Hillman Solutions Corp. Q2 FY2021 Earnings Call

Ladies and gentlemen, thank you for standing by, and welcome to the Hillman company's 2021 Second Quarter Results Conference Call. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your host today, Jennifer Hills, Vice President of Investor Relations. Please go ahead.

Thank you, Sarah. Good morning. This is Jennifer Hills, Vice President of Investor Relations at Hillman. Thank you for joining us this morning to review and discuss Hillman's second quarter 2021 earnings results. Joining me today are Doug Cahill, Chairman, President and Chief Executive Officer; and Rocky Kraft, Chief Financial Officer. A copy of our earnings release and slide presentation can be found under the Investor Relations section of our website at www.ir.hillmangroup.com. Before we begin, we would like to caution you that certain statements made today may include forward-looking statements that are subject to the safe harbor provisions of the securities laws. These forward-looking statements are not guarantees of future performance and are subject to certain risks, uncertainties, assumptions and other factors, many of which are beyond the company's control and which could cause actual results to differ materially from those projected in such statements. Some of the factors that could influence the company's results are contained in our periodic and annual reports filed with the Securities and Exchange Commission. Please see Slide 1 in our earnings call deck for more information regarding these risks and uncertainties. We will begin the call with a business update from Doug, followed by Rocky, who will be providing a financial review of the quarter. Now let me turn the call over to Doug.

