Primo Brands - Q3 2023

Transcript

Operator (participant)

Thank you. I'll now turn the call over to Jon Kathol, Vice President, Investor Relations. Please go ahead.

Jon Kathol (VP of Investor Relations)

Welcome to Primo Water Corporation's third quarter 2023 earnings conference call. All participants are currently in listen-only mode. This call will end no later than 11:00 A.M. Eastern Time. The call is being webcast live on Primo Water's website at primowatercorp.com and will be available there for playback. This conference call contains forward-looking statements, including statements concerning the company's future financial and operational performance. These statements should be considered in connection with the cautionary statements and disclaimers contained in the safe harbor statements in this morning's earnings press release and the company's annual report on Form 10-K and quarterly reports on Form 10-Q and other filings with securities regulators. The company's actual performance could differ materially from these statements, and the company undertakes no duty to update these forward-looking statements, except as expressly required by applicable law.

A reconciliation of any non-GAAP financial measures discussed during the call with the most comparable measures in accordance with GAAP, when the data is capable of being estimated, is included in the company's third quarter earnings announcement, released earlier this morning, or on the Investor Relations section of the company's website at primowatercorp.com. We have also included a deck on our website that was designed to assist you throughout our discussion. I am accompanied by Tom Harrington, Primo Water's Chief Executive Officer, and David Hass, Chief Financial Officer. Tom will start today's call by providing a high-level summary of the transaction announced earlier this morning, followed by a review of the third quarter and our progress on Primo Water's strategic initiatives.

David will review our segment-level performance and will discuss our third quarter performance in greater detail and offer our outlook for the full year of 2023 before handing the call back to Tom to provide a long-term view ahead of Q&A. With that, I will now turn the call over to Tom.

Tom Harrington (CEO)

Thank you, Jon, and good morning, everyone. Before I cover the exciting news announced earlier today and the strong results the team delivered in the third quarter, I'd like to share that our associates, customers, suppliers, and the citizens of Israel have been and remain in our thoughts and prayers. Our associates in Israel have shown an incredible commitment to our customers, each other, and their communities in the face of a horrific situation by continuing to supply bottled water to the citizens of Israel, and I want to thank them for their tremendous efforts. Now on to today's news. As we announced that we have agreed to sell a significant portion of our International businesses to Culligan International.

This deal is the first of several transactions that will occur in 2024, as we are executing strategic alternatives for the remainder of the international businesses, which includes Aimia Foods in the United Kingdom, as well as our water and coffee businesses in the United Kingdom, Portugal, and Israel, and expect to finalize these in 2024. We believe this deal unlocks significant value for Primo Water shareowners. The transaction was the result of a proactive, board-led process that resulted in an agreement that offers an attractive premium valuation for the businesses sold. It enables us to focus on the North American market, where we have leadership, scale, and a significant addressable customer opportunity. The proceeds will be used to drive organic growth, reduce leverage, accelerate Water Direct tuck-ins, pursue opportunities in water adjacencies, and return capital to shareowners via share repurchases.

Highlights of the transaction include up to $575 million all-cash purchase price for a significant portion of our international businesses, unlocking substantial shareowner value. An attractive premium valuation multiple of approximately 11x trailing twelve months Q2 Adjusted EBITDA. Upon closing the transaction, we intend to repay the outstanding balance of our cash flow revolver with a long-term goal of sustaining net leverage under 2.5x Adjusted EBITDA. In addition, upon closing, the board plans to authorize an incremental $25 million share repurchase program. To be clear, the existing $50 million authorization, approved in August of 2023, remains in place until closing and will be increased to an aggregate authorization of $75 million post-closing. The remaining international businesses are expected to generate additional cash as they are sold in the upcoming year.

This transaction marks another major milestone in our transformation as a company. Following the completion of the transaction and the divestiture of the remaining international businesses, the simplified pro forma Primo Water will have greater focus on our pure-play North American water businesses with scale and operational focus.... An improved financial profile, accelerating the achievement of several previously announced 2024 targets by approximately one year. The means to execute highly synergistic tuck-ins, as well as the ability to pursue adjacent water services and high growth categories. Our capital allocation priorities will align with our opportunities for growth, and we'll be able to support a full suite of options to drive value. We will be able to drive organic customer growth, digital initiatives, and customer retention activities, and our capital investments will be focused in high-impact, profit-generating projects.

We will reduce leverage, giving us increased flexibility to pursue the growth opportunities. We will fund M&A through tuck-ins, as well as new and potential revenue streams. We will support the return of capital to shareowners via share repurchases. Upon closing, we will have a North American-based company that aligns with our brand strengths, a leaner, more focused associate base, a balance sheet that has lower leverage, the power to increase organic growth, greater earnings power, and a company poised to execute M&A at an accelerated pace. We anticipate releasing next year's guidance in conjunction with our 2023 year-end earnings in February 2024. I would like to thank all of the Primo Water teams for their contributions to the excellent performance of the business in delivering another quarter of strong revenue and earnings results and generating record Adjusted EBITDA margins.

