Thank you for joining us, and welcome to Valvoline's Third Quarter 2022 Earnings Conference Call and Webcast. I’m Sam, and I will be your moderator for today's call. Now, I will pass the call to Sean Cornett from Investor Relations. Sean?

Thanks, Sam. Good morning, everyone, and welcome to Valvoline's Third Quarter Fiscal 2022 Conference Call and Webcast. On August 3, at approximately 5 p.m. Eastern time, following released results for the third quarter ended June 30, 2022. This presentation should be viewed in conjunction with that earnings release, a copy of which is available on our Investor Relations website. Please note that these results are preliminary until we file our Form 10-Q with the Securities and Exchange Commission. On this morning's call is Sam Mitchell, our CEO; and Mary Meixelsperger, our CFO. As shown on Slide 2, any of our remarks today that are not statements of historical fact are forward-looking statements. These forward-looking statements are based on current assumptions as of the date of this presentation and are subject to certain risks and uncertainties that may cause actual results to differ materially from such statements. Valvoline assumes no obligation to update any forward-looking statements unless required by law. In this presentation and in our remarks, we'll be discussing our results on an adjusted non-GAAP basis, unless otherwise noted. We believe this approach enhances the understanding of our ongoing business. A reconciliation of our adjusted non-GAAP results to amounts reported under GAAP and a discussion of management's use of non-GAAP and key business measures is included in the presentation appendix. The information provided is used by our management and may not be comparable to similar measures used by other companies. Now as we move to Slide 4, I'd like to turn the call over to Sam.

Thanks, Sean, and thank you, everyone, for joining us this morning. In case you missed our announcement on Monday, we are excited to have reached a definitive agreement to sell our Global Products business for $2.65 billion in cash. I encourage you to review our announcement presentation and press release for further details on the transaction. With the separation of Global Products, Valvoline is making a pivotal step in its strategic transformation. As a pure-play auto aftermarket service company, Valvoline expects to be a faster-growth, higher-margin business with lower margin volatility and a long runway for reinvestment opportunity. A sharpened corporate focus, enhanced capital structure, and capital allocation policies further cement our corporate transformation into a high-growth auto aftermarket retailer. The long-term benefits of the transaction are clear. Historically, Valvoline has been a combination of a predominantly slower growth, cash-generative products business in a high-growth, high-margin services business. The separation will drive increased clarity and transparency on the performance of our fast-growing retail services business, which should lead to a more appropriate public market valuation and a new shareholder base focused on high-growth retail concepts. We believe Valvoline as a stand-alone auto aftermarket services company represents a compelling value opportunity for investors. Valvoline's Board and management team are committed to executing our strategy and delivering best-in-class results for our shareholders. Moving to Slide 5, let's discuss how we plan to utilize the transaction proceeds to drive our transformation. Valvoline expects to receive approximately $2.25 billion in net cash proceeds. We anticipate paying down some debt, particularly the 2030 bonds, which we expect to redeem at par given the asset sale covenant provision and other indebtedness specifically related to Global Products. Our enhanced capital structure is targeting a 2.5 to 3.5 times rating agency adjusted net leverage ratio, which allows Valvoline to both invest in the business and return cash to shareholders via share repurchases. We believe in the long-term value of our stock and will retire a substantial percentage of the shares outstanding to right-size our capital structure and minimize earnings dilution from the separation. Let me walk you through how we expect the transaction to impact long-term EBITDA margins for our business. Slide 6 is consistent with what we shared on Monday, though a slightly different view to help add some clarity. We anticipate that our portfolio realignment will improve our overall corporate margins by roughly 400 basis points while demonstrating a faster growth and high-returns profile. Beginning with our guidance of a 30% to 32% Retail Services segment margin, we must allocate approximately 50% of our legacy corporate costs to derive a comparable corporate EBITDA margin. Synergies from the transaction, mainly incremental stand-alone and supply agreement costs, reduced margins by roughly 300 to 400 basis points to generate our 23% to 26% margin targets. The brand use for product purposes is reflected in the transaction consideration, and so no brand licensing fees are involved going forward. Despite separation dis-synergies, we're confident in our long-term growth, margin profile, and cash flow generation. Regarding sales growth, we've outperformed historically driven by same-store sales and store additions, so there's room for upside in our outlook as well. Pro forma 2022 EBITDA margins are forecasted to be slightly below our long-term expectations, primarily due to the price cost lag from the extreme raw material inflation that we have seen this year. The improved Valvoline corporate margin profile, coupled with optimized capital structure and capital allocation, is projected to drive 20% or more of EPS growth annually. Let's review our Q3 results, starting on Slide 8. Our results in Q3 show that the demand profile for Valvoline's products and services remains robust with both businesses continuing to capture market share. While we are experiencing temporary dilutive effects on profit margins due to higher cost and price pass-through impacts, the strength of our top line growth highlights the non-discretionary nature of our preventive maintenance business and positions us well for margin expansion when the current inflationary cycle eases. Let's turn to the next slide to look at Retail Services results for the quarter. Our Retail Services segment continues to generate strong top-line growth, with Q3 sales increasing 16%. System-wide store sales also increased 16%, driven by a nearly 10% same-store sales growth and an 8% increase in units. On a two-year stack basis, our same-store sales in the quarter grew in excess of 50%. And for the year, we expect growth in excess of 30%. At the end of fiscal '22, we expect to have delivered our 16th consecutive year of same-store sales growth. We have a three-pronged approach to expanding our retail footprint: building company stores, acquisitions, and working with our franchisees on their store development. We anticipate adding 140 to 160 units this fiscal year, with a strong franchise contribution as they continue to invest in growth. Turning to Slide 10, let's review our recent margin performance in the context of our segment strategies, our segment targets, and by comparing year-over-year and sequential performance. In Q3 last year, EBITDA margins ran well ahead of our long-term targets driven by high store utilization levels. We were understaffed in our stores but saw a significant rebound in transactions, leading to roughly 300 basis points above the midpoint of our target range. As we said during our earnings call last quarter, our segment EBITDA margins in Q2 were below our long-term target due to product and labor inflation as well as labor investments we made to improve staffing levels and turnover. We took pricing actions beginning in early Q3 to improve margin performance. Those actions were successful and drove a 230 basis point sequential increase in margin rates this quarter. While improved, our Q3 margin was slightly below our long-term target, driven by continued inflationary pressure as well as the dilutive impact of passing through higher product costs and sales to our franchisees, which drove a 100 basis point margin decline year-over-year. In Q4, we expect similar margin performance to Q3. However, with continued top line growth, we expect better flow-through to profitability, leading to solid year-over-year growth in segment EBITDA. While the macro environment remains challenging, we are monitoring potential impacts of higher inflation on consumer behavior and any differences by region. We do have levers to address any developments, including adapting our digital marketing offers, among others. We remain confident in our targeted segment margin range. Given our top line strength, we are well positioned to see both improved EBITDA dollar growth and margin expansion as inflationary pressures ease.