Thanks, Jennifer. Good morning, everyone. The past few weeks have been an exciting time for Hillman with the closing of the transaction with Landcadia III and, on July 15, ringing the bell and becoming a publicly traded company on NASDAQ under the symbol HLMN. With the transaction complete and the recapitalization of our balance sheet, we are even better positioned to do what we do best: solve complexity, labor and logistics problems for best-in-class retailers from big box to your local hardware stores. And I can't remember a time when these were more important to our retailers than they are right now. We're excited because, at Hillman, nothing happens until you sell something. Our unique model continues to result in share gains and new business wins in the second quarter. This includes adding additional stores for construction fasteners, nice wins in builders' hardware and continued momentum in the traditional channel. We are continuing to gain share in important growth categories as we help solve two of our retailers' biggest challenges, logistics and labor, by shipping to over 40,000 locations and having our people in the stores each and every day, helping to ensure the product is available and easy to find when the retail customer walks into the store. And the same is true for our Robotics and Digital Solutions business. We are the leader in innovation for key and fob duplication, pet engraving, and knife sharpening businesses. We have designed, developed and manufactured all 34,000 kiosk machines located in retail stores throughout North America and continue to own and service every machine out there. These robotics and digital machines help drive in-store traffic, provide great margins and are destination purchase items for our retailer. We have significant runway to continue to expand our product offerings and to take share both organically and through M&A, and we're fired up about what's ahead. Year-to-date, through the first six months of 2021, we've grown sales 11.6% and adjusted EBITDA, 8.9%. During the second quarter of 2021, we were up 8.4% in net sales and adjusted EBITDA increased 4.6%. I'm very happy with the top line. And while our bottom line growth lagged our top line a bit, it's mainly due to commodity, freight and ocean container inflation that we've absorbed in the first half before we successfully implemented our initial price increase that went into effect toward the end of the second quarter. As we continue to monitor inflation, particularly steel, freight and ocean container costs, all three continue to rise really across the board, and therefore, we'll be taking additional price to cover higher costs, which should take effect during the fourth quarter. Let's talk about the second quarter. As previously discussed, in early March, we saw the rapid slowdown of our Protective Solutions business, which was down 21.5% in the quarter as vaccinations rolled out much faster than any of us imagined. We entered new PPE products last year during COVID with masks, wipes, sprays and final disposable gloves at the urging of our customers. It was good for our customers, their customers as well as Hillman. As a result of the earlier-than-planned slowdown, we had negative comp in Protective Solutions and began the quarter with excess PPE inventory, just like everybody else. We worked with our retail partners and have made progress this quarter, working down this inventory through markdowns, promotions and donation efforts to those still in need. We saw a stronger-than-expected recovery in our Robotics and Digital Solutions business, which was up 57% in the second quarter, and our Canadian business was up 32%. We also saw continued solid demand in our U.S. Hardware Solutions business, where we were up 5.6% on top of a very strong performance in 2020. These gains really demonstrate the strength of Hillman's operating model and exceptional execution by our in-store sales, service and supply chain teams. Let me give you a few examples during the second quarter of why this is our competitive moat and the secret sauce of Hillman. Three quick examples. First in April, we replaced a 25-year incumbent supplier at a major retailer with a brand-new eight-foot program in 1,600 stores flawlessly. Why? Because we have a better mousetrap. And they know our people are the best in the business when it comes to resets, merchandising, and category management. The second example is a new eight-foot expansion of builders' hardware and construction fasteners in 450 stores at a major retailer. And I love this one because it didn't come from an incumbent. It's brand-new shelf space from vendors outside our categories, losing shelf space to us because our existing programs continue to outperform. And finally, today, hopefully, around 2:00, Rocky and I have an under and over on that, we'll finish a 150-store reset at another major retailer for construction fasteners at 97% on time and complete. This is 32 linear feet of shelf space. These three new programs are well over 1,000 SKUs. To me, I think it's a great example of belly-to-belly selling and execution at its best. Let's move to sourcing. Consistent with what others are experiencing, if you're sourcing products from overseas like most of this industry does, the lead times have almost doubled due to container and vessel availability challenges. But I'll tell you, having the 1,100 Hillman sales and service folks in the store every day, combined with our long-term customer and supplier relationships really differentiated Hillman from the rest of the pack over the past 15 months, and I'm super proud of the team. Given these supply chain pressures and spikes in demand, we're really proud to say our fill rates led our industry last year at 93.5, and we continue to hover in the low 90s through the first six months of 2021. I'd really like to say it's easy since we've been doing this for 57 years. But there really is nothing easy about flowing goods to restock shelves in North America right now. Thankfully, we continue to outperform our competitors due to our unique model. Rocky will have more to say about the outlook, but I'd like to note a few things. First, it has been as difficult as ever in my career for us and our retail partners to accurately plan our business given the wide swings in demand for our products, first, during COVID and now this post-COVID phase. COVID's impact both up and down on everything from PPE to home improvement items to keys plus the impact on retail prices. I mean, just look at lumber prices quadrupling before recently and thankfully coming back to reality. And its impact on all our import costs from commodities to shipping to labor has really made planning very tough. The COVID bump and then drop with PPE products, and let's face it, this week's announcement on Tuesday about the CDC makes it difficult to predict where things go from here. That said, our hardware business remains the absolute engine of Hillman. Through the first six months of 2021, our Hardware Solutions sales were up 7.9% over a super strong 2020 and up 20.1% over 2019 if we look at that as a more normal year. During the third quarter, Hillman and our retail partners are planning for challenging comps in categories like deck and drywall screws. But let's think back to last year at this time. A big Saturday event was a trip to Lowe's, Home Depot, ACE or your local PetSmart. And now this summer, thankfully, consumers are visiting family and friends and getting back to recreational activities and travel. While end market demand remains firm, we anticipate these two categories could comp negatively in the third quarter due to the tough comparisons, but this should be more than offset by the new wins and pricing, resulting in a low single-digit growth rate for Hardware Solutions in Q3. Our new business wins and anticipated resumption of home and backyard projects, once the kids get back to school, should lead to a stronger fourth quarter and an overall Hardware Solutions growth rate for 2021 of 10%. In closing, we can't control all the moving pieces in our end markets caused by COVID, but we can control how we respond. And I'm proud and impressed by the agility of our people and what they've been able to accomplish so far in '21. We have taken market share, won new business, maintained industry-leading fill rates, rolled out new innovations, protected our employees, strengthened our balance sheet and taking pricing actions to try to mitigate unprecedented inflationary pressures. These actions have enabled us to profitably go year-to-date EBITDA 8.9% above 2020's COVID-fueled levels and 21.1% above a more normal year of 2019. I'm more excited than ever about our platform for growth going forward and our new balance sheet. The moat we've built around our businesses provides us a competitive advantage and further strengthens our relationship with our best-in-class retailers. We're well positioned to take advantage of opportunities as we continue to execute on our long-term growth objectives. With that, let me turn it over to Rocky to provide some more additional details on the quarter and year-to-date results as well as what all of this means for the rest of this year and next. Rocky?

