Spectrum Brands - Earnings Call - Q2 2019
May 8, 2019
Transcript
Speaker 0
Good morning. My name is Zitania, and I will be your conference operator today. At this time, I would like to welcome everyone to the Spectrum Brands Fiscal twenty nineteen Second Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' prepared remarks, there will be a question and answer period.
As a reminder, ladies and gentlemen, this conference is being recorded today, Wednesday, May 8. Thank you. I would now like to introduce Mr. David Pritchard with Spectrum Brands. Mr.
Pritchard, you may begin your conference.
Speaker 1
Thank you, operator, and welcome to Spectrum Brands Holdings fiscal twenty nineteen second quarter earnings conference call and webcast. I'm Dave Pritchard, Vice President of Investor Relations for Spectrum Brands and your moderator for today's call. Now to help you follow along with our comments, we have placed a slide presentation on the event calendar and presentations pages in the Investor Relations section of our website at spectrumbrands.com. This document will remain there following our call. If we go to the presentation and we start with slide two, you'll see that our call will be led by David Mora, our Chairman and Chief Executive Officer, and Doug Martin, Chief Financial Officer.
David and Doug will deliver opening remarks and then conduct the Q and A session. If we turn to Slides three and four, we'll note that our comments today include forward looking statements, including our outlook for fiscal twenty nineteen and beyond. These statements are based upon management's current expectations, projections and assumptions and are by nature uncertain. Actual results may differ materially. Due to that risk, Spectrum Brands encourages you to review the risk factors and cautionary statements outlined in our press release dated 05/08/2019, and our most recent SEC filings and Spectrum Brands Holdings' most recent 10 Qs and 10 ks.
We assume no obligation to update any forward looking statement. Also, note we will discuss certain non GAAP financial measures in this call. Reconciliations on a GAAP basis for these measures are included in today's press release and eight ks filing, which are both available on our website in the Investor Relations section. I will now turn the call over to our Chairman and CEO, David Maura.
Speaker 2
Thank you Dave and thanks everybody for joining us on the call today. In many ways this was a very good quarter for our company. In January we generated just under $3,000,000,000 of cash proceeds from the sale of assets. We rapidly allocated a portion of these proceeds and paid down $2,400,000,000 of debt while returning $250,000,000 to our shareholders through share repurchases. And we will distribute approximately $86,000,000 this year to shareholders in the form of dividends.
As a result of these actions, our gross leverage, which peaked at nearly six times in December 2018, just a short while ago, has been reduced at the end of the second quarter to a net leverage of approximately 3.9 times. We expect to finish the current fiscal year with net leverage of approximately 3.5 times. These actions have resulted in a much stronger Spectrum Brands with a much stronger balance sheet and they're paving the way for a material free cash flow growth in 2020 and positioning our company to end 2019 in the strongest liquidity position we've been in in recent history. Through these accomplishments, we are completing a period of significant transition and we are now entering a period of stability and renewed focus. Similar to our first quarter, these second quarter results were in line with internal expectations.
We were pleased with both strong reported sales growth and more importantly, we're very happy to deliver organic revenue growth of 5% with all four business units contributing. These results were led by strong growth in Home and Garden of 14%, HHI, our hardware division grew at 5%, our pet unit grew at 4%, and our Home and Personal Care Appliance business grew 1% organically. Adjusted EBITDA was flat with last year, right on our first half plan. We do expect a solid second half with larger sales and larger EBITDA than the first half, primarily due to the seasonality of our Home and Garden business and a typically stronger back half of the year for our Hardware and Home Improvement segment. Additionally, we expect improved sequential performance in our Home and Personal Care Appliance business as we lap a very difficult first half comparison and we see benefits from a new leadership team that we've installed in that business during this recent quarter.
These changes include the appointment of a new president, David Albert. Dave is a strong and seasoned business leader with both general management experience in several businesses and also regional experience. We also have appointed a new divisional CFO in the appliance unit with experience in both business unit and corporate financial strategy. We recently also completed the onboarding of a new VP of marketing who was hired from a well respected consumer products company outside of Spectrum Brands. Additionally, new leadership has been appointed in our clients unit to streamline both our operations and supply chain functions.
This new team has already hit the ground running. It is directing its efforts towards stabilizing the business, focusing on our core and planting the seeds for growth, which included stepped up investments in this quarter in both new product development and increased marketing spend behind our home and personal care brands. Across our company, we are launching important new products in all of our business lines and we are stepping up marketing spend behind our brands. We remain on target to achieve our original 2019 adjusted EBITDA goal of $560,000,000 to $580,000,000 If I could have you turn to slide seven now. I'd like to amplify my earlier comments about value creating and shareholder friendly actions that were completed in the second quarter.
