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Edited Transcript of BECN earnings conference call or presentation 7-May-19 9:00pm GMT

Q2 2019 Beacon Roofing Supply Inc Earnings Call

PEABODY May 16, 2019 (Thomson StreetEvents) -- Edited Transcript of Beacon Roofing Supply Inc earnings conference call or presentation Tuesday, May 7, 2019 at 9:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Joseph M. Nowicki

Beacon Roofing Supply, Inc. - Executive VP & CFO

* Paul M. Isabella

Beacon Roofing Supply, Inc. - CEO, President & Director

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Conference Call Participants

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* David John Manthey

Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst

* Elad Elie Hillman

JP Morgan Chase & Co, Research Division - Analyst

* Garik Simha Shmois

Longbow Research LLC - Senior Research Analyst

* James A. Morrish

Evercore ISI Institutional Equities, Research Division - Analyst

* James C McCanless

Wedbush Securities Inc., Research Division - SVP of Equity Research

* Kathryn Ingram Thompson

Thompson Research Group, LLC - Founding Partner, CEO and Director of Research

* Keith Brian Hughes

SunTrust Robinson Humphrey, Inc., Research Division - MD

* Matthew Schon McCall

Seaport Global Securities LLC, Research Division - MD and Furnishings & Senior Analyst

* Philip H. Ng

Jefferies LLC, Research Division - Equity Analyst

* Ryan James Merkel

William Blair & Company L.L.C., Research Division - Research Analyst

* Timothy Ryan Mazurczak

Citigroup Inc, Research Division - Associate

* Trey Grooms

Stephens Inc., Research Division - MD

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Presentation

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Operator [1]

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Good afternoon, ladies and gentlemen, and welcome to the Beacon Roofing Supply's Second Quarter 2019 Earnings Conference Call. My name is Justin, and I'll be your coordinator for today. (Operator Instructions) As a reminder, this conference call is being recorded for replay purposes.

This call will contain forward-looking statements, including statements about its plans and objectives and future economic performance. Forward-looking statements are only predictions and are subject to a number of risks and uncertainties. Therefore, actual results may differ materially from those indicated by such forward-looking statements as a result of various important factors, including, but not limited to, those set forth in the Risk Factors section of the company's latest Form 10-K. These forward-looking statements fall within the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 regarding future events and the future financial performance of the company, including the company's financial outlook.

The forward-looking statements contained in this call are based on information as of today, May 7, 2019, and except as required by law, the company undertakes no obligation to update or revise any of these forward-looking statements.

Finally, this call will contain references to certain non-GAAP measures. The reconciliation of these non-GAAP measures is set forth in today's press release.

The company has posted a summary financial slide presentation on the Investor section of its website under Events & Presentations that will be referenced during management's review of the financial results.

On the call today for Beacon Roofing Supply will be Mr. Paul Isabella, President and CEO; Mr. Joe Nowicki, Executive Vice President and Chief Financial Officer; and Mr. Eric Swank, Chief Operating Officer.

I would now like to turn the call over to Mr. Paul Isabella, President and CEO. Please proceed, Mr. Isabella.

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [2]

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Thank you. Good afternoon, and welcome to our second quarter earnings call. We had some very encouraging results during the quarter despite the weather challenges we encountered. Sales trended up nicely at the end of March, which helped drive results to the most positive end of the range we gave in our February prerelease, which was minus $0.45 of adjusted EPS. Even more encouraging is that we've seen the positive sales trend continue in April, which adds to my optimism that we'll have a solid second half of the year.

Organic same-day sales for the quarter ended positive at slightly over 1%, with residential organic same-day sales strong at approximately 5%. This demonstrates the strength of our sales even during a difficult breakthrough period.

Gross margins were in line with seasonal trends, which I consider a real positive considering the harsh seasonal pressure we encountered. We paid down over $75 million in debt through solid working capital management in the quarter. And we were able to pass price along from our manufacturers and this marked the fourth consecutive quarter in which price cost was either positive or neutral.

We've launched price increases across all product lines to stay in step with the 2019 manufacture increases, and we will, as always, be watching this very closely over the next few months.

