Good day, ladies and gentlemen, and welcome to the Clorox Company Third Quarter Fiscal Year 2023 Earnings Release Conference Call. At this time, all participants are in a listen-only mode. At the conclusion of our prepared remarks, we will conduct a question-and-answer session. As a reminder, this call is being recorded. I would now like to introduce your host for today's conference call, Ms. Lisah Burhan, Vice President of Investor Relations for the Clorox Company. Ms. Burhan, you may begin.

Thanks, Jen. Good afternoon, and thank you for joining us. On the call with me today are Linda Rendle, our CEO; and Kevin Jacobson, our CFO. I hope everyone has had a chance to review our earnings release and prepared remarks, both of which are available on our website. In just a moment, Linda will share a few opening comments, and then we'll take your questions. During this call, we may make forward-looking statements, including about fiscal year 2023 outlook. These statements are management's current expectations that may differ from actual results or outcomes. In addition, we may refer to certain non-GAAP financial measures. Please refer to the forward-looking statements section, which identifies various factors that could affect such forward-looking statements, which have been filed with the SEC. In addition, please refer to the non-GAAP financial information section of our earnings release and the supplemental financial schedule in the Investor Relations section of our website for a reconciliation of non-GAAP financial measures to the most directly comparable GAAP measures. Now I'll turn it over to Linda.

Hello, everyone, and thank you for joining us. We delivered strong results in the third quarter amid a challenging operating and cost environment, with organic sales growth in all four segments, gross margin expansion, and double-digit adjusted EPS growth. Our performance reflects solid execution by our team, the strength and resilience of our portfolio, the superior value of our brands, and the relevance of our IGNITE strategy. Based on our strong performance, we're raising our fiscal year outlook. During the quarter, we made great progress in building margin while maintaining top-line growth. Net sales grew above our long-term target, and we delivered our second consecutive quarter of gross margin improvement supported by cost justified pricing and decade-high cost savings. We also made further progress on our IGNITE priorities, investing in our brands and innovation pipeline while advancing our digital transformation and streamlined operating model to create a stronger, more resilient company. While we're encouraged by our progress to date, we're relentlessly focused on controlling what we can to drive and appropriately balance both top-line and bottom-line growth. Looking ahead, we expect the operating environment to remain volatile and challenging. Despite recent moderation in pockets of input costs, overall inflationary headwinds continue to be strong. In light of this and ongoing macro uncertainty, we're watching consumer reactions very closely given the potential for them to come under greater pressure, and we are prepared to adapt plans as necessary. Regardless, we have trusted brands in essential categories, which we continue to invest behind. I remain confident that our actions position us well to navigate this environment to deliver consistent profitable growth over time. With that, Kevin and I will take your questions.

Thank you. Your first question will come from Andrea Teixeira. Please go ahead.

Thank you, operator, and good afternoon, everyone. So my question refers to more on the quarter coming in better than anticipated. And Linda, you and Kevin and the team had highlighted that elasticities came in better. But of course, you're not lapping and not assuming that's going to continue. If you can talk a little bit about that? You called out Kingsford being one that you potentially have to work out the price gaps. Any other area that you'd think would be an opportunity? And regarding VMS, just as a clarification, are you putting the asset for sale or just rightsizing it?

Andrea, this is Kevin. Thank you for the question. Maybe I can start with our expectations for Q4. And as you saw, we delivered 8% organic sales growth in the third quarter, which is stronger than we anticipated. And you may have seen Andrea, in our prepared remarks, there is about 2 points that were one-time in nature, and I'm happy to talk about those. But if I set those aside, we delivered about 6 points organic sales growth. If you look at our outlook for Q4, our full-year outlook, and you can back into it, we're projecting about 3% to 6% organic growth. I would say at the high end of that range, it would look very similar to how it did in Q3. We expect continued strong consumption. The business is performing well. I think the one watch out we have and you mentioned it is our Kingsford business. While we had very strong performance in the third quarter, Kingsford was one business that came in below our expectations. And you may have seen in our prepared remarks, we're seeing an increased level of competitive activity and we're not seeing competition move to the same degree we moved on pricing. That was one of the businesses we priced in December and we've seen price gaps widen, and as a result, we saw our shares decline in the third quarter. Now, the team with that in mind, they've gone back and adjusted their plans in Q4, so we're increasing our support for the business in the fourth quarter. But it's certainly something we're watching, and Andrea, you may know this business has an outsized impact on our fourth quarter. We do about 50% of our total sales in Kingsford that happened in the fourth quarter. So it's clearly something we're keeping a close eye on. We think we have good plans in place that we've adjusted to reflect what we learned in Q3, but we're watching that closely, particularly around the key holidays, and it's a little early to tell how Memorial Day or July 4 plays out. And I think if we have a good successful season, we'll be at the top end of that range, which is pretty consistent in Q3. But if it delivers below our expectations, I think that would be a reason why we'd be towards the lower end of the range for the fourth quarter.

