Q4 2025 Earnings Call Transcript

Hello, everyone, and welcome to Ferguson's Fourth Quarter and Year-end Results Presentation. My name is Nadia, and I'll be coordinating the call today. [Operator Instructions] I will now handover to host, Brian Lantz, Vice President of Investor Relations and Communications. Brian, please go ahead.

Good morning, everyone, and welcome to Ferguson's Fourth Quarter Earnings Conference Call and Webcast. Hopefully, you've had a chance to review the earnings announcement we issued this morning. The announcement is available in the Investors section of our corporate website and on our SEC filings web page. A recording of this call will be made available later today.

I want to remind everyone that some of our statements today may be forward looking and are subject to certain risks and uncertainties that could cause actual results to differ materially from those projected, including the various risks and uncertainties discussed in our Form 10-K available on the SEC's website. Also any forward-looking statements represent the company's expectations only as of today, and we disclaim any obligation to update these statements. In addition, on today's call, we will also discuss certain non-GAAP financial measures. Therefore, all references to operating profit, operating margin, diluted earnings per share, effective tax rate and earnings before interest, taxes, depreciation and amortization reflects certain non-GAAP adjustments.

Please refer to our earnings presentation and announcement on our website for additional information regarding those non-GAAP measures, including reconciliations to the most directly comparable GAAP financial measures. With me on the call today are Kevin Murphy, our CEO; and Bill Brundage, our CFO. I will now turn the call over to Kevin.

Thank you, Brian, and welcome to Ferguson's Fourth Quarter Results Conference Call. On today's call, we'll cover highlights of our fourth quarter and full year performance and our market performance for fiscal year '25, including additional details on our customer groups and growth focus areas. Then we'll turn the call over to Bill to review financials, the change in our fiscal year and our new calendar year financial outlook before I wrap up with a few final comments. We'll have time to take your questions at the end.

In the fourth quarter, once again, our expert associates drove market outperformance and strong growth as they continue to serve our customers in a challenging market environment. Sales of $8.5 billion increased 6.9% over prior year, driven by organic growth of 5.8% and acquisition growth of 1.1%. Gross margin of 31.7% increased 70 basis points over the prior year. We remain disciplined on cost and generated $972 million of operating profit, which grew 13.4% over last year.

Diluted earnings per share increased 16.8% over prior year to $3.48. We continue to execute our capital priorities, deploying $483 million this quarter. Our investments in key growth areas, HVAC expansion, Waterworks diversification, large capital projects in Ferguson Home yielded solid results. We also announced 4 acquisitions in the quarter and 1 subsequent to the quarter, which focused primarily on HVAC and Waterworks diversification. We'll provide more details on these growth areas and the recent acquisitions later on the call.

We're pleased to return $354 million to shareholders through share repurchases and dividends, and our balance sheet remained strong with net debt-to-EBITDA of 1.1x. While we continue to operate in an uncertain environment, we remain confident in our markets over the medium term, leveraging multiyear tailwinds in both residential and nonresidential markets as we invest to support the complex project needs of the water and air specialized professional. Turning to our performance by U.S. end market in the fourth quarter. Net sales increased 7.1%, driven by our strong growth in nonresidential markets.

The residential end market, which makes up about half our U.S. revenue has remained subdued due to weakened new construction starts and permit activity as well as soft demand in repair, maintenance and improvement. Residential revenue was flat in the quarter. Nonresidential end markets, representing the other half of U.S. revenue showed continued resilience with increased activity on large capital projects. We continue to grow share with nonresidential revenue growth of approximately 15%.

We delivered 17% and 13% growth across commercial and civil infrastructure end markets, respectively, while industrial grew 5%. Our intentional balanced end market exposure and focus on key growth initiatives continue to position us well both in the current environment and into the future. Moving to our U.S. performance by customer group for the quarter. HVAC revenue was slightly down due to softer market conditions impacted by the industry's transition to new efficiency standards and weak new residential construction activity.

