Welbilt, Inc.
Q2 2017 Earnings Call Transcript

Published: 12 Aug 2017

[Operator:]

Good morning, ladies and gentlemen. My name is Julie, and I will be your conference operator today. At this time, I would like to welcome everyone to the Welbilt Q2 2017 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks there will be question-and-answer session. [Operator Instructions] I would now like to turn the call over to Rich Sheffer, Vice President of Investor Relations and Treasurer. You may begin your conference.

[Richard Sheffer:]

Thanks, Julie. Good morning, and welcome to Welbilt's 2017 Second Quarter Earnings Call and Webcast. Joining me on the call today is Hubertus Muehlhaeuser, our President and Chief Executive Officer; Haresh Shah, our Chief Financial Officer; and Josef Matosevic, our Chief Operating Officer. Before I turn the call over to Hubertus, I need to review our Safe Harbor statement with you. Any statements in this call regarding our business that are not historical facts are forward-looking statements, and our future results could differ materially from any implied projections or forward-looking statements made today. Our actual results may be affected by many important factors, including risks and uncertainties identified in our press release and in our SEC filings. We do not undertake any obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or other circumstances. Today's presentation and discussion will include both GAAP and non-GAAP measures. Please refer to the last four pages of our earnings release for our non-GAAP reconciliations. You can find a copy of the earnings release and today's slides for this earnings call in the Investor Relations section of our website, www.welbilt.com. Now I'd like to turn the call over to Hubertus.

[Hubertus Muehlhaeuser:]

Thanks, Rich, and good morning to everybody. I'm pleased to be speaking with you about another solid sales and operational quarter. As you saw in our press release this morning and can see on Slide 3 of our earnings call presentation, we delivered organic net sales growth of 3.6%, with growth in all three segments. Our Simplification and Right-Sizing initiatives and positive net pricing offset headwinds from less favorable product mix with some ongoing material cost inflation, resulting in a 17.9% adjusted operating EBITDA margin, which is a 60 basis point improvement over last year's second quarter and a 180 basis point sequential improvement versus Q1. This was also the eighth consecutive quarter of year-over-year adjusted operating EBITDA margin improvement since the new management team took over in August of 2015. These operational improvements, combined with lower interest and tax expenses, drove a 92% increase in adjusted net earnings and an 83% increase in adjusted diluted net earnings per share. Moving on to Slide 4. At the midpoint of the year, our year-to-date organic net sales have increased 3.2%, our adjusted operating EBITDA margin has increased 70 basis points, adjusted net earnings have increased 12% and our adjusted diluted net earnings per share have increased 7%. Even though this is a short-cycle business that doesn't have much visibility or backlog beyond a few weeks, our first half results and improved positioning with our general market and large-chain customers provides the confidence to increase our sales and EPS guidance, while reaffirming our margin guidance. We are very encouraged with the margin improvement we have achieved so far with our Simplification and Right-Sizing initiatives that have us right on track to complete the 1,000 basis point margin improvement journey that we launched in 2015. Let's move to Slide 5. I will make a few detailed comments on our topline results. Our organic net sales growth of 3.6% was driven by a 7.7% increase in the APAC segment, a 6.6% increase in the EMEA segment and a 2.3% increase in the Americas segment. In the APAC segment, both hot and cold-side product sales increased with large chains in the region. In the EMEA segment, we, again, had strong sales growth of Merrychef eikon e2s high-speed ovens as well as beverage systems. These increases more than offset the headwinds from lost sales due to 80/20 product line simplification. In the Americas segment, we had strong growth in cold-side products offsetting lower hot-side product sales and a slight headwind from lost sales due to 80/20 product line simplification. For the total company, lost sales from 80/20 product line simplification were approximately $2 million in the quarter. Looking at Slide 6. The National Restaurant Association, NRA, reported that restaurant sales began the quarter soft and improved as it went on. NRA's restaurant current situation index dropped below 100 in April, which indicates a slight contraction before increasing back into the growth range in May and June. The expectations index for forecasted conditions was over 101 in all three months of the quarter, which indicates that restaurant owners and operators are expecting improving conditions over the next six months. The latest forecast from NRA continues to call for the food service industry to grow 1.7% in 2017, which is unchanged from the original forecast at the beginning of the year. Technomic, however, has lowered their 2017 forecast from 1.7% to 1.4%. We believe these expectations for a slight expansion in the restaurant markets will occur, but at a slow pace with month-to-month volatility. I'll make a few additional comments later. I'll now turn the call over to Haresh Shah, our Chief Financial Officer. Haresh?

