WESCO International, Inc.
Q3 2017 Earnings Call Transcript

Published:

  • Operator:
    Good day. And welcome to the WESCO Third Quarter 2017 Earnings Conference Call and Webcast. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Mary Ann Bell, Vice President, Investor Relations. Please go ahead.
  • Mary Ann Bell:
    Thank you, Galley, and good morning, ladies and gentlemen. Thank you for joining us for WESCO International conference call to review our third quarter financial results. Joining me on today’s call are John Engel, Chairman, President and CEO; and Dave Schulz, Senior Vice President and Chief Financial Officer. This conference call includes forward-looking statements, and therefore, actual results may differ materially from expectations. For additional information on WESCO International, please refer to the company’s SEC filings, including the risk factors described therein. The following presentation includes a discussion of certain non-GAAP financial measures. Information required by Regulation G of the Exchange Act with respect to such non-GAAP financial measures can be obtained via WESCO’s website at wesco.com. Means to access this conference call via webcast was disclosed in the press release and was posted on our corporate website. Replays of this conference call will be archived and available for the next seven days. With that, I would now like to turn the call over to John Engel.
  • John Engel:
    Thank you, Mary Ann. Good morning, everyone, and thank you for joining us today. I am pleased to take you through our third quarter results in which all end markets and geographies posted sales growth versus last year. Business conditions improved in the quarter, reflecting strengthening end markets, better sales execution and positive pricing for the first time since 2014. We ended the quarter with our backlog virtually intact from the previous quarter, which is better than typical seasonality. Now let’s turn to page three. Our third quarter results exceeded our expectations, marking our highest sales growth rate in over five years. Organic sales were up 9%, despite the unstable impact of a large utility contract we did not renew last year. Sequentially, organic sales grew 5%. We estimate that incremental hurricane-related sales added less than 1 point of sales growth. Our sales were consistently strong in each month of the quarter, with July up 8%, August up 8% and September up 10%. Our positive sales momentum has continued into October, reflecting high single-digit sales growth with a few days left in the month and our book-to-bill ratio continues to track above 1.0. Now let’s turn to our end markets, starting out on page four. Our industrial sales were up 11% organically, including 5% growth in the U.S. and over 20% growth in Canada in local currency. As outlined on this page, this marks our third consecutive quarter of year-over-year improvement. Our positive momentum is driven by broad-based growth across the U.S. and Canada, and sequential sales growth in most of our end market verticals in industrial, including OEM, oil and gas, and metals and mining. Our Global Accounts and Integrated Supply opportunity pipeline and our bidding activity levels remain very healthy, providing a positive set up for 2018. During the quarter, we secured a new global account customer and we’re awarded a multiyear agreement to supply electrical MRO products across multiple plants in North America. Our industrial customers continue to drive for supply chain process improvements, cost savings and supplier consolidation. While they remain focused on managing their cost, they may remain optimistic about their future growth prospects and their capital investment plans. With our extensive portfolio of Supply Chain Solutions, we’re helping our industrial customers reduce their cost, operate more efficiently and better plan and manage their capital projects. Now turning to page five, we returned to growth in construction, with sales up 6% organically, reflecting 5% growth in the U.S. and 6% growth in Canada in local currency. Of note, this is the first quarter of positive organic growth since Q2 of last year. Sales growth was broad-based across both the U.S. and Canada, and resulted from increased business momentum with nonresidential construction and contractor customers. Notably, sales to industrial contractors returned to growth in the third quarter for the first time in more than two years. Backlog was up 7% year-over-year and up 15% since year end. In addition, backlog was flat sequentially in the quarter versus the typical seasonal decline. Our forward-looking market indicators have been mixed of late, we expect continued nonresidential construction growth along with longer term opportunities and infrastructure spending, storm rebuilding and increased capital spending by our customers. Of note, this quarter, we were awarded a contract for LED lighting upgrades for retail locations of a commercial bank across all provinces in Canada. Now moving to page six, our utility business delivered an exceptional quarter. Sales were up 9% organically and were up 18% when excluding the contract that we exited at the end of last year. Growth was driven by expanding our relationships with both our investor-owned utility and our public power customers. Hurricane recovery activities drove $11 million of net incremental sales or 4 points of utility growth in the quarter. I think as you all know, WESCO performed the first responder role with our customers in helping them restore their operations and supply chains. I am very proud of our WESCO team for their dedication, extra effort and resourcefulness in meeting the needs of our customers and our employees before, during and after Hurricanes Harvey, Irma and Maria. Once again, our leading service value proposition is clearly evident when we provide 24.7 support to our customers and their operations. Over the past five years, we’ve established a track record of success in expanding our scope of products and services while creating value for our utility customers and their operations. Going forward, WESCO is well-positioned to benefit from the secular improvement in the housing market, the increasing demand for renewable energy and the continuing consolidation trend within the utility industry. Finally, turning to CIG on page seven, we delivered 9% organic growth in the quarter, with the U.S. up 5% and Canada up over 30% in local currency. Our technical expertise in Supply Chain Solutions are driving positive momentum with our technology customers who rely on WESCO for their data center, broadband and cloud technology products -- projects. We’re also seeing increasing momentum in LED lighting solutions, including retrofits, along with fiber-to-the-x deployments, broadband build-outs and cyber and physical security for critical infrastructure protection. With that, I will now turn the call over to Dave Schulz to provide further details on our third quarter results and our outlook for the fourth quarter and the full year. Dave?
