Earnings Call
Watsco Inc (WSO)
Earnings Call Transcript - WSO Q3 FY2025
Operator
Hello, good day, and welcome to the Wetsco Incorporated third quarter conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key, followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star, then one on a touch-tone phone. To withdraw your question, please press star, then two. Please note this event is being recorded. I would now like to turn the conference over to Albert Named, chairman and CEO. Please go ahead.
Albert Nahmad, Chairman
Good morning, everyone. Welcome to our third quarter earnings call. And this is Al Named, chairman and CEO. And with me is A.J., President of Lodzko, Paul Johnston, Barry Logan, and Rick Gomez. Before we start, our normal 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 than the forward-looking statements. I am pleased to report that Watson generated healthy earnings and record cash flow despite a very challenging market environment. As we all know, 2025, a year of significant transition to next-generation equipment containing A2L refrigerants. The transition affected roughly 55% of products sold and influenced most every aspect of our business. Regulatory changes have historically been good for our business and good for our customers. In the long term, we expect this transition to be no different. The transition is substantially complete, and we look forward to operating a far simpler business in 2026. Throughout all of the volatility, we are satisfied that our earnings are long-term intact, Our balance sheet remains strong, and our technology advantages remain immense. We certainly expect the volatility is temporary and will ease as the transition concludes. We operate in a great industry with strong long-term fundamentals and have the industry's most accomplished leadership team, all with long-term focus to keep building on our success. Turning now to our third quarter results, sales declined 4% in total and 3% in the U.S. While unit volumes remain subdued, we achieved double-digit pricing gains on the new products with growth and sales for both non-equipment and commercial refrigeration products. We again improved gross margins, which expanded 130 basis points to 27.5%. As we have expressed before, we have several ongoing initiatives to enhance gross margins, the long-term goals of exceeding 30%. Operating expenses increase 5%, reflecting a measure of ongoing inefficiency tied to the product transition, as well as new and acquired locations. With the product transition largely behind us, we expect SG&A performance to improve from here. We continue to fortify our balance sheet, reducing inventories and overall working capital. We generate a record third quarter cash flow of $355 million, an incremental opportunity in the fourth quarter as we close out the year. We remain fundamentally positive and optimistic about our position in the industry and our ability to generate growth. Our balance sheet has a healthy cash position and no debt, providing us with opportunity to invest in most any size growth opportunity. This includes the capacity to co-invest with our OEM partners as well as head into 2020 as we head into 2026. We also continue to invest in innovation and technology
Ryan Merkel, Analyst — William Blair
that separates us from our competitors.
Albert Nahmad, Chairman
We have made long-term progress in driving adoption I should say, we have made terrific progress in driving adoption. For example, e-commerce penetration continues to grow and accounts for 34% of our sales and up to 60% to 70% in certain U.S. markets. Let me say it again. E-commerce penetration continues to grow and accounts for 30%, 34%, I should say, of our sales and up to 60% to 70% in certain U.S. markets. The number of contractors and technicians engaged with our mobile apps now stands at 72,000 users and grew an impressive 18%. That means that 72,000 of our customers are using our technology. The on-your-run rate of sales through on-call air, our digital selling platform for contractors saw a 19% increase in the gross merchandise value of products sold through the platform and reaching $1.7 billion over the last 12 months. We are also making next-generation investments to enhance our competitive position. For example, we are developing new technology aimed at capturing more sales from the institutional customer. We are accelerating the use of pricing optimization tools to make progress toward 30% plus gross margin target. We have launched a new initiative to compete and grow sales in the highly fragmented non-equipment market, which today is roughly 30% of our sales. And we have begun to harness the power of artificial intelligence, both internally and externally, offering potential to further transition our customer experience, improve operating efficiency, and create new data-driven growth strategies. Our technology investments are making a big difference, and we believe the impact will only grow with time. We look forward to sharing more during our upcoming investor meeting in Miami in December. I can't wait to see and meet you all this December. These investments, along with our scale, entrepreneurship culture, and capacity to invest are unmatched in our industry.
Al Nahmad, CEO
With that, let's turn to Q&A.
Operator
We will now begin the question and answer session. To ask a question, you may press star, then 1 on your touchtone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star, then two. At this time, we will pause momentarily to assemble our roster. The first question comes from Tommy Moll of Stevens. Go ahead, please.
