Hillman Solutions Corp (HLMN) 2021 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to The Hillman Company's 2021 Second Quarter Results Conference Call. At this time, all participant lines are in a listen-only mode. After the speakers' presentation, there'll be a question-and-answer session. (Operator Instructions).

I would now like to hand the conference over to your host today, Jennifer Hills, Vice President of Investor Relations. Please go ahead.

Thank you, [Sarah]. Good morning. This is Jennifer Hills, Vice President of Investor Relations at Hillman. Thank you for joining us this morning to review and discuss Hillman's Second Quarter 2021 Earnings Results.

Joining me today are Doug Cahill, Chairman, President, and Chief Executive Officer; and Rocky Kraft, Chief Financial Officer. A copy of our earnings release and slide presentation can be found under the Investor Relations section of our website at www.ir.hillmangroup.com.

Before we begin, we would like to caution you that certain statements made today may include forward-looking statements that are subject to the Safe Harbor Provisions of the Securities Laws. These forward-looking statements are not guarantees of future performance and are subject to risks, uncertainties, assumptions, and other factors, many of which are beyond the Company's control and which could cause actual results to differ materially from those projected in such statements.

Some of the factors that could influence the Company's results are contained in our periodic and annual reports filed with the Securities and Exchange Commission. Please see slide 1 in our earnings call deck for more information regarding these risks and uncertainties.

We will begin the call with a business update from Doug, followed by Rocky, who will be providing a financial review of the quarter. Now, let me turn the call over to Doug.

Thanks, Jennifer. Good morning, everyone. The past few weeks have been an exciting time for Hillman with the closing of the transaction with Landcadia III and on July 15 ringing the bell and becoming a publicly-traded company on NASDAQ under the symbol, HLMN.

With the transaction complete and the recapitalization of our balance sheet, we are even better positioned to do what we do best; solve complexity, labor, and logistics problems for best-in-class retailers from big box to your local hardware stores. And I can't remember a time when these were more important to our retailers than they are right now. We're excited because at Hillman, remember, nothing happens until you sell something.

Our unique model continues to result in share gains and new businesses wins in the second quarter. This includes adding additional stores for construction fasteners, nice wins, and builders' hardware and continued momentum in the traditional channel.

We are continuing to gain share in important growth categories as we help solve two of our retailers biggest challenges -- logistics and labor -- by shipping to over 40,000 locations and having our people in the stores each and every day helping to ensure the product is available and easy to find when the retail customer walks into the store.

And the same is true for our robotics and digital solutions business. We are the leader in innovation for key and fob duplication, pet engraving and knife sharpening businesses. We have designed, developed, and manufactured all 34,000 kiosk machines located in retail stores throughout North America and continue to own and service every machine out there.

These robotics and digital machines help drive in-store traffic, provide great margins, and are destination purchase items for our retailer. We have significant runway to continue to expand our product offerings and to take share both organically and through M&A, and we're fired up about what's ahead.

Year-to-date through the first six months of 2021 we've grown sales 11.6% and adjusted EBITDA 8.9%. During the second quarter of 2021, we were up 8.4% in net sales and adjusted EBITDA increased 4.6%.

I'm very happy with the top-line, and while our bottom-line growth lagged our topline a bit, it's mainly due to commodity, freight, and ocean container inflation that we've absorbed in the first half before we successfully implemented our initial price increase that went into effect towards the end of the second quarter.

As we continue to monitor inflation, particularly steel, freight, and ocean container costs, all three continue to rise really across the board, and therefore we'll be taking additional price to cover higher costs, which should take effect during the fourth quarter.

Let's talk about the second quarter. As previously discussed in early March, we saw the rapid slowdown of our protective solutions business, which was down 21.5% in the quarter as vaccinations rolled out much faster than any of us imagined. We entered new PPE products last year during COVID with masks, wipes, sprays, and vinyl disposable gloves at the urging of our customers. It was good for our customers, their customers, as well as Hillman.