Lastly, the final group of Allied branches has been successful transitioned to the Beacon legacy ERP system. Overall, some really good progress during a tough quarter, which gives us our continued optimism regarding the second half of the year and beyond. Next I want to give you an update on several of our important strategic initiatives.

Starting off with our exciting industry-leading digital offering, anchored by our e-commerce catalog, Beacon Pro+ and our integrated estimating tool, Beacon 3D+. We offer the most complete solution for contractors looking to drive productivity in their business.

We have a full suite of digital tools that provide customer value add. Items, such as online ordering and order history, 3D visualizer and estimating tool, automated rebate tracking, online bill pay, delivery tracking and project management among others are differentiators for our customers.

We're pleased with the progress we're making with the offering. We currently estimate that sales through our digital platform will be approximately $300 million for fiscal 2019, up substantially from the 2018 number. Customers like the convenience and easy use, and we're confident we'll see continued customer adoption. Our goal as stated at Investor Day last year is to reach $1 billion in sales in 3 to 5 years. Great performance to date as we only launched this program 2 years ago.

Now I'd like to talk about 2 digital innovations just launched. The first is our partnership with JobNimbus a premier CRM and project management software platform for the building materials industry. Simply stated, this offering would provide our contractor base the ability to seamlessly create estimates and cement material orders from inside the JobNimbus platform directly into their local Beacon branch via our Pro+ digital suite. This means, we've built a direct connect between the JobNimbus platform and the 90,000 SKUs in the Pro+ digital catalog. This integration will help customers save time, manage their work more efficiently and grow their business.

The second tool is delivery tracking. Customers have always demanded accurate on-time deliveries. They can now receive notifications when deliveries are scheduled and when the product arrives, and they can receive on-site photos prior to and after the delivery, which obviously helps them working with homeowners. The pilot was in January with the full rollout starting in March and April. We're live in 15 markets and being well received by our customers. These are just 2 of the multiple offerings our digital suite provides. We're very committed to ongoing digital innovation and growing sales through this platform.

Now I'll give you an update in another initiative that we're very excited about, RSAs or regional service areas. We talked in detail about this during our December Investor Day. At that time, we had identified approximately 40 markets for planned conversion to a centralized dispatch with single P&Ls. We've now added several additional markets moving us to more than 50 in total. The implementation process is going very well and we're roughly halfway through this rollout.

We're continuing to evaluate other potential markets as well as derivations of this approach, including centralized hubs and facility relocations. Our customers will benefit from greater inventory access and more reliable delivery time lines. This is very important as customers conduct business across wide geographies and our ability to quickly and efficiently provide service saves them time and money. We believe this is a very significant and exciting opportunity for our customers as this is rolled out to all of our markets.

Lastly, in terms of our greenfield branch openings, we're at 5 year-to-date, with another 5 to be opened by the end of September. The openings to date have been 3 exterior and 2 interior branches. All openings complement our regional service area approach by providing overall better coverage and service for our customer base. And we'll continue to balance greenfield openings with our RSA rollout.

Joe, I'll now pass the call over to you to provide some additional details on our quarter and the 2019 outlook.

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [3]

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Thanks, Paul, and good afternoon, everyone. I'll now provide a little more color to the positive accomplishments that Paul mentioned. The positive organic growth, lower adjusted existing operating expenses, a nice paydown in debt as a result of our solid free cash flow and price-to-cost parity. I'll spend a few minutes now speaking about each of these highlights.

First, organic sales for the quarter increased 1.2% on a same-days basis. This was driven by a 5% increase in January, a 4% decline in February and a 3% increase in March. What this tells us is that when the weather was better during the first 3 weeks of January and the last couple of weeks of March, we experienced healthy demand. This continued into April, where we saw a modest daily sales increase.

The organic daily sales growth was led by 5% residential roofing growth. As Paul mentioned, thanks to favorable weather at the end of the quarter, we finished March strong and that helped us to make up some ground from February. We also believe, we're now past the 2018 hail headwinds, as the key hail states have begun to see improved performance versus the prior year.

By geographic region, we experienced solid same-day sales growth in our Northeast and Mid-Atlantic regions as both were up high-teens year-over-year, and Canada was also up almost 10%. Our Southeast and Southwest regions were basically flat year-over-year, but our Midwest and West regions were down high-single digits as a result of the weather challenges previously discussed.

