Good morning, and welcome to the Third Quarter Conference Call for Graco Inc. If you wish to access the replay for this call, you may do so by visiting the company website at www.graco.com. Graco has additional information available in a PowerPoint slide presentation, which is available as part of the webcast player. At the request of the company, we will open the conference up for questions-and-answers after the opening remarks from management. During this call various remarks may be made by management about their expectations, plans, and prospects for the future. These remarks constitute forward-looking statements for the purposes of the safe harbor provisions of the Private Securities Litigation Reform Act. Actual results may differ materially from those indicated as a result of various risk factors, including those identified in Item 1A of the company's 2021 annual report on Form 10-K and in Item 1A of the company's most recent quarterly report on Form 10-Q. These reports are available on the company's website at www.graco.com and the SEC's website at www.sec.gov. Forward-looking statements reflect management's current views and speak only as of the time they are made. The company undertakes no obligation to update these statements in light of new information or future events. I will now turn the conference over to Kathy Schoenrock, Executive Vice President, Corporate Controller and Information Systems.

Good morning, everyone, and thank you for joining our call. I'm here today with Mark Sheahan and David Lowe. I will provide an overview of our quarterly results before turning the call over to Mark for additional discussion. Yesterday, we reported record third quarter sales of $546 million, an increase of 12% from the third quarter of last year. The effect of currency translation rates was a significant headwind in the quarter. On a constant currency basis, sales increased 17% with growth in every segment and region. Reported net earnings were $116 million for the quarter, despite a $0.05 headwind from foreign currency. Reported EPS was $0.67 per diluted share, an increase of 14%. We expect translation rates to continue to be a challenge for the remainder of the year. At current exchange rates, the full-year unfavorable effect of currency translations would decrease sales by 4% and earnings by 8% with a similar impact in the fourth quarter as we experienced this quarter. The gross margin rate decreased 320 basis points in the quarter, while our pricing actions offset increased costs on a dollar basis, the margin rate declined 190 basis points. In addition, foreign currency translation rates decreased our gross margin rate by approximately 130 basis points. With regards to costs, we did see some commodity prices beginning to ease during the quarter; however, they were not enough to offset broad-based inflationary cost increases. Interim price increases were implemented throughout the third quarter, and we will begin to see the full benefits in the fourth quarter and into next year. Our 2022 pricing actions have and will continue to offset the input cost pressures on a dollar basis. Operating expenses decreased $6 million or 5% in the quarter. Reductions from currency translation rates and sales and earnings-based expenses were partially offset by volume and rate-related increases. The adjusted tax rate for the quarter was 19%, due to the unfavorable effects of foreign earnings taxed at higher rates than the U.S. rate. We anticipate this trend will likely continue and expect our estimated annual tax rate will be 19% to 20%. Cash flows from operations were $272 million for the year. This was a decrease of $86 million from last year. Contributing factors include increased annual incentive payments and investments in working capital. We have elevated inventory levels, which are reflective of the high backlogs and higher accounts receivable balances, due to the overall business growth. Through the end of the quarter, we have repurchased 2.5 million shares for $155 million. We continued to repurchase shares in the first weeks of October, and as the market closed yesterday, we have repurchased 3.5 million shares for $233 million year-to-date. We also prepaid $75 million of our private placement debt and made capital expenditures of $147 million, with $75 million related to facility expansion projects, and made dividend payments of $107 million. Finally, our full-year estimates for unallocated corporate expense and capital expenditures can be found in the conference call slide deck on page 10. I'll turn the call over to Mark now for further discussion.