Despite these conditions, we were pleased with market outperformance during the quarter, particularly given the strong prior year comparable. Residential trade plumbing revenues decreased 2%. The business continues to face headwinds in new construction and ongoing PVC price deflation, while repair, maintenance and improvement is performing better. As we previously shared, we've merged our residential building and remodel and our residential digital commerce customer groups into a unified brand called Ferguson Home.

This customer group accounts for approximately 19% of U.S. sales and focuses on the higher-end project market, which delivered Ferguson Home revenue growth of 3% in the fourth quarter. Both Waterworks and Commercial/Mechanical continued to drive strong activity on large capital projects. Commercial/Mechanical revenue grew 21%, and Waterworks revenues increased 15%, both on top of prior year growth comparables. Our Industrial, Fire & Fabrication and Facilities Supply customer groups delivered a combined net sales growth of 5%.

Our multi-customer group approach uniquely positions us to solve complex project requirements and drive market outperformance. Turning to our full year performance. Our teams delivered solid results while faced with challenging markets and periods of deflation. Revenue of $30.8 billion was 3.8% ahead of last year.

The actions we took to streamline our business and manage costs more diligently resulted in operating profit of $2.84 billion up 0.6%, representing a 9.2% operating margin for the year. Diluted earnings per share came in at $9.94, a 2.6% increase over last year. Cash generation was strong with $1.9 billion of operating cash flow, which allowed us to continue investing in our growth areas and executing our capital allocation priorities. We returned $1.4 billion to shareholders via dividends and share repurchases during the year, while also welcoming associates from 9 acquisitions, continuing our strategy of consolidating our fragmented markets.

And we continue to deliver strong overall returns on capital of approximately 29.4% for the year. Despite the challenging environment, we outperformed our markets, delivered solid volume growth and drove profit expansion in fiscal '25. Next, our performance against the broader end markets for the year. Our residential end markets declined approximately 3%, due to a combination of weak new construction and softer RMI markets. We outperformed with organic revenue up 1%.

Nonresidential markets were approximately flat as large capital project activity offset the weaker traditional non-res activity like warehouse and office space. As we discussed in the past, we believe our scale, our size and our multi-customer group approach uniquely position us to provide value on large capital projects. We delivered 6% organic growth in the year, outperforming our typical 300 to 400 basis point market outperformance. And our balanced end market exposure continues to serve us well, and we've continued to take share across both end markets.

Now let me highlight our 4 key growth areas that continue to show ongoing returns from our multiyear investments. Our HVAC revenue increased 8% for the year, driven primarily by organic growth and approximately 1% from acquisitions. By leveraging the synergy between our residential trade plumbing and HVAC customer groups, we continue to outperform the market. Dual trade counter conversions, geographic expansion of our HVAC network and strategic acquisitions make up the multi-pronged approach of our HVAC everywhere strategy.

We've completed over 600 counter conversions, nearing our goal of 650, which we expect to achieve in early 2026. Our dual trade counters are uniquely positioned to serve approximately 65,000 dual trade contractors, which continue to make up a growing share of HVAC and plumbing markets. Our recent acquisitions of Manufactured Duct & Supply Company out of Atlanta in the fourth quarter and more supply out of Chicago, which was subsequent to year-end, further strengthen our HVAC strategy by expanding our footprint and continuing to support this dual trade professional. For Waterworks, our revenue grew 10% in fiscal year '25, driven by our diversification efforts as we expanded our capabilities to deliver a more integrated solution and address the nation's aging infrastructure.

We've expanded our role as a strategic partner by collaborating with engineers and construction professionals during initial project stages and broadened our product offerings to include process equipment solutions. Specifically, our recent acquisitions of Templeton and Ritchie Environmental strengthened our expertise in water and wastewater treatment plant design. This adds to the existing breadth of solutions we already provide for water, wastewater and green stormwater management as well as erosion control, treatment plant construction and metering technology. Our unique approach to large capital projects and the rise in number of projects helped drive 7% total nonresidential growth for the year.