Thanks, Doug. On a GAAP basis, our net sales for the second quarter of 2021 were $376 million, an increase of $29 million or 8.4% versus the prior year quarter. The increase was driven by 64% growth in our key business, 39% in engraving and 32% growth in Canada as all three were negatively impacted in the prior year due to COVID, as well as continued growth in Hardware Solutions sales, which were up 5.6%. Offsetting this growth was a 21.5% decline in Protective Solutions sales due to the reduction of COVID-induced buying of PPE, such as masks and disposable gloves. Year-to-date, net sales were $717 million, an increase of $74.5 million or 11.6%. Growth was driven by the recovery in the key business in Canada and continued growth in the hardware business and COVID-related sales of gloves and masks in the first quarter. As we discussed on our first quarter call, we continue to benefit from incremental sales of COVID-related protective products in the first quarter until about the first week of March, when sales dropped significantly due to the faster-than-expected rollout of vaccines and a proliferation of products in the retail channel. In the quarter, our gross profit increased by $9.4 million over the prior year quarter to $160 million. Gross margin rate contracted 90 basis points to 42.5% from 43.4%. Adjusting for buybacks, margin rate in 2021 was essentially flat with the prior year as increased sales of higher-margin RDS products were able to offset margin pressure from increased sales in the lower-margin construction fastener category and inflationary factors. Year-to-date, gross profit increased $20 million to $299.7 million. Gross margin contracted 170 basis points to 41.8 from 43.5 due to cost inflation and adverse mix. SG&A expense on a GAAP basis in the second quarter increased 17.6% to $111.7 million and, as a percentage of sales, increased to 29.7% from 27.4%. Excluding $7 million in costs associated with the Landcadia merger and litigation costs, SG&A expense increased 10.4% and was 27.2% of sales. Selling expense increased by roughly $5 million driven by increased marketing spending, incentive compensation and higher travel and entertainment after a significant decline in the prior year due to COVID lockdowns. Warehouse and delivery expenses increased by $5 million due to higher sales volume and higher freight costs due to inflation. Year-to-date, SG&A increased 16% to $215 million, and as a percentage of sales increased 130 basis points to 30% or up 8.5% or only 50 basis points, excluding the above-mentioned items. Higher selling expenses, inflation, and warehouse and delivery costs were the primary drivers of the increase. Excluding the impact of certain restructuring and other costs, adjusted EBITDA was $64.5 million in the second quarter, a 4.6% increase from $61.6 million in the prior year. Year-to-date, adjusted EBITDA increased 8.9% to $112 million from $103 million in the prior year. Please refer to our 10-Q and investor deck for reconciliations of net income to adjusted EBITDA. Now let me turn to cash flow and the balance sheet. Year-to-date in 2021, operating activities used $60 million of cash as compared to a $12 million source of cash in the prior year. The primary drivers of the change were an increase in inventory to support new business wins and sales growth and increased in-transit inventories as we have had to order more product to accommodate for longer shipping lead times and cost inflation. Year-to-date, net cash used for investing activities was $62 million as compared to $23 million in the prior year and included the acquisition of OZCO Building Products in the second quarter. Capital expenditures were $22 million and relatively flat year-over-year and were invested primarily in our Robotics and Digital Solutions equipment and merchandising racks, an important part of our high-return CapEx initiatives. Maintenance CapEx remained near 1% of sales as expected. At the end of the second quarter of 2021, we had $1.7 billion of total debt outstanding and $64 million of availability under our revolving credit facility for a net debt to trailing 12-month adjusted EBITDA ratio of 7.1x. Post the closing of the merger with Landcadia on July 14 and the recapitalization of the balance sheet, we had $944 million of debt outstanding and roughly $58 million of cash on the balance sheet for a net debt to trailing 12-month adjusted EBITDA ratio of 3.8x. Similar to the experiences of many companies over the past year, COVID has had many different impossible to predict impacts on our business as, during COVID, when people were stuck at home and businesses were closed. We saw a pickup in hardware sales as DIYers were at home and tackled home projects while the professionals were not able to get into homes to complete work. We were able to opportunistically take advantage of the strong demand and lack of supply of personal protective products such as disposable gloves and masks. Offsetting this was weakness in our key and engraving businesses due to significantly reduced foot traffic at our retail customer stores. With the waning of COVID, we began to see a reversal of some of these trends. To cut through this COVID noise, we, like many of our peers and retail customers, believe comparisons of 2021 to the pre-COVID year 2019 are helpful. It also better reflects the strength in our underlying businesses. We have provided a two-year growth comparison of our results for the second quarter in our slide presentation, which shows that overall sales in the second quarter increased 15.7% from 2019. We also showed strong revenue growth across each of our segments with Hardware and Protective Solutions up 16.2%, Robotics and Digital Solutions up 10.3% and Canada up 21.5%. Similarly, we experienced strong growth of 19% in adjusted EBITDA and 50 basis points of adjusted EBITDA margin expansion. At the segment level, adjusted EBITDA from 2019 grew 15% in Hardware and Protective, 27.4% at Robotics and Digital and 11.9% in Canada. We want to highlight that this was all organic growth. As you can see from the two-year growth comparisons, our businesses remained strong despite COVID-induced volatility. As we have now locked down our first half and done a deeper dive into our business segments, with some better visibility into what a post-COVID environment might look like for our retail partners and end markets, we have modestly reduced our outlook for the balance of '21 and '22. We expect to see continued recovery at RDS in Canada and solid top line growth in our Hardware Solutions business, so not much has changed in the aggregate there. But continued inflationary pressures, primarily in our hardware business, and the delayed timing of offsetting price, coupled with downward revisions in our Protective Solutions business are reflected in our new outlook. Rolling this up, we remain optimistic on reaching our initial projections of $1.4 billion in revenues this year and growing to $1.5 billion in 2022. After consideration of all the moving pieces of our business, we believe prudent expectations for adjusted EBITDA to be approximately $220 million to $230 million for fiscal '21, and our early preliminary read on 2022 is $245 million to $255 million. These compare to $179 million in 2019 and $221 million in 2020. We remain confident in our long-term organic growth goals of 6% top line and 10% adjusted EBITDA growth, and we also look forward to completing highly accretive, low-risk M&A. With that, let me turn the prepared remarks back to Doug for some closing comments before we take questions.