[Haresh Shah:]

Thanks, Hubertus, and good morning, everyone. Our Simplification and Right-Sizing initiatives generated $11 million of savings in the quarter and $21 million year-to-date. As you can see on Slide 7, our Simplification and Right-Sizing initiatives are comprised of seven categories

[Hubertus Muehlhaeuser:]

Thanks, Haresh. We are continuing to generate customer interest in our fitKitchen system concept. We have more than a dozen customers who are engaged in fitKitchen projects to address either specific process flow issues in their kitchen or the setup of their entire kitchen through equipment selection, connectivity and automation. We are uniquely positioned to help serve our customers system needs as we are the only commercial food service equipment manufacturer that has a full product suite of hot, cold and beverage equipment with an internal organization structured to efficiently and effectively improve their entire operation. This is why both existing and new customers are approaching us for help in solving their issues. As you know, we see fitKitchen as a long-term enabler of additional equipment sales across all of our product lines as the system's approach to kitchen design becomes increasingly demanded. To wrap up our prepared comments, I will update the progress on our 2017 priorities that we previously shared with you. First, we committed to continuing our Simplification and Right-Sizing agenda. The $21 million of savings we delivered in the first half of 2017 has us solidly on track to achieve our projected savings for the full year. Second, we committed to continuing our delevering journey by using all available U.S. cash for debt reduction. We resumed debt reduction in the second quarter after the expected first quarter debt increase, and we continue to project that we will pay down $100 million to $120 million of debt by the end of this year. Third, we committed to continuing to bring innovations to the table, refreshing our product lines and driving system solutions in the kitchens. We have stepped up our new product introductions from the 27 originally planned in 2017 to now 30 product introductions, and are well on our way with 20 already completed. While our R&D spending was purposefully front-loaded to speed up this year's planned new product introductions, our full-year spending will be in line with our historical trends as a percentage of sales. We are focusing our spending on product platforms, digital and equipment connectivity, automation and energy efficiency. The success of this focus is evident through customers coming to us at an increasing pace for solutions to solve the cost and productivity issues they are facing. Last but not least, we have begun seeking smaller bolt-on acquisitions and, if the right target is available that fits both strategically and financially, we anticipate completing a deal before the end of the year. With that, I will turn it back to Rich.

[Richard Sheffer:]

Julie, this concludes our prepared remarks. We'll now open the call up for questions.

[Operator:]

[Operator Instructions] Your first question comes from Mig Dobre with Baird. Please go ahead. Your line is open.

[Haresh Shah:]

Hi Mig.

[Mircea Dobre:]

Good morning. It's Mig Dobre. How are you guys?

[Haresh Shah:]

Fine.

[Mircea Dobre:]

Maybe this first question is going to be for Haresh. We're halfway through the year, Haresh, and I am looking to understand the puts and takes to your own forecast that you're putting forth here. So if I'm looking at the midpoints of your guidance, and I'm taking both the revenue and your EBITDA margin, it looks to me like the midpoint is implying $60 million of additional revenue in the back half versus the front half. Yet EBITDA dollars are up about, call it, $40 million, $42 million, the back half versus the front half. Now I recognize that there's probably multiple buckets, if you would, as to how you get there. But if you were to separate out pricing, cost savings, just the normal incrementals on the additional volume, mix, anything else that you might have here, just so that we get some level of comfort with how we're getting those EBITDA dollars on only $60 million worth of sales, I think that would be really helpful.

[Haresh Shah:]

Thanks, Mig. I think the first thing, if we look at the headwinds that we've had in the first half of the year and we talk about material inflation, so that's a big piece. We announced the price increase in June, and we do expect that cost to be recovered by the end of the year. So that's a significant item. As well as we've talked about our R&D being front-loaded in the first half with – to reflect our NPI, our new product introductions. So we expect that to level out. And then part of it, what we saw, the largest driver – or one of the largest drivers this time was the mix, so we see the mix improving. And then finally, it's continued cost savings and moving along our journey. So where we talked about the seven different components, it's us continuing to execute on that and moving forward.

[Hubertus Muehlhaeuser:]

And perhaps, just one thing on the positive mix side, please do not forget that when we introduce new products, obviously, the margin mix improves with that. So its existing mix improvement in the second half and also the new product introduction effects.

[Mircea Dobre:]

Sorry to press on this. I'm trying to understand really kind of what all the moving pieces are here. But can you maybe bucket out what do you expect in terms of your own efficiencies and savings in the second half versus the front half? And again, what you consider to be just baseline normal incrementals on volume excluding that?

[Haresh Shah:]

I think where we want to be careful is, we don't want to get it to quantifying the individual components. The four areas or so we mentioned are those drivers. So we don't want to start quantifying individually, but with where we're progressing, we feel good with the guidance.

