Watsco Inc (WSO) September 16, 2026 Conference Transcript

Thanks for joining us, everyone. Good afternoon. Before we get going, let me read this following disclosure. For important disclosures, please see the Morgan Stanley Research Disclosure website at morganstanley.com backslash researcher disclosures. If you have any questions, please reach out to your Morgan Stanley representative. My name is Christine Yao. I am a member of the multi-industry team here, and on the stage, we're very pleased to have Barry Logan, Executive VP, and Rick Gomez, VP of Corporate Development, from Wasco with us today. Okay, so let's start with something high-level, maybe. Wasco has become a much larger business today. Where do you guys see the biggest benefits of Wasco's scale, and what can Wasco do that other players cannot simply replicate?

Thank you, Christina. Thank you for being here, everybody. It's the last session of the day, which also means I guess we can run a couple of hours if we want to, right? So, just kidding. We are Southern storytellers, so we'll try to contain it. So scale is the question. So scale, you know, historically for us has been very inquisitive in the markets to have the capital, to have the relationships with OEMs, to know who the big players are, to have the credibility to discuss acquiring their company, and most of the time when we say acquiring a company, it's a family business that has been around 50, 60, 70 years. So the personal chemistry, the credibility to talk to them, manufacturers who have to permit who can buy one of their distributors, just the idea of having the scale to get things done at scale has been successful for us over, you know, almost 40 years now. So that's old school, but still going on and still important to us. Scale also meant being a mega-partner to the manufacturers that we represent. Manufacturers are not at your kitchen table when you buy these systems. We're not at the kitchen table. We are maybe through technology today. But the contractor who actually does the work, who gets paid, who pays us, who produces the unit volume, who gets things to happen at the homeowner and business level. Our scale helps that. It helps with the number of brands we sell. It helps with the number of stores we operate. It helps with the complexion of all the goods we might sell in those stores. It helps with the number of employees we have serving in the market. A bit old school, again, but that's part of what scale does. More recently, the word technology, which every company wants to describe as a moat around their business, again, we're dealing with 100,000 contractors, 30,000 SKUs, 700 stores, infinite number of price points, infinite number of customer interactions, all of which converges in the idea that everything everybody wants in our industry, they want an hour from now. It's very much almost a retail trade business selling to contractors who order in real time, who want the product in real time, and tomorrow becomes a different day. So the last 10 years, how do we bring an ecosystem of technology that does that and operates in that fashion and provides that value, provides that speed and convenience, accuracy, completeness, all the things that technology can do versus just relying on historically, old school, kind of the grumpy old men in our stores answering the phone. How do we make it a 24-hour business, not an 8-hour business? The scale has lets us spend about $60, $65 million a year on building out the technologies that help the contractor every day, that help the homeowners, how they source and buy products from our customer, how we can improve the operations of our daily life. I have 30 more minutes to answer the question, but you get the drift. But at the end of the day, it boils down to relationships that are critical and material to them as part of the scale, the ability to innovate and deliver technology, and then the credibility to acquire some great businesses that have been around for decades that are interested in doing that with us. Sure.

Maybe let's stay with contractor for a minute. As contractors become larger and more sophisticated, how does that change what they need from Wasco? Does greater customer scale change economics of the relationship, or does it ultimately make Wasco's platform more valuable?

Well, I think the first reaction to something like that is you worry, you assess, you have to try to figure things out. That's the near-term reaction. And about a year or so ago, we said, wait a minute, on paper, we are tailor-made for this trend. We have the scale that we just talked about. We have the industry's most advanced technology platform to go help these growing contractors win. We have the industry's best digital selling platform to help them execute better in the home and close more and higher price and higher margin orders in the home. And so we decided to embrace the trend. As they say, don't fight the tape. So we're not fighting the tape on this one. We decided to embrace the trend, and we announced at our Investor Day in December the launch of something called Supply Sync, and Supply Sync is that single pane of glass that a large consolidating customer has to go procure and have the entirety of our PIM catalog at their disposal, the entirety of of our business units, resources at their disposal, again, our scale and our technology. And so we think it's a win-win. We think it's a trend that we can do well with, irrespective of what the near-term irritation of it might be. I think it's something that we can absolutely capitalize on. So it's core to what we're doing now, and the update is SupplySync is with its pilot customers, And we intend to scale that later this year and entering into 2027. There's both a volume and a margin opportunity that comes with that. The volume opportunity is that today those existing customers, we feel like we have less than our fair share of wallet. And so that's where the incremental volume can come from. And it's a margin opportunity at the same time in the sense that what we sell to those customers today is largely equipment And again, by exposing the full totality of Watsco's inventory and PIM catalog, we think we do well with non-equipment with that customer segment over long periods of time. So it's a trend. We're prepared for it to persist. And I think we have, again, the scale, the technology, and now the platform in SupplySync to make that successful.