Thank you, Kathy, and good morning, everyone. All of my comments this morning will be on an organic constant currency basis. Sales in the quarter were up mid-teens with growth in all reportable regions and segments. This resulted in record third quarter results in both sales and operating earnings. These gains were generally broad-based with most major product lines experiencing good order tempo throughout the quarter. Some of the increases were likely due to pricing actions taken in the third quarter, which were fully implemented by the end of September. Our consolidated backlog was $440 million at the end of the quarter, which is $65 million higher than at the end of last year and $180 million higher than Q3 of 2021. I was pleased with the overall business tempo and profitability during the quarter, despite continued cost pressures and currency headwinds. We saw some relief in commodity prices; however, they were not enough to offset a broad-based inflationary environment. We anticipate that the pricing actions we have taken throughout the year will offset inflation on a dollar-for-dollar basis. Now turning to some commentary on our segments. Contractor segment sales were up mid-teens for the quarter, driven by outperformance in North America. Out-the-door sales in our pro paint channel are robust, and demand for our protective coatings and spray foam product lines remains strong. Painting contractors are still in demand, and they have healthy pipelines of work. Graco's contractor backlog decreased slightly during the third quarter to $90 million, but is still 66% higher than a year ago. The availability of certain components remains challenging and is the primary cause for our high backlogs. Going forward, we are keeping an eye on indicators such as housing starts, new and existing home sales, commercial construction, remodeling expenditures, and interest rates. While some of these readings are less favorable than they were three months ago, we have not seen any adverse impact on our business at this time. The Industrial segment grew 8% in the quarter, with positive results in all reportable regions and achieved third quarter records for both sales and operating earnings. Profitability continues to be strong with incremental margin growth of 69% for the quarter and 64% year-to-date. Demand remained solid in all major geographies and key product categories such as liquid finishing, powder coating, and sealant and adhesive equipment. Backlog is up $25 million compared to the end of last year and $65 million compared to the same time a year ago. The process segment grew 30% for the quarter, again resulting in records for both revenue and operating earnings. This is the sixth consecutive quarter with revenue growth greater than 20%. Demand remains strong in all regions with continued broad-based growth in lubrication equipment, process pumps, environmental, and semiconductor products. Profitability improved throughout the quarter, resulting in 34% incremental margins, despite cost pressures on key components. Moving to our outlook, demand during the quarter was strong in all segments and regions. We're optimistic that these incoming order rates will continue for the remainder of the year; however, macroeconomic trends affecting many of our product lines and regions remain uncertain. We are committed to our core strategies of launching new products, investing in our manufacturing capabilities, expanding our global channel, and pursuing profitable growth opportunities in attractive niche markets, either organically or through acquisitions. Our backlog is still near record levels, plus the effects of our pricing actions; we remain positioned to have a record year in 2022. We're raising our 2022 revenue guidance to low double-digit growth on an organic constant currency basis with growth expected in every reportable segment. That concludes our prepared remarks. Operator, we're ready for questions.

Thank you. Our first question comes from Deane Dray with RBC Capital Markets. Please state your question.

Thank you. Good morning, everyone.

Good morning, Deane.

Hey, it sounds as though all segments and all regions are doing well, but maybe you can just take us toward geographically and with some focus on the most recent, like last four weeks or so into October, where you're seeing strength? And what might be slowing, if at all? Thanks.

Yes, I would say North America remains really strong, and the Americas in general have been good for us all year. I think it's the leading region in terms of revenue growth. Europe's been surprisingly resilient, given all the negative headlines, and of course we got a big headwind with Russia and losing, I think it's somewhere around $30 million of revenue on a 12-month basis in Russian sales; but despite that, the absolute level of activity there has been probably better than we expected. We're all holding our breath a little bit for what's going to happen with this winter, energy, and all those other things, it's sloppy where everyone reads in the paper. But at least as far as now, in terms of what we're seeing, business seems to be on fairly good footing. And then of course Asia is also doing well really across multiple product categories, and we've had a little bit of stop and start with China throughout the year, but we haven't really seen anything other than maybe a little bit of a speed bump there. So I would characterize the overall environment as pretty healthy with respect to the last few weeks. We really aren't going to comment about that; three weeks is pretty dangerous, four weeks is dangerous too. Of course, I did reference in my comments upfront that we did do pricing actions here in Q3, and I'm sure that there was some activity in terms of order rates in and around our pricing actions. Experience says that after you do something like that, you really need to wait a while before you can draw any firm conclusions. So we're going to do that; I still think the business is in good shape, pretty healthy, and I'm very happy with the quarter.

