Lennox International Q4 2022 Earnings Call Transcript

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Provided by Quartr
January 31, 2023

Key Takeaways

  • Record 4Q revenues of $1.1 B and full-year revenues of $4.7 B, both up 13% YoY, with adjusted EPS of $2.63 in 4Q and $14.07 for the year, setting new company records.
  • Successfully transitioned the product portfolio to meet 2023 minimum efficiency regulations and remain on track for the 2025 low-GWP regulatory transition, positioning Lennox for share gains.
  • Finished goods and raw material inventory were fully replenished to mitigate supply chain disruptions and the Sears transition, leading to 2022 free cash flow of $203 M, below expectations.
  • Maintained 2023 full-year guidance of 0–4% revenue growth and EPS of $14.25–15.25 despite ongoing market uncertainty and anticipated industry unit declines.
  • Commercial segment profit jumped 79% in 4Q with margin expansion as factory staffing normalizes, though output remains roughly 20% below pre-disruption levels with a new facility due in 2024.
AI Generated. May Contain Errors.
Earnings Conference Call
Lennox International Q4 2022
00:00 / 00:00

There are 9 speakers on the call.

Operator

Welcome to the Lennox International 4th Quarter 2022 Earnings Conference Call. All lines are currently in a listen only mode and there will be a question and answer session at the end of the presentation. As a reminder, this call is being recorded. I would now like to turn the conference over to Alok Musgara, CEO, Alok, please go ahead.

Speaker 1

Thank you, Ashley. Good morning and welcome. I hope everyone is having a good start to 2023. It was nice to meet many of you face to face during the Investor Day on December 14. Thanks for attending and sharing your feedback.

Speaker 1

Turning to Slide 2, a reminder that during today's call, We will be making certain forward looking statements that are subject to numerous risks and uncertainties as outlined on this page. Please refer to our SEC filings available on our website for additional details. Before we begin, I want to express my gratitude and appreciation to all of our employees who enabled us to deliver record financial results in 2022. Last year, our dedicated employees improved our customer experience while facing significant supply chain disruptions. This enabled us to reestablish our cadence of gaining residential market share.

Speaker 1

I want to take this opportunity to also thank our dealers and customers for their loyalty to Lennox. We will continue to improve our service levels, while maintaining the best HVACR products and solution in North America, So that we can continue gaining share in the future. Now please turn to Slide 3, where I want to highlight 4 key messages. First, we are proud to report solid 4th quarter results that capped off another record year for Lennox. Q4 revenues of $1,100,000,000 and full year revenues of $4,700,000,000 We're both up 13% year over year.

Speaker 1

Strong price execution and continued volume growth Enabled us to set new records for both quarterly and full year revenues. Q4 adjusted earnings per share Of $2.63 and full year EPS of $14.07 both grew 12%, establishing a new record for full year EPS. 2nd, we successfully transitioned our product portfolio To meet the new minimum regional efficiency regulation that went into effect on January 1, 2023. We believe that our superior design and solid execution has put us in a strong position to win share during and after the transition. 3rd, we ended the year With fully replenished finished goods inventory levels to support our customers through the Sears transition.

Speaker 1

In addition, we are also carrying higher level of raw material safety stock to mitigate the impact of ongoing supply chain disruptions. Given this, our 2022 free cash flow was $203,000,000 which was below our expectations. We are undertaking countermeasures to improve our cash flow forecasting and remain committed to converting 90% to 100% of our net income into free cash over the long term. 4th, our 2023 full year outlook remains unchanged and we still expect revenue growth of 0% to 4% And an EPS range of $14.25 to $15.25 Now please turn to Slide 4 to discuss business updates as a follow-up to our dialogue during the Investor Day. In terms of end market update, as we approach February, our order rates remain consistent with our prior expectations.

Speaker 1

While we are noticing signs of a slowdown, we remain confident in our dealer network's ability to continue driving both replacement And new construction sales, especially as equipment lead times normalize. We do anticipate some channel destocking In our 2 step distribution businesses like Allied Air, ADP and Heatcraft, We are maintaining solid communication with our distribution partners to effectively manage channel inventory levels. In addition to successful execution during this year transition, we are pleased to report that we remain on track To transition our portfolio to comply with the upcoming 2025 low GWP regulation. In terms of other updates on our innovation roadmap, we recently launched our next generation thermostat controller, The Lennox S40, which has built in indoor air quality monitoring capabilities and improved connectivity To further improve the experience of our customers and our dealers, we also continue to make progress on accelerating our heat pump growth And we're the proud recipient of the Good Design Award for our Dave Lennox Signature Series Collection Heat Pump. Switching gears, as part of our commercial recovery effort, the construction of our new commercial factory in Saltillo has started and will be complete by the end of 2024.