Andrea, I'll take VMS. So as you're all aware, VMS is a small portion of our portfolio. It's about 3% of sales right now and has continued to face challenging market dynamics from a category perspective, what we're seeing coming out of COVID. And then, of course, we've highlighted the performance issues in that business. We've reassessed that business as it relates to the role it plays in our portfolio. As Kevin highlighted, we're seeing strong results across the majority of our businesses. And we think it's the right step now to look at resource allocation and allocate resources to businesses we think have higher growth potential and therefore making a bigger focus on profitability in the VMS business. And that's what the team will be laser-focused on moving forward. That includes, like I said, moving resources to businesses that have growth potential as well as continuing to narrow our focus on core brands. And we think that's the right role for the business moving forward. Given that, that's what triggered the non-cash impairment, but we feel like we have the right plans moving forward. And as it relates to our portfolio, we're always doing that work with our Board. We'll continue to do that. But right now, we're focused on driving more profitability in the VMS business as we own it today.

That's very helpful. If I can squeeze one question on, if I can, on the wipes business. It seems as if there wasn't any call out of it. It seems that has normalized. Any changes in potentially regaining some shelf space that was lost at the time given the private label taking more share and you didn't have enough capacity? How did that normalize? And anything in the dynamics of the timing of promotions, doing a club, or anything that you could call out that happened in the quarter?

Yeah. Certainly, for wipes, that was a business or one of the businesses most impacted by COVID. And as we noted, in Q3, we were lapping the Omicron variants and then began to get to a period where we're more normalized from a COVID perspective with wipes. But it definitely has been bumpy over the last few years as we've gone through that. But we've been very pleased with the performance in the wipes business. We've continually grown share quarter after quarter for the last well over 12 to 18 months now in wipes. We've regained significant distribution. Our merchandising plans, while lower than they were pre-pandemic, are stronger than they have been, and that's behind our ability to supply, and we are able to fully supply that business now. And we continue to see consumers turn to us in times of cold and flu. Even with a season that was moved up, we saw strong consumer reaction from a cold and flu perspective. So we feel good about the future of that business. We continue to have a good innovation pipeline. And if you look at our shares, they certainly support the fact that what we thought would happen with all the tertiary brands launched did as we return to strong share leadership and continue to grow that share position.

Very helpful. Thank you. I’ll pass it on.

Your next question will come from Peter Grom with UBS.

Thanks, operator, and good afternoon, everyone. So maybe just two questions on gross margin. Maybe one more near term and one looking at the longer term. So you've been making some nice sequential progress this year in Q3 of almost 42%, which is quite strong. But the guidance implies a step down in Q4. So I know there's a lot of noise. If I go back and look at gross margin progression, pre-pandemic, it's pretty rare that you see that sequential step down. So just any color on what may be driving that?

Hi, Peter. Yeah. Thanks for the question on gross margin. I would not look at it as stepping down in Q4. If I look at our Q3 performance, and as you mentioned, we delivered a 41.8%, there's about 1 point of benefit from the one-time items we highlighted. So if I set that aside, it's sort of on an ongoing basis, we're a little under 41%. If you look at our raised outlook for the full year, we're now looking at 38.5% to 39%. You can back into the fourth quarter and suggest we get to about 40% to 41%. So I would say our fourth quarter is very much in line with what we delivered in the third quarter if I just set aside the one-time benefit we had. And so we expect the good strong performance we delivered this quarter to continue into the fourth quarter.

That's really useful. Looking at the longer term, I understand the hesitance to set specific goals for when we might return to pre-pandemic profitability. However, based on the Q3 performance, the exit rate for Q4, and the general trends regarding inflation, it seems like we might be approaching that light at the end of the tunnel sooner than expected. I would appreciate your insights on margin recovery and whether it seems feasible to return to pre-pandemic levels as we look ahead to next year.

Yeah. Peter, as it relates to gross margin, Lynn and I remain committed to getting back to pre-pandemic levels; that work is well underway, and we intend to get there. I'm going to be cautious about providing an outlook for the fiscal year '24. We're still in the process of developing our plans, so it's a bit too early for that. But I would say at a high level, you should expect when you see our plans, it will be very much focused on the same priorities we've been driving this year. We're going to continue to drive top-line growth. We fully expect to continue to make progress expanding gross margins and rebuilding them. And then we'll continue to advance our strategic priorities. The challenge with the gross margin, I know there's a lot of interest in exactly when we get to pre-pandemic levels, is that on the elements we control, I feel good about the progress we're making, and we've talked a lot about those drivers. I would say those initiatives are primarily on track or exceeding our expectations. But the reality is there's a real impact from the areas we don't control, either supply chain disruptions or inflation. And as I said in the past, I really think that inflationary component will either accelerate or delay our time to recovery, depending on how that plays out over the next 12 months to 24 months. And I frankly don't think anyone's got a particularly good crystal ball right now to predict that. And so we're going to continue to focus on those things we can control. We're making really good progress. I expect that progress to continue in fiscal year '24. But I think it's a little premature for us to make an exact call on where we think we'll be by the end of '24.

Got it. Thanks so much. I’ll pass it on.

Yeah. Thanks, Peter.

Your next question will come from Anna Lizzul with Bank of America.

Hi. Thank you very much for the question. To continue the theme on gross margins. I did want to just follow up. Understanding that commodity costs are still a headwind, but directionally keep moving in a better direction and less of a drag on margins here. I mean do you see commodity costs largely stabilizing at this point into fiscal Q4? And then also, do you see a bigger benefit acknowledging that the mix and assortment on margins was a benefit in fiscal Q3, would you expect a bigger benefit on that in fiscal Q4?

