GMS Inc. (NYSE:GMS) Q3 2024 Earnings Call Transcript

GMS Inc. (NYSE:GMS) Q3 2024 Earnings Call Transcript February 29, 2024

GMS Inc. misses on earnings expectations. Reported EPS is $1.6 EPS, expectations were $1.61. GMS isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Greetings, and welcome to GMS Inc., Third Quarter 2024 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Carey Phelps, Vice President and Investor Relations. Thank you, Ms. Phelps. You may begin.

Carey Phelps: Thank you. Good morning, and thank you for joining us for the GMS earnings conference call for the third quarter of fiscal 2024. I’m joined today by John Turner, President and Chief Executive Officer; and Scott Deakin, Senior Vice President and Chief Financial Officer. In addition to the press release issued this morning, we have posted PowerPoint slides to accompany this call in the Investors section of our website at www.gms.com. As detailed on Slide 2. On today’s call, management’s prepared remarks and answers to your questions may contain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements address matters that are subject to risks and uncertainties many of which are beyond our control and may cause actual results to differ from those discussed today.

As a reminder, forward-looking statements represent management’s current estimates and expectations. The company assumes no obligation to update any forward-looking statements in the future. Listeners are encouraged to review the more detailed discussions related to these forward-looking statements contained in the company’s filings with the SEC, including the risk factors section in the company’s 10-K and other periodic reports. Today’s presentation also includes a discussion of certain non-GAAP measures. The definitions and reconciliations of these non-GAAP measures are provided in the press release and presentation slides. Please note that references on this call to the third quarter of fiscal 2024 relate to the quarter ended January 31, 2024.

Finally, once we begin the question-and-answer session of the call, in the interest of time we kindly request that you limit yourself to one question and one follow-up. With that, I’ll turn the call over to John Turner, whose discussion will begin on Slide 3. JT?

John Turner: Thank you, Carey, and thank you all for joining us today. I would also like to thank our team for once again executing against our key initiatives and delivering outstanding service and solid results this quarter. Volume growth was realized across all of our major product categories as we benefited both from our organic efforts and from the contributions of recent acquisitions. And except in steel, pricing remained resilient and in total, accretive to growth as compared with a year ago. Our increase in total net sales versus last year was achieved despite significant steel price deflation, which we expected, along with the near-term headwind of adverse weather conditions that we faced in late January. The difficult weather forced all but one of our geographic divisions to shut down locations temporarily during the week of January 15, delaying sales into the early part of our fourth quarter.

Still, even with these challenges, we were pleased to deliver third quarter net income of $51.9 million and adjusted EBITDA of $128 million, which were both above our previously communicated expectations. During the quarter strong multi-family and commercial end market demand, along with an improving single-family backdrop and gains from acquisitions, helped drive volume growth in wallboard, ceilings, steel framing, and complementary products. And these trends are expected to continue as we anticipate delivering both year-over-year and sequential growth in net sales for our fourth quarter as we close out fiscal 2024 at the end of April. While multi-family permits and starts do indicate a forthcoming slowdown likely in the back half of this calendar year, for now there remains a significant number of units still under construction.

Commercial is also expected to continue its current pace of solid demand as our internal and external channel checks indicate levels of backlog consistent with those we experienced in our third quarter. For single-family, we are encouraged by the continuing uptick in new home orders reported by our builder customers and the three-month consecutive rise in builder confidence levels, reflecting expectations for an improving mortgage rate environment and the pronounced foundation of pent-up need for housing in a relatively supply-constrained environment. In addition, we are pleased with the continued resilience of pricing in wallboard, reinforcing what we continue to believe is a structurally changed industry with low levels of recent new or planned capacity and rising manufacturing costs, particularly given the declining availability of synthetic gypsum.

Pricing in ceilings and complementary products has also held up well, while steel framing has performed as expected with prices down substantially year-over-year. Although raw steel price indices began escalating roughly four months ago, it appears that these have now reached a near-term peak, as such, while we expect our prices to slightly increase sequentially for our fiscal fourth quarter, those prices will likely flatten for at least the near term thereafter. While navigating the near-term dynamics in end market demand and pricing, our teams have continued to deliver solid results and have maintained their focus on the successful execution of our four strategic pillars, which are highlighted on Slide 4. First, measuring against data from the Gypsum Association, the Steel Framing Industry Association, and Manufacturer Disclosures, we believe that we have continued to expand our share in each of our core product categories.