Our rapid and major debt reduction has eliminated all non revolver senior debt in our corporate capital structure. We've improved the duration and tenure of our liabilities. We have reduced materially the cost of borrowing and we have significantly lowered our pro form a annual cash interest expense. We also ended the second quarter with a strong liquidity position of over $800,000,000 Regarding stock buybacks, subsequent to our first quarter call, we opportunistically repurchased 4,600,000.0 shares or roughly 8.6% of our total share count. Going forward, we have up to an additional $750,000,000 of capacity remaining on our three year buyback plan.
We could turn to slide eight. As we accelerate the transformation of Spectrum Brands in 2019, we are on our way to building the faster, smarter, stronger Spectrum Brands of the future. We recently have embarked on a detailed global study to identify significant performance improvement and operating efficiency opportunities across our platform. Focus areas include the right resourcing of our commercial and our shared service structures, eliminating unneeded and duplicative work by improving and standardizing our processes, and we're seeking efficiency gains in manufacturing, distribution, and our procurement functions. We intend to deliver for our shareholders a fit for purpose organization for the new Spectrum Brands and we are excited to provide more details on these activities and their expected results on our third quarter call.
This work ties strongly to our Spectrum 2020 roadmap. It's a roadmap that I've discussed before in many settings, most recently at the CAGNY conference. Our Spectrum twenty twenty guiding principles are vision, where we are going, clarity, what we prioritize, and focus, how we execute. This is our pathway to a consumer driven mindset. We will accept nothing but outstanding quality and service while increasing innovation and marketing investments behind our new products.
These actions are driving a culture of greater accountability, much quicker decision making with an experienced and energized leadership team refreshed with new talent focused on operational excellence as we position our company to be a low cost provider delivering sustainable free cash flow. With that, let me turn the call over to Doug.
Speaker 3
Thanks, David, and good morning, everyone. Turning now to Slide 10 and a review of Q2 results from continuing operations beginning with net sales. Reported net sales decreased 2.7% increased 2.7% and organic net sales grew a solid 4.9% excluding unfavorable FX of $19,300,000 All four business units delivered organic growth paced by a 14% improvement for Home and Garden. Reported gross profit was unchanged. Gross margin of 33.7% decreased 100 basis points primarily due to input cost inflation and unfavorable product mix, partially offset by pricing.
Reported SG and A expense of $235,000,000 was unchanged from last year, coming in at 25.9% of sales this year compared to 26.6% a year ago. Reported operating margin of 4.6% improved 100 basis points due to lower acquisition, integration and restructuring charges. On a reported basis, a slightly higher diluted loss per share of $1.06 versus $1 last year was attributable to one time interest charges related to the early extinguishment of debt and foreign exchange losses associated with multi currency divestiture loans, partially offset by lower restructuring and acquisition and integration expenses and a larger income tax benefit. Adjusted earnings per share of $0.26 decreased 46.9% due to higher operating expense driven by increased stock based compensation and higher interest costs from assumed HRG debt. Turning to slide 11.
Q2 reported interest expense from continuing operations of $94,200,000 increased $26,500,000 driven by one time interest charges from early extinguishment of debt, primarily the assumed HRG debt. Cash taxes of $14,500,000 were comparable to last year. Depreciation, amortization and share based compensation from continuing operations of $53,900,000 increased from $27,000,000 last year, primarily due to increased share based compensation and the impact of home and personal care depreciation and amortization this year as a result of our moving the unit back into continuing operations. Cash payments for acquisition and integration and restructuring and related charges for Q2, including discontinued operations, 14,600,000.0 and $4,800,000 respectively, versus 12,600,000.0 and $25,100,000 respectively last year. The reduced cash spend was driven primarily by improved operating efficiencies in the HHI Kansas distribution center.
Now to business unit results beginning with slide 12 and hardware and home improvement. HHI's reported net sales growth was broad based across its three product categories of residential security, plumbing and builders' hardware. Organic growth was 4.7%, excluding unfavorable FX of $2,300,000 Strong load in orders from new product introductions and effective promotions drove plumbing category growth, while increases primarily in the electronic lock segment fueled higher residential security sales. Adjusted EBITDA grew 15.8% to $52,700,000 with 160 basis points of margin expansion to 15.9% from higher volumes, productivity improvements and expense controls. Looking ahead, HHI sees continued growth in its electronic deadbolt and smart lock product lines, especially given relatively low and fast growing U.
S. Residential adoption rates. To maintain smart lock innovation leadership, HHI is increasing investment in cloud technology, mobile apps and access control. Highlighting its steady stream of innovation, new business in the back half of the year includes residential and commercial grade levers, Wi Fi Halo touchscreen smart locks, the Aura Bluetooth smart lock and an enhanced Baldwin touchscreen. HHI is also expanding consumer marketing awareness campaigns behind its unique patented QuickSet smart key security technology that allows consumers to rekey their door locks in seconds, leaving lost or unreturned keys obsolete.
