Earnings Call Transcript - CNM Q2 2021

Operator, Operator

Hello, and welcome to the Core & Main Q2 2021 Earnings Call. My name is Charlie and I will be coordinating your call today. I will now hand you over to your host, Robyn Bradbury, from Core & Main to begin. Robyn, please go ahead.

Robyn Bradbury, Vice President of Investor Relations and FP&A

Thank you. Good morning and welcome to the Core & Main fiscal 2021 second-quarter earnings call. This is Robyn Bradbury, Vice President of Investor Relations and FP&A for Core & Main. Thank you for joining us this morning for our first earnings call as a public company. We are excited to share our results with you. Steve LeClair, our Chief Executive Officer, will lead today's call with a company overview and highlights from our second-quarter execution. Mark Witkowski, our Chief Financial Officer, will then discuss our financial results for the second quarter and provide an outlook for the second half, followed by a Q&A session. We will conclude with Steve's closing remarks. For Q&A, please limit yourself to one question and one follow-up. Thank you for your cooperation. Some of the information shared today may include forward-looking statements regarding our intentions, beliefs, assumptions, or current expectations about our financial position, operations, cash flows, prospects, or growth strategies. These statements are subject to known and unknown risks and uncertainties, many of which may be beyond our control. We caution that forward-looking

Steve LeClair, Chief Executive Officer

Thank you, Robyn. Good morning, everyone. Thank you for joining us today and welcome to our fiscal 2021 second-quarter earnings call, our first earnings call as a publicly traded company. This is an exciting milestone for our Company and I'm very pleased to be sharing it with you. I will begin today's call with a brief overview of our business and industry. I will then cover our key growth drivers and acquisition strategy followed by a review of our ESG characteristics. I will end by discussing our second-quarter execution highlights before turning the call over to our Chief Financial Officer, Mark Witkowski, to discuss our fiscal 2021 second-quarter financial results and second-half outlook. I will start on Page 5 of the presentation with a brief overview of Core & Main. Core & Main is a leading specialty distributor of water, wastewater, storm drainage and fire protection products and related services serving municipalities, private water companies and professional contractors across municipal, non-residential and residential end markets nationwide. Our specialty products and services are used in the maintenance, repair, replacement and construction of water and fire protection infrastructure. We are one of only two national distributors operating across large and highly fragmented markets, which we estimate to be approximately $27 billion in size. With more than 285 branches across the U.S., we serve as a critical link between over 4,500 suppliers and a diverse and long-standing base of over 60,000 customers. We have diversified end market exposure with an estimated 45% municipal, 37% non-residential and 18% residential end market mix in fiscal year 2020. Furthermore, we had near equal exposure to construction on new projects and existing repair and replacement projects in fiscal year 2020. On Page 6 we provide an overview of our broad product offering and service offering. We offer a comprehensive portfolio of over 200,000 SKUs covering a full spectrum of specialized products. At the core of our business are the pipes, valves and fittings which are the fundamental building blocks for underground water infrastructure and water treatment plants. Aboveground and in many types of structures you will see our fire protection line. Fire protection infrastructure requires not only a specialized set of products, including sprinklers and valves, but also the ability to fabricate and assemble sprinkler systems and their components. We are a national distributor of smart water meters which brings significant environmental and economic benefits to municipalities. And also provide a variety of value-added services including not only product management, installation, hardware and software, but also lifelong meter system management. We are also a national provider of storm drainage and geosynthetics and erosion control solutions, which are growing in importance due to the recent impacts of climate change and increased natural flooding disasters. On Page 7 we show the strong value proposition we offer to both our customers and our suppliers. We are a trusted source to our customers because of our operational excellence across a broad offering of products and services. We take a consultative sales approach, leveraging our deep understanding of local specifications to help design material project plans and offer key value-added services throughout the life of the project. Our role as a national distributor is more than just supplying products. We have access to a broad product offering