Customers across our end markets are seeing the value that our scale, expertise, product breadth and commitment to delivering outstanding service provide. In recent months, we have successfully secured a range of new projects, including expanding activity with some of the nation’s largest residential home builders. While also winning commercial work in those sectors which remain most active, primarily manufacturing, medical, education, government, and data centers, as well as participation in many of the megaprojects underway across the country. Second, our complementary products category continues to grow as an increasingly important part of our product mix. This category has made up 30% of our sales so far this fiscal year and as we’ve said in previous quarters, our aim is to grow this category at twice the rate of our core products.

In particular, we are placing emphasis on tools and fasteners, EIFS, and Stucco and insulation, which collectively grew 11.7% for the quarter, while the total complementary products category grew 7.3%. Over time, we expect to continue to drive accelerated growth in this margin-accretive segment as a percentage of our overall net sales. Third, we are seeing success with our many productivity initiatives and our push to drive complexity costs out of the business while further realizing the benefits of our attractive scale position. Equipping our yard operators with the right tools and technologies continues to improve the efficiency of their operations. Our eCommerce advancements are providing an enhanced customer experience and among other features, offer an avenue for quick product pricing and order information, together with easy online payments, which customers are increasingly taking advantage of.

Additionally, we are consolidating a number of our legacy legal entities and merging back-of-house functionality, thereby reducing organizational and process complexity along with costs, while also leveraging the standardization of our product, vendor, customer, and other operational data across the business. Collectively, these initiatives help drive additional profitability in the business and make us better operators, further positioning GMS as a provider of choice for our customers. Finally, our fourth strategic pillar is to expand our platform through accretive acquisition and greenfield opportunities. During the third quarter, we opened three new greenfields and we continue to focus on M&A to drive growth with attractive opportunities in both our core and complementary businesses.

In late December, as highlighted on Slide 5, we capitalized on one of these opportunities and announced our agreement to purchase Kamco Supply Corporation, a leading distributor of building products in the New York City market. We are very excited about the prospects of this transaction, which we expect to close in the coming days. Kamco’s values and highly regarded execution discipline align very well with our own and we are pleased to welcome the company’s leadership and employees as they join GMS. Bringing Kamco into the GMS family of brands represents a unique opportunity to advance our strategic priorities, including expanding share in our core products and geographic expansion in the highly attractive New York City market. Additionally, as we continue to drive complementary product sales, this transaction will present cross-selling opportunities with other GMS operations in the area, including further expanding our leadership position in wallboard.

We are very excited about becoming one of the top distributors in this key region and will look to leverage Kamco’s excellent reputation for customer service and operational execution as a base for further organic and inorganic expansion. Before turning the call over to Scott, who will cover more on this exciting transaction and our business results, I want once again to thank our team for maintaining our high level of service and performance during the quarter. We again successfully demonstrated the benefits of our end market balance and the flexibility and expertise we have in servicing each one. I am confident that we will continue to drive further growth and profitability as we execute on our strategic priorities. With that, I will turn the call over to Scott.

Scott Deakin: Thanks, JT. Good morning everyone. As just mentioned, in late December we entered into an agreement to acquire Kamco Supply Corporation and affiliates for a purchase price of $321.5 million inclusive of additional consideration in connection with the exit of a legacy pension fund. Kamco, which generated $235 million in revenue during the 12 months ended December 31st, 2023 has four legacy locations in the greater New York City market, including yards in Brooklyn, Manhattan, Long Island, and Paterson. Plus, they recently added an important new greenfield location in the Bronx, which we believe will meaningfully add to Kamco’s top-line growth. Before any expected synergies, Kamco has historically generated EBITDA margins roughly in line with the broader GMS business.