Now to Home and Personal Care or HPC, which is Slide 13. Our reported net sales fell 4.1%, organic sales grew 1%, excluding unfavorable FX of $11,800,000 Lower personal care revenues, partly offset by higher appliance revenues, drove the reported sales decline. U. S. Personal care sales fell double digits from hair care distribution losses not yet lapped from last year in the mass and food and drug channels.
Lower European sales were primarily from The UK food and drug and e commerce channel softness. Small appliances revenue improvement was attributed primarily to U. S. Mass channel growth in garment care and coffee makers, with partial offsets in Europe from foreign exchange, UK consumer softness related to Brexit and reduced POS in the Latin America region. The decrease in adjusted EBITDA and margin was mainly attributable to lower gross margin from reduced personal care volumes, unfavorable mix, higher input related costs, and increased marketing investments.
HPC continues to expect second half comparisons to improve with Q4 EBITDA larger than Q3 consistent with historical seasonality. This includes new product introductions and expanding distribution in The U. S, Europe and other regions in both HPC segments, coupled with financial recovery initiatives and organizational streamlining, business simplification and rationalization with a heightened focus on the core. As we have said before, in fiscal twenty nineteen, we are resetting HPC, rebalancing its cost structure and investing more behind its brands to prepare for growth in 2020. Moving to Global Pet, which is Slide 14.
Building on solid Q1 top line growth, Q2 reported net sales increased 1.8% and excluding unfavorable FX of $5,200,000 organic sales grew a strong 4.2%. Double digit improvement in U. S. Companion animal revenues, primarily dog chews and treats, and pricing actions for raw materials and tariffs drove the increase, partially offset by lower U. S.
Aquatics and European dog and cat food sales. Adjusted EBITDA fell 8.1% to $32,800,000 with a 160 basis point margin decline to 15.3% as a result of higher manufacturing and distribution costs. Pet expects solid performance in its large US region to continue in the second half. Important new product launches are occurring across Pet's larger brands including Good and Fun, Dream Bone, Smart Bones, Furminator, Nature's Miracle, Tetra, and Glowfish, supported by higher investments in data driven digital marketing aimed primarily at the rapidly growing ecommerce channel. Pet is also working to lower its global manufacturing and supply chain cost base and trim selective, unproductive SKUs to drive a higher long term margin structure.
Turning to Home and Garden, which is Slide 15. The 14.1% net sales increase was attributable to double digit growth in our outdoor category revenues outdoor control category revenues. Distribution wins, strong early season home center orders and generally more favorable weather this year than last drove category growth. Adjusted EBITDA increased 17% to $29,600,000 and EBITDA margin expanded 50 basis points to 21.3% on the strength and improved manufacturing efficiencies from higher volumes and select pricing actions. Home and Garden remains optimistic about sales and adjusted EBITDA increases in 2019 given growth expectations in its seasonally much larger second half from distribution expansion in home centers and outdoor insecticides, lawn and weed killer and innovation success with Hotshot Ant, Roach and Spider.
All supported by higher advertising spend, off shelf promotion and other promotional programs. New feature space and end cap placements in both mass and the DIY channels are also in place along with continuous improvement savings, improved manufacturing efficiencies and better mix. Moving now to the balance sheet on slide 16, we completed Q2 in a solid liquidity position including $652,000,000 available on our $800,000,000 cash flow revolver and a cash balance of $176,000,000 Debt outstanding was $2,400,000,000 down 50% from $4,800,000,000 at the end of fiscal twenty eighteen. 4,600,000.0 shares were repurchased in Q2 for $250,000,000 or $54.22 per share and there's approximately $750,000,000 remaining on our three year repurchase authorization. Capital expenditures were $13,600,000 versus $17,800,000 last year.
Turning to Slide 17 and our 2019 guidance, We continue to expect reported net sales growth from continuing operations in 2019 driven by innovation, increased marketing investments, pricing actions and market share gains. We now expect FX to have a negative impact on sales of approximately 130 basis points based on current rates. We reaffirm our adjusted EBITDA guidance from continuing operations to be between $560,000,000 and $580,000,000 Consistent with seasonality in prior years, Q3 EBITDA is expected to be higher than Q4. Depreciation and amortization is expected to be between $230,000,000 and $240,000,000 including stock based compensation of approximately $57,000,000 with roughly $17,000,000 in each of Q3 and Q4. For adjusted EPS, the $29,000,000 depreciation and amortization catch up in Q1 when we put HPC back into continuing operations is excluded, and therefore, this range is $29,000,000 at the midpoint.