and have the ability to secure products for any job and in any environment for our customers. Paired with our national branch network we also offer complementary value-added services that are key to our value proposition which we believe differentiate us from our competitors. We have long-standing relationships with our suppliers and, in many cases, we benefit from favorable purchasing arrangements and preferred or exclusive access to products, especially during periods of material shortages. Our geographic footprint and reach to local communities is essential to our suppliers because we have a highly developed understanding of the market, the customer base and the growth opportunities. We believe we have the ability and expertise to drive the adoption of new products and technologies and offer the logistics of last mile delivery and customer support. We have a large and highly trained sales force with the ability to reach our highly fragmented customer base. On Page 8 we outline the levers that enable us to drive sustainable growth. Over the past few years we have invested in people and capabilities to strengthen our ability to drive growth. As we look ahead we see multiple avenues to continue pursuing. First, we see beneficial industry trends supported by secular growth drivers. The traditionally stable municipal end market is poised to accelerate, but additional spending is necessary to address historical underinvestment and support population growth. Residential construction is currently surging due to population growth, demographic population shifts, low housing inventory and record low interest rates. With the surge in residential construction comes a long tail of rejuvenated non-residential investment as communities expand and demand increases for our waterworks, storm drainage and fire protection products. We believe we are at the beginning of a new non-residential construction cycle and see favorable tailwinds ahead, particularly in verticals such as commercial and institutional buildings, data centers and warehousing development projects. We have several organic growth levers. We have demonstrated that we can grow faster than our underlying addressable market. We believe our competitive advantages allow us to continue to gain share at the local level. With only 14% share across an estimated $27 billion addressable market, we still have significant opportunity to grow. We continue to drive organic expansion to under-penetrated geographies through new greenfield locations. We have meaningful runway to increase penetration with strategic accounts. We have a specialized team focused on serving strategic accounts which include large private water companies and national contractors. We believe we are better positioned than ever to serve these national customers on larger projects requiring dedicated sales personnel, greater technical expertise and more complex specialized procurement needs. Our size and scale positions us to continue to accelerate the adoption of products in our industry such as smart meters, usable HDPE technology, geosynthetics and erosion control solutions and a number of other developing product categories. Acquisitions are another key component of our growth strategy. We have a long runway to consolidate our fragmented industry. Our focus includes consolidation of existing market positions, new geographies and expansion into product categories where we are clearly under-penetrated. I'll discuss our acquisition strategy in more detail in the coming slides. Finally, we have identified a long list of opportunities to enhance gross margins, including private label through global sourcing and pricing and procurement initiatives. As of fiscal year 2020, private label made up roughly 1% of our total product expenditures. We believe that we have an opportunity to transition several hundred million dollars' worth of ancillary spend to be internally sourced, but we have no intention of transitioning highly specified products into private label or disrupting any products from our top tier supplier partners. We have recently built a team of pricing analysts who have been able to enhance pricing product margins using data to drive pricing decisions and by proactively updating price increases to increase pricing visibility to our branch network. Additionally, our category management team has opportunities to continue shifting spend to suppliers with the best pricing and payment programs in order to optimize gross margins. We are in the early innings of executing on many of these initiatives and see a long runway of opportunity ahead. On Page 9 we provide a timeline of our recent acquisitions. We have a strong track record of acquiring and integrating businesses and we continue to cultivate a robust pipeline of targets for the short and long term. We have executed and integrated 14 acquisitions since becoming an independent company in 2017, adding more than $630 million in aggregate historical annual net sales, including 2 recent deals that closed subsequent to the second quarter