Good morning, and welcome to the Watsco Third Quarter 2020 Earnings Conference Call. All participants will be in listen-only mode. After today’s presentation, there will be an opportunity to ask questions. Please note, this event is being recorded. I would now like to turn the conference over to Albert Nahmad, Chairman and Chief Executive Officer. Please go ahead, sir.

Good morning, everyone. Welcome to Watsco’s third quarter earnings call. This is Al Nahmad, Chairman and CEO; and with me is A.J. Nahmad, President; Paul Johnston, Executive Vice President; and Barry Logan, Executive Vice President. Now before we start, our cautionary statement. This conference call has forward-looking statements as defined by SEC laws and regulations that are made pursuant to the Safe Harbor provisions of these various laws. Ultimate results may differ materially from the forward-looking statements. Before I report, let me first wish that you and your family are healthy and safe. Now on to our report. Watsco just completed an outstanding third quarter. EPS grew 25% to a record $2.76. Records were set for sales, gross profit, operating profit, operating margins, and net income. These results were driven by strong growth in our U.S. residential HVAC equipment business, which grew 19% during the quarter, and from operating efficiencies achieved throughout our network, as evidenced by the nominal change in SG&A. Homeowners clearly are investing in their homes as HVAC replacement sales have remained strong from early summer through today. We also believe that greater adoption of our Watsco technologies has contributed to our results and led to gains in market share. Our best indication of this impact are two simple metrics. First, customers that use Watsco technologies are growing at a much faster rate than non-users. Second, we are experiencing minimal attrition among active users on a year-over-year basis. Now keep this in mind, we continue to invest in our platforms and to drive for greater adoption by more customers. Here are some examples of our progress. Weekly users of our mobile apps have grown 31% since last year, with over 100,000 downloads. E-commerce transactions have grown by 19% this year to nearly 1 million online orders, which is about $1.5 billion dollars in annual rate at the moment. Our annualized e-commerce sales run rate is 32% versus 29% at the end of last year, and in certain markets, the use of e-commerce is over 50%. Our dockside pickup services have expanded to more locations and now include non-contact payment functionality. This technology has only been available for a few months and already over 12,000 orders were fulfilled during the quarter by more than 2,000 unique users. Two of our newer innovative platforms have gained momentum, we call them, OnCall Air, and the second one CreditForComfort. These platforms provide digital connectivity for contractors and homeowners when making proposals and buying and financing replacement systems. Contractors using our, what we call, OnCall Air platform provided digital proposals to over 39,000 households during the quarter, and generated $114 million in sales, nearly double that of last year. Our CreditForComfort platform processed double the number of digital financing applications resulting in an 87% increase in third-party funded loans. Investments in inventory management software have also benefited us this year with inventory turns improving 25 basis points over last year, and of course, contributing to cash flow and operating efficiency. All of this is exciting, but we believe Watsco technologies are only scratching the surface of their full potential. As always, feel free to schedule a Zoom call with us and we can further explain our technology and progress. We also strengthened Watsco’s balance sheet this quarter, we generated record operating cash flow of $373 million, which is far away a record for the year so far, and we have no debt at this time. Importantly, we have the capacity to make almost any size investment to grow in our business. And I always like to comment that we're in a $40 billion industry, in which we are only $5 billion, so we have lots of room for growth. And then finally, one more very important thought. Our results are a testament to the efforts of our teams across the Watsco network. We deeply appreciate their commitment. With that, A.J., Paul, Barry, and I are happy to answer your questions.

We will now begin the question-and-answer session. We will go to Brett Linzey from Vertical Research Partners. Please go ahead.

I wanted to start with just the sales trends, 10% growth in HVAC equipment, 19% in the U.S. resi products. What was the big driver in that category? So, everything excluding equipment, where did you see strength?

Why don’t we turn to Paul Johnston for that answer?

Yes, I'd like to make sure I understand. Everything but equipment?

Well, just the total U.S. resi sales up much stronger than the equipment. So, what was the big driver kind of ex-equipment? What categories drove that?

Oh, no. You misunderstood. Go ahead, Paul, and explain that.

Yes, resi is equipment. It's gas furnaces, coils, air handlers, split systems for residential. So, it's included in the total equipment.

I think they previously referred to equipment, that's what we're trying to convey.

And just a follow up to that. Did you see any mix benefit in terms of the gross margin line from kind of strength in the other categories versus just the equipment side?