Fiscal twenty eighteen stock based compensation for reference was $12,000,000 We are increasing restructuring and restructuring related cash spending to be between 40,000,000 and $50,000,000 with the increased funding, the performance improvement and cost reduction opportunities David discussed earlier. Capital expenditures are expected to be between 70,000,000 and $75,000,000 We have $1,300,000,000 of usable federal NOLs remaining post the asset sales. And then finally, as a reminder, adjusted EPS, we use a tax rate of 25%, including state taxes. Thank you. And Dave, now back to you for questions.
Speaker 1
Thank you, David and Doug. Operator, with that, you may now begin the Q and A session, please.
Speaker 0
Your first question comes from the line of Olivia Tong with Bank of America.
Speaker 4
Great. Thanks. I wanna actually start similarly to the way that I started last quarter, which is just about free cash flow. Obviously, we've got a lot of moving pieces here, and I know that first half is usually used, but you're starting off a lower base on a year over year basis. So can you just talk through the different puts and takes there to start?
Thank you.
Speaker 2
Yeah. I'll let Doug take that first one.
Speaker 3
Hi, good morning, Olivia. Yeah, the free cash flow we're not guiding on this year, principally not because we don't want the clarity and transparency, but because of the time of the sale of the two businesses in January, one in early January, one in late January, what would traditionally have run through working capital will now run through gain or loss on sales. So it's a it's a confusing story and and at the end of the year, we'll lay out all of the pieces, all of the pieces for you. I can tell you that we're on track against our internal expectations on free cash flow and have obviously captured all of those proceeds already and they're reflected in in our net debt numbers and in, you know, the little bit of cash we have on the balance sheet at this point. So I gave you outside of that then the elements that you can use to for your modeling and if I were as I think about it, like to model the you know what I think the next year might look like based on information we have coming out of this year.
So that's CapEx, that's depreciation as adjusted for the debt pay down that is restructuring cash. Cash taxes we still expect to be between 40 and $50,000,000 on an annual basis going forward. So if that's hopefully that's helpful, if not please reach out to Dave or Kevin and they can continue to help.
Speaker 2
The only thing else I would add is we did pay off over 50% of the debt of the company. We do generate a lot of free cash in the back half of our year, so we're starting to collect the cash now and so our liquidity position will build as we finish out this year and I think if you just look at the debt instruments we've retired thus far and we may do some more in the future, know, I think you can quickly come up with there's you know 130, $150,000,000 of reduced interest expense going forward of which we'll start to see the benefit when we report the third quarter results next time we talk to you.
Speaker 4
Got it, thanks. And then just on sales, clearly quite a bit better than we expected across the divisions, pretty broad based. So can you just go over any timing shifts that we should be aware of, how you view your in store inventory levels at this point? And then in terms of specific divisions, clearly appliances was better. Can you talk about how sustainable this is?
What changes you've made so far to the business to reinvigorate it? Thanks.
Speaker 2
Yeah look, think across, hopefully you're getting a consistent story. I took this position just over a year ago and we obviously had an unfortunate quarter to report to you then. Since then we've tried to really get the company back to what I call vision clarity focus and that means we want to eliminate what I view as non strategic spending and we want to increase strategic spending. And so what I'm trying to do is push steer the ship toward higher levels of investment in new product development innovation and put more money into A and P and marketing and really start to drive the top line. Again, look, we don't want to over promise anything for 2019.
2019 as you remember, I billed it as a year of returning the company to stability and planting the seeds for growth in 2020. But clearly we are planting those seeds and you know look, I would tell you on the bottom line we could be reporting much better numbers but we are continuing to invest in earnings dilutive activity in the short run, which is higher spend on R and D and marketing.
Speaker 3
Olivia, from a timing perspective, I would say that you know the appliance business is you saw some improvement and we're beginning to lap some of the negatives from last year and we've got a new management team in place and we'll have probably a better update in the on the next call and the progress they're making. But they're they are highly focused on on not just revenue, but profitable revenue. So I wouldn't expect any surprises going forward coming coming out of there between between now and then. And then from home and home and garden perspective, I would say that this year is is the weather's been generally better and POS, particularly in in the in the big box channels has been, pretty strong so far. We still have 70% of the season in front of us, so a lot to go yet.
But relative to last year and to your timing question, I would say for Home and Garden, a little better seasonality.
Speaker 4
Great. Thanks so much. Appreciate it.
Speaker 3
Thank you.
Speaker 0
Your next question comes from the line of Bob Labick with CJS Securities.
Speaker 5
Good morning. Congratulations on some nice growth.
Speaker 2
Good morning time, right, Paul? How are you, Paul?
