Hayward Holdings, Inc. Q4 FY2023 Earnings Call

Greetings, and welcome to the Hayward Holdings Fourth Quarter 2023 Earnings Conference Call. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Kevin Maczka, Vice President of Investor Relations. Thank you, sir. You may begin.

Thank you, and good morning, everyone. We issued our Fourth Quarter 2023 Earnings Press Release this morning, which has been posted to the Investor Relations section of our website at investor.hayward.com. There, you can also find an earnings slide presentation that we will reference during this call. I'm joined today by Kevin Holleran, President and Chief Executive Officer; and Eifion Jones, Senior Vice President and Chief Financial Officer. Before we begin, I would like to remind everyone that during this call, the company may make certain statements that are considered forward looking in nature, including management's outlook for 2024 and future periods. Such statements are subject to a variety of risks and uncertainties, including those discussed in our most recent Form 10-K and Form 10-Q filings with the Securities and Exchange Commission that could cause actual results to differ materially. The company does not undertake any duty to update such forward-looking statements. Additionally, during today's call, the company will discuss non-GAAP measures. Reconciliations of historical non-GAAP measures discussed on this call to the comparable GAAP measures can be found in our earnings release and the appendix to the slide presentation. I would now like to turn the call over to Kevin Holleran.

Thank you, Kevin, and good morning, everyone. It's my pleasure to welcome all of you to Hayward's Fourth Quarter Earnings Call. I'll start on Slide 4 of our earnings presentation with today's key messages. I'm pleased to report fourth quarter results in line with expectations. We executed well during the quarter and delivered net sales and earnings growth, record gross margins, and solid cash flow. Net sales increased 8% year-over-year through positive contributions from both volume and price, with gross profit margins expanding 690 basis points for the quarter and 270 basis points for the full year. We also generated better-than-expected cash flow during a seasonally-soft period for cash collections, with full year free cash flow increasing 78% and exceeding our guidance range. These are tremendous accomplishments, and I'm extremely proud of the entire Hayward team. 2023 was characterized by a normalization of supply chains, channel inventory destocking, and a return to established seasonal buying patterns. We are encouraged to enter 2024 with more normalized channel inventory positions as reported by our primary distribution partners in the U.S. The channel continuously recalibrates the level of inventory on hand to align with various inputs like the near-term outlook for end demand and cost of capital, but the post-pandemic reset is largely behind us. We executed many important strategic initiatives throughout the year to strengthen our business and drive profitable growth. This included advancing our technology leadership position with innovative connected pool solutions leveraging our culture of continuous improvement and operational excellence, and expanding commercial relationships across sales channels. I will make additional comments on our strategic accomplishments in a moment. We enter 2024 expecting a return to sales and earnings growth on a full year basis. For the full year 2024, we expect net sales to increase approximately 2% to 7%. Now turning to Slide 5, highlighting the results of the fourth quarter and full year. I'm pleased to report solid execution and growth in the quarter. Net sales in the fourth quarter increased 8% year-over-year to $278 million, driven by positive volume and price. By segment, net sales in North America increased 10% with our largest market, the United States, increasing 12%. Europe and Rest of World declined 4%, with Europe approximately flat. I'm encouraged by the sales trends in both the U.S. and Europe. We're focused on driving growth in the commercial segment of the market and commercial pool sales increased double digits for the quarter and the year. As I mentioned, we achieved a record gross margin in the fourth quarter. Gross profit margins expanded 690 basis points year-over-year and 140 basis points sequentially to 49.2%. Adjusted EBITDA margin in the fourth quarter was 27.2%, and adjusted EPS was $0.20. For the full year 2023, net sales reduced 24% to $992 million, with adjusted EBITDA of $247 million, each consistent with our most recent guidance. We delivered strong profitability despite reduced sales volume, and I'm particularly pleased to see gross margin expansion of 270 basis points to 48.1%. Adjusted EBITDA margin for the full year was a healthy 24.9%, and adjusted EPS was $0.56. Turning now to Slide 6 for a business update. End demand for Hayward products was consistent with our expectations in the quarter, with the U.S. performing solidly, but the overall near-term demand environment remains uncertain. Non-discretionary aftermarket is resilient, but demand for discretionary new construction, upgrade, and remodel has been impacted by current economic conditions and rising interest rates. Our channel partners have been rebalancing the level of inventory relative to the current economic outlook, normalized OEM lead times, and higher cost of capital. While inventory levels have largely normalized at this point, the channel remains cautious and continuously recalibrates the level of inventory on hand to be appropriately positioned to support