Tommy Moll, Analyst — Stephens
Morning, Tom. Morning, Alan. Thanks for taking my questions. I want to start with a question on the repair versus replace. dynamic. It's been a couple quarters in a row now where your non-equipment business trends have been well ahead of the equipment trends. You've obviously been very disciplined on pricing for the new equipment, and so I'm curious, is the simplest explanation here just that we're seeing some price elasticity among homeowners, or is there something else you might call out? I'm going to let Paul Johnson respond to that. Yeah, you know, it's not a
Paul Johnston, Analyst — Other
repair versus replace. It's repair and replace. I think we said that on the last call. What we've seen is the larger dealers that have salespeople generally don't sell compressors and mowers. They generally sell the equipment side. And what we see with the people that don't have an in-home salesperson is they will repair the unit. So we see a dichotomy there amongst our customers. Also, there's a geographic spread where, you know, if you're in Illinois or, excuse me, Pennsylvania, and you've got an 11-year-old unit in your house, you're generally going to repair it and not replace it. It's got a 20-year life. In Florida, Texas, where you've got a shorter life, I think generally you're going to replace it with a piece of equipment. So it's really difficult to put your finger exactly on where and who is creating a repair versus replace market.
Barry S. Logan, Analyst — Other
And just some data behind that. When we say non-equipment, there are really two things that are not equipment, parts and supplies. That may be a more direct way of calling that category something, parts and supplies. So parts basically is 8% of Watsko's revenues, parts. And supplies, everything else, is over 20% of Watsko's revenues. So just in the scope of, you know, the bandwidth of that discussion, you know, parts will never substitute what's happening in the replacement market in that discussion. The data just isn't there to support that. So at the end of the day, it's the consumer that's spending $8,000, $10,000, $12,000 on a pair of new machines for their home. As Paul's suggesting, where we see in the Sun Belt, that's a more frequent purchase and a more ordinary purchase and a more necessity purchase. And we do see some differences as we go north of the Sun Belt. So we do like it that Watts goes 75% in the Sun Belt in that respect. But it's really, I think, more of the crux of the answer is built on what are consumers spending on their homes right now. And that's probably the bigger orientation to this than whether we're selling more compressors or not versus the replacement market.
Tommy Moll, Analyst — Stephens
Yep. So as a follow-up, maybe we'll address the elephant in the room here, maybe just take it on directly. Yesterday, Carrier mentioned that their October distributor movement was down 30% and that they expect something like down mid-20s for November and December. Does all that sound reasonable enough in terms of what you have seen or expect to see for your equipment business this quarter and should we think of that in terms of volumes or sales
Albert Nahmad, Chairman
well that's a very good question and i don't think we're out of the woods yet so there's some merit to that who wants to add more to that is it you paul or aj yeah we've
Paul Johnston, Analyst — Other
you know i think it's pretty much in line and you got to remember that the shipment data that you're seeing was up last year as a lot of the OEMs were shipping all that 410 in. So the shipment data coming out of HRI really isn't going to be indicative of what's going on in the market. But when you look at the actual unit sales, you know, without the price increase, I think they're pretty much in line with what the market is showing. Now, that's going to vary from region to region um once again we're we're seeing some real strength in certain parts of the country and we're seeing definite weaknesses in others you know and so it's it's not across the board
Albert Nahmad, Chairman
but in aggregate we are not seeing increasing demand no it's the fourth quarter in aggregate it's still below this time last year now this time last year it was an extraordinary quarter But nevertheless, we're seeing that and we're dealing with it. We're getting more productive in our operations and more efficient, given the lower volumes, temporarily are lower. And we're adjusting to the circumstances.
Rick Gomez, Analyst — Other
Tommy, just to clarify one aspect of that is that the 20% to 30% is unit volumes, not sales dollars. I want to be clear about that.
Tommy Moll, Analyst — Stephens
You read my mind.
Barry S. Logan, Analyst — Other
Yeah, and I mean, just to nod a little bit of therapy about it, just to be, again, very direct about it, so we're clear, a year ago, fourth quarter, unit volumes for WOSCO were up almost 20%, right, between 15% and 20%. And a year later, the variance is going to be, you know, exposed to that comparable, right? And then after the fourth quarter is when things started to become, I would say, less extreme in that regard. So I think the fourth quarter a year ago is still in the context of the transition started, the 410A availability was at its peak. um be it contractors builders national accounts whoever it was was drawing on distribution for 410a because they could get it and it's really the last of the cyclical things in this discussion i think about the transition is the fourth quarter now it's the smallest quarter of the year it's off season and it'll be either there obviously it is noise in the fourth quarter this year. But it really doesn't bear resemblance as we go forward into next year as a consequential trend, I would say. It's more about the comp a year ago than whether the market has changed any at all in the last 20 days.
A.J. Nahmad, Analyst — Other
Sure. I think that last summarizes the barriers. Our pacing and the industry pacing is roughly the same. The comp changes.
Tommy Moll, Analyst — Stephens
Thank you for it. Thank you all for the insight. I'll turn it back.
Albert Nahmad, Chairman
Rick, is there something you want to add with the work you've done?