  • Dave Schulz:
    Thank you, John, and good morning, everyone. Moving to page eight, our second quarter outlook was for sales to be up between 2% and 5%. Actual reported sales were up nearly 8% with organic sales growth of 9%, with favorable foreign exchange partly offsetting one fewer workday in the quarter. As John said at the outset, growth was broad-based, with all end markets and geographies posting year-over-year increases in the quarter. This included 6% organic growth in United States, 13% in Canada and nearly 50% in international. Our backlog was flat sequentially from Q2 to Q3, which is better than typical seasonality. Backlog was up 7% versus last year on a constant currency basis and up 15% since year end 2016. Gross margin was 19.3% in the quarter, down 40 basis points versus the prior year, but up 10 basis points sequentially. Gross margin was negatively impacted by significant international sales growth, which carries a lower gross margin rate. Consistent with Q2 and as anticipated in our outlook for the second half, we saw the continuation of lower billing margin relative to the prior year, sequentially billing margins were stable. We are making progress in passing along inflation, as evidenced by favorable pricing of approximately 1% in the quarter. SG&A expenses were $280 million in the third quarter, which was up 10% from last year and up 5% sequentially. Versus prior year, the increase resulted from higher variable compensation expense and higher temporary labor cost to support the surge in demand. Sequentially, operating expense was also impacted by increased sales-related commissions, incentives and other variable costs, including transportation. Additionally, as we foreshadowed in our last earnings call, we invested $1 million in technical sales and operational resources. Operating margin was 4.5%, above the midpoint of our outlook range of 4.2% to 4.6%, down 50 basis points from last year, but up 10 basis points sequentially. With the increases in sales and gross profit for the quarter, operating leverage was impacted by the planned cost of restoring variable compensation compared to the prior year. Adjusting the base period for this expense, we achieved a pull-through of incremental gross profit to EBIT of greater than 50% in the quarter. The effective tax rate for the quarter was 25.5%, below our outlook of approximately 27% and down 250 basis points from last year’s adjusted effective tax rate of 28%. The favorability was driven by discrete items and the mix of income before taxes by country, including relatively stronger performance outside the United States. On the topic of taxes, I’d like to provide some additional perspective on the balance sheet revisions described in this morning’s press release. The condensed consolidated balance sheet as of December 31, 2016, reflects a $46 million revision to income taxes, receivable and payable, with a corresponding offset to stockholders’ equity. Additionally, we reclassified $10 million from goodwill to defer income taxes. These revisions address the cumulative impact of the statements to multiple prior periods. They are considered immaterial to the company’s previously issued annual and interim financial statements. The 10-Q we will issue for the period ended September 30th will also incorporate these balance sheet revisions. Moving to the diluted EPS walk on page nine, we reported adjusted diluted earnings per share of $1.05 in 2016. Recall, this excludes the non-cash impact of the early redemption of the 2029 convertible debenture. The increase to EPS in 2017 versus prior year was primarily driven by higher sales and gross profit, offset by the restoration of variable compensation. Foreign exchange and tax are also favorable, and share count contributed $0.04 to EPS, primarily resulting from share repurchases in the second and third quarters of this year. Moving to page 10, year-to-date free cash flow was $65 million or 46% of net income. As was also the case last quarter, the decrease in free cash flow versus the prior year is principally due to strong sales growth and the resulting impact to accounts receivable. Working capital performance at the end of the third quarter improved by a day compared to the prior year period and is essentially flat sequentially. Given the profile of our sales outlook for the fourth quarter, we expect our accounts receivable balance will moderate and we still expect to deliver full year free cash flow of at least 90% of net income. Our debt leverage ratio is 3.7 times trailing 12-month EBITDA, including $50 million spent to repurchase shares in August. In Q4, we expect to reduce our debt and return within the target range. Year-to-date, we have repurchased $100 million of shares outstanding. Leverage net of cash was 3.4 times EBITDA. We maintained strong liquidity to find this available cash plus committed borrowing capacity of $742 million at the end of the quarter. Interest expense in the third quarter was $17 million and our weighted average borrowing rate for the quarter was 4.2%, consistent with historical averages. We believe our debt is appropriately balanced between fixed rate and variable rate instruments. Capital expenditures were $6 million in the third quarter and $16 million year-to-date. WESCO has a history of generating strong free cash flow throughout the entire business cycle and we expect this to continue. Our capital allocation priorities remain consistent. The first priority is to invest cash in organic growth initiatives and accretive acquisitions to strengthen and profitably grow our business. Second, we target a financial leverage ratio of between 2 times and 3.5 times EBITDA. Third, we return cash to shareholders through share repurchase and currently have $50 million remaining in our existing share buyback authorization to do so. Now let’s turn to our outlook for the fourth quarter and full year 2017 on slide 11. Starting with our current full year outlook in the center column, we are narrowing and raising the midpoint of our expected sales growth to up 3% or 4%. This reflects our expectation of continued sales growth in the fourth quarter. We are maintaining the operating margin outlook of 4.1% to 4.3% that we provided last quarter and with it, our expectation that second half gross margin will be roughly equal to the first half. We’ve plan to continue to invest in technical, sales and operational resources, as outlined on our last earnings call. We have slightly decreased our effective tax rate to approximately 26%, largely to reflect third quarter favorability. Absent discrete items, our effective tax rate remains approximately 29% to 30% going forward. We expect average shares outstanding of approximately 48.3 million for the year. As a result of these adjustments, we have narrowed and raised the midpoint of our EPS range to $3.75 to $3.95. As I mentioned, we expect a strong fourth quarter cash flow performance and full year free cash flow of at least 90% of net income. For the fourth quarter, we expect sales growth of 5% to 8%, reflecting seasonality and slightly more difficult comparisons and operating margin of 3.9% to 4.3%. We expect the fourth quarter effective tax rate to be approximately 27%. With that, we’ll open up the call to your questions.