That's very helpful. I appreciate it. We covered some topics about value prop to the contractors, but maybe let's switch to talk about the OEM side. What is Wasco's value proposition to the OEM?

Again, it's first and foremost, it's the contractor relationships that we have. Again, that's who is actually defining the product to be sold in the home. It's who specifies the product. It's who the contractor is the one there at the point of sale. And access to that contractor relationship is the critical element of how we compete. More contractors, more brands, more locations, more everything. And we think that's the first access point of an OEM when you make stuff in a factory is how do I get access to that local market? And that's through our relationships, first and foremost. Secondly is I think the last 10 years of when we use the word technology is to drag our OEMs into that environment when none of the other distributors necessarily were asking for it. But we had to get Honeywell to give us their product information. We had to get Carrier to give us their bill of materials for everything they've made over the last 10 or 15 years. So now a Carrier dealer can sit in someone's backyard and know the right motor because we have the bill of materials sitting there in a mobile app that he can draw on to find the right motor. So, again, I think there's been a lot of value and continued value and more innovation to occur of how do we bring and a manufacturer wanting to bring itself into the point of sale, into the contractor relationship at a point of, again, using the technologies that we've developed. And the other is capital. Working capital in this industry as a distributor is roughly 90 days' worth. So if we were to grow a business from $200 million to $400 million, that requires that proportionate amount of working capital to put into the market. If Carrier, Ream, Daikin, one of our OEMs says, how do we grow? They need to invent it at the factory, and we need to invest the working capital it takes to deploy that into a market, support it with credit, support it with the inventory, support the know-how. And so, you know, in our joint venture with Carrier, for example, this is certainly on our books, you know, more than a billion dollars of capital is sitting in our balance sheet trying to sell more Carrier products each year, and several hundred million dollars of Rheem working capital is sitting there on behalf of Rheem. And, again, if their factory grows 10%, 15% a year, they've invested zero in that working capital. We've made that investment. And so it's a collaboration that is obviously very important. But we're the investor of working capital in this industry to grow an OEM's business. And to the extent our wealth and our capability and our, you know, we're here to help you learn more about a growing public company, that is our charter, and OEMs know that. We're not trying to protect the family's interest. We're trying to grow our business. And, you know, a few billion dollars of capital is in place to go do that. And so that's, you know, a few of the ideas that are in partnering with us.

And I would just add very quickly to that, that there's, we, for those of you that are newer to the story, we operate in a $75 billion industry. We're the leader in that industry, the top five or 10 command what they command, but there's 2,000 other distributors that comprise, you know, the chunk of that, The majority of that, $75 billion in TAM. So what I'm trying to convey is that the median distributor in our industry is not Watsko at $7 billion. It's $100 million, $200 million, $300 million distributor. And that fabric and that network of distribution, some are investing, some are not. And I think what we offer very strategically to our OEM partners is there's a balance sheet with no debt, and there's every ambition to grow this business and invest in technology to do that. I'm not sure that's true everywhere in the distribution landscape. And so that's what I think we offer, too, more qualitatively and strategically is we're thinking decades ahead in terms of how we invest. And I think that's rare when you go look at the average distributor in our space.

Thank you for that. Maybe to further understand the dynamics and relationships with OEMs, if we see meaningful OEM share shifts or potentially new entrants gain traction in the market over time, Does Watsco economically care, which manufacturer ultimately wins, or could greater competition among the OEMs actually increase your strategic value? What's your take?

