MSC Industrial Direct Co Inc (MSM) 2022 Q2 法說會逐字稿

Good morning, and welcome to the MSC Industrial Supply 2022 Fiscal Second Quarter Results Conference Call. (Operator Instructions) Please note, this event is being recorded.

I would now like to turn the conference over to John Chironna, Vice President of Investor Relations and Treasurer. Please go ahead.

Thank you, Andrea, and good morning to everyone. Erik Gershwind, our Chief Executive Officer; and Kristen Actis-Grande, our Chief Financial Officer, are both on the call with me today.

During today's call, we will refer to various financial and management data in the presentation slides that accompany our comments as well as our operational statistics, both of which can be found on our Investor Relations web page.

Let me reference our safe harbor statement under the Private Securities Litigation Reform Act of 1995, a summary of which is on Slide 2 of the accompanying presentation. Our comments on this call as well as the supplemental information we are providing on the website contain forward-looking statements within the meaning of the U.S. securities laws, including statements about the impact of COVID-19 on our business operations, results of operations and financial condition, expected future results and expected benefits from our investment in strategic plans and other initiatives.

These forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from those anticipated by these statements. Information about these risks is noted in our earnings press release and the risk factors and the MD&A sections of our latest annual report on Form 10-K filed with the SEC as well as in other SEC filings.

These risk factors include our comments on the potential impact of COVID-19. These forward-looking statements are based on our current expectations, and the company assumes no obligation to update these statements except as required by applicable law. Investors are cautioned not to place undue reliance on these forward-looking statements.

In addition, during this call, we may refer to certain adjusted financial results, which are non-GAAP measures. Please refer to the GAAP versus non-GAAP reconciliations in our presentation or on our website, which contain the reconciliations of the adjusted financial measures to the most directly comparable GAAP measures.

I'll now turn the call over to Erik.

Thank you, John. Good morning, and thanks for joining us today. I hope that everyone remains safe and healthy.

As we cross the halfway point of our fiscal 2022, I'm excited by the growing momentum inside of our company to accelerate market share capture and improve profitability. Each passing quarter is another proof point that the extensive repositioning of MSC is now firmly taking hold. As our performance improves, we continue raising the bar on expectations across the organization, and I'm pleased to see how our team is rising to the challenge.

With respect to market share capture, we're sustaining growth rates that are at or above our long-range target of growth at least 400 basis points above the Industrial Production Index. Our fiscal second quarter average daily sales growth rate of 7.9% does not do justice to the momentum that we see developing.

This year included 2 sales days around the holidays that carried minimal sales, whereas last year, we were closed due to the timing of those days. Therefore, the absolute sales growth rate of 11.4% is more indicative of underlying performance.

January got off to a very slow start as a result of widespread absenteeism due to the COVID surge throughout the supply chain. In fact, our growth rate in January actually started out negative. We saw an inflection during the last 2 weeks of the month of January, and we've sustained double-digit growth rates since that point.

February was particularly strong at nearly 18% with a catch-up from the soft January, and March has continued our double-digit growth pace. You'll hear from Kristen that we now see double-digit growth for fiscal '22 as a likely outcome.

In line with our strategy, growth is being fueled by the 5 growth levers that we've been describing for you. And those are metalworking, solutions, selling the portfolio, digital investments and customer diversification with an emphasis on the public sector. Within these 5 levers, today, I'll highlight our in-plant program, e-commerce, metalworking and the public sector.

In-plant continues its strong momentum and now represents approximately 9% of company sales. We're tracking ahead of plan, which targeted 10% of total company sales by the end of fiscal '23.

Our recent investments in e-commerce are also starting to pay dividends. E-commerce reached 60.7% of total company sales, up 150 basis points from prior year and 30 basis points from the prior quarter. This is being driven largely by improvements to mscdirect.com.

Our technical metalworking expertise, including MSC MillMax, is particularly powerful in the current environment. Our customers are experiencing rapid inflation, labor shortages, extended lead times and more. As a result, the need for productivity on the plant floor is higher now than it's ever been. And MSC is uniquely positioned to address these challenges as the largest national metalworking distributor offering multiple brands, robust technical expertise and the ability to document cost savings and productivity improvements on a continuous basis.