  • Operator:
    [Operator Instructions] The first question comes from Mr. Matt Duncan from Stephens. Please go ahead.
  • Matt Duncan:
    Hi. Good morning, guys. Congrats on a nice quarter.
  • John Engel:
    Thank you, Matt. Good morning.
  • Matt Duncan:
    So just to start and you guys talked a little bit about this in your prepared comments, but you’ve always had very excellent sales growth and nice acceleration in the quarter, which was good to see. But the SG&A leverage, the operating leverage maybe wasn’t quite as good as I think some people may have thought it could have been on that type of revenue growth, maybe you could tell us how much temp expense you had to add to support that sort of very rapid topline acceleration, were there any temporary costs associated with responding to the hurricanes? And how should we think about operating profit pull-through as we look out in the next year, 50% still a good number?
  • John Engel:
    Yeah. If you look, our operating profit pull-through construct remains 50%, Matt, no change. We talked about that at Investor Day as we provided our long-term and I’ll call it, investor thesis for the company. So, absolutely remains intact and we’re -- we feel -- we are highly confident in the operating pull-through characteristics of the business. Dave mentioned the year-over-year pull-through and what it would be if we adjusted for the variable compensation, which is restored/reset in the quarter. So, again, I think the model is working. With respect to some increased cost to support the demand, as well as the natural disasters. I think, you’ve got to put this in the context of we’ve come out of 2015, 2016 and the first quarter of 2017, where we had declining sales, we were working on taking costs out of our business, as you know. In the second quarter of this year, we got to return to growth, but it was a very low growth rate. Our expectation coming into the quarter and at the last earnings call, our July growth rate at that point was 5%. And so we had this very sharp inflection up as, at the -- finishing with July and that momentum strength has just continued very strongly through the third quarter and so far at this point in the fourth quarter. Business inflected up and this was irrespective of the hurricane. So we had some particular really strong growth in industrial, as you see, accelerating momentum gets to double-digit and with some OEM customers, real strong step up in growth that required us to add some additional resources in the form of temps. And then you had the hurricane response efforts that were -- we had two hurricanes right on the -- in succession. And then, obviously, the Maria impact, there may be some incremental opportunities going forward as well. So, I think, that’s -- it’s very clear to see that we had to respond quickly. When you have to respond quickly, we’re not going to compromise the customer service and support, key to our value prop. The way you do that is through marshaling the resources you have, repositioning and paying overtime, as well as driving some temps there.
  • Matt Duncan:
    Understood. That helps a lot. And then the second question I’ve got is Canada, look, you guys are doing really well there, a very big increase in sales growth, especially in industrial and CIG. What is driving the strength that you guys are seeing in Canada, it seems to me like you must be taking share, talk about the successes that you’re having there and how sustainable is it?
  • John Engel:
    I am very pleased with the quality and the strength and -- of the execution of our Canadian team. The results are broad-based and that’s what I think is most encouraging. The majority of our regions grew in the third quarter versus prior year, both on the WESCO side and the EECOL side, and so I’d say that’s encouraging. Now I think if you put it into context, the Canadian economy is performing stronger than many economists thought if you were to set the clock back a year ago. So that -- there is a little incremental help there, but let’s be clear, where oil prices are, we’ve not seen a pickup as of yet, any material pickup in terms of the project business is driven by the oil and gas out in the western provinces and we’ve been focused on the MRO and any smaller projects supporting maintenance and turnaround. So when you look at the underlying drivers, economy is doing a little bit better than any, I think, most people thought a year ago, our execution has clearly stepped up and it’s broad-based. So we’re really encouraged by that. Backlog remains very healthy, and I think, that’s a very important point. And the only other point I will make is that, the other data point I’ll give you. Our industrial capacity utilization for the overall industry in Canada, that’s at 85%. I think it’s a number that not many people pay attention to, because we’re so U.S. focused a lot of times in our discussion, but that gives you some sense of kind of the strength of the industrial side of the Canadian economy, which again is very different than the U.S., it’s not as strong and as diverse, but nevertheless, we’re positioned to support that nicely. And finally, we haven’t seen really meaningful growth impact from the government’s budget that they talked about increased infrastructure spending. We’ve always maintained a position that would support 2018 and beyond. So, all in, I think, that team, Nelson Squires and that team in Canada doing a terrific job, we’re very pleased.
  • Matt Duncan:
    Right. Thanks, John. Appreciate it. Congrats again.
  • John Engel:
    Yeah.
  • Operator:
    The next question comes from Mr. Steve Tusa from JP Morgan. Please go ahead.
  • Steve Tusa:
    Hey, guys. Good morning.
  • John Engel:
    Good morning, Steve.
  • Dave Schulz:
    Hi.
  • Steve Tusa:
    What’s a -- can you just give us a little more color around what’s going on the utility front, I know there are some moving parts this quarter, but just curious as to what you’re seeing on the kind of underlying there outside of the storms?