On commercial roofing, we produced positive gross profit dollar growth year-over-year driven by solid improvements in our GM rate as we continue to focus on driving value to our customers.

Overall pricing was up 5.5 to 6 percentage points which -- with gains across all 3 product categories. Now these price increases reflect the inflation that occurred last year.

Turning to cost control. Adjusted existing market operating expenses were down almost $2 million on a year-over-year basis and declined 10 basis points as a percentage of sales. Our teams responded quickly in the second half of the quarter when the challenging weather hit to tighten our cost controls on labor and discretionary spending. We saw solid improvement in our OpEx rates as we went through the quarter. We remained vigilant towards tightly managing our cost structure and improving our leverage. The sales growth improved in the second half. We anticipate favorable operating leverage to result.

Now shifting over to gross margins. For the fourth quarter in a row, we were again successful in offsetting the manufacturers' cost increases with selling price increases. This sequential trends in our gross margin this year also align with what we've seen in prior years for Q2. Our slight decline in gross margin year-over-year was primarily the result of our onetime freight cost true-up coupled with some mix shifts within our product categories and competitive pricing pressure due to the weather challenges.

Before I shift to the 2019 guidance, I want to mention a couple of points related to our balance sheet and cash flow generation. Free cash flow was solid over $80 million, primarily due to good working capital management. We used that free cash flow to pay down over $75 million in debt this quarter. Rising LIBOR rates year-over-year drove an increase in interest expense even with the lower debt balance, so another reason we remained focused on paying down our debt and lowering our leverage to 3x. Capital spending for the quarter was $14 million, still all in line with our full year guidance of $50 million or 70 basis points of sales, a great improvement from our historical spending levels.

Last, I want to comment on our 2019 guidance. Consistent with our late March press release, we're confident in achieving the lower end of our previously provided adjusted EPS range of $2.90 to $3.35 for fiscal year 2019. So no change from our last update. We believe core demand has remained healthy, and we anticipate further activity tied to winter deferrals and incremental damage caused by the wetter and colder weather. We expect these additional sales will help us recover a small portion of the Q2 earnings shortfall as outlined in our guidance.

I'll now turn the call over to the operator to take your questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question is going to come from Keith Hughes from SunTrust.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [2]

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So 2 questions. I guess first on April with -- you said kind of barely out there. Did it decelerate from some of the growth rate you saw in March? And any other color on April would be helpful.

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [3]

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Yes. No, it's actually increased from March, whether you look at even -- March was an interesting month, a tale of 2 halves, a week first half, strong back half, but even from the standpoint of the strong back half, March -- April accelerated. The other color, I think that's important is last year we had some hurricane volume in the April sales number from Harvey that we kind of bumped up against as well as now we're on the backside a bit of Florida from the storms there. So we're -- when you look at our own, Keith, expectations for April, we're very pleased of the progress as we exited March and through the month, and it gives us a lot of confidence as now we jump into May, June the balance of the year because as you know, looking at last year comps do get a bit easier.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [4]

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Okay. And then a second question on gross margin that you talked about the true-up on transport costs. I was little surprised it was higher given that residential did so well, it's your highest margin product compared to the other segments. Is there anything else within there I'm missing?

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [5]

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Yes, sure. If you'll look through the gross margin, it's kind of walk from year-to-year. We did -- certainly, we did a great job continuing on the synergies and that benefited us. We did have this ocean freight true-up, a small piece to it. We did get a benefit, as you mentioned, from just within those categories more resi, but we also saw, as I mentioned, some product and geographic mix kind of within the categories of the product lines as well too in addition to some more competitive pricing pressures as well, primarily on the resi side. That combination of factors, which really got us to the 23.4%, slight decline from where we were last year at 23.7%.

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Operator [6]

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Our next question comes from Ryan Merkel from William Blair.

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Ryan James Merkel, William Blair & Company L.L.C., Research Division - Research Analyst [7]

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So wanted to ask about sales. Obviously noise with weather and you've got some price, but I think the price benefit sort of declines as the year goes on. I guess what I'm getting at is I think you need sort of mid-single digit organic daily growth the rest of the way to sort of hit guidance. Is that something you're still comfortable with based on everything that you see today?

