Wesco, A “Mess” or Mostly In-Line?

The other day I was talking to a friend, and he brought up Wesco and asked “What’s going on with them? I heard they are a ‘mess’ and their stock dropped by 30%?”

First, I needed to correct him and tell him it was a moment in time and the topic was a few weeks ago. Since then, the stock had recouped about $15, or 50% of the amount. (It opened at $192 on 2/12, dropped as low as $145 (2/13) and now (3/8) is at $162.

Second, I told him that analysts have a tendency to overreact and do not understand the nuances of the industry such as project timing, which only the customer controls, and material backlogs (he then said, “that’s still a thing?”, unaware of the switchgear and transformer issues.

Third, one person’s definition of a “mess” is different than someone else’s. In a company doing $22 billion, they have to be doing a few things right for customers. No company is 100% perfect 100% of the time.

Fourth, in a company as diverse as Wesco, it can be data center projects being delayed due to material, developers delaying projects, the EV automotive and battery manufacturers delaying construction because EV sales are not meeting their growth rate expectations, a utility contract or two that was lost, the decline in the price of copper and the affect that will have on revenues (but not necessarily units), a reduction in rebate income due to sales growth no longer inflated by price increases (and the Covid rebound plus the sanctions levied on Chinese imports … all of which increased selling prices artificially … and rebate earnings) or a myriad of other such issues.

Now, I’m not in the habit of defending a company and, quite frankly, I was not “defending” Wesco. More it was a case of sharing an alternative perspective and not jumping to a conclusion. There can be a number of valid reasons.

So, I then relooked at the transcript from the Wesco 4^th quarter / annual results. Some highlights, with an emphasis on the electrical (EES) group:

• In the words of John Engel, “These results, they’re unacceptable. They’re unacceptable to me and to the entire management team. We understand the issues that drove our fourth quarter results, and we’re already taking actions to address them.”
• Sales, overall, declined 2% versus an expectation of flat to slightly up (so, by about $450M)
• Stock and flow sales were down (primarily in CSS business) and backlog declined 10%.
• Overall sales down 3%, positive 2% on price by 5% decline on volume (which is a key metric that distributors need to track.)
  • Also, it’s important to remember that copper pricing has declined since last year.
• 50 basis point decline in GM due to anticipated reduction in supplier volume rebates (which had been inflated in prior years due to price increases! Every distributor needs to watch this as it will impact net profit.)
• Higher SG&A due to benefits, healthcare, IT and facility operations
• Growth in utility, data centers, industrial security and network infrastructure
• Underperformed in broadband, specific OEM sectors and construction (not too surprising as broadband can be project-oriented and elements can be government funded. OEM can be segment specific. Construction is interest rate driven. Wesco also tends towards larger projects. With them being heavily tied to Eaton, delays in switchgear can delay projects and the follow-on “sales” for those projects. According to distributors, Eaton seemingly is the most challenged in this area.)
• Has high backlog (like so many others)
• Rolling out “digital transformation” which has been developing over the past 2 years and expect to see benefits over next 36 months (seems like a long time to start seeing many of those benefits)
• UBS sales were down 2% in the quarter. Sales for year up 2% but versus 20% prior year.
• EES Q4
  • Q4 organic sales down 4%
  • Construction down high single digits with weakness in wire cable and solar
  • Industrial sales up mid-single digits driven by automation and petrochem
  • OEM down mid-single digits
  • Backlog down 2% sequentially and down 5% from prior year (which is expected as supply chain improved.)
  • Lower supplier rebate dollars
  • In January, EES (electrical, sales were down mid-single-digits
• EES 2023 Full Year
  • Largest segment
  • Headwinds in construction and OEM; growth in industrial
  • For 2024 expect flat to low single digits in construction
  • Industrial expected to be up
  • OEM expected to be flat

Additional insights from analyst calls:

• The major impact for Wesco was on the CSS and UBS sides of the business. Electrical was close to expectations.
• Some of the OEM “miss” was delays in shipping of orders – move to Q1 2024 rather than Q4 2023.
• Price increases are moderating to what they were pre-Covid, in the 1% average price range.
• Per John Engel, in response to an analyst’s question “By and large, what we’re seeing now is kind of a back to more normalized level across almost all dimensions of the business.” He also mentioned the backlog in switchgear and transformers.
• Wesco’s inventory days, according to an analyst, is 10-12 days higher than Rexel and Graybar. Wesco claimed this is due to the business mix, more engineered products, and it may have to do with the customer mix due to CSS and UBS.
• In 2022, Wesco’s rebates were 1.6% of sales. It declined to 1.4% of total sales in 2023. They told analysts that they expect to negotiate higher rebates in 2024 based upon “market expectations” but then said “our expectation is that our supplier rebates as a percentage of sales will be relatively consistent 2024 vs 2023.”
• To reduce SG&A will target discretionary and structural spend. Expect some facility consolidation. Also adjustment of headcount to demand (but remember, demand was down in CSS and UBS, so may not effect EES much.)
• Solar is high single digit % of EES business (so, 7-9%? Makes it a significant dollar amount.)
• Overall expect 2024 to be 1-4% increase for the total business.

Overall, on the sales side, it appears that their EES business performed much as the industry did, especially for the EES segments that they play in. The operational cost issue becomes more problematic when many of those costs support multiple businesses (especially facilities). It should like CSS and UBS may have some downsizing. Perhaps a little EES but could also tie to performance-based. Some discretionary costs could get tailored. And, as the business reverts to pre-pandemic performance, perhaps some of the roles that accelerated sales / profits supported (and those sales / profits were driven by price increases) may need to be reviewed.

So, going back to my friend, perhaps there is a “mess”, but it doesn’t appear to be on the EES side of the business and “sh*t happens” with project timing.

Your observations based upon what you see competing against Wesco or selling to them? (remember, you can post anonymously or share thoughts with us.)