past 6 months as this is where really the final step of some of the integrations of the acquisitions that we've done. When we integrated a lot of the acquisitions in the past 12 to 15 years, we didn't do some of the more difficult challenging decisions at the tail of the integration, which is really eliminating plants consolidating DCs being much more streamlined in this particular area. That's what this is. We're taking that step now. And then the last one is product platforming, and I'll talk about that in a little bit in a little more detail. This will result in $2 billion of annualized savings by 2025. As I said, we achieved a significant amount of that in 2022. We'll get another significant chunk of that here in 2023. And we hope by the end of the year, we've achieved about $1 billion of that $2 billion in that time horizon. So let's talk about this in a little more detail. We -- I kind of touched on a lot of the organizational and SG&A update items on the left. But I think one thing that I want to point out in the spans and layers is that sometimes large companies, when they do acquisitions and they build a lot of portfolio of businesses, you develop that type of structure and you need to go back and look at it and say, okay, why do I have 13 layers from the CEO to point of impact, which might be the customer or your vendor or other partners that you have outside the company. And why is my span of control 3 or 4 versus 6 or 7? And these are all average numbers. Parts of the organization were better than that. Parts of it were worse. And so we went through an exercise to significantly change that with ultimately the goal of getting to a layer of closer to 7, 8 and Hispanic control of closer to 6. Now we didn't make it all the way there in this first go around. This will be an area we continue to really have as part of our kind of ongoing efficiency of operations and SG&A, but we achieved what we wanted to achieve in step 1 in the savings associated with that. But there will be more ongoing work in this area to make us even more efficient over the next 2 to 3 years. The supply chain, as I touched on, is a very complex set of initiatives. But in some ways, they're actually simple. Because when you look at the complexity that has been created in parts of our company, there's a lot of opportunity ahead of us. I mentioned some of them in hand tools in particular. We have a lot of different SKUs and hand tools, accessories and storage. We have a lot of brands, the Stanley brand, the Craftsman brand, Berwind, Lennox, Facom, Mac, Proto, they all have niches and they all have something that's unique to them, but we have to make sure we use them and don't try to extend their ability to go to different channels and different areas or different products. And I do believe when you look back at the last 5 to 10 years, we maybe went a little too far with that. So we're going back now and we're looking at this and saying, okay, we think we should be able to eliminate 50,000 SKUs initially. So we have done that in step 1, 50,000 SKUs that we will no longer manufacture going forward. Now we need to go through the process of the inventory we have with those SKUs, the revenue that's associated with it, what's the replacement SKU for that within our portfolio. As an example, a tape measure that has the Irwin brand on it, it's a fantastic tape measure, but it also has very similar other products that are a tape measure that have the Craftsman brand and the Stanley brand lane. Why do we need 3 brands? Why can't we just have 1 or 2 brands? Maybe just Craftsman and Stanley and that's it? And that's what we sell to our customers. So that's the type of simplification that we're doing in a very broad-based way that actually will reduce a lot of complexity in our supply chain for manufacturing, distribution and our supplier partnerships. Strategic sourcing is another area that I look at as an opportunity to be better. I mean we've been very good over the years of really driving efficiency with our suppliers. But there's an aspect of taking this to another level of really building stronger relationships and partnerships with certain key areas such as battery cell providers, semiconductor providers, et cetera, where you do buy a lot of different things over the year that ultimately you would be much more efficient if you had 2 or 3 vendors versus 15. So that's 1 example of what we're trying to drive there. And we've actually kicked this off in the fourth quarter of '22, and it's fully underway here in the first quarter of '23. Where over $2 billion of spend has been and it's in the process of achieving the savings. And we're seeing early returns that we're very pleased with that are actually in line with our expectations and a few that are actually even better than our expectation. So these first 2 ones that we're aggressively going after and I also mentioned product platforming, which I'll touch in a minute. But we're going hard at those here in 2023. Product platforming is really looking at how do we take a family of products like a set of power tool drills, impact drills that have the DEWALT brand, Craftsman brand, maybe the Stanley FatMax brand and even the Black & Decker brand on that. And how do you make certain components of those power tools standardized, maybe 50%, 60%? They're all standard depending no matter what the brand is, and what is being utilized for. And then the other 50% to 40% has some unique functionality that's attractive to the user in the market because the DEWALT professional power tool has to have more power and more functionality than a Black and Decker power tool or a craftsman power tool. So that's where you can develop that uniqueness that really is appealing to the end user and the customers. Those 2 -- those first 2 things are well underway, as I mentioned, here in 2023 and are driving a lot of the savings that we expect to achieve during the year. The third one, facility consolidation will take a little bit longer. It's probably going to be savings that we achieved more in '24 and '25. And it is what I described earlier. It's really completing that tale of the integration of a lot of the acquisitions we're doing from a plant manufacturing point of view. And then in the distribution network, it's actually putting a distribution network that is -- could more effectively serve our customer base today in markets, in particular, in North America and Europe. In the North American market, we have the vast majority of our customers when they place an order, they want to be able to receive what they have ordered in 24 hours. Our network is not set up to serve that perfectly. Now we serve it in the high 90 percentiles, mid- to high 90s, but that's not good enough. They want 98%, 99% fill rates. So that's something we have to make sure we achieve through that network optimization exercise. And then the last one is operational operations excellence, which is what I said earlier, which is just driving operates in the plant. Now that was in the DNA of Stanley before the pandemic, but during the pandemic, we got away from a lot of those activities. For a good reason, volume was very high. We had massive volume swings down and then up and then down again. But we have to get back to doing these fundamental things in the plant, each day, each week and every month. And so we're kind of reinstituting all those skills across our planned system, and that actually starts to ramp up here in '23 and will be a benefit in some of the savings in '23 as well. We feel like we got a really solid playbook here. It is complex. There's a lot of different initiatives. There's a lot of different teams that are focused on this. And we're approaching it differently in the sense of, we will have dedicated people working on this. This will not just be part of someone's job. You have to have significant number of resources and groups of teams that will be dedicated to achieving these outcomes. The plan is probably the most detailed plan that I've ever seen for a transformation. It's something that we've brought in some experts that have done this before in the operations world in other companies. The head of operations that we have, Temora Bawita, has done this in 2 other companies. He's brought in a team of people that have done it elsewhere, as well as some of them that did with them in the previous companies. And I feel very good about the plan, the framework and all the initiatives we need to do. It will be a lot of work, but it's something I think we can achieve and achieve it in the time frame we talked about. So to summarize, at the foundation of this company, we've always had great people, very talented people. We continue to have iconic, amazing brands, and we've built those brands up over the last decade to include many more. And then the last thing I'd say is we've always had a powerful innovation machine. But we're going to make it stronger. We're going to make it better going forward. So it continues to achieve the market share gains that we have achieved over the last 20 years or more because we want to make sure that we can achieve that outcome of 2x to 3x market growth while we improve our profitability through the transformation plans I just mentioned. Those are my prepared remarks, so I'll hand it back to Sam. Sam?