Thank you, Sam. Our Q3 results are summarized on Slide 13. We saw strong top line growth across all segments and channels, indicating consistent robust demand. Overall sales growth of 21% for the quarter was driven by 15 points from pricing, which included the pass-through of raw material inflation, and nearly 6 points from a favorable volume mix. The growth in adjusted EBITDA largely stemmed from benefits of volume mix, slightly offset by a modest increase in SG&A driven by wage inflation and returning levels of travel and advertising. Let's take a closer look at segment results on the next slide. Retail services sales growth of 16% includes same-store sales growth of nearly 10%, demonstrating the sustained strong performance in the business, with ticket growth exceeding transaction growth in the quarter. The EBITDA margin in Retail Services decreased by 450 basis points year-over-year, reflecting the challenging comparison and the dilutive effects of inflation that Sam discussed earlier. However, margins improved by 230 basis points sequentially due to the pricing actions we implemented. We do not anticipate significant improvement in Q4 due to ongoing price pass-through effects, but we are confident in the long-term outlook for margin enhancement. Sales growth in Global Products continued to outpace strong volume increases in Q3, with noticeable sequential improvement in unit margins. Both factors highlight our capacity to pass through inflationary pricing costs. Let's review our updated guidance on the next slide. We are revising our guidance range for adjusted EBITDA and now expect $670 million to $680 million on a consolidated basis. At the beginning of the year, we did not anticipate the level of inflation we have encountered. The reduction in guidance for retail services is mainly due to the unfavorable price/cost lag from higher raw material costs. Our updated outlook signifies low double-digit earnings growth year-over-year at the midpoint for Retail Services, representing a significant increase in a tough environment. Regarding adjusted EPS, we now expect $2.07 to $2.15 per share. We are adjusting our guidance for free cash flow to $140 million to $160 million. Ongoing raw material inflation is leading to a higher working capital investment in the Global Products business as inventory values rise and price pass-through results in increased accounts receivable. Now, as we move to Slide 16, I’ll hand it back to Sam to conclude.