which I will discuss in more detail shortly. We have a refined process of identifying attractive bolt-on targets and we are well-positioned to source, acquire and integrate new businesses. We believe we are widely viewed as an acquirer of choice due to our long-standing relationships and entrepreneurial culture and our investment in the development of our people. We seek to generate margin improvement in synergy value from our acquisitions through purchasing capabilities, fixed cost reduction and the use of our scalable IT platforms which drive operational efficiencies at our branches. Our industry is large and highly fragmented. As we look ahead we see a runway for growth through M&A. We maintain a very robust pipeline of future acquisitions which we pursue through our disciplined approach. We prioritize complementary businesses that help us consolidate existing market positions, expand into new geographic areas, acquire key talent and offer new products. On Page 10 we show our newest acquisitions, L&M Bag and Supply and Pacific Pipe. The Pacific Pipe acquisition highlights our focus on expanding into underserved geographies. Pacific Pipe is a significant player in modernizing and expanding water infrastructure in Hawaii, a state we had no presence in previously. Pacific Pipe has been in operation since 2011, serving municipalities and contractors in the water, wastewater, storm drainage and irrigation industries with a broad waterworks product offering. Pacific Pipe operates four locations spanning the islands of Hawaii, Maui and Oahu. The L&M Bag and Supply acquisitions highlight our focus on expanding our presence in under-penetrated product categories. It provides a sizable growth opportunity in the large and fragmented geosynthetics and erosion control market, which we estimate to be roughly $5 billion in size. Over the three decades L&M has built itself into one of the nation's leading suppliers of geosynthetics and erosion control products. By joining our teams together, we will expand our expertise to better serve our customers nationwide and have a larger reach of our products and services with a dedicated team of specialists serving the rapidly growing and highly specialized geosynthetics and erosion control market. Annual net sales for Pacific Pipe and L&M Bag and Supply for the fiscal year ended December 31, 2020, were roughly $70 million and $60 million, respectively and both acquisitions will be incremental to our sales and earnings growth for the majority of the second half of fiscal 2021. Turning to Page 11 we share our ESG characteristics. ESG is core to our business model. Our Company and our people are committed to the provision of safe and sustainable water infrastructure throughout the United States. Preserving the earth's most valuable resource and providing clean and safe water to our communities are the core of what we do. Our product and services are integral to building, repairing and maintaining essential water, wastewater, storm drainage and fire protection systems. Water is a finite resource and community water supply challenges, including natural flooding, contamination and drought, continue to increase in severity. We partner with our customers to help ensure water resources and facilities are available to meet each local community's short and long-term needs. We believe our investment in our people through award-winning training and career development is a true differentiator for us. We are proud we have seasoned experts who are preparing the industry of leaders for tomorrow to continue our tradition of local experts nationwide. We are deeply committed to our communities and our associates. Our non-rural ESG report that was published last fall has become a critical piece of communication with all of our stakeholders. We believe our focus on ESG matters and sustainability will benefit our business by enhancing our relationships with our associates, our customers, our suppliers and the communities in which we operate. We will continue to focus on this area enhance our communication reporting around ESG over time. With that, I will now cover our second quarter execution highlights on Page 12 of the presentation. During and subsequent to the second quarter, we successfully completed our initial public offering of approximately 40 million shares of Class A common stock, generating gross proceeds of approximately $800 million, including the full exercise of the underwriter's overallotment option. We used the proceeds from the offering to deleverage the balance sheet, positioning us with greater financial flexibility to pursue our growth strategies. While the IPO was a great milestone for us, we remain focused on driving solid business results in a very dynamic environment. In the second quarter we delivered record net sales of nearly $1.3 billion, growing nearly 36% over the prior year period and record adjusted EBITDA of $155 million, which was nearly 57% over the prior year period. We continue to expand our market share and improve our profitability through the execution