  • John Engel:
    Yeah. Great question, Steve. Well, I -- from -- maybe start with our performance. I think we had and -- I don’t think I’ve ever really used this word, as I recall, exceptional performance. We -- I think we had exceptional performance in the third quarter in utility. We had growth with both our investor-owned utility customers and that’s even with keeping in the base the contract, the $100 million contract we walked away from and we had double-digit growth with public power customers. So when you look at our growth, it wasn’t the result of any meaningful new customer win. It’s the result, I think, we’re seeing the strength of our value proposition. It’s increasing the scope of supply and supporting the growth of our customers, but while expanding our scope as well. The hurricane sales, as I mentioned in my comments, represented only 4 points of growth. So it’s meaningful, but even if we adjust for that, we’re up double digits ex the contract last year and we’re also growing even if you include that in the base. So I think very strong, I would tell you, in terms of geography, pretty balanced and broad-based. And the only other comment I would make is when there is, when there is -- we did have these two hurricanes and they did occur in September. So we’ve -- again spiked out the growth that we saw from that. But when that happens, there are other utilities that are called on, that are not in that specific region and they deploy crews to help out the effective utilities in that region. So even given that with other customers -- utility customer, we have very strong national utility customer base across the U.S., even with that, we didn’t see any material impact in terms of those customers and the spend patterns with them and what we’re doing with them, which I think is just a very notable point, because as evidenced, again, by our growth IOU and public power at double-digit levels.
  • Steve Tusa:
    Great color.
  • John Engel:
    That helped?
  • Steve Tusa:
    Oh! Yeah. Absolutely. It was even better answer than my question. So I appreciate that.
  • John Engel:
    Okay.
  • Steve Tusa:
    On the gross margin, just as a follow-up, how do you guys see that trending over the next several quarters, I know that most of the distributors here have been seeing these -- gross margins fade a bit, while volumes come back? Does that turn at all here in the next several quarters with inflation or is this kind of just a new normal?
  • John Engel:
    Yeah. So, I’ll answer by addressing two factors. First, supplier price increases, we have visibility into what’s planned through Q4 and we’re starting to get visibility into what they’re thinking about in terms of the first part of 2018. And I would say, in terms of the number of price increases and the magnitude of those price increases, it’s not out of historical norms, relative to the cycle we’re in and the phase of the cycle we’re seeing industrial pickup, right, and so we’re starting to see some improving customer and economic conditions, and so therefore, the price increases we’re seeing that are planned by suppliers in Q4 are in a 2% of 5% range. So, I think, again, consistent with what you’d see at this phase of this cycle, I will tell you the competitive environment, the pricing environment is as competitive as ever. That has not subsided at this point versus a quarter ago, two quarters ago, three quarters ago and the conditions we’re facing in 2016. From a WESCO perspective, I am encouraged that we’re starting to make some traction and some progress. It’s early, but initial progress is encouraging and I think it’s best measured by margins aren’t stepping down sequentially, margins stepped up a little bit sequentially. As Dave mentioned in his comments, gross margins are up 10 basis points sequentially Q2 to Q3 and that’s with some big utility and international growth, right. And secondly, billing margins, as Dave mentioned, are flat sequentially/stable. So I think that, I am encouraged that, we’ve been working really hard at this a long time. You look at where we are in the cycle and typically the lag for distribution, it’s playing out as we thought. It’s, again, early days, but getting 1 point of price in this quarter, we haven’t gotten price for couple of years, right. It goes back to 2014. So, I think, again, we’re encouraged by that, but it’s very early days.
  • Steve Tusa:
    Great. Thanks a lot and congrats on a very good volume quarter.
  • John Engel:
    Thank you.
  • Operator:
    The next question comes from Mr. Deane Dray from RBC Capital Markets. Please go ahead.
  • Deane Dray:
    Thank you. Good morning, everyone.
  • John Engel:
    Good morning, Deane.
  • Dave Schulz:
    Good morning, Deane.
  • Deane Dray:
    Hey. Just a follow-up on Steve’s line of questions on margin, just to focus on the operating margin guidance and make sure I understand the moving parts here. So you’ve increased the sales guidance outlook, but kept operating margin the same and Dave touched on the technical sales increase that you, is that account for the difference here or is there anything else that might be pressuring margins while you’re getting this uplift in volume?
  • Dave Schulz:
    Deane, good morning. So as we mentioned on the call, we do anticipate that the back half gross margins will be relatively consistent with the front half. As you think about SG&A relative to the prior year, we did have in the prior year an absence of some of the incentive compensation that we’re restoring, similar to what we just mentioned for Q3. We do have some minor investments that we’re expecting here in Q4, but we wouldn’t say that they’re meaningfully different sequentially.
  • Deane Dray:
    Just on that point on adding the technical sales, is this adding back capacity and capabilities that you had before that you may have trimmed or does this establish some new areas of expertise, given the kinds of product lines that you’ve expand in the past couple of years?
  • John Engel:
    Excellent question, Deane. I would say that we added upwards of roughly 50 people sequentially as we kind of moved through the quarter. And when you look at where they are, they’re technical, they’re sales, some operations, but focused on the opportunities and the growth engines we laid out in Investor Day. There are some specific parts of the business, the one I spiked out earlier in the comment on driving the growth momentum, industrial stepping up strongly. And in our OEM business, some of those OEM businesses required some additional headcount with just really strong spike in demand and volume growth, to call out one particular area, but to think about that is kind of sizing the capacity to this very strong spike in demand. Put that aside, the rest of the incremental additions are really focused on our growth areas that we laid out in Investor Day. We continue to look at adding some technical resources into our lighting solutions and some of our other product categories that we think we have good growth in, as well as services.