[Richard Sheffer:]

So Mig, this is Rich. We talked for the last two quarters with the impact of the price increase to offset the material cost inflation. That should flip it from a headwind that we've seen in the first half to a tailwind in the second half. We intentionally spent ahead of pace on SG&A and R&D in the first half to get some stuff done, if you will, from a timing perspective. That's going to drop in the second half intentionally. That's going to provide some tailwind. We recognize that optically when you look at the midpoint of our guidance range for margins and that where we stand year-to-date that we have tall hill to climb. But we internally have the action plans that will get us to the midpoint of our guidance range. We're feeling very comfortable about that without getting into the granularity of identifying monetarily each of the targets in the bucket.

[Hubertus Muehlhaeuser:]

And this is also how we planned out the full-year, Mig, we're not managing the quarters here, we're managing the year. And we purposefully did some overspending in Q1 in order to have the benefits in the second half. And I think you see that already on the top line, and you will basically also see this on the bottom line in the second half. So we feel very good that we're going to be within our guidance range for EBITDA margins.

[Mircea Dobre:]

All right. Well, I appreciate that, and I guess I'll follow-up some more offline. Maybe if we can talk a little bit about corporate expenses as well. I'm looking last year; for instance, you were running $10 million to $11 million. And to your point on maybe overspending some, you've done $12 million and $13 million, almost $14 million this quarter. So stepped up in the front half. Is this more a matter of incentive comp and similar issues, should we be thinking that this is the run rate going forward? Or are we likely to see a downtick in the back half of the year on this line item?

[Haresh Shah:]

From a corporate structure, we also called out in Q1 that when you look in the first half, last year first half, we were still building out our corporate team. So where we are from a quarter-over-quarter perspective – year-over-year perspective, I'm sorry, we should have the right run rate. From a comp perspective, we did last year make an adjustment in Q3 for our short-term incentive, so that's not a comparable business for us.

[Hubertus Muehlhaeuser:]

Yes. And as we have said, as we had front-loaded spending on marketing and sales, we had all these shows where also met you, Mig, at the beginning of the year. And we also purposefully stepped up our innovation spend in order to accommodate for the increased new product introductions that we see this year.

[Mircea Dobre:]

Great. Then my last question, maybe a little bigger picture. In your outlook, you talked about QSRs potentially slowly improving. I would like maybe a little more color on that. Does that have to do with your specific customer mix as some large customers of yours that you're expecting will do a little bit better going forward? Or is this more of a broad market outlook? I am also wondering how this plays into your broader mix comment into the back half.

[Hubertus Muehlhaeuser:]

Well, this is more a broader comment on the QSR's. We're not pointing to a specific QSR. So I think in general, if you look at their – also the numbers that they reported, they are slowly recovering. And we are benefiting from that. But I think what is very noteworthy, that we have grown specifically in the general market. And this is because of the work that the new management team has done. We have rebuilt those relations that were kind of not there or kind of lost by the old management team. We rebuilt those. And we're seeing the positive reactions because our sales are increasing in that area as well. So if you look at our sales performance in the first half, and if you look at the overall market, you can see that we have gained shares on two fronts. One is we gained market share on the general market for sure, and we also grew with the market on the QSR side.

[Mircea Dobre:]

All right. Appreciated. Good luck.

[Hubertus Muehlhaeuser:]

Thank you.

[Operator:]

Your next question comes from James Picariello with KeyBanc Capital. Please go ahead. Your line is open.

[James Picariello:]

Hey. Good morning, guys.

[Hubertus Muehlhaeuser:]

Hey James.

[James Picariello:]

So on the demand side, with respect to national chains, what are you seeing, what are you hearing from your major customers within the QSR, fast-casual channels that give you the confidence that things do eventually return, maybe not to a great extent in the second half, but that they do eventually return? Is there any testings, visibility, any anecdotes there? And then, secondarily, can you sort of unpack the visibility into the second half regarding hot equipment why that picks up, especially in the Americas, for the back half? Thanks.