As a result of the earlier than planned slowdown, we had negative comp in protective solutions and began the quarter with excess PPE inventory just like everybody else. We've worked with our retail partners and have made progress this quarter working down this inventory through mark-downs, promotions, and donation efforts to those still in need. We saw a stronger than expected recovery in our robotics and digital solutions business, which was up 57% in the second quarter, and our Canadian business was up 32%.

We also saw continued solid demand in our U.S. hardware solutions businesses where we were up 5.6% on top of a very strong performance in 2020. These gains really demonstrate the strength of Hillman's operating model and exceptional execution by our in-store sales, service, and supply teams.

Let me give you a few examples during the second quarter of why this is our competitive mode and the secret sauce of Hillman. Three quick examples. First, in April, we replaced a 25-year incumbent supplier at a major retailer with a brand new eight-foot program in 1,600 stores flawlessly. Why? Because we have a better mousetrap, and they know our people are best in the business when it comes to resets, merchandising, and category management.

The second example is the new eight-foot expansion of builders' hardware and construction fasteners in 450 stores at a major retailer, and I love this one because it didn't come from an incumbent. It's brand new shelf space from vendors outside our categories losing shelf space to us because our existing programs continue to outperform.

And finally today hopefully around 2 o'clock, Rocky and I have an under and over on that, we'll finish 150 store reset at another major retailer for construction fasteners at 97% on time and complete. This is 32 linear feet of shelf space.

These three new programs are well over 1,000 SKUs, and to me, I think it's a great example of belly-to-belly selling and execution at its best.

Let's move to sourcing. Consistent with what others are experiencing if you're sourcing products from overseas like most of this industry does, the lead times have almost doubled due to container and vessel availability challenges, but I'll tell you having the 1,100 Hillman sales and service folks in the store every day combined with our long-term customer-supplier relationships really differentiated Hillman from the rest of the pack over the past 15 months, and I'm super proud of the team.

Given these supply chain pressures and spikes in demand, we're really proud to say our fill rates led our industry last year at 93.5%, and we continue to hover in the low 90s through the first six months of 2021.

I'd really like to say it's easy since we've been doing this for 57 years, but there really is nothing easy about flowing goods to restock shelves in North America right now. Thankfully, we continued to outperform our competitors due to our unique model.

Rocky will have more to say about the outlook, but I'd like to note a few things. First, it has been as difficult as ever in my career for us and our retail partners to accurately plan our business given the wide swings in demand for our products first during COVID and now this post-COVID phase. COVID's impact both up and down on everything from PPE to home improvement items to keys plus the impact on retail prices -- I mean, just look at lumber prices quadrupling before recently and thankfully coming back to reality and its impact on all our input costs from commodities to shipping to labor has really made planning very tough.

The COVID bump and then drop with PPE products, and let's face it, this week's announcement on Tuesday by the CDC makes it difficult to predict where things go from here. That said, our hardware business remains the absolutely engine of Hillman. Through the first six months of 2021 our hardware solutions sales were up 7.9% over a super strong 2020 and up 20.1% over 2019 if we look at that as a more normal year.

During the third quarter, Hillman and our retail partners are planning for challenging comps in categories like deck and drywall screws, but let's think back to last year at this time. A big Saturday event was a trip to Lowes, Home Depot, Ace or your local PetSmart, and now this summer thankfully consumers are visiting family and friends and getting back to recreational activities and travel.

While in-market demand remains firm, we anticipate these two categories could comp negative in the third quarter due to the tough comparisons, but this should be more than offset by the new wins and pricing, resulting in a low single digit growth rate for hardware solutions in Q3, our new business wins and anticipated resumption of home and backyard projects once the kids get back to school should lead to a stronger fourth quarter and all-around hardware solutions growth rate for 2021 of 10%.

In closing, we can't control all the moving pieces in our end markets caused by COVID, but we can control how we respond and I'm proud and impressed by the agility of our people and what they've been able to accomplish so far in '21. We have taken market share, won new business, maintained industry-leading fill rates, rolled out new innovations, protected our employees, strengthened our balance sheet, and taken pricing actions to try to mitigate unprecedented inflationary pressures.