Thanks, Rocky. Since we started this journey to becoming HLMN, Rocky and I have been transparent and that will never change. Right now, it's as crazy as I've ever seen it out there, and I've seen crazy. But my team and I feel confident that we can do $220 million to $230 million this year in EBITDA and, next year, $245 million to $255 million. We love our customers and our people and honestly, I'm glad I don't have to compete with Hillman. Sarah, can you open the call up for questions?

Our first question comes from Reuben Garner with The Benchmark Company.

To start off regarding the hardware inflation aspect, could you explain what's changed for your company? Previously, you anticipated that the timing of the inflation would allow you to offset costs. Can you clarify what specific inflation you're referring to? Is it solely related to materials, or does it also include factors like labor and transportation that have worsened more than expected?

Yes, Reuben, here's how I think about it. We basically put in a price increase effective at the end of the second quarter. Remember, with our customers, we give them roughly 60 to 90 days notice so they can figure out what they're going to do with retail prices. So basically, tax day is April 15, is when we needed to kind of lock and load on what we thought would be the right level. And we felt good about that. And I can tell you, since April 15, this thing just continues to go up. And it's getting on a ship. It's getting it here and what it costs. It's getting it to DCs and stores, and steel has gone crazy. I would love for steel to do what lumber has done, but it hasn't. And you've got currency as well in the steel side of it. So it's those three things, and that's the difference. Now we will price for it as we have. But again, think about the math. We'll be doing that. We'll be working with our customers. We've always been able to do that. But you're pretty much talking about effective dates in the fourth quarter. And the way I'm thinking about it, Reuben, is that this one, because it's so crazy, is probably a temporary pricing movement, and it can swing with the way things are going. Because honestly, this one just continues to run, and we don't know what it's going to do.