Paul?

Well, yes, we had some moderate growth in the parts and supply side of our business, which we indicated a little heavier on the part side in mid-single-digits. And that, obviously, is an enhancement to our gross profit. So, that mix did help a bit.

Yes.

The next question comes from Jeff Hammond of KeyBanc Capital Markets. Please go ahead.

Can you remind us what the mix is on the equipment side between U.S. residential and the commercial and international segments?

Paul?

Yes. Barry, why don’t you handle that as far as what is offshore versus onshore?

The largest part of our equipment business is the U.S. residential sector, significantly more than any other segment. There is also a smaller portion in commercial U.S. and an international market that leans more towards commercial applications. The core of our business, which is the residential U.S. sector, has experienced a 19% increase this quarter. The commercial U.S. market is recovering but is still not matching the growth rate of the residential sector. The international market has been more affected than others we operate in, and you will find some related data in our 10-Q when filed. This international market is predominantly commercial, which has been more impacted. However, from a profit perspective, our international business has actually seen a profit increase this quarter even though sales have been affected; they have managed the business well and achieved higher profitability internationally.

Okay, great. I have a couple of questions. First, regarding inventory levels, where do you see your inventory? Are they too low for the current demand, or are they about right? Do you still need to restock? Also, there has been a lot of discussion about indoor air quality. What actions are you taking in that area? What trends are you observing, and how are you planning to expand your efforts given the increased interest?

As you heard earlier, we do have investments in inventory management software that's considerably helping us to maintain and grow revenues with less investment in inventory. Maybe more color can be provided by Barry or Paul. Either one jump in.

We began the year with a clear objective to improve our inventory turns from 4 to 5, which is a straightforward calculation in terms of cash flow. This goal was established without considering the disruptions in the supply chain that we have since faced. We viewed improving inventory turns as a significant source of cash flow and a way to enhance operational efficiency across our 600 locations. This initiative was in place before any supply chain issues arose. Paul, you can provide some insights on the current supply chain situation.

Yes. The supply chain quickly recovered in September and returned to a normal flow, allowing inventory to start moving again. We're not facing significant stock-outs, although there are some minor inventory issues on the supply chain side. Overall, I believe the OEMs have bounced back well. Concerning our inventory levels, we've utilized the technology we've invested in to enhance inventory turnover and improve inventory quality. Now we can analyze our inventory precisely by branch, division, product line, and SKU. This investment has proven to be beneficial, and we expect it to generate returns over the coming years.

A.J. a little color on the technology involved in this inventory.

Yes, I think Paul, your last point was important. It's not just about the amount of inventory or the turnover of that inventory, but also the quality of the inventory. This directly relates to the technology we're using and the teams managing it. We've focused heavily on this area and achieved significant results. Given the current supply constraints amidst high demand, it's crucial to recognize the outstanding efforts of our team in the field who secured products for customers' orders, enabling them to sell. That was truly a monumental task, and we're proud of their accomplishments.

Okay. So it sounds like inventories have kind of normalized in the lower year-on-year is maybe a function largely as some of the internal changes. Can you just talk about IAQ? How big is it for you guys? Is it moving the needle? Is it something you're excited about given kind of the COVID dynamic? And it just seems to be a lot of people talking about it.

Yes, it is definitely an important part of our business now. Historically, IAQ has always been a topic we discuss, but the pandemic has made it a key product area. It’s growing very rapidly, two to three times what it was in previous years. I'm excited about all the new products we are introducing, including new lights.

UV light.

Yes, UV-C lights, air cleaners, filtration, the entire gambit is growing rapidly. And very good and I think it's sustainable.

Yes. And being the industry leader and having the scale that we have when new products roll out from new companies, whether they're startups or mature companies, we often get the call first as a distribution partner and we're getting first look at a lot of these products.

What I would add is that IAQ is now included in every recommendation made through our platform, OnCall Air. OnCall Air serves as a presentation platform that contractors use to sell solutions to homeowners. Previously, contractors might not have presented this feature or included it as part of their offerings. Now, it is fully integrated into the technology, the presentation, and the proposals. Looking ahead, this is crucial.

A.J. why don't you explain more in lay language what the OnCall Air does?