Speaker 5
Yeah, let's keep it up. So I wanted to kind of talk a little bit about that and then shift to online strategy as well, maybe merge the two. But can you talk about how you view each of the segments in terms of over a medium or longer term organic growth potential? And then what are the key drivers you're pushing? And you mentioned in the prepared remarks a focus on e commerce, particularly in Pet.
So maybe talk a little bit about the online strategy as you shift there for growth as well.
Speaker 2
Yeah, know in the last twelve months we've made some key hires in the digital space, not just digital marketing but we've got some key talent on board right now that really understands algorithms, that really understands how to, again I think in the early days we were very much focused on how do we fix our search, how do we get good content, and I think we've done a pretty good job there. I don't think we've done a really good job of getting a return on digital spend, and so right now we're in the midst of kind of optimizing that digital spend, but we're doing it with people that actually speak the language of the Amazons of the world and our other e com partners and we're partnering with them and quite frankly we're getting better returns on the capital we allocate there. I think part of my new role is we spent kind of ten years, I was doing a lot of external capital allocation. Right now we want to get internal capital allocation to a much higher rate of return and we're doing that on the digital side. Clearly on your first question, appliances continues to migrate online at a pretty rapid rate.
We're definitely seeing a meaningful increase in e comm on our pet business as well. Home and garden is small but the growth rates are strong. HHI is, that's a smaller component. Anytime you get big liquid in a bottle like on our Home and Garden side or you've got heavy products like hardware and locks, you're typically doing less online but we continue to step up investment there particularly on the digital lock side. We were one of the first to market with our KEVO products and I see just a very low penetration rate there with massive white space and I see very strong end market growth and we see adoption rate low at the moment but the growth rate is exponential.
And so I think you've heard Doug talk about it. I was recently in Lake Forest with our HHI team and I've just, we're revamping some of the merchandising we put out. We want to do not only a better job explaining our SmartKey technology to our customer, but also trying to bring clarity at point of sale and customers confidence at the point of purchase because we think digital locks, they're here to stay, they've got a great tailwind behind them and we want to continue to be the market leader there. Quite frankly we think that'll grow whether we're in expansionary times, recessionary times, given the tailwind there and the adoption rate, we really want to maintain our leadership position so you'll see a lot more of that and you'll probably see a lot of news releases this summer on new products that we're coming out with to further that activity.
Speaker 5
Okay, great. Thank you for the color. And then just one other quick one. You mentioned obviously a whole new team or mostly a new team at the HPC executive level. Could you talk about the priorities you've given to them?
Is it, I don't want to put words in your mouth, so what were the priorities and the charge that you've given to them going forward?
Speaker 2
Listen, to be blunt, I just think we got off track in that division. We tried to do too many things to too many people with too many SKUs. Look, we're very very good at procuring product. We are a low cost provider. We marry that with some innovation and we have great brands.
And we've really just gotta get back to our core. We've gotta get the right product to the right customers at the right prices and that's what we've done for a decade and I think we just kind of, we kinda lost focus. So it's restoring that focus. Listen, there's some complexity in that business that we're going to drive out. There's more efficient ways to do things and so we're doing that.
But listen, we are, there's no question on the profitability line this quarter, we probably could have doubled it for reporting purposes but we would have been pulling back levers on marketing, on innovation. And that's kind of the new theme. I'm just not willing to sacrifice short term numbers that would rob us of future growth. My mission from ten years ago was to create a sustainable free cash flow enterprise and you just have to plant, there's no better time to plant seeds for growth than the current moment. It's just those sometimes are expensive seeds and so they have a mandate to continue to invest behind innovation.
You've got to bring new products that answer consumers' needs and convenience and you've also got to let people know about why those things help them have better experiences in the kitchen or on a beauty side. You've got to let them know that through smart advertising. So those are different mandates. That was not in the DNA of the prior team. Is in the DNA of this team but they also have a dual mandate which is to really streamline supply chain and operating expenses so that we can reinvest in more strategic activity.
I would tell you that's kind of the main new vision, clarity and focus being brought to that business unit.
Speaker 5
Super, thanks very much.
Speaker 3
Thank you.
Speaker 0
Your next question comes from the line of Faiza Alwy with Deutsche Bank.
Speaker 6
Yes, hi, good morning.
Speaker 3
Good morning.
Speaker 6
So my first question has to do with HHI. Can you talk about your outlook for that business now? I know when we last talked about it in February, there was some concern about housing and remodeling slowing. I think since then things have improved. So I just wanted your update take on how you're thinking about the market.