[Hubertus Muehlhaeuser:]

Okay. Let me take maybe the first one. Again, we don't want to point out specific customers or QSRs. And our second half forecast is also not baked into any specific rollouts or so. What you can see there is an overall investment mood that is positive right now within the QSRs. And we are benefiting from that because, partially, it is replacement. And as we have said, we have currently 12 smaller and larger QSRs that are testing out our system kitchen – fitKitchen project. And we feel very confident that, basically, those projects that we have will lead to additional sales later in the year and then, of course, for 2018. So the overall mood is from being not so good in the QSR market, and remember that we talked about a recession last year or you talked about a recession. We said it's not a recession, it's kind of flattish growth and they're slowly turning the corner and that's what we're seeing right now. And we are very well positioned as we said, because we are the only company with a full product line and with this integrated R&D backbone to cater to their needs. And they are still under enormous cost pressures. So all these subjects that we always discuss, the cost pressures that they have, labor, space, energy efficiency, we are serving with our products and that is basically driving our growth. And that's also driving our market share increase that you see in the first half of this year. And then, secondly on the hot side. I think it is hot side and also KitchenCare. And we're very confident that both hot side and the KitchenCare mix in the second half is going to improve. Interestingly to note is that our Q2, cold side was extremely strong, whereas the industry, as you probably know, was fairly weak. So also there, we have over proportionately gained market share, thanks to our strong brand. Josef, do you want to add something to the hot side or?

[Josef Matosevic:]

You covered it well. Maybe just to highlight 1 item here and that's clearly our customers have a strong appetite to continuously improve themselves. And when we look at our full service solution, James, and our service and parts and the entire portfolio, how can we be a strong a part of their journey, that's where we continue to see gains and momentum in the market. So we do not see any recessionary trend versus a slow recovery of that quarter-to-quarter.

[James Picariello:]

Okay, that's helpful. And then regarding your price increase that took effect June 1, I believe. What has been the reception from the channel regarding that increase? Seems like it's passed without any issues. And then also, what has been the competitive response? Have you seen others come through with an increase as well midyear?

[Hubertus Muehlhaeuser:]

So let me take the first part of it. I think we put it in effect in June. Obviously, it's going to benefit us over the term of the quarter because, of course, we first had to basically deliver on the contracts that had been signed pre-price increase. But it has been received very well because our customers understand that we use ferrochrome, not too many competitors use ferrochrome, which is also a quality drag on them, and it's basically a quality up on us because it is a very specific material. And the customers understand that this is a quality feature with well-built product and they're happy to pay for it. So we didn't get any push back and in contrast, I think our partners and end customers understand that quality has a price. And so that is basically what we see there. And in the terms of competitors, Josef, anything to add from the competitive side?

[Josef Matosevic:]

No, I think you covered it, Hubertus. I think we're good.

[James Picariello:]

Okay. And just last one for me, regarding your new products. Specifically, the N2 fusion, the multiplex system. Have you seen any new customer opportunities with major chains?

[Hubertus Muehlhaeuser:]

Of course. The question is what we want to say. Josef, do you want to say something without any name? We are in testing phase, I would say.

[Josef Matosevic:]

Yes, I'd be happy to. I mean, James, a tremendous amount of interest and tremendous amount of appetite of launching it faster, quicker, and more broader. We want to make sure we finish our testing and we walk the talk. And once everything is finalized and all the agreements are signed, we're going to start looking at a broader customer base. But yes, the appetite for this technology is very strong globally, not just in North America.

[Hubertus Muehlhaeuser:]

N2 fusion is the coolest thing ever.

[Josef Matosevic:]

I am very excited about that.

[James Picariello:]

Thanks guys.

[Operator:]

Your next question comes from Walter Liptak with Seaport Global. Please go ahead. Your line is open.

[Walter Liptak:]

Hi, good morning.

[Josef Matosevic:]

Good morning.

[Walter Liptak:]

So I wanted to ask, going back to the first question, it's about the market share gains. And that's great that you're rebuilding relationships with the some of your customers. And I presume what you're referring to is the distribution channel and buying groups and things and developing those relationships again. And so my question is, how deep in the hole do you think the company got in terms of market share over the last couple of years with those customers? And how much market share do we have? Did you win it back already this quarter? Or does that market share win continue for a while?

[Hubertus Muehlhaeuser:]

Well, the comment on the market share. I don't know whether I understood your question completely. But as you know, market data is kind of not very good in our industry. But if you basically see that we are also 3% growing and that the industry is shy of 2%. I mean, automatically, you see that we're gaining share. The rebuilding of the customer relations is, you're very right, is on the general market with the buying groups, the dealers and distributors. That's 1 end, but it's also the QSR side, with their top teams. And so we're working on both fronts. But what is very visible is in a weak QSR market, the last eight quarters; we basically managed to basically outgrow the general market. So our market share gains in the general markets were specifically higher than they have been in the QSR side. And I would say on the QSR side, we're now kind of growing with their regrowth, okay. So I don't see major market share gain yet. However, they will come once our system solutions kick in. And as we said, we have a couple of very; very interesting QSRs in our customer list right now that are preparing to roll out entire system solutions. And as we have said always, in every call, every month, we basically get new requests for proposals and we are addressing those. And so we feel that this is hitting a right nerve in our industry right now. So you will see that we will continue to gain share in the general market and that we will then grow also our share in the QSR market once the system solutions roll out by 2018, 2019 and that's also why we're pretty confident that we will continue to grow our top line. It will outgrow the market in 2018 and 2019.