their customers. Turning to price versus cost. We implemented annual price increases to maintain price/cost neutrality. The pool industry has been very disciplined on price historically, and we expect to realize a net price increase of approximately 2% in 2024. We demonstrated our operational excellence capabilities again in 2023, contributing to strong gross margin expansion on reduced sales volumes. We also completed footprint consolidations during the year in both North America and Europe. As a reminder, we initiated a plan during the third quarter to consolidate facilities in Spain to get closer to key customers, better leverage a modern facility, and support margins. We continue to prioritize working capital management and inventory reductions. Total inventory declined 24% in 2023, contributing to positive cash flow performance and 31% since the peak in 2022. Finally, during the fourth quarter, John Collins was promoted to Chief Commercial Officer. John now leads sales, marketing, product management, and customer service in North America and Global Industrial Flow Control. I'm confident in my senior leadership team and our ability to deliver on our commitments to shareholders. In addition, we continue to invest in technology leadership with the establishment of the business intelligence team in the fourth quarter, focused on progressively leveraging data analytics and scaling intelligent process capabilities. Turning now to Slide 7. I'd like to share some perspective on the year. As expected, we faced challenging economic conditions in 2023. I'm proud of the performance of the Hayward team as we accomplished many important strategic initiatives to strengthen our position as a premier company in the attractive pool industry. As a technology leader, one of our biggest differentiators is our ability to innovate, and I'll discuss some of our upcoming product introductions in a moment. We also demonstrated our long-standing commitment to operational excellence and continuous improvement. This included rightsizing our production levels and cost structure, further consolidating our agile and vertically-integrated manufacturing footprint, and progressive investments in automation and other productivity initiatives. The individuals who build and service pools are the backbone of our industry. The voice of these customers is critical to the development of our product and commercial strategies. At Hayward, we believe in supporting our loyal dealers and investing to build strong partnerships with market-leading programs and events. This includes our Totally Hayward loyalty program, customer rewards trips, and partner summits to celebrate and reflect on our collective accomplishments and help dealers grow their business and thrive in the years ahead. Hayward is committed to delivering impressive operational and financial results in the most responsible way. And we continue to make great progress on our sustainability journey. During the year, Hayward received a regional top-rated award by MorningStar Sustainalytics and an MSCI upgrade to A rating. As just one example of our success, the Hayward team embraced the challenge and achieved meaningful reductions in water and energy consumption in our facilities in 2023. These achievements contributed to strong profitability and cash flow during the year, allowing us to reinvest in the business to provide superior products and services for our customers and value creation for our shareholders. Turning to Slide 8. I'd like to highlight some key new product technologies being introduced in early 2024. First is the new microchannel temperature control unit for pools and spas. This is the first deployment of microchannel temperature exchange technology in the pool industry. This unit provides more efficient temperature transfer, reduced weight, and improved corrosion resistance for coastal installations. Three models are available: heat-only, heat/cool, and cool-only. The ability to cool to 40 degrees is important for installations in hot and humid environments where pool water temperature can be uncomfortably high. This also opens a new market opportunity for chiller-only installations to satisfy the increasingly popular wellness trend of cold plunge pools. Next is our new all-new OmniPro app designed for authorized trade professionals. This exciting evolution in our leading omni app enables these professionals to have remote access to all omni-connected homeowners they service. This new platform has two key benefits: real-time proactive monitoring of the operational pool and remote expert configuration of equipment via the cloud. Importantly, the OmniPro app provides significant value to these professionals, giving them the opportunity to promote other sales and service initiatives through a direct connection to the homeowner, creating greater stickiness for Hayward. Finally, the ColorLogic 2.0 platform embodies the next generation of color LED lighting. Homeowners are increasingly requesting additional lights to be added to their pools, spas, or features and landscapes to create dramatic nighttime effects and attractive entertainment spaces. ColorLogic 2.0 offers the flexibility designers want with directional optics to ensure full light saturation of the water and a quick disconnect plug for ease of maintenance. In our future earnings calls, I look forward to introducing even more great product technologies designed to delight homeowners as well as increase the competitive edge Hayward enjoys in the market. With that, I'd like to turn the call over to Eifion, who will discuss our financial results in more detail. Eifion?