Sure. OnCall Air is a business that we built that has a software tool, that is sold on a FAS basis to contractors to help them sell in the house. So it replaces the yellow carbon copy pieces of paper that they previously used to write proposals on. And it’s a full digital interactive experience with lots of product information and videos about the product offering and enables contractors to sell with a good-better-best offering. And all those add-ons and accessories and recommendations that Barry was hinting at are embedded in the tool. Consumer financing options are embedded in the tool. It's basically a modern sales platform designed only for HVAC contractors. And the contractors that are using it are growing faster, they're getting bigger tickets, they're closing more deals. And it's also a tremendous start. Thank you.

And it's also using all the product data that we've curated for the last five years with not just a sales platform, it's an information platform of all the products, all the data, all the SKUs, all the connectivity to e-commerce to allow for fulfillment. It's really, I think, again a terrific platform, really going into that future state of how things can be sold in the home.

Remind me, A.J. how many SKUs that we have in terms of data?

Yes, in our product information management system now, we've mastered about 800,000 SKUs in the industry.

The next question comes from Chris Dankert of Longbow Research. Please go ahead.

I guess, first off, congrats on the U.S. res growth. Really impressive. If I'm remembering correctly, I mean, your fulfillment metrics are typically mid to high 90s, very strong. I guess, with that kind of a spike in demand from flattish to up almost 20%, was there any dip in your ability to fill? Or was the team pretty well able to keep up with the needs of the customers there?

That's a great question and all the OEMs were stressed. And from our observation is they kept up with us as best they could as they did with other distributors. So yes, did we lose a little bit of sales? Probably. But overall, I think they kept up with us, and as I said, with other distributors as well. And they're working hard. They're not messing around here. They know this is an opportunity so they run hard. Anybody want to add color to that?

Yes. I mentioned it earlier, there's a herculean effort in the field. Where there was product shortages, our teams found ways to fill orders anyway. There's a lot of warehouse transfers going on. There was a lot of helping contractors find, if they were looking for product A but we didn't have enough of it, we could substitute a product B and get them at a competitive price. There's a lot of little wins like that, that helped our customer fulfilled.

And our OEMs, like Al said, came too magnificently. We were working with them daily. We had conversations with all of our major OEMs on a daily basis, talking to what our needs were, where our needs were. And they really jumped through hoops to be able to help us fill open orders where we had spot shortages. It was very well done.

I got to imagine being able to keep up with customers this quarter, just it's got to breathe a lot of goodwill. So nice work.

Well said, I agree with that.

And just 1 quick update. Any update on VRF, the size for you today, what the growth looks there? Is it meaningful for you at the moment?

It's not a material size in our market. The VRF is and by itself. The general duct-free split market is becoming larger and larger each year and continues to grow in the low 20s. VRF, we had a good quarter for VRF. It did grow. It kind of suffered in the second quarter a little bit. A similar situation that you had with all commercial products because that's generally where VRF goes. And so it did have a downtick to it but then a recovery because most of the jobs that we have with VRF are long-term jobs that are forecast out 6, 8, 9 months.

The next question comes from David Manthey of Baird. Please go ahead.

So relative to all of the comments you had here on stock-outs, do you think that manufacturer shortfalls were positive or negative in the third quarter? And I mean net-net, did Watsco miss out on sales or did they actually benefit from shortfalls that other distributors may have been experiencing, and you picked up some contractor business that you may not have had before? Do you have a feel for that?

Well, I don't think that OEMs discriminated for us as opposed to their other customers. I don't believe that. But I think they were a part for all their customers.

I'm thinking between brands. One brand was out and that contractor would switch over to something that you had in stock. Do you think you saw it in there or is there anything measurable?

Paul, do you want to take a shot?

Yes, that's an interesting question and one that requires careful analysis to determine the exact impact. Currently, I wouldn’t say it had a significant effect because we were managing our inventory very closely. This made it quite challenging for us to pursue a competitor's customers, as we were focused on sustaining the growth of our own customer base in the market.

I think that's well said, yes.

Yes. A little bit more time, I think, under our belt, I think we'll have a better feel on that.

Okay, fair enough. And then second on the other HVAC products. If I heard you right, Paul, I think you said that the parts business was up mid-single, which, I guess, would imply the supplies being something lower than that to get to the plus 2 overall. And I'm just confused on why that would be, given that we're seeing such a strong push in the new residential construction market. I guess a bigger picture question for all of you is that, in that other HVAC products business, do you envision a world where that can grow? It seems like it's been flat or down forever because there’s offsetting factor between parts and supplies. Is there a world where that can grow on a more regular basis?