In Q3, we delivered consolidated revenue growth of 6%, Adjusted EBITDA growth of 21%, Adjusted EBITDA margin of a record 22.7%, a 270 basis point increase versus the prior year, adjusted free cash flow of $102 million, and sell-through of approximately 252,000 water dispensers. For the third quarter, consolidated revenue increased 6% to $622 million, compared to $585 million. Excluding the impact of foreign exchange, revenue increased 6% for the quarter. Adjusted EBITDA increased $24 million to $141 million, an increase of 21%. Excluding the impact of foreign exchange, Adjusted EBITDA grew 19%. In short, we delivered increased revenue, Adjusted EBITDA growth, Adjusted EBITDA margin expansion, and significant free cash flow.

Revenue growth was driven by strong revenue growth in Water Direct and Exchange of 7%, double-digit revenue growth in Water Refill and Filtration of 19%, increased revenue growth in our European operations of 4%, excluding the impact of foreign exchange, and global Water Direct customer retention of approximately 86%, a slight increase from last quarter. 2023 growth in customers is expected to reflect a combination of organic customer growth as well as the execution of our tuck-in strategy. As a reminder, our tuck-in acquisitions are a core component of our customer growth plans. These customers have strong retention rates, generally synergize within 90 days and enhance route density, resulting in increased Adjusted EBITDA dollars and margins in the markets where executed.

Our razor-razorblade business model includes two approaches: The rental of water dispensers direct to residential and commercial customers, and the sale of water dispensers through retail partners. Both approaches enable growth in water solutions and contribute to our predictable and recurring revenue growth. In Q3, we had water dispenser sell-through of approximately 252,000 units, on pace with our target of 1 million water dispensers sold through for the year. In 2023, we are particularly focused on growth with our brick-and-mortar retail partners, where we have greater visibility into the connectivity to our water solutions and where the connectivity is dramatically higher than through e-commerce. Our consolidated Water Direct and Exchange business continued to experience strong top-line momentum during the quarter, with 7% revenue growth driven by pricing and 86% customer retention in Water Direct.

Our Water Refill and Filtration business continues to exhibit strong growth, with revenue increasing 19% in a quarter. The growth was driven by pricing, consistent service levels, and machine uptime at our refill stations. We have a high refill station retention rate, and we are expecting continued revenue and profit growth in this category. Water Refill targets a value-conscious consumer and provides similar margins to our other water offerings, which provides a diverse platform of water solutions for all consumers. We are pleased to report that our commitment to improving the customer experience has resulted in improved operational metrics, digital experience, and customer satisfaction. As a reminder, a key service metric we focus on is On Time In Full, or OTIF. OTIF, simply put, is did we deliver to the customer on the scheduled day and with all the products they requested?

OTIF in North America in Q3 increased when compared to Q3 of 2022. The ability to serve our customers in the most efficient manner possible is a critical driver of both our short and long-term profitability. Units per route per day increased approximately 4% compared to Q3 of 2022, and revenue per route increased 7% compared to Q3 of 2022. Our scale and leverage are becoming more evident as we service more customers with higher volume per route. Route density and revenue per route have never been higher, and as a result, we're able to post record adjusted EBITDA margins of 22.7% across the entire company, and North American margins of 25.7%. Relative to ESG, last month, we received the results of the Sustainalytics gap analysis report.

We were able to significantly improve our overall risk score related to ESG factors and received a strong corporate governance score. Our strengths in ESG, coupled with our ownership of water rights and access to water sources, as well as our expansive distribution network, sets us apart in terms of our ability to meet our customers' needs whenever, wherever, and however they want. We have an economic moat that is not easily replicated and sets us up for sustained success. Looking ahead, we are reaffirming our full year 2023 revenue guidance to be between $2.32 billion-$2.36 billion, with revenue growth in a range of 7%-9%, and full year 2023 Adjusted EBITDA to be between $460 million-$480 million, while understanding the current challenges in Israel.

Our disruptions to date have been relatively minor, and we continue to monitor the situation closely. We've made significant strides with respect to adjusted free cash flow generation through a combination of increased earnings and improved working capital. We expect an increase in full year 2023 annual adjusted free cash flow to $160 million, a $10 million increase versus prior guidance. We anticipate releasing next year's guidance in conjunction with our 2023 year-end earnings in February 2024. I'll now turn the call over to our CFO, David Hass, to review our third quarter financial results in greater detail.

David Hass (CFO)

Thank you, Tom, and good morning, everyone. Starting with our third quarter results, consolidated revenue increased 6% to $622 million, compared to $585 million. Excluding the impact of foreign exchange, revenue increased 6% for the quarter. Adjusted EBITDA grew 21% to $141 million, which represents 270 basis points of margin expansion to 22.7%. Excluding the impact of foreign exchange, adjusted EBITDA grew 19%. Turning to our segment level performance for the quarter, North America revenue increased 5% to $470 million, compared to $447 million. Adjusted EBITDA in North America increased 18% to $121 million.

Adjusted EBITDA margins climbed to 25.7%, a 280 basis point improvement over last year. In our Europe segment, revenue increased by 13% to $81 million. Excluding the impact of foreign exchange, revenue increased 4%. Adjusted EBITDA in the Europe segment increased 32% to $20 million. Excluding the impact of foreign exchange, adjusted EBITDA increased by 18%. Adjusted EBITDA margins climbed to 25.2%, a 350 basis point improvement over last year. Turning to our Q4 and full year outlook, we expect consolidated revenue for the fourth quarter to be between $558 million and $598 million, and adjusted EBITDA will be in the range of $108 million-$118 million.