Yeah. Thanks, Anna, for the question. As it relates to commodity inflation, it is still an inflationary environment. Now it is moderating that level of inflation. But to give you perspective, in Q1, we had 330 basis points of commodity inflation; in Q3, at 230 basis points. And so we've seen some moderation but still an inflationary environment. As we've said, resin is one product where we are seeing deflation. We've seen that for a good part of the year, but that's being more than offset by most of the other products we purchase. And so it continues to be inflationary. We had called about $400 million in total supply chain inflation, about half of that from commodities and half from other areas at the beginning of the year, and that still looks like the right call. We still expect about $400 million of inflation. And so I expect to exit this year still operating in an inflationary environment as it relates to commodities. Now as it relates to manufacturing and logistics, I'd say the one area we are starting to see prices come down year over year at least that's our expectations on transportation. It has stabilized in the third quarter. Our expectations in the fourth quarter, we'll start to see transportation on a year-over-year basis be lower. But keep in mind, when we talk logistics, there are really three pieces there. There's transportation, which I think is moving to a deflationary market as we're seeing less demand for goods and more trucks available. But that also includes warehousing and what we call our diesel surcharge, and we continue to see inflation in those other two elements. So logistics continue to be a headwind, but the transportation piece of logistics, we're starting to see that decline at least that's our expectation for the fourth quarter.

Okay. Thanks very much. And then just on the mix and assortment part of margins, are you expecting to see a better benefit from fiscal Q3 to fiscal Q4?

I don't. I mean, a little bit of the Q3 benefit in mix and assortment is our cleaning business, particularly wipes because we're lapping Omicron, our wipes business is down and bigly when you get to large multipacks. And so that was a benefit in the quarter, that I expect to get back down to a more normalized mix of our cleaning portfolio. I would not see that continuing in Q4.

Great. Thanks very much.

Thanks, Anna.

Your next question will come from Dara Mohsenian with Morgan Stanley.

Good afternoon, everyone. I wanted to revisit Peter's question regarding gross margins. From what I gathered, the high end of the full-year guidance seems to remain consistent in Q4 compared to adjusted Q3 figures. However, there's been notable sequential improvement in Q3 over Q2. As you pointed out, logistics are improving and some commodity costs should ease next quarter. So, I’d like to understand why we wouldn’t see a continuing trend of sequential improvement given the underlying basis of Q3 compared to Q2. Additionally, could you clarify which specific areas in Q3 performed better than your initial expectations versus where you faced challenges? Thank you.

Sure. Yeah. Thanks, Dara. As it relates to Q4, I'd say the one item I would add to your list and you're exactly right. We expect some moderation in cost inputs as we move from Q3 to Q4. The counterbalance of that is on pricing. We believe Q3 will be the strongest benefit from pricing. As we move into Q4, we're now lapping two price increases, the first two rounds we took. And so I would expect that we'll see less benefit from pricing in Q4, essentially offset by more moderating cost environment. So collectively, we get back to that 40, 41, which is fairly consistent with Q3, seeing a little less inflation and a little less benefit from pricing offsetting. And then as it relates to Q3, probably the biggest benefit above what we expected is volume deleveraging. We went into the quarter expecting based on elasticities that we would see volumes down in the mid-teens range. And as you saw, our volume was down about 11%. So that stronger top-line performance really drove through the entire P&L. We overdelivered on sales relative to our expectations, but it also contributed to a strong gross margin as well as EPS. So that was really the biggest change versus our expectations. And as I mentioned earlier, Peter, the cost inflation is generally in line with what we expected. That was true for Q3, and we still expect about $400 million of cost inflation for the full year.

Great. That's helpful. And then just on price gaps, you obviously talked about Kingsford, are the plans on Kingsford mainly to adjust promotional spending? Are there other plans as you think about managing that business, particularly heading into the peak season here? And can you discuss if you're comfortable with price gaps elsewhere across the portfolio or are you seeing anything worrisome elsewhere? Thanks.

Sure. I'll start with the portfolio and then get a little deeper on Kingsford. So from a price gap perspective, the pricing we took a few months ago went generally as expected. And we've seen pockets of price gaps. And frankly, we're still closing some of those, and we've adjusted some of our plans on the businesses where we've had issues. For the most part, our price gaps are in line with where we expected them to be. Kingsford, as you call out, is the biggest gap that we have right now, as competition did not follow that price increase in full. And that's one that we are making adjustments to our plan, and we have those already beginning to show up in the market in Q4. Part of that would be trade-related. We're ensuring we have the right merchandising plans to support the right price points, but we're also focused on market baskets with retailers, which is one of the biggest opportunities given the overall basket for the consumer in the grilling space is under pressure with protein prices being up and, of course, the rest of the things that go on the grill. So we're focused on supporting those enhanced merchandising plans, and we'll expect to see that play out as we head into Q4. That being said, though, we are laser-focused on any price gap issues that we have in pockets, and we have plans ready to adjust, and we will do that on select other areas of our portfolio where we continue to see gaps. But what I'd say is there's so much noise as prices fluctuate and as promotion starts to come back into the marketplace that we're being incredibly cautious to ensure that we have the right value for our brands and maintain that superior brand value with consumers without getting ahead of ourselves from a trade perspective. And I think that balance has been working, and we'll continue to do that in Q4 and beyond as we manage price gaps.

Great. That's helpful. Thanks.

Your next question will come from Filippo Falorni with Citi.