Thanks, Mary. As we turn our focus to preparing for the new fiscal year, we are expecting strong profit growth as we move past the impacts of product inflation. While we've guided to a mid-teens EBITDA growth on average, given the challenges that we'll be lapping, we expect a stronger EBITDA growth rate next year. We also will be focused on minimizing corporate dis-synergies and optimizing SG&A. We look forward to sharing more on our fiscal '23 outlook for the new Valvoline at our year-end earnings. We are bullish on our capabilities and opportunities in automotive aftermarket services. On our road map to drive shareholder value, we remain committed to our successful growth strategy of making vehicle care easy and accessible for our customers. We will optimize our capital structure and capital allocation policies to supplement the growth in our core business, where we expect to continue to grow market share and non-oil change revenue. With a footprint of nearly 1,700 stores that currently reaches less than 15% of households, we have significant opportunities for unit expansion, and we will be increasing our emphasis on franchisee growth. Finally, with a clear corporate focus, we will increase and leverage our scale to prepare for and capture new customer and service opportunities. We are very excited about the future of Retail Services, and we are pleased that we have found the right strategic partner for Global Products. Finally, I'd like to again recognize our teams across Valvoline. I'm proud of the results they've generated growing the business and delivering outstanding customer service, while working through a rigorous separation process. This gives me great confidence that we're ready for the next step in our transformation. With that, I'll hand things back to Sean to open the line for Q&A.

Thanks, Sam. Please open the line.

Our first question comes from the line of Simeon Gutman with Morgan Stanley.

This is Michael Kessler asking about the Retail Services EBITDA margins, which are still somewhat below the long-term targets you outlined on a pro forma basis. Is the gap mainly due to raw material cost inflation and the delayed impact on franchisees? Is there anything else that might explain this gap? Additionally, if we assume a more stable pricing environment next year, can we expect that the margin will return to the 23% to 26% range on a pro forma basis?

Yes. So first of all, you're correct in that our margins going into Q3 and going into Q4 are impacted by those higher prices that we're passing through to franchisees, so impacting our percent margins. We noted earlier in Q2 that we had a margin decline and that we took appropriate pricing actions, both in our oil change services and our additional services, and those helped us recover margin in Q3. So when we look at our current pricing in the stores, we think we're where we need to be in terms of our margins for both oil changes and services. And so now we're talking about that percent margin being somewhat depressed by that pricing impact to our franchisees primarily.

Okay. That's helpful. And maybe one follow-up on that and then just one other separate question. On the longer-term range, 23% to 26%, can you talk about, I guess, the drivers? We can kind of see that there's a little bit of probably uncertainty around the nature of corporate costs and separation, what the exact impact of the supply agreement looks like, et cetera? But the gap between 23% and 26%, can you talk about just puts and takes, why you might end up at the lower end versus the higher end? And when we say long-term or when you guys say long-term, is 26% kind of a good upper bound to think about? Or if we're thinking out several years, that there could be room for further expansion?

Yes, we are considering the period from 2023 to 2026 when we discuss this, both in the short term and long term. I would anticipate that we will be closer to the 23% range as we start this next phase. We still have some work ahead to optimize our cost structure concerning dis-synergies and corporate costs as we prepare for fiscal 2023. We will provide more details during our Q4 earnings call and guidance for 2023. Our model has significant leverage, which we have demonstrated over time. As we increase same-store sales and maintain healthy growth rates, our margins are expected to improve. We foresee margin improvement from 2023 through 2026 each year as we enhance our performance. We are very confident in our capability to continue gaining market share while also enhancing performance in our stores, particularly in non-oil-change revenue.

Great. Okay. And sorry, maybe one last follow-up for me, and then I'll close. Just on the same-store sales algorithm for Retail Services. I know the total growth came down a little bit versus your prior guide. So if you can just talk a little bit about that? And then just thinking about the same-store sales build in the out years and just kind of on a normalized basis, is there any changes we should be thinking about? And just to build there, ticket versus traffic, anything, I guess, new to note given that you've had three years of, I would say, pretty strong compounded growth?