Thank you, Kevin, and good morning. I'll start on Slide 9. All comparisons will be made on a year-over-year basis. As Kevin stated, we are pleased with our fourth quarter financial performance. Net sales increased in line with expectations for the quarter. We delivered outstanding gross margin expansion and generated better-than-expected free cash flow. Looking at the results in more detail, net sales for the fourth quarter increased 8% to $278 million. This was consistent with our expectations, and was driven by a 6% increase in volume and a 2% positive net price realization. Gross profit in the fourth quarter was $137 million. Gross profit margin increased 690 basis points year-over-year and 140 basis points sequentially to a record 49.2%. Adjusted EBITDA was $76 million in the fourth quarter, and adjusted EBITDA margin increased 660 basis points to 27.2%. Our effective tax rate was 20.6% in the fourth quarter compared to 30.2% in the prior year period. The change was primarily due to the timing of discrete items. Adjusted EPS in the quarter was $0.20. Turning now to Slide 10 for a review of our full year results. Net sales for fiscal year 2023 decreased 24% to $992 million. This was in line with our most recent guidance and primarily driven by a 28% reduction in volume, partially offset by a 3% positive price realization and a 1% contribution from acquisitions. Gross profit for the full year was $477 million. Gross profit margin increased 270 basis points to 48.1%, a very strong performance amid 28% lower volumes. Strong margins enable us to reinvest in the business. In 2023, we increased research development and engineering investments by 10% to $25 million to support our commitment to growth and innovation. SG&A expenses for the full year declined 6% to $234 million, driven by lower discretionary and volume-based expenses. We delivered a full year expected annualized savings of approximately $28 million under our enterprise cost reduction program. On a full year basis, SG&A as a percentage of net sales was 23.5%. Adjusted EBITDA was $247 million, with an adjusted EBITDA margin of 24.9%. Our effective tax rate was 20.2% in 2023 compared to 23.4% in 2022. Adjusted EPS was $0.56 for full year 2023. Now I'll discuss our reportable segment results in more detail. Beginning on Slide 11, North America net sales for the fourth quarter increased 10% to $138 million, driven by 8% higher volumes and 2% favorable net price impact. Sales in the U.S. increased 12% in the quarter, and Canada declined 11%. The Canadian market has been more significantly impacted by economic conditions and a sharp increase in financing costs. Gross profit margin increased 810 basis points to a robust 15.1%, and adjusted segment income margin was 31.7%. Turning to Europe and Rest of World. Net sales for the fourth quarter decreased 4% to $40 million. Net sales benefited from a 2% favorable net pricing and 2% from foreign currency translation, but were adversely impacted by a 9% decline in volumes. Net sales in Europe were approximately flat, with the Rest of the World declining 7%. Gross profit margin was 38.2%, and adjusted segment income was 20.2%. Turning to Slide 12 for a review of our reportable segment results for the full year. North America net sales declined 26% to $823 million, driven by 29% lower volumes, partially offset by a 2% favorable price impact and a 1% contribution from acquisitions. Sales in the U.S. declined 23%, and Canada reduced 48%. Gross profit margin was 49.9%, and adjusted segment income margin was 28.9%. In Europe and Rest of the World, net sales for the full year declined 18% to $169 million, benefiting from a net pricing increase of approximately 4%, offset by 22% lower volumes. Sales in Europe declined 24%, and Rest of World reduced 10%. Turning to Slide 13 for a review of our balance sheet and cash flow highlights. Net debt to adjusted EBITDA was 3.7x at the end of the year. We continue to prioritize deleveraging to our targeted range of two to 3x. Total liquidity at the end of the year was $460 million, including $203 million in cash and cash equivalents and short-term investments plus availability under our credit facilities of $256 million. We have no near-term maturities on our debt or interest rate swap agreements; term debt of $1.1 billion matures in 2028, and the undrawn ABR matures in 2026. This attractive maturity schedule provides financial flexibility as we execute our strategic plans. Our borrowing rate continues to benefit from the $600 million of debt currently tied to fixed interest rate swap agreements maturing in 2025 through 2027, limiting our cash interest rate on the term facilities in 2023 to 6.5%. Our average interest rate earned on global cash deposits for the quarter was 4.9%. Overall, we are pleased with the quality of our balance sheet. The business has strong free cash flow generation characteristics, driven by high-quality earnings, which support our growth investments. Cash flow from operations for the full year increased 59% to $185 million due to effective working capital management, primarily reduced inventory levels. Total inventories declined by $69 million or 24% in 2023, and declined nearly $100 million from the peak in the third quarter of 2022. Full year 2023 CapEx of $31 million was consistent with the prior year. Free cash flow increased 78% to $154 million in 2023. Turning now to capital allocation on Slide 14. As we've highlighted before, we maintain a disciplined financial policy and take a balanced approach, emphasizing strategic growth investments and shareholder returns, while maintaining prudent financial leverage. In the near term, we are prioritizing CapEx, growth investments, and reducing net leverage within our targeted range of two to 3x. We also continue to consider tuck-in acquisition opportunities to complement our product offering, geographic footprint, and commercial relationships in addition to opportunistic share repurchases. Turning now to Slide 15 for our outlook. We're introducing 2024 guidance that reflects a return to sales and earnings growth, driven by solid execution across the organization, positive price realization, and continued technology adoption. The guidance range also contemplates continued uncertainty around global macro conditions, consumer spending, coupled with our current expectations regarding channel inventory levels. For the full year fiscal 2024, Hayward expects net sales to increase approximately 2% to 7% or $1.01 billion to $1.06 billion. This outlook reflects continued resiliency in the North American non-discretionary aftermarket, with the more discretionary elements of the market, new construction, remodel, and upgrade impacted by the economic and interest rate environment, particularly in non-U.S. markets. We expect a positive net price contribution of approximately 2%. Our business is seasonal, and we expect normal seasonal strength in the second and fourth quarters, with the first quarter representing the lowest sales quarter of the year. We anticipate full-year 2024 for adjusted EBITDA of $255 million to $275 million. We also expect solid cash flow generation again in 2024. This should result in free cash flow conversion of greater than 100% of net income, with free cash flow of approximately $160 million. We are confident in our ability to successfully execute in this dynamic environment and remain very positive about the long-term outlook for the pool industry, particularly the strength of the aftermarket. And with that, I'll now turn it back to Kevin.