Great, and then just on the topic of price increases, we had previously discussed that you all made the decision to implement price increases apart from your annual January. Just to clarify, has that been one price increase? Because I know I heard it plural, price increases, but maybe that's just collectively across the individual businesses. But could you just clarify that and how, to the extent to which there has been price realization?

Yes, so we did two increases this year; that's probably why we said increase. So we did one earlier this year and then we did one mid-year. We did it really across all business units and all geographies, so that's the plural on that part of the question. In terms of realization, it's very strong. I think we've said before that about roughly two-thirds of our growth in revenue this year can be tied to realized pricing; I think that still holds to be true. Our teams are doing a good job making sure that you go through the pain of pushing through a price increase: you want to make sure that you actually get it, and everyone's super focused on it, particularly in this environment where costs are still challenging.

I would just add that in terms of the recent price increase, the announcement and implementation dates can vary due to different notice periods around the world. In North America, a significant amount was communicated in August, some in September, and regionally, as Mark mentioned, starting at the end of September. We are currently in the period where all interim price adjustments have been communicated and will be effective for future orders.

That's great color. Thank you.

Thank you. Our next question comes from the line of Michael Halloran with Robert W. Baird. Please state your question.

Hey, good morning, everyone.

Hi Mike.

So a couple of questions here, first on the inventory side, both your internal inventory and then channel inventory. Seems like it's a little thin on the contractor side from a channel perspective, because of some of the availability challenges, but I want to confirm that? And any thoughts on the other segment on the inventory side? And then within the organization, where does the inventory stand now or at least, because I know you said in your prepared remarks, it's a little elevated, but when do you think that starts normalizing out for you guys and you start seeing incremental or increased benefit on the cash flow side there?

Yes, they're higher than what we want them to be, and I think you can really tie it to the backlog. I mean, we've got $400 plus million of backlog; I think normal business given the company and the dynamics is probably half of that with our large powder business and things like that. So in a perfect world where you're able to book and ship the way we did historically, I think you could probably expect that backlog would come down and inventory levels would normalize. This is really again tied to components. We've got a lot in work-in-process inventory where we've built up equipment and it's ready to go, but we're waiting for an electronic component or something to come in before we can ship it out. So with regard to the channel, I think that in CED, which was really the area where I think most people ask us questions, the feedback that we're getting from our channel partners is on the pro side, hey, give us everything you got, we want it, and you're still on back order. Most of our back orders in CED are on the pro side, not so much on the home center side. And on the home center side, I think they feel pretty good about where inventory levels are right now, given the level of business that they've had. So there hasn't been any mandates or any kind of communication from them that, hey, we need more or we need less inventory at this point. So I think things are pretty stable there. On the industrial side, they generally don't carry a lot to begin with, so they rely on Graco really to supply them and to be their inventory for a lot of this stuff. So I would characterize them as wanting as much as we can deliver on that side of the business and the same thing on process too.

Great, that was helpful. I have another question regarding contractors: are there any differences in the channels? Also, when considering the product categories, what differences do you see between the simpler products for contractors and those specifically designed for them? Are there any notable trends in either of these areas?

Long-term, I don't see significant changes, but in the short term, our professional business has performed better than our home center business. This isn't surprising given the substantial growth we experienced during the pandemic and much of last year. Margin rates are higher in the professional sector due to the nature of those units. Contractors currently feel busy, although they are still difficult to find, and their pipelines look promising, which is a short-term observation. However, in the longer term, I would view the situation differently; both product categories are crucial for us. We believe that having a low-end tradesman product line creates a positive dynamic for those considering entering the painting business. They typically start with lower-end products and then transition to professional units as they develop into pro contractors. Thus, both categories are vital to the company.