A recent example demonstrates how our approach is helping customers find the needed productivity. Our technical experts were brought into one of our aerospace customers to analyze their cutting tool consumption. We were able to save the customer over $1.2 million on an annualized basis by recommending alternate tooling that yielded faster metal removal rates, shorter lead times and increased productivity with a more cost-effective tool. These savings are allowing our customer to bring some of the outsourced production back in-house, adding volume for our customer and leading to greater opportunities for MSC. Examples like these are happening regularly across our business, and they are fueling new customer wins as well as greater wallet share at existing customers.

Finally, on the growth front is the public sector. Our team is performing well. You may have seen that we were recently awarded a 5-year contract to service 10 U.S. Marine Corps bases across the Continental United States, Hawaii and Japan. Implementation across the bases is underway, and we expect to see revenue build through the balance of fiscal '22 and into fiscal '23.

Turning now to profitability improvements. Our long-range goal is to restore return on invested capital into the high teens by the end of fiscal '23. And we said we would achieve this by leveraging growth, by executing on gross margin initiatives and by delivering structural cost takeout of at least $100 million, helping to reduce OpEx as a percentage of sales by at least 200 basis points from our fiscal 2019 baseline. I'm encouraged by progress on each of these fronts.

Let me start out with a few words about gross margin. You'll recall that we were not pleased with our gross margin performance in our fiscal first quarter. We began addressing it aggressively with countermeasures during the latter portion of Q1. As part of those countermeasures and in response to the massive purchase cost inflation coming from our suppliers, we implemented a significant price increase in late January.

Price realization thus far has been strong, and as a result, Q2 gross margins came in at 42.5%. This gives us added confidence that we can keep gross margins flat or better for fiscal '22 versus prior year.

We also generated strong operating expense leverage and reduced adjusted OpEx as a percentage of sales by 80 basis points versus prior year. This is largely the result of our Mission Critical initiative. We delivered $6 million of savings in the second quarter and remain on track for $25 million in expected cost savings for the fiscal year. And we remain on pace to achieve our goal of at least $100 million in total cost savings by the end of fiscal '23. All of this is translating into improving adjusted returns on capital, which is well on its way into the high teens.

Turning now to the external landscape. The story remains largely unchanged: strong underlying demand, tight supply chain constraints, even tighter labor constraints and rapid inflation. All of this is evidenced in public indices such as IP readings, which remain at mid-single-digit growth levels, sentiment surveys like the MBI and feedback from our customers. With some very limited exceptions like automotive, the order backlog and outlook for most customer segments remains robust.

Relative to last quarter, headwinds from COVID have eased dramatically. They reached a fever pitch during December and the first half of January but have subsided considerably as the virus has waned. Like everyone, we'll watch the developments with the latest variant, of course.

Here at MSC, we reopened our customer support centers in Melville and Davidson with a hybrid work environment. We've received positive feedback from our associates, and our operations are running smoothly.

Angst related to COVID has been joined by broad-based concern related to the Russia/Ukraine situation. Our direct exposure to the region with respect to sales and purchasing is insignificant. The indirect impacts, though, will likely play out in the form of further inflation and more supply chain disruption.

While these conditions create some challenges for us here at MSC, they also provide opportunities to take additional market share from the 70% of the distribution market that's made up of local and regional distributors. MSC's broad and deep inventory, our good, better, best brand assortment and our logistics capabilities enable us to service our customers at high levels when many cannot. We've used recent market conditions to accelerate share capture, and we'll continue doing so.

Kristen will now take you through the details of our performance, the financials for the quarter and our outlook, which includes a revised annual operating margin framework with a low double-digit sales growth scenario. Kristen, over to you.

Thank you, Erik. I'll begin on Slide 4 of our presentation, where you can see key metrics for the fiscal second quarter on a reported basis.

Slide 5 reflects the adjusted results, which will be my primary focus for this morning. Our second quarter sales came in at $863 million. As Erik mentioned, given the extra 2 days this year coming with minimal sales, the total sales growth of 11.4% over the prior year period is more reflective of our real growth. On an average daily sales basis, Q2 growth was 7.9%.

Our nonsafety and nonjanitorial product lines grew just over 10% on an ADS basis. And sales of safety and janitorial products declined roughly 3%.

Looking at ADS growth rates for our sales by customer type. Government sales declined roughly 11% due to the difficult janitorial and safety comps. This is a large improvement from Q1's decline of nearly 30%, and we expect the comps to ease further in the back half of fiscal 2022.