Thanks, Eifion. I'll pick back up on Slide 16. Before we close, let me reiterate the key takeaways from today's presentation. Consistent with our expectations, we closed out 2023 with a return to sales and earnings growth in the fourth quarter. We demonstrated strong execution throughout the year, delivering impressive gross margins and cash flow growth despite lower sales volumes, allowing us to fund our growth strategies. We're bringing innovative new solutions to the market, better supporting our customers and improving the pool ownership experience. With channel inventories largely normalized, we are well positioned for growth. I'm excited about the prospects for the pool industry and our performance. Momentum is building and Hayward is leading. I'm confident that we have the right strategy and talent in place to drive compelling financial results and shareholder value creation. With that, we're now ready to open the line for questions.

Our first question comes from Ryan Merkel with William Blair.

I'd love to start with the guide right off the bat. Can you tell us what you're expecting for gross margins for the year? How much do you expect that to be up? And then can you confirm for the first quarter, should we be thinking about sales at about 20% for the full year?

In terms of the gross margin, we're calling for gross margins in 2024 to be 49.6% for the full year, which is an increase of just over 150 basis points. We'll see good growth in North America, we'll actually continue the great trend that we exited out of Q4, over 50%. Full year, we're expecting over 50% in the North America business, which is a good outcome. In terms of Europe and rest of the world, a little bit more challenged there, but we're looking at the whole margins fundamentally at the same level that we exited out of 2023.

And then for the first quarter, I just want to make sure that we have it right, about 20% of the full year. So looking at sales roughly flattish year-over-year?