of our sales and margin initiatives while using our leadership position in the industry to gain access to hard-to-find products for our customers and purchase opportunistically ahead of announced product cost increases to expand our gross margins. Earlier this year, PVC resin manufacturers declared force majeure due to raw material shortages stemming from plant closures as a result of unprecedented winter weather in Texas and Louisiana. It was the second force majeure on PVC resin in less than 6 months and the ripple effects were felt across the entire supply chain. Industry wide PVC manufacturing capacity and inventories declined while demand strengthened, which pushed PVC pipe prices to an all-time high. In recent months, PVC pipe manufacturing returned to full capacity and our PVC suppliers have been working to rebuild inventory. Demand has continued to be strong and prices rose through the second quarter. The impact of Hurricane Ida is still not fully known, but we expect that it will likely further impact availability of PVC products and keep prices at or above those we have experienced so far this year. On a smaller scale but growing in significance, we are also experiencing supply chain impacts in other product categories due to unprecedented demand, constrained manufacturing capacity, container shortages, port issues and semiconductor chip shortages. A portion of our smart metering products have chip components that are in short supply and that has impacted our ability to satisfy all the customer demand. Some of our suppliers import raw materials or finished products and we're beginning to see an impact to the cost and supply of those products due to the declining availability and rising costs of import shipping containers. We are also seeing some deferral of shipments as a result of constrained labor capacity across the industry from our suppliers to our customers. Despite these notable challenges our teams have navigated the environment well. Given our long-term relationships with our suppliers and our leadership in the industry, we are often able to gain preferred access to products during periods of material shortages and provide reliable service to our customers nationwide. Through coordinated efforts with our branches and leadership team, we believe we have gained market share by successfully mitigating the impacts of these supply chain events by ensuring access to products and providing advanced notice of cost increases and reliable information on product availability to our customers. I'm incredibly proud of the dedication of our customers and suppliers during this challenging environment. More than ever we've served as logistic experts for our customers, helping them find and source products during a period of unprecedented pricing increases and product shortages, while providing credible market information to our suppliers regarding demand to assist them with production planning. As previously mentioned, we continued to execute on our growth strategy by announcing two new acquisitions during the quarter, L&M Bag and Supply and Pacific Pipe Company, both of which closed subsequent to the quarter. We continue to closely monitor the impacts of COVID-19 and the variants that have surfaced across the country. Throughout the pandemic we continued to operate as an essential business, providing our customers with the products and services necessary to maintain and improve our nation's water infrastructure. At the beginning of the pandemic we put policies and business continuity plans in place to protect our associates, customers and suppliers. Our teams remained agile and have quickly adapted to new protocols while increasing efficiency throughout the process. As vaccines rolled out en masse and as cities began loosening restrictions, we also began easing certain COVID-19 protocols while still keeping safety our number one priority. We are committed to keeping our associates, customers and suppliers safe while continuing to keep all of our branches open. Subsequent to the end of the quarter the Senate passed the bipartisan $1 trillion Invest in America Act, the largest long-term federal investment in our nation's infrastructure in nearly a century. Among other things, the plan makes transformational and historic investments in clean water infrastructure, an infrastructure that provides resilience to the changing climate. While it's still uncertain if or when the bill will be signed into law, and when the funds will start making their way into our end markets, a direct infusion of federal funds for water, wastewater and storm drainage infrastructure has immense implications to accelerate repair and replacement activity. We believe we are well-positioned to capitalize on any favorable tailwinds created by the additional investment. However, we are well-positioned to continue to grow even without this potential infusion of funds. I will now turn the call over to our Chief Financial Officer, Mark Witkowski, to discuss our fiscal 2021 second-quarter financial results and second-half outlook.