These actions have enabled us to profitably go year to date EBITDA 8.9% above 2020's COVID-fueled levels and 21.1% above a more normal year of 2019.

I'm more excited than ever about our platform for growth going forward and our new balance sheet. The moat we built around our businesses provides us a competitive advantage and further strengthens our relationship with our best in class retailers.

We're well-positioned to take advantage of opportunities as we continue to execute on our long term growth objectives.

With that, let me turn it over to Rocky to provide some more additional details on the quarter and year to date results as well -- as well as what all of this means for the rest of this year and next. Rocky?

Thanks, Doug. On a gap basis, our net sales for the second quarter of 2021 were $376 million, an increase of $29 million, or 8.4%, versus the prior year quarter. The increase was driven by 64% growth in our key business, 39% in engraving, and 32% growth in Canada as all three were negatively impacted in the prior year due to COVID, as well as continued growth in hardware solution sales, which were up 5.6%.

Offsetting this growth was a 21.5% decline in protective solution sales due to the reduction of COVID-induced buying of PPE such as masks and disposable gloves.

Year-to-date, net sales were $717 million, an increase of $74.5 million, or 11.6%. Growth was driven by the recovery in the key business in Canada and continued growth in the hardware business and COVID-related sales of gloves and masks in the first quarter.

As we discussed on our first quarter call, we continued to benefit from incremental sales of COVID-related protective products in the first quarter until about the first week of March, when sales dropped significantly due to the faster than expected rollout of vaccines and a proliferation of products in the retail channel.

In the quarter, our gross profit increased by $9.4 million over the prior year quarter to $160 million. Gross margin rate contracted 90 basis points to 42.5% from 43.4%. Adjusting for buybacks, margin rate in 2021 was essentially flat with the prior year as increased sales of higher margin RDS products were able to offset margin pressure from increased sales in the lower margin construction fastener category and inflationary factors.

Year to date, gross profit increased $20 million to $299.7 million. Gross margin contracted 170 basis points to 41.8 from 43.5 due to cost inflation and adverse mix.

SG&A expense on a GAAP basis in the second quarter increased 17.6% to $111.7 million, and as a percentage of sales increased to 29.7% from 27.4%. Excluding $7 million in costs associated with the Landcadia merger and litigation costs, SG&A expense increased 10.4% and was 27.2% of sales.

Selling expense increased by roughly $5 million driven by increased marketing spending, incentive compensation, and higher travel and entertainment after a significant decline in the prior year due to COVID lockdowns.

Warehouse and delivery expenses increased by $5 million due to higher sales volume and higher freight costs due to inflation. Year to date, SG&A increased 16% to $215 million and as a percentage of sales increased 130 basis points to 30%, or up 8.5%, or only 50 basis points, excluding the above-mentioned items.

Higher selling expenses, inflation in warehouse and delivery costs were the primary drivers of the increase.

Excluding the impact of certain restructuring and other costs, adjusted EBITDA was $64.5 million in the second quarter, a 4.6% increase from $61.6 million in the prior year. Year to date, adjusted EBITDA increased 8.9% to $112 million from $103 in the prior year.

Please refer to our 10-Q and investor deck for reconciliations of net income to adjusted EBITDA.

Now let me turn to cash flow and the balance sheet. Year to date in 2021 operating activities used $60 million of cash as compared to a $12 million source of cash in the prior year. The primary drivers of the change were an increase in inventory to support new business wins and sales growth, and increased in transit inventories as we have had to order more product to accommodate for longer shipping lead times and cost inflation.

Year to date, net cash used for investing activities was $62 million as compared to $23 million in the prior year, and included the acquisition of OZCO Building Products in the second quarter.

Capital expenditures were $22 million and relatively flat year over year, and were invested primarily in our robotics and digital solutions equipment and merchandising racks, an important part of our high return CapEx initiatives.