As Tom mentioned, for the full year of 2023, we are reaffirming our guidance, with revenue projected to be between $2.32 billion and $2.36 billion, with revenue growth in the range of 7%-9%, and full year 2023 adjusted EBITDA to be between $460 million and $480 million. Additionally, we are raising our adjusted free cash flow guidance to $160 million, an increase of $10 million compared to the previous guidance. Our reported SG&A expenses in the third quarter were 50.7%. As expected, our Q3 SG&A declined as a percentage of sales, as we were able to benefit from the leverage and scale of higher volume due to seasonality.

On a year-to-date basis, adjusting for the one-time non-recurring items, such as the activist proxy contest, SG&A would have been 52.5% compared to the reported 53.2%. We are maintaining our 2023 CapEx guidance of approximately $200 million, which is approximately 7% of revenue, plus an incremental $30 million. We reaffirm our prior guidance that we expect to return to our total CapEx spend of approximately 7% of revenue in 2025, irrespective of the transaction. Key initiatives to be funded from our CapEx plan include: driving organic growth, including investments in digital capabilities, leading dispenser innovation, building a more environmentally friendly fleet, as well as investing in our private fleet, which will allow for a more efficient distribution of our products.

Installing more efficient water production lines, which will reduce water usage and increase productivity, and driving growth in refill and filtration with refreshed signage and branding of our existing units, the development of our on-the-go units, and new filtration innovations. For the full year 2023, we continue to expect interest expense of approximately $70 million-$75 million. Most of our interest expense is tied to our two senior note debt facilities with very low interest rates of approximately 4%, with maturity dates of 2028 and 2029. The balance of our interest expense is tied to our cash flow revolver that we are actively managing lower with excess cash, while rates remain at approximately 7%.

Due to the increased cash generation from the business and the management of CapEx and working capital items, we've been able to prioritize reducing our cash flow revolver by $76 million in the third quarter alone. Full year 2023 cash taxes are expected to be approximately $25 million. This anticipates utilization of U.S. net operating losses or NOLs. We still have a substantial amount of U.S. NOLs available in the balance of 2023 and 2024. As a reminder, our water dispenser category was previously under a 25% import tariff, but was reclassified last year and a refund process was initiated. We have recorded the refunds in the same manner as the original transactions. Through Q3, we have received approximately $5.1 million of tariff refunds, a slight increase since last quarter.

Approximately $2.4 million of the $5.1 million is reflected in year-to-date adjusted EBITDA related to water dispensers sold to retail. A similar $2.4 million is related to the water dispensers that we rent as CapEx, with the residual value, approximately $326,000, related to interest income for the year-to-date tariff balance paid to Primo. Through Q3, $5.1 million is reflected in our adjusted free cash flow guidance that we'll discuss in a moment. We have not included any additional refund amounts in our updated guidance due to the uncertain timing of the refund process.

As we look at our performance in the first three quarters of the year, we are confident in our ability to raise our annual adjusted free cash flow guidance to $160 million, an increase of $10 million. The $10 million increase from prior guidance is attributable to the slight increase in tariff receipts since last quarter, with the balance related mainly to the benefits in working capital actions across the quarter and anticipated into year-end. We are pleased to report that we have achieved our targeted adjusted net leverage ratio, with the latest quarter coming in at 2.9x, which is below our 3.0x target for the end of 2023, and we remain committed to achieve a targeted net leverage ratio of less than 2.5x after the completion of the transaction.

Our year-to-date tuck-in M&A activity, along with potential acquisitions for the remainder of the year, positions us to achieve the high end of our 2023 tuck-in purchase guidance of $20 million-$30 million. Acquisitions remain a complementary source of customer acquisition. Whether we acquire organically or through the acquisition of the customer base of tuck-ins, both are means of scaling our customer base. The cost per customer acquired through acquisition is typically similar to other means of acquisition. However, the difference lies in the stickiness of the customer. Customers acquired through tuck-in acquisitions are already users of the service and understand the benefits and annual cost of Water Direct service. We remain committed to Water Direct tuck-ins to accelerate density in our operating regions and provide operating scale.

Our cash flow and balance sheet enable us to simultaneously return value to shareholders through regular quarterly dividends and opportunistic share repurchases, while continuing to invest in internal and external opportunities that will further strengthen our operations and drive long-term growth. Our board of directors has authorized a quarterly dividend of $0.08 per common share, which continues our path to the multi-year dividend step up, with an increase in our quarterly dividend per share of $0.01 in each of the last two years. As it relates to the transaction announced this morning, we are very excited about Primo Water's financial profile on a go-forward basis. We remain confident in our ability to achieve previously communicated 2024 financial targets, and this transaction will allow us to accelerate several of these targets by up to a year sooner than anticipated.

The transaction will also allow Primo Water to focus on the North American business that contributes most of the financial benefits to the company. Across the board, the transaction yields greater financial outcomes across margin and adjusted free cash flow conversion metrics. While the notional value of adjusted EBITDA and free cash flow declines, the conversion of each future dollar increases significantly. This reflects the scale present in the North American business. When you take our updated 2023 full-year adjusted free cash flow guidance of $160 million, the new Primo Water will deliver approximately $140 million of that benefit. As we rightsize the company across 2024, we expect to replace nearly all of the $20 million of adjusted free cash flow by optimizing the cost structure of the company.