Mark Witkowski, Chief Financial Officer

Thank you, Steve. Good morning, everyone. Turning to Page 14, I'll begin by covering our second-quarter operating results. Net sales in the second quarter were nearly $1.3 billion, an increase of approximately 36% over the prior year period. The increase was driven by volume gains and higher average selling prices relative to the prior year period. Our sales benefited from demand across each of our end markets. Residential construction has continued to benefit from strong housing demand and live development. The municipal end markets have started to see an acceleration of growth. Our non-residential end market, which contains a mix of project types ranging from commercial buildings to roads and bridges, saw varying results but overall experienced positive volume growth in the quarter. Our execution of sales initiatives and our leadership position in our industry has allowed us to outperform our end markets and deliver solid core share gains by ensuring our customers have access to the products where and when they needed them. We believe roughly half of our net sales increase for the quarter was due to price inflation, which was much higher than expected and driven by our team's ability to efficiently pass through rising material costs. We experienced rapidly rising material costs on PVC pipe, in addition to many other product lines, but to a lesser extent than PVC. Our teams have done a fantastic job navigating the inflationary environment and working closely with our customers to give them advanced notice of these market price increases. Pipe valves and fitting sales increased nearly 43% compared to the prior year period due to the mix of strong volume gains and price inflation from rising material costs. The same factors drove growth in our storm drainage and fire protection product lines, which were up 21% and 37%, respectively, compared to the prior year period. Our metering product line grew by 9% compared with the prior year period. Metering growth was tempered by the global semiconductor chip shortage, which is a necessary component in certain smart metering devices. Gross profit in the second quarter increased 41% to $325 million. Gross profit as a percentage of sales was 25.1% compared with 24.1% in the prior year period, an improvement of approximately 100 basis points. The increase in gross profit percent was primarily due to improvements in product sourcing and pricing. Given our scale we've been able to make opportunistic inventory purchases ahead of announced price increases, which has helped slow the growth of the net cost of our products during an inflationary period. We believe our initiatives to give better visibility to these cost increases from our vendors to our field teams has resulted in gross margin enhancement. We also continued to make progress on our private label initiative and doubled the amount of internally sourced products relative to the same quarter last year. Selling, general and administrative expenses for the second quarter increased 40% to $192 million. The increase was primarily attributable to an increase in personnel expenses driven by higher variable incentive compensation resulting from higher sales volume and stronger profitability. In addition, we experienced higher headcount and discretionary expenses due to furloughs and spending reductions in the response to COVID-19 in the prior year period. SG&A expenses also increased by $17 million relating to higher equity-based compensation expense due to accounting for equity awards and $1.3 million related to costs associated with the initial public offering. As a result of our debt refinancing, we recognized a net loss on debt modification on extinguishment during the quarter of $50.4 million. This amount consisted of early redemption premiums, deferred financing fee write-offs, settlement of our cash flow interest rate swap instrument and non-capitalized third-party fees. Annual interest expense savings as a result of the debt refinancing is expected to be roughly $85 million. Adjusted EBITDA grew 57% to $155 million, improving adjusted EBITDA margin by approximately 160 basis points. The increase in adjusted EBITDA margin was due to strong net sales growth, gross margin rate expansion and leveraging our fixed cost structure on the sales growth. Adjusted net income increased 215% to $61 million. The increase was due to strong sales growth and gross margin rate expansion, partially offset by higher SG&A expenses primarily attributable to higher variable compensation costs during the period. In preparing adjusted net income we exclude the effects of non-controlling interest as we evaluate and manage the business as a whole. For a reconciliation of net income to adjusted net income refer to the slides in the appendix of the presentation. On Page 15, I will now cover our debt and liquidity position at the end of the quarter. Our net debt at the end of the quarter was $1.433 billion, bringing our net debt leverage down to 3.3 times, which is 1.9 turns favorable to the prior quarter. The reduction in net debt leverage is primarily a result of net proceeds generated from the initial public offering, the refinancing transactions taken in connection with the IPO and an increase in adjusted EBITDA. We expect to continue deleveraging the balance sheet similar to what we have accomplished in the past, despite making strategic investments to grow the business which may include acquisitions. We closed on the refinancing of our new $1.5 billion term loan in conjunction with the closing