That was about 20 minutes on the dot, very efficient. Questions from the room here, in the back, yes?

-- discretion as a result of maybe a lot for workers today on strategy et cetera.

Yes. The question was the SKU rationalization effort could it result in shelf loss of shelf space, which is a very good question. And because when you start to think about it, we have different customers that have different brands that we're utilizing very effectively, which is I made this comment very briefly in my presentation. But even though we have discontinued 50,000 SKUs from a manufacturing point of view, we haven't discontinued them from selling them and replacing them going forward because there's a very distinct plan right now that says, okay, I'm selling this particular brand of this product at this customer, and I need to change that with this brand, that's a similar product. And that's going to take about 18 months to do. And so the good news is we have a fair amount of inventory in the existing product that we have to kind of bleed through during this transition. So it will be a very orderly reasonable transition to do this. The bad news is it's going to take 18 months because nobody likes does it have to take that long. But I think the way that it's laid out, I feel good that we will do it in a very thoughtful, strategic way that allows us to feel comfortable that we're not losing shelf space in the process because the Hand Tool business, in particular, can be very finishing. You can lose shelf space very quickly, and they have to make sure that you do it this type of initiative in a very thoughtful way.

Other questions here in the room. Talk about your POS and your own sales trends, demand that you're seeing thus far this year around your businesses?

Yes, sure. Thanks, Sam. So we -- as you all know, we provided guidance for this year back in January. And we kind of laid out 3 different scenarios. We had a midpoint and then 2 outer bands. And in our base case, we're basically assuming that the consumer part of our business, which is about 30% of the Tools and Outdoor business. We'll continue kind of where it's been. It went through a big dip down in the second quarter of last year. It was a little bit bumpy for a month or 2, and then it's kind of stabilized since then, and we expect that to be relatively stable or consistent to current levels for the rest of this year. It's the Pro business that we're actually factoring in our base case to get a little bit worse. And so when you think about housing starts probably being down 15% to 20% this year based on current projections, repair and remodel activity being down low to mid-single digits, depending on what estimate you use. That really says that probably our Pro business is going to be down a little bit year-over-year as a result of those markets. And so we think the Tools business will be down low maybe mid-single digits in that middle case. The Industrial business will be kind of up modestly year-over-year organically. The outer band, which is a more severe recession or maybe not severe, but a little bit worse recession, but obviously factor in a more deeper recession in the Pro and maybe a further dip on the consumer side. In industrial, not getting the type of growth I just described. On the outer band to the right of the positive, which is a more accelerated second half, you don't see the type of dip I'm talking about other those scenarios and things are actually better in the back half of the year. When you look at Stanley, historically during the typical recession other than the Great Recession, the Tools business tended to be down 3% to 5%. And that base case is kind of what we're predicting for that business around the 3% number. And the trends we've seen here in the first quarter are relatively consistent with the expectations that we laid out in January. The OS has been consistent with the trends we were seeing back in January, end of last year. And we haven't seen any shifts in that consumer pro dynamic so far in POS. And our customers probably all saw Lowe's and Home Depot's results in the last week or so. They're saying very similar things to what I just said. So right now, it seems to be in line with what our expectations are.