Yes, as we have discussed before, we are returning to a normal seasonal trend, with Q1 typically around 20% to 22%. This year, we expect Q1 to be around the 20% mark. Q2 and Q4 are usually our largest seasonal periods, with Q4 featuring early sell-in.

Got it. Okay. And then for my second question, what are you assuming for sell-through at retail in the guide, just given the destock last year would be helpful to sort of think about underlying demand?

Yes. I mean the guidance that is contemplated. It assumes approximately about a 5% macro contraction in North America, and a little bit lower in the Europe and Rest of World market. So we are expecting contraction really at the discretionary side of the market with the aftermarket remaining very resilient.

Yes. Regarding the discretionary aspects, we upgraded the remodel in the U.S., and we anticipate that could result in approximately 10% off, which would reflect a volume increase of about 5% for the U.S. region. Turning to international, including Canada, we expect that the new remodel upgrade could lead to around 20% off, which would translate to a 10% reduction in international volume overall. The key difference lies in our expectation for the aftermarket break-fix sector, which should remain stable in the global market. As mentioned in the prepared remarks, aside from volume, we are forecasting a positive price impact in the range of 2%, along with a potential modest foreign exchange headwind of about 1% as we progress through 2024.

Our next question comes from the line of Saree Boroditsky with Jefferies.

So you talked about inventory levels being normalized but distributors remain cautious. We did hear from one that they're looking to lower inventory levels this year. So maybe just quantify how you're thinking about destocking tailwind this year, given potentially maybe a little bit more inventory reductions to go?

Yes, we view destocking as a process to return to historical levels of inventory on hand. As we progress through the third quarter of this year, we believe we have achieved those historical levels in the channel. Looking ahead to our 2024 guidance, we recognize the importance of collaborating closely with our channel partners to enhance inventory management efficiency. While we want to avoid stockouts, there is also a focus on continuous improvement and efficiency given the current higher interest rates. Our guidance reflects what we think is attainable in terms of reducing inventory in 2024 with our partners, and we will keep working with them to ensure we maintain the right inventory in optimal locations at the right times.

I appreciate the color. So one thing we've heard about is the pull-forward impact on discretionary items such as heaters that we saw during the pandemic. Could you just talk about when we should think about demand for those types of products being normalized?

Yes, there are certainly some product categories that tend to be more discretionary. We observed an increase in demand early in the pandemic, followed by a slowdown in categories like heaters and cleaners. Above-ground products could also fit into this discretionary category. We believe we are reaching better inventory levels for these products. Overall, we think our destocking process is complete, although some product categories in certain regions may still require some attention. On the other hand, we are low on inventory in areas where we see strong sell-through, such as LED lights and controls. As we move through the early part of 2024, we expect to manage any excess inventory in specific product categories as the season begins in Q2 of 2024.

Our next question comes from the line of Jeff Hammond with KeyBanc.

To conclude on inventory destocking, it appears that the destock occurred as anticipated, but customers may be more hesitant to increase their inventory levels. Regarding the early buys, what insights can you share about their confidence and inventory levels? I'm looking to gain a clearer understanding of that situation.

Yes. So as we looked at maybe the second half of the year, early buy really gets published, as you know, late Q3. So we start getting a read on that. As we mentioned in prior earnings calls, I would say kind of exiting Q3 from a low order standpoint, which would be in-season orders maybe saw that slow a little bit in anticipation of early buy. I know we mentioned this on our last earnings call, early buy really met our expectations. It increased year-over-year, and we saw that as a positive sign, both from an inventory destock working that down also with some expectations amongst the channel was very close with the end market around some opportunities for sell-through into 2024. So as we look on the early buy, that's just concluded, we were pleased. It came in to our expectations, and we saw an increase year-over-year, Jeff.

Our next question comes from the line of Robert Wertheimer with Melius Research.

My question is a little bit on how the year progresses from your view and when you kind of see what real end market, real sell-out or real consumer demand is on upgrades on remodels and on new pools. I mean do you get to June and the year is kind of based on that front and then we're looking forward? Or you just talk about how you see where that real demand is when you see it.