Well, first, it's important to understand how we go to market as Watsco. In 700 stores of Watsco, there's not one named Watsco, by the way. And so why is that? Well, we acquire business units that have been great at building a brand before Watska. So we have, for example, we have a large business unit called Gemair that sells Ream throughout the Sunbelt. We have our joint venture with Carrier, where we're selling Carrier-dedicated brand locations, selling, you know, billions of dollars of Carrier brand. We have a relationship with Daikin, where we have one of their historical 60-year-old distributors that we acquired 25 years ago, helping build the Goodman and Daikin brands in its markets. So my point is that we have very defined business units whose charter is to grow market share of the brands they sell. They're distinct. There's some measure of independence. We want to grow those customer relationships, and we want to build our company with that array of brands and opportunities. And the OEMs understand that. They respect that. It's how we've operated for, again, almost 40 years. And so very dedicated networks that are there to grow brands. And the question is, how do we add more to it? So we've acquired a couple of carrier distributors in the last six, seven years to build on our joint venture. We recently also acquired a Daikin distributor in Texas that is now dedicated under the Watsko philosophy to build its brand network within that. So the only ones understand that, and we don't grow if we ever substituted one product for the other. Our job is to be supportive of our business units trying to do that. And, uh, that's where, you know, the relationships are really at the grassroots level is in the field with, in local markets. And, uh, again, I think, um, our job at the Wasco level is to build great relationships to, to, to, to enable that. And then we're still not in 10 states. We're still not representative of all brands in the market. And, you know, we'd like to diversify over time because that reflects what the market is. But the horsepower and intent and conviction of a brand is for all the brands we sell. And our partners know that and know how it operates.

Appreciate that. I think that's a good segue into capital deployment. As Wasco has become How has the acquisition opportunity evolved, and when you guys are acquiring, I wonder what can you guys offer that other people, other companies cannot, for example, like a larger strategy buyer or like a PE owner?

Yeah, I think, look, we are a collection of businesses that operate as one umbrella under Watsco, and Barry's right. There's nothing in the market that says Watsco. You'll never see a branch called Watsco. That's very intentional. That's very much by design. Part of that is because our M&A strategy has been to go buy market leaders that have built terrific businesses, and our job is to go help them build on what they have built. Our job is to help them. We go to work for them. It's not the other way around. So I'll get to what we offer them in a second, but I think the aperture for M&A and the opportunity for partnering with more terrific businesses, It's as great today as it was 10 years ago, 20 years ago, and I'll give you two proof points of that or two data points to validate that. If we're, call it, $7.2 billion of sales prior to the two acquisitions that we've just announced that add about $750 million of volume to the business, by the way, and I just mentioned that the industry is about $75 billion in TAM, then that's one way of computing market share. Let's round that to 10%. So lots of opportunity to go. Nowhere near anything that would be considered, you know, mature. And then the other way to measure market share is, is if you just look at traditional residential unitary shipments, we are 18 to 20% of the market. So, in neither scenario are we so capped out that M&A isn't an ingredient for growth. What we offer and what we attract and what we, I think, is a point of attraction for many of these businesses is we are a forever home. That's what we are. We get calls all the time from bankers asking if we want to dispose of anything, and we don't answer those calls because we've never disposed of anything. And so for the entrepreneurs that have built great businesses, that have, you know, taken something that in many cases is multi-generational, second, third, fourth generation in certain cases, and, you know, it's time for them to rethink ownership. We are that perfect home where we offer the stability of, again, our balance sheet, our capital, our OEM relationships, our technology orientation, and the fact that they can continue as who they are, as what they've built, their legacy, their people, their name, their partnerships in the market, their customer relationships, et cetera. I think that's been hugely attractive to, again, these very entrepreneurial-minded owners in our industry, and that is the strategy going forward, and there are many, many more of those opportunities in the market that we can go after.

