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

Good morning, everyone. We'll keep things going with Stanley Black & Decker. Very pleased to have Pat Hallinan, CFO; and Dennis Lange, who runs Investor Relations. Thank you so much for joining us. I'm Joe O'Dea. I lead the multi-industry effort at Wells on the research side. To kick things off, Pat, I'll turn it over to you for a little opening comments, and then we'll jump into Q&A.

Yes, we're not putting slides. We're well into our transformation. I'm about a year into being CFO and we're feeling very good about the progress we're making. We're solidly on track in our margin and cash objectives and those remain top priorities and increasingly getting focused on growth and seeing some nice things in our DEWALT brand, but anxious to get the rest of the portfolio growing as well. I shouldn't leave out that our industrial portfolio has been doing a really nice job from a share perspective, both in auto and aerospace. So we're feeling optimistic on the path that we're on and we're looking forward to see it all the way through.

So it is interesting, basically 1 year anniversary more or less, but key observations in terms of year 1 and maybe dig in a little bit more in terms of key focus in year 2.

Yes. I'd say -- I think when I was here a year ago, I spoke to the fact that in the Tools business, the innovation engine was strong. I probably didn't appreciate enough of the strength of the innovation engine and industrial. And that business has really done a really nice job in automotive and aero and enabling share gains. I'd also say for fundamental strength of the DEWALT brand and the passion that the enterprise has for the business have all been really kind of the pleasant surprises over the first year here. The commitment of the leadership team. I think Don has -- he's rebuilt portions of the leadership team, but we're all in the field now and very committed to driving the growth and the returns in the business that we've been telegraphing. And I think the work to be done is finish the margin journey and amplify the growth journey across all the brands, which is in the case of DEWALT, kind of accentuating something that's in a reasonably healthy spot to get it to be even more so. And then some of the other brands where we probably could have and should have done a better job over the last couple of years really amplifying the growth in those brands.

Can you just dig into that a little bit in terms of that handoff from the cost side to the growth side? How complicated is it to manage 2 at the same time? And then on that growth side, the key focus areas in the current moment?

Yes. I think the one thing that puts some complexity into it that you kind of wish was there is, in the macro, we don't really have a tailwind. We probably have a net headwind. I don't know if that's a new thing. I think it's kind of been where it's been for at least about a year or so. But that headwind forces you to work really hard to generate margin expansion, largely in a self-help, non-volume centric world. And then really protect a chunk of that margin expansion to drive investment, right? Because as you're not getting the benefit of macro-driven volume, you're constantly increasing your self-help and then working really hard to preserve that and invest it at a point in time when the macro isn't your friend. And I think that's the most delicate balance. So you have to be very choiceful of where you put that money and where you monitor very closely. Is it starting to make the progress you'd like to see. Most of our investment has gone into new product development and into field resources, whether those are resources to help channel partners drive sales or whether those are field resources to support the product in the field.

How long does it typically take to identify whether the investments are having the impact that you want to see from them?

I think -- I mean, in a business that -- a Tools business that's about $13.5 billion in revenue to see it at that level, it takes a year plus. But I think from CRM software, we can see how quickly people are engaging in the end markets and whether that end market engagement is starting to result in dialogues that are increasing distribution or increasing end customer penetration. On a magnitude of -- does it start to move the needle on the $13.5 billion business? I think that's more like 1 year, 1.5 year.

I want to get into the cost side, but before transitioning there, maybe just high level in terms of -- you talked a little bit about macro headwinds. That's nothing new, but just sort of current regional end market demand trends, what you're seeing out there across the businesses?

Yes. I would say our businesses is mostly a NAFTA Europe business. I mean, obviously, we're global, but those are the 2 biggest parts of the world where we both operate commercially and operationally. I wouldn't say there's anything really new. I mean, I think both of those marketplaces, the do-it-yourself consumer softened in the middle part of last year. And I'd say it's remained soft. I wouldn't say it's accentuated in a meaningful way, one way or the other. It's stayed soft. I'd say the pro has stayed steady, maybe not raging as much as it was during COVID, but stayed steady. Aerospace has been coming back a bit. And then on the positive front, I would say in the U.S., the outdoor season has been a bit more of a traditional start, which is beneficial that it was earlier than the last couple of years and the absolute kind of volume and shape of the whole season is a little bit more traditional. So that's an upside. I still would say we feel like we're in our guidance zone for the year, which would be kind of flat, plus or minus a point. But I'd say that the outdoor season, we'll see how it finishes in the middle of this summer, but that's been kind of the one favorable item, I think, that's come across this year.