We're pleased to be a trusted partner in managing these complex projects that require expertise, scale, operational agility and value-added solutions. By bringing together the capabilities of underground waterworks infrastructure, commercial and industrial PVF and fire protection create a compelling solution, particularly for data centers, large manufacturing operations, life science and health care facilities. Onshoring and restoring initiatives aimed at growing domestic production are further driving activity of large capital projects. We believe our early alignment with owners, engineers and general contractors combined with our deep contractor relationships, our scale and our ability to offer a suite of value-added solutions will continue to position us for success with these projects.

Ferguson Home began its rollout in February and is a key milestone in delivering a seamless customer experience across all touch points, including online and in-person. It represents another compelling example of the value our multi-customer group approach brings to the market. In addition to enhancing the experience for residential customers, Ferguson Home is supported by a network of dedicated outside sales and showroom consultants who serve our specialized professional customers. These associates bring deep product expertise and personalized service to builders, designers and other trade professionals, helping meet their unique project needs with precision and care.

Bringing together residential building and remodel and residential digital commerce reinforces Ferguson's role as a trusted partner for the professional. We're pleased with the ongoing success of these growth areas and we'll continue investing in them to leverage the unique advantages we can bring to the market that drive outperformance. I'll now pass to Bill, who will discuss the financial results in more detail.

Thank you, Kevin, and good morning, everyone. Let me start by covering our fourth quarter financial results in a bit more detail. Net sales of $8.5 billion were 6.9% ahead of last year. Organic revenue increased 5.8%, with an additional 1.1% coming from acquisitions.

During the quarter, we saw a return to mild inflation with pricing contributing approximately 2%. We saw improvement in finished goods pricing, while commodity-related categories were down low single digits. Gross margin of 31.7% increased 70 basis points over last year, driven by our associates' strong execution and the timing and extent of supplier price increases. We tightly managed operating expenses, benefiting from the streamlining actions we took earlier in the year while we continue to invest in core capabilities for future growth.

As a result, operating profit of $972 million was up 13.4% on the prior year, delivering an 11.4% operating margin with 60 basis points of expansion over prior year. Diluted earnings per share of $3.48 was 16.8% above last year, driven by operating profit growth and the impact of share repurchases. And our balance sheet remains strong at 1.1x net debt to EBITDA. Moving to our segment results.

Net sales in the U.S. grew 7.1% with an organic increase of 6.1% and a 1% contribution from acquisitions. Operating profit of $962 million increased $118 million over the prior year, delivering an operating margin of 11.9%. In Canada, net sales were 4.8% above last year, with organic growth of 0.3% and a 4.9% contribution from acquisitions partially offset by a 0.4% adverse impact from foreign exchange rates. Residential activity has continued to be softer than non-residential, where the market has remained more resilient.

Operating profit of $24 million in the quarter was $2 million above the prior year. Turning to our full year results. Our associates delivered growth amid a challenging market backdrop. Net sales were 3.8% above last year, with organic growth of 3.2% and an acquisition contribution of 1%, partially offset by a 0.4% adverse impact of 1 fewer sales day.

Pricing for the year was slightly down as a result of deflation in certain commodity-related categories, particularly early in the year. Gross margin of 30.7% was up 20 basis points. Operating profit of $2.8 billion grew 0.6% over the prior year, delivering a 9.2% operating margin and diluted earnings per share of $9.94 was up 2.6% on the prior year. Next, our cash flow performance.

EBITDA of approximately $3.1 billion was up $44 million on the prior year. Working capital investments of approximately $300 million and interest and tax of approximately $800 million were generally in line with the prior year. As a result, operating cash flow was $1.9 billion, up $35 million on the prior year. We invested $305 million in CapEx and generated $51 million in proceeds from asset sales, resulting in free cash flow of $1.654 billion, an increase of $132 million over the prior year.

Turning to capital allocation. As previously mentioned, we invested approximately $300 million in working capital and another $300 million in CapEx to drive further above-market organic growth. Our Board declared an $0.83 per share quarterly dividend. This is consistent with the third quarter and represents a 5% increase over the prior year, reflecting our confidence in the business and cash generation.