Rick Gomez, Analyst — Other
Yeah, I think, I mean, obviously it's been a fluid market and one of the noisiest years in our industry in recent memory. And by the way, with all that noise, our earnings are largely intact, and I think that says a lot about the resiliency of our business model and of distribution in general. But if we step back and examine kind of the big macro factors, we don't have influence over interest rates. We can't influence consumer sentiment or new housing completions or existing home sales. These are all things that impact the unit movement numbers that everyone is focused on. But we have control and we have influence over many other things. We have control over how many customers we serve, and that's been growing steadily over time. We have influence over our margins, and that too has steadily improved with more upside to go, we think. We have control over our expenses, and we're taking steps to improve efficiencies with the product transition now largely behind us. We control our inventory, and as you can see, we made great progress to improve working capital and cash flow in the quarter. We have influence on how we partner with OEMs, and we're right now developing aggressive growth strategies with our key partners for next year. We control our balance sheet, and of course it's never been stronger. And we control our technology, which is, I think, the most important competitive advantage we have, and with more innovation being introduced right now in real time to help future growth. So even as we navigate this admittedly fluid industry dynamic, I think we've done a great job of acting on the things within our control, and we will continue to do so.
Tommy Moll, Analyst — Stephens
Thank you all. I'll turn it back.
Operator
The next question comes from Ryan Merkel of William Blair. Go ahead, please.
Ryan Merkel, Analyst — William Blair
Morning, Ryan. Yeah, hey. Hey, morning all. I want to follow up on the fourth quarter. Could you just comment on what you've seen quarter to date in terms of total sales? It's soft. Okay. Gotcha. So, yeah, it sounds like your biggest supplier is talking about units down 30%. It sounds like you don't totally disagree with that.
Albert Nahmad, Chairman
No, no, we're not. We're not in that arena of softness. Not even close. It's single digit. You know, it's probably mid-single digit so far in revenue.
Ryan Merkel, Analyst — William Blair
That's helpful. So mid-single digit decline.
Albert Nahmad, Chairman
And then I'm curious. In the single digit now, and maybe a little bit higher, in the start of the quarter. I would say, more accurately, is it a very, what is it, 5%, 10% in that area?
Barry S. Logan, Analyst — Other
Yeah, I would give that a range. It's October. It's not the rest of the year. But in that 5% to 10% range, decline in dollars is how I'd characterize it.
Ryan Merkel, Analyst — William Blair
Okay. All right. That's not too different than I think most of us were expecting. And then I'm curious, if you talk about the third quarter, the shape of the quarter, it sounded like July started off kind of flat, right, year over year. And then from what I heard, August was really rough. September was also tough. So two-part question, is that what you saw? And then what do you think the reason is that, you know, the unit volume just fell off so much in August and September?
Albert Nahmad, Chairman
Very, Paul, you want to deal with that?
Paul Johnston, Analyst — Other
I don't know. Barry, do you want to grab that one?
Barry S. Logan, Analyst — Other
Because contractors installed fewer systems? I don't know what. Yeah, I mean, again, if we consider the number of units that did decline, put it in, you know, unit number, and then ask the question, what are the components of the unit decline? new construction is the largest component of that discussion we can see it in we can see our customers we can see the special pricing we give we can count the number of units we sell into new construction and it was down as a percentage down the most in that overall discussion and and and i don't know offhand if that got worse and in august and september that's a little granular for my brain this morning, but that's the largest component of the discussion. So if interest rates or home building activity or existing home sales get generated in the forward period over the next 12 months, that's an opportunity because that is the largest component of both the quarter and the year-to-date decline in units. And on terms of the replacement market and everything else, there's always a measure of consumer discretion, always, when a contractor walks in and says, this thing will cost you $10,000, $12,000. dollars and to the extent the consumer is either tighter or worried or credit crunched or or more paralyzed in some way about spending ten twelve thousand dollars or more on something it's gonna affect did that get worse in August and September it looks like it is it permanent or temporary is it long term or short term we'll see at least in our industry's history it's never long term it's always a short-term dynamic. But anyway, that's just some big picture thoughts on that.
Ryan Merkel, Analyst — William Blair
Okay, I appreciate it. I know that's kind of a hard question to answer, so I appreciate you entertaining it. I'll pass it on. Thanks.
Operator
The next question comes from David Mancy of Baird. Go ahead, please.
Barry S. Logan, Analyst — Other
Morning, David. Morning, Al. Thank you. I feel like I'm in a parallel universe here in 25 years covering Watsko. This is the closest I've come to hearing guidance. It's pretty amazing. But as long as we're talking about it, the minus 5% to 10% revenue declines in the fourth quarter, we're
Chris Snyder, Analyst — Morgan Stanley
talking about equipment only there, correct? No, we did not give guidance. We did not give
Barry S. Logan, Analyst — Other
guidance. We gave a percentage of what we see thus far in the quarter in October.