Yes. No doubt, the last few years have been incredibly strong with same-store sales performance. I don't know that we'll continue in the double-digit range, but we'll always be striving for that. We still have plenty of opportunity. But we'll work on our guidance for fiscal '23, and I believe it's going to continue to be strong because we're seeing good solid opportunities in both growing market share, winning new customers, retaining those customers, and selling them the additional services, providing those services that they're needed and seeing ticket performance, too. So the algorithm doesn't change. We expect that transactions will be a healthy component of our same-store sales growth moving forward, but we also see the ticket performance driven by premiumization of oil changes, pricing leverage, and providing those additional services for preventive maintenance as being key. When we look at our performance in this past quarter, both transaction and ticket contributed to that same-store sales growth of roughly 10%. About one-third of it was driven by transactions, and two-thirds by ticket performance. I think it will be relatively balanced moving forward, with steady transaction growth contributing close to anywhere from one-third to one-half of overall same-store sales performance and the balance being ticket.

And Sam, if I could just add on to that a little bit, I do think if you think about our long-term range for same-store sales growth of 6% to 8% and unit growth of 6% to 8% over time, there certainly is some upside opportunity. But we're guiding at the lower end to make certain that we're able to provide a reasonable level of guidance on both of those going forward. In addition to that, Michael, you mentioned on the 23 margin rates. I do think we're going to still see some dilution effect of the price cost through the franchisees. We have seen additional raw material cost increases here in the last several weeks. That price pass-through is continuing to the franchisees. I think some of that dilution is going to continue, and you might see the '23 numbers still be a little bit light relative to the low end of the guidance when we come out with our final guidance for fiscal '23, primarily driven by the dilution of that product cost pass-through.

I was hoping that you could give a little bit more color on what's going on with the free cash flow guidance. I think what we're trying to understand is if this is a structural issue or if this is mostly related to timing and a lot of that working capital should unwind as we start to look at fiscal '23.

Yes, Mike, to clarify, this primarily concerns the Global Products business. The average days sales outstanding for receivables in that sector aligns with industry standards. The DIY segment typically has longer terms. As we have passed the significant inflation onto our DIY customers, those receivables have increased significantly year-over-year, which is evident in our balance sheet as of June 30. You can also observe it in our inventory, although the impact on inventory is lessened due to the growth in payables. Those receivables will be sold alongside the Global Products business. I believe this is a one-time issue related to raw material cost inflation that will eventually ease as inflation decreases, but it is entirely tied to the Global Products business. In terms of the retail business, it operates mainly on a cash basis, with roughly 10% of our sales associated with B2B accounts that involve transactions with fleets and other commercial providers under reasonable terms. Looking ahead, the supply agreement between the Retail Services and Global Products businesses will provide terms to the retail sector that will also help reduce working capital needs. Overall, what you're observing is a temporary situation from a Global Products perspective that will likely stabilize as raw material costs decline, but this is not an issue within the retail business.

That's very helpful. In the Retail Services business, you mentioned pricing and the potential impact of higher prices on volume. Can you provide some insight into whether you are seeing customers moving away from higher-priced services? Are they stepping back from some premiumization trends you've noticed? I'm curious about how you're balancing higher prices with the possible trade-off in volume, whether for oil changes or other services.

Yes, it's a great question. We're watching the consumer dynamics really closely these days as other companies have shared pressure from inflation on consumer behavior. Our customers have been holding up really well. Our demand and transactions have held up really well even through this period of $5 gas, and so that's been good to see. Our ticket performance has been roughly where we would expect it to be, too. And so the higher oil change price, we haven't seen have that negative impact. I think that's one of the real strengths of our model is that people, even in challenging times, continue to take care of their vehicles and get that preventive maintenance done. But I would add, we were looking at results and just digging into it on a regional basis, too, and looking for price sensitivity issues. We could be seeing some signs of price sensitivity in certain regions on the additional services. That's something we have to be really sharp on and make sure that we adjust our marketing programs appropriately so that we don't lose traction because those additional services are really important to our model, and we think they're important to customers caring for their vehicles too. We'll continue to report on what we're learning and how we think it means for our model. But long term, as we move through challenging periods, the customer is incredibly resilient when it comes to taking care of their vehicles, and a lot of that has to do with the value that we're delivering in the stores too. That's what really is most important for investors to consider when they look at the Valvoline model, that we've built considerable competitive advantages in how we service customers, providing incredible convenience, I think better than anybody else, with both the speed of service and the quality of service, too, where it's all about building trust with customers. When we look at some of these broader market dynamics, especially the fact that we're only doing, even in the DIY market, 5% of all the oil changes out there. We talked about the opportunity to increase our store count, that's one aspect. But the other aspect is the fact that there's a real shortage of mechanics at dealerships and tire and repair, and that creates a real problem for them to even be able to do preventive maintenance as they focus on repair. The opportunity to see more preventive maintenance come our way is really substantial. Big picture is that despite any macro environment challenges, the opportunity for Valvoline to leverage our model for consistent and long-term growth is really substantial. We look forward to sharing more about that in the future.