Speaker 2
Yeah, think you're right. Look, we definitely saw a pretty rapid and steep deceleration in demand. I would tell you, I think it was November 18 was when I first personally noticed it and it was very sluggish through December and so that had me quite concerned as a real headwind. Clearly I think the pivot by the Fed, lower rates from the market and then the ten year trading at 2.5% and pushing lower now given macro events is lowering mortgage rates and the housing market has just become accustomed to very low rates and so you're right, we do see a pickup in new home sales which we think affects about 25% of our total top line in the HHI division. But we remain the dominant player in the remodel space and again I think right now what would be great and what we see with the builders is there's actually still a lot of pent up demand and you see the millennials wanting to get into housing.
It's an affordability and it's a supply issue and so quite frankly a lot of our builder partners are now looking to how do we create more product in that two hundred to five hundred thousand dollars zip code and that quite frankly would be extremely good for us if we could see kind of the new home builds be in that range because they also tend to be the early adopters of our digital locks. So look, it's, know, again, don't want to get over our skis. We have a tough comp in Q3 for the HHI unit. We're billing, we're billing 2019 as we're getting back on our feet, we're stabilizing all our business units, we want to take the right long term approach to investing now for better growth in 2020, but I'm feeling a lot better about the outlook for HHI as I talked to you today than I did three months ago.
Speaker 6
Okay, great, and then just a follow-up on HHI EBITDA. So I know it accelerated relative to last year, but last year was a very easy comp from a margin perspective. And if I look at it on a two year basis, it still decelerated. So could you talk about some of the puts and takes? Is it is it is it a mix issue?
Is it cost inflation? Is it, you know, more investments? So just a little bit more color around around the EBITDA if I compare it to two years ago.
Speaker 2
I'm gonna pass this one to Doug, if that's okay.
Speaker 3
It's primarily related to input cost inflation, a little bit of a little bit of tariffs. We've gotten some pricing across the board, across some of our categories there, but it's generally driven on the on the on the cost side in the short run. And some of the initiatives that David talked about earlier in his prepared remarks include manufacturing and supply chain, improvement opportunities, and we see some in HHI.
Speaker 6
Okay, great. Thank you.
Speaker 0
Your next question comes from the line of Jim Chartier with Mons, Crespi and Hart.
Speaker 7
Good morning. Thanks for taking my question.
Speaker 1
Hi, Jim. Hi, Jim.
Speaker 7
Hey, guys. On the investment spend, first, can you give us a little bit of color on how much it was weighted to first half versus second half of this year? Was it more weighted to first half and should we see less impact on EBITDA margins in the back half?
Speaker 2
It varies by division. So I can tell you, look, with 70% of the lawn and garden season left and we're off to a reasonable start, we're actually going to ramp up spending. So that would be a situation where we're actually going see marketing increase. But again, it's increasing, it's supporting the appropriate amount of sales and profitability growth. Plus we have distribution wins and we want to support those for our retailers, customers.
I would say on the appliance side that was probably more weighted in the first half. Things like Manchester United are not inexpensive endeavors. Doug, don't know, you want to add some more color?
Speaker 3
No, think that's right and I think the later in the year appliances will ramp up a little bit as we head into the holiday quarter, which is our first quarter next year, but some of that spend will be committed and happen ahead of time. And then on the HHI business, they're relatively stable through the year, a little bit heavier and then in the back half perhaps again given their seasonality Pet is pretty steady state.
Speaker 7
Great. And then you talked about the detailed study for improvement in efficiency opportunities. Do you plan to flow through most of that the bottom line or you plan to continue to reinvest into your growth initiatives?
Speaker 2
Yeah look, I'm actually very excited about this. I wanna wait and get some more tangible evidence in our hands before we kinda talk to you more broadly about it and we intend to do that next quarter. I think you should think about it as no stone is gonna go unturned. We, know, if there is non strategic spend or spend that is not value added or if there's redundancies or know too much manual procedures and we become more efficient. It's a pretty comprehensive study.
I think a lot of it will come on the procurement side but again I want to balance it. I think we will drop a lot of it to the bottom line, but I want to make sure we take a decent proportion of it and reinvest in the business. I want us to get much more in line with top performing CPG companies in terms of marketing spend, innovation, new product development. I'm bent on steering the ship towards a much healthier vitality underlying all four businesses. We must make investments in 'nineteen to deliver growth that shareholders deserve in 2020 and beyond.
Speaker 7
Great, thanks and best of luck in the second half.
Speaker 2
Thank you so much.
Speaker 0
Your next question comes from the line of Sam Reid with Wells Fargo.
Speaker 8
Hey, guys. Thanks for taking my question. Look, it's exciting to see all the, innovation coming online your platform and across all the segments. Could you give us a sense though as to what proportion of your sales this year are coming from new products versus existing products and maybe how that compares to prior years?
Speaker 2
It's never enough. Doug, you wanna hit it?