Albert Nahmad, Chairman
But in equipment, Barry, right?
Barry S. Logan, Analyst — Other
No, that's overall, right? No, that's overall, yeah.
Chris Snyder, Analyst — Morgan Stanley
Overall, okay, fair, fair, okay. All right, and then, you know, if you believe in this, the normalization theme here,
Barry S. Logan, Analyst — Other
you have a lot of cash, no debt, you have a healthy dividend, you've always invested organically as needed, the stock seems to be on sale here. Is there a thought about allocating some of your cash hoard to more aggressive share repurchase at these levels?
Albert Nahmad, Chairman
That's an excellent question, and I've thought about it. We've thought about it. But on the other hand, the softness in the industry creates perhaps opportunities for us to do more acquisitions because I would say when we compare our financial strength to others, we're at the top of the heap. And there may be some distributors that finally want to venture with us, either to venture or sell to us altogether. We don't know, but we have to remain open to the possibility that we may be able to step up our acquisition activity. I don't know that it's going to happen, but we have to be ready to do that. And we will, we will use our capital to acquire more distributors if we have that opportunity.
Rick Gomez, Analyst — Other
Yeah, I appreciate that, Al.
Al Nahmad, CEO
Okay, thank you.
Operator
The next question comes from Jeffrey Sprague of Vertical Research Partners. Go ahead, please.
Jeffrey Sprague, Analyst — Vertical Research Partners
Morning, Jeffrey. Hey, good morning, Al. Good morning, everyone. I just want to come back to inventories. It was nice to see that sequential step down in Q3. Just want to think about where we end the year. Obviously, a lot of that depends on things that you said you can't control, like end demand and the consumer and all those sorts of things. But what is your view at this point in time of sort of how you end the year, how close to normal inventories you might be, you know, as you obviously then start to pivot the focus into 2026?
Albert Nahmad, Chairman
Well, I would say that maybe a general reply as a statement, a specific fourth quarter reply. We want to increase our inventory terms, and that effort will continue into the fourth quarter and in the future. So we're going to get better at inventory terms, and that's our goal. So I think I've answered your question. That is a focus, and we certainly have the capability with our technology to do something about it. And we're doing it, as you can tell. The inventory is coming down, and it's coming down again in the fourth quarter, and the turns are slightly increasing. Now, turns create more cash for us, and we like that. Yeah, I like more cash, too.
Barry S. Logan, Analyst — Other
There's really two curiosities. And the one you're asking about is, will our distribution channel at Watsco be in a more conventional position, right? And that's really almost an OEM orientation that then asks the question, you know, has the inventory been reset in line with some kind of, you know, so that you understand what I'm saying. Yes, absolutely. And so, yeah, there's a lot of progress in the third quarter, more progress in the fourth. You could look analytically, where are we today versus history, and answer the question, and I can help you with that. But what I was saying is, how does inventory affect us looking forward? You know, what if we had five inventory turns instead of four? What would that do to our return on invested capital? What would that do to our real estate? What would that do to our cash flow? What would it do to the overall handling and load that we carry in our stores if we had less inventory and better terms? What if we had better technology with our OEMs to replenish our stock every day? Those are the things we are focused on while trying to reduce inventory by the end of the year. And you can understand that it's a longer-term perspective from our point of view while we're just trying to get the year-end inventory in line to have, frankly, a strong hand, a strong capital base to flow into next year. And so I think we said last quarter we were targeting $500 million of reductions by year end, and second quarter – or third quarter was $350 million of that. I think we can improve on the $500 million target. It's a slower time of year to say that. But, you know, by the end of the year, I think inventories will be near historical levels versus the size of our company.
Albert Nahmad, Chairman
But let me say again, yeah, when we say inventory turns, we are presently at about 3.6, 3.7.
Barry S. Logan, Analyst — Other
We want to be a lot better than that.
Albert Nahmad, Chairman
Very useful numbers, but he was just throwing numbers out there. I'm giving you more specific numbers. So we have an opportunity to significantly improve inventory trends, which also significantly increases our cash flow and becomes a more productive part of our business with higher inventory trends. And we have the ability to get our manufacturers to participate in that because generally we're the largest customer and we have the largest impact on the market. And that's what we're doing with them and with our own technology to do better with what we have to achieve the higher terms.
Barry S. Logan, Analyst — Other
But I like it. I like higher terms and I like higher cash flow.
Albert Nahmad, Chairman
I mean, we're at 600 million cash flow right now in the bank. I'd like to see that number get larger because I'd like to have the ability to do almost any transaction that comes our way and I don't like going into debt for it. I'd like to have it the capacity to do what we need to do with the cash we have
Jeffrey Sprague, Analyst — Vertical Research Partners
Great, well thank you for that very thorough answer. I'll pass the baton and give somebody else an opportunity. Appreciate it See you in December
Albert Nahmad, Chairman
Good I'm glad you're coming
Operator
Our next question comes from Chris Snyder of Morgan Stanley. Go ahead, please.