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [8]

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Yes, we are. Actually, that -- if you look at the Q3 of last year, I think, we grew in the 2% range and then we were down 5% or 6% in Q4. So just based on the current rate, we feel good in the second half.

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [9]

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And most of it really is, Ryan, due to the comps. So if you look at last year's comps to it, it's a lower hurdle for us, which gets us really comfortable at that mid-single digits for the rest of the year. You're correct, that is baked into our forecast.

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Ryan James Merkel, William Blair & Company L.L.C., Research Division - Research Analyst [10]

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Okay. I just want to make sure. And then you mentioned the onetime freight cost, can you just quantify what that was, how much that impacted things in the quarter? And it is onetime so we're not going to see that repeat?

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [11]

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Now it's just a ocean freight, some costs from a prior period that rolled in here, small number in total. Just a couple million dollars, but it still was 10, 15 basis points on the overall gross margin piece to it. Not a big number.

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Operator [12]

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Our next question comes from [Matt Haney] from Baird.

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David John Manthey, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [13]

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Yes, David.

(technical difficulty)

Hello?

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [14]

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Very difficult to hear you.

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [15]

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Dave, are you there?

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David John Manthey, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [16]

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Yes, can you guys hear me?

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [17]

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Now I can.

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David John Manthey, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [18]

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Okay. All right. Well, this is Dave Manthey. So question, what level of storm activity is baked into your guidance range now? I know you expressed confidence in the low end of the range? Are you assuming an average storm year will get you to the low end or would a kind of normal storm year put you at the midpoint?

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [19]

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Really, what we've got baked in is a consistent with the last year kind of storm environment. So as you know, we had high storm years in '16 and '17; '18 was a low storm year. What we've got included in our guidance really is that same low storm year kind of continuing. So we don't have a big ramp up for storms included in our revenue guidance.

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [20]

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Dave, it kind of follows what we said in the fourth quarter call last year where we did 3 different scenarios of the low, high, mid part of the range just based on normal storm, high storm, low storm. And right now, the way the year's unfolding, even though we know we still have hail opportunity until July, it's pretty much matching last year. So that's what we estimate.

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David John Manthey, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [21]

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Yes. Okay. And then on the price realization, could you talk about what your price realization was in res, nonres and complementary?

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [22]

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Yes. We don't break down the pricing piece by product category, Dave. We just kind of give it in total. And in total, we ended up, as I mentioned, somewhere between that 5.5% and 6% range across all of them combined. There was a little variation within them to some extent, probably we got a little bit less on the residential side, but overall, not to significant across them, Dave.

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Operator [23]

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Our next question comes from Trey Morrish from Evercore.

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James A. Morrish, Evercore ISI Institutional Equities, Research Division - Analyst [24]

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I guess the first place to start would be, there's been an April price increase announcement out in the market. And I'm just wondering what you've seen so far in terms of end user's reactions willingness to accept a higher price out there following your increase announcement?

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [25]

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Yes. You broke up a little bit with the connection, but I think you were asking about what our end user is saying. Right now, it's still too early. We're just either have launched or launched, right, just based on the timing of the manufacturer increase, et cetera. And as I said, and I've said in the past, we're talking probably 30 to 60 days to get a good feel of what the market is going to do. Not much different than last year. I think we said the same thing. Internally, of course, we've done all of prep for pushing price through system changes, notifications, all of that. So obviously, we'll update it on the next earnings call. It's just too early right now.

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James A. Morrish, Evercore ISI Institutional Equities, Research Division - Analyst [26]

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Okay. And then you mentioned curtailing some costs late in the quarter to help reign in and improve your cost basis as volumes were still soft. I'm wonder if you can give us some tangible examples of what you mechanically did to see that improvement relative to what you were expecting on your last update to us?