Okay. That's helpful. Can you provide insight into the growth outlook for Hardware, specifically regarding how much of that is due to pricing? I believe you mentioned low single-digit growth. Is that figure solely for Hardware, or does it include both Hardware and Protective in Q3? If you could clarify that, I would appreciate it.

Yes. When considering the price and volume mix for the full year, as Doug mentioned in his remarks, we expect to see a 10% increase in the hardware business compared to an exceptionally strong 2020. We are very proud of that achievement. Currently, this includes approximately 3.5% from price increases. You can calculate the volume impact from there.

Okay. And virtually all of that is in the second half, correct?

The price impact, yes, correct. And when Rocky says, we'll see a little of that. It's just that we've seen increases that are more than a little, but we're basically going to only see the positive impact of the next pricing towards the end of the year.

Got it. And regarding the protective segment, in Q2, I noticed the removal of masks, rubber gloves, and chemical cleaners. Was there anything else that specifically affected Q2? I'm not sure if it was a challenging comparison, but it seemed to align with Q2 of 2019. Should we consider the protective segment to achieve similar top line numbers to 2019 as we progress through the year?

I would say that the core business, excluding COVID impacts, was really strong. Last year in the second quarter, the lawn and garden sections were closed, and there was a lot of effort just to keep stores open and get people back to work. Our core business performed well in the second quarter. Last year, we shipped everything we had as quickly as we could due to the COVID situation. Overall, I'm pleased with the strength of our core business.

Okay. Last one for me. I understand the current challenges that companies in the housing, building products, and industrial sectors are facing during these uncertain times. What is influencing the outlook for next year? Given the uncertainty that doesn't seem to be letting up, are you anticipating some additional inflationary impact? Or what explains the slight adjustment to next year's forecast?

There are a couple of important points to mention. One is that the current situation is quite alarming because, honestly, I’ve never experienced anything like it before. For instance, Reuben, right now we have bidders offering five to six times what we typically pay to secure shipping. Given these circumstances, it's crucial to ensure we receive the product, which is a significant concern for me. And then as you think about gloves, disposable, because we've talked about this before, our disposable glove business back in '19 was really a great mix. It was about 85% nitro, about 15% vinyl. You use vinyl for the paint guys. And that's really what we'll be doing in '22. And initially, our customers were saying to us, we'd like you to do more in the disposable gloves ongoing because you've done such a great job. But Reuben, there's so much global capacity that's been put into the disposable market. I don't think we want to play in that market. So we're going to go back to basically a business and disposables that was like it was in '19 because I don't want to be in the food fight on disposables. There's just too much capacity out there. So those are the two things.

Yes, Reuben, just to add to Doug's point, I mean, it's July 30. We're looking six months from now. Looking back a year, it was unprecedented times, and we've told everyone that we believe we grow this business 10% from an EBITDA perspective. So if you take the new base, it's just prudent at this time to say we'll grow 10%, not something above that, and that's kind of how we thought about it, coupled with the thoughts as Doug's thought about the market.

Perfect. I have one last question, but I’m going to add another. You're currently at 3.8x following the deal closure. Can you explain what this means for cash flow and what the deleveraging path will look like? I assume that the quicker you can reduce this, the more active you could be in the M&A market.

Yes. So what I would tell you, Reuben, is we will have some modest deleveraging this year. It will probably be less than we had anticipated just given the inflation that we're seeing and the commodity costs in the business. And so we will use a bit more working capital than we had planned. As we think about 2022, it will be our intent to generate over $125 million of free cash flow, and we'll use that cash to pay down debt unless we see some really significant highly accretive, low-risk M&A, in which cases we think our shareholders will want us to do that.

Our next question comes from the line of Ryan Merkel with William Blair.

So my first question, just to clarify the change in EBITDA outlook for 2021. It looks like it's $10 million to $20 million lower than previously. How much is price cost timing versus the bigger PPE headwind?