In addition, over the next 24 months to 36 months, we expect this transaction to generate cost and revenue synergies through the integration of our distribution networks and purchasing programs, cross-selling opportunities, notably for wallboard and complementary products, and SG&A savings. Moreover, as an asset transaction, we will have substantial tax benefits from intangibles amortization. All in including these synergies and tax attributes, we expect to pay just above a 7.5 times pro forma EBITDA multiple for this business. We expect to fund this transaction with cash on hand and from borrowings under our ABL, which we expect would, all else being equal, briefly raise our net debt leverage ratio by less than one-half turn before warrant returning to our current level over approximately the next year.

We are very pleased to be nearing the close of this highly strategic transaction. With that, let me move on to our results for our fiscal third quarter. Starting with Slide 6, net sales for the quarter increased 1.9% to $1.3 billion as volume growth across all of our major product categories, coupled with resilient pricing for nearly all of our product lines helped to offset an estimated $55 million of steel price deflation, assuming current volumes have been sold at prior year prices. Also, as JT mentioned, in mid-January, harsh weather conditions across much of our service territory delayed project demand and slowed delivery execution, pushing an estimated $15 million of net sales into our fiscal fourth quarter. This also forced some temporary operational inefficiencies as our teams added weekend and overtime hours to keep our customers’ projects moving forward.

Commercial and multi-family activity levels remained solid during the quarter. While the sentiment around single-family demand is improving. Our recent acquisitions such as EMJ and Tanner also contributed positively to our quarter’s results. Organically consolidated sales were essentially flat as compared with the same period a year ago. From US end market perspective, multi-family sales dollars grew 8.2% year-over-year, while single-family sales dollars declined 6.1%, resulting in a total residential sales dollar decline of 2.4%. Commercial sales dollars in the US grew 1.7% as increased sales volumes were muted by significant steel price deflation. Wallboard sales dollars of $520.7 million were up 4% over the same period last year, with multi-family and commercial volumes up 12.7% and 7.9%, respectively.

Single-family volumes were down only 2.3% year-over-year, and based on our current run rates, given increasing sequential growth, we expect this comparison to turn positive for our fiscal fourth quarter. Organically third quarter wallboard sales were up 3.5% compared with the prior year period, comprised of a 3.6% increase in volume with a nearly flat price and mix component. For the third quarter, the average realized wallboard price was $473 per thousand square feet, flat with a year ago and down slightly from our fiscal second quarter. Overall, wallboard pricing continues to be resilient despite year-over-year declines in single-family wallboard volumes for now five consecutive quarters. With continued improvement anticipated in the single-family space and a developing renewal of price-increased negotiations, we expect for wallboard pricing to improve at least slightly both sequentially and year-over-year, for our fiscal fourth quarter.

Ceiling sales of $155.7 million in the quarter were up 6.1%, all from the benefit of increased volumes as any price benefits were offset by mix. Organic sales in ceilings grew 4.2%, with a 4.3% increase in volumes slightly offset by a 0.1% decrease from price and mix. Third quarter steel framing sales of $203.4 million were down 13.3% versus the prior-year quarter as deflationary pricing drove a 24.3% decline in price and mix while volumes increased 11%. Organically. Steel Framing sales were down 14% with a 24.2% decline in price and mix, partially offset by a 10.2% increase in volume. While prices for steel framing products were down 21.9% year-over-year and 4% on a sequential basis, multiple framing manufacturers have issued notices of upcoming price increases.

As a result, we expect for the year-over-year declines in pricing to continue to moderate as we finish out fiscal 2024, with some sequential improvement expected for our fourth quarter. Complementary product sales of $378.6 million for the quarter grew 7.3% year-over-year in total and 1.8% on an organic basis, representing the 15th consecutive quarter of through-the-cycle growth for this category. Expansion of complementary products, particularly through tools and fasteners EIFS and stucco and insulation continues to be a key element of our strategic priorities. We are sharing commercial and purchasing best practices across the organization to promote the advancement of these product lines, building on our desire to expand this margin-accretive category through both organic and inorganic means.