Yes, and I would just add to that that on the big contractor activity in the protective coatings and the spray foam insulator, that business has been consistently strong throughout the whole year.

And then the mix of product, is that skewing a little higher towards the higher-end, because of the mix towards the pro channel and as a result?

Yes, I think at least in the short-term here we've seen some of that.

Great. Thanks for the questions, really appreciate it.

Alright.

Thank you. Our next question comes from the line of Saree Boroditsky with Jefferies. Please state your question.

Hi, thanks for taking my question. Kind of building on contractor, obviously sales are at all-time highs, the margin performance is still well below levels seen in 2020. Could you talk through what you need to see to get margins back to almost 29% level?

Yes, I think that that group in particular has been hit pretty hard on the cost increases, probably disproportionate to some of the other businesses. They have a lot of electronic components that really go into all of their products, and when you step back and you run the math on our what we call purchase price variance, which is the difference between what we thought costs would be versus they actually are in our factories, the vast majority of that goes into that business outsized compared to what their revenue is. The pricing actions that we took here in the third quarter were really designed to offset costs and all of our pricing actions have sort of been of that nature; and of course if you're just offsetting costs and you get higher sales, you don't get incremental margin on the sales that you're generating, it really just translates into a lower margin rate. Going forward, I do think that if cost pressures come down and we continue to push our pricing, the way we have historically, that there is margin expansion there, really efficient operation up there in Rogers; they do a great job, and to the extent that they have input costs that are lower than what they've been experiencing here in the last year or so, we would expect margins to expand.

And then it looks like you're pretty positive on the demand outlook; maybe there's some margin upside price cost coming to 2023? So how are you thinking about the optimal balance sheet here? I think you bought back some shares that you remain in the cash position? So any update on how you're thinking about capital deployment and what the balance sheet should look like?

The use of cash remains one of Graco's key strategies, and we will continue to make aggressive and consistent investments in product development from quarter to quarter. Our teams are currently working on numerous new technologies for upcoming launches over the next few years. We are making significant investments in both product and capital expenditures, including plant operations and maintenance equipment, with aggressive schedules in place. We have also recently broken ground on our second building at the Dayton complex, which will serve as our new state-of-the-art distribution center set to open in 2024, alongside investments supporting the powder equipment business. The returns on investments in existing operations, capacity, and efficiency improvements are clear on projects presented to our internal finance committee, and we are maintaining a strong commitment to those investments. In terms of mergers and acquisitions, our M&A team is active and engaged, exploring market opportunities with a solid understanding of the Graco model and past successes. We are optimistic that recent market turbulence may present potential opportunities and more favorable pricing than we have experienced previously. Regarding our share buyback strategy, we believe in remaining opportunistic. Given Graco’s strong investments and cash flow characteristics, and the cyclical nature of the markets we serve, there are opportunities to make purchases when the market is cyclical. Historically, we have been aggressive in these situations, and we intend to maintain that stance.

Could you elaborate on your approach to spending on product development initiatives, given that those costs seem to be running slightly below last year's levels, potentially on a higher cost base? Thank you.

Yes, we're putting as much backing as we can. I think maybe some of that is due to the fact that we did some restructuring last year that I think we talked about, where we put a couple of the groups together, and I think we're just getting better leverage out of those teams, particularly on the contractor side and also on the industrial side, but we're not holding anything back there. We continue to make investments; we know that products are the lifeblood of the company, and you shouldn't expect any changes.

Perfect. Thanks so much for taking my questions.

Yes.

Thank you. Our next question comes from Bryan Blair with Oppenheimer. Please state your question.

Thank you. Good morning, everyone.

Hey, Bryan.

Hi.

Very impressive growth in Process, Mark; I think you called out six consecutive quarters above 20%. I was wondering in which end markets or applications your team is clearly taking share there? And also if there's anything to call out in terms of the order timing or lumpiness? I'm assuming that isn't the case given the consistency of growth, and I don't believe you have again ask dynamic with any of the Process assets, but I figured I would ask?