Definitely. Yes, we are strongly focused on that marketplace and on understanding how we can drive growth in that market. A significant part of this will involve increasing our market share, ensuring product availability, and leveraging our technology to efficiently replenish dealer stocks. There are several initiatives we can pursue to stimulate growth in that market.

But Dave, I believe you're correct. As the largest distributor working with 1,000 vendors, we think our volume purchasing allows us to negotiate competitive prices, which should help us increase our market share. However, we acknowledge there is still more work needed to drive growth rates. I definitely don’t expect them to remain at this level indefinitely. I am optimistic that parts and supplies will become a larger portion of our overall business. Additionally, I believe some of our initiatives with our OEMs will support this. Don't overlook our potential in parts and supplies.

No. I was going to say stay tuned. That's a new major data-driven initiative that we're just kicking off now in earnest, and that will be kind of a next-generation effort on parts and supplies.

I would like to add that there aren't any significant macro changes where parts are suddenly being recognized as a solution. The growth rates for equipment have remained too consistent. As we mentioned earlier, this consistency continues to the present. What we are indicating is that this represents a market share increase for parts and supplies as well. In Miami alone, we have about 15 competitors selling parts and supplies, making it the most fragmented segment of our industry for distributors. Additionally, what A.J. mentioned suggests this could evolve into a technology-driven initiative in a much more advanced manner than what has traditionally been done, presenting a significant opportunity for us.

That was much more eloquent than me, Barry.

Well done. Barry is very eloquent.

He is.

The next question comes from Stephen Volkmann of Jefferies. Please go ahead.

Barry, I want to highlight something you mentioned earlier that caught my attention. You mentioned that the IAQ is now included in all the OnCall Air proposals. Can you provide an estimate of how much that add-on might contribute to the project, perhaps around 10%, 20%, or even 50%? I'm uncertain about the possible range.

It's definitely not 50%. The OnCall Air concept is different from the traditional sales approach because it provides homeowners with a good-better-best solution that includes indoor air quality. It’s not merely about adding indoor air quality; it involves bundling higher efficiency options. Additionally, consumer financing makes these higher efficiency products and larger bundles more accessible, which is what we're aiming to achieve. So, I wouldn't say indoor air quality contributes just 10% or any specific percentage. It's about presenting this bundle in a cohesive way that resonates with homeowners, making it more effective than if a contractor merely recalls it while jotting it down on a form. The distinct sales process is the key factor here.

IAQ consists of various layers and is not limited to a single product. There are several different products, and the installation can vary. A basic installation with the minimum IAQ products might represent around 10% of the install price, but it could increase to 25% or 30%.

Just one more point on that. In OnCall Air, it has evolved from a static proposal to a digital interactive sales experience. This is similar to online shopping, where, like when we shop on Amazon and other platforms, we see additional products that complement our purchase. This interactive experience also extends to our B2B e-commerce as customers navigate our website. The statistics are quite interesting: the average line item for invoices on our subsidiary's online stores is 30% higher than offline sales, and this trend has remained consistent for some time.

And then just my actual question I was going to ask originally was more on the SG&A side. Very impressive SG&A control in the quarter here, I guess, flat on a same-store sales basis. Just how do we think about that going forward? I assume there's probably some costs that are going to kind of creep back in as the world opens up. But how should we think about it?

Barry, that he will answer that, so let's get this up.

Every distributor is managing two aspects: SG&A, which is a fixed cost that they aim to reduce over time, and variable costs that they are willing to incur since they are typically linked to sales or margin growth. We are no different in this regard. This year, our focus has been on reducing fixed costs. We are looking to decrease not only the costs associated with renting facilities but also any other hidden costs in our stores. This area has seen the most progress this year. For instance, we managed to lower our facility rental costs year-over-year despite achieving 6% higher sales. We're also evaluating fixed payroll costs, particularly the technology benefits that may arise. This is certainly a favorable time to tackle some of those costs and work towards making these reductions permanent as we move into next year. I will be able to provide a detailed analysis showing how much fixed cost has been cut and is here to stay. Importantly, all of our 30 regional presidents have taken the initiative to scrutinize their local cost structures to achieve this goal. The variable costs will correlate with sales; we'll see increased commissions, higher performance-based compensation, and more delivery expenses as the business continues to grow. This is reflected in our third-quarter results, where SG&A remains flat. We see growth in variable costs being balanced by cuts in fixed costs. Moreover, this cultural effort is substantial, aiming for these gains, especially on the fixed cost side, to become sustainable rather than just temporary.