Yes, Ryan, if you look back to the end of the first quarter, we didn't really know what was going to happen. Our call was around May 11, and at that time, we saw PPE come to a halt. Since our last discussion, two things have changed. One is related to moving PPE, which honestly is irrelevant now. We can't predict what will happen with the CDC or the current situation out there. However, you could significantly discount products, and they still wouldn't sell. The consumer has indicated a clear disinterest. We have been trying to determine how to navigate this situation and recover our investment, which has been our focus. Back in May, we were uncertain about the future and what to expect. Additionally, we are facing challenges related to the costs of materials and our capability to adjust pricing quickly enough given the current circumstances, not to mention the logistics involved in shipping. These are the two main aspects we are dealing with.

Got it. Yes, it makes sense to be prudent at this point about 2022. So I see why you did that. And then my follow-up, and I just want to be clear on this. I know you have two price increases out there. So I guess two questions. One, have you seen any pushback from your customers? I think the answer is no, but just to clarify that because I think it's a big point. And then secondly, when are you going to get back to neutral on price cost? I know you're guessing, but it sounds like it's the end of this year, so just clarify that as well.

Yes. First of all, we haven't finalized our letter from June 30 yet. We wanted to wait and see how things developed. We noticed fluctuations in April and May, so we decided to hold off a bit. It became effective in the latter half of June. Now that we’re in July, we’re discussing the situation with retailers. They are feeling a lot of pressure overall. We’re working on the timing. I believe we should approach this as a temporary measure so that after 90 days, if things stabilize, we will be fine with the second phase. Regarding your last question about Christmas, we should be at a run rate by then, right, Rocky? That seems to be the case.

Right.

Our next question comes from the line of David Manthey with Baird.

I'm wondering if you have a clear vision for the ramp of InstaFob and Resharp. Is there a contractual number of units that you're going to be placing at any point? How should we think about the ramp there?

Yes, Dave, let's talk about InstaFob first. As we've said, this one is really cool, and we can either build it into our full-serve key machine or do stand alone. And we've also said that this is not in the middle of Iowa. This is really around population areas, but we're super excited. ACE, Walmart, Lowe's and Depot have all taken it, and we're rolling those machines out. Believe it or not, we got caught a little in the chip thing, but we're small enough to where we've been able to catch up. So I think we're in good shape there. And that rollout schedule is kind of evolving and going as fast as we can, but people are happy with it. I know that we're happy with it. On Resharp, it's ACE Hardware first until we get to those 3,000 machines that they've ordered. In that case, we've got enough to make x. I won't tell you the number, but we are waiting for chips, just like the car guys, for that machine. But ACE is really happy. It's really interesting. We basically said to our partners at ACE, 'Hey, why don't you guys see if you can get them because we went on eBay and can't get them.' And they came back and said, 'No, we can't get them either.' So we're just going to be working through that as chip availability comes. But Rocky, at the end of the year, we'll be where on machines on Resharp?

We'll probably be close to 500.

Yes, probably 500 or 600 by the end of the year. I was hoping we would reach 1,000, but I didn't realize it was the same chip as the car; it's the same one.

The interesting thing. The only color I would give to what Doug said there is, given the timings of the rollout in the chips, we think we will be a little behind plan as you think about revenue from those programs. But year-to-date and even through the rest of the year, we actually feel really good about profitability. The ASP is actually above what we had planned. And so we're seeing some nice profitability, although it's still very minor.

That's a good point, right. Dave, it won't really have an impact because until we get about 1,000, we're not going to start turning on the marketing machine with ACE. So yes. Rocky, good point.

Okay. You may have touched on this, but as you look at the 2022 outlook relative to '21, I think it's about 7% growth. When you think about those two concepts together, what type of contribution are they making to that 7% growth rate? Is it a meaningful amount?

It is not meaningful, quite frankly, even as we modeled out several years internally. The top line from those businesses is only 2% to 3% of our business. So the top line isn't meaningful. When you start to think about EBITDA several years out, we do believe they can be meaningful just because of the flow-through that you have in those businesses. As we've talked about, 70% EBITDA margin because they're service-related businesses that don't have cost of goods. We love those kinds of businesses.