We continue to consolidate our fragmented markets through bolt-on geographic and capability acquisitions. As Kevin mentioned, we completed 4 acquisitions during the fourth quarter, including HPS Specialties, a manufacturer's representative of HVAC, plumbing and hydronic supplies serving commercial mechanical and industrial engineering professionals in the Northeast and Mid-Atlantic regions. Ritchie Environmental Solutions, a process equipment manufacturer's representative serving the water and wastewater treatment market in Virginia. Manufactured Duct & Supply Company, an HVAC supplies and parts distributor covering the Atlanta and Southeast markets and Water Resources, Inc., an exclusive distributor of Neptune Technology Group products and water meters in the Greater Chicago metro area.

In total, we completed 9 acquisitions in the fiscal year. Subsequent to year-end, we purchased more supply, an HVAC distributor based in Chicago that serves HVAC and dual trade professionals. As we look forward, our acquisition pipeline remains healthy. And finally, we are committed to returning surplus capital to shareholders when we are below the low end of our target leverage range of 1 to 2x net debt to EBITDA.

We returned $948 million to shareholders via share repurchases this year compared to $634 million in the equivalent prior year period. This year, we have reduced our share count by approximately 5 million and still have approximately $1 billion outstanding under the current share repurchase program. Now let me address the change of our fiscal year-end from July 31 to December 31. This move shifts year-end activities from our seasonally busiest time of the year to our slowest, allowing our associates to remain focused on our customers during their peak season. A 5-month transition period will span from August 1 through December 31, 2025. During this time, we will release earnings on December 9, covering the 3-month period of August 1 through October 31. We plan to announce our 5-month transition period results in late February, and our new fiscal year will begin on January 1, 2026. As a result of this change, we are providing guidance for the 2025 calendar year.

But before I move to the guidance, we have presented our first half performance on a calendar year basis for background. For the 6 months ended June 30, sales of $15.6 billion grew 5% over the prior year. Operating profit of $1.5 billion increased 8%, resulting in an operating margin of 9.6%, an improvement of 30 basis points from 9.3% in the prior year. Further historical financial information for calendar quarters with relevant reconciliations can be founded in the appendix at the end of the slide deck.

Now turning to our guidance for the 2025 calendar year where we have provided the relevant comparative results from calendar 2024. We expect mid-single-digit revenue growth in calendar 2025, and we expect an operating margin range of 9.2% to 9.6%, an improvement of between 10 and 50 basis points over the prior year. Interest expense is expected to be between $180 million to $200 million. Our effective tax rate is expected to be approximately 26% and we estimate CapEx will be between $300 million to $350 million. Despite the market uncertainty, we are leveraging the strength of our supply chain, tailored value-added solutions, innovative digital tools and the expertise of our associates, enabling us to capitalize on multiyear tailwinds and drive outperformance.

Thank you, and I'll now pass you back to Kevin.

Thank you, Bill. And let me again thank our expert associates who delivered strong results to finish this challenging year by continuing to take care of our customers and execute our strategy. Our ability to offer a scaled, multi-customer group approach on a project is unique and important to our key growth areas, including HVAC expansion, Waterworks diversification, large capital projects and Ferguson Home. Our performance continues to deliver results from these multiyear investments as we help meet our customers' needs.

While we continue to operate in an uncertain environment, we believe our markets remain attractive over the medium term, and we continue to invest in our expert associates and our value-added capabilities to drive growth. We're committed to supporting the project needs of our water and air specialized professional customers by delivering scale locally and providing exceptional customer service. Thank you for your time today. Bill and I are now happy to take your questions.

Operator, I'll hand the call back over to you.

[Operator Instructions] And the first question goes to Matthew Bouley of Barclays.

So kind of a broad question on growth and the end market outlook here. Obviously, a lot of crosscurrents recently around new residential, HVAC, et cetera, all of that. Meanwhile, you showed this strong non-residential result and inflation is improving. So really I'm asking, looking ahead, kind of thinking about this mid-single-digit growth for the total calendar year, Just trying to put all these trends together kind of -- it would -- I guess, it would be helpful on kind of price and volume quarter-to-date to sort of help us out there.