This is prior to the additional organic and acquired free cash flow growth that will occur in normal course throughout the year. Immediately upon close, we intend to repay the outstanding balance on our cash flow revolver, as well as increase and fulfill the newly authorized $75 million share repurchase program. The additional proceeds will provide financial flexibility to pursue organic growth, accelerate accretive Water Direct tuck-in acquisitions, and engage in acquisition opportunities complementary and adjacent to our core North American water businesses. To achieve the $20 million in business optimization previously discussed, we intend to engage outside consultants to support initiatives to drive efficiencies as we shift from a global organization to one focused solely on the North American market.

We intend to provide updated 2024 guidance for the North American-focused version of Primo Water in February, during our normal earnings call related to Q4 and fiscal 2023 results. I will now turn the call back to Tom.

Tom Harrington (CEO)

Thanks, David. Our strong performance reinforces our confidence in our ability to deliver sustained growth, supported by strong revenue growth in our Water Direct, Exchange, Refill, and filtration businesses, continued execution of our tuck-in M&A strategy, the improved performance of our operations, and Adjusted EBITDA margin expansion. We are making solid progress and have the right plan and the right team in place to succeed. We are one of the only pure-play water platforms with leading national and local brands, and we benefit from a large and growing revenue base. Our long-term growth targets are driven by the connectivity of water dispensers to our water solutions, as well as consumer tailwinds, such as the focus on health and wellness and concerns about the aging water infrastructure. We have a healthy balance sheet, a compelling long-term growth outlook, and an attractive margin profile.

We are confident that shareowners will be pleased with the results of the transaction announced earlier today, as we create value by driving organic growth, reducing leverage, funding M&A, and supporting the return of capital. As an update, earlier this summer, I announced my retirement at the end of 2023, and the board initiated a search for my successor. The board, with the support of an international search firm, has met with a number of highly qualified candidates and is in the final stages of the process, and we therefore anticipate announcing a new CEO later this quarter. As you can see from our results, the business continues to perform at a high level with strong results and is clearly well-positioned for the future. It has been an amazing personal journey over the last two decades, including the last five years as the CEO of the company.

I'm proud of what we have accomplished. The transformation of the company from a private label juice, coffee, and soft drink manufacturer into a pure-play water company, has proven to be the right move for our customers, associates, and shareowners. All this accomplished whilst managing through a global pandemic, record high inflation, two major wars, and a significant board refresh. The current transaction to sell most of our international businesses at a premium valuation will enable the company to become a more focused North American water business. I will remain a supporter of the company and will be cheering them on as an investor, fan, and a customer. I'd also like to thank you, the investors and analysts of the financial community. I'm hopeful that the marketplace recognizes the value of our model and our consistent execution, and rewards us accordingly.

Our leadership team and our associates across the business are amazing, and I thank them for their tireless efforts and support in our mission of serving our customers with professionalism. They truly are the best in the business. With that, I'll turn the call back over to Jon for Q&A.

Jon Kathol (VP of Investor Relations)

Thanks, Tom. During the Q&A, to ensure we can hear from as many of you as possible, we would ask for a limit of one question and one follow-up per person. Thank you. Operator, please open the line for questions.

Operator (participant)

...Thank you. Ladies and gentlemen, we will now begin the question-and-answer session. Should you have a question, please press star followed by one on your touchtone phone. You will hear a three-tone prompt acknowledging your request, and your questions will be polled in the order they are received. Should you wish to decline from the polling process, please press star followed by two. If you are using a speakerphone, please lift the handset before pressing any keys. One moment please, for your first question. Your first question comes from Derek Lessard, TD Cowen. Derek, please go ahead.

Derek Lessard (VP of Equity Research)

Hey, good morning, everybody. Just wanted to-

Tom Harrington (CEO)

Good morning, Derek.

Derek Lessard (VP of Equity Research)

Morning, Tom. Just, I just wanted to start off maybe with a little congratulations, Tom, on your retirement. I think you've done a remarkable job at the helm of this organization through really challenging times, to say the least. So wishing you nothing but the best for the second act, whatever that may be.

Tom Harrington (CEO)

Thanks, Derek. I appreciate that very much.

Derek Lessard (VP of Equity Research)

Of course, you're going out with a bang. I expected nothing less. Congrats to you with the help. Just had a few questions. Maybe it's more for David, but on the pro forma business, it's mostly really all on slide 12. Just wondering if maybe you could clarify the step down in EBITDA from $470 million-$375 million. I think, you know, the Europe or the legacy or the business that you're selling in Europe is close to $60 million of that. So what's the missing piece there?

David Hass (CFO)

Yeah, thanks, Derek. So the purpose of that was to give everyone a foundation of who and what we call NewCo will be on a 2023 guide basis. So as you think about the $470 representing the midpoint of our guidance, $375 would include the PWNA component and the corporate component. But the reality is there's about $416 million of equivalent midpoint guide, EBITDA, in the business that includes PWNA, corp, and the assets that will be part of secondary transactions across 2024. The other thing the $375 does not yet contemplate would be optimization gains as we look to right-size the business, i.e., reduce some of the overhead in the business for just a domestic business.

And so obviously, on a pro forma basis, that 375 equivalent to the free cash flow chart has about $20 million of upside. And this is all before we give guidance that includes both organic and inorganic growth sliding across 2024. And so I think that's, that's really the clarity we wanted to provide there. Appreciate the question.