Our next question comes from the line of Josh Gonzalez with Blackstone Credit.

Can you break down the $10 million to $20 million lower guidance for 2021? Specifically, how much of that is due to PPE not being sustained at the same level compared to the impacts from price cost and freight associated with fasteners?

So here's how I would think about it. We said $220 million to $230 million, we said there was $10 million of pressure after our first quarter call, and that was all from the PPE. We've obviously moved off that number. If you pick a midpoint on $220 million to $230 million right, and say, $225 million, that's kind of $5 million of additional pressure. We would say that most of that is from the inflationary pressures. There's a little bit more PPE, but we had most of that baked in.

So you're indicating that the majority of that is from PPE at the end of the day?

No. No, no, no. I'm saying the change from first quarter now. If you went $240 million, right, down to somewhere between $220 million and $230 million, we would probably tell you north of two-thirds of that is the PPE reduction. The remainder is the inflationary pressures that we plan to offset by the end of the year.

Okay. Okay. Great. And then it sounds like volumes in fasteners are still pretty favorable when you guys kind of gave a 3.5% price increase. Do you guys see the volumes holding up to the end of the year? Or how are you thinking about that?

Yes. I'm super happy with that business. And Josh, remember, 3.5% is just because it's only half a year. So the price increase is bigger than that, but we're doing really well. And if you think about it, I mean, in this environment, to take 32 linear feet at 150 stores with thousands of SKUs and just set it at 97%, I mean, even the retailer is saying, 'holy smokes.' So they just do a really good job, and that team has been doing it a long time. So I feel great about that business, but you don't grow the way we're growing if you don't take share, and we're continuing to pick up share. Feeling good about it.

Okay. So a lot of that volume growth, is that demand-related? Or is that just your guys' share came in at the end of the day?

Yes. I think if you go back to the way we've looked at it, Rocky, it's still a pretty good model. When we think about 6% organic, except the pricing that will take place in the next 12 months.

Yes. I would tell you, as we've thought about our modeling compared to our model, obviously, we're a bit above it this year on the hardware side. Other than the pricing, if you take that out and you say 6.5%, 7% of volume in the year, it's pretty close to what we think. We probably have seen a little bit more market, but we've also taken a lot of share, and we're really proud of that. And I think we will continue to, as we think about 2022 in the future.

Yes. I believe every investor has noted that last year saw a surge in demand for deck screws and drywall screws. This will likely contribute to a negative comparison for the third quarter, but we are still expecting a slight increase, which I find commendable. Once school starts again, there will be new projects. There is a general consensus that activity will pick up again. However, for now, it seems that many people are finally getting out of their homes, and we are optimistic that this trend will continue.

Yes, sorry if the details are unclear. I believe you mentioned 455 stores, which fully offset some of the weak comparable sales. Could you provide an estimate of the revenue that this opportunity represents?

We won't provide that information, Josh, because I want to protect the retailer. We don't want one retailer comparing themselves to another and saying, 'They do this and this.' Therefore, I won't discuss the retailer or the size, as it's crucial that we avoid making statements that could put our retailers in a difficult position.

Our next question comes from the line of Dick Ryan with Colliers.

Doug, you mentioned this being a crazy time with some key wins. Can you discuss how the conversations are progressing with either the major retailers or others as they look, not just at the upcoming year, but at the next three to five years, and how you might adapt as they possibly adjust their strategies?

It's interesting, Dick. They're really excited that we managed to reduce our debt from $1.7 billion to around $850 million. Essentially, we cut our debt in half, and they appreciate that. However, they don't want us to just go out and make acquisitions to appear larger. They've observed companies that lose focus and do things that don't align with their strategy. They prefer that we continue to make decisions that fit with our strategy and avoid getting involved in unrelated ventures. So, we're going to maintain our close relationship with them, and I feel positive about it. They're thrilled about the decrease in debt because they believe it's beneficial for the business, and they just want to ensure we stick to our strategy, which we intend to do.