I'll expand on the variable cost aspect. Freight is the third largest component of our selling, general, and administrative expenses. This includes the costs associated with transporting products to and from our locations and to our customers. We handle large volumes of orders, and I feel it's important to mention technology. We have implemented new technologies that provide greater data visibility and enable us to optimize our processes for bringing products in and delivering them to customers. This allows us to make smarter decisions on a daily basis and for each transaction, which exceeds seven million annually, helping to optimize costs and enhance efficiency. We are just beginning to realize the benefits of this.

And A.J., is there enough of that technological opportunity to offset the general increase in logistics costs that we're seeing broadly?

I would say TBD. Yes, that's the goal, right, is to be ever more efficient.

Yes, the largest cost of that discussion is delivering products from 1 of our 600 stores within 10, 15 miles of where it sits. And that activity-based cost used to be largely a branch manager figuring it out every day. And then with technology, how do we help empower, enable and change the game of how that local process is done. Or if it's moving inventory around, then it becomes embedded in the inventory optimization project that we have going on. So as we said in the call, scratching the surface. But yes, some of that scratching is having an impact on results.

The next question comes from Ryan Merkel of William Blair & Company. Please go ahead.

So first off, the resi growth, also very impressive, in my view. This is probably hard to answer. But I'm just wondering about sustainability. What level of growth can continue? Because I have to imagine there was some pent-up demand that deferred work from Q2 that got done in 3Q. So I don't know, it's hard to answer, but what do you think?

I believe your conclusion is accurate. It is quite challenging to provide a definitive answer. The growth began in the third quarter and has continued into the fourth quarter. However, predicting how long this will last is difficult. Our strategy is to compensate for any lack of industry growth by focusing on increasing our market share and leveraging our technological advantages. If anyone else has insights to add, feel free to chime in.

When we analyze the overall industry data, it's clear that there will be some unusual shipment figures reported by the industry association in the third quarter, highlighting significant growth. However, we need to evaluate the actual equipment sales growth at the end of the year. Looking ahead, the pent-up demand from the second quarter that was pushed into the third quarter is still evident in October, as Al mentioned. Predicting what will happen in 2021 is uncertain, but once everything is accounted for, it seems likely that it will be regarded as a fairly typical year for the industry.

I believe you are implying that the industry shipments in the first half were likely below expectations for the second half, and there is some need to catch up.

Right, right. Yes, it won't be necessarily out of line. I appreciate the question. It's important to consider the data on a year-to-date basis and look for trends. Currently, our U.S. residential market business has increased by 8%, and this growth isn't due to price changes. This reflects machines breaking down, which will happen regardless of economic conditions or COVID-19. The 8% growth is largely fueled by a strong replacement market and contractor confidence in making installations and upgrades. This growth rate is above average but still appears sustainable, as homeowners, contractors, distributors, and OEMs all seem to be experiencing a healthy market. While there are some short-term fluctuations, I believe an 8% growth rate is achievable and reasonable.

Yes. Okay, that's a good answer. That context helps.

Just 1 more point there. Whether it comes from industry growth or share gain, I'll tell you 1 more detail is that our growth rate to new customers is higher than it's ever been, meaning we have more sales to more new customers. And we can attribute that to a number of factors, but we have more customers buying more products than ever.

Yes. So it speaks to share gain on top of whatever the market gives you, which I think will be pretty....

Absolutely.

Okay. I want to revisit the SG&A situation because you've had challenges in leveraging SG&A over the past couple of years, but this quarter showed impressive results. From your earlier response, it seems you've managed to reduce fixed costs and are now utilizing technology to improve efficiency. My question is whether we should consider this a turning point or if it's the new standard. Have we truly made progress, and will you be able to consistently achieve better SG&A leverage as long as the top-line growth is there?

I would say that the first, I'm going to comment on like what you've said. For the last 2 years, we've reported over and over again that we were doing, more than that time, significant investments in our technology and I don't think that's going to stop. It may even increase because we do think it's a competitive edge to do what we're doing. But obviously, some of that's being offset by other efficiencies that are occurring. Barry, my SG&A expert?