Yes, it's hard for us to know exactly whether we're taking share or not. Some of the companies are public, some aren't, so our data is really pretty bad. But what I will say is that we've been really pleased with multiple product categories there. If you start with our diaphragm pump business, we're up there with a couple of other competitors that are substantial, and we've launched some new technology into that market, which has really helped that group, I think, maybe gain some incremental revenue that they wouldn't have otherwise had. Our lubrication businesses are very good, and in particular our industrial lubrication businesses, where we sell injectors and things in the machine tool industry, and I think our product availability and our ability to serve customers is maybe a little bit better than some of the big competitors there, and I think that's one area where we have gained new accounts. Once you have them, they are pretty sticky, so we're excited about that from a going forward perspective. Our semiconductor business has been extremely good; there's a lot of investment dollars going into there, so that's helping with the growth rates as well. And even our environmental business, the landfill business, we're seeing some growth there. So the team is really hitting well on all cylinders, and things are going well, and we're happy with the results.

It's great to hear that, and I appreciate the insights. If the expected challenges in the contractors paint business materialize in the near term, how much of an impact do you think areas like HPCS and pavement will have? I know pavement is the smallest product category, but I believe you might experience some positive trends there for a while.

Yes, it's really a fairly broad product line that we have in contractor. Although they all are tied in with construction, we have line striping, we have texture, we have architectural coatings which can be used on commercial and residential and remodeling projects, we have spray foam, which is a lot of people do it for remodeling to upgrade and get better insulation in their homes, and then there's protective coatings which is really the materials that are put on things that sit outside and are exposed to the elements like bridges with the infrastructure build. There might be some stuff there, and also pipelines with oil being higher than it was a year or so ago that helps investment too. So I think that the area that is probably one that is worth keeping an eye on is more of a residential single-family construction, where we would expect things to slow down just given the spike in interest rates. But again, like we said before, our long-term outlook is still a pretty good market, because we are way under built here in North America. I think it's something like $4.5 million units, which is like three years of demand just based on demographics, so you can go through periods where maybe there is some softness; but long-term these are still really, really good markets for us.

All makes sense. Thanks again.

Thanks.

Thank you. Our next question comes from the line of Matt Summerville with D.A. Davidson Company. Please state your question.

Thanks. Mark, you sort of indicated that the timing of the interim price increase may have driven a little bit of order ahead or a little bit of buy ahead, whatever you want to call it. Outside of contractors, that doesn't seem all that rationale in the other businesses, at least as I've come to think about them. So should I assume that if you saw any of that related activity, it probably would have been just relegated to the Contractor; could you expand a little more on that?

Yes, I think it's human nature, right? If you know a price increase is coming and you got some capital laying around, you probably are going to try to deploy it sooner rather than later. So it may not happen quite as prevalent on the process side or on the industrial side, but I can tell you that it does happen. And of course, the big channel partners that we have also were very well aware of what we're doing on the pricing side. The good news of all of the actions that we took or have taken this year is that nobody has really been surprised by them. We haven't really had any pushback even from some of the larger partners that we have, so everyone understands that we do try to manage it a little bit. So like if we see an industrial distributor that's all of a sudden ordering a bunch of products and we can tie it to a project, we may ask them about it, and I know that our teams do push back on occasion. But my comments on the upfront are more of that we would expect in a normal situation when we were raising prices that there is a little bit of buy ahead.

How should we be thinking about the magnitude of price increase we might expect for early 2023, considering your inbound cost profile for raw materials, transportation, and other factors? Does the interim action you took change your perspective on implementing another price increase in the next few months?