  • Deane Dray:
    Hey. Just last question from me, Dave, when I hear comments like the strong spike in demand, it raises the question about supplier rebates and are we -- is it too soon to ask about them, but where might that be playing out if we see this momentum on the sales side?
  • Dave Schulz:
    Yeah. So, I think, again, I think, the -- ultimately with supplier rebates, there is two factors that determine what the total supplier volume rebates are for a given year, right. First is, overall, our purchase volumes, but then it’s heavily driven by mix. And so you’ve got to look at the mix by supplier and then certain product categories have unique supplier volume rebate curves based upon what’s been -- what’s very important to that supplier that we agree on that we’re going to disproportionately try to drive growth in certain portions of that portfolio for each category that, that supplier has. So the mix is a highly determining factor in terms of overall SVR, obviously, with the step up in volume growth. Look we built the year, when we built our original plan for the year in our outlook for 2017. We had a topline range of zero to 4%. Here we sit after three quarters and now we’re saying the topline is 3% of 4%. So we always expected a two-speed year. We had a flattish kind of first half all in when you look at it, now we’re inflecting back the growth. We’re really encouraged with the step up in growth and I think it’s going to be a function, Deane, of what -- how Q4 ends up and what the mix of Q4 is kind of the sub-product category level.
  • Deane Dray:
    That’s helpful. Thank you.
  • John Engel:
    Great.
  • Operator:
    The next question comes from Mr. Hamzah Mazari from Macquarie. Please go ahead.
  • Kayvan Rahbar:
    Hi. This is Kayvan filling in for Hamzah. Can you give us an update on your lighting exposure and give us a sense of which areas you may be seeing growth, especially in regards to pricing pressure in these markets?
  • John Engel:
    Yeah. So we include in our webcast materials, in the appendix, you’ll see our total sales mix by end market and by product category and that’s in a latter part of the -- of our materials. You can see where lighting is. We’re running it at a double-digit rate. It’s typically been running 11% or 12% of our portfolio and so that’s in terms of overall mix. So what are we seeing in terms of trend, our lighting sales grew in the third quarter and we’re pleased with that. I think that doesn’t tell the whole story, though. I think what’s really important is understanding the mix of lighting. So what we’re seeing with retrofit, renovation and the upgrade portion of our business, that’s growing at a much higher rate and that’s at a double-digit rate and we have a very strong pipeline of opportunities. And we have a legacy lamp business as well and not all distributors have that in the mix to the degree that we have, but we have a legacy lamp business that goes back and we have a number of national account customers that we continue to try to transition off that legacy lamp business, but that legacy lamp business is declining at a very high growth rate, and you’ve seen all the market data on that. So that’s what’s happening mix wise. We’re seeing real strong growth in the retrofit, renovation, upgrade business, legacy lamps are declining and construction, you saw kind of an overall return to growth in the quarter. So that’s the mix. In terms of LED mix, we’re very consistent with our -- we kind of match our suppliers, so there is no mismatch there, LEDs are over half of our mix and growing at a much higher rate. Again, the offset there is that legacy lamp business. So I think the nature of lighting is changing, right, because the price performance curve, given that it’s LED-driven applications and more system solutions, the price performance curve is more of semiconductor like versus the prior priced, cost dynamics in the traditional lighting business over the decades. So that’s -- and we’re continuing -- that continues to play out, that’s not changed. So what does that mean? There’s better LED products coming out consistently with better performance parameters at lower cost. I think we’re doing a very good job of kind of managing that. We’re taking very much systems, solution customer application-specific approach on selling the complete lighting package as a solution.
  • Kayvan Rahbar:
    Thanks, John. And then, maybe a quick follow-up slightly related is, can we also get an update of how much -- how -- what portion of your businesses has a service component and whether that’s evolving or changing, do you guys think it’s maxed out or can it be a larger part of the portfolio?
  • John Engel:
    Yeah. So, I think, look, I -- that’s something we’ll provide updates on more of an annual basis. We -- this past Investor Day, we really spent a lot of time and a lot of material was focused on outlining the service value proposition we provided to customers, the range of services we provide and we mentioned, there’s over 50 plus kind of bundled solutions in the form of services for customers. We also mentioned that we have a significant opportunity to improve the pricing, getting a value for that and margins over the mid to long-term. And so I think that is central to the WESCO value proposition for customers, and it’s something we’re very focused on strengthening and even helping convince customers and helping them understand the value we’re truly delivering, so we can price better over the long run. So we don’t -- it’s not something that we update quarter-to-quarter, but that’s something we’ll update on at least once a year basis.
  • Kayvan Rahbar:
    Okay. Thank you so much.
  • John Engel:
    Yeah.
  • Operator:
    Next question comes from Mr. Luke Junk from Baird. Please go ahead.
  • Luke Junk:
    Yeah. First question is, preliminarily looking out into next year, John, just with an eye towards the 50% pull-through margin target. Just curious what your ability or maybe more importantly your desire to invest incrementally in the business is looking into next year?