We'll revisit that a little bit more in a moment. But shifting to the cost side of things, it's been a couple of years now since the $2 billion of cost-out initiative was announced. If you can just walk us through kind of the progress against that thing, it seems like it's largely gone to plan. But anything that's going ahead of plan, anything that's required a little bit more work in the last couple of years.

Yes, I would say you're correct. It was a thoughtful game plan laid out by Don at the start of this journey, and we've been executing according to plan. I'd say in the end events, if we're in the volume environment that we have been in for the last 12 or so months, we're probably going to end up generating more than $2 billion to get to the same margin objective because we just don't have the volume, the pull through, the level of savings on strategic sourcing, nothing more than that. But we're very much tracking and increasingly confident this year and finishing the year at 30-plus percent in the fourth quarter at 32% and still committed to getting to 35% at the end of next year, even if that means we end up with a little bit more fixed cost reduction to offset any of the volume dynamics that we can kind of see right now. I'd say the things that have been continuing to deliver very strongly, strategic sourcing and continuous improvement, especially continuous improvement in some of our industrial facilities. And then I think the things we've had to amplify is on the fixed cost side of things, whether that's shifting or other staffing decisions we make in our facilities or some of the actual footprint decisions we're making, which I would say are on the higher side that we would have laid out 1.5 years, 2 years ago.

And so if it is a matter of going after, say, more than $2 billion, it's not about adding a new leg of a stool. It's more around what you are already out...

It's more of can we aggregate more value streams under fewer roofs to get a better fixed cost position relative to the volume we have. I think that's going to be -- that will be the big inflection relative to the totality of the journey when we get to the end of it.

If we think about the COGS side of this and $1.5 billion that you focused on and $500 million this year, $500 million next year, can you dig into that a little bit? Kind of what the drivers are of the $500 million this year and how that transitions next year?

Yes. Well, I would say, from this point forward, on the economic side of things, which kind of goes on to our balance sheet for 6 months at a time, we're starting to see a greater ramp of the fixed cost piece of the puzzle. I think we've talked about it always that things like strategic sourcing, continuous improvement, which mostly affect variable cost of goods sold. Those in the early part of the journey, even though probably the end of the first quarter of this year have been 2/3 plus of the savings and things like complexity reduction and footprint changes have been 1/3 or less. I'd say by the time we get to the end of the journey, it will be more like 55-ish percent continuous improvement and strategic sourcing and 45% will be fixed cost reduction and complexity reduction. But those are things that -- there's a lot happening in our footprint during this year, in the early parts of next year. And those types of things will go on the balance sheet for 6 months and then come off. And obviously, given the fixed cost changes, we'll just stay steady state from that point in time. So the way you see it on the income statement is still going to be more variable based for the most of this year. But in the background on the balance sheet, the fixed costs are starting to happen in the back half of this year and the early part of next year, and then they'll be monetized on the income statement next year.

I suppose that kind of sequences nicely in terms of those fixed costs come out and the effort that you're putting into growth now than incremental margins.

Yes. We would expect a lot of leverage power when we get to the backside of this thing because it's not like we're cutting every ounce of fixed cost just to support the current volume. I mean we're going to leave some growth capacity in there. So we're really expecting a great leverage equation. I'd say 35% is the low end of the range. We're aiming for on margin recovery.

And you touched on it briefly, but just to revisit 32% kind of exiting this year, 35% exiting next, next year. And if you...

Yes. Probably like 32.5%, 33% next year is kind of the average margin for the year.

Yes. What about the reinvestment side of it? So there's $500 million, I think, roughly that can be reinvested. I mean, how much of that has been the timing of kind of fully deploying that in your view?

Yes. And I'd say we're metering it out. We've given a range of $300 million to $500 million, depending on how the macro plays out and where the good investment opportunities are. We did about $100 million last year. Last year was dominated by product. And we'll be doing somewhere, I'd say, in the $70 million to $100 million range this year, depending on how the year plays out. And I'd say a bit more balance in the mix with half of it going to field investments and more brand activation on the digital side of things as well. And I would say that mix is probably going to continue. But as we see growth performance and some productivity out of those investors will be layering more in. I mean, I think, ultimately, we want to get all of our big brands going again, and we recognize that, that's going to take a level of investment, whether it's innovation, whether it's brand building or whether it's field sales and support. And I think we'll just be metering those things in very, very thoughtfully as both the opportunities present themselves, and as we can get those things productive -- those investments productive.

And on the operating side and related to inventory, the target is to reduce inventory by $400 million to $500 million this year.

Probably a similar amount next year, I would say, as well.