of our IPO, which carries interest at LIBOR plus margin of 250 basis points maturing in July 2028. We correspondingly entered into a 5-year fixed interest rate hedge with an initial notional value of $1 billion to lock in LIBOR rate at 74 basis points. The notional value will reduce by $100 million per year beginning in July 2023 through the end of the hedge term. As part of the debt refinancing, we also expanded and extended our asset-based revolving credit facility from $700 million to $850 million through July 2026. At the end of the second quarter we had over $900 million in liquidity including approximately $67 million of cash and cash equivalents. We believe that our cash on hand, together with the availability of borrowings under our asset-based revolving credit facility and cash generated from operations will be sufficient in the near term to meet our working capital needs, anticipated capital expenditures, scheduled principal and interest payments on our term loan, and to continue pursuing our growth strategies. Operating cash flow in the second quarter was less than the prior year period due to the acceleration of interest payments associated with the debt refinancing, along with investments in working capital to support our growth. We have continued to invest in inventory to ensure availability and access to products for our customers. These investments, along with the growth in the business compared to last year, resulted in a larger working capital build in the current quarter. Historically we have generated most of our operating cash in the second half of the year as we unwind working capital that's reduced inventory spending and lowered customer receivables. We expect to see a similar seasonal generation of operating cash flow in the second half of this year. Subsequent to the end of the quarter, the underwriters of our initial public offering exercised their overallotment option, which resulted in the issuance of an additional 5.2 million Class A shares generating net proceeds of $99.5 million. We intend to use the net proceeds for general corporate purposes. Turning to Page 16, I'll now discuss our outlook for the remainder of the fiscal year. We expect the demand and pricing trends we experienced in the first half of the year to continue into the second half, though tempered against tougher prior year comps and anticipated supply-chain constraints. Last year we experienced a softer first half due to COVID-19-related restrictions and a snapback in demand in the second half as cities loosened restrictions and markets began to recover, as well as favorable weather environment in the fourth quarter. Each of our end markets appears poised for continued growth based on bidding activity and order flow and the execution of our defined growth initiatives is expected to continue driving core market share gains. While we are pleased with our results so far this year, we believe that our supply chain is experiencing capacity constraints across many product lines, which we anticipate will be further impacted by Hurricane Ida. We believe this will temper volume growth in the second half of the year while keeping prices at historically high levels through the end of the year. We typically experience a seasonal slowdown throughout the second half of the year and the fourth quarter in particular is susceptible to variability due to cold winter weather in northern geographies. The Pacific Pipe and L&M Bag and Supply acquisitions will contribute nearly half a year of operating results each with Pacific Pipe closing at the beginning of August and L&M Supply closing at the end of August. On a combined basis these acquisitions generated roughly $130 million of net sales for the fiscal year ended December 31, 2020. We maintain a very strong pipeline of high-quality acquisition targets and look forward to adding more of them to the Core & Main family. Our acquisitions are performing well and we continue to improve our ability to integrate them into our Company and create synergies together. We expect to continue delivering on our gross margin initiatives generating year-over-year margin expansion in the second half, though moderated compared to the first half as our product costs catch up with market prices and product costs stabilize. We also expect to continue leveraging our cost structure, delivering year-over-year SG&A rate improvement in the second half. However, the SG&A rate improvement will be scaled compared to what we delivered in the first half as a result of approximately $10 million of ongoing annual costs needed to support our Company following the initial public offering. Taken all together, we expect full-year 2021 adjusted EBITDA to be in the range of $470 million to $510 million, representing a year-over-year increase of 37% to 49%. There are several uncertainties that exist for the balance of the year that could significantly impact our estimates and position us towards the lower or higher end of the range. The ongoing COVID-19 pandemic, product availability constraints, labor shortages, declining commodity prices and unfavorable weather could position us towards the lower end of the range. Sustained pricing levels and gross margins, continued demand across each of our end markets, along with our suppliers' ability to meet demand could result in performance near the top end of the range. Given the unprecedented pricing, demand and product availability challenges we are experiencing right now, we feel that this range represents our best view of where we believe we will finish the year.