[Walter Liptak:]

Okay, that's great. That's good to hear that it will continue. Going back to the – also, the price cost of the stainless prices going up. First question, what about a prebuy? I mean, was your – is there any chance that part of the North American growth was because of a prebuy ahead of that price increase earlier in the quarter? And then, I guess, just a follow-on to that, is are we making too much of a big deal of this price increase? Because it sounds like you're commenting that you've already raised prices, it's going to be fine in the back half. We shouldn't worry about price cost for you guys.

[Hubertus Muehlhaeuser:]

And honestly, it is not. It is exactly what you said. Has there been some pre-buy? Perhaps. And that's the reason why the price increase for the new product is going to come then in – during the Q3. And as I said, it was really not an issue because it is not steel overall. It is ferrochrome; it's a specific material that is pretty unique to our quality product. And again, the distribution partners and the end customers did understand and they are happy to pay a little up for the quality that they get from Welbilt product.

[Haresh Shah:]

I would just emphasize that what Hubertus said there was very minimal impact to that. But the anticipation is that the price increase in this second half, as we've said before, will we recoup the headwinds we saw in the first half.

[Richard Sheffer:]

I think there's probably more excitement around our investor base than there is from our customer base about this. So again, I think what we need to focus on in the second half, one, at least for the investor base, is that this headwind we've had in the first half turns into a tailwind as we recover the lost margin from the first half in the second half. And then, two, we're going to continue to drive the operating improvements in the second half to deliver the margin that we promised this year.

[Hubertus Muehlhaeuser:]

And we're going to have less SG&A spend because we had a front-loaded budget.

[Walter Liptak:]

Okay. Yes, I understand that. And it looks like 80-20 is coming through great. So wouldn't mind – go ahead.

[Hubertus Muehlhaeuser:]

You should be happy with our 80-20 this quarter. Aren't you?

[Walter Liptak:]

The 80-20 looks great. The last question I have is just on the organic growth, the increase of 100 basis points. How would you like us to think of that? Because in my view, your organic growth has been coming through better in the first and second quarters. And this 100 basis point increase is it – when you take up your thoughts about growth in the back half of the year from new products? Or is it the 100 basis points from the growth that you've already had that was better than expected in the first half?

[Hubertus Muehlhaeuser:]

Well, it is better than expected in the first half and the increase of a couple of bps. But we don't want to increase it further because as said, look at Technomic, they have lowered their outlook for second half and as I've said, we continuously said that we do not have a long backlog. It's a very shortsighted business and therefore, let's just cross the bridge when we get there. For the time being, we feel comfortable with the small increase of our sales guidance and don't want to do more, and we are confident that we're going to be within that range and if anything changes, we talk again in three months.

[Walter Liptak:]

Okay, great. All right, thank you very much.

[Operator:]

Your next question comes from Tim Thein with Citigroup. Please go ahead. Your line is open.

[Timothy Thein:]

Hi, thank you. Yes, the first is, I guess more of a clarification, just going back to Haresh's comments on the operating bridge on, I think it was Slide 8. Just on the volume and mix component there of 130 basis points, I believe you mentioned KitchenCare as a drag. Maybe I misheard that, but that's kind of counter what I would have expected. Can you just maybe clarify that in terms of how KitchenCare played into that?

[Haresh Shah:]

For the quarter, we had stronger cold side and the lower hot side and KitchenCare was down a little bit, but basically flat in the quarter year-over-year.

[Timothy Thein:]

Okay, all right, got it. And then maybe just switching the discussion to the non-U.S. markets, maybe – Hubertus, maybe just kind of give us an overview there in terms of growth drivers? I saw obviously I think, your largest customer recently announcing a fairly sizable growth plan for China. But maybe you can – obviously, that's a couple years out, but maybe just hit on the drivers both in APAC and EMEA in terms of how that plays into your second half and maybe beyond 2017 growth expectations? Thank you.