There's a question back here, yes?

What gain share back for the lot faster or...

Yes. So the question is what steps are we taking to gain share back from Milwaukee? And so if you go back and look at the last couple of years, there's been a shift in the power tool side of the business where Milwaukee versus DEWALT, Milwaukee has gained a lot of share. We've gained some share in certain areas, and we've lost share in other areas. And we were really impacted by supply chain constraints. We had difficulty with semiconductors for almost 18 months, 15 months to 18 months. That is behind us. We met all the expectations our customers had in the back half of 2022 for our DEWALT business. We're looking at more growth opportunities for DEWALT here in 2023. We're back in the promotional game because we were not in the promotional game in 2022 because of what I just said. And as a result, that resulted in a bit of a shift of Milwaukee versus DEWALT. But that's going to change. We feel very good about the innovation we're bringing into the market and have brought into the market, the promotional activities that we already have on board with our major customers in 2023 as well as geographic opportunities that we see outside of the United States to continue to grow the DEWALT brand.

I'll ask a corollary to that. So you're talking about the importance of innovation. Obviously, it's important to Milwaukee Tektronix as well. Their R&D spend, whether you look at it from an expense standpoint or a capitalized standpoint, has been in excess of what you folks have spent on an R&D standpoint. What's the right number for you, for R&D spending and what circumstances would have to occur for you to get to that point?

There's -- they tend to spend about 3% of their revenue on R&D, and we've spent in the high 1s, close to 2%, depending on the given year. We made a lot of investments in the last 12 months in R&D. And so our R&D investment costs, SG&A, whatever you want to call it, from 22 to 21 went up about 20%. So it's a significant increase year-over-year. We're going to continue to invest in that. I would expect to see another substantial increase in R&D spending in '23 versus '22. Where we end up? I don't think we're going to get to 3%. We could, but I think it's going to be more likely to somewhere 2.3% to 2.5%. We also have to -- in the way that we account under U.S. GAAP, there's a lot of that cost that goes into capital expenditures, too. And so that's a factor that we have to consider when we look at the total number. I mean, the numbers I was quoting was more was going to our P&L and doesn't include the depreciation cost of the capital expenditures. But CapEx will go up in that area in addition to the R&D SG&A expense.

There was a question over here, yes?

Curious as you look at the land.

Yes. So the question was, given the different players, including us in this industry and the high levels of inventory that we have, all of us have, could that result in ad pricing behavior or promotional behavior where people are trying to liquidate things quickly that could actually cause a lot of friction in the system. Yes, I think so far, everyone's been playing very reasonable amongst all of us, and no one is doing anything unusual on the pricing side. I think everybody is doing a little bit of promotional activity to move things. We're doing stuff with our customers that are reasonable. Our competitors are doing the same thing. I believe that's how this year is going to continue to play out. I think you'll see a significant drawdown in inventories across the industry during 2023 with most of us positioning ourselves for hopefully a stronger growth environment in 2024. You can't rule out the possibility that 1 or 2 competitors might do something unusual that could cause a temporary shift in the marketplace. The only thing I'd say is that our customers are also a governor impact in this process where they actually -- they don't want to do crazy things that impact their system and impact their channels and their stores. So they actually end up being a nice counterbalance in this dynamic as well.

I mean finished goods inventory has been crazy for all the industry participants over the past year. What's the right optimal number or days of finished good inventory for you?

Yes. I think Stanley Black & Decker used to kind of go through a cycle throughout the year where by the end of the year, we get down around 100 days, maybe sometimes below 100 days of inventory. During the year, it'd be above that, maybe 120, 130. I actually think, based on the current structure of our supply chain, the right number for us is probably about 140 -- 140 days. When we optimize our structure, the way I was describing of consolidating plants, the distribution network optimization we're going to do 3 years from now or 2.5 years from now. I think we can be much closer to 100, maybe 110 to 120. But I have a feeling as long as we have the types of customers we have in this industry, which I don't see that changing, they're going to demand product in a very quick turn, which is always going to result in you probably needing about 100 days to 120 days of inventory.

And with that, we're going to continue just the breakout session. Thank you.

Thank you.