Chris Snyder, Analyst — Morgan Stanley
Hello, Chris. Thank you. Hey, good morning. Thank you, guys. I wanted to follow up on some of that inventory conversation. It seems like you guys believe you'll be at like a roughly more normalized level to exit the year. But I guess my question is should we expect the normal kind of typical ramp ramp in inventories from year end into Q2 that we've seen you guys do historically? Or could that be more muted, you know, just kind of given the inventory backdrop?
Albert Nahmad, Chairman
Well, that's an interesting question, and I can only say that we're trying to get better in the management of our inventory. So history is not dependable of what we're going to do as we go forward this year. I think whatever we've done in the past, we'll do better.
Paul Johnston, Analyst — Other
Go ahead, Paul. Yeah, think about the last, you know, five, six years in our industry. We've had the change in industry standards on efficiency. Then we had the change in refrigerant come at us. Then we had, you know, we had the pandemic. It hasn't been normal on a lead time basis with our OEMs for the last four, five, six years. So for us to get back to normal again, as Barry was talking about, means that we order something and we get it within four to six weeks. And we don't have lead times that extend out beyond that and that the manufacturers can go ahead and supply us in a timely manner. And that's how you adapt your inventory to get to a five-turn.
Albert Nahmad, Chairman
And we're trying to get cooperation from the manufacturer to do better in deliveries.
Barry S. Logan, Analyst — Other
Right.
Albert Nahmad, Chairman
And to do whatever they have to do to deliver much quicker with less lead time. And that's part of the effort. And because of who we are and our size, they listen to us. I hope. I'm hoping. But I think they will.
Chris Snyder, Analyst — Morgan Stanley
Thank you. I appreciate that. Maybe to follow up on price, you know, the OEMs that have reported so far, you know, talked about an expectation of incremental price in 26. you know maybe a bit of a surprise given what seems like affordability challenges and just overall headwinds facing the consumer you know I guess you know what is your thoughts on that and do you feel like just given the balance sheet and maybe the absorption headwinds that they're facing do you feel like that gives you guys better ability to push back or negotiate than years past? Thank you.
Albert Nahmad, Chairman
I couldn't know how to begin to answer that question. That's a tough question. We're a good customer of our manufacturers and I like to think that we can they will listen and we will listen to them and we like to get along with our manufacturers and I don't know how to answer that or be better than that.
Paul Johnston, Analyst — Other
Yeah, bottom line, though, when you look at the average transaction out there, you know, our value content to the contractor is generally about 30% to 40%. So if it's a $12,000 installation, you know, the amount of product that we're selling is going to be in the, let's say, $3,000 to $4,000 range. So a price increase at that point is going to increase, let's say they go up, you know, pick a number. If they go up $100, it's not going to be a major transaction halt to the consumer. So I really don't know what we're facing from the OEMs yet. And until we do, we can't react to it.
Al Nahmad, CEO
I appreciate that perspective.
Operator
Next question comes from Mitch Moore of KeyBank Capital Markets. Go ahead, please.
Al Nahmad, CEO
Hey, everyone.
Albert Nahmad, Chairman
Good morning.
Mitch Moore, Analyst — KeyBanc Capital Markets
I know most of the industry is already in those entry-level baseline SEER products, but I was just wondering if you could talk about mix in the quarter, just maybe if you could flesh out if you're seeing consumers trade down to lower-tier products.
Paul Johnston, Analyst — Other
Yeah, that's been occurring all year long. Anytime you have a change in product, everything always has migrated to the base model. The base model today is 15.3 SEER. In the south, that's a very efficient piece of equipment that I wouldn't call base anymore. I'd call it almost high efficiency. So, you know, it's been pretty steady. The data we have only covers two quarters on the industry. You know, so first and second quarter, we're fairly flat, you know, as far as the sear ratings. It's always higher on heat pumps than it is on straight cool.
A.J. Nahmad, Analyst — Other
So the exception and exciting thing going on in our business is that we can help our customers sell up, particularly through on-call air. I think we're approaching, not I think, we are approaching close to $2 billion of our customers' sales going through that tool. And the most amazing statistic is that over 70% of the sales that occur are higher than the minimum efficiency standard. So where the rest of the industry is selling 85% minimum standard on on-call air, it's over 70% above minimum standard. The more of that we can do, the better for everybody in the channel.
Albert Nahmad, Chairman
Well said, AJ. Can you explain on-call air? Yes, on-call air is... There may be some new people on this call.