Yes, it's a good question. As we sit here today, when we run the math, we think we've really done a good job of offsetting the cost pressures that we have today that we're experiencing really over the next 12 months. But we don't have a great crystal ball on whether input costs are going to go up or down; they're just based on where things are today. We are still planning to raise prices early next year. I think it'll be more on a case-by-case basis where some businesses may go, some may not go, and some of the regions may go, some may not go. But one of the things that I think we've learned as a company here in this environment is that we have the ability to be flexible on our pricing, and in this environment I think it's smart for us to stay flexible and not really commit to any specific dates or any specific percentages at this time, and so that's the approach we're taking.

Got it. Thanks, Mark.

Yes.

Thank you. Our next question comes from the line of Jeffrey Hammond with KeyBanc Capital Markets. Please state your question.

I wanted to revisit the topic of mergers and acquisitions. You mentioned in the slides a growth target of 3% to 4%, but it seems you've been operating below that range for several years. Could you discuss what changes may help you achieve that 3% to 4% growth rate?

Yes, I would say the current environment is still a little elevated, but we are starting to see pricing to become a little more reasonable compared to maybe what we had seen over the last couple of years. We're really on a journey here of trying to create more of a competency at the company when it comes to acquisitions. We've built up a corporate team that's doing a fantastic job, they're working with our business units. All of the business units now talk about their M&A pipeline and the companies that they're targeting, and it’s going to take us some time really to get our act together and be more active than what we've been in the past. Our story to companies only talk with them is that we've got a lot to offer. When we acquire a business, we have a world-class manufacturing team, we understand customer requirements very well, and we have an enviable global footprint. Those are really the things that we're trying to leverage in the conversation. So when we talk about M&A contribution and those percentages, we're really talking about more on a long-term basis through a cycle. Those are the targets that we're trying to achieve and I think that we're getting ourselves in a better position by putting some resources on it here in the last year than where we've been historically as a company.

And I would just add on that point building out a team that's focused on this, that's working with the business units, they can do some of the missionary work in the market that really has been lacking over the last several years. I know this first-hand that I was in a couple of different businesses and we did work on M&A, but it was a lot more reactive when the market thrived. Having a proactive effort, cultivation of potential candidates in the market, first of all could help us perhaps turnover some rocks and expose something good that we wouldn't ordinarily get if we were relying on the process. And of course, to the extent that we can do that, we may avoid the auction process, which is a tremendous process as I like to say for sellers.

Okay, that's great. And then just back on Europe, a lot of people are concerned there. It seems like maybe you saw some slowing in industrial versus the other ones that seem quite resilient. Is there anything different about industrial where you're seeing more slowness or why these other ones are proving more resilient there?

Nothing in particular for the quarter, so numbers can move around a lot. Just to remind you too that our European industrial number includes powder, and powder can be lumpy with project activity; and in this particular quarter, we had some of that. So the legacy Graco businesses were very strong and pretty solid through the quarter.

Okay. Lastly, you provided the updated end-market mix. Construction is a significant category, but do you have a clearer understanding of the residential versus non-residential mix within that?

Yes, it's difficult to determine because when you purchase a paint sprayer at a Sherwin-Williams store, you can't predict its use; it might be employed on a commercial job one day and residential the next. I would say we have a good mix and are reaching a wide range of customers and end-markets, but getting into the specifics is quite challenging.

Yes, I would say we're relying on some of the external forecasts that we see, especially here in North America for different kinds of commercial construction. Notwithstanding the challenges in areas like office, the forecast for some of the large categories looks pretty positive for ‘23 and ‘24.

Thank you. As there are no further questions, I will now turn the conference over to Mark Sheahan.

Okay, thank you for participating in today's call. In closing, I would like to acknowledge our employees around the world for their excellent efforts this year. It's been a challenging environment across multiple disciplines, but especially in operations where our manufacturing and purchasing teams have endured many unanticipated hurdles. Our people are what makes this company great, and it's been rewarding to watch the teams come together. That concludes the call. Thank you, and goodbye.

This concludes our conference for today. Thank you all for participating, and have a nice day. All parties may now disconnect.