I think our timing was good or fortunate. Most of these businesses were built after World War II, and especially in the Sun Belt. If I said Houston and Dallas and Miami and Orlando and Charlotte and Phoenix, these are all post-World War II boom places where air conditioners made it possible to live there. And so now, 50, 60, 70 years later, there's second, third generation owners that say, now what? And so, you know, a good example of that is actually in Philadelphia. Our business unit in Philadelphia is about a $300 million part of Watsko. It's sold carrier since carrier, I think, launched products in Philadelphia in like 1930. It's actually a 99-year-old family business. We've owned it for seven years. The Pierce brothers, whose name is on the building, it's called Pierce Phelps, run the business, and there are six cousins that are fourth generation in the business. We paid roughly nine times $10 million in earnings for it, and now the return of asset capital is 30%, and the same brothers are running it and grew it, and they have a lot of Wasco equity that has gone from $140 to where it is today, and that's our spokesperson for acquisition strategy to other targets. We just announced a large deal a couple days ago. The owner of that business spoke to four prior owners of other acquisition targets that are part of Watsco, and that's a big credibility factor as we go around other families and talk to them. So financially, it's worked out well. Culturally, it's managed risk well. And the idea is, again, a succession plan for the manufacturers, too, whose distributors are in that situation. And so there's a comfort zone, I think, for them as well in this. So that's been our approach. And Rick and I, a couple others of us, I've known the families well over our careers. And now we're dealing with some second generations that are now in place, or third generations. And there's a lot more to do. It's the funnest part of our job. It is.

Let's switch gears to talk about some of the current trends. There are obviously some moving parts in the market, and so it would be helpful to level set and see where demand stands. What have you been seeing in quarter to date?

Sure. Well, let me start a little bit before that and work our way to the current. I think we exited last year and began this year with a little bit of humility and modesty about where the industry was, and we said exiting our first quarter that things appeared to be getting better. We said, exiting our second quarter, that things appeared to be more stable, and we can say today that that trend has continued and that the selling season has, I think, given us more confidence, not less confidence on the trajectory of the industry and the end markets. So within our business, you know, we have 70% of it is equipment, roughly. Within that, residential is the largest component of equipment. And it was nice to see that grow mid-single digits in the second quarter, healthy balance of both price and volume. All of that has sustained itself since we communicated in July. And we're not one to prognosticate very much. We're not one to put up fancy PowerPoints that bridge you from today to infinity on how life looks. But I think all else equal, we feel better about the state of the industry today, the state of the end market, than we did certainly to start the year. And it's been good to see that stability. It's been good to see what would be more long-term conventional averages in terms of price, volume, and mix. And we'll see where it takes us. But I think it's an improved picture relative to three, six, and nine months ago.

Yeah, and I would just add that it's been a little bit of a liberation of spirit. I think the last four or five years, there's so much that's happened, and with our partners, probably having it even worse, having to spend every nickel of R&D and energy on compliance and regulations and getting the products right, getting the products out, just going through really a hornet's nest twice of transition. So this year is good to actually take a deep breath and say, now what? And to have a market share discussion with a partner and say, here's how we can grow. Here's what you need to do. Here's what we're going to do. Tell us what we need to do, and let's work on that and build share. I'm sure it's a refreshing environment right now to do that and not have to worry about, you know, what's in the rearview mirror and feel like that's going to overhang. That overhang feels over with. Yes, the market is responding and growing, but the now what is what's important for next year, and it's a much better environment. And, again, nice to have very strong technical discussions with our partners, and now what can add to the equation.

And I would add just very briefly that I think part of what the stability allows, besides the fact that we can all catch our breath and have more productive discussions with OEMs, is we announced a slate of new things that we have going on in the business at our investor day, not just supply sync, But we announced other things like VCR, hydros, and we gave more color on pricing optimization. We gave more color on on-call air. And so this more conventional environment, the calmer waters that we are in, allow for those things to now fully mature and not take a backseat or not be, in some ways, clouded by regulatory transitions and supply chain disruptions. And so it's a good environment now over the next year or two to go win and to let those initiatives play out and mature and help our business.

Maybe let's take that demand discussion one step further and talk about what's happening upstream in the channel. From what you said in the channel, how would you characterize industry inventory levels today, and how do you feel about, like, Wathco's inventory?