[Hubertus Muehlhaeuser:]

Yes. We are positive on both sides on APAC and on EMEA. APAC is really driven by the regrowth of the QSRs. And we also continuously say that, I think, they are out of their – coming out of their restructuring and that was a lot of equity restructuring that we saw there, so they kind of divested their shop, their franchisees. And all these new franchisees or the new publicly-traded company, if you look at Yum!, they need to produce growth and they do produce growth and growth means investment and that's what we're seeing right now. So we've got a very strong demand curve there. And this led to the 7.7% growth and that's going to continue. We don't see this dropping in APAC. In EMEA, in all honesty, EMEA is doing fine. We have refocused our teams there, as we said, to really 80/20 and to drive our very, very competitive and successful products on maybe Merrychef, Convotherm and the beverage side and that is helping us. That's helping us enormously and we promised you that we will not shrink in EMEA, and I think this is exactly what has happened, 6.6% growth after the tremendous growth that we've seen in the last quarter, so I think it speaks for itself. And we don't see this stopping. We see this continuing, because EMEA is in an upward swing. If you look at all the Southern countries, they are doing significantly better, Spain, even France right now, after the elections. I mean there's a lot of a positive spirit right now. So we are very positive on EMEA as well. And we just came back. We had our board meeting and staff meeting at [indiscernible] thing and the feedback that we get there from the market from the operators is very positive.

[Timothy Thein:]

Okay. And just on EMEA more broadly, you mentioned earlier your, I mean the potential M&A activity starting to potentially pick up. Is that still a focus in terms of a geographic area, i.e., maybe some of the acquisition dollars being in Europe?

[Hubertus Muehlhaeuser:]

Yes. I mean, it is of course. We have the cash there, it's piling up. I mean, it's approaching $100 million. It doesn't help us with our debt ratios. So we definitely want to reinvest that into the business. And M&A is the best use of those funds. And we see targets that are interested and we're talking. However, as we said, there needs to be a strategic and financial fit. We're not paying crazy prices. So that's also clear. So therefore, we're not putting ourselves under pressure, but if something comes for the right price that strategically fits, it will be bought. And it might very well be that this is still the case in the second half of this year.

[Timothy Thein:]

Appreciate it. Thank you.

[Hubertus Muehlhaeuser:]

Thanks.

[Operator:]

Your next question comes from Larry De Maria with William Blair. Please go ahead. Your line is open.

[Lawrence De Maria:]

Thanks good morning. Hey, guys. First off, organic obviously solid, over 3% and the guidance implies, I believe, a flattish second half. I'm just curious if there's a specific reason for the decel? I know you have a tough 4Q comp, but it was down 1.4% in the third quarter. So anything specific other than what Technomic is saying, which is less optimistic and are you seeing anything specific from your customers that would suggest a decel?

[Hubertus Muehlhaeuser:]

No. You said it, I mean Technomic, they basically lowered it down and you also said it, it's pretty high comps that we have in Q3 and Q4 and that's basically makes us feel okay to increase a little bit, but not more at this point in time.

[Haresh Shah:]

Yes. And I would just reemphasize it, Larry, we've consistently said, it's a short-cycle business with a lack of backlog so that's why the reason for the guidance there.

[Lawrence De Maria:]

So no fundamental change really – maybe a little bit softer from Technomic, but no fundamental change from what you're seeing, I guess? And I guess, secondly, you're positive on EME, but does that imply you would expect declines, therefore, in APAC and Americas in the second half?

[Hubertus Muehlhaeuser:]

Yes. We can be positive on EMEA and APAC, but you look, the majority of our business is in the Americas. So we really have to see what's happening in the Americas. And the two point something percent growth that we had in Americas was already outstanding. And to basically assume that we're going to have more in the second half is just not cautious. And we'd like to be conservative and cautious and we'd like to hit our guidance ranges that we give out. That's the reason why it's just 100 basis points, but not more at this point in time.

[Lawrence De Maria:]

Okay, understood. And then can I ask, can you quantify the declines on the hot side in the Americas for both the market and for Welbilt, curious how you guys are doing specifically versus the market on the hot side? And also, specifically, how Merrychef is doing in the Americas?

[Haresh Shah:]

So Larry, this is Haresh. We don't quantify by segment. So we don't want to get into that or the Merrychef quantification.

[Richard Sheffer:]

Below the segment level, we don't want to go there, Larry. Sorry.

[Hubertus Muehlhaeuser:]

But as you know, that Merrychef's significantly better than Turbochef. We're very happy with the performance of that product, if that helps.

[Lawrence De Maria:]

All right, okay. Fair enough. But obviously you quantify Merrychef in the EMEA, right? So just I'm curious if your outgrowing or it would be in line with the market on the hot side?

[Haresh Shah:]

We're calling it as a driver. We didn't quantify, just so we're all on the same page.

[Hubertus Muehlhaeuser:]

And we called it as a driver because we had pretty big roll outs there also and so, therefore, it was really dominant.

[Lawrence De Maria:]

Okay, thank you.