Yes, Rob, it's Eifion. We're calling for this year to be a very normalized seasonal year, which is great to get back to. We normally see the most channel sellout in Q2. And then to a lesser extent, in Q3 as the season comes to a close. Q1 and Q4 tend to be the slower sellout periods in the year. But we expect that regular cadence to occur this year. And as I just mentioned earlier, we're going to get back to a normal sell-in type of cadence, with Q1 and Q3 being the reduced quarters for us in Q2 and Q4 being the higher quarters. So after 3 years of this similar patterns to where this business used to be historically, we very much see the sellout looking as it did historically, with Q2 being the largest sellout period.

Okay, that's helpful. I understand better now. I'm considering the various factors affecting consumers; while the economy appears to be healthy, I have a cautiously optimistic but moderate outlook on discretionary spending. I'm unsure if people are actually spending, and that's what helps gauge the situation. I'm not trying to predict a specific trend; I was simply seeking clarification on this.

Yes. Okay. I understand. I mean look, the guidance considers where the macro economy is today. It considers that we have this compression on the new construction side, remodel and upgrade, upgrade defined as equipment additions to the pool pad. We want to see how the season develops as we step into Q2, and then how the consequential permitting takes place in the second half of this year, which sets us up for our view on 2025. But while the economy remains in this, let's call it, uncertain macro condition, we're going to say that discretion is going to be more impacted here in the front half given it's the seasonal period for '24.

Our next question comes from the line of Mike Halloran with Baird.

Could you discuss the sellout trend you've observed with your distribution base in North America over the past six to eight months? When analyzing the cadence and trend, are you seeing relative stability in the sequential data? I understand there is year-over-year pressure regarding large-scale remodels and new builds, but do you feel like things have become more stable in recent months, or has there been more volatility than usual?

As we look at Q4, the overall sellout reduction year-over-year was in the high single digits. However, recent data for Q4 showed improvement compared to the full year number. While we aren't overly celebratory because there's still significant progress needed, this year-over-year comparison indicates a positive trend for Q4. We were encouraged by the sellout activity in Q4 compared to the prior year.

And sequentially, though, is it pretty normal, seasonally?

Yes. What we're observing throughout 2023 is a return to normal seasonality with reduced sell-out in the first quarter, increased in the second quarter, slightly lower in the third quarter, and lower again in the fourth quarter. We're noticing this typical pattern emerging in the business. When examining the regions, we have seen particularly strong performance in the Sunbelt areas, especially in markets like Florida, which have performed exceptionally well recently.

And then could you put the commentary that your distribution partners are being very cautious about bringing inventory on in a historical context, meaning, how does what they're doing today compared to pre-COVID? I know kind of there's some years in there where weather was a factor, but just thinking about what their normal inventory levels look like and what they're comfortable holding. How would you compare what they're doing today versus maybe a more normalized period?

Yes. I mean if you go back pre-pandemic, the channel held, depending on what time of year you're dealing with all the way up to five or five and a half months of inventory at times, particularly as they entered into the peak seasonal periods. So that, I think, given the current cost of capital, given progressive improvements in data analytics, system management. There's been a lot of movement to reduce working capital. And we define destock as getting back to the historical days on hand. That's happened largely through the end of Q3 and certainly into 2024 on a global basis, we're largely back at those historical days on hand. But we have heard from channel partners that they would like to initiate continuous working capital focus that will lead to further reduction of the inventory days on hand. And we believe our guidance accommodates that. But what does that mean? That means when you think about thousands of distribution points, both at the distributor level and at the retail level. And as Kevin said, make sure they have the right SKU at the right time, in the right location, those working capital improvements will take some time to realize, and we've got to be very thoughtful about that as we step over the next several years. I think we're all, as an industry, investing in data analytics, improving our capabilities to get visibility as to how product moves in relation to end demand. And we are all investing to reduce our tech debt in that particular area. But it's clear that across the industrial sector, everybody is looking to reduce working capital. And we see that over the course of several years, as a great outcome. It's much healthier for the entire supply chain to be in a time to inventory position.

Our next question comes from the line of Andrew Carter with Stifel.