Sure. Well, first, you know, inventory is what it is for one reason. That's to serve a customer who needs it, like, an hour from now. The most critical element in the equation of inventory carry is obviously demand is one item. One item is the supply chain feeling that we need to have in terms of lead times and on-time delivery and kind of the equation we have with our manufacturers as to their performance and what we carry in inventory. But the overriding emotion or reality is our customer needs the product from an hour from now, and I'm going to protect that availability at all costs or compete with my balance sheet and provide that availability that maybe a competitor might struggle with. So, again, imagine the level of change the last two or three years where all those equations became very complicated and difficult, so we built inventory. We used our balance sheet the last two years to compete. And inventory turns went from probably four or four and a half times to closer to three. And we were willing to do that because it let us compete in the marketplace. And over the last five years, our total shuttle return is 12%. So all the volatility, all the stuff, you know, it was a good performance period for Watsco. And yet, now that things, again, are in a more serene place, how do we improve inventory from here? We started last year where we cut inventory, hatcheted inventory, to use Rick's word that I used earlier. You know, avalanche inventory by 30% in a 90-day period between September and December, because we felt we must start this year, 2026, at that balance point that was needed for what we sensed for this year. We're glad we did that. We were right about how much we did. And as we progressed into this year, we said, let's see what demand tells us. That's an equation, part of the equation of inventory carry. Let's watch lead times, watch the credibility of shipment data, and if we sense better performance, more reliable performance, we'll trim safety stock and improve that over time. So this year, there was not the concept of cutting, hatcheting inventory. It was to finesse, on average, lower inventories simply to improve inventory turns and to recognize that progress was available to us, still with a bias and a hedge in our minds of customer availability. So I think that this year is a year of progress where inventory turns improve. Average inventory balances, therefore, are less, but it's part of that finesse. And, ultimately, the demand environment will decide what inventories are going into next year. You know, that's the same. And if we're seeing demand growth already, then, you know, we'll play that out in our inventory balance next year. So now I would say we're in a period of finessing inventory to improve inventory turns. There's not the chop and slop and weirdness that we experienced. And, again, working with the OEM partners to help them plan their factory loads, to help them plan their output, again, with that single greatest goal of serving the customer. And a very short lead time environment for us. I think I don't feel over-inventoryed or under. I feel like we started the year in the right place and are going to end up in the right place. And for next year, we would like to continue that finesse of improving average inventory while competing in the marketplace at a higher level because the market share is available to us.

Thank you, Barry. We have maybe three minutes left. I want to make sure we have time for the audience to be able to ask a question. I do have a couple more questions myself.

I can ask one.

So, you guys talk about, like, residential. If we move outside of residential, I wonder how has the light commercial side of the business has evolved, like, these days? What are you hearing from your customer? What are the activities looking like?

Just to define it, so we have three different types of commercial within our business. We have the light commercial that you're talking about. We have applied in certain markets. These are big, specified, contracted, long lead time projects that would go into very, very large structures. And we have ERF, which is the ductless equivalent in commercial, has been a steady grower over a long period of time as ductless has evolved and gained more and more acceptance here in the U.S. So on the light commercial side, which is the thrust of your question, I would say things are pretty ho-hum there. That's a technical term, ho-hum. That product, too, went through It's transition period last year, and so entering this year, it also felt like a cleaner slate, and it's also an area of focus for us. We do well with commercial in certain markets. There are opportunity in other markets to expand and grow our commercial presence. I would also say that the other opportunity within commercial is not in the sense that you're thinking of it, but in the commercial supplies world. In every large structure like the one we're sitting in, there is a ton of stuff above this ceiling that's moving air around this building. And so while everybody focuses on the equipment, it is also an opportunity to go after some of the commercial supplies that are accessories and attachments to those equipments. So state of the market there, I would say, is, again, very ho-hum. And the VRF side of our business is going through now its refrigerant transition the same way that the light commercial side did last year.

It's going through that transition now?

Yeah, this year, 2026. And so we'll come out of that in 2027. And so far, so good.

I would say it's about, to put it in perspective, about the equipment side, right around 10% or so of our equipment business. And if I add commercial, everything else to it, it's about another 5%, 6% of WOTSCO. So what would be commercial would be, call it between 15% and 20% in total, with residential being the remainder.

All right. That's very helpful. I think that's a good way to leave it. Thank you so much for coming, and thanks for this conversation. It's very helpful.

Thank you very much. Appreciate it.

Thank you for having us.

Thank you, everybody.