A.J. Nahmad, Analyst — Other
On-call air is a technology initiative. It's actually a business we created in our Wasco Venture subsidiary and has created a piece of software that's really a sales engine for our contractors or our customers. So a customer like AJ's Heating and Cooling would be an on-call air customer and use our software to sell in the kitchen house. And it's loaded up with all of our data about all the products we sell, our customers' pricing, our inventory, everything you could ever want in terms of creating a world-class, professional, sophisticated proposal or proposals for homeowners as contractors or building owners as contractors attempt to sell their wares. our customers that use it are winning more jobs. They're higher ticket jobs. They're higher margin jobs. And like I just said, they're more often than not selling higher efficiency systems than the base tier as well. So it's growing. It's growing fast. And it's just a win-win-win for everybody in the channel.
Mitch Moore, Analyst — KeyBanc Capital Markets
That's super helpful. And then obviously, you know, record gross margins here in the third quarter. Just wondering if you could unpack the moving pieces within that, maybe just how much was mixed benefits from the other HVAC products versus some carryover OEM pricing? Thanks.
Rick Gomez, Analyst — Other
Yeah, Mitch, this is Rick. I can help you with that answer a little bit. There's two or three contributors there that help and that feel good and sustainable. The first is we had growth in non-equipment. and as a category, as a basket, that non-equipment business has higher gross margins, so that is a mixed benefit in our gross margin. There was some carryover benefit from springtime OEM pricing actions. And then the third most structural, most interesting aspect of it is that we've talked about the pricing optimization tools that are maturing and getting better every day in the field. AI is making that even better today. And transactional margins were very resilient in a down market and actually slightly up. So we take some comfort in that and it feeling and being somewhat, or to us feel somewhat permanent and structural, whatever word you want to use. and those are the large contributors to the margin expansion.
Albert Nahmad, Chairman
By the way, let me just say this. We don't want to provide information to our competitors they can use for us, so be careful with how much detail we answer these things. Go ahead, AJ.
A.J. Nahmad, Analyst — Other
I was just going to say, you know, the way you said that, Rick, and what you said earlier about controlling what we can control, it's important to reiterate that we're a long-term company. I mean, I know this is a third-quarter call, But our job is to invest and to steer the business for the long-term health and continuous improvement of this business. You heard us talk about that in our inventory, right? We talked a little bit about what it means in this quarter and next quarter, but really we're talking about how do we get to five turns? What does that mean for our business in the medium and long term? The pricing, there's noise, there's OEM changes and so forth. But what are we doing to improve our paradigm as a selling organization to structurally increase our margins over the long term. It's true of our technology initiatives, helping our customers digitize their businesses so they can be more efficient, as well as we can be more efficient, and we can all move the efficient frontier out into the right. So, you know, I understand these questions are very much focused on this quarter and next quarter, but our business is focused on the long term as well as the short term. Well, great.
Operator
Our next question comes from Steve Tusa of J.P. Morgan. Go ahead, please.
Albert Nahmad, Chairman
Steven.
Steve Tusa, Analyst — J.P. Morgan
Good morning.
Albert Nahmad, Chairman
As I say, Miami, como estas?
Steve Tusa, Analyst — J.P. Morgan
Molto bene.
Albert Nahmad, Chairman
That's very good.
Steve Tusa, Analyst — J.P. Morgan
I don't know. I was in Italy this summer, so I'm just –
Albert Nahmad, Chairman
I could tell. I could tell.
Steve Tusa, Analyst — J.P. Morgan
Yeah, never a real language guy, unfortunately. uh you did good but i do talk hvac i talk the hvac language um so uh i'm just curious when you survey your contractors what are they saying about like what their volumes are down or are they i mean i would assume they're down if this is what kind of like what you guys are seeing but like what what is the actual like uh i don't know what you call it um act like like of activity for the contractors, like, at the ground level?
Albert Nahmad, Chairman
I'm not sure I understand your question.
Steve Tusa, Analyst — J.P. Morgan
Well, you know, like, are your contractor customer sales down, or are they, like, you know, is it, because Lennox mentioned something about contractors having inventory. I think Carrier kind of reinforced that yesterday. So there's this kind of narrative that there was some inventory sitting at contractors, or should we assume that your sales are, you know, kind of in line with what they're seeing on the ground level?
Paul Johnston, Analyst — Other
I think, you know, some contractors may have inventory, but, you know, that's going to be a very large contractor. It's got a warehouse. You know, we sell to almost 100,000 different contractors across the country. So it's, you know, if you're talking to the large contractor, yeah, they could have inventory, but I don't think it's ever going to be a meaningful amount of inventory.
A.J. Nahmad, Analyst — Other
I mean, see, I've talked to contractors in the Northeast that are of size and they're doing great. I've talked to small ones in Texas that are closing up shop. I mean, it is all over the map, which, as you imagine, since, like Paul said, we're at such scale with 100,000 customers across the company.
Albert Nahmad, Chairman
Right.