Derek Lessard (VP of Equity Research)

Okay, that's, that's helpful. And I guess maybe you just touched on it too, on the same slide, looking at that free cash flow. You kind of walk it down to $140 million, then talk it back up to $160 million. Just remind. I think you did allude to it on, on the call, but maybe just, what you're expecting, to drive that incremental $20 million.

David Hass (CFO)

Correct. Yeah. So again, $160 million would be the guide we just took up with that $10 million increase for the enterprise for 2023. Inside that $160 million, $140 million would be the adjusted free cash flow generative capacity of the PWNA business that we will have as a go-forward. The $20 million represents the pro forma view of us, again, right-sizing with, you know, 100% flow-through of that benefit. Basically saying that when we're done on a run rate basis, there will be zero slippage in free cash flow for what we consider the NewCo business. Now, that'll take across calendar 2024 to develop. And again, similarly to the comments in the prepared remarks, that is prior to any organic or inorganically acquired free cash flow that comes across 2024.

So kind of the same thing, 375 has upside when you think about these optimizations, and we depicted the 140 with its $20 million offset upside to sort of get us back to parity with, with the business we are right now. And that kind of shows you, again, the free cash flow potential of who will be going forward of just this domestic, you know, oriented business.

Derek Lessard (VP of Equity Research)

Okay, that's all very helpful. And maybe I'll sneak one last one in, just again on your 2023 guide, more specifically on Q4. Obviously, you know, big beat this quarter, but revenue and adjusted EBITDA guide, you kept unchanged. I don't. That's not discontinued ops just yet, right?

Tom Harrington (CEO)

No, no. No, so that's normal course, right? So we expect to close on, you know, I think we've said 12/31. So that is existing company as is, where is. And look, Derek, to be completely transparent, we have a business in Israel. It hasn't... You know, it's performed well through the last crazy four weeks, and thus far, minimal impact. But frankly, I wanted to have a degree of conservatism here because I don't know what's going to happen over the next four to six weeks. We watch it. We're in contact in real time, all the time with the team. So you know, just hedging against what could be an outcome in Israel. I don't, I don't know, so I don't want to get, you know, ahead of myself.

I certainly don't want to leave this for the new guy, you know, not properly reflecting what could be.

Derek Lessard (VP of Equity Research)

Yeah, that's fair, guys. Thanks, Tom. Thanks, David again. Congrats.

Tom Harrington (CEO)

Absolutely, Derek. Appreciate you.

Operator (participant)

Thank you. Your next question comes from Stephen Powers, Deutsche Bank. Stephen, please go ahead.

Steve Powers (Managing Director and Lead US Consumer Packaged Goods Analyst)

... Great, thanks so much, and Tom, congrats from me as well.

Tom Harrington (CEO)

Yeah, thanks, David. Appreciate it.

Steve Powers (Managing Director and Lead US Consumer Packaged Goods Analyst)

Great. Hey, so, building on that topic, the transaction topic, I guess. The first thing, Tom, you had mentioned, used the words in your prepared remarks and some slides as well, of proceeds from the transaction of up to $575, and I just wanted to clarify what might be the variables around that. I mean, if it's just normal course, you know, closing costs and the like, that's fine. But if there's any kind of variability in the terms of the deal, that would be helpful to know.

Tom Harrington (CEO)

No. No, there's no if, if A, then B. It is just those last-minute closing costs between now and then. So yeah, we expect to close at $575, but you know, costs could vary a little bit between now and then. So-

Steve Powers (Managing Director and Lead US Consumer Packaged Goods Analyst)

Okay.

Tom Harrington (CEO)

There's no trigger that says up or down or anything to that nature.

Steve Powers (Managing Director and Lead US Consumer Packaged Goods Analyst)

Great. Okay. And then, I guess, you know, maybe, you know, David, if you could clarify a little bit more, just, you know, kind of bridging the pro formas. Just, I guess, another way to cut it, like, what is the EBITDA base of the businesses that remain for sale? Like, what is that EBITDA base from the perspective of a future buyer, number one? And then, I guess, netted against that, what is the stranded corporate cost assumption that you've embedded here? I'm, I'm-

Tom Harrington (CEO)

Mm-hmm.

Steve Powers (Managing Director and Lead US Consumer Packaged Goods Analyst)

Having a little hard time parsing that out from the numbers that have been provided.

David Hass (CFO)

Yeah, understood. So the... You know, obviously, on the screen, with that same slide that Derek was asking about, there's about a $95 million step down.

Steve Powers (Managing Director and Lead US Consumer Packaged Goods Analyst)

Mm-hmm.

David Hass (CFO)

Inside that, the residual assets not included with this transaction, on an equivalent kind of guide, you know, guide, apples-for-apples like, value, is about $40 million in USD, local currency here. And then there's about-

Steve Powers (Managing Director and Lead US Consumer Packaged Goods Analyst)

Okay

David Hass (CFO)

... $2 million of stranded North American overhead that gets shipped overseas, basically, if you will, as support costs that comes back and increases the overall corp value to about $35.5 million. And so that's, you know, kind of the bucket, if you will, of the money where we're trying to seek the optimization across 2024.

Steve Powers (Managing Director and Lead US Consumer Packaged Goods Analyst)

Okay. Okay, I got it. But from an apples-to-apples basis, you've got about a $40 million EBITDA base that remains for sale?