[Operator:]

Your next question comes from Jon Fisher with Dougherty. Please go ahead. Your line is open.

[Jon Fisher:]

Thank you. Good morning. Just a little more granularity, I guess, on the cost conversation that we've been having. Gross margins have been running 37%, 37.5% each of the first two quarters. With the improvements that you're talking about on the cost and the price side, should we be looking at magnitudes of kind of sequential performance over 100 basis points? I mean, should gross margins be running over 38% through the second half of the year or closer to 39%?

[Haresh Shah:]

Yes, gross margin will pick up, but it'll also be – we talked about the gross margin is going to have the benefit from the material cost and the impact coming through there. As well as we've talked about in the first half, the increased R&D spend. So I think between those two items that will impact our EBITDA margin. So it's across both, not just one.

[Richard Sheffer:]

Yes. And it's pretty balanced, I would say.

[Jon Fisher:]

And I guess, I was going to ask a similar question on the OpEx aside. I mean, a similar magnitude of benefit, SG&A in total has been running a little over 20% each of the first two quarters. Should that be running closer to the 19% level for the rest of the year?

[Richard Sheffer:]

I don't think we're going to quantify exactly where SG&A is going to be, but if you look at our margin bridge on the slides on Page 8, the drivers there, Simplification and Right-Sizing is primarily going to impact gross margin. Pricing and volume and mix are going to impact gross margin. Material cost inflation is gross margin. Some of what we talked about last quarter on the SG&A side, the R&D and the marketing that – as we said, that would really be a first quarter issue as we spent early. That was SG&A. So we do expect that there's going to be some headwind on SG&A in the tail half of the year from compensation as we reversed our – as Haresh mentioned, we reversed our STIP accrual in Q3 as we paid – ended up paying out at 75%. We accrued the first half last year to 100%, so that was a reversal in Q3. That benefit is not expected to repeat, so that'll be a little bit of a challenge to overcome on the SG&A line. But you should continue to expect that most of what we're trying to do here is going to impact gross margin, and we're going to try to hold the line to the extent possible on SG&A and leverage that up as time goes on.

[Jon Fisher:]

And so would the expectation be that total SG&A, R&D spend could be less in the second half than it was in the first half? Given the bonus accrual adjustment?

[Richard Sheffer:]

The R&D should be down. The comp, as we've talked about the prior two quarters, is expected to be a headwind for the year. It hasn't been as big a headwind in the first half. It will be a bigger headwind in the second half.

[Jon Fisher:]

And then, one more question on the spending side. If you look at the CapEx guidance and you look at what you've spent so far in the first half, why the significant jump in CapEx spend in the second half of the year?

[Haresh Shah:]

I think that if you look at the where we are, we're about $8 million and we are ahead of where we were last year. So we have continued spending on new product innovation, on other areas. So I think we expect to see that pick up consistent with last year. We're being very selective on the projects that we spend money on. So we have the dollars and we do anticipate being in that range.

[Josef Matosevic:]

John, I mean both questions kind of go hand-in-hand. And I think what I want to point out here is that we have a tremendous amount of interest here in terms of our new innovations. And we are actively sitting down and trying to decide where do we want to invest our dollars, what talent do we need to help us launch those products even faster and quicker and more efficient. So are we going to see a decrease on the SG&A? This will be determined by the investment portfolio we're going to have here with the new incoming customers and the strong appetite for our new products. So that's what you're seeing and that's why you cannot get a clear answer, if that makes sense?

[Jon Fisher:]

Okay, thank you. And then just one last question on free cash flow, a strong quarter for free cash flow. Is this the kind of free cash flow performance that you expect from the business go forward or should we be looking for a stronger free cash flow even out of the business?

[Haresh Shah:]

When we look at – especially on the comps, you look at last year, the majority of our cash flow last year was in – free cash flow was in the second half. In fact, first half of 2016, we were negative, as we are now slightly. So we do expect that to turn around in the second half based on the way the business trends.

[Jon Fisher:]

Okay, great. Thank you.

[Operator:]

[Operator Instructions] And your next question comes from Mig Dobre with Baird. Please go head. Your line is open.

[Mircea Dobre:]

Hi, thanks. Thanks for taking my follow up. I promise no more modeling questions. I wanted to ask a little bit about fitKitchen and this whole concept of full system sales. You've been doing this for a while now. You've got, as you mentioned, more than 12 customers seriously evaluating this concept. And I'm wondering, can you give us a sense for what the feedback has been on the part of customers? And I'm specifically looking for some color on what they perceive to be the value proposition of this concept? Does it have to do with equipment integration? Does it have to do with just the economics of buying more from one supplier? Or is it servicing? How is this playing out?