Okay. Does that get you to that kind of 120 to 130 days that you want to be in? Or when you say...

I'd say this year, both our guidance and kind of where we sit, we're kind of tracking in 140 to 145 days, somewhere in that ZIP code. By the end of this year -- if you took inventory at the end of this year and the level of COGS we would expect this year, and I'd say we'll be approaching the 130-ish plus or minus a couple of days by the end of next year.

And it used to be more in, call it, like the 90-ish range on days. The new model would be higher. There's also a difference...

I'd say there's 2 differences. One of them is an operating difference that I think will help our cost structure and our vendors and the other is some of the mix of the business. I'd say one thing we used to do is really clamp down on inventory a bit severely at the end of the year and then have a bigger ramp kind of coming out of Chinese New Year. And that's really hard on the supply base to get them to perform and to get them to pro forma cost and also makes some of your service levels a bit challenged. And so I think putting that practice a bit in the past, as -- because part of pursuing strategic sourcing, you're trying to drive variable cost out of your sourced goods, but you are trying to improve the partnership you have with your supplier so that you just taking economic cost-out of the total value chain. And then the other is, we have an aerospace business and an Outdoor business now that have different inventory requirements, the seasonality of inventory and then the inventory requirements of the OEMs in aerospace. So I think that those things are going to have us in the 120-ish as kind of more of a steady state than -- it used to be more like, I'd say, 100 plus or minus 10.

Yes. Shifting over to Tools and Outdoor a little bit more segment focus. If we start on the demand side and just thinking about cycles, there have been a lot of distortions over the past number of years. If we focus on the do-it-yourself side of things, can you just talk about kind of how that trended from a volume perspective, how good it got relative to 2019, where we are kind of in the current environment.

Not being here in '19. Dennis, do you want to?

Yes. Of course, yes. I mean obviously, we have a large influx starting in 2020 through 2021 and then saw the reset in 2022. Where we sit today, volume is probably double-digit negative versus 2019 on the do-it-yourself side. And so a pretty dramatic pullback. It's not as deep as Outdoor, Outdoor is a little deeper, then Pro's been the area of strength, if you think about volume through this -- both the influx of volume and then the reversal.

And same question then on the Pro side. How do you think it's looking from a volume perspective versus the pre pandemic.

Yes. So both volume and price are up versus 2019. It's probably up in the single digits on the volume side, so not up dramatically. But on a total dollar basis, it's showing decent growth versus that baseline.

And then if I think about this year and sort of the Tools & Outdoor segment and kind of volume expectations, it seems like the remainder of the year is expected to be pretty stable from a volume perspective? Just what are some of the key focus areas for you throughout the remainder of the year and where you could see variances to those expectations?

I would say as we were talking about regions, those dynamics that we were seeing at the end of last year have kind of largely held steady. I wouldn't say that there's been something breaking one way or the other. And so I would -- I think you're right, in totality, we're expecting kind of flat to down very low single digits every quarter for the balance of the year, which would be consistent with our guidance, and that's going to be probably on the strength of Aerospace recovery plus some share gains there in Industrial, Auto share gains in a world where overall Auto is probably down low single digits in production. DEWALT grew the back half of last year and it grew the first quarter of this year, even if you adjust out some placements we had for some wins in Home Depot. And we would expect that brand to continue outperforming whatever the market is. And then we're going to probably still expect the softness in some of our more consumer-oriented brands. And I'd say that, that's going to be the mix that kind of keeps us roughly flat to down slightly all the quarters. Like I said, the 1 upside, and we'll see how the balance of this quarter plays out and how the early part of third quarter plays out, which is does Outdoor stay strong and if Outdoor stay strong, that would be kind of some net -- some modest net upside to that equation happening this quarter and into the early part of next quarter.

What does that mean from a margin mix perspective? I would think it's below Tools, but maybe the leverage on it is pretty nice if you get some better volume.

Yes. The margin mix is not likely to have a meaningful change to any quarter or the full year objective. And the reason for that is our margins on handheld electronic Outdoors is every bit as strong, if not stronger than a lot of our power tools, which is a very, very strong margin. Where the challenges are more in the higher price point gas ticket. And I think the strength that we're seeing in Outdoor is pretty evenly balanced in those 2 dynamics. So we're not seeing some notable margin shift in Outdoor given it's not dominated by 1 of those 2 elements.

And then I want to spend some time on the brand side of things in Tools and what you've seen develop over the course of the past year. It seems like there's a sharpened focus on the Pro and investing there, and it seems like given some evidence of success there around the vault growth. But just what's happening within kind of how you're thinking about the Tools portfolio and the Pro versus the do-it-yourself and what you're doing on the brand side of things?