Speaker 1

Lastly, on this page, the formal process for divesting our European Assets have started and our internal segment consolidation is complete. We expect to close the European divestiture sometime this year. With that, let me hand the call over to Joe, who will provide you a more detailed view of our financial performance.

Speaker 2

Thank you, Loke. Good morning, everyone. Please turn to Slide 5. Looking at the quarter for Lennox overall, the company posted strong revenue and profit growth. Revenue was a record $1,100,000,000 up 13% as reported and up 14% at constant currency with the growth driven by volume and price.

Speaker 2

Total segment profit increased $30,000,000 or 30% versus prior year as pricing gains more than offset cost inflation and all three segments contributed to profit growth. Total segment margin was 12.1%, up 150 basis points As price gains outpaced cost inflation and commercial margins improved due to higher factory output. GAAP EPS of $2.65 was up 17% and adjusted EPS rose 12% to $2.63 Regarding special items, the company had an $800,000 adjustment for the 4th quarter $6,600,000 for the full year. Corporate expenses were $34,000,000 in the 4th quarter $91,000,000 for the full year. Overall, SG G and A was $155,000,000 in the 4th quarter or 14.2 percent of revenue, down from 15.7% in the prior year quarter.

Speaker 2

And for the full year, SG and A was $627,000,000 or 13.3 percent of revenue, down from 14.3% in the prior year. Our full year 2022 income tax rate was 19.3%, which was up from the 17.2% last year, the result of higher tax benefits from share based compensation and the finalization of our prior year tax obligations with taxing authorities. For 2022, the company generated cash from operations of $302,000,000 compared to $516,000,000 in the prior year. The reduction in cash flow was Primarily due to inventory cost inflation and investments to both minimize supply chain disruptions and prepare for the minimum efficiency regulatory change that took effect January 1, 2023. Capital expenditures were approximately $101,000,000 for the full year compared to $107,000,000 in the prior year.

Speaker 2

Free cash flow was $203,000,000 for the year compared to $410,000,000 in the prior year. In 2022, the company paid approximately $142,000,000 in dividends and repurchased $300,000,000 of the company's stock. Total debt was $1,500,000,000 at the end of the 4th quarter and we ended the year with a debt to EBITDA ratio of 2.1. Cash, cash equivalents and short term investments were $61,000,000 at the end of the year. Moving to the business segments, starting on Slide 6.

Speaker 2

Our Residential segment delivered record 4th quarter revenue and profit. Residential revenue grew 13% to $703,000,000 volume was up 5%, price and mix were up 9% And foreign exchange had a negative 1% impact. Residential segment profit rose 8% to $119,000,000 Segment margin contracted 90 basis points to 16.9%, primarily due to incremental costs associated with supply chain disruptions and the factory changeover for the new 2023 Minimum Efficiency Standard Products. For the full year, Residential segment revenue was a record $3,200,000,000 up 15%. Volume was up 4%, Price was up 11% and product mix was flat for the full year.

Speaker 2

For the full year, Residential profit was a record $597,000,000 up 10%. Segment margin was 18.7%, down 80 basis points, primarily the result of supply chain challenges, which drove manufacturing inefficiencies and unfavorable product mix with reduced production output for higher end products. Now turning to Slide 7 and our commercial business. Revenue was $241,000,000 in the quarter, which was up 19%. Commercial price and mix was up 17%, volume was up 3% and foreign exchange had an unfavorable 1% impact.

Speaker 2

Commercial segment profit was up 79% and segment margin expanded 3.90 basis points to 11.6%. Commercial demand and backlog remains solid and our Arkansas factory recovery is progressing well. Staffing In the plant is at our desired levels with productivity progressing and production output increasing. For the full year, Commercial revenue was $901,000,000 up 4%. Price and mix were up 13% and volume was down 9%.