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [27]

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Yes, I think the reality is given the volatility of our Q2, which is not new, this has happened many Q2s over the years. I mean it's a function of how quick do you -- based on what you view sales are going to be in the coming 2, 3, 6, 8 weeks, what you do really to control your labor during that period, right? And I think, especially, as we started through February and saw the potential for the month to be -- end of January through Feb really, really harsh weather with the polar vortex, the rain in the far West, rain and snow in a lot of places, we drew down naturally and then as the sales popped up through the end of March, we were able to gain a bit of leverage even though for the quarter, of course, they're still paid because of that variability, I think Joe mentioned of strong sales beginning in Jan, strong sales at the end of March and in between especially in our Q2 very difficult to predict. So we man it service, right? But we can't totally just strip down these branches, that's ridiculous because we wouldn't be taking care of our customers. So it's that balance. That's the reality of a drawdown and then a sales increase as we go through March.

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [28]

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Yes. I'll give you even more tactical details on it because there's some great tools that we have that we use around our headcount tracking and over time, which goes all the way down from the division, the region, the branch level, by roles, and we keep track of on a weekly basis, how we're doing on those headcount metrics, and we gear it towards what are those weekly sales looking like as well too. So we've tried to align our headcount directly with the sales on a weekly basis as we're going through a very tangible tactical, but good tools that we use to control the headcount and the labor cost, as Paul said, which is significant part of our operating expenses.

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Operator [29]

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And our next question comes from Garik Shmois from Longbow.

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Garik Simha Shmois, Longbow Research LLC - Senior Research Analyst [30]

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I'm just wondering if you can speak to how we should think about mix as we look out over the next several quarters if some of the Western markets do see some pent-up demand without having material impact on mix and potentially gross margins?

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [31]

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Yes. Without getting into exact numbers, right, because we don't give forecast by quarter, but the good news is the West is finally starting to see the backside -- coming out of the backside all these hail challenges they had last year. We saw a bit of that in April, and some of those hail-impacted markets actually slowed down to negative, close even to 0 or slight gain year-over-year and/or sequentially, right? So what does that mean? That's going to mean more residential volume in the back half, which gives us some of that confidence we talk about related to the gross margin growth from Q2 to Q3 and Q4.

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [32]

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And this is traditional what you'll see is as well, too. As you look, historically, there are gross margin changes from second to third and fourth quarter. You'll notice that our -- we always have margin uptick in that third and fourth quarter and a lot of it is the mix-related elements of -- you move to a more residential volume. So it should be a benefit to us. We'll watch this as we go through the next 2 quarters.

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Garik Simha Shmois, Longbow Research LLC - Senior Research Analyst [33]

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Okay. And just wanted to ask on commercial given the sales decline, it sounds like you had good pricing. Just wondering if you could speak to how much was weather impacting volume? How much is it you're purposely walking away from business to protect price? And what's the outlook for commercial sales moving forward, especially as comps get easier?

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [34]

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Yes, I mean, the outlook is favorable. Again we're not going to give you a split by product line, but there's no doubt when you look at our Western impacted or weather-impacted regions, up the Midwest, even Texas, the mountain, far West, commercial was heavily impacted. Some of that weather, some of that just this true-up or improvement in gross margin, right, which is something we do need to do. It's very difficult to break those 2 pieces out. But then if you look conversely, the East Coast regions that had pretty good volume, very strong volume, we saw some double-digit increases on the commercial side, organically.

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Operator [35]

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Our next question comes from Matt McCall from Seaport Global Securities.

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Matthew Schon McCall, Seaport Global Securities LLC, Research Division - MD and Furnishings & Senior Analyst [36]

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Joe, maybe expand on that pricing question. Earlier, you said that the pricing on resi was a little below the 5.5 to 6% points that you recognized, and you also said that you had price cost parity overall. Given the competitive pricing pressure commentary that you gave around the winter months, should I assume from that, that there was a price cost drag in residential, specifically, but a price cost parity overall?

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [37]

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Yes, good question. Let me provide some clarity on my answer because you're right, the residential price impact was above that roughly 5.5% to 6% price increase. So resi was higher. It was weaker than we had anticipated and weaker than we would have expected to see. That all ties into the weather impact, right? Because we talked about the weather impact in our volumes. So the weather impacted the volumes on the resi side during that weaker period, which in essence had an impact on price. So I hope that helps with that part. Now the part b of your question was, what does that mean with regards to the price cost? Yes, you're right, the price cost does vary by product line. It certainly was weaker on the resi side than it was on the commercial and the complementary piece. So good point. In total, we had price cost parity.