Yes, yes. Well, I mean, I think one is from an end market perspective, there's been more strength there. And if you bring the Pro a productivity enhancement and willingness to pay. So therefore, the kind of end market reason to invest. I think in a more kind of mature competitive and channel environment as well. All of our efforts are I'd say, at least equally weighted, if not increasingly weighted on the end user directly as a manufacturer as opposed to just channel marketing. And so a lot of our effort on the innovation and marketing communications is very Pro-centric all the way to the end user to drive that demand and to prove to the Pro that our innovation of giving them the productivity benefit. And so I think that's where we're going to be disproportionately investing. But also we're going to be thoughtful in the way we meet our out investment in this interim time period, the next 2 to 5 years, and we're going to be focusing on our biggest brands. The one thing we're going to be careful is not to be doing a little bit everywhere, but in 3 big brands, really making a big push both with the end user and with the channel and make sure we're being heard, and we're getting returns on those investments.

How much leverage do you get on your R&D across brands? You think about 3 big brands, how much does kind of innovation spend tend to be very brand-focused versus you do get some capabilities that you can leverage across them.

Yes. Well, increasingly, one thing we probably haven't -- an opportunity, we haven't seized enough of is platforming. And obviously, you want to keep brands differentiated and performance and brand identity is differentiated. But there could be subassemblies and components where they can be shared. And that gives you a great deal of complexity reduction plus procurement scale. And we just haven't done a ton of that. We've had a very decentralized brand and product development environment, where people had a lot of degrees of freedom and innovated in a very kind of unilateral siloed fashion and increasingly, we're putting all the innovation under our Chief Technology Officer, who Chris Nelson brought on board this year. And it's not to make all the brands the same. That would be bad for the brand and bad for distinguishing between Pro and consumer uses and willingness to pay. But where we can be the same, be the same, and where we can get leverage, get leverage. It starts with SKU and component complexity reduction and procurement scale, but also as you get more and more standardized across whether it's product categories or brands, you can do more automation in your assembly. And so these are opportunities where -- there are pretty typical opportunities in durables or even in Industrial categories, we just haven't tapped enough of it. It's a great opportunity beyond our 35%. This is a very minor portion of our 35% journey.

And then I think about 3 big brands in DEWALT and CRAFTSMAN and Stanley. Let's talk a little bit about Black & Decker. I think if we go back a number of years, there was some focus on revitalizing the brand. Just where those efforts stand today, how we think about Black & Decker moving forward?

Yes. I'd say , there's elements right now where Black & Decker has been particularly strong and stayed strong in Europe and Latin America, and we certainly have no intent of losing that. I'd say in the U.S., because it's on the tool side, very exposed to some of the lower price point, most traditional DIY and then on consumer appliance side. And what I would say there is just as a leadership team being focused gets them prioritized, it's not at the top 3 right now, but that doesn't mean it's off the list. I'd say we're going to keep it strong, where it's strong today. And then as Chris and team get a bit more momentum on the top 3 brands, then figure out what's the best way to invest to change that brand trajectory in North America.

And then just one on tools pricing. Any indications you're seeing of customers trading down? And then on the pricing topic, also just as you're doing more promotions, I think as you have the ability to do more promotions, what kind of an impact that has on pricing maybe versus margins?

Yes. I would say they're both obviously related topics, but not exactly the same. I'd say pure promotion -- since the back half of last year, net-net, there's been a bit less traffic in stores. And so we have not, and I don't think it would be terribly constructive to use promotions as a vehicle to try and change the traffic flow of the store because our tools are an important part of a Pro or Consumer and the project they're doing. But the total cost of a project tends to go way beyond our Tools and promoting on the margin of Tools, and then going to take a project and pull it on or off the table. And so we're not using promos as a vehicle to really change marginal demand. And so we'll stay disciplined. We're still going to be engaged in promotions in the traditional holiday sense of the thing, the schedule, but I would say our promotional cadence is going to be pretty typical to the promotional cadence we've had in the past, very holiday-centric. I'd say in terms of pricing and price competition, that's been relatively stable. I'd say on the trade down -- I guess on the margin and maybe more so in hand tools or storage than power tools, but we haven't seen, for example, a big trade down dynamic in power tools. It just hasn't been a big dynamic drive in our business. I would say that's probably -- if it's affecting our business, it's probably more so in the hand tools or storage, but it's not a dominant feature in the demand landscape right now.

