Future Growth and Michigan Legislation
Q: Will drinking water growth continue, and how will Michigan filter-first legislation impact?
A: Management expects drinking water growth to remain strong next year, with nothing suggesting a slowdown. The Michigan legislation requires one filtered bottle filler per 100 students, amounting to about 15,000 units (1.5 million students divided by 100). Each unit sells for approximately $1,200 to $1,300. Additionally, they will sell filtered faucets due to regulations around classroom faucets. The legislation has a two-year adoption period, so spending is likely in 2025 and 2026. Such legislation tends to have a long adoption period, benefiting growth over time.

Gross Margin Sustainability
Q: How sustainable are the strong gross margins, and what's the long-term goal?
A: The exceptional gross margins are driven by the Zurn Elkay business system's focus on productivity, waste elimination, and quality improvements. Management believes these margins are incredibly sustainable. Additionally, the fastest-growing product category is mix-favorable. Over time, they are targeting a 50% gross margin for the product portfolio as it sits today.

Supply Chain Savings Impact
Q: How will supply chain repositioning benefit EBITDA growth next year?
A: The supply chain repositioning is sized at $5 million to $10 million at full run rate. For next year, management is confident in at least $5 million of benefits. The timing depends on factors like inventory levels and sell-through. These savings are viewed as additional to the normalized 30% to 35% incremental margins and will provide a step-up benefit from the supply chain actions.

Expected Price Increases in 2025
Q: Can you discuss confidence in net pricing improvement next year?
A: Management anticipates net pricing to contribute 1 to 2 percentage points in 2025. The market is implementing price increases beginning in 2025, and preliminary communications have been made. They view a couple of points of price as a good assumption heading into next year.

M&A Pipeline and Capital Allocation
Q: What are the M&A priorities for the excess liquidity?
A: The company plans to stick to what they do best, focusing on core markets within the U.S. They are looking at opportunities within existing categories and adjacencies that fit nicely between current product lines. Cultivation activity is picking up, and management expects actionable M&A opportunities sometime in 2025. In the meantime, they will continue to invest in themselves by buying back stock and growing the dividend at a double-digit rate.

Bottle Fillers Market Potential
Q: What's the update on bottle filler penetration and market saturation?
A: Since July 2022, there has been an incremental 200,000 to 300,000 bottle fillers added to the installed base, bringing the total to around 1.8 million units. With an existing installed base of 8 million water fountains in the U.S., there is still a massive opportunity for growth. Management believes the installed base can reliably grow by a couple of hundred thousand to potentially 300,000 units annually over the coming years. They view the market as being in the very early days, with the category only 11 years old. Legislation mandating bottle fillers will further drive demand.

Flow Systems Improvement
Q: Are there early signs of improvement in flow systems?
A: Management notes that flow systems might currently be their fastest-growing product category, excluding drinking water. They are seeing flow systems activity at a decent clip, aligning with the trajectory indicated by Dodge Starts data. This growth provides confidence in the stability and potential early growth in the market.

Specification Share and Growth Initiatives
Q: Did you gain market share this quarter due to growth initiatives?
A: While measuring share in a single quarter is challenging, management confirms they are growing their specification share reliably over time. This continued focus on specification growth will manifest in long-term share gains rather than being measured in any specific quarter.

EBITDA Margin Progression and Mix Dynamics
Q: Any variable costs that might return next year, and how will mix affect margins?
A: Management does not anticipate any variable costs needing to come back beyond usual items like rep commissions and freight, all within the 30% to 35% incremental margin envelope. Institutional is their most profitable vertical, followed by commercial, then residential. As commercial recovers, it aligns with the fleet average in profitability. Overall, they are comfortable with the incremental margins going forward.