David Hass (CFO)

That's correct. Yeah, and again, we are in active processes to monetize those additional transaction of those entities. But, you know, today, obviously, we wanted to talk about the primary and the first transaction that is a major benefit for us to begin the focus here domestically.

Steve Powers (Managing Director and Lead US Consumer Packaged Goods Analyst)

Okay. That was in my mind. I just wanted to make sure that those conversations, like, you know, are all in flight. It sounds like they are. Just wanted to confirm.

David Hass (CFO)

Absolutely. That's correct, yes.

Steve Powers (Managing Director and Lead US Consumer Packaged Goods Analyst)

Okay. Very good. Thanks so much.

David Hass (CFO)

Thank you.

Tom Harrington (CEO)

Thanks, David. Have a good one.

Operator (participant)

Thank you. Your next question comes from Andrea Teixeira, JP Morgan. Andrea, please go ahead.

Andrea Teixeira (Managing Director and Senior Equity Research Analyst)

Thank you. Good morning. So congrats on the transaction. And I do have-

Tom Harrington (CEO)

Thank you, Andrea. Good morning.

Andrea Teixeira (Managing Director and Senior Equity Research Analyst)

Yeah, good morning, and I had congratulated you on your retirement, so here goes again.

Tom Harrington (CEO)

I said you said nice things about me. I remember.

Andrea Teixeira (Managing Director and Senior Equity Research Analyst)

Yes, yes. So, I have two questions. First, on the deal, and if we step back, Tom, on this divestiture, you talked about strategic options, for you now, as you have been, and now it's—you're gonna be able to focus in the U.S. Can you think about, like, potentially bigger transaction, transformational transactions as you had attempted in the past, obviously with, you know, your largest competitor? Is that like... This obviously puts you in a completely different position from a capital structure perspective. You're gonna have excess cash, no leverage. You're gonna have, obviously, additional free cash. I mean, a very little impact on your free cash flow.

So from an LBO perspective or anything you can think of, like, I was just hoping to see where you could take this company in terms of like you know next steps from a strategic perspective? And then secondly, on the line business, there are a couple of things that I wanted to clarify. One is the Water Direct and Water Exchange. Can you talk a bit more about the composition of the top line? I know, I know this is something that investors in CPG have been asking throughout, like in terms of volume, customers, and pricing within the third quarter growth. And also, I mean, I know in the dispensers you had a very tough comparison the quarter. I think you were shipping ahead of consumption ahead of the price increase last year.

But just like, you know, a little bit of color there, if you're seeing anything as it relates to any deceleration or anything that we should be aware of?

Tom Harrington (CEO)

All right, Andrea-

Andrea Teixeira (Managing Director and Senior Equity Research Analyst)

I know it's a lot.

Tom Harrington (CEO)

Yeah, we'll see if I... We'll get through this. So, let's talk about our capital deployment strategy, right? Which I think is important. As we see it today, we will invest in growth in North America, right? So that's, you know, the organic triggers, digital capabilities, as well as investments against, you know, high profit-generating projects. And, you know, that would be some of the plans that we've discussed in the past. As an example, continued development on our digital capabilities, so to support the growth of the top line from an organic perspective....

We are focused on deleverage, so we will reduce the cash flow revolver to zero at the time of closing, which will get us, you know, in a position that we could maintain the 2.5x leverage go forward, on, you know, for the foreseeable future. That is our intended path. We have the ability because we have a robust pipeline of, you know, think of it as Water Direct M&A tuck-ins, that we will invest energy there 'cause they remain highly synergistic and help us build both EBITDA, but certainly EBITDA margins, as we leverage that, those incremental customers and in revenue through inside the markets where we execute those. So that'll be a primary focus of ours, and then, of course, we, you know, we reference share repurchase, you know, as part of our go-forward capital deployment strategy.

We don't see anything transformative on the near-term horizon. We will look at what I'll call water adjacencies. So are there other highly profitable areas that fit in water, 'cause we're a water company, that we will consider? There's nothing imminent or actionable there, but this gives us the ability to further pursue adjacencies that fit with our model and that, at the end of the day, would inure to our shareholders' benefit. So that's the capital deployment, our current view of how we'll use cash, and responsive to your question about, you know, that biggest customer. I'll skip the revenue. I'll leave that one for David, but I'll just touch base briefly on your dispenser question. Yes, we had a big comp. We were able to sell through roughly 252,000 dispensers.

We're confident in our ability to get to approximately 1 million this year. Importantly, 1 million of sell-through in 2023. Importantly, we're very focused on brick-and-mortar as opposed to e-commerce, and part of our cycle or the comp we have is because of some activities we did a year ago in e-commerce. But we've really shifted to be focused on that brick-and-mortar because we have a clear line of sight to the connectivity. When I sell a dispenser to a large retailer, I can see it translate into an exchange sale. It's much harder for us to see that benefit in e-commerce.

I think some of the future work that the team will have to do is, how do we improve that visibility in e-commerce? We're not there today, and shift our real focus to how do we sell more in big box retailers and all of our customers where, you know, we enjoy a relationship where they sell dispensers? Hopefully that clarifies that a bit, and then I'll flip your revenue question or component questions over to David.

Andrea Teixeira (Managing Director and Senior Equity Research Analyst)

Thank you.