Hey. Good afternoon, guys. Question on pricing. You mentioned obviously in Q4, you're going to cycle some of the price increases from last year. You still have the December price increase flowing through. So can you give us a sense of magnitude or the sequential change in pricing that you're thinking for Q4? And then longer term, you've talked in the past about shifting from list price increases towards more price back capture. So can you give us a sense of the potential contribution from those initiatives as we look to fiscal '24 and beyond? Thank you.

Sure. Hi, Filippo. As it relates to Q4, I won't give a buy line forecast for the fourth quarter, but you should expect that the price benefit to margin we saw in Q3 is a high watermark this year. And then now as we really start lapping that second price increase, you'll start to see that pull back. I'd say more in the range, somewhere in the Q1 to Q2 range, generally in that area. So we'll see that start to step down. And that should continue to play out that way for the next three quarters until we fully lap the last round of pricing we took in December; it will continue to step down in value over time. And then your question on list price changes, I think you may have read in our prepared remarks, we do not have any additional large-scale pricing in our plans for the balance of this fiscal year. We will continue to work on price back architecture changes. And then we'll evaluate as we're developing our plans for '24. So we'll come back to you in August and we'll share more details about our plans about how much would be pricing and how we would execute that pricing; it's a little too early to have that conversation. What I would say, though, longer term, is I think as we get through this inflationary cycle and we get back to an appropriate level of margins, I would expect us to get back to a more normalized level of how we grow the top line, which is more volume-dependent, and we'll continue to focus on innovation, consumer trade-up, and some price back architecture be much more volume-driven than price-mix driven. And so I think you'll see that evolve over time. But we're still very much in the mode where it's being more driven by price mix, and I expect that to continue for another three quarters until we lap all this pricing.

Great. That’s helpful. Thank you.

Our next question will come from Lauren Lieberman with Barclays Capital.

Great. Thanks. Hi, everyone. In your prepared remarks, Linda, you mentioned that you've been satisfied with your market share performance, which is evident on a dollar basis. I was wondering how much you consider volume share and if it's a metric that you prioritize or focus on. I have a follow-up question related to that after I hear your response.

Sure, Lauren. So on share overall, we were happy to maintain share in aggregate, and we grew share in five of our nine businesses and continue to grow share in the growth markets around the world. That being said, of course, our goal is to grow share, and I've been transparent about that, that we're not satisfied in that zone, but we are really pleased to see, given the level of pricing that we've taken, that our shares have held up. And of course, we are talking about dollar share, and if you recall, earlier, we were growing volume share pretty steadily as pricing had fully taken hold in our categories, and that was something that we were looking at, too. So Lauren, we're balancing both of them. Our focus is usually on dollar share as the primary metric that we want to focus on. We think that conveys our overall superior value and how we think about consumers thinking about value in the category, and dollar share is a better representative of that. But again, we are watching volume and unit share to see how consumers are making decisions, etc. The good news is that because the categories have mainly moved in line with us with some exceptions, Kingsford being notably, you're seeing adjustments in volume share that in some places are larger, but most of the time in line and just have to do with normalizing price gaps. So we watch it; primary metric is dollar share. Happy to see where we are and happy to be growing in five of nine businesses, but the work is certainly not done yet.

Okay. Great. And then so when I was thinking about gross margin and Kevin had mentioned it briefly about the operating deleverage and it was better this quarter than expected, but it's still a headwind to gross margin. As you think forward, what should we be thinking about in terms of volumes? Stable at newer lower level, albeit given all the pricing? How should we think about where the business is geared to on an absolute volume performance basis such that if we're really talking about restoring gross margins versus pre-pandemic levels? We often be mindful of where volumes stand relative to that pre-pandemic period?

Lauren, I'd say a few things on volume. I think one thing that continues to benefit is, as you know, is we chose to use contract manufacturers, meaning that significant spike, so we did not overbuild our facilities. That allowed us to, as volume moderated, we were able to set those agreements down and not be left with a lot of unused capacity internally. And so I think that's benefited us. As I mentioned, I think to Filippo, as we move forward now, depending on where pricing goes in fiscal year '24, but given the pricing we've taken, I would expect price mix to continue to moderate and the volume declines to moderate as well as we cycle through this pricing. And so, as I said, short of any future pricing being taken, I think we've probably got three more quarters or so where we're seeing price/mix driving the top line to a greater extent than volume. But I think that will level and balance out as we look further out into our fiscal year '24. And so I think that's when we get to a more steady state of volume. And what we try to do is be thoughtful about ensuring we're building our manufacturing capacity to be in line with these plans and not getting ahead of ourselves. And so that's the work we've been doing with our supply chain team to try to make sure we don't end up in a position where once we get to the steady state, we've got too much capacity in our facilities. I think we're in pretty good shape, but that's something we continue to evaluate and continue to adjust our plans. But certainly, it's something we're keeping a close eye on.

Okay. Great. And then final question. I was just in the expenses excluded from earnings this quarter, and then the outlook set in the operating model changes that just things are moving more quickly, so higher expenses in this year, but no change to the overall program. But on the digital expenses, they are higher. And so you're now excluding, I think it's an additional $0.07 or something like that. So I'd just be curious if we could explain a little bit what the incremental? Is it just the estimated cost of the program has gone up? Is there an incremental savings? Just curious about that change.