National Account growth was low double digit, and core customers grew high single digit. We're continuing to see strong execution and growth initiatives with vending, in-plant and mscdirect.com each growing roughly 100 basis points or more as a percent of total company sales versus the prior year.

As Erik mentioned, our fiscal Q2 gross margin was 42.5%, up 90 basis points sequentially from our first quarter and up 440 basis points from last year's fiscal Q2. As you may recall, included in last year's Q2 gross margin was a $30 million PPE-related write-down. Excluding this write-down, our prior year Q2 adjusted gross margin was 42%, 50 basis points below the current year's quarter. We're very pleased with this result, and we remain on track to hold the annual gross margin for fiscal year 2022 flat or better in fiscal 2021.

Reported and adjusted operating expenses in the second quarter were $266 million or 30.8% of sales. Last year's reported operating expenses were $245.1 million, and adjusted operating expenses were $244.4 million or 31.6% of sales. This represents an 80 basis point reduction in adjusted OpEx to sales. It's worth noting that this includes an increase to our incentive compensation accrual this quarter, including the year-to-date catch-up that will not repeat.

We incurred approximately $3.1 million of restructuring and other costs in the quarter as compared to $21.6 million in the prior year quarter. Last year's Q2 charges primarily included operating lease impairment and other exit-related costs associated with our move from physical sales branches to virtual customer care hubs.

Our operating margin was 11.3% compared to 3.6% in the same period last year. Excluding the restructuring and other costs and the PPE-related inventory write-down in the prior year, our adjusted operating margin was 11.6% versus an adjusted 10.4% in the prior year period, a 120 basis point improvement. On the adjusted incremental margin front, our second quarter came in at just over 22% ahead of our initial fiscal 2022 goal.

Earnings per share were $1.25 as compared to $0.32 in the same period prior year. Adjusted for restructuring and other costs as well as the prior year's PPE-related inventory write-down, adjusted earnings per share were $1.29 as compared to adjusted earnings per share of $1.03 in the prior year period, an increase of 25%. This is a result of our execution on all levels, sales performance, gross margin and OpEx leverage.

Turning to the balance sheet. You can see that as of the end of our fiscal second quarter, we were carrying $658 million of inventory, up $35 million from Q1's balance of $623 million. The inventory build is fairly typical with historical periods of high growth with the added element of ongoing supply chain disruptions.

Accounts receivable are also rising as expected with the current sales growth. As a result of this increased use of working capital, our second quarter cash flow conversion, or operating cash flow divided by net income, was slightly negative. Our capital expenditures were $16 million in the second quarter.

Moving ahead to Slide 7. You can see the uses of working capital also impacted our free cash flow, which came in slightly negative for the second quarter as compared to $4 million in the prior year quarter. We do expect cash conversion to improve in the second half of fiscal 2022 and for the fiscal 2022 full year to come in at approximately 70% to 80%, roughly comparable with historical periods of sales lift.

Our current expectation for strong sales growth for the year, continuing supply chain challenges and the recent government contract win are all increasing our working capital and affecting our cash conversion for this year.

Our total debt at the end of the fiscal second quarter was $835 million, which reflects a $72 million increase from our first quarter. As for the composition of our debt, $285 million was on our revolving credit facility, about $200 million was under our uncommitted facilities, approximately $300 million was long-term fixed rate borrowings and $50 million was short-term fixed rate borrowings. Our cash and cash equivalents were $42 million resulted in net debt of $794 million at the end of the quarter, up from $700 million at the end of the first quarter.

Let me now provide an update on our Mission Critical productivity goals. You may recall that our updated cost savings goal through fiscal 2023 is a minimum of $100 million versus our fiscal 2019 cost base. As you can see on Slide 8, our cumulative savings through fiscal 2021 were $60 million, and we also invested roughly $22 million over that same period.

For the full year of fiscal 2022, we expect additional gross savings of $25 million and additional investments of $15 million. We made excellent progress towards this goal in the first half as we've achieved $16 million of gross savings and invested $11 million. We remain on target to hit at least $100 million of cost savings by fiscal 2023.

Before I turn it back to Erik, let me share a few comments on the back half of the year. We're encouraged by the momentum building across all 3 lines of the P&L, revenue growth, gross margins and operating expense leverage.