Speaker 2

For the full year, segment profit was $81,000,000 down 27%. Segment margin was 9%, Down 380 basis points. Looking at our Refrigeration business on Slide 8. Revenue was $150,000,000 for the 4th quarter, up 5% as reported and up 10% at constant currency. Price and mix were up 21%, volume down 11% and foreign exchange had a negative 5% impact.

Speaker 2

Revenue growth was led by our North American business with price and mix, which was up more than 20%. Europe revenue was up 9% as reported and up 22% at constant currency. Overall, the Refrigeration segment profit rose 42% to $19,000,000 and segment margin expanded 3 30 basis points to 12.5%. Refrigeration demand, order rates and backlog remains strong. For the full year, refrigeration revenue $619,000,000 up 12%.

Speaker 2

Volume was up 3%, price and mix was up 14% And foreign exchange had an unfavorable 5% impact. Segment profit was $79,000,000 which was up 60% And segment profit was 12.7 percent, up 3 80 basis points. Turning to Slide 9 for a free cash flow update. Free cash flow was $203,000,000 and was impacted by inventory replenishment to get our distribution network back to effective levels to serve our customers, Along with inventory investment to buffer the supply chain to support demand for the new minimum efficiency standards that became effective January 1. As we look to 2023 and free cash flow, we expect cash from operations to increase as we work to optimize inventory levels, while we prepare for the next regulatory change to take effect in 2025 for the new low GWP refrigerants and minimize supply chain disruptions.

Speaker 2

Our capital expenditures in 2023 will be approximately $250,000,000 and includes investments for a second commercial factory and investments necessary to prepare us for the 2025 refrigerant change. Free cash flow in 2023 Is planned within a range of $250,000,000 to $350,000,000 including increased capital spending to support regulatory growth To support regulatory change and growth initiatives, including factory capacity. Free cash flow in 2023 is planned within a range of $250,000,000 to $350,000,000 including increased capital spending to support regulatory and growth initiatives, including factory capacity. Now turning to Slide 10. Let's review our 2023 full year guidance.

Speaker 2

Our outlook collectively for the end markets we serve remains unchanged. We expect revenue to be flat to up 4% for the year. There is no change to our EPS guidance of $14.25 to $15.25 that we shared with you during our Analyst Day. Free cash flow is targeted in a range of $250,000,000 to $350,000,000 as I mentioned, And we are planning capital expenditures of $250,000,000 that includes the necessary investments in a second factory, As I mentioned, and investments related to the refrigerant transition that take effect in 2025. Price benefit, including price associated The 2023 SEER transition is now expected to be within a range of $150,000,000 to $175,000,000 Now turning to the cost side of the equation.

Speaker 2

We expect net material cost to be a $35,000,000 headwind in 2023. That material cost headwind is driven by component cost inflation of $100,000,000 net of $30,000,000 in savings from sourcing and Engineering initiatives along with the $35,000,000 commodity cost benefit. Corporate expenses are still targeted at $80,000,000 We will manage SG and A tightly while continuing to make the necessary investments in the businesses to support growth initiatives and to drive productivity. And finally, we expect the weighted average diluted share count for the full year to be between 35,000,000 to 36,000,000 shares, which incorporates our plans to repurchase $100,000,000 to $200,000,000 of the company's stock this year. With that, let's turn to Slide 11 and I'll hand it back over to Alok.

Speaker 1

Thanks Joe for summarizing our financial results And providing an update on the assumptions behind our 2023 fiscal guidance. Please turn to Slide 11 For the key success factors for Lennox this year that are summarized on this page. While we have little control over the industry unit shipments in 2023, that are still expected to decline year over year. Given that, we are focusing our effort on the 3 controllable factors to grow our revenues and expand our margins. First, to offset inflation, we are maintaining and expanding our pricing initiatives.

Speaker 1

We have already implemented price increases for 2023 and are confident in our ability to offset cost inflation with pricing. 2nd, on the heel of a strong Q4 performance, We continue to maintain focus on commercial profit recovery. As Joe mentioned earlier, staffing levels are stable And the Certgart plant has switched over to the 2023 SEER standards while simplifying our product portfolio. Our new commercial product lineup provides greater value to our customers and we intend to share part of that value through pricing and contract negotiations. 3rd, Lennox is now well positioned to start gaining share again.