First question I wanted to ask is about the net price realization you have for the year, plus 2%. I want to kind of understand what exactly factored in there? I'm assuming a higher price increase that went into effect in North America that you're assuming versus Europe? Is there any kind of return to a more normal promotional cadence perhaps pre-pandemic in there this year that wasn't accomplished last year is an increase contemplated in October 1 in that guidance? I think you took one in October one this year or are you hoping to go back to 25%? And then the last one is kind of the winter rebates issue that happened last quarter. Is that anomaly kind of already done? Or does it still have a catch-up? And also, I'm assuming with the vendor rebates, you lowered the incentive levels. Have you kept incentive levels for vendor rebates the same this year as last year?

We'll work through the questions together. I didn't catch everything, but we'll manage. Regarding last quarter, we viewed the vendor rebates as a one-time occurrence and noted that this would not be repeated in Q4's net price performance, which is reflected in the results. We also shifted the timing of channel partner rebates from the end of the fiscal year on September 30 to align more with the calendar year. Consequently, Q4 2024 may see some adjustments, either positive or negative, depending on our financial results against the targets. As for the programs, they are consistent with previous years, aligning with our volume expectations set with channel partners. I don’t anticipate any significant changes year-over-year. In terms of promotional activities, we are returning to a more typical environment similar to pre-pandemic levels, where we expect a standard amount of promotional efforts, in contrast to the high demand during the pandemic that reduced the need for promotions. I realize I might have overlooked some points. Andrew, I'm looking at Eifion here to see...

Yes, let me just quickly go through a few points, Andrew. I think just to close it off. Yes, the 2% net price does assume a slightly higher net price realization in North America than Europe and rest of world. The rebate anomaly that was apparent in Q3 of 2023 is behind us; we returned to positive price contribution in Q4. For the full year, we're at approximately 3% for 2023. So that anomaly is behind us. In terms of the overall 2% that we're guiding on for 2024, it matches up against our inflation expectations for the year. And we haven't, in our guide, contemplated to get any further price increase for Q4 next year; we'll make that determination as we get closer when we get better visibility of inflation going forward into '25.

You've covered all the points, and I apologize for my tendency to ask too many questions at once. So I'll put it simply. Regarding your COGS outlook, I see it's projected to decline between 1.3% to 3.6%, which aligns with your implied volume outlook of a decrease between 1.2% to 3.8%, factoring in an FX impact of 1%. In this forecast, are you factoring in inflation on materials, or does this suggest that material costs are expected to remain neutral year-over-year?

Yes, we haven't assumed underlying inflation to be 2%, but we will continue to improve efficiencies in our manufacturing locations. We have a strong legacy and have implemented a number of lean manufacturing principles over the past 18 months, achieving good results across our manufacturing footprint. Furthermore, we completed a consolidation program in Europe, merging two manufacturing facilities in Spain into one, which will provide benefits once the facility is fully operational. We are working hard to ensure positive gross margin development while maintaining price cost neutrality.

Our next question comes from the line of Nigel Coe with Wolfe Research.

I have a couple of clarifications to make. Kevin, regarding your comments about expectations between the U.S. and International markets, it appears we are seeing a mid-single-digit decline in sell-through, which is related to discretionary items. This suggests that we may benefit by around 8 to 9 points from the reduction in inventory compared to last year. I want to ensure that this calculation is correct. My primary question focuses on the cost control measures you mentioned in your prepared remarks. As we consider the recovery, should we anticipate an increase in investment spending, executive compensation, or other discretionary expenses that might affect margins moving forward?

Nigel, I'll take the first part of the question then I'll hand it off to Eifion on the second half. Yes, I think the math that you're doing is spot on. Again, I'll just walk through, I guess, the first time I answered this, I didn't specifically address what we think what was a headwind in 2023, how it may become a bit of a tailwind in our guide. So again, two points of price. Overall, when you look at the global volume decline, we see that in the 6% to 7% negative up range or down range. We could see it high single-digit, maybe 10% tailwind from the deep stock reversing in 2024 and then again, potentially 1% on the FX. So I think that should all tie out to what you were backing into when you ask a question, Nigel.

So and then, Nigel? Yes, sorry, can you repeat the second half, you were fading in and out, Nigel.