Our current growth momentum creates the potential for a higher tier on our annual operating margin framework provided to you on Slide 9. You can see that we added a low double-digit scenario. In that growth range, we would achieve an annual adjusted operating margin between 12.5% and 13.1%.

Should the current trends continue, we would expect to move into that range. At those levels of adjusted operating margin, our incremental margins will be around 25% in the back half of this year and north of the 20% we originally envisioned for full year fiscal 2022.

And I will now turn it back over to Erik.

Thank you, Kristen. We've now crossed the halfway point to fiscal '22, and momentum is picking up steam. With each passing quarter, our repositioning is taking hold. We're accelerating market share capture, capitalizing on our ability to add value in a unique pricing environment in order to improve gross margins, and we're generating operating leverage through our Mission Critical efforts. As we look to the back half of the year, we will continue raising the bar, targeting double-digit sales growth, strong price realization and incremental margins in the mid-20s.

Before closing, I'd like to acknowledge the incredible efforts of our team. They are the driving force behind our improved performance for all stakeholders. All 6,500 of us will remain restless until we achieve our mission to be the best industrial distributor in the world.

Thank you, and we'll now open up the line for questions.

(Operator Instructions) And our first question will come from Tommy Moll of Stephens.

Wanted to start off with the update you gave for the adjusted operating framework for the year with a low double-digit ADS scenario now in place. What were some of the factors that gave you the confidence to go ahead and add that to the outlook? And specifically, what I'm trying to understand is just how much -- was it progress towards some of the pricing realization versus where there's some changes in the markets where you got better visibility or greater confidence in how the year might shape up?

Yes, Tommy, I would say you have a couple of things going on. First and foremost, we're seeing it in the numbers. So we're looking at actual performance. And basically, especially if you take out -- we had a really strange first 2 weeks of January with COVID. But if you put that aside, the underlying performance of the business justifies it. So I think that's one we're actually seeing in the numbers.

Number two, the outlook remains robust. And look, I think it's been a strong outlook. It continues, if anything, to firm up. But it looks as good as it did.

And then the third thing, as you mentioned, is price realization. With this sort of level of pricing and inflation in the market, it certainly creates an additional tailwind. You can see that on our growth decomposition. So sitting here halfway in through the year with those 3 factors, we feel like if things continue as they've been running, that's where we should land.

And just to follow up on some of the countermeasures you've taken around pricing. Last quarter, you gave us some anecdotal examples of what those might be. So anything you could do to refresh us there just on contracting strategy or anything else would be helpful.

And I guess a broader question. You've announced some of these pricing initiatives in an inflationary environment, partly as a response to some of those pressures. But longer term, a more nimble organization around pricing has got to be a good thing under any kind of circumstances. And so what can you talk to in terms of cultural shifts in the organization, incentive structures that may have changed around the sales force all aimed at some of these near-term goals on price cost, but maybe with some long-term benefits to the organization more broadly?

Tommy, you're spot on. In fact, a lot of the work -- obviously, look, there's a lift that came from a sizable price increase. But we started -- and we called this out on the last call, we started gaining traction before the January move. So there's more going on than just raising prices.

There is a big effort underway. You referred to it as being more nimble, more agile, building our muscle in our sales organization around how to talk to customers about price. And that is clearly resulting in better realization rates.

And as you suggest, for us, this is something that is as or more important when inflation settles down, and it's sort of back to normal as it is right now when it's relatively easy to explain a price increase.

I think the other thing I'd call out, Tommy, that's helping us a lot, I mentioned it in the prepared remarks, which is the work we're doing with our customers to take costs out of their business. Every customer right now understands when you come to them and talk about the need for a price increase. Everyone gets it. However, our customers are getting squeezed. And the call out, the cry for help is greater now than ever for saying, "Look, if you're going to come in with a price increase, help me offset it."

And our technical experts, that's really where they're spending their time now inside of the plants of our customers figuring out how to offset the pricing. And I think that's really resonating and helping us improve realization.

The next question comes from Hamzah Mazari of Jefferies.

This is Mario Cortellacci filling in for Hamzah. Could you just remind us how much of your business is levered to OEM production? And then along with that, maybe just comment on what you're hearing from your customer base or what they're saying around supply chain issues. Do you think that's been a governor at all on your organic growth?

Mario, so first off, look, I think the best sort of way to think about our business is you can see on the ops stat sort of manufacturing as a percentage of total company. That's sort of your best proxy.