David Manthey, Analyst

Thank you. Good morning, everyone. Of the 43% growth that you saw in PVC, can you approximately quantify the impact of inflation versus volume growth? And I think you had previously been assuming that PVC would start to decline in the second half. Are you now assuming that it will be sustained in 2022 at current price levels?

Mark Witkowski, Chief Financial Officer

Dave, I'll answer on the pricing for the quarter on PVC. I'd tell you certainly over half of PVC was going to be pricing obviously had a bigger impact on PVC than some of the other product categories. It's kind of the best target I can give you on PVC in terms of the impact there. In terms of the forward outlook, Steve, do you want to talk about that?

Steve LeClair, Chief Executive Officer

Dave, I want to highlight that PVC has faced significant disruptions over the past year due to various events, including Hurricane Laura last fall, the severe freeze in Texas earlier this year, and now Hurricane Ida. As a result, we are experiencing record-high demand alongside record-low product availability and supply. Given these circumstances, we believe pricing will remain stable for at least the next few months. Initially, we did not anticipate pricing to remain as strong as it has this year, and we expect it to gradually return to more stable levels. However, due to these external factors, we think pricing will likely hold steady for a while longer.

David Manthey, Analyst

Okay, thanks. And as it relates to the $55 billion in the current infrastructure bill, if that goes through and if those dollars start to filter down to the municipalities, might there be some crowding out relative to already stretched municipal budgets, or do you think that's all incremental? And then second, if you can just comment on just the debate around infrastructure? Do you view that as a positive long-term? That maybe there's changing attitudes, changing priorities in the U.S. as it relates to infrastructure spending today at any level?

Steve LeClair, Chief Executive Officer

Dave, I would say that even if you go back to the back half of 2019, we started seeing municipal and infrastructure spend starting to really grow and accelerate. Obviously, it took a pause in the second and third quarter of 2020 due to COVID. But it's continued to remain very strong, demand has remained strong. I think the municipalities are certainly better positioned now, they have been able to get rate unlike they've been able to do a decade ago. So, along those lines we feel those budgets are really strong and secure. Now obviously, if you throw in an infrastructure bill and $55 billion dedicated to modernizing clean drinking water systems across America, we do think that is all incremental based on what we are seeing. Now if and when that bill gets passed and how those funds get down there, we'll see how that plays out. I do think the industry is much better positioned than what we were a decade ago with infrastructure spending in that sector.

David Manthey, Analyst

Sounds great. Thanks very much, guys.

Steve LeClair, Chief Executive Officer

Thanks, Dave.

Jamie Cook, Analyst

Hi, good morning. Nice quarter. I guess just two questions, sorry to harp on PVC pipe again. But your margins in this quarter were really impressive. Your gross margins I think might be a record for you guys. I'm just wondering was a lot of that PVC pipe and can margins sustain in that level in the back half? I'm just trying to think about how we get to your increased EBITDA guidance. And then can you help us understand what the EBITDA contribution is from the two acquisitions in the back half? Thanks.

Mark Witkowski, Chief Financial Officer

Yeah. Thanks, Jamie; thanks for the question. In terms of PVC and the gross margin impacts, we really saw nice margin improvement across really all of our product lines. As I mentioned, we did see some material cost increases across the board, certainly larger on PVC, but we were able to manage those pretty well across the board. And in the case of PVC that was no different. So, I'd say it's really across the board where we were able to pick up some margin enhancement across various product lines.

Jamie Cook, Analyst

I'm sorry, can gross margins sustain at the 25% range in the back half? And then just the EBITDA contribution from the two acquisitions, what's implied?

Mark Witkowski, Chief Financial Officer

I think, Jamie the way that we are looking at the back half in terms of margins is still being able to sustain those. But I would say as these prices stabilize we would expect the cost side of the equation to catch up and see a little bit of margin compression there. Typically, we are a little stronger in the back half anyway, but that's kind of how to think about the back half. In terms of the EBITDA increment for the acquisitions, I would tell you that post-synergy we expect both of those to be accretive to the business.

Keith Hughes, Analyst

Thank you. A question on the effects of Ida. I know you said it was still to be figured out. But do you now have a timeframe of what your suppliers are telling you in terms of when they will know what the situation looks like? Is this within a week or is this going to drag on for months?

Steve LeClair, Chief Executive Officer

It's a tough question, Keith. The most significant impact we've observed is related to PVC. When Ida came through, it shut down about 40% of the PVC capacity in Louisiana and Texas. One challenge is getting those plants back operational once power is restored. The second challenge, which is a bit more unpredictable, revolves around transportation, especially rail and truck logistics in and out of the area. We're estimating a timeframe of about 4 to 6 weeks for the aftereffects, but it could be longer or shorter. We're currently assessing the situation on a day-by-day basis. Additionally, the secondary impact of Ida has been, to a much lesser extent, the weather effects across the country. In regions affected by heavy rain, our contractors sometimes cannot dig into saturated soil, which can delay progress by about a week. However, this is a familiar challenge we face during such weather events. The PVC situation will require careful management over the next few weeks.

Keith Hughes, Analyst

Okay. And just along the same lines, are you able to do any substitution with the customers with ductile iron or HDPE or anything to kind of bridge the gap or is that just too much?