  • John Engel:
    So we haven’t provided any frame -- any specific outlook for 2018 yet. Luke, I think that, again, we are -- what I’d point you to is our longer-term investment thesis, our operating profit framework that we outlined at Investor Day. That’s intact when we think across a multiple year period. Look, we are -- we sit here at the end of Q3, the beginning of Q4, we did expect a return to growth. The return to growth has occurred. It’s happening at a faster rate than we thought. I think markets have improved somewhat, but we are also have -- we also feel very good about our improving sales execution. Made a comment about margins, I think, costs are still under control. We had to lay in some incremental costs to support the demand step up, as well as some incremental investments. They’re all very measured at this point. That’s our current operating modus operandi let’s say as we go forward. We’ll take a look at 2018 in total. We’re going through that process. Now we’ve just begun it quite frankly. As I say, just begun it, literally this week we will start kind of our operating plan development process for 2018 with our -- with all the parts of our business and our business leaders and we’ll get a sense of where we think markets are, our topline. We are clearly thinking about 2018, and we’ve got to ensure that we have a good pull-through on the growth. And then also, what additional traction can we get from our margin improvement initiatives. So I think those are the variables that will determine how much we can afford to invest. But it’s going to be completely a function of our confidence around what topline growth we can build and what we do with margins.
  • Luke Junk:
    And that’s really helpful. Follow-up question just in terms of gross margins in the second half, Dave, your comment that the gross margins should be roughly equal to first half, by my math, that implies, obviously, fourth quarter gross margin up a little bit more sequentially than the 10 basis improvement that we saw in the third quarter here, just how should we think about the moving pieces there that out in net -- net out a little bit faster ramp?
  • Dave Schulz:
    Luke, good morning. We provided you some perspective on the gross margins, which we generally don’t provide any guidance on just given the performance that we saw in Q2. And what we saw in Q3, like we said, we believe that the front half, back half gross margins will be roughly the same. obviously there are several factors that will impact that similar to what we saw in Q3 where we had a mix impact due to the growth in the businesses. We will incorporated that into how we think about the guidance going forward at the operating margin level.
  • Luke Junk:
    Okay. That’s fair. Thank you.
  • Operator:
    The next question comes from Mr. Ryan Cieslak from Northcoast Research. Please go ahead.
  • Ryan Cieslak:
    Hey. Good morning, guys.
  • John Engel:
    Good morning, Ryan.
  • Ryan Cieslak:
    John, I guess, the first question I had is going back to pricing. Good to see you turn positive here up 1% for you guys. How do we think about the contribution for pricing going into the fourth quarter, maybe even into early 2018, it sounds like you’re continuing to see supplier price increases come through. So just directionally, how do we think about pricing contribution going forward?
  • John Engel:
    Yeah. So, again, I would tell you, we don’t forward project or forecast price, never have, we’re not going to start now on this call. With that said, I think, if you kind of rewind on the comments I made earlier around the cycle and what’s occurring, I do think that the industrial market has improved, the utility market remained solid in the third quarter, as we talked earlier. Construction is -- residential construction is still growing and nonresidential some of the leading indicators are volatile and mix, but it’s still overall in a growth trajectory and CIG is a series of -- is a collection of many different things. So we’ve got this improving momentum, let’s say, the markets have improved a bit. I think our execution is clearly improving in the face of improving markets. So we’re getting that commoditorial effect and really it’s going to be a function, Ryan, of are our customers now shifting and starting to chase the demand on that side of their business, because they’ve been very focused on the supply side and demand hasn’t been pulling on them real hard, right. So they’ve been focused on the supply side, squeezing, looking for cost savings and productivity. We began to see some relaxation from our industrial customers on their hold on some of the small or medium-size projects, that’s encouraging. Our customers are telling us, they have very strong backlogs. So that will pay out as a positive -- potential positive effect. So I think what -- from our perspective we’re seeing the cycle kind of work as it has in the past. It’s very price competitive. But we’re seeing as it improves, we’re seeing it kind of happen as it has in the past and there is a delay in our ability to push it through. Again, this is the first quarter we’re able to get positive price in a few years. So, it’s a start, but it is indicative of a start of a trend, assuming the end markets continue to perform favorably, and obviously, we’re focused continuing on -- continuing to drive our strong execution.
  • Ryan Cieslak:
    Okay. Great. And then just for my follow-up, are you still seeing any benefit from the initial hurricane relief sales on the utility business here into the fourth quarter? And then how do we think about maybe some of the longer cycle reconstruction activity maybe as it relates, do you see an impact in your construction business or elsewhere going forward? Thanks.
  • John Engel:
    Yeah. Excellent question. Nothing material in terms of the incremental benefit in the fourth quarter thus far. So we saw the real surge. It happens quick. We’re first responders. So we preplan, we prepare, we start setting up literally 24.7 support with our utility customers, we’re moving our own resources, we work with our supplier partners and then we’re providing supplies, in some cases it supplies we’ve never provided before. And so literally to our customers and we’re working side-by-side with them. So, that surge all kind of occurs right in anticipation of during and right after the storm and so we saw the majority of that in September. In terms of the rebuild, you have it right, and if you look at past storms as an indicator, that rebuild can occur in months, quarters, years or never. And the two storms we experienced in the U.S. were different. So Harvey was much more -- the result of Harvey was significant flooding, electrical equipment doesn’t like flooding. So a number of our customers are going through assessments and they’re making determinations of what needs to be upgraded and changed. And again, that’s a decision-making process. It doesn’t happen just in the first month or two after the storm. So that has some potential for 2018 and then when you look at Irma that was a much more wind driven in terms of wind damage and such. So, again, there’s a surge of sales initially, but then what has to be rebuilt, so I think you’ve got it right. Your question is spot on. In terms of the rebuild, we don’t expect anything meaningful in Q4. We could get surprised. But I think it becomes more of a 2018 opportunity.
  • Ryan Cieslak:
    Okay. Thanks, guys. Best of luck.
  • John Engel:
    Yeah.
  • Dave Schulz:
    Thank you.