Look, we are -- within manufacturing, we tend to be heavily levered towards manufacturers that are cutting, removing metal, working with metal. That's sort of the guts of our business.

I would say a resounding yes, Mario, that the supply chain constraints, there is a lot of talk in the headlines that they're easing. I will tell you on the ground, it's not happening quickly. And we don't see it going away anytime soon. It is absolutely constraining growth. So there is, I guess, good news, bad news from our perspective.

The good news is there is pent-up business here and that the demand is stronger than the numbers are showing because of limited supply, no question. And that's across the board from our customers, our own issues with lead time and our suppliers.

So I think the answer is yes. And look, to be honest, we don't see the supply chain relieving -- the bottlenecks relieving overnight. Certainly, now you compound that with the Russia/Ukraine situation. But again, I think the good news story there, yes, there is some pent-up demand not getting filled right now.

Got it. And then just for my follow-up, maybe I missed it in the prepared remarks. But I guess, what kind of growth are you specifically seeing within vending? I think the comment was more or less around that being now 1% or it grew 1% or 100 bps as part of your mix. But did you provide an actual growth rate around that? And then could you also just remind us how big that market or how big that addressable market is for you guys?

Yes. Mario, the number we had cited in the script was we're seeing vending grow as a percentage of revenue about 100 basis points over prior year. And as far as our vending total addressable market, Erik, do you want to take that? Yes, thanks.

Yes. Sure. Look, I would say, Mario, we've not publicly sized it specifically, but I would say if you take a -- I would put it beyond vending and put the umbrella around services in our business, inventory management services.

Specifically, if you umbrella all of the concepts in which MSC is on the plant floor, that would be vending, VMI and our in-plant program, where we directly have a presence, that is somewhere around half the business today. And we certainly think if you look moving forward and think about the growth algorithm for the company, at least that, if not more than half of the growth is likely to come from those areas as part of the puzzle, that being vending, VMI and in-plant.

The next question comes from Michael McGinn of Wells Fargo.

Going back to your National Account progress and the momentum within federal and military, congrats on the win there. So squaring the numbers, to my knowledge, I thought federal was maybe high single-digit percent of sales, and defense may be closer to mid-single digit. So I just wanted to get your perspective on those numbers and whether these new contracts are some nice singles and doubles, but maybe the building blocks for other wins you have in the pipeline with the recent defense budget negotiations.

Yes, Mike. So what we've shared, if you take government in total, that's federal plus state, and it's moved around a lot, particularly through the last 2 years during the pandemic, but tends to run high single digits as a percent of total company sales. The split we've been calling out is 2/3 of that is federal, and 1/3 of that is state. Now that also moves around quarter-to-quarter, but over time, that's sort of been the breakout.

Yes, I would -- a couple of things I'd say about the public sector group for us. Number one is yes, we're pretty encouraged by recent wins. We talked about one here, which, look, we're proud to be able to service the Marine Corps, particularly at a time like now.

There have been other wins, not quite as large and not quite as high profile, but other wins fueling our confidence there. So we are seeing momentum really pick up with our execution on public sector.

So moving forward, would it be possible to see that number of total government business and the federal move up as a percentage of sales? Likely yes, we would.

And that will probably happen, Mike, gradually. These things tend to -- there's a whole implementation timeline, and it should begin scaling over the next quarter or 2. But yes, it would be likely that government could tick up as a percentage of sales as a result of the wins.

Great. Appreciate the color. And then maybe an update on capital allocation. It looks like your cash flow was fully burdened or overly burdened with a double regular dividend payment this quarter, balance sheet in good shape. I mean, how do you think about capital allocation with shares at these levels?

Yes, Mike, let me -- I'll add a little color on working capital. And then, Erik, if you want to jump in on any of the other aspects of capital allocation, go for it.

I think, Mike, just specific to the working capital utilization, we're expecting some recovery there. But we're not being overly skimpy with how we're thinking about inventory right now. We are kind of flexing the balance sheet there strategically, making sure we're building a buffer where we can to service our customers. So I don't anticipate inventory freeing up as a use of cash anytime soon.

And then accounts receivable, pleased with how that's just been growing in relation to sales. There are definitely some things that we're looking at through the lens of Mission Critical that are going to help us on working capital. But I'd say that a lot of those are kind of just coming online.