Maintenance CapEx remain near 1% of sales, as expected.

At the end of the second quarter of 2021, we had $1.7 billion of total debt outstanding and $64 million of availability under a revolving credit facility for a net debt to trailing 12 months' adjusted EBITDA ratio of 7.1x.

Post the closing of the merger with Landcadia on July 14th and the recapitalization of the balance sheet, we had $944 million of debt outstanding and roughly $58 million of cash on the balance sheet for a net debt to trailing 12 months' adjusted EBITDA ratio of 3.8x.

Similar to the experiences of many companies over the past year, COVID has had many different, impossible to predict impacts on our business as during COVID people were stuck at home and businesses were closed, we saw a pick-up in hardware sales as DIY-ers were at home and tackled home projects while the professionals were not able to get into homes to complete work. We were able to opportunistically take advantage of the strong demand and lack of supply of personal protective products, such as disposable gloves and masks.

Offsetting this was weakness in our key and engraving businesses due to significantly reduced foot traffic at our retail customer stores.

With the waning of COVID, we began to see a reversal of some of these trends. To cut through this COVID noise, we, like many of our peers and retail customers, believe comparisons of 2021 to the pre-COVID noise 2019 is helpful. It also better reflects the strength in our underlying businesses.

We have provided a two-year growth comparison of our results for the second quarter in our slide presentation, which shows that overall sales in the second quarter increased 15.7% from 2019.

We also showed strong revenue growth across each of our segments, with hardware and protective solutions up 16.2%, robotics and digital solutions up 10.3%, and Canada up 21.5%.

Similarly, we experienced strong growth of 19% in adjusted EBITDA and 50 basis points of adjusted EBITDA margin expansion. At the segment level, adjusted EBITDA from 2019 grew 15% at hardware and protective, 27.4% at robotics and digital, and 11.9% in Canada.

We want to highlight that this was all organic growth. As you can see from the two-year growth comparisons, our businesses remain strong despite COVID-induced volatility.

As we have now locked down our first half and done a deeper dive into our business segments, we have some better visibility into what a post-COVID environment might look like for our retail partners and end markets, we have modestly reduced our outlook for the balance of '21 and '22.

We expect to see continued recovery at RDS in Canada and solid topline growth in our hardware solutions business, so not much has changed in the aggregate there, but continued inflationary pressures primarily in our hardware business and the delayed timing of offsetting price, coupled with downward revisions in our protective solutions business are reflected in our new outlook.

Rolling this up, we remain optimistic on reaching our initial projections of $1.4 billion in revenues this year and growing to $1.5 billion in 2022. After consideration of all the moving pieces of our business, we believe prudent expectations for adjusted ABITDA to be approximately $220 million to $230 million for fiscal '21. And our early preliminary read on 2022 is $245 million to $255 million. These compared to $179 million in 2019 and $221 million in 2020.

We remain confident in our long term organic growth goals of 6% top line and 10% adjusted EBITDA growth. And we also look forward to completing highly accretive low risk M&A.

With that, let me turn the prepare remarks back to Doug for some closing comments before we take questions.

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

[Sarah], can you open the call up for questions?

Thank you. (Operator Instructions). Our first question comes from the line of Reuben Garner with The Benchmark Company. Your line is no open.

Thank you, good morning, everybody.

Hey, Reuben.

So maybe just to start on the hardware inflation piece. Can you I guess walk us through what's changed for you guys? I think previously you were expecting to -- because of the timing of when the inflation hit you thought the price would offset it. Can you walk us through what inflation you're talking about? Is it just materials or are you talking about other things like labor and transportation and that sort of thing that's gotten worse than expected?

Yes, Reuben, here's how I think about it. We basically put in a price increase effective the end of the second quarter. Remember with our customers, we give them roughly 60 to 90 days notice so they can figure out what they're going to do with retail prices.