Yeah. Sure. Thanks for the question. As it relates to our digital transformation, that program is very much on track. As you know, it's a five-year program, and we plan to spend $500 million; no change in our expectation. We are seeing a little bit of a shifting between years. This is the second year of the five-year program. We started the year out, expecting we'd spend about $150 million, $90 million of OpEx, about $60 million of CapEx, and that $90 million equates to about $0.55. We have now raised our total spending to about $160 million, so from $150 million to $160 million. And that's just a little bit of shift in timing between years. We're not changing the overall expected spend as a result of pulling a little bit of that forward into fiscal year '23. We've raised our expectation about $10 million, and that's that $0.07 you mentioned, Lauren.

Okay. Thank you so much. Sorry for all the questions.

Thanks, Lauren.

And our next question will come from Olivia Tong with Raymond James Financial.

Great. Thanks. Good morning. My first question is on advertising and your view on reinvestment levels, especially with A&P up pretty substantially in Q3. So we certainly saw some nice acceleration following the gross margin improvement. So just wondering on your views going forward if gross margin continues to recover ahead of your expectations, where do you think advertising goes? And then just a follow-up on that. This is the biggest increase in advertising margin on a year-over-year basis in quite a few years. So can you talk about where the incremental spend was and your view on the ability to generate the same level of ROI on that spend versus what you're going and expectations were?

Sure, Olivia. Advertising continues to be an incredibly important part of how we support the superior value of our brands. We believe fundamentally in it. And it's why we've done everything to continue to maintain spending at what we think is about the right level over a year, which is about 10% of sales, and we'll continue to be on track for doing that this year. As you noted, Q3 was significantly higher than other quarters, and that's given innovation that we launched and the timing of merchandising. Again, we don't manage quarter-to-quarter, but this was the right time to spend this money to support our brands. It coincides with having our fourth price increase in the market, which is good timing. We continue to believe that about 10% is the right spending, but we adjust that and look at that depending on what the businesses require. And we're not afraid to move or adjust that moving forward. But again, right now, about 10%, we're on track to do that for the year. And if you look at our ROI on marketing, it has been terrific and is another reason why we continue to feel strongly that that investment contributes to the value creation that we can get from our brands. Our focus, as you know, has been on improving our ROI given the fact that we are driving personalization. So we wanted to get to know 100 million consumers in the U.S. And what getting to know 100 million consumers does is it allows you to know them better and it allows you to personalize to them. We've had the added benefit of driving efficiency and effectiveness by doing that. So we're getting the right people, the right message at the right time and spending our money more effectively. And if you look across the advertising we said in our prepared remarks, that was more heavily concentrated in the U.S. where we had lots of good opportunities, and it was pretty widespread across our businesses. You saw the strength across all segments with organic sales growth across all four. And again, as we head into fiscal year '24, we'll let you know what we think the right level of advertising spending will be, and you can hear that our commitment to that as the way we create value remains steadfast.

Got it. That's helpful. And then I just have a few specific questions on Kingsford. If you could just remind us first where Kingsford margins stand relative to company average. And then obviously, a lot of pricing this quarter. How much of that pricing acceleration that you saw in Q3 was driven by Kingsford versus the other brands where you saw competition follow pricing?

Olivia, I'll answer on gross margin, and we don't provide gross margin at the individual brand level, but it's a nice profitable contributor to the company. And I'm sorry, can you repeat your second question? I'm not sure that was tracking.

Sure. Would you mind just giving us a sense in terms of Kingsford relative to company average then? And then also, how much of that pricing acceleration that you saw in Q3 was driven by Kingsford versus other brands where you did see the competition follow your pricing?

Yeah. On the margin, we don't share other than I'll just give you a direct message: it's a nice business for us, and so we're quite happy when we get increased sales in Kingsford. As it relates to pricing, I would say I'm not sure I fully understand your question. But I would say overall, Kingsford is not as large in Q3. Your question about how Kingsford usually contributed to pricing. As I mentioned earlier, we do about 50% of our sales in our fourth quarter on the Kingsford business, so it has a very outsized impact on the company. But in Q3, that's really early season for Kingsford. And so it's less meaningful in terms of the impact it has on our performance.

Got it. Thanks so much.

Your next question will come from Chris Carey with Wells Fargo.

Hi, everyone.

Hi, Chris.

So I'm just digesting a lot of the questions on this earnings call around sequential momentum in gross margin, which was great. It sounds like the underlying momentum will continue into Q4. I guess the question I want to ask is just philosophy on investment, right? Because if this gross margin trajectory continues and you don't materially step up spending, you're going to be looking at a very, very significant year of earnings growth in fiscal '24, right? And I know you're not going to comment on fiscal '24, but certainly, this is the reality when you flow through these gross margins to the model. And I think these questions on investment are well taken and where you want to spend. But if 10% of sales is the right number, then it would imply that you're going to be spending an enormous amount on S&A? And I guess, just maybe help us understand where the types of areas where you might want to lean in if you're now clearly over delivering on the gross margin line? If not in advertising, are there areas of SG&A that you felt like have been underinvested in that you have an opportunity over the next four to six quarters as if you look at the normalization of the P&L over the next couple of years? And just connected to that, there's been this target of 13% estimate as a percentage of sales out there. Is that still a relevant target over the near to medium term? Thanks, Rendle.