Speaker 3
Yeah. I I I don't have specifics to provide to you, Sam, because they vary across the businesses. But our vitality rate in general is over over a three year period is in generally in the high teens area and and has been increasing, in the in the last couple years and will continue to increase a little bit this year.
Speaker 8
Gotcha. No. That's super helpful. And then, if I could sneak one in on HHI here. You know, you guys mentioned in the prepared remarks relatively low household penetration rates, across deadbolts and smart lock or electric deadbolts and smart lock products.
Could you give us some numbers around there though and what penetration rates might be today versus where they could be over the next three to five years?
Speaker 3
Penetration in The U. S. Is sub-ten percent on the smart lock category. Our overall
Speaker 2
You use between five percent and ten percent. That's narrow as we'll go.
Speaker 3
And then our overall electronics business which would include touchpad and other non smart, non connected, so it's both connected and non connected. That is also a little under 10% of our around 10% of our total business.
Speaker 2
You have a whole generation of customers that is used to just living on their phones and now they're buying their first home to be able to run that house on their phone to access the house, to lock the house, to let somebody deliver something or to let, you know, relative in or it's it's it's just the future, and we we wanna be upfront.
Speaker 8
Absolutely. No. Thanks so much, guys. That's really helpful color.
Speaker 3
Thank you.
Speaker 0
Your next question comes from the line of Joe Altobello with Raymond James.
Speaker 9
Thanks. Hey, guys. Good morning. So I did have a few questions around the investments you guys are making this year. And you talked about that for the last couple of quarters, including this morning.
And if I look at selling expense, for example, and R and D expense, both are flat year to date. So it seems like all of that investment is going toward other areas of marketing. Is that the case? And if so, can you help us quantify how much of a step up in marketing you're expecting in your EBITDA guide for this year?
Speaker 3
So Joe, there are actually those couple areas and the piece that you don't see, which reprioritization of gross to net spend. So we're focused on all of those revenue driving spend activities. And I will tell you in the first or in the second quarter that we just came off of, we did increase investment in home and personal care and we did in the home and garden business and we are planning to as planned, both of those were as planned, the other two businesses as planned too, we're about flat year over year and we'll see a step up in investment as we go throughout the year. But as it relates to those individual line items, they vary by business depending upon what we think is the best way to reach our consumer.
Speaker 2
And you'll hear more of this theme as we get into kind of Q3 and we talk to you about some additional shareholder enhancement, vitality initiatives that we're undertaking. Again I think you could parallel up to some of my earlier comments about getting a very detailed dashboard of non productive spend and so there's a lot of dollars that are being recycled inside of these units. But to Doug's point, I mean we could have probably reported twice the profitability of the appliance unit this quarter if we hadn't stuck with our discipline to invest in innovation and marketing in the face of a challenged quarter profitability wise particularly in that unit. So we are sticking with the discipline.
Speaker 9
Okay, so for the full year is the step up 20 to
Speaker 10
you call it this year?
Speaker 3
That's that's that's not an unreasonable the the high end of that deal is not an unreasonable area.
Speaker 9
And that's recurring. Right? That doesn't come out Yeah.
Speaker 3
Yeah. That'll go on forever. That'll that'll not only go on forever, but as David mentioned, as we get through these productivity and efficiency initiatives, some of those savings we'd like to reinvest in future growth and obviously some of that investment will go in these areas.
Speaker 9
Okay. And just one last one if I could squeeze it in for David. I guess, how are you thinking about uses of cash given that you paid down a ton of debt already? You bought back some stock in the second quarter. It sounds like you want to pay down more debt in the back half of this year.
Could we see more stock repurchases or are you done for this year? And how are you thinking about M and A as well? Thanks.
Speaker 2
Yeah, no, listen, I appreciate that. I think the greatest single use
Speaker 3
of
Speaker 2
cash that has the greatest single return on it is buying back our shares. However, I just lived through a twelve month period of time where we went through tremendous disruption operationally and we transformed the company through divestitures and deleveraging. I am committed to delivering a stable spectrum brands this year that has vision, clarity, focus and ends 2019 and is the smarter, stronger, faster, smarter, stronger spectrum brands of the future. I've talked about wanting to get to kind of just more consistency, just real rhythm and cadence in the underlying operations and we're making progress. Mean if you just look at every metric from kind of three quarters ago, two quarters ago, this quarter, we are absolutely moving in the right direction.
We still have plenty of wood to chop. I don't want to get on over my skis but think we, look I'll tell you, we are starting to look at tuck ins again. So I don't see anything big on the horizon but if we can do tuck in acquisitions that are very very accretive that fit with our existing business units and are highly accretive and synergistic, we'll look at that. But it's going to have to be very very compelling because buying our own shares at these prices, like I said, is probably the single best use of capital allocation we can make.