So basically tax day is April 15th, is when we needed to lock and load on what we thought would be the right level. And we felt good about that. And I can tell you since April 15, this thing just continues to go up and it's getting on a ship, it's getting it here and what it costs. It's getting it to DCs and stores and steel's gone crazy.

I would love for steel to do what lumber's done. But is hasn't and you've got currency as well in the -- in the steel side of it. So it's the three things and that's the difference. Now, we will price for it as we have. But, again, think about the math, we'll be doing that, we'll be working with our customers, we've always been able to do that. But you're pretty much talking about effective dates in the fourth quarter.

And the way I'm thinking about it, Reuben, is that this one, because it's so crazy, is probably a temporary price movement. And it could swing with the way things are going. Because honestly this one just continues to run and we don't know what it's going to do.

Okay, that's helpful. And then on the top line growth outlook for hardware, specifically, can you tell us what -- how much price is in there? I think you said low single digit growth, was that just hardware or was that hardware and protective in Q3? If you could clarify that as well.

So as you think about the price volume mix, Reuben, we think for the full year, as Doug said in his prepared remarks, that we'll be up 10% in the hardware business of a crazy strong 2020, so we're really proud of that. Inside that, right now, is about 3% price. And as Doug said -- sorry, 3.5% price and so you can obviously do the math on volume, as we go through the end of the year. Again, we plan to take a little more price and so that could get a little bit better. But, again, if comes really late in the year, which is likely, it's going to be -- those are the rough numbers where we'll end up.

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

The price impact, yes.

All that price?

Correct.

And when Rocky says, we'll see a little of that it's just that it -- we've seen increases that are more than a little. But we're basically going only see the positive impact of the next pricing towards the end of the year.

Got it. And on the protective side in Q2, it looked like -- I understand the elimination of masks and rubber gloves and chemical cleaners and that sort of thing. Was there anything else going on that specifically hit Q2? I don't know if it was a tough comparison but it looked like it was kind of comparable to Q2 of '19. Is that way we should think about protective as we move through the year as similar numbers to 2019 on the top line perspective?

Yes, Reuben, I would say that actually the base business. So let's pull COVID out. It was really solid and remember last year in the second quarter, the lawn and garden sections were closed, there was just a lot of folks just trying to keep stores open and get people to work. So our base business-- showed we had a nice second quarter in our base business. It's just that last year we shipped everything we had as soon as we could with what went on around the COVID stuff.

But, no, our base business is solid. I'm really happy with it.

Okay. Last one from me. I understand that the near term dynamics every company in the -- that the broader housing and building products, well and industrial space is dealing with these crazy times. What is behind the outlook for next year. You just -- because there's so much unknown and it doesn't seem to be stopping, are you just baking in some extra or incremental inflationary pain? Or what's behind the slight cut for next year's outlook?

Yes, really a couple things. One it's just that with the way it's moving it's just -- it's scary because again I've never seen anything like this. And so what we're seeing, Reuben, for example, right now is we've got people that are bidding for five and six times what we pay to get on a ship. And so as I think about all of that, you have to make sure you get the product. And so that concerns me.

And then as you think about gloves, disposables, because we've talked about this before, our disposable glove business back in '19 was really a great mix. It was about 85% nitrile, about 15% vinyl. You used vinyl for the paint guys. And that's really what we'll be doing in '22. And initially our customers were saying to us, we'd like you to do more in the disposable gloves ongoing because you've done such a great job.

But, Reuben, there's so much global capacity that's been put into the disposable market. We don't want to play in that market. So we're going to go back to basically a business in disposables that was like it was in '19 because I don't want to be in the food fight on disposables. There's just too much capacity out there. So those are the two things.

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

Perfect. And I said last one but I'm going to sneak one more in. You at 3.8x now after the deal's closing. Can you talk to us about what all of this means from a cash flow perspective? And what the deleveraging trajectory will look like because I'm assuming the faster you can get down the more active you can be in the M&A market.