Sure, Chris. I'll start and then see if Kevin has anything to add afterward. Taking a step back, we've been discussing the balance we aim to achieve between sustaining top-line growth and improving margins while navigating the highly volatile and uncertain environment. We're actively pursuing actions we can control to support both objectives, and we are pleased with our progress in both areas. Our growth metrics, when analyzed over a three-year quarterly average, indicate that we are at the upper range of our growth targets, and we are also seeing improvements in margins. Kevin mentioned that the third quarter's performance was positively influenced by less than anticipated deleveraging, and we're pleased with the margin outcomes. However, we shouldn't expect anything extraordinary in the fourth quarter. While we are not providing a fiscal year 2024 outlook, I want to share our thoughts on the current environment. We plan to maintain the balance between growth and margin enhancement, recognizing that rebuilding margins is a multi-year effort. The consumer uncertainty in 2024 is likely to remain significant, making it hard to predict the inflationary landscape or the timing of a potential recession and its impacts on consumers. They may face increasing pressure. We view this quarter as a positive one and will continue to manage what we can control into fiscal year 2024. We're also focused on making the right investments, including in advertising and innovation, which are crucial to our strategy, and we have solid capital plans in place. We'll evaluate all these factors closely in 2024 to ensure we make informed decisions. We're willing to invest as needed to support both top-line growth and margin recovery. We'll provide more details in August about what this means for 2024, but we are committed to margin growth and maintaining top-line performance while making necessary adjustments at an appropriate pace.

Thank you for that. I just wanted to follow up on Olivia's question. My understanding is whether Kingsford had an unusual impact on pricing in Q3, and if that relates to what we can expect in Q4. I wasn't entirely sure if that's what you meant, but I wanted to clarify. Thank you.

Yes. Chris, on pricing, as I think you may recall, we took pricing pretty broadly across our portfolio in December. So Kingsford was one of a number of brands repriced. As I said, Kingsford did not have an outsized impact and because it is low season, it had fairly small impact. So I don't expect to see any meaningful change in Q4 as it relates to the pricing we took and specifically what Kingsford contributed to that pricing overall because, again, pricing is just one brand and we priced a good portion of our portfolio in December.

Okay. Thanks so much.

Yeah. Thanks so much.

Your next question will come from Javier Escalante with Evercore ISI.

Hi. Good afternoon, everyone. My question has to do with SG&A, and if you could, first, operationally, tell us what you have accomplished on this digital investment that you are making financially is $0.63. It's been excluded from consensus, and what is reasonable to think as recurring cost going into fiscal '24?

Hi, Javier. I'll start just with a reminder of what our digital program entails and how we're thinking about it. We're investing, as you know, $500 million to transform our company digitally. And this, of course, is putting in the right technologies, including a new ERP, but it really is around changing the processes and the work that everyone at Clorox does to be faster and simpler. We see this supporting both our top-line momentum as we put in place innovation capabilities, better access to consumer data to drive insights and speed of decision-making as well as efficiencies as we have the ability to look across our supply chain and make decisions that reduce costs. This investment is on track. I think Kevin highlighted that to begin with. We'll see differences year-to-year. We're in the second year of the program, but the team continues to be on track implementing against that. What we've said is most of the investment is upfront, but you get the majority of the benefit as you start to exit our IGNITE strategy or in 2025. That's because you're putting all of those capabilities and technologies in place and changing how the entire company works and operates. We continue to be on track for that. This is a very high-return project for us. When Kevin and I evaluated this, we looked at the return and we track that project by project to ensure we're getting that return, and we continue to be on track to deliver good value on this over the long term. As it comes to specifics, we talked about in our release that we are about to implement the first region of our ERP coming up in this calendar year. That is on track as well as some of the other technology improvements that we've made. And of course, we have paired that with an operating model change that is also on track and in fact, a little bit ahead from a cost savings perspective this year as we were able to implement some of those changes faster. But those two things in combination are really about being fast, simple, and a more cost-effective company that we want to be and to develop the type of resiliency and strength we can to weather whatever comes our way, another pandemic or whatever else the macroeconomic or geopolitical environment throws our way.

So just to clarify, there is no recurring cost associated with the $0.63 in digital spending that you are making in fiscal '23?

Sure. Hi, Javier. As it relates to the spending, what will happen is the $500 million is the cost, the investment to put these new systems in place. I think through the end of this year, we'll be a little less than halfway through that spend. So it will be somewhere around $230 million, $240 million. And then that will continue as we complete the program over the next three years. That's the one-time investment with this in place. There are ongoing maintenance costs, which we have in our legacy systems now; when those shut off, there will be ongoing maintenance costs for a cloud-based system that we'll continue to pay. But the $500 million is the cost of the investment in this technology to get it put in place.

That's very helpful. And if you change topics, if you can comment on underlying category growth on a volume basis so we can compare it versus your 11% decline now that Omicron is behind us? And if you can give that assessment of volume category growth when it comes to your household penetration, Clorox products versus 2019? Thank you very much.