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Matthew Schon McCall, Seaport Global Securities LLC, Research Division - MD and Furnishings & Senior Analyst [38]

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So now that the weather has gotten better, have the trends improved in pricing for residential, price cost for residential. Has that improved as we've gotten into these better volume periods that you've been referencing?

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [39]

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Yes. I mean, we wouldn't give any April results or even break out the March pieces. I mean, you could imagine though, just logically speaking, with a steep slope roof, right, it's -- folks are not going to get up on a steep slope roof in tough weather and conversely, when it's great weather that's when they're really moving to get their work done. So less competition, more jobs available, more work available. That's the best way I can answer that.

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Matthew Schon McCall, Seaport Global Securities LLC, Research Division - MD and Furnishings & Senior Analyst [40]

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Maybe -- I'm sorry for the follow-up, but maybe the competitive pricing dynamic, has that improved -- have those pressures improved? I feel like that's what you're saying with the volume you had...

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [41]

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Yes. As demand, and which we've always said, Matt, as demand improves that tends to lessen. We see it in some of these Eastern markets that grew quite well. And last year, we saw the converse because of the pressure of backside of hail. Now that the West is starting to come out of that, I mean, we should see demand improve, hence that should help that situation, yes.

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Operator [42]

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Our next question comes from Trey Grooms from Stephens Inc.

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Trey Grooms, Stephens Inc., Research Division - MD [43]

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So it sounds like a lot of the gross margin hit that you guys experienced in the quarter was transitory and with possible neutral price cost or maybe even positive later in the year, should -- Joe, should we be modeling margins kind of in that flat to up range as we look in the back half? Or would any of these items that hit you in the 2Q linger into the back half at all?

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [44]

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Yes, I think you're right in your analysis of it. If you think about our 30 basis point decline in GM year-over-year between the true-up and between some of the weather-related impacts, the competitive price stuff as we mentioned, the mix in there, those should be things which don't -- do not have an impact going forward. So I think you're right, considering reasonably kind of flat gross margins in the back half of the year is pretty good assumption to use there, Trey.

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Trey Grooms, Stephens Inc., Research Division - MD [45]

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Meaning, flat year-over-year?

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [46]

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Yes.

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Trey Grooms, Stephens Inc., Research Division - MD [47]

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Okay. And then you guys have seen some improvement on the OpEx spend, so as we're kind of looking into the back half of this year and even into next year, and I know you kind of touched on some of the synergies and reiterated those targets, things like that, but how should we be thinking of other operating expenses as we look into the foreseeable future, I guess, the next several quarters?

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [48]

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Well, as you know we're still working through the Allied integration, so we'll see some benefit of some of the synergies continue to [grow] through as that kind of integration completes. Most of the supply chain work has been completed on the purchasing synergies, right? But you do have more of the OpEx ones, so those should help us going forward. Then I think it's just all the same blocking and tackling that we have done in the past in regards as we watch and manage every line item within our OpEx numbers. Additionally, you'll also see as we begin to implement more of the RSA approach that should have some benefits to us overall in our operating expense structure also.

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Trey Grooms, Stephens Inc., Research Division - MD [49]

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And just kind of with the synergies, can you remind us or maybe update us what we should be looking for as far as kind of exiting? What run rate we'd be looking for as we're exiting this fiscal year?

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [50]

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Yes, in terms of dollars what we've said, we haven't really changed it is the total outlook for those, roughly $120 million, and we accomplished somewhere around $50 million in the first year, the September period ended. We'll add another $50 million to it, so we'll get to about $100 million that will be incorporated into this year's numbers and synergies. And then, we'll pick up the remaining $20 million in the last quarter for our kind of 2-year period with it. And that's pretty consistent. That hasn't changed too much. I think we're still right on a great path there. We're achieving most of all the things that we have said. Some a little above, some a little below, but in total right where we want to be.

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Operator [51]

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Our next question comes from Kathryn Thompson from Thompson Research Group.

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Kathryn Ingram Thompson, Thompson Research Group, LLC - Founding Partner, CEO and Director of Research [52]

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During the quarter, you opened 4 new greenfield branches and are set to open an additional 5 the remainder of the year. Just in light of your earlier commentary on to just a generally better competitive landscape within distribution. Maybe help us better understand how -- what gives you confidence that adding these new greenfield locations won't necessarily mark up the competitive landscape that will enhance your positioning in the market?