Speaker 1

As you may recall, our service levels suffered after the Marshalltown tornado in 2018 and we were unable To fully restore the service levels during the COVID years, now the Marshalltown reconstruction is complete, Our finished good inventory levels have been replenished. Saltillo continues to add capacity and our commercial lead times are approaching competitive levels. The improved service levels along with recently introduced new products Put us in a strong position to relaunch our share gain programs. Even during a period of economic uncertainty, Our confidence in executing on the 3 controllable key success factors makes us cautiously optimistic for 2023. Again, I want to thank our employees who are working hard to sustain and improve our customer service levels.

Speaker 1

Now please turn to Slide 12 for some final thoughts before Q and A. I would like to close our prepared remarks By summarizing why I believe LII is an attractive investment opportunity. Lennox is narrowly focused leader in energy efficient, environmentally friendly climate controlled solutions. We operate in high growth end markets with strong replacement demand that provides us with resiliency even during periods of economic uncertainty. The company has a unique direct to dealer network, which creates a sustainable competitive advantage.

Speaker 1

And finally, we have a history of robust execution With disciplined capital allocation. Thank you for listening. Joe and I will be happy to take your questions. Ashley, let's go to Q and

Operator

A. You may withdraw your question at any time by pressing star 2. We'll take our first question from Julian Mitchell with Barclays. Please go ahead. Dylan Mitchell, please check your mute function.

Operator

We'll go next to Gautam Khanna with Cowen. Please go ahead.

Speaker 3

Hey, it's Gautam here. Good morning, guys.

Speaker 1

Hi, Gautam.

Speaker 3

Good morning. I was just curious if you could elaborate on your opening remarks about seeing some channel We're seeing some pressure on volumes. Just if you could talk about the Allied versus the Lennox brand, if you're seeing what you're seeing in terms of Destocking, if any, and

Speaker 1

how maybe you think it's

Speaker 3

just maybe an early read on Q1 based on what you're seeing On resi. Thanks.

Speaker 1

Sure, Gautam. So I guess, first of all, as you know, majority of our sales are direct to dealers. And we highlighted Allied, ADP and Heatcraft as the 3 business units that do go through 2 step distribution model. Each of them are in a different cycle stage on distributor inventory levels. For something like Heat Crock, We saw some destocking already occur and we might be back to more normal level.

Speaker 1

For Allied and ADP, As we talk to our channel partners, we believe there's some destocking that's going to occur this year, Which frankly puts our Lennox brand in a strong position. That all is baked into our guidance as we look at 0% to 4% revenue growth. While we don't give quarterly guidance, Gautam, as you know, I mean, so far, I mean, as we said, the Q1 order rates are consistent with our expectation. And I don't see anything falling off a cliff or so, but we do see gradual slowdown that we have talked about in the past.

Speaker 3

Okay. And then if you could just comment on the recovery on

Speaker 1

the high end Products, Lennox products,

Speaker 3

yes, sort of what where are we in that journey? And

Speaker 1

do you expect to be A full participant in the summer selling season with that product line that was impacted.

Speaker 3

Yes,

Speaker 1

sure. Yes. Gautam, now since Marshalltown turned NATO, this will be the year in 2023, we have All the inventory levels needed to launch our programs to recapture our position on the high end, Especially as we look at some of the new products like the Dave Licht Lenard Signature Series heat pump and the new higher efficiency furnaces. So we feel good going into the year to be able to capture our fair share of market and higher than growth in 2022 On the higher

Operator

end products.

Speaker 1

Thank you.

Speaker 4

I'll turn it over.

Speaker 1

Thanks, Quanta.

Operator

We'll take our next question from Nigel Coe with Wolfe Research. Please go ahead.

Speaker 5

Thanks. Good morning. So I

Speaker 1

was a little

Speaker 5

bit late joining the call. So just wondered, did you give any color in terms of The order activity in 1Q, I'm guessing not, but if you did, it'd be helpful to hear that. But just my broader question is, how Has the SEIA transition from a market perspective and obviously a lens perspective, how has that gone with expectations? And Has it caused any sort of air pockets post the year end?

Speaker 1

Sure. Yes, so we didn't give Any numbers on Q1, but we did talk about that January order rates were consistent with our expectations and outlook. So no change. It went as we expected. On the SEER change, overall, I think it went fine for the industry.