Now turning to Slide 7, which highlights our profitability for the quarter. Gross profit **of $414.7 million increased 3.1% compared to the prior year quarter, reflecting improved volumes and the associated attainment of calendar year end volume and center targets, partially offset by deflationary dynamics in steel pricing. Gross margin of 33% was up 40 basis points as compared to 32.6% a year ago. Despite the steel deflation, incrementally benefited mostly from a realization of the purchasing incentives. Selling, general and administrative expenses were $295.7 million for the quarter, an increase of $28.3 million over the prior year quarter, nearly $10 million of that increase related to recent acquisitions and newly opened greenfield locations.

The remaining organic increase was primarily driven by labor and other expenses, particularly those elevated by the higher cost to serve mix and high volume of commercial and multi-family end market demand. SG&A as a percentage of net sales was 23.5%, an increase of 180 basis points from the third quarter of fiscal 2023. Along with the items I just noted for SG&A expenses, reduced revenue from steel price deflation negatively impacted SG&A leverage by 100 basis points, and the weather-related revenue delays and associated operational inefficiencies had an estimated 30 basis points of additional unfavorable impact. Adjusted SG&A expense as a percentage of net sales of 22.9% increased 150 basis points from 21.4% in the prior year quarter. All in and with 10.9% higher interest expense, net income decreased 19.9% to $51.9 million for the quarter or a $1.28 per diluted share, compared to net income of $64.8 million or a $1.53 per diluted share a year ago.

Adjusted EBITDA of $128 million decreased 9.1% or $12.8 million as compared with a year ago, and adjusted EBITDA margin decreased to 10.2% compared to last year’s third quarter level of 11.4%. Now, shifting to our balance sheet, which is highlighted on Slide 8. At January 31st, we had cash on hand of $88.3 million and $866.3 million of available liquidity under our revolving credit facility. We have no near-term debt maturities and our net adjusted EBITDA debt leverage at the end of the quarter was 1.5 times improved from 1.6 times a year ago. Given the approaching Kamco transaction closure, we expect to end the fourth quarter with net debt leverage of approximately 1.8 times before moderating back to back towards our current level over the next 12 months or so.

Just after the end of our third quarter, we opportunistically repriced our Term Loan B at SOFR plus 2.25%, successfully achieving a 75 basis point improvement which represents a $3.7 million annualized interest expense savings as compared to the prior terms, or a $2.6 million annual benefit to net income. Our loan agreement will expire in May of 2030, consistent with its prior term. For the quarter cash provided by operating activities was $104.3 million compared to $134.1 million a year ago. Free cash flow was $94.1 million compared to $122.5 million for the same period last year. For the full year, we expect free cash flow generation of approximately 55% to 60% of adjusted EBITDA. Capital expenditures of $10.2 million for the quarter compared to $11.6 million a year ago.

We continue to expect that for the full year fiscal 2024, capital expenditures will be approximately $56 million to $58 million. We repurchased another 370,000 shares of stock during the quarter for $24.8 million and had $216.5 million of share purchase authorization remaining at January 31. We have a solid balance sheet with no near-term maturities and an attractive capital structure providing an effective foundation for the execution of our strategic priorities. Of note, on the strength of our business and the health of our balance sheet, GMS was upgraded earlier this month by Moody’s Investor Service to Ba1, putting us now only one notch below investment grade. Looking forward, we expect to maintain our balanced approach to capital allocation as we intend to continue to invest in the business, seek additional M&A opportunities, and opportunistically leverage favorable market conditions to repurchase shares.

I want to thank our team for the remarkable efforts to flex our operations as demand has shifted over time and for their commitment to drive improved profitability, all while maintaining exceptional levels of service. Before turning the call over to JT to provide a review of our outlook and fourth quarter projections, let me highlight two housekeeping items. First, please note that there are 64 selling days during the fourth quarter of fiscal 2024 as compared with 63 in the prior year period. And second, the projections that JT will provide exclude any potential benefits from the Kamco transaction. However, once the transaction closes, likely in the next few days, we would expect Kamco to add approximately $20 million in net sales with approximately $2 million to $2.5 million of adjusted EBITDA for each full month as part of GMS during our fiscal Q4.

With that, I’ll now turn the call over to JT. He will start on Slide 9.