I think there's some opportunity for them to help us with cash flow in the second half, definitely picking up steam into '23. So that's sort of the working capital angle I'd offer around capital allocation.

I think with respect to M&A, we're always looking at potential interesting bolt-on acquisitions. We've seen some acceleration in those areas, probably, I don't know, within the last year or so, I would say. Erik, do you want to add anything on capital allocation?

No. I think by and large, Kristen, you had working capital, and our philosophy on capital allocation remains pretty consistent. So we're focused, look, priorities sort of 1a, 1b, our organic reinvestment. We like what we're seeing with the organic returns right now. So we're going to continue fueling those, continued steady growth in the ordinary dividend.

And then we feel very comfortable with where our leverage ratio is now. And look, we'll look at things on a risk-adjusted return. I think the one thing to call out, yes, the M&A funnel, sort of the rate and pace of discussions probably has heated up over the last several quarters. But if we do anything on the M&A front, we'll be sticking to our knitting. And that means metalworking, it means Class C or OEM fasteners, something that bolts on to an existing platform.

The next question comes from Ryan Merkel of William Blair.

Nice quarter. So my first question is on operating leverage, which had a strong result this quarter, and obviously, the guide is for a step-up. And really my question, Erik, is how confident can we be that this is a structural step up? Have you seen enough from Mission Critical at this point?

Yes, Ryan, I do think we're comfortable that there's a definite structural element of the improvement. We're, gosh, I guess, about halfway through Mission Critical at this point.

We've been executing on projects really across the sales space, operations, kind of the core G&A function of the business and really quite pleased with what we've seen there and the ability to sustain those savings.

I definitely think we get some help in the second half from the growth rate, of course. We're seeing favorable pricing that supports improved leverage. But at the end of the day, if we think back to our commitments around Mission Critical, achieving greater than $100 million of cost out, really happy with how that's been going and the ability to sustain that progress.

Got it. That's great to hear. And then secondly, on gross margin, I guess, a two-parter. What are you hearing from suppliers? Might you see another price increase here sooner than later?

And then also, typically, in an inflationary environment, you'd see inventory profits, right? You're using your balance sheet. Are we going to see some benefit from that in the second half this year?

Yes. On the first part of your question, Ryan, we're definitely still seeing movement on inflation from vendors. I'd say we'll react to that if needed in terms of what the timing or amount of that would look like. That will all be dependent on what we see coming from our vendors, our supplier base. But obviously, inflation remains a big concern in the business.

And then the second part of the question on inventory, just to clarify, were you saying will we see a reduction in inventory or sort of a continued increase in inventory because of the supply chain challenges? Just want to clarify your question.

Yes. No, more that you'd see a gross margin lift because you've got inventory to lower cost, and you've had a price increase in the market, right? If I go back, look at 2011 when we had inflationary environment, right, MSC is putting up 30% plus incremental margins with gross margin help. I'm just wondering if that's going to help second half this year if something has changed.

Yes. So we've done a little bit of strategic purchasing ahead of cost increases but not a significant amount. I mean, if you're thinking about how -- about margins for the second half of the year, what I'd share is, obviously, in second quarter, we took the price increase in late January, which is mid- to high single digits. That largely benefited February.

We had some progress before that, as Erik alluded to, around the countermeasures. So I'd expect that gross margin for the third quarter probably a slight sequential improvement as we get the full quarter of price realization.

But what's also happening that mitigates some of that is because of the way our cost curve works on the average cost and the increased costs coming in. I'd say for fourth quarter, you can probably expect a sequential decline that looks somewhat in line with what our historical Q3 to Q4 sequential gross margin decrease would look like.

So there's a lot of moving parts there in gross margin. We're, of course, we're looking at what's happening with supplier rebates, too. But the biggest drivers influencing second half gross margins are by far the impact of that January increase and then the continued roll on to the P&L of the cost increases through the average cost pricing method.

Ryan, the one other thing I'd add in is, look, I think you're seeing right now if you're thinking back to prior times, the benefit of using the balance sheet, if you will, of taking price ahead of cost, you're seeing it now. So I mean, we're seeing positive price cost now.

So if you think about the key elements of our growth and what's driving growth right now, some of those still mix us down. It's not like those have gone away. If you think about in-plant and vending, we are getting benefit from price cost.

The next question comes from Chris Dankert of Loop Capital.