Speaker 1

The industry has gotten used to these changes. No, we think our design has got the winning formula in terms of we talked about in the last call, We don't need to change some of the indoor units. We can only change the outdoor units. So we think we did quite well And we'll wait for some of the industry numbers to compare share. But in general, I think the industry is used to it.

Speaker 1

I think us and Majority of other industry players had a seamless year transition. Some of the smaller players may have had hiccups, But overall, I think it went as good or better than expected for the

Speaker 5

industry. Okay. That's helpful. And then my follow on is on inventories. You built inventory into 4Q versus 3Q, quite unusual from a seasonal perspective.

Speaker 5

But I'm curious, was that planned or were there some issues that caused that build?

Speaker 1

I think the inventory build was very planned. We wanted to make sure of 2 things. One is that we have sufficient high end products in stock, Even though that's not selling until the summer season given the challenges we had. 2nd is given the SEER change, We wanted to make sure that we had sufficient inventory of the New Year product as we went into the New Year. So I think that was planned.

Speaker 1

Where we felt shocked honestly was more appropriate forecasting and where we lined up on some of the raw material side, Where I think as supply chains normalize, we should have opportunity to convert more of that inventory into cash. So we are at this stage saying complete with inventory build.

Speaker 5

Right. Thank you.

Operator

And we'll go next to Joe Ritchie with Goldman Sachs. Please go ahead.

Speaker 4

Thank you. Good morning, everyone. Good morning, Joe. Hey, look, can we just maybe just talk about The commercial business for a second, it sounded like pretty positive comments on the hiring front. I guess just where does Production stands relative to normal levels.

Speaker 4

And then maybe just talk about how you're seeing that business from a share gain perspective. It sounds like you're starting to Cover some gains, or some recovering some share that you may have lost previously. Sure.

Speaker 1

So first of all, we are pleased with the recovery in commercial and remain committed to $100,000,000 EBIT improvement in commercial over the planning period. We had a strong Q4 as you saw from numbers, slightly better than expected and that was kind of the prime driver of why we came to the higher end of our guidance. The recovery was driven by very stable levels of staffing. I mean at this stage, We're hiring as much as we are losing and that's kind of back to normal levels. I think the team has done a good job making sure that the output has come back up Compared to the lows of the year, but we are still not back to normal.

Speaker 1

I would say we are probably still about 20% below normal On factory output, where we could get there just with this factory even before the next factory comes online. So we remain pleased with the efforts in Q4. Q1, that's going to go through a CEO transition and obviously That's something we are very excited about given the change in product lineup. So net net excited about the new commercial segment. We will continue Delivering and focusing and even as we take step into 2024, 2025, the new factory would give us more productivity, more capacity.

Speaker 1

And the last question you have is, yes, we did lose share in commercial despite all the things I said earlier. Most of that was earlier in the year. Towards the end of the year, we started recovering shares and we did a little better. And we think that trend will continue because the industry lead times remain extended and ours are now getting to very competitive levels within the industry.

Speaker 2

And just to elaborate a little bit on what Alok mentioned, where we lost share was in the emergency replacement segment of the market. And as productivity and output improves, It will enable us to replenish our distribution channels with that stockable product and then you should really see the share gain traction once again when we're able to reengage in the emergency replacement

Speaker 4

Got it. That's super helpful and great to hear. I guess my one follow-up question. Residential volumes are continuing to stay positive. I know that you're expecting a decline in the year and I know that you don't give Quarterly guidance.

Speaker 4

But I guess just based on what you see with inventory levels today, I mean, are you expecting things to turn negative At the start of the year, is that something that maybe happens later on in the year? Just any color that you can give on like the seasonality as we progress through 2023 would be helpful.

Speaker 1

Sure. First of all, there's significant uncertainty remains. And at some stage, your guess is going to be as good as ours. January met expectations because majority of our business is dealer direct, the impact of channel destocking would be minimal. But for the industry, I do see it happening more in the first half versus the second half.

Speaker 1

So I think the industry will see some Decline in sales to distributors as distributors pull back orders just to get the inventory right sized. I think the seasonality as we typically expect as in the summer seasonality still remains. So I would say, yes, there's going to be some channel destocking impact in the industry in the first half. It's going to impact us less. But beyond that, It's going to be watching all the numbers that you would watch consumer confidence, interest rates, new home starts And see where we come up because the new home starts that fell in second half of twenty twenty two will have an impact in 2023 As those come up for completion, because our new home business did well in Q4, That's lower margin as you know, but going into 2023, we expect that to slow down for sure.