John Turner: Thank you, Scott. Looking forward, we are encouraged by what we believe lies ahead for GMS. On our call in December, we spoke about the likelihood of a potential air pocket in commercial activity starting sometime during calendar 2024. While still a likely eventuality, at some point it appears to be further down the road than we would have expected, and likely less pronounced in both duration and severity. The strength in the US economy, the myriad large-scale infrastructure stimulus programs, and the expectation of reduced interest rates and loosening lending conditions in the back half of 2024 provide more optimism than previously anticipated. Assuming that the still present risk of a broad contagion of commercial loan defaults is avoided.

And in the very near term, our backlog would indicate similar levels of commercial activity in Q4 as in our previous quarter. Our commercial volumes remain solid, with particularly high demand for steel products. Also, February has proven to be a strong month not only for commercial but across our other end markets, albeit in part due to the work that was weather-delayed at the end of our Q3. Single-family demand is improving and we expect it to show year-over-year improvement for the full calendar year of 2024. For multi-family, despite a reduction in starts, its current backlog continues to drive construction activity, and we expect it to do so for at least the next couple of quarters. Given this backdrop and starting with wallboard volumes, we anticipate commercial to be up mid to high single digits for our fiscal Q4 on a per day basis.

Multi-family wallboard volumes are expected to grow low single digits as compared with the prior year period as we are progressively facing much tougher year ago comparisons. And single-family wallboard volumes are expected to be up low single digits, which, if realized, will represent the first positive year-over-year comparison for single-family wallboard volume in a year and a half. In total, wallboard volumes are expected to be up low single digits per day as compared with the Q4 of last year. Pricing for wallboard is expected to remain resilient with price increase negotiations currently underway. As such, for our fiscal Q4, we expect wallboard prices to be up slightly in the low single digits both sequentially and as compared to a year ago.

In ceilings given our expectation of continued solid demand in our commercial land market, we expect low to mid-single-digit per day increases year-over-year for volume and a mid-single-digit increase for price and mix. We are still claiming as I stated earlier, demand is expected to remain solid with per day volumes up in the mid-teens for the fourth quarter. While our prices appear to have stabilized in steel framing for now, they still lag last year’s level with a year-over-year decline in the low teens expected on a per day basis. Finally, net sales for our complementary products are expected to grow high single digits on a per day basis as compared with the fourth quarter a year ago. All in as shown on Slide 10, including the additional sales dollars that were pushed into Q4 due to weather delays and factoring in an expectation for approximately $25 million of year-over-year deflation in steel pricing, we anticipate net sales per day to increase mid-single digits as compared with a year ago.

We also expect that the steel price deflation will negatively impact SG&A as a percentage of sales by an estimated 40 basis points. For gross margin without the benefits we saw in Q3 when we achieved new volume tiers associated with year end incentives and as single-family begins to increase as a component of our mix, we expect our gross margin to be approximately 32.2% for the fourth quarter. Altogether, adjusted EBITDA is expected to be in the range of $145 million to $150 million for the fourth quarter. Looking ahead to fiscal 2025, we believe that we will again see the dynamics of our end market shift with strength building for single-family, while construction will likely reach completion by calendar Q3 on a substantial portion of what remains of the multi-family backlog.

We are currently expecting commercial to continue with activity levels that are similar to what we just reported for at least the next couple of quarters. Given that with a balanced mix of end markets, our team is ready for these expected shifts and has demonstrated our ability to flex as needed to best serve our customers. Thank you for joining us today. Operator, we are ready to open the line for questions.

Operator: Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] One moment please while we poll for questions. The first question comes from the line of David Manthey with Baird. Please go ahead.

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Q&A Session

David Manthey: Thank you. Good morning, everyone. JT, I think you just said that wallboard, you expected it in the fourth quarter to be up low-single digits year-over-year and quarter-over-quarter. I want to check if I have that right. And also I have 4.81% per 1,000 in the last fourth quarter. I just wanted to check those facts. Is that correct?

John Turner: Are you talking volume and price or just price?

David Manthey: There, I’m just talking price.

John Turner: Yes. So sequentially, we expect it to improve, and year-over-year, we expect it to be up slightly. I’m looking to see if that quarter number was right.

Scott Deakin: 4.81%, and just so we ended the third quarter at a roughly 4.80%, and February is tracking higher at closer to 4.90%.