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [53]

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Thanks, Kathryn. We opened up 5 -- just to clarify, we opened up 5 to date and then 5 more. And I think if you look at the place kind of those -- some are interior branches where we just don't have a presence or they're much farther away from an existing branch. And really to the same extent, the exterior branches are in that same position, so they become distant adjacencies that pick up markets that are much too far for us to deliver from an existing branch. That's how we've looked at it. So we're not going to -- and some of that will be ceded, but that's how our greenfields always are. There'll be some portion of sales that will come from that market already that we're serving, but we believe by putting in that location, that we would be able to pick up more sales.

So now going forward, as I said in my prepared remarks, with all the work we're doing on the RSA piece, we're going to continue as we did with these 10, the exterior and the interior pieces, we'll continue to evaluate every RSA to make sure that we're not adding fixed costs where we don't need to, especially as we move to more hubs, more centralized shipments and dispatching in markets. But we still have a lot of open geography where we can play some branches. We'll just continue to evaluate that as we go through time.

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Kathryn Ingram Thompson, Thompson Research Group, LLC - Founding Partner, CEO and Director of Research [54]

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Perfect. You may have mentioned this already, but just as a follow-up, any thoughts on your -- or any changes in terms of your leverage (inaudible) by the end of either fiscal '19 or calendar '19?

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [55]

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No, no real changes to it. As we've talked about before, really the big goal is getting it under -- getting to 3x leverage, right? I mean that's been our clear kind of strategy to drive towards it and we're going to keep doing like we did this quarter, a $75 million kind of pay down in the debt piece. We're going to continue to work down the debt piece through and drive EBITDA and improve that leverage rate through. So no change in our goals and forecasts there, we're pushing towards that. I'm driving towards the paydown of the debt piece to get the leverage down lower.

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Kathryn Ingram Thompson, Thompson Research Group, LLC - Founding Partner, CEO and Director of Research [56]

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And no change in free cash expectation pull-through?

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [57]

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No change in the free cash either. I think similar to the numbers that we gave on our guidance in regards to the EPS, that would be at the lower end of the free cash flow range just like the lower end of the EPS range, so -- but no change to the ranges.

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Operator [58]

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Our next question comes from Michael Rehaut from JPMorgan Chase.

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Elad Elie Hillman, JP Morgan Chase & Co, Research Division - Analyst [59]

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This is Elad on for Mike. I wanted to dig a little deeper into the comments you made about the solid free cash flow being helped by good working capital management. If you could just expand on what that was. And then more specifically, if you've any commentary around inventory levels and given some of the pickup in the overall market.

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Joseph M. Nowicki, Beacon Roofing Supply, Inc. - Executive VP & CFO [60]

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Sure, you bet. Really if you look at our balance sheet, underneath it you'll see part of [NY] referred to as good working capital management, it really is managing our inventory piece, the receivables where we had good strong collections. And then also balancing it with our payables and the flow of our payables as well, too. We had some of the inventory purchases, so you notice the inventory value is up a bit. We had some of those inventory purchases towards the end of the quarter, the payables were still outstanding there. So what you notice was inventory might have been a little bit higher, but it was included in the accounts payable and accruals. Overall, a good balance on the working capital part of getting the cash collections and a lot of the more of our aged receivables, which helped us. So getting the collection of receivables in, working through the inventory piece of it, but more importantly then also managing the AP balances to it. So good overall cash flow management on working capital, those 3 elements.

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Operator [61]

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And our next question comes from Scott Schrier from Citi.

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Timothy Ryan Mazurczak, Citigroup Inc, Research Division - Associate [62]

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It's actually Tim Mazurczak, I got in for Scott. I apologize if you already went through this before as most of my questions have already been answered, but in terms of the network rationalization, how much is lost? I mean can you kind of give us a benchmark of where we are, and if any of your expectations have changed?

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [63]

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Yes. I mean, we talked about the thick of the markets that were impacting on this centralized dispatch 1 P&L from 40 to 50, and if you look at the number of districts, we call them, we have, it's close to 100. So I think as we go through time, we'll continue to -- some are smaller, we'll continue to evaluate those, right, as we go through time. So it'll end up being over 50, and I just can't give you a number right now.