Yes. First, Ryan, I was right. I mean, $30 million of technology spending today didn't exist 5, 6 years ago, and that's 50 basis points of EBIT margin. We could have built an elaborate pro forma EBIT calculation for everyone but we didn't do that. And instead, we just tell people, this is the right way to do it and execute it. So obviously, the rate of increase in that spending has diminished as things are maturing. And Al is right, we will spend more. But this is a good time to talk about it. It's very clear that sales, margin, share, efficiency, other technologies that we're building beyond the customer-facing stuff has started to have an impact. So I think as an inflection point, that's a nice big cliché to ponder. I think the basic question is, is it having an impact? And the answer is yes, it clearly is. And culturally, when you talk about new normal, again, I go back to the 30 leaders across Watsco's footprint. There isn't 1 of the 30 that isn't looking at their business differently because of their actions this year and because the technology is just beginning to really influence all aspects of their locations in their business.

The next question comes from Brandon McCann of Morgan Stanley. Please go ahead.

Yes, it's actually Josh. I had to join in because I was embarrassed about missing it the first time. I missed a few things since I joined a bit late. First, considering the strong end to the season, there comes a time when every consumer gives up on summer and looks forward to next year, especially if the contractor can't get to them for a while. Do you feel like your season is lasting longer than usual, potentially extending into months when you typically don’t discuss cooling demand? Or is there some degree of a backlog with broken items awaiting repair as we approach spring of next year?

I'll take a shot at the first half of October. Strong demand. Will that be sustained? I don't know. But first half of October, we got smiles on our face. Maybe because we're gaining share, maybe because the industry is doing better. It's hard to say but I like it.

And from what you guys have been seeing on contractor lead times that would maybe kind of speak to, like, hey, you guys just can't get in the job site fast enough?

I believe most of that would have been finished during September. Any backlog that the contractor might have had is not a concern at this moment.

Josh, to add to that, I would mention that if 80% of our operations are in the Sunbelt, people are not going to wait until next spring. We have always approached our sales and seasonality in a real-time manner. Therefore, I don't expect to see any deferrals. The only area where we might see deferrals at this moment is in the commercial market, which has built up a backlog while waiting for jobs, funding, and contractors to complete their work. That would be the only segment of our business where this could apply for next year.

And that’s financial and not anything else, right?

Yes. Let him say what he was going to, what did you say, Josh?

I was just saying that the commercial comment would be more of a financial decision, not like residential, just saying, well, I'm not used to...

That's right. Yes. Although the indoor air quality is a big theme now of the commercial as well. Carrier, for example, has introduced equipment that's used in the applied world for buildings and that sort of thing. Very useful to attack on the spread of the virus.

And then, Paul, you had something.

Yes. I believe we are gathering more data on something I've noticed, which is that there seems to be an increase in replacement jobs because people are staying home and using their air-conditioning more. While that sounds good in theory, I want to delve deeper and determine if the data actually supports this. Specifically, were the run times in the Sunbelt indeed longer, as Barry mentioned, since 80% of our business is there, due to people being home instead of at work or school? I think we still need to assess that situation.

Got it, that's helpful. Shifting gears entirely, do you have any thoughts or revisit on the dividend policy or payout? You currently have a pretty high dividend payout. With any potential changes to the statutory tax rate, is that influencing your thinking? Or would that be something considered if taxes were to rise?

That's an easy one. We have consistently followed the principle that we will share our growth with the stockholders. And I have a history of doing that year after year for a number of years. We see no reason not to continue that, no reason at all, especially given that we have no debt and strong cash flow. So I would say that we're going to sustain what we've been doing in the past, unless there's something that comes up that I'm unaware of it. But right now, it looks pretty good to do that. Don't forget cash flow has been, to a large extent, a little greater than earnings, and that gives us additional opportunity to do more for our stockholders.

And we have a question from Steve Tusa of JPMorgan. Please go ahead.

Great performance this year managing some of these supply constraints, spotted supply constraints and big numbers on the sell-through, for sure.

Thank you.

I'm curious about the plus 8% growth that Barry mentioned for this year. It seems like you're suggesting the market growth is likely below that since you're taking market share. An 8% growth rate is significant for what could be considered a normalized rate. If companies aren’t operating their machines more intensively, which could reduce the useful life of an installed base that has been growing at a low to mid-single-digit rate, possibly around 4%, how do you plan to achieve a higher normalized growth rate? What has changed?