  • Operator:
    The next question comes from Mr. Robert Barry from Susquehanna. Please go ahead.
  • Robert Barry:
    Hey, everyone. Good morning.
  • Dave Schulz:
    Good morning.
  • John Engel:
    Good morning, Rob.
  • Robert Barry:
    So a question on the variable comp, is this the first quarter you saw that really step up and then should we assume the headwind you saw this quarter needs to annualize over the next three quarters?
  • Dave Schulz:
    Rob, good morning. It’s Dave Schulz.
  • Robert Barry:
    Okay.
  • Dave Schulz:
    So as you’ve of implied, this is the first quarter where we saw a substantial sequential increase in the variable comp, driven by a couple of factors. First, obviously the strong growth that we saw in the quarter, so related to sales, sales incentives, other variable compensation programs, we have had to recognize that appropriately. And again, if you go back to our base periods in 2016 where we did not have the same expenses for variable comp and similar to what we said during our 2017 outlook call back in December, we did highlight that we would have these headwinds for 2017. You’re seeing that play through here in Q3. We expect that will continue into Q4.
  • Robert Barry:
    And then into the first half of next year?
  • Dave Schulz:
    We’ve not provided any of the specifics about next year, but we’ll provide you more details about that on our outlook call.
  • Robert Barry:
    Got you. And then, I did want to just understand better what was driving the year-over-year declining gross margin. I mean, given we’re seeing price up and growth in more mix positive areas of the business, industrial in Canada, both well above average. I know you called out the international mix, but that’s just a small piece of the business. I mean anything else notable kind of driving that decline?
  • Dave Schulz:
    Rob, as we mentioned in our prepared remarks, we’re seeing the same issues relative to billing margin versus the previous year. So as we said in Q2, we’ve just seen a very competitive environment out there that’s been impacting our ability to pass through some of the cost increases from suppliers through to our customers. We mentioned that billing margins sequentially have been stable, but again versus the prior year we’ve seen that competitive dynamic playing out.
  • Robert Barry:
    Got you. Got you. And then maybe just a last quick one on the end markets, within construction, I know that there’s the piece that’s industrial related. Can you comment on just how that part within construction is looking, any improvement there?
  • John Engel:
    Yeah. And I mentioned, Rob, you may have missed it. So that was part of our prepared remarks. That -- we had growth in construction to those industrial -oriented contractors and that’s the first time we’ve had growth through them in a couple of years.
  • Robert Barry:
    Okay.
  • John Engel:
    And that’s very noticeable.
  • Robert Barry:
    Yeah.
  • John Engel:
    And so I think that’s, we had been getting growth in the other segments ex them, right, the last number of quarters and we’ve been spiking that out. But I think that’s the notable change, and again, we’re very pleased with the return to growth overall in construction. That was part -- that was one of the drivers. The other driver I will mention and I made it kind of amplify this comment. The growth we’re seeing in construction is relatively broad-based across both the U.S. and Canada, and I made that comment earlier. The majority of our regions in both the U.S. and Canada had growth in construction. So I think that’s also a good indicator in terms of the overall construction landscape and kind of the breadth of the growth.
  • Robert Barry:
    Got it. Thank you.
  • John Engel:
    Yeah.
  • Operator:
    The next question comes from Mr. Chris Dankert from Longbow Research. Please go ahead.
  • Josh Nelsen:
    Hi, guys. It’s actually Josh sitting in for Chris. I just had two quick ones up. First, on construction, you guys seen any enterprise delays out there? And then, lastly, any update on oil and gas, and how that went in the quarter and then the total make up in terms of sales there? Thanks.
  • John Engel:
    Yeah. So in terms of oil and gas, you’ll recall that we mentioned that we went -- after oil and gas being down all of 2015, all of 2016 and in the first quarter of 2017, oil and gas returned to growth in the second quarter of the year, this year and we saw continued growth in Q3. So encouraging and I mentioned that, again, that’s one of the segments we saw growth in industrial, not just year-over-year, but sequentially. Relative to enterprise, our overall communications and security category grew in the quarter. So we’re encouraged by our overall category growth, that being communications and IP security. But I will tell in terms of the overall market, based upon industry and supplier feedback, and this is more probably with respect to the -- to kind of the datacom market, that there is a bit of a choppiness in that market, UTP copper cabling continues to decline, that’s not new, that’s been occurring, as there is a shift to fiber. But more specifically, I would say, we saw more smaller projects and some of the larger projects aren’t moving as fast and certain data center customers, which would include enterprise are assessing what the high speed technology migration and multi-tenant options are. So, I would say, the overall market from our perspective is still a growth market, represents one of our growth engines. But inside the quarter, it’s not unlike what I think occurred even throughout the last couple of quarters. There’s always this assessment of, do I wait for 100 gig, as an example, versus 40 gig and other trade-offs in terms of technology upgrade and refresh for enterprise customers. With that said, the smaller projects are occurring and the shift from copper to fiber is the overall trend that’s still underway and we don’t see that changing at all. That’s going to continue. Okay.
  • Operator:
    The final question comes from Mr. Josh Pokrzywinski from Wolfe Research. Please go ahead.
  • Josh Pokrzywinski:
    Hi. Good morning, guys.
  • Dave Schulz:
    Good morning.
  • John Engel:
    Good morning, Josh.