A.J. Nahmad, Analyst — Other
It's not, there's not, there's not one story. There's thousands. And as far as the industry overall is down.
Steve Tusa, Analyst — J.P. Morgan
As far as this institutional channel, which is, I think, the large contractors, how big is that now as a percentage of the market if housing and home builders are 20%-ish? Is that institutional channel? How big is that now, the consolidators on the contractor side?
Paul Johnston, Analyst — Other
It would be a guess on our part, yeah.
Albert Nahmad, Chairman
It would be a guess on our part, yeah. Barry, what do you have there? I think you estimated that for me once.
Barry S. Logan, Analyst — Other
Yeah, I mean, it's two separate conversations, Steve. There's the contractors that do work for the builder community, and that is not necessarily a consolidator or some kind of what we're targeting as institutional. And if housing is 10%, 15% of the market, I'll believe those contractors are 10%, 15% of the market. But the focus of what we're talking about is megacontractors that are primarily replacement-driven that have a multitude of locations throughout the U.S. Their fragmentation of who they buy from is extreme. So we're trying to develop the thought of how to bring productivity and scale to that relationship. And I certainly think that segment is under 10% of the market, but it is growing. And this isn't just cooked up in a lab. This is customers coming to us and asking if we can help them with this.
A.J. Nahmad, Analyst — Other
I think you said that right, Barry. It's under 10%, but it's an important and growing segment. Their buying is fragmented, including amongst the Waco companies fragmented. fragmented. So what we're developing is a single solution for them to buy all their needs from all of our businesses that's under development now and will come to market early next year. But the conversations we have with those institutional-type contractors and the consolidators of what the prospect of this thing is, it's very exciting to them and therefore very exciting to us.
Steve Tusa, Analyst — J.P. Morgan
Got it. And then just one last one for you on pricing. Anything in the environment that you're seeing where maybe there's an OEM that's trying to get rid of some inventory or something, any kind of late-season rebate activity or discounting activity you're seeing on a like-for-like basis price-wise?
Albert Nahmad, Chairman
Whatever we're seeing is not material. No, it's not.
Al Nahmad, CEO
Okay. Thanks a lot.
Operator
The next question comes from Nigel Koh of Wolf Research. Go ahead, please.
Nigel Koh, Analyst — Wolfe Research
Good morning, Nigel. Good morning. Please don't test my language skills. My Spanish doesn't make it. By the way, I think this is the first time you guys have done a formal investor event, so this is one we can't miss. So I'm looking forward to that, guys.
Albert Nahmad, Chairman
Where are you coming from, Nigel?
Nigel Koh, Analyst — Wolfe Research
New York, yeah. So don't be fooled by the accent. You had me fooled.
Albert Nahmad, Chairman
You did have me fooled. I was going to guess Ireland.
Nigel Koh, Analyst — Wolfe Research
Ireland, well, yeah. I'm actually washed, but close enough. So I want to go back. I'd really love to get your perspective on the customer behavior and why it changed so dramatically. And, you know, it seems to me a coincidence or maybe not a coincidence that it's happening at the time where we've seen this A2L transition. And I'm just wondering if the kind of the cost of a full replacement system versus a partial is a factor that contractors are highlighting to you. And within that question, I'm just wondering if you're seeing the same sorts of trends for the R32 products, you know, Douglas or Goodman. Are those kind of sell-through dynamics better than what we're seeing for 454B.
Paul Johnston, Analyst — Other
Yeah, it's, Paul, yes, you are seeing a difference, you know, as far as performance. The A2L product, you've got to replace the coil inside as well as the outdoor unit. You can't just replace the outdoor unit because you have to have the sniffing device to be able to tell if there's a leak, and then you have to have the switch to turn on the blower So that brought the price up, but it also increased the cost to the consumer to, you know, replace an entire system. When you look at ductless products, ductless products, you know, continue to grow. You know, there's some new products out there that are side discharge. and, you know, they have a tendency to get into the higher efficiency levels with a coil inside and they're ducted. So, yeah, we've seen some changes in the duct-free market which have enhanced our sales there.
A.J. Nahmad, Analyst — Other
But, Nigel, all that, yes, the price of the H2O machines or equipment or solutions are higher, but I don't believe that's the full reason that there's a slowdown in the industry. I think that's much more about the record, or I believe close to record, lows in consumer confidence, record lows in the trading of homes and building of new homes, the tariffs creating, I would say, uncertainty for many homeowners of what their cost of living is going to be. So I just think there's less activity in terms of people investing in their homes, HVAC included, especially coming off a period where they invested a lot in their homes when they were living at home all day long during the COVID times. So while, yes, it's true that there's more price in the machines, I just don't believe it's that clear of an elasticity conversation. I think much more macro influences are having an impact.