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Operator [64]

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Our next question comes from Phil Ng, Jefferies.

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Philip H. Ng, Jefferies LLC, Research Division - Equity Analyst [65]

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Can you provide little more color on competitive activity across your different segments? Is your view essentially that in the quarter you saw little more competition due to the seasonal -- solar seasonal quarter and bad weather and have you seen those headwinds dissipate since? And commercial seemed a bit weaker than we would have expected? Was it just simply weather-related or was there some business you guys walked away from?

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [66]

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Yes, on the commercial piece, I think I can mentioned it prior, there's no doubt in the regions that we were down because of weather, commercial was also down, so there's a piece of that. And I wouldn't necessarily say walk, I mean, it's just a function of us pushing harder to raise gross margin in that product line. So we feel -- we like the commercial business and the product line as I've said in the past. We're going to continue to work extremely hard to grow it. But I think this was a quarter where we did actually some very good things with driving margin up, but at the same time, we had some double-digit downs in regions that have really hit hard with weather. On the competitive side, it's virtually impossible for me to talk about other than the generic as I said earlier, when demand is down, there's more competition. But we've had competition since I walked in here almost 12 years ago and prior, and that's not going to change. That's why we're focused so hard on providing our value-add to the contractor base, right? So we're the logical choice for them to come to.

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Philip H. Ng, Jefferies LLC, Research Division - Equity Analyst [67]

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Got it. And just a bigger picture question and just given some of the branch consolidation and headcount reduction, do you think there's been any drop-off in service level? Have you seen any dissynergies on the revenue front? I did notice you guys were talking about how you want to clamp down your cost front on the OpEx side, which should help profitability, but just want to make sure on the service side of things how that kind of plays out.

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [68]

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No, absolutely, no. And when we talk about any change in manpower, it's -- this is not new. We have -- we're a seasonal business. So as conditions change, we have to adjust the workforce. We do it through a number of ways, right? So -- and our folks understand that and been through this for a number of years. So no, our service is -- that's the first priority we have is taking care of our contractor base. So we're in good shape there.

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Operator [69]

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Our next question comes from Jay McCanless from Wedbush.

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James C McCanless, Wedbush Securities Inc., Research Division - SVP of Equity Research [70]

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The first question I had, the labor savings that you achieved during 2Q, are you going to lose all that and maybe then some as you have to ramp up over time in 3Q to make up for some of the business that couldn't get to you because of weather? Just trying to get a sense of how SG&A plays out through the back half of the year?

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [71]

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Yes, without getting into too much specifics, obviously, we man based on our volume, and we'll continue to do that as efficiently as we can. So that's the best way to put it. So there's not much more detail I can get. And then obviously for us, in the second half, we always get much better OpEx leverage as sales increase, right? And if you look at last year's number, I think they were close to 16% -- 16.5% on an adjusted basis, and 17%-or-so of sales. So there's a natural drawdown anyways of OpEx against sales. That's about the best way I can answer that without getting too specific. And again, for us, it's not anything new, we have to flex up and down for sales with the first priority being service to our customers.

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Operator [72]

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That concludes the questions. Now I'd like to turn the call back over to Mr. Isabella for closing remarks.

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Paul M. Isabella, Beacon Roofing Supply, Inc. - CEO, President & Director [73]

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Sure. Thanks. I'll close by saying as I have in the past, we're in a great industry, one that's very resilient, one that's highly attractive with steady repair, remodel content, historically, in the range of 70% to 75%. We continue to execute the elements of our strategic plan very well, and we've made excellent progress on the Allied integration and are operating as one company. We believe we're the innovation leader in our industry, and our digital suite truly offers many value adds to our customer base. Our future is very bright, I've said this many times before. We'll stay focused on delivering results for our investors.

Thank you for participating in this afternoon's call. We appreciate the continued support from the investment community as well as our highly valued relationships with customers, suppliers and employees. Have a great evening, and we look forward to speaking to you again in 3 months.

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Operator [74]

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Thank you, ladies and gentlemen. This now concludes the call. Everyone may go ahead and disconnect.