  • Josh Pokrzywinski:
    Just on some of the gross margins topics you’ve addressed this morning, John, already. I guess, what I’m struggling with is, it seems like even the mix within industrial was going to be an important toggle here and you mentioned the billing margin, still having some competitive cross currents in there. Does it really take the large projects to start pulling that higher, and I guess, as it relates to that, you mentioned there’s always a natural lag, what does that lag look like and does the end of that lag basically culminate with a large project?
  • John Engel:
    Okay. So I don’t want to leave you with the wrong impression. I don’t -- it’s not that the larger projects are required to help drive the gross margins up, not at all. So I don’t -- the range of margin on small versus medium versus large projects, it’s -- they’re highly correlated variables, not size of project to determine margin, it’s not. It’s actually what the mix of products are and how much of the total scope of project management -- construction project management services we’re taking on. That’s the determining factor of margin for projects as opposed to just saying, okay, it’s highly correlated just to the size of the project. So I don’t want leave any, let’s be clear on that. I think it’s much more of a phasing issue, and that’s what I have been saying as we moved through this year. I’ve been very consistent, if you were to go back and look, even if -- even as far back as the second half of last year, it’s going to require a consistent step up in our customers’ demand on that side of their equation. Once that happens, they will be focused on increasing their production rates. It will unlock capital, require capital spending as capacity utilization picks up. That’s what happens and that allows us to more effectively work with our supplier -- manufacturing partners and push those price increases through. They’ve come out of a couple of year period where they haven’t been getting the growth in sales and so they’ve had a lot of focus on the supplier side, the supply chain side of their operations would impact us and our supplier partners and squeezing us for cost and productivity. As we try to move price through, they’re saying no, we’re not seeing a pickup in our demand, we’re not going to take it. So that’s more of the natural cyclicality of how the market works. And I think that’s, we continue to work very hard and this is more WESCO specifically on selling our value proposition, pricing for value versus just saying, oh, it’s cost plus some markup and all the initiatives we’ve been working on, it would give you some insight into over the years, and most recently, at the Investor Day, so we continue to work on that. I think we’re getting -- making some progress and we’re getting some traction on them, as evidenced by this quarter. But it’s the early days. So I would expect again, as I said, I want repeat it, that as the markets continue to improve and if the customer demand is picking up, which we’re seeing, that give -- puts us in a better position to manage these things through in the coming quarters.
  • Josh Pokrzywinski:
    Yeah. I get -- maybe to ask it a little differently or a little more clearly, are you seeing more selling on the MRO side, are you starting to see some of the migration into some chunkier activity where the customer gets busy enough and wants to push more of that scope to you guys, because they don’t have the throughput or the capacity to manage it themselves?
  • John Engel:
    Yeah. So I think on that point, that is irrespective of their -- what their capacity utilization is, we’re trying to sell that value prop, Josh. We’re saying, look, there’s things we can do more efficiently and effectively for you, let us increase our scope of supply and services to you, irrespective of your end market demand. So that’s something we’re working very hard at and I think we’re making progress on that. Specifically to first part of your question, we are seeing the MRO in some of these smaller projects starting to -- the MRO is picking up, industrial is improving in general and the hold even on the smaller projects is starting to be relaxed a bit. So that’s encouraging. It’s an encouraging data point, again, it’s early, but it’s encouraging. And I think, there’s a lot of other, I’d say, overall manufacturing and industrial indicators that would suggest that there is increased optimism, backlogs are strong and activity levels are picking up. So when you think about that as the backdrop, this is what typically happens in the cycle. They’ve been kicking the can on capital spending, clearly, but also some -- they were deferring maintenance projects as well, those that they could, they didn’t present a safety issue. So we’re starting to see that kick in now and that’s a positive indicator, early days.
  • Josh Pokrzywinski:
    Got you. And if I could squeeze one quick one in, can you just remind us or help us on the way supplier volume rebate works through kind of year-to-year when you have an entry year acceleration, I mean, is that something that suppliers start to bake in when they think about ‘18? You’ve already had an inflection in demand, so they kind of annualize the exit of rate or do they -- will you get the benefit of easy comps in the first half when it comes through?
  • John Engel:
    So there’s not, so, I’ll answer it this way and this one we’ve probably given the time, because we’ll take -- we can take offline.
  • Josh Pokrzywinski:
    Yes.
  • John Engel:
    But in general, I would say that with each supplier, we deter -- we develop what the program is with them and we update that and revise it and refine it based upon our mutual goal setting process annually. A part of that relationship, one of the elements is supplier volume rebates. But it’s only one. So, what’s our joint sales plans? How much market development funds and co-op funding is the supplier going to provide to us for our joint marketing efforts, targeting customers that we’re going after in certain segments with joint sales calls, supplier volume rebates? What are the changes of that program in the next year? Based upon that supplier will have goals in terms of what products they want to have -- incentivize us to really push sales growth for, particularly around new product entry or replacement products. We have our own goals. We work through that process. If they’re in our DCs, there’s a redistribution allowance for them being in our DC. So we have a whole series of factors that we work with our suppliers and there’s not one little equation that, okay, there’s the equation for each suppliers. So there’s a lot of complexity around that and that’s true across the industry. It’s not a WESCO specific thing. So we can talk more about that offline, Josh and but at least I wanted to kind of paint the boundary conditions there for you.
  • Josh Pokrzywinski:
    Okay. Thanks, John.
  • John Engel:
    Okay. With that, we’ve gone a little bit over but let me wrap up. Thank you all for your time this morning and your continued support. We look forward to speaking with you again in our 2018 outlook call, and Mary Ann and Dave are around today to take further questions. Have a great day.
  • Operator:
    The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.