Speaker 4

Got it. That makes a lot of sense. Thank you.

Operator

And we'll take our next question from Tusa Steve with JPMorgan. Please Go ahead.

Speaker 6

Hey, guys. Good morning. How are you?

Speaker 1

Good morning, Steve.

Speaker 6

I've been called worse. So just on the Allied side, what was the growth rate, the difference between Allied And your the Lennox brands in the 4th quarter?

Speaker 1

I don't have it in front of me. I think it was pretty consistent. Yes.

Speaker 2

I'll be honest with you, Steve. I don't think it was radically different than what we saw in the direct to dealer We had a really solid year and we had a record year in our Allied business. They did a tremendous job. They gained more than 100 basis points a share along with our Lennox business. So it was a pretty good Quarter for both businesses.

Speaker 6

So when you kind of roll forward into the first half and you talked about some destocking, what kind of Split would you expect here and how is it trending in January and then what kind of split would you expect as this destock cycle moves Into the first half.

Speaker 1

Yes. In the Allied business, we would expect a slower start because as Joe said, I mean, they had a good year. I mean in Q4, they grew very well. Lennox grew well as well. Allied grew faster than Lennox in Q4.

Speaker 1

And as we take this forward, I would expect 20% of our business, which is on through like your 2 step distribution To have a slower start to the year versus the rest of our business, which is Dealer Direct.

Speaker 6

Can you just provide a little bit of color on that? So is it like Is it a 10% difference, a 20%? I mean, there's just a lot of moving parts here, so it'd be helpful To figure out, just roughly what kind of split you would expect there between effectively between sell through and sell in, we're asking for the If you even want to put it that way.

Speaker 1

Yes, I think that's fair question. And we are wondering the same questions in that. I mean, 30 days in, We haven't noticed a huge difference between the 2, so like time will tell. Some of it also comes down to how distributors are Thinking of the year and what kind of signals and tealeas they are reading about demand this year. But sometimes when these air pockets Come in, in the 2 step model.

Speaker 1

They last a few weeks. We haven't started experiencing that yet. We're just prepared to experience that. Unfortunately, I don't have any numbers and your guess is going to be as good as mine, Steve.

Speaker 6

Okay. And then one last one. What was the actual like just what were the Inefficiencies, from this year changeover, what exactly was that?

Speaker 1

Sure. Quite a bit. I mean, When we I get 3 different areas, right? First is, in our factories, we had to turn over different lines, Which means there was work stoppage at different lines at different times. We did that on a rotating basis, but clearly there was Labor inefficiency and under utilization as we went through that.

Speaker 1

2nd, we have to airfreight and Look at some pre buy of components at elevated prices just to make sure we met all the deadlines and pull that together. And I think finally within our own distribution network, we had to spend extra because we had to manage old SEER, new SEER, different rates, move it around. So I mean those would be the 3 different things that we looked at, right, is just air freight and component costs, factory inefficiency and then additional distribution costs.

Speaker 6

Great. Thanks a lot for the color. Appreciate it.

Speaker 1

Thanks, Steve.

Operator

And we'll take our next question from Julian Mitchell with Barclays. Please go ahead.

Speaker 7

Thanks. Good morning and sorry about earlier. Just I wanted to check on the commercial business, Not so much the sort of internal self help initiatives. We can see that clear green light on Slide 11 for that. But more just on the sort of The market as you see it, classically there was a lag, but a relationship from residential trends to Like commercial unitary, just wondered how you see that dynamic playing out this time, if you have seen any more kind of Choppiness in project activity or so forth amidst higher interest rates and weaker housing starts activity.

Speaker 1

Sure. So, Julian, you're right. Historically, there has been a lag but a correlation. If there is one this time, I think it's going to be extended Because the industry has such long lead times and there's still a pent up demand because of number of Placements that were converted into repair over the past few years. So if a unit broke, historically they could have replaced it, but they chose to repair it.