[Hubertus Muehlhaeuser:]

It really cuts across, I must tell you. I mean, if you look at fitKitchen and we're purposefully not carving it out, how many sales it is, it has three elements to it. One is the element of the process flow, and that process flow, of course, helps to decrease in the footprint. The second one is the automation. That helps to decrease footprint and takes labor out of the kitchen. And the third one is the connectivity aspect, and that's, by the way, the most interesting aspect. And that's going to help to further decrease cost. And if you take all these items together, it's the total cost of ownership. So if you plan a system kitchen versus individual components the total cost of your kitchen, the total cost of ownership is going to come down. And this is not rocket science. This is nothing that we have invented. As we always said, a kitchen is nothing else, but a manufacturing site, and if you look at what happened with Industry 4.0 over in Europe or the Internet of Things, this is a natural evolution. And we talked about it for a long time. And the kitchen operators have not been receptive to it, but this has changed right now. And they just see the benefits. And the second thing is – and that's the unique thing that we have with our customer center here in New Port Richey. If we get those large QSRs, their top team here to visit us, they really see in life and in practice what it does and how much they can save their costs. And that's the reason why we think the market is ripe for those solutions right now. And in all honesty, if you listen to the calls of our competitors, you will hear now exactly the same things. However, they are limited, because they don't have a full product line. You need a full product line to provide a system. And secondly, they are not organized in order to respond to those requests. And we have this integrated R&D backbone. We have a Rick Caron, which is brilliant, because I mean – I know you mentioned him or met him several times. I mean, he's really somebody that can bring it home when a request for proposal comes. So I think those organizational effects jointly with – this is a consistent message that we're sending out for many years right now, this is finally hitting the road right now and is helping us with our sales.

[Haresh Shah:]

Yes, I would just emphasize the last part of what Hubertus said in that we see the industry going here with the total cost of ownership, with the connectivity. So the advantage – and we see all of the industry moving there in service – in terms of the providers and the kitchen equipment suppliers. But we do, because of the way we structured and we've reorganized over the last couple of years, we have first mover advantage here.

[Mircea Dobre:]

On this connectivity point, are we going to go toward some sort of an open-source format? Or do you really have kind of some – an ecosystem that you're building essentially for your type of product?

[Hubertus Muehlhaeuser:]

It's going to be open source, it's not going to be a closed system and we also said this – I mean, we can just look what happened in other industries, take the ag industry a couple of years ago, John Deere was trying to basically create a closed system and they stopped it, so we want to stay open. And then, this is also out of a necessity because, I mean, we have a lot of interfaces because some of the operators have their own unique systems. Some work with outsourced parties. And so therefore, all our solutions that we're bringing to the market right now are really so that we can build interfaces to other existing solutions. And we also don't force our customers to only buy our equipment. So when we talk about a fitKitchen system solutions, we don't target 100% market share in that kitchen. We're happy with 60%, 70% and if a customer wants to still work with this and that manufacture, fine, we're just linking them in. And we are in the very early stages of that journey. So it's very interesting and we can take the learnings that we've seen in other industries to basically apply here. And perhaps also, do not some of the mistakes that some other industries did.

[Mircea Dobre:]

That's great. Lastly, I want to go back to the cold side. And I'm trying to figure out maybe the discrepancy between cold side and the hot side. Is there something specifically that's driving growth there? I guess, I'm wondering, maybe we're seeing something outside of the traditional restaurant channels, maybe hotels or lodging or something else that could be driving demand, I don't know if there's anything you can comment there?

[Hubertus Muehlhaeuser:]

Well, one is that we – it's the seasonality, obviously. And the second thing is, of course, we don't disclose the margin differences between the cold and the hot side. Only that the cold side tends to be a bit less profitable than the hot side, and I think that's what you're seeing right now. So it's seasonality and it's also very strong product performance because I mean, there's just been recent studies published where you basically take Manitowoc ice machines and they're just performing significantly better, their total cost of ownership is better than those of our competitors. Cleanability is there, reliability is there. And if you talk to some of the hotel operators, sometimes if you have a rundown hotel, the only money you're going to get is for the ice machines that are on every floor and those are Manitowoc ice machines. So it's a very, very strong product and that's the reason why we increased our share, so we shouldn't be sorry about that.

[Mircea Dobre:]

Okay, thank you Hubertus. End of Q&A

[Operator:]

There are no further questions at this time. I will turn the call back over to Rich.

[Richard Sheffer:]

Thanks, Julie. This concludes today's 2017 second quarter earnings call. Thanks, again, for joining us this morning, and have a great day.

[Operator:]

This concludes today's conference call. You may now disconnect.