That's a good question. Barry, so sustain your 8% idea.

This year, two noteworthy developments emerged that took me by surprise. First, we saw another year of growth in the mix of high-efficiency products. If there's a consumer risk this year, it's not reflected in the products we are selling, which is encouraging and highlights the strong relationship between homeowners and contractors. Secondly...

Is the mix about 1 point? I believe Lennox mentioned the mix was around 1 point. Is that correct?

That might be a bit of an exaggeration, but overall, it seems acceptable. Another aspect that rarely gets asked about is contractor credit. When we sell $5 billion worth of products to contractors, 80% of those sales are on credit. This means we wait 30 days to receive payment, and it's one of the best leading indicators of our contractors' financial health.

How we're going to collect it, yes. Okay, Barry. I know where you're going.

We are observing very low default rates, minimal bad debt, and reduced risk factors in credit, which is the best we've seen. This indicates that contractors are actively closing deals. If our technology is assisting them, that's a bonus, but it also reflects the industry's state and our relationships with contractors regarding the overall health of that market. Homeowners are responding to issues as they arise, whether something breaks or needs replacement. I'm not sure if that contributes to the 8%, but I believe the market share gains will materialize this year, enhancing that figure. I sense we are just beginning to build momentum with our OEMs, and only time will tell, but we should not overlook the strength of contractor and homeowner relationships currently in play.

And you're suggesting that this situation was not typical before the pandemic, and that it has improved since then?

Yes.

It's amazing that an 8% unemployment rate means better consumer credit behavior. Interesting. This whole thing is pretty interesting.

But Steve, also remember, our customer is the homeowner, and the unemployment rate is much lower with homeowners than it is for people who are renters. There is facts there. And the second thing that we mentioned on really gaining market share is a combination of 2 things: one, is acquiring new customers; but also, as A.J. indicated, with some of our new technology, we've reduced the attrition rate of existing customers. And so it's a combination of the 2, reduce attrition and grow new customers that yields you a higher return as far as share of market.

What changed for your company in that regard? When you compare your growth rates to the market, they were not very strong leading up to the pandemic. Did you implement any strategies that allowed customers to come to you because you had the technology ready, maybe due to the e-commerce trend? Was there something specific that shifted for your company in the past couple of quarters? The supply constraints in the industry seem like they would have had a negative impact since one of your main suppliers was out of commission. So what specifically changed for you during this period?

We're just great leaders. What can I tell you?

Other than, of course, great management, other than that.

Sometimes, I think you may underestimate the earlier investments we made that impacted our growth rates in earnings. Perhaps others were too focused on short-term results. However, we remain committed to the long-term, and while recent growth rates may have been challenging, we are beginning to see a return on our efforts. I'm optimistic that our performance will improve. Regarding industry trends, being home due to the virus and experiencing record heat has increased demand. It has been an exceptionally hot summer, and many of us are staying in rather than going out to restaurants, movies, or supermarkets. This situation has led to increased use of cooling systems, resulting in greater wear and tear on equipment, which in turn creates a need for repairs and replacements.

Right. How much was the commercial decline for you guys? There's a significant difference between the residential growth rate in equipment and your total equipment growth rate, with residential being a major factor in that.

Paul or Barry?

Yes. The commercial in the U.S. is down, I would say, right at double-digits, and again, a slight improvement over where the second quarter was. And international is the larger impacting component, which is where we sell not to contractors internationally but also other distributors. So there's some changes in the channel internationally. So again, I will report what our international component looks like in our 10-Q in a couple of days.

Sorry, one last quick one. What was price for you guys on that equipment, growth rate for this quarter? And are you seeing any of these OEMs that may have had supply issues get a little more aggressive as far as trying to kind of regain that market share so far?

No. Really, we have not seen price on the equipment side. No, we have not seen price move a bit. A big change in the market dynamics.

Will they increase prices in the New Year might be your question. And it's hard to say but my prediction would be they will.

This concludes our question-and-answer session. I would like to turn the conference back over to Albert Nahmad for any closing remarks.

Well, thanks for paying attention to our company. We think we're the best in the industry, we'll continue to be, and we look forward to the next quarter to report our progress. And in the meantime, stay healthy, stay safe. Thanks, again. Bye.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.