Speaker 1

So when we talk to our larger customers, we don't notice any change in their replacement plans, their spend plan, their capital. Now that could change, but so far we haven't noticed that. We see a lot of customers still talking about 2025 And how they plan to significantly upgrade their facilities and HVAC system with a low GWP refrigerant To meet the carbon footprint goals and get better ESG values out of it. So we have not noticed anything in the short term. The lead times are still anything from 24 to 52 weeks and then we start hitting 2025, which we do expect Lot of the key accounts to start ordering more and planning for 2025 replacement.

Speaker 1

But we're watching it closely, the same data that you would look at, Julian, from everything from ABI to other indexes. But so far, it's more lead time and supply constraint, not demand constraint.

Speaker 7

That's helpful. Thank you. And then just looking at Slide 10, you laid out some of those Moving pieces below the top line around the net material cost inflation. So notice, I think, the components headwind But you expect went up a bit from what you'd said in December. Any more color around that?

Speaker 7

And when you're looking at that Net material cost inflation of sort of minus $35,000,000 What are the latest thoughts on how that headwind is weighted sort of 1st half versus second half, you're getting a good tailwind in the back half or it's closer to flat?

Speaker 1

We get some tailwind in the back half. I mean, it's right now heavily weighted. But at the same time, we haven't locked in the commodities for the second half yet. So Some variability still exist in that. The component piece is higher and we wanted to be upfront.

Speaker 1

It's higher than what we thought. But some of the items such as compressors, variable speed motor, given the supply constraints that everybody is facing, I think vendors have decided to Thank you. Charge higher and we clearly are like you had to play a part in that. So yes, the component costs are higher And that just puts more onus on us to get pricing. That's why you see pricing, we increase our range and talk about 150 to 175 versus just a flat number of 150.

Speaker 1

So different moving pieces. We'll remain committed to offsetting material costs with pricing and keep doing our best to bring Caponis down. And if commodities ease in the second half, the number could get better.

Speaker 7

That makes sense. Thank you.

Operator

We'll go next to Jeff Hayman with KeyBanc. Please go ahead.

Speaker 8

Hey, good morning guys.

Speaker 2

Hi, Jeff.

Speaker 8

Hey. So, really just want to dig in a little bit more on kind of share gain momentum. 1, on the commercial, I think you said You're kind of getting back into that emergency replacement. I'm just wondering, 1, how easy it is to kind of gain back And then on the residential side, I think you mentioned like you're for the First time in a while, you're positioned for share gain. Just maybe elaborate a little bit around, Is it just kind of having everything together organizationally and with the plants?

Speaker 8

Or is it, hey, you think you got better products, better availability, Thanks.

Speaker 5

Yes. I think on

Speaker 2

the emergency replacement side, Jeff, I think it's very difficult to distinguish where you compete there is on availability and price. And We've got the distribution network. We've got the people that sell it. In 2022, we're just short of products. So it's a matter of once again of just replenishing Those distribution channels such that we have the product available, we feel we're back in the game on a merchandize replacement, and we expect that to happen over the course of 2023.

Speaker 1

And if I could just answer the residential piece, Jeff. We have been constraints in 2018 on the appropriate product mix, the appropriate inventory. And we are excited about the new leadership there. We are excited about being back with fully stocked warehouses. We are We put some specific efforts around sales excellence.

Speaker 1

I mean, all of those efforts are coming to fruition. So, and historically, as we go back Through regulatory transitions, we do always win more share because at least we believe that our products are superior and our current design is going to lead us to greater benefits. I think that's what gives us confidence on the residential side.

Speaker 8

Okay. And then I don't know if I missed this, But any kind of update on the non core divestiture and when you think that might be complete?

Speaker 1

Yes, Jeff. We just kicked off

Speaker 2

a process literally this week. The teasers went out. So we're waiting for once again the NDAs to flow in and Engagement to take place with potential suitors. We should have more news for you on the Q1 call, but we're out of the gate with the process and we're excited about What lies in front of us with the portfolio of businesses that we have in 2023.

Speaker 1

Okay. Thanks so much.

Operator

There are no further questions. And this concludes Lennox 4th Quarter and Full Year 2022 Earnings Call. The earnings release with GAAP to non GAAP reconciliations, today's presentation slides and the webcast link for today's call are available on our website at www.lennoxinternational.com. This webcast also will be archived on the site for replay. Thank you for joining us today.

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