As you would expect, given the elasticities of what we spoke about and the fact that our pricing is generally in line with category pricing, category volumes were down, and we've absolutely expected that to be the case. If you look at dollar sales, high single digits in our categories, which continues to show the strength and resilience of the consumer in our categories. Given we compete in Essentials, this is something that we expected. We're watching really closely as the consumer continues to react to pricing and as they react to the macroeconomic environment. But right now, we feel good about the category position that we're in and consumer response to pricing. Generally, we would expect over time, as we begin to lap category pricing, we'd see category volumes return and get to that place where you see low single-digit growth in our categories from a volume perspective over time. We are certainly not at that point right now. as we have nine more months to lap pricing. And then, of course, we'll see what plays out from a commodity perspective and any required pricing that happens in the future that would also impact that. The only other thing that I would say as it relates to pricing and you think about volumes. We're not seeing that type of trade-down either as it relates to consumers making choices for private label, etc. That's been pretty steady. As we highlighted earlier, our shares in aggregate are flat. We grew in five of nine categories. We have seen private label increase share a bit in some of our categories, but it's not coming from us. It looks like it's coming from other brands, and there is a simplifying of the category, and it all relates to the value that we offer consumers; 76% of our portfolio is still deemed secure by consumers. We've continued to invest in that. So volume is what we expect in the categories. And again, we expect that to bounce back over time as we continue to invest in innovation and advertising and in category growth plans with our retailers.

And the household penetration statistics, do you have them?

Sure. Yeah. On Household penetration is still very high for the Clorox portfolio. We're still in about nine out of 10 homes, and as we spoke about last quarter, household penetration is something we expect to decline in a time when you take extraordinary pricing. But that's not a clock phenomenon. It is a category phenomenon. What you see is people using those more price-sensitive behaviors. They're letting a trash bag fill longer. They're stretching their time in between cleanings; they're doing those things to make their wallet stretch, and that results in usually category penetration declining, and we are seeing that. What I would say, though, is we see no difference in our brands versus the category, and we would expect over time to rebuild category penetration as we rebuild volumes.

That’s all for me. Thank you very much. Very helpful.

Thanks, Javier.

We'll hear next from Steve Powers with Deutsche Bank.

Thank you very much. That’s a good lead-in. I wanted to revisit the discussion about household penetration. Last quarter, we mentioned it, and the context was that you aimed to rebuild household penetration throughout 2024, focusing on the long term as well. In response to Lauren's earlier question about volume growth, Kevin, I believe you highlighted the stabilization of volumes. I want to connect these two topics to ensure I have the correct understanding. If we are indeed rebuilding household penetration in 2024, it suggests positive volume growth, but you stressed that the volumes are stabilizing. I know this might seem like a fine distinction, but I'm trying to grasp your perspective. Perhaps it’s a progression throughout 2024, so I leave with the right impression. Thank you.

Yeah, Steve. Thanks for the question. As it relates to volumes, I think for the next three quarters, given that the pricing we just took in December, we would expect to see volumes decline and view grow top line based on price mix as we get past that pricing and assume we don't have any other large-scale pricing in our plan. Then I think the balances start switching. As we target that 3% to 5% top line growth, you're driving that more through volume versus price mix. So then I think it reverses; volume starts to be the primary driver of our top line, supplemented with our innovation and trading consumers up, but more volume driven as we target 3% to 5% over the long term. But I think we’re probably still a number of quarters away before we get to that more stable environment. We’ll return to a more traditional model of top line being driven more by volume and price mix.

Okay. Thank you very much.

Yeah. Thanks, Steve.

Your next question will come from Jason English with Goldman Sachs.

Hey. Good afternoon, folks. Thanks for sorting me in. A couple of questions. Let's start with maybe the trade-down. To Lauren's question earlier, you're clearly losing some volume share in a number of categories. You're seeing usage occasions like they're not going through cheaper products; their trade down. Where are you seeing those lost usage occasions out of your brand? Like, where is it going, if it's not going to trade down?

Yeah, Jason. It's very dependent on category, the consumer behavior. But what I would say is we noticed big buckets of the following: First, we see consumers trading to larger sizes, and they're looking for the best cost per use, for example. We also see certain consumers trading down to lower sizes because they're looking for the lowest out-of-pocket price point, and they're willing to pay on a higher per-use basis because they only have a certain amount of money to get them through their shopping cycle for that period of time. We're also seeing people trade within our portfolio, for example, so where somebody might use a more expensive cleaner, they are using a dilutable cleaner or a bleach cleaner and willing to put more elbow grease in to get that same amount of clean and trade off that pricing convenience. And then we're seeing behaviors, and this is really consistent across the category, where people are just trying to stretch something more. So they're getting every last spray out of a bottle. They are using a wipe longer; they're stuffing a trash bag, and that's pretty consistent across the category. But really, those three buckets are the most significant as we see people trade into different sizes and then, of course, adjust their behavior. The good news for us is, in many cases, we're able to capture that consumer because we offer different levels of convenience, for example, in our cleaning business.

Okay. Kevin, you mentioned a few one-time benefits this quarter. Can you remind me what they were and provide some numbers? Also, regarding adjusted gross profit, we’re all using pre-COVID as a benchmark. When you talked about recovering margins, I noticed that your adjusted gross profit was up 19% compared to Q3 2019, along with cumulative volume growth of three, indicating that unit economics are significantly better—up about 15.5% since before COVID. In light of Chris' question, what’s the reason for this? It looks like you're on track to exceed $3.2 billion or $3.3 billion in gross profit next year at this rate. Is there anything unusual happening, or are your unit economics simply that much improved, allowing for this kind of growth?