Okay. Just to clarify, I remember seeing something earlier about interest, $30 million a year. Rocky, is that something for 2022 as we move forward?

Yes. Yes, that's a good number.

Our next question comes from the line of Daniel Lupo with Jefferies.

Can you maybe comment a little bit about the M&A environment? What are you seeing out there? Is there anything kind of actionable? Or are you kind of on pause for now until some of these headwinds kind of pass by?

We're not on pause, but man, we're at Dollar General. I mean we're not going to overpay for anything right now, Daniel, and that's a good place to be in. We've had some really interesting conversations. I got to be honest, the phone's ringing a bit more now that they see our new capital structure. But what we're doing is I don't want to waste my team's time and certainly not my time. We're saying listen, we like the thing. We know if we put your stuff through our goods, we're going to grow. But here's kind of what we're thinking from an EBITDA multiple standpoint. And if you're interested, we'll go. If not, don't waste your time or ours. And I think you'll see us be successful in that area. But take HHI, as an example, that's been announced. You've got brands like Kwikset and Pfister and Baldwin. That's going to go at retail pricing. That's going to go at a strategic multiple. That's not us. We're not going to do that kind of thing. So I think it's probably going to be a pretty good time because I got to tell you, we do 19,000 containers a year from Asia. People who don't know how to do this are getting their heads handed to them. And so there's going to be some people who are going to want to hook up on trying to figure out how to weather what's going on. And I feel good about our chances. But no, we haven't stopped.

That's helpful commentary. And then just last one for me here. Can you maybe comment a little bit more on working capital, kind of how do you feel about that today? Are you over-inventoried in any places, under-inventoried in any places? And how do we kind of think about that the rest of the year?

Yes. So I think as you think at June 30, obviously, we do still have PPE inventory that I would say we're over-inventoried on, although we do still have some masks in the warehouse, and we'll see, depending on what happens over the next month or so. We're working through that with our customers, and we think we'll have that cleared out by the end of the third quarter. As you think about the remainder of the business, lead times have lengthened pretty dramatically across the board as you start thinking about products coming out of Asia. And so our inventories are up. They probably will remain elevated through the rest of the year. And so I think as we think about the current year, we do believe we will have a little more working capital usage than we had in our initial plan. When considering inflation and the increased lead times, we need to have more product available to ensure we can meet our customers' demand at over 90% fulfillment rates. However, as I mentioned earlier, we believe that by 2022 or 2023, when inflation starts to decrease, we will be able to turn that working capital into cash. We are confident that we can generate over $125 million in free cash flow in 2022.

And Daniel, the only thing I would add there is you can't have a 90%-plus fill rate in today's environment if you keep your inventories flat. It's just not possible. And we're going to keep our fill rates at 90-plus, and that's probably part of the reason that our competition isn't because it's just really hard to do and you've got to play to win. We're going to play to win.

Thanks. Our last question comes from the line of Andrew Berg with Post Advisory Group.

Just going back to the slight adjustment to outlook. You guys are pretty good in saying two-thirds was PPE, one-third was price/cost. If we focus on the price/cost component of that, you had mentioned increased shipping rates, which I think you were alluding to on water freight, which I think is more ground transport and then steel prices. Can you parse through those three items to give us a sense, order of magnitude what are the biggest to smallest and roughly the percentage moves that there are for those three categories?

Yes, good question, Andrew. Our advantage lies in the fact that we ship to nearly 43,000 locations and have direct store deliveries to many places. Considering our cost structure, we invest $80 million in valuable personnel, and we send a significant amount directly to stores, which helps us save on freight and handling for our retailers. Consequently, our cost mix differs from that of typical competitors. Rocky, how would you address the rates for ocean freight, general freight, and steel? If you were to categorize them, what would your assessment be?

The biggest today, as we look out, is around the commodities. So I would say probably half commodities and then the rest is mixed up in some level of freight, either inbound or outbound.

Yes, probably right. That's good, yes.

This concludes today's question-and-answer session. I will now turn the call over to Jennifer Hills for closing remarks.

Thank you for joining us this morning. A replay of this call will be available on our website. Thank you.

Have a great day. Have a good weekend.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.