I guess look at the field associates stats here, looked pretty static compared to what we saw last quarter. I guess any comment? Is labor availability an issue here? Or is this more a strategic, hey, we're happy with where the headcount is at, and we're actively not adding? Just any comments on labor and kind of where we're at here.

Yes, Chris, I mean, so our goal for the year was growth somewhere in the low single-digit range for field sales headcount. So I mean, in general, we're tracking there if you combine Q1, Q2. But if you ask me, is Q2 have been affected by labor, the tight labor markets, the answer would be yes. Ideally, we'd be a little bit ahead of that in the low single-digit range. So we still feel like we'll be on track for the year, low single-digit range, but hard not to be affected right now by the tight labor markets for sure.

Got it. Makes sense. And then again, if I remember correctly, we were kind of rolling out some new robotics at Harrisburg and Elkhart. Any comment on kind of how those upgrades or new investments are going?

Yes. We're really pleased with how those projects have come online, and I think I couldn't be more appreciative of having them given what is happening with the labor environment. We're seeing nice productivity driven by those projects and, of course, always looking at what additional investments we can make to support automation more broadly in those facilities and in our other facilities.

Got it. Congrats on a nice quarter here, guys.

Thanks, Chris.

Thanks.

The next question comes from Ken Newman of KeyBanc Capital Markets.

I just wanted to circle back to some of the operating leverage questions that were asked earlier. Just kind of thinking of it in a different way. If we think about the Mission Critical savings coming through, do you think you can start to drive operating margin higher than 12% if revenue comes in at mid-single digit in the future?

Yes, mid-single-digit revenue growth. Your question was, can we drive operating margins higher than 12% on mid-single-digit growth?

Yes, in the future, right? Like understanding the framework for '22.

Yes. So looking ahead, like really past this year, I think that would be the hope would be that we can be above the 12% on a mid-single-digit growth scenario. If we're thinking about this year specifically with the annual operating margin framework, the mid-single-digit growth scenario, tough to see a path to above 12%. And fiscal '22 is mid-single-digit growth scenario, just to clarify.

Understood. Yes. And then just kind of switching over. Curious if you could just provide some color on how you view the sales momentum between manufacturing and nonmanufacturing as we enter into the second half. Obviously, we're going to be starting to lap the tougher comps in the government business next quarter with some tougher comps on the manufacturing side. So any idea how we should think about the run rate growth beginning in the third quarter for those 2 customer segments?

Yes. Look, I think in general, Ken, look, first of all, from a sequential average daily sales basis, we should see things. We would expect to see things build.

Yes, you're right. The comps are going to play around for sure with percentage of sales and what grows faster. So like particularly as you get past [Q3], public sector stuff kicks in, some of the new wins kick in and you lap the comps, it would -- yes, I'd certainly expect that, for an example, by Q4 to have really strong growth. So on a relative basis, that probably picks up.

But as of now, pretty much our outlook is positive on pretty much all -- we called out like automotive being an exception for obvious reasons. But the outlook is pretty positive across the board right now.

Yes. And if you don't mind, I'll ask just one more, and I'll get back in line. But I'm curious if you could just remind us how much freight expenses represent as a percentage of sales? And how much of those costs do you think are able -- you're able to contractually pass through?

Obviously, you've gotten pretty good realization on price. And I'm just trying to get a better sense of what's embedded in the margin guidance from what's been a pretty volatile fuel environment most recently.

Yes. Yes. So our freight out percent of sales is about 4%, a little more than 4%. We are actually pretty pleased with how we've been managing that, considering what's been happening in the inflationary environment around freight.

We're pretty well protected with our small parcel contract, seeing a bit more inflation on our LTL contracts and definitely not immune from some of the surcharges that I'm sure you're hearing a lot about in the market. But generally navigating that well and haven't seen a huge change in our freight percent of sales given everything that's been happening in the environment.

Maybe a little bit more risk coming in here in the second half. We're hearing, of course, a lot of chatter from our carriers. Fuel prices are absolutely impacting them. So I'm expecting a bit more pressure here in second half and potentially even in 2023 depending on how long this lasts. But generally feeling pretty good about how our freight expenses have been playing out to date.

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

Thank you, Andrea. Before we end the call, a quick reminder that our fiscal '22 third quarter earnings date is now set for June 29, 2022. We plan to attend a few investor conferences before then, so we look forward to seeing you in person. And we'd like to thank you for joining us today. Have a good one.

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