Yeah, Jason. The two questions. I think the first question you had was on-time benefits in the quarter. We had two. The first one was on trade spending. We have a normal process at the end of the second quarter. We evaluate our trade spending accrual. In this case, we're not seeing the promotional environment increase at the rate we expected. So we reduced our trade spending accrual. That was a one-time benefit in the quarter. And then the other one-time benefit was one of our competitors had an out of stock in our dilutable category. And so our Pine Saw business saw pretty nice performance, double-digit growth as a result of that out of stock. Now the combination is back on shelves, so we don't expect that to continue, back to a more normalized level of competition. So those two items are the ones we highlighted as fairly unique for the quarter that we don't expect to continue into Q4. That generated about 2 points of top-line benefit and about 100 basis points of margin benefit for the quarter. And then, on unit economics, yes, we're in maintaining rebuilding gross margins, and we are going to be. We expect to be a much larger company than we were before the pandemic. We went into the pandemic with a little over $6 billion in sales. As you know, we're seeing a little over $7 billion right now; so you would expect gross profit to be higher because as we rebuild gross margins, and we are a bigger company that will generate more gross profit. So ultimately, we expect that to occur as we rebuild margins over time. But as Linda said, we think that's a multiyear journey to get there. We'll have to see how much progress we make in '24; we're developing those plans right now. But that is certainly our intent to rebuild gross margin and have the results or the impact of gross profit as it relates to a larger company.

Okay. Yeah. It sounds like this is a good benchmark. It's a run rate then. Thank you. I'll pass it on.

Thanks, Jason.

And your next question will come from Kevin Grundy with Jefferies.

Great. Thanks. Good afternoon. A couple for me, a cleanup on the SG&A, Kevin. I apologize if I missed this. It looks like your SG&A on an underlying basis, ex the digital, moved up about 50 basis points from your prior guidance. What's driving that?

In Q3, we saw a little over 16%. There were a few factors contributing to this. The digital transformation accounted for about 150 basis points, while adjustments to our operating model contributed approximately 40 basis points. Some of these restructuring costs were reflected in SG&A, and part of it is in Link, which is why you see some impact in SG&A. Additionally, we anticipate higher incentive compensation due to our strong pay-for-performance philosophy. Since we have raised our goals for the year, we expect our incentive compensation to increase accordingly. As a result, we adjusted our expectations from 15% to 16% last quarter, and we are now looking at a closer approximation of 16% for the year.

Got it. A couple more for me real quick. Just to walk from like the 14.5% this year to 13% ambition longer-term understanding it's going to take some time to get there. But sort of broad brush strokes, what gets you from 14.5% this year to 13.5% over a reasonable amount of time?

Yeah. I would say one is, if you just get to a normalized level of incentive compensation, it's going to be above target is our expectation this year. But if you just go back to a target payout, you pick up 40 to 50 bps there. And then our expectation, you start looking at the operating model we talked about, so $75 million to $100 million. We're going to generate about $35 million of our expectation this year, but that's a nice contributor as you look at '24 and beyond. And then you start getting the benefits from our digital transformation. We're still very early in that process. But over time, as we bring a new technology online, we're going to see more productivity opportunities. And so collectively, when you look at all that together, that's the path for how we believe we get to 13% as we look forward over the next several years.

Thank you, Kevin. I have a quick follow-up. I wanted to ask about trade promotion, which came up at the end of your response. From our perspective, it's difficult to evaluate the impact of the decision to reduce the accrual. However, I believe everyone on the call shares the view that promotion levels are likely to increase, especially in your categories. So, I have a question for both of you. Linda, how are you considering freight promotion risk? Are those discussions already underway? Are retailers beginning to exert pressure due to the current situation with resin and inflation, as well as the changes in gross margin? Are you feeling more pressure on that front? Kevin, could you also comment on the choice to reduce the trade accrual, given that trade promotion is expected to rise over the next year? Thank you.

Sure, Kevin. We're continuing to see the promotional environment normalize. The dynamic that happened is we expect the promotional environment to increase this quarter but did not increase as much as we expected. Part of that is a dynamic, and then Kevin can talk about the accrual as it relates to that. As we look just broader, though, in the environment on promotion, that stays a very specific role for our categories. We talked about in the past that more than 90% of our business is done off the shelf with no pricing discount, and promotion plays a role to ensure that we talk to consumers about innovation. We talked to them around key holidays and pulse points where consumers are looking, for example, back to school or back to college or around cold and flu. We use that to ensure that we're speaking to consumers about our products, the values they offer and new innovation. That continues to be the focus that we have on the promotional environment, and those are the discussions we continue to have with retailers. We're not afraid to use promotional dollars if we have price gaps that we need to adjust on a temporary basis, and we will do that. We are doing that right now as we have a couple of price gaps that are out of line that we spoke to earlier. But generally, promotion continues to be a strategic investment lever for us to ensure that we're in front of the consumer when we need to be and when it matters from an innovation and pulse-point perspective.

And then I would just add as it relates to the trade accrual specifically, and Linda said it well, which is it's not that we expect tradesmen to go down. It's just not growing at the rate we expected. Before the pandemic, about 25% of our product was sold in some form of promotion. In our most recent quarter it's at 20%. If I look at Q3 a year ago, it was at 19%. So it is increasing. We expect that to get back to more of that pre-pandemic level faster. The reduction in accrual is just recognizing it's not as growing as fast as we had anticipated, but we do expect to continue to increase.

Understood. Thank you, both. I appreciate it. Good luck.

Thanks, Kevin.

That concludes the question-and-answer session. Ms. Rendle, I'd now like to turn the program back to you.

Thank you, everyone. We look forward to speaking with you again on our next call in August. And until then, please stay well.

And this concludes today's conference call. Thank you for attending.