Our next question comes from Jason English with Goldman Sachs.

A couple of quick questions. Sam, you mentioned the leverage that exists in the model to help drive margins up over time. We haven't historically seen that play out in your P&L. And I think the reason is because post your separation from Ashland, you were putting a lot of new stores on the ground, and they were mixing down margins over time. A, is that understanding correct? And B, at what point will we get to this inflection where the number of new stores you put in the ground is negated by the number of old stores hitting their sweet spot? And we can actually start to see the leverage you're talking about flow through to the aggregate P&L?

We have shared in the past what the leverage looks like in our mature stores, excluding the impact of new stores. Over the last five years, we’ve seen it grow by approximately 500 to 600 basis points. It's important for us to continue to communicate this to investors so they can understand the leverage within the model. However, the rapid expansion of new stores has affected the leverage seen at the bottom line, especially considering the volatility we've experienced this past year. The primary factor offsetting leverage has been the rapid inflation. We anticipate improvement next year, and as we project from 2023 to 2026, we expect to see a steady improvement in leverage, even amidst the current levels of store growth. There will come a point of equilibrium where we will see the model's progression reflected in leverage at the bottom line. We also see significant opportunities for accelerated store growth, having made substantial progress over the past five years to reach the target of 140 to 160 for this year. I believe we can surpass this in the future, focusing more on our franchise system. We have strong franchisees and are keen on enhancing our partnerships with them to enable continued and faster growth than what we are achieving this year.

Understood. And coming back on this cost price lag, we've had lots of conversations in the past. You've always characterized the Retail Services biz as reasonably insulated from this because you can always see the cost coming. You know what the cost is going to be to you reasonably well in advance, and you've got what was historically described as almost an immediate pass-through escalator clause with your franchisees and the ability for you, given line of sight, to rapidly change in the store. So there would be no lag, yet here we are this year and there's a substantial lag that's not just impacting ratios, it’s impacting unit economics and penny profit. So what's wrong about the prior description? Why is it broken down? And why is this business proving to be more inflation-sensitive than we all expected?

I'm not here to make excuses, and I won't go back on the description of this business being insulated from price/cost lag effects that we see on the Global Products side. Nonetheless, the level of increases that we've had in product costs has created a bit of a negative impact. We admitted that our Q2 performance was a little bit behind where we needed to be in adjusting prices, and we corrected for that in Q3. What we're talking about now is more on the EBITDA margin percentage being negatively impacted by the price pass-through. It's not a profit impact as we pass through prices to our franchisees because we adjust prices quarterly. That profit impact is not significant. If anything, we could get a 45-day lag. But on a percent basis, it has been a factor for our margins. So don't misinterpret what we're saying about the model and the strength of the model. And certainly, as we project forward and manage, I would say, typical inflationary impacts, this model is quite resilient. Mary, do you have anything else to add to that?

No. I mean, I think you said it well, Sam. The biggest challenge we've had has been the speed and size of the types of increases we've seen in underlying product costs despite, initially, the post-COVID impact on refining capacity and, more recently, the Russian-Ukrainian conflict that has caused base oil costs to reach all-time highs. The impact on unit margins and penny profit relative to what we had planned for the year was higher. We have taken pricing actions, and over time, we expect that to moderate. In fact, we think that will provide structural long-term improvements to our margins. The business continues to have pricing power, but we do operate in a competitive environment. So I feel confident about the long-term opportunity for the business when we get past this unusual inflationary environment.

That concludes our Q&A session for today. So I'd like to hand the call back to Sam Mitchell for any final remarks.

Well, that's it for today. We obviously are focused on now the transformation of the company and completing the execution of the sale of Global Products and preparing Retail Services for fiscal '23. We have managed through some significant challenges this year, and the business is in excellent shape, and we look forward to an exciting future as a pure-play automotive aftermarket services business.

That concludes Valvoline's Third Quarter 2022 Earnings Conference Call and Webcast. Thank you all for your participation. You may now disconnect your lines.