Yes, so what I would tell you, Reuben, is we will have some modest deleveraging this year. It will probably be less than we had anticipated just given the inflation that we're seeing and the commodity costs in the business. And so we will use a bit more working capital that we had planned.

As we think about 2022, it will be our intent to generate over $125 million of free cash flow and we'll use that cash to to pay down debt unless we see some really significant, highly accretive, low risk M&A in which cases we think our shareholders will want us to do that.

Great. Thanks, guys. Good luck going forward.

Thanks, Reuben.

Thanks, Reuben.

Thank you. Our next question comes from the line of Ryan Merkel with William Blair. Your line is now open.

Thanks. Good morning, guys.

Hey, Ryan.

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

Yes I think, Ryan, if you go back at the end of the first quarter, we didn't know what was really going to happen. I think our call was around May 11th, but we had seen PPE stop. Two things have changed since we talked to you last.

One is to move PPE. Honestly, who knows what is going to happen with the CDC. but -- and what's going on out there right now. But Ryan, you could basically discount stuff to a dime and you couldn't give it away. The consumers said, "I'm done, I don't care." And so what we were trying to figure out is how do we move through this. and get our money back. And that's what's -- that's what we've been working on.

At the beginning of May, we didn't know what was going to happen. We didn't know where it was going to be. So that's part of it. And then the other part is simply the cost side of nuts and bolts and screws and our ability to price fast enough with how it's moving, not to mention getting on a ship and getting here. Those are the two pieces.

Got it. Yes, that makes sense to be prudent at this point about 2022, so I see why you did that. And then my follow-up -- and I just want to be clear on this, I know you have two price increases out there. So I guess two questions.

One, have you seen any pushback from your customers? I think the answer's no, but just clarify that because I think it's a big point. And then secondly, when are you going to get back to neutral on price costs? I know that you're guessing but it sounds like it's the end of this year, so just clarify that as well.

Yes, so first of all, remember the ink hasn't dried on our letter for the June 30th increase. We really wanted to wait until we saw -- we thought that if we wait a bit -- because we saw some people going April and May and we said, this is moving around so much, let's wait. So we went and basically it was effective second half of the month of June.

So now we're sitting end of July, we're having the conversations with the retailers. They know what's going on. They're getting crushed across the board. And so what we're trying to work through is the timing. And I believe that we should do this one based on a temporary basis so that after a 90-day period if things come back to earth we'll be fine on that second one. But to answer your last question, Christmas we should be there, right, Rocky?

Right.

That's what it feels like.

Correct.

Okay, got it. Thanks. I'll pass it on.

Thank you. Our next question comes from the line of David Manthey with Baird. Your line is now open.

Hey. Good morning, guys.

Hey, Dave.

Good morning.

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

Yes, Dave, let's talk about InstaFob first. As we've said, this one's really cool. And we can either build it into our full-serve key machine or do standalone. And we've also said that this is not in the middle of Iowa. This is really around population areas. But we're super excited. Ace, Walmart, Lowe's, and Depot have all taken it and we're rolling those machines out.

Believe it or not, we got caught a little in the chip thing. But we're small enough to where we've been able to catch up, so I think we're in good shape there. And that rollout schedule's evolving and going as fast as we can. But people are happy with it. I know that we're happy with it.

On Resharp, it's at Ace Hardware first until we get to those 3,000 machines that they've ordered. And in that case, we've got enough to make X, I won't tell you the number, but we are waiting for chips -- just like the car guys -- for that machine. But Ace is really happy.

It was really interesting. We basically said to our partners at Ace, "Hey, why don't you guys see if you can get them? Because we went on eBay and can't get them." And they came back and said, "No, we can't get them either." So we're just going to be working through that as chip availability comes.

But Rocky, at the end of the year we'll be where on machines on Resharp?

We'll probably be close to 500 in the fall.

Yes, by 600 probably, Dave, by the end of the year. And I was hoping we'd be at 1,000. I didn't know it was the same chip as the car, but it's the same one.