David Hass (CFO)

Yes, Andrea, within the quarter itself, again, focused on the North America side, as that's our go-forward business, we had a positive volume contribution of close to 1%, with the balance being pricing. So that obviously shows a sequencing that is how we had articulated the pacing would undergo throughout the calendar year, and that came true within Water Direct and Exchange, being, you know, about 1 point of volume and the balance being price.

Steve Powers (Managing Director and Lead US Consumer Packaged Goods Analyst)

Very helpful. Questions on. Thank you.

David Hass (CFO)

Thank you, Andrea.

Tom Harrington (CEO)

Thanks, Andrea.

Operator (participant)

Thank you. Your next question comes from Daniel Moore, CJS Securities. Daniel, please go ahead.

Daniel Moore (Partner, Director of Research)

Thank you. Good morning, Tom and David, and, Tom, thank you again. Best of luck. I think you left this company with an exceptional collection of assets poised for growth going forward.

Tom Harrington (CEO)

Thanks, Dan.

Daniel Moore (Partner, Director of Research)

I wanted to-

Tom Harrington (CEO)

Thanks, Dan. Appreciate that.

Daniel Moore (Partner, Director of Research)

Absolutely. Wanted to, I was going to say, "Don't let the door hit you," but I didn't want to say that, so, if it's in the presentation and I missed it, please, let me know, but is there any tax leakage to the $575? And I'm assuming there's no regulatory hurdles that you're particularly concerned with, given the short window in which you expect to close.

Tom Harrington (CEO)

Yeah, you know, we obviously get, have to get through some regulatory hurdles, but, you know, Culligan believes they'll get through those. You can see it's a pretty quick close, so we think, you know, there are no guarantees, but, you know, our view is, Culligan's view is we'll get through any of those, in normal course over the next several weeks, next, whatever it is, two months, Dan.

David Hass (CFO)

Yeah, and Dan, on the-

Tom Harrington (CEO)

Yeah

David Hass (CFO)

...on the tax side, we're estimating some minimal leakage. We don't believe that will actually end up becoming true, but just for conservatism and kind of how we're looking to deploy capital, we're, you know, reserving a little bit, sort of sub-$10 million on that. But we'll circle back obviously upon close with the final outcome.

Daniel Moore (Partner, Director of Research)

Perfect. And then as it relates to, you know, the multiple you received from Culligan, Tom, when you think about the assets that you're selling relative to the assets that, you know, remain, any discernible differences? You know, in other words, obviously, Culligan will probably, you know, generate some pretty reasonable synergies on their side, and that's embedded in the multiple, but, you know, anything else that would explain the sort of discrepancy between, you know, the, the sale price versus where Primo's trading? Thanks again.

Tom Harrington (CEO)

Yeah, you know, the Culligan deal stands on its own for what it is, and, you know, the value that, you know, that they were willing to pay for us for, you know, in many cases, overlapping assets. So that's that. And I don't want to get... You know, we're in processes and starting processes and, you know, don't really want to get into a public discussion about what multiple we might, might not get for those remaining assets, 'cause, you know, it'll all be different.... So I think it would be wise to not disclose any of that, will hurt our ability to maximize value, frankly, over the long haul on those assets.

David Hass (CFO)

Yeah, and I think as communicated, you know, the ability with just this transaction to eliminate the revolver, with just this transaction to increase the share repurchase by $25 million. You know, obviously, we'll have additional communications as those transactions about next set or next use of proceeds. But we're pretty pleased that with just this transaction, we can be that impactful as sort of our leverage and our, you know, cash flow, so.

Daniel Moore (Partner, Director of Research)

Perfect. And then the last one, while I get one more crack at you, Tom. Route density, obviously a big focus and, you know, kind of reached peak levels, well, not peak, but, in record levels this quarter. Excluding further price increases, how much room is there in your mind to continue to improve route density from current, you know, these kind of current levels we saw in Q3? Thank you again.

Tom Harrington (CEO)

Yeah, thanks, Dan. If you, if you look at the numbers we put out there, it's runs on the order of 3%-4% on a quarter-over-quarter, so I don't think we're, we've finished. It does absolutely have to do with customer density. So as we bent-- one of the things we benefit from our Costco relationship is we bring in customers over those same routes. So as you reduce miles and you have more customers in a smaller geographic footprint, we'll deliver more on a daily basis off that footprint. And then it's also an important component of our M&A tuck-in strategy. As you buy businesses in overlapping, overlapping geographies, we will continue to benefit from the leverage that they provide us in terms of route density. And I think maybe he dropped.

Operator (participant)

Okay, thank you. Moving on, your next question comes from John Zamparo, CIBC. John, please go ahead.

John Zamparo (Institutional Equity Research Analyst)

Thank you. Good morning. Tom, I know your ears are already burning, but I'll echo my congratulations on your career and transition as well. It's been a pleasure.

Tom Harrington (CEO)

Thanks, John, appreciate it.

John Zamparo (Institutional Equity Research Analyst)

My first question is on the M&A market, and I wonder what you've seen here. Are there more opportunities now relative to years past, given private equity might be pulling back in the environment of higher for longer? Is that one of the reasons that you might want to accelerate tuck-in deals?

