WATSCO INC Q2 FY2024 earnings call

• Watsco delivered strong sales, with record sales reflecting strengths in residential and commercial markets. Operating efficiency improved with lower SG&A as a percentage of sales. - Generated strong cash flow and has a pristine balance sheet. - Technology has had an impact, with annualized e-commerce sales exceeding $2.5 billion and active users growing faster than non-users. OnCall Air platform continued to grow, with contractors presenting quotes to ~160,000 households and generating $743 million in sales for contractors in 2024. - Actively updating technology platforms for the launch of new low GWP A2L systems. Energy efficiency mandates and trend towards electrification of heating have driven growth, including increased sales of heat pumps. - Proven culture, customer-focused technologies, scale, and access to capital provide unique advantages.

Watsco achieved record sales in the second quarter. The equipment business grew at a strong rate, while the non-equipment (parts and supplies) business had a bit of a headwind in revenue but was stable on margin. The non-equipment segment was approximately $500 million in the quarter, with commodities like copper tubing, sheet metal products, and refrigerant accounting for around $100 million. Equipment business saw growth, and non-equipment had stable pricing on commodities which had been volatile previously.

• Actively updating technology platforms to optimize the launch of new low GWP A2L systems, seeing this as an opportunity for growth due to federal regulatory changes. - Expecting a smooth transition to new products with a year to sell through the old stuff. - Focus on improving inventory turns and having a functional transition to new products.

• Potential short-term market share impacts from one manufacturer introducing A2L product early. - Uncertainties around the pace and impact of the transition to new A2L products, including pricing and inventory management. - Regulatory transition challenges that could affect the smoothness of the shift to new systems.

Q: Can we talk about the moving pieces in gross margin?

A: Paul Johnston mentioned equipment business growth vs non-equipment, mix impact, less inventory owned affecting rebates, and looking at year-to-date performance. Rick Gomez added commercial strength mix implication and upcoming product transition impact on margin.

Q: What's your updated thoughts on how much 410A you want to exit with and implications around pre-buys?

A: Paul Johnston said final orders for 410A are in, expecting enough to go into first quarter at most. Transition to A2L products is not a big change, just different compressor and sensor.

Q: Talk about the residential business trends, selling season progress, and July pacing?

A: Barry Logan said selling season progressed with stronger growth rates, June was stronger, July had hurricane impact in Texas but August is big, and heat pumps are growing faster than furnace demand.

Q: OpEx leverage drivers?

A: Barry Logan said aggressive campaign on SG&A since last fall, more actions in first quarter, and health care up $7M year-to-date but improved benefit plan. A.J. Nahmad mentioned continuous improvement culture and technology for efficiency.

Q: Other HVAC products, parts and supplies weakness?

A: Paul Johnston said nothing unusual, Barry Logan mentioned commodity pricing stability, trend towards basic products, and heat pumps growing faster than furnace demand.

Q: Inventory levels in 2Q?

A: Barry Logan said inventory was down sequentially, not reading into it as big message, and focus on continuous improvement to increase inventory turns.

Q: Texas manufacturer moving to A2L, share impacts?

A: A.J. Nahmad said no big market share impact, Barry Logan said transition expected to be smooth with year to sell through old stuff.

Q: Pricing of new technology vs current?

A: A.J. Nahmad said seeing 10% increases indicated by OEMs. Barry Logan said blend of new and old products, and wait for DOE on replacement unit definition.

Q: Price mix impact on equipment and other HVAC?

A: Barry Logan said other HVAC non-equipment had stable commodity pricing, equipment had average selling price composite of various mixes, and OEM pricing actions flowed through with good margin so far.

Q: Gateway acquisition update?

A: Rick Gomez said Gateway is exceeding expectations, with third quarter contribution expected as lapping starts from September 2023 anniversary.

Q: Customer acceptance of 454B product?

A: A.J. Nahmad said too early to gauge price and acceptance, just had first delivery and ongoing training.