Yes. So it's about discretionary cost control. You mentioned cost control, which is obviously a natural consideration when you have a lot of expenses. But regarding the recovery, are there aspects we should keep in mind about investment spending, executive compensation, and anything discretionary that could impact incremental margins as we recover?

Yes. The guidance we provided for the year anticipates an adjusted EBITDA of $255 million to $275 million, which accounts for all planned costs, including compensation. It also covers our ongoing investment in research, development, and engineering. In 2023, we saw an increase of over 10% in R&D expenditures compared to the previous year, and we plan to maintain that trend to enhance our technology platform across our product line. We are not yet at a stage where we need to reinvest in general and administrative expenses. We do have plans to invest in sales personnel, and that has also been factored into our guidance. However, we will approach this carefully over the coming years to ensure that our cost structure aligns with our top-line growth.

Great. A quick follow-up. With the free cash flow of $160 million, I'm assuming the priority is debt reduction in 2024. Is the $160 million allocated for debt reduction included in your interest expense guidance?

So the free cash flow generation contemplates cash flow from operations, which obviously considers aggressive reduction in the net debt position in the business. We will make a determination on how we tackle the gross debt. But certainly, the accumulated cash earnings in the business will continue to be invested and earn at a very degree, as we demonstrated before. But at the end of the day, that $160 million reflects the conversion of EBITDA to free cash flow once you take out CapEx, interest rate, and tax, and also consider the modest working capital improvement, primarily in inventory over the course of 2024.

Our next question comes from the line of Rafe Jadrosich with Bank of America.

First, just following up on Nigel's question, the decrementals have been really impressive over the last year? And how do we think going forward here, if volume growth does kind of improve in the second half of the year and then into '25. How do we think about incrementals longer term, either from a gross margin or EBITDA perspective?

Yes. I mean historically, the incrementals in the business used to be in the high 30s. we've done better than that. Most recently, as we've moved through both incrementals and decrementals, what I would say is we strive to achieve at least what we have historically, if not better, on the incremental side, and it all comes back to manufacturing cost discipline and SG&A purposeful investments. And so a bit hesitant to give you a firm figure, but we certainly look to beat the historical.

Can you discuss the full-year sellout for 2023 compared to the sell-in? Last quarter, you mentioned an estimated destock number of $160 million. Did that align with your initial expectations?

Yes. So we don't get perfect sell-out information across the globe. So we have to kind of triangulate that number based upon those in the U.S. that do report that type of information to us. And what we do know is across the entirety of the globe, there was destock, meaningful destock over the 2023 time period. Again, what we've put into our guidance is approximately $100 million or 10% of that, not repeating in 2024, which Kevin just kind of just walked through. Yes, that's what we feel comfortable with right now, given some of the macro uncertainty that we've got in the business. But what we'd say is we are largely destocked now back to historical days on hand, and that was really achieved coming out of 2023.

Can you provide some insight into SG&A? Are you expecting slight deleverage or a flat year-over-year comparison? What are the factors influencing your SG&A leverage?

Yes. So we have progressively built our G&A team, our general and administrative team up over the last 3 years. And so we'll continue to leverage on that. We have made some discrete investments into G&A, specifically around our business intelligence capabilities. We've built out recently a team in that regard. And we look for great leverage on that investment over the next couple of years. But we really do have an opportunity to hold that G&A base now given where we exited out of '23, but maybe just slightly over inflation. And so that will be a great opportunity for margin leverage as we go forward. And then obviously, in the manufacturing cost base, we have a good amount of latent capacity that we can continue to tap into as well as continuing to execute on lean manufacturing strategies to reduce cost.

Mr. Holleran, we have no further questions at this time. I would like to turn the floor back over to you for closing comments.

Thank you, Christine. In closing, I'd just like to thank everyone for their interest in Hayward. Our business is very well positioned to navigate the near-term challenges and deliver value for our stakeholders in the years ahead. This wouldn't be possible without the hard work, dedication, and resilience of our employees and our partners around the world. Please contact our team if you have any follow-up questions, and we look forward to talking to you again on the first quarter earnings call. Thanks, Christine, you may now end the call.

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation, and have a wonderful day.