And then shifting to the Outdoor side of things. Just walk us through kind of how inventory got to where it is, and your time line for when you expect it to reach what you'd consider more targeted or normalized levels?

In Outdoor, specifically?

In Outdoor specifically.

Yes, I would say, in Outdoor retail, where the retail retailers lean on you very heavily to basically manage the total value chain. I'd say that, that inventory is in a healthy spot and probably has been that way since the end of last year, if not sometime during the first quarter. I would say where the inventory has been long and maybe it's less long now than it was at the start of the year is independent retail, high price point items. Like anything, it's been some of the stuff in the middle that -- there's been some real strength in 0 turn this year, even though a relatively high price point. But like anything kind of in a barbell economy, those things have actually been seeing strength. It's really some of these mid-price points in the independent retail. But I would say, as we get through this season, I think that, that dynamic is mostly behind us. I mean, obviously, in any kind of individual customer relationship are part of the country, maybe it's a little bit out of X. But I see most of the inventory dynamic in outdoor being in a much more comfortable spot by the end of the season.

And Dennis, you touched on it a little bit with do-it-yourself and Pro. I think you commented Outdoors. But we think of Outdoor volumes, it could be 20% where they were in kind of the 2019 level. I'm not sure if that's an approximate kind of framework to be thinking about?

Yes, that's about the right spot that it is. So I mean, you saw 2 very strong years. We've seen 2 years that are kind of below trend. And then we'll see how the season turns out. But if you mark last year, it was in excess of 20% volume down for us in the industry.

Yes. And so Pat, how do you think about margins within Tools & Outdoor as you get normalization in Outdoor, any thinking around what kind of a margin opportunity that presents?

Yes. Well, I would say we -- and we even talked a little bit about it on the first quarter call, right? That we have about 80% of our portfolio that's going to finish is going to finish 24% above the 30% fleet average. And the stuff that is below that, the 20% that's below that is dominated by gas Outdoor and Aerospace, Aerospace volume ramps back up to the capacity of that business. That's more of a volume relative to fixed cost dynamic in Aerospace, which is quickly getting behind us. And I'd say when you look at traditional high price point gas, power equipment, you're talking gross margins in the mid-20s, probably going to finish this year around 20. We need to get those at least to the mid-20s, if not higher for them to be getting the returns we want to give to our shareholders. And I think that's on our radar screen, on our total journey to 35%. But that's -- I think that's the opportunity in that space is to get them to the mid-20s or better. And I think that's where they need to be justified to kind of stay in our portfolio and provide the returns we expect for the capital they demand.

Maybe just with that, touch on the portfolio a little bit in terms of attachment tools, right? The move there, but anything else you're thinking about on the portfolio.

Yes. I mean I know there's been a lot of talk about Industrial in total. I would say in the very near term in the next 6 to 30 or so months. The things we would do more likely than not are going to be smaller, nonstrategic things that allow us to be ever more focused in pursuing Tools and Outdoor strategy or the Industrial strategy, but that helped us pay down some debt and delever. I would say as we get the industrial business, to a higher-performing threshold, which we have every confidence we'll do and probably pretty quickly, probably in less than the 24-month horizon, then we can explore what's its strategic fit with our business. But it's such a great asset, and the team is doing such a great job with it. And the M&A markets are just really not there. So even if we had come to a conclusion where it didn't have the right strategic fit, it's not a particularly good time to be monetizing big assets. I think the things that we would be doing right now are going to be much more focused on smaller things, keep our leadership team focused and get to deleverage.

I think we have time for one more topic. And so I just wanted to touch on the sort of organic growth algorithm for the business and you talk about growing at sort of 2x to 3x the market. It's really a 2-part question. But first of all, by when do you think you'll be in a position to really achieve that with some of the moves that are underway now. And then the second piece of it is, if you think about the market growing 2% and you can grow 4% to 6%, just what are the important building block to that.

So I think one is the clarity of when we say 2x to 3x the market, we're referencing real GDP as the market. So it gets you kind of under that 4% to 6%. I would say this is a year '24, where we expect to be relatively flat to the market with piece parts I talked about, Pro, Aero and Auto better and then DIY, just a soft environment that kind of gets us to somewhere around flattish. I would say the building blocks are going to be -- can we get DEWALT, which has been in the low single digits back up above mid-single digits. And then can we get the other brands to be just slightly above market. I think industrial obviously, those are longer cycle businesses that work on different cycles. But I think even this year, if you adjust for infrastructure out of our business, that could be a year of some growth this year in industrial.

Terrific. I think that's our time. Thank you very much.

Appreciate the conversation. Thank you.