Tom Harrington (CEO)

Well, I think there's... You may recall last year when we gave our guide of tuck-ins of 20-30, we were purposeful about lack of clarity about the revenue performance of some of those tuck-ins, and that, that we articulated we wanted to be cautious because many times we pay a multiple of revenue, and we wanted to make sure that any price increases, they took stock. And secondly, that, you know, we talked about the impact of high fuel prices on smaller operators. So we think that was a prudent decision and that, you know, as we stand here today, we have as robust a pipeline as we've had in maybe as long as I can remember doing this, right?

So it is a, actionable, you know, 24, 25 pipeline of activities that, you know, we have to be thoughtful about timing of when we do them, so we can execute properly. That's the company's job, but it's a robust platform. So I think it's the market conditions that are inuring to our benefit, and we continue to, you know, kind of be the leader in this space in terms of our ability to execute in more to direct.

David Hass (CFO)

Yeah, and I think, John, the one thing I'd pile on there is because of Primo's scale domestically and our branch network, we really don't bump up against private equity, where a single transaction would benefit them none in creating a, in or starting a platform, if you will. So we would have the ability to compete at any, at any level really, because of the ability to synergize those down quickly within our network itself. And so I feel pretty fortunate that that's our, that's our pipeline and its ability to sort of, you know, tuck in very smoothly.

John Zamparo (Institutional Equity Research Analyst)

Right. Understood. Okay, that's helpful. And then my follow-up is on pricing. And specifically, you've demonstrated some real pricing power over the past couple of years. I wonder how you're thinking about pricing for 2024. Do you have anything planned at the moment? Does it depend on your outlook for costs? Have you seen pushback on pricing subsequent to Q3?

Tom Harrington (CEO)

Yeah, so-

John Zamparo (Institutional Equity Research Analyst)

Yeah.

Tom Harrington (CEO)

Yeah. Yeah, fair question, John. I think in my prepared remarks, we talk about our retention rate on that Water Direct business at 86%, which was a slight uptick from prior quarter. That's a pretty good indication of our ability and the customer's reaction to pricing. So we haven't, you know, went pretty elastic. We would currently, in 2024, look at normal course pricing, right? So we don't currently see the need for accelerated pricing, you know, based on where inflation appears to be settling in. But we've always reserved the right. If that number moves, then we'll get ahead of it, and then we certainly watch fuel pricing, you know, on a daily basis, and, you know, if that ticks the other way, we'll take an action.

I think the last 2.5 years or so would indicate that the customer base is stable. We're able to drive the pricing through. It does offset inflation, and we've been able to add to our margins, you know, as a result of those actions over the course of, I don't know, 15, you know, 12 quarters, right? That we've been doing it.

John Zamparo (Institutional Equity Research Analyst)

... Okay, fair enough. Thank you very much.

Tom Harrington (CEO)

Thanks, John.

Operator (participant)

Thank you. Your next question comes from Pavel Molchanov, Raymond James. Pavel, please go ahead.

Pavel Molchanov (SVP and Managing Director)

Yeah, thanks for taking the question. Kind of back on the M&A topic. The fact that you have not been particularly active with roll-off activity over the past 12 months, is that because you've been kind of reluctant to take on more debt while you are above the leverage targets?

Tom Harrington (CEO)

No, you know, we've funded out of free cash flow, and that has not been the driver. It was more strategically. Obviously, debt is strategic, and our long-term target where we said we wanted to get under 3 in 2023, we did it a quarter early. We're at 2.91 at the end of Q3. Clear line of sight to 2.5 as normal course. So I don't want to diminish how important that is. But it was really more about market conditions, largely driven by inflation, largely driven within the fuel cost and how that we believed would wear on the smaller target or the direct operators, and I believe that's now become true based on our pipeline.

David Hass (CFO)

Yeah, and I think, Pavel, we've been able to buy the right targets at the right price this year, and then obviously within the quarter alone, still reduce the revolving loan by $76 million. So it's not been an either/or to date. It's been about the right target, the right geography, the right ability to synergize it down for value. But again, we're of course excited about the cash generative opportunity of the new business that seems to match well, heading into 2024 with the pipeline that built across for us to execute against next year. So I think it's maybe reversing your question a little bit. We're pretty excited about where we can go with tuck-ins next year.

Pavel Molchanov (SVP and Managing Director)

Now that you will be a North American pure play, are there any particular states or Canadian provinces where you have not historically, you know, perhaps accessed but are now going to try to penetrate?

Tom Harrington (CEO)

Yeah, you know, our first course is, you know, I'll call it the overlapping, because they're the most synergistic to us. So, you know, greenfield has historically not been an area we've invested energy on tuck-ins. What we will do, though, is begin to think about what are those water adjacency that makes sense for us. So that would be, you know, to the right of center, but it's something that this company needs to think about longer term, about what are the things we could do, because we will be in a position to do that, that makes sense for the company and its shareholders.

Pavel Molchanov (SVP and Managing Director)

All right. Thanks very much.

Tom Harrington (CEO)

Thanks, Pavel. Appreciate it.

Operator (participant)

Thank you. There are no further questions at this time. I will now turn it back to Jon Kathol for closing remarks.

Jon Kathol (VP of Investor Relations)

Thanks, Chris. This concludes Primo Water's third quarter results call. Thank you all for attending.

Operator (participant)

Thank you. Ladies and gentlemen, this concludes your conference call for today. We thank you for participating and ask that you please disconnect your lines.