Steve LeClair, Chief Executive Officer

We've certainly seen situations where either due to price or availability, there have been material substitutes at levels we haven't, quite frankly, seen before in the past. I would share with you also that even with ductile iron pipe availability is at a premium as well too as manufacturers are really at capacity at this point. The inventory in the network is at all-time lows as well, too. So, it's going to be a challenge working through all of those product categories to find viable substitutes.

Keith Hughes, Analyst

Okay, thank you.

Steve LeClair, Chief Executive Officer

So, I would say the good news is, and this really does play to our strengths on this, Keith, in that one of the things we really pride ourselves and one of our differentiators is access to product and being able to support customers through this. And then secondarily is, where appropriate, finding substitutes for those products and pulling that through. So, more so than ever our customers are leaning on us pretty heavily for that.

Pat Bowman, Analyst

I was on mute. Sorry about that. Good morning, everyone. Can you frame for us in the quarter relative to that 18% volume growth, how each of the end markets trended relative to that? I had assumed resi was above that maybe. I don't know, I'll let you answer that. And then as a follow-up to that, can you give a sense on expectations for second-half volume growth across those end markets, like which ones are being most impacted by supply constraints? Just curious if you could flesh it out a little bit more. Thanks.

Mark Witkowski, Chief Financial Officer

Pat, thanks for the question. Good morning. For the quarter, I would tell you it was mostly organic growth. We had our R&B Company, which was our larger acquisition in 2020, anniversary in the first quarter, and then L&M Supply and Pacific Pipe closed after the second quarter. So, those you should expect to obviously see come through in the back half of the year. Combined they were about $130 million historical annual sales. So, you should see I'd say roughly a little less than half or about half of that come through in the back half of ‘21. And we won't necessarily forecast M&A out into 2022 that we haven't completed yet, but obviously, you can expect another half year of those coming through in the first half of ‘22.

Anthony Pettinari, Analyst

Hi. Good morning. With the availability issues we've encountered in PVC and other materials, along with the labor challenges mentioned, are you observing any significant demand destruction, or are projects merely being delayed by a few months or quarters? I'm curious about how your customers have reacted to these shortages. You mentioned substitution earlier. Is there a notable difference between new construction and repair/replacement projects, or among different customer types or regions? Could you provide any additional insights on this?

Steve LeClair, Chief Executive Officer

Anthony, up to this point we really have seen no cancellations of projects due to material shortages at this point or even price increases at this point. So, the demand has continued to remain very robust as we've gone through this period. And we've been able to fulfill, albeit with a lot of work over the last quarter. So, I think we have certainly some caution out there about where some of these shortages may have a more significant impact in coming quarters. But so far demand has remained incredibly strong and we've been able to work through these supply constraints.

Mark Witkowski, Chief Financial Officer

It hasn't been significant at this point. We have built some supply to serve many of our branches, especially for fire protection products. We have maintained a comfortable inventory level so far. We are also working on sourcing to expand our product offerings. Up to now, we have been able to manage this largely virtually, and it hasn't hindered our progress. We hope to continue this over the next several quarters.

Steve LeClair, Chief Executive Officer

Well, thank you all again for joining us today for our first earnings call as a publicly traded company. To close it out, I would like to share a few of the key items that make Core & Main a leading specialized distributor. We are a market leader with size and scale in an attractive and fragmented market. We have a strong value proposition playing a pivotal role in shaping our industry. We have multiple levers for organic growth, continually cultivating ways to grow faster than the market and gain share. We have a proven ability to execute and integrate acquisitions with a large pipeline and additional runway. We are poised to benefit from favorable industry trends in each of our end markets. We have an attractive and resilient financial profile with strong return characteristics. And to close it out, I'm incredibly proud and want to thank all of our associates for their continued commitment to our customers and our communities, especially given the disruption related to COVID-19, product availability challenges and labor shortages. We are committed to providing our customers with local knowledge, local experience and local service nationwide. Thank you for your interest in Core & Main. Operator that concludes our call.

Operator, Operator

Thank you for joining today's call. You may now disconnect your lines.