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

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

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

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

Yes, and, Rocky, the 2% to 3% you just mentioned, what was that in reference to?

The sales side.

Oh, on the sales side just thinking of it as a percentage of total Hillman.

Okay. That's 2022 you're saying?

No, it's actually in out-years past 2022. So again, they're relatively minor when you think about the top-line relative to the whole of Hillman. But again, as we begin to grow those we do love the profile from an EBITDA perspective because of the service-related nature of those.

Got it. Okay, thanks for the help.

Sure.

Thank you. Our next question comes from the line of Josh Gonzalez with Blackstone Credit. Your line is now open.

Hi, appreciate you guys taking the question. I guess just kind of diving into that $10 million to $20 million just lower guidance to 2021. Would you guys be able to parse out what amount of that is just PPE not being sustained to the same level and versus kind of the price cost, freight impacts from fasteners?

So here's how I would think about it, we said $230 million to $240 million, we said there was $10 million of pressure after first quarter call and that was all from the PPE. We've obviously moved off that number. If you pick a midpoint on $220 million to $230 million, right, and say $225 million, that's kind of $5 million of additional pressure. We would say that most of that is from the inflationary pressures. There's a little bit more PP&E but we had most of that baked in.

Okay, great. So you're saying that the majority of that's PP&E then at the end of the day?

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

Okay. Okay, great. And then it sounds like volumes in fasteners are still pretty favorable. You guys kind of gave the 3.5% price increase. Do you guys seeing the volumes holding up through the end of the year or how are you thinking about that?

Yes, I'm super happy with that business. And remember, 3.5% is just because it's only a half a year.

Yes.

-- so the price increase is bigger than that. But we're doing really well. And if you think about it, I mean, in this environment to take 32 linear feet at 150 stores with X thousands of SKUs and to set it at 97%, The retailers are saying "holy smokes". So they just do a really good job and that team's been doing it a long time.

So I feel great about that business. But you don't grow the way we're growing if you don't take share. And we're continuing to pick up share, feeling good about it.

Okay. So a lot of that volume growth, is that demand related or is that your guys' share [changed] at the end of the day?

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

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

Yes.

And we think we will continue to as we think about 2022 and the future.

Yes, and, Josh, I think every investor has said, hey, come on, deck screws and drywall screws last year went crazy. And that's probably the negative comp we'll see in the third quarter. But we're still going to be slightly up, which is impressive..

And then when people get back to school there's going to be projects. Everybody believes this thing's going to fire back up. But right now, there's just everybody's finally getting the heck out of the house. And we're hoping they can stay out of the house.

Yes, yes. And then, I'm sorry if the details are off, you guys I think you said 455 stores, and that fully offset some of that for comp. I guess just can you kind of give us a size in terms of maybe revenue that that opportunity represents?

You know, we won't do that Josh because I want to protect the retailer. We don't want a retailer to be looking at another retailer and say huh, they do this and this. So, no, I'm not going to -- I'm not going to talk about the retailer or the size just because -- it's just too important that we don't say things that would put our retailers to where -- why'd you say that.

Okay, all right. I appreciate it. Thank you.

Thank you. Our next question comes from the line of Dick Ryan with Colliers. Your line is now open.

Thank you. So Doug, you mentioned this being a crazy time and some key wins here, but can you talk about how the conversations are going with either the big box or other retailers as they look not necessarily next year but three to five years down the road and how you might fit into maybe they're changing their plans a bit?

It's interesting, Dick. They're super excited about the fact that we just took debt from $1.7 billion to, call it, $850 million, whatever the number is. I mean, we basically cut our debt in half, they loved that. What they don't want us to do, and I'll be with the CEO of one of our big retailers this weekend, and what they don't want us to do is they don't want us to just go buy stuff to be big.

They've seen companies kind of start believing their road show and doing silly stuff, and they say as long as you're doing things like you've done that fit into our strategy but we don't want to see you getting into stuff that doesn't have anything to do with us. So we're going to hang around the rim with them, and I feel really good about it.