David Manthey: Okay. Yes, that was the — just the question was the customer reaction to those February increases must be fairly good, given that you’re already seeing an effect here just four weeks in, right?

John Turner: Yes. I mean, customer reactions are never good to price increases, but the reality is there are parts of the market where we are able to get slightly better prices at the moment.

David Manthey: Got it. Okay. And then second question, and although it’s negative for revenues and operating margins, does lower steel pricing have a positive mix effect on your gross margin? And if you can just remind us in stack rank terms, where the steel ranks relative to your other segment, and your product segments?

John Turner: It’s third, but its gross margins are pretty good. So complementary products, wallboard, steel, very close to wallboard actually at this point in gross margin percent. And then ceilings is the lowest of the gross margin percentages.

David Manthey: Okay. So with steel being down in the mix, that actually might be slightly gross margin accretive when you think about the effect of that?

John Turner: I mean, slightly, right? I mean…

David Manthey: Slightly.

John Turner: It depends on the growth in the other categories. But yes, with all that volume growth, though, the sales dollars will still be pretty significant. So it’s 10 basis points maybe the max right kind of deal, not a lot.

David Manthey: Okay. Got it. Thanks very much.

John Turner: Yes, thank you.

Operator: Thank you. Next question comes from the line of Noah Merkousko with Stephens, Inc. Please go ahead.

Noah Merkousko: Good morning, and thanks for taking my questions.

John Turner: Hi, Noah.

Noah Merkousko: So first, I wanted to touch on the wallboard price again, really encouraging to see some improvement here finally seems to be corresponding with single-family. But I guess, as we think longer term throughout calendar year 2024, I think we should continue to see strong single-family volumes. Is that kind of low-single digit growth, a good kind of ballpark to think about just in terms of holding on to that price and that you got here in the fiscal 4Q as we look to maybe in the next three quarters?

John Turner: I would say, yes. And you’re right, it’s fully dependent on the strength in the single-family market.

Noah Merkousko: And just to follow up on that point, the — that even consider some maybe mix impact as you see a negative mix impact as you see more single-family.

John Turner: That’s right.

Noah Merkousko: All right. Great. And then one last one for me. It sounds like your commentary around commercial has really improved. And just hoping to get a little bit more detail there on what specific kind of end markets within commercial you’re seeing in that strength? The leading indicator is still kind of point a not-so-rosy picture as we look forward. So maybe kind of help us understand what’s driving your slightly differentiated view here.

John Turner: Yes, I think that if you look at just purely the ABI and you look at the impact of multifamily on the ABI, it’s a huge drag. So what you’re seeing is you’re seeing a much bigger headline decline, and we’ve already kind of accounted for that expected multifamily decline, multifamily in our business, 15% to 17%. So we’ve kind of accounted for that and expect that in the back half. So it’s not a huge drag for us as that headline ABI would indicate. Underneath that, you’re seeing a lot of strength in those categories I talked about earlier. You’re seeing a lot of mega project activity, chip plants and car plants and all of the supporting infrastructure around all of that out there. You’re seeing strength in medical, you’re seeing strength in data centers, no slowing down in data centers, right, particularly with this AI revolution going on.

So a lot of the categories that have been driving the strength today continue to drive the strength tomorrow. And I think the mega projects probably offset a lot of the smaller commercial that’s having a really hard time being funded. All that being said, the expectation is that you guys are probably watching the PCE this morning because I don’t have my phone with me at the moment, but that’s probably out already. So I do think that the interest rate environment, with the — most of the expectations being a June start for the Fed funds rates to come back down again, I think that that would create this loosening of this tight funding situation that small commercial and medium commercial is facing. And that’s important to happen, and I do think it’s going to happen.

But I think that’s part of the positivity that I’m conveying is that large commercial already funded, already in the pipeline is going to continue. And hopefully, what we see is we see those interest rates moderate into the back half of this year and really more importantly, the lending environment improved for commercial activity. Those things all come together, and I believe we’ll be fine. I think that, like we said, it’s probably going to decline. It’ll be an air pocket, but it will be later in the year, and it will probably be not as severe as I would have possibly thought at the end of the last — end of the last quarter.