Barry S. Logan, Analyst — Other
okay okay that's that's great color thanks guys i just want to add something for everyone's sake and and this because i think part of this part of this discussion is you know where is the contractor in this and how are their businesses doing someone asked you know is there a correlation between what a contractor would feel and what we're feeling and so on and i said this many quarters through my career, no one ever asks about credit. You know, we give contractors $800 million in accounts receivable, and we know the credit quality, you know, every second of the day. In the recession, for example, we had 10% of that portfolio over 90 days past due. Today, it's 1.2%. Last year, at this time, it was 1.2%. Credit quality has not changed at all. It's not you know it's that 1.2 percent as as low as any year in the last 10 years so if i look at you know the pure credit quality of of our customer as maybe as maybe a leading indicator of some kind
Nigel Koh, Analyst — Wolfe Research
the quality is very high okay that's that's great color and then my follow-up and i know we're running out of time here but uh my follow-up is you know everyone tracks the hardy data intracorder. And it just seems very disconnected from, well, it doesn't seem, it is very disconnected from what we're seeing from you and obviously your OEM partners. Any perspective on that
Paul Johnston, Analyst — Other
would be helpful. Yeah. I think there's a great deal of difference there. You know, one, if you take a look at the OEMs themselves who don't report to Hardy, you've got, what, 50% of train sales goes through their company-owned stores, 70% of Lenox, 70% of Goodman. Carrier pushes, what, over 40%, 45% of their sales through Watsco. We don't report to that. So, you know, it's a different reporting group. I think it's going to be a little bit more commercial refrigeration. I think it's going to be a little bit more on the repair side, perhaps. And it tends to be generally more of a northern-based report than the south. So geographically, I don't know how it's spread, and I don't know if they have a consistency every month or quarter as far as who's reporting to it. So, you know, the only index that we really can use is the HRI data.
Albert Nahmad, Chairman
Paul, why don't you comment also, which we generally do not comment, that the weather this season.
Paul Johnston, Analyst — Other
Yeah, the weather was, you know, it was hot in Florida like it always is, and it was hot in Texas like it generally is. But, you know, we had degree cooling days that were not really on target, you know, for the entire year. especially the peak part of the year, which is, you know, May and June, you know, when people are thinking about putting in a new air conditioner. But if the weather doesn't get hot, they don't. So it's been just an odd year. I wish I could put both arms around it and explain it better, but it's a very difficult situation to explain.
A.J. Nahmad, Analyst — Other
Barry said it on last quarter's call. We look forward to getting back to some harmony, hopefully in 2022.
Nigel Koh, Analyst — Wolfe Research
Amen. All right, guys. Appreciate the comment.
Barry S. Logan, Analyst — Other
And the word was serenity, by the way. Serenity, yeah. Better word.
Albert Nahmad, Chairman
Serenity now. But in the meantime, we're getting stronger. Our bounce is getting stronger. Our technology capabilities are getting better. We're not feeling sorry for ourselves that the industry has slowed down. We're doing something about it. We're getting stronger.
Operator
Our next question comes from Steve Tusa of J.P. Morgan. Go ahead, please.
Steve Tusa, Analyst — J.P. Morgan
Hey, guys. Nice to meet you all.
Albert Nahmad, Chairman
We're very proud.
Steve Tusa, Analyst — J.P. Morgan
Steve Tusa twice. I believe the term is serenity now and sanity later. I believe that's what they say. Sorry, on that point about this year being an unusual year. So as you kind of stand today, I know the crystal ball is pretty clouded, but, like, do you view this as kind of, like, abnormally low, and then next year you bounce from a sell-through perspective, or, you know, there's just not enough visibility to kind of call that as you move into next year?
Albert Nahmad, Chairman
Do we think this year's been unusual? Demand is unusual. Do we think we'll get normal next year? I would like to think so, but who am I to predict what the weather's going to do and the other circumstances that create demand? So that's an unknown. But are we stronger now and will we be stronger next year? All I can do is control what we do. We're going to get stronger and better no matter what's going on with demand because that's who we are. We're going to build up our capabilities to do much more things that our competitors can do, innovating in technology and building our task position to perhaps do more M&A. I'd like to do more M&A. So, whatever comes, comes. We'll be ready for it.
Steve Tusa, Analyst — J.P. Morgan
Control to control, Will.
Operator
This concludes our question and answer session. I would like to turn the conference back over to Albert Named for any closing remarks.
Albert Nahmad, Chairman
Well, this was fun today. I enjoyed it. We have a great team here in Wachco and Miami, and I certainly hope as many of you can come to Miami in December, please do. We'll welcome you with open arms. In any event, thanks for your interest in Watsko.
Al Nahmad, CEO
Bye-bye now. The conference has now concluded.
Operator
Thank you for attending today's presentation. You may now disconnect.