But they're excited about the debt going down. They really think this is the best thing for the business. And they just want to make sure we stay on our strategy, which we're not getting off.

Okay, and just a clarification. I thought -- I don't have the slide deck open, but I thought I saw in there when I looked earlier, interest $30 million a year. Rocky, is that something for '22 as we go forward?

Yes. Yes, that's a good number.

Okay. Thank you and congratulations.

Thanks, Dick.

Thank you. Our next question comes from the line of Daniel Lupo with Jefferies. Your line is now open.

Hey, thank you very much for taking the call today. Can you, maybe, comment a little bit about the M&A environment. What are you seeing out there, is there anything kind of actionable or are you kind of on pause for now until some of these headwinds kind of pass by?

You know, we're not on pause, but man we're at Dollar General. I mean, we -- we're not going to overpay for anything right now, Daniel, and that's a good place to be in. We've had some really interesting conversations.

I got to be honest, the phone's ringing a bit more now that they see our new capital structure, but what we're doing is I don't want to waste my teams' time and certainly not my time.

We're saying listen, we like the thing. We know if we put your stuff through our [goods] suite, we're going to grow. But here's what we're thinking from an EBITDA multiple standpoint, and if you're interested we'll go. If not, don't waste your time or ours. And I think you'll see us be successful in that area.

But take HHI as an example, that's been announced. You got brands like Kwikset and Pfister and Baldwin, that's going to go at retail pricing. That's going to go at a strategic multiple. That's not us. We're not going to do that kind of thing. So I think it's probably going to be a pretty good time because I got to tell you, we do 19,000 containers a year from Asia. People who don't know how to do this are getting their heads handed to them. And so there's going to be some people who are going to want to hook up on trying to figure out how to weather what's going on, and I feel good about our chances. But no, we haven't stopped.

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

Yes, so I think as you think about where we were (added by company after the call) at June 30th, obviously we do still have PPE inventory that I would say we're over-inventoried on, although we do still have some masks in the warehouse, and we'll see depending on what happens over the next month or so. We're working through that with our customers and we think we'll have that cleared out by the end of the third quarter.

As you think about the remainder of the business, lead times have lengthened pretty dramatically across the board as you start thinking about products coming out of Asia, and so our inventories are up. They probably will remain elevated through the rest of the year. And so I think as we think about the current year, we do believe we will have a little more working capital usage than we had in our initial plan.

You think about inflation, you think about those increased lead-times and needing to have more product on our books that's on the water to make sure that we can fill our customers at plus 90% rates. Having said that, as I think I said to one of the earlier questions, we do believe, as we think about 2022 or 2023, when inflation begins to come down, I think you will see us generate -- flip that working capital, generate cash, and we're confident that as you think about 2022, we can generate $125 million plus free cash flow.

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

Yes. No, that makes a lot of sense. Thanks for your time today, guys, I appreciate it.

Sure.

Thanks.

Thank you. Our last question comes from the line of Andrew Berg with Post Advisory Group. Your line is now open.

Thanks, guys. Just going back to the slight adjustment to outlook, you guys were pretty good in saying two thirds was PPE, one third was price costs. If we focus on the price costs component of that, you had mentioned increased shipping rates, which I think you were alluding to water freight, which I think is more ground transport, and then steel prices.

Can you parse through those three items to give us a sense -- order of magnitude, what are the biggest to smallest and roughly the percentage moves that there are for those three categories?

Yes, good question, Andrew. Let me just start by saying our mode is that we ship to almost 43,000 locations, and we go direct store to a ton of places. And so when you think about our cost structure, not only do we spend $80 million on the people that are worth it, but we're shipping a bunch straight to store and we're saving that freight and that handling for our retailers.

So our mix of costs is a bit different than typical competitors. But Rocky, how would you answer the rates, the ocean, the freight in general and the steel, if you had to bracket it?

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

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

That's helpful. Thanks, guys.

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

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

Have a great day, have a good weekend.

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