Speaker 9
Understood, thanks guys.
Speaker 3
Thanks Joe.
Speaker 0
Your next question comes from the line of Kerry Martinson with Jefferies.
Speaker 11
Good morning, guys. On yesterday's Energizer call, they talked about the VARTA dispositions that they're being forced to make and the slightly lower proceeds coming from that expected. Is there any liability for you all as part of that?
Speaker 2
So we sold the entire battery division for $2,000,000,000 We reserved $200,000,000 should it be needed and we'll wait to see when they complete the sale but no, we've booked and we've disclosed a $200,000,000 possible true up and that's that's a cap at 200,000,000 and so hopefully they do better but we'll have to wait to see how they progress that M and A discussion and who's the buyer and at what price.
Speaker 11
Okay, and with the material debt pay down here, how should we think about pro form a interest, you know, on a go forward annualized basis?
Speaker 3
If you we'll be filing the the q at the end of the day today. You'll see the debt table in there. It's very straightforward now. So you'll be able to calculate it on an annualized basis.
Speaker 11
Okay. And just lastly, know, there's been some talk for others seeing some gains in the home and garden space for roundup equivalents. I was wondering if that was any sort of a lift for you guys in the lawn and garden space.
Speaker 2
Look, we have expanded distribution there. It's never enough for me. I want more. I think our products have better efficacy. I think our products are better for a lot of things.
I've been warned about the comments I can make given litigation against Monsanto and glyphosate but know, Spectracide is an amazing product, it's a great product, we want to tell more people about its benefits and the fact that we think that it's superior product offering at a great value price point and we want to continue to get that message out there. That's why we're stepping up our investment marketing.
Speaker 11
Thank you very much guys, appreciate it.
Speaker 1
Okay operator, it looks like we have one more questioner so let's take that and then I think we'll close down the call.
Speaker 0
Your final question comes from the line of Carla Casella with JPMorgan.
Speaker 10
Hi. I wondered if you could give us an update on any expected impact of tariffs if changes are
Speaker 2
Yes. We would prefer both sides reach a consensus. I think that would be in the best interest of the globe and ourselves. I think that depending on how things progress this weekend, look we went through this fire drill last fall. We were prepared to pass the increase on January 1.
It got extended to March and here we are. Obviously this week has injected a lot of volatility. I don't know any more than you know, but I think the biggest problem for us would be I mean, from a mechanical standpoint, we receive Chinese product and we would have to write the check to United States Treasury, but we're going to have to pass that on and so ultimately the consumer is going to pay for it. We have to go through the fund that we don't enjoy doing with our retailers, but if we end up in a tariff situation, we'll pass it on and we'll see where the final demand is.
But I don't think we're alone in this and thank God the majority of our businesses are vertically integrated on this side of the globe.
Speaker 10
Okay, great. And then you mentioned the personal care appliance lost a little bit of share. When do we cycle that? Was that something that just started this quarter?
Speaker 3
No, began last year, in the first half of last year. And so we'll continue to lap it as the year unfolds. But things comps should begin getting better in The U. S.
Speaker 10
Okay. And then just on the now that you've completed the divestitures and brought your leverage down and you expect to get to 3.5x, Is that a good long term go forward level? And with that and all of your kind of cost savings and business investment initiatives, do you think are you starting to look at maybe adding to the portfolio with another leg of the stool?
Speaker 2
Yes, think in my earlier remarks I said look, I really want to see consistency in the rhythm and cadence of the underlying earnings of the company. We are looking at small tuck ins, but these are not anything that would move the needle. I think our stock price is very attractive relative to the value of what people want for private assets. So it's got a high hurdle to get in here. And I think we to deliver what we promised this year.
We want to deliver keep the balance sheet down. But I think as we get into some greater detail and we can talk to you, we're excited to talk to you more about it next quarter. If we can really start to drive the EBITDA going into 2020 etcetera, then obviously free cash flow improves and we will generate a lot of free cash over the remaining life of that buyback program and we'd like to take advantage of it. So, it's just we're looking at a lot of things and we'll continue to be opportunistic.
Speaker 10
And on the leverage, you think is the 3.5% to go forward or would you be willing to take that up or does that need to come down more?
Speaker 2
We like 3.5% given what happened last year. And that's where I'd like to see us run on a long term basis.
Speaker 10
Great. Thank you.
Speaker 1
Okay, operator. Well, thanks to David and Doug. We have exhausted our questions and nearly reached the top of the hour. So we'll go ahead and conclude our conference call. On behalf of Spectrum Brands, we want to thank all of you for participating this morning in our fiscal twenty nineteen second quarter earnings call.
Have a good day.
Speaker 0
Thank you for participating in today's call.
Speaker 1
You
Speaker 0
may now disconnect.