But then really, what are your assumptions going forward on these kind of changing end markets here over these next few months?

Thank you for the question. Maybe I'll take a little bit about the market and then let Bill fill in with a bit of color. If I take a step back, if we look at when we entered fiscal year '25, we came into the year believing that our markets would be down, low single digits. We thought that the residential markets would be down low- to mid-single digits, and we thought non-res would be roughly flat.

And so suffice it to say, we're pretty pleased with Q4 plus 7% and a year-to-date of plus 3.8%. And probably even more pleased that our key growth areas that we wanted to focus on drove that growth, whether it's HVAC expansion, Ferguson Home, Waterworks diversification. And then what we were doing with what we believe is a strong value proposition on large capital projects in non-residential, and that really did drive the growth. If we then take a shift into where we are currently and how we view, call it, the back half of calendar year '25 or this stub period of 5 months, we think that growth could be a bit softer in half 2 of calendar year.

And we really recognize that new residential construction weakness continues. We've seen continuation of softer RMI or repair remodel markets. And then candidly, when we look at some of our larger growth areas like HVAC, we have an affordability issue with a pressured consumer and a movement to more repair versus replace. Now the nonresidential markets really continue as traditional nonresidential activity isn't going to step up or we don't see that step up happening.

But the strength of large capital projects and that being our growth area does play out. But we do recognize that, that residential new construction in RMI market can be a bit more challenged.

Yes. And Matt, maybe just to build on that. If you look at the first half calendar results that we just walked through and that we put in the slide deck, revenue was up about 5% for the first half. I would tell you, July was a strong month, a solid month in line largely with what we saw in Q4. But as we stepped into August, we did see that growth come down a touch.

August sales per day were up about 5%. And I say sales per day because we had 1 fewer sales day which we'll pick back up in September but it did step down to 5%And to Kevin's point, as we look into the back half of the year, and we've provided a full year guide of mid-single digits, we would expect the overall growth rate to maybe be a touch softer in the second half, the market dynamics that Kevin outlined are certainly the driving force of that. And then if you just look at our comparables, our volume comparables do step-up as we go through Q1 and into our old fiscal Q2, which would be November, December.

So we feel good about the guide that we've provided. We think we will continue to have good growth in the second half but probably a touch softer than half 1.

Okay. Yes. That's all super helpful, exactly what I was looking for, given these, again, clearly dynamic end markets here. So that leads to the second question.

Kevin, you really touched on it, the large capital projects. It just seems like all your efforts are coming to fruition here. So around this kind of multi-customer group approach, you mentioned Waterworks, commercial PVF, fire protection, et cetera, with these large projects. Can you go into maybe just some more specifics, number one, just around how do you go to market with these customers, with the different types of contractors around actually leveraging your multi-customer group approach and kind of how that actually all comes together?

And then just more specifically, anything around kind of data center and what the pipeline going forward of these large capital projects looks like for you guys?

Thank you, Matt. And we really did build the organization to be better together than a part and a multi-customer group approach, and it plays quite well in large capital construction projects, which, as we've discussed, are really driving the day in non-residential activity. We go to market being best-in-class for the individual contractor or trade professional for that particular customer group, whether it be commercial mechanical, waterworks, fire protection, industrial pipe valve and fitting, making sure that we're the best provider on that job for the contractor. But we then elevate and go towards the source of funds, if you will, the engineer, the architect owner to try and make sure that we are engaged from a supply chain perspective, from a design perspective to make sure that, that project can get completed on time and on budget.

And so that work up funnel, closer to the source of funds, allows us to be a best solution for the individual trade on the job, and it served us well. And as we look at Waterworks being up 15% in the quarter, commercial mechanical being up 21% and our industrial business and our fire protection business being up 5%, it's paving the way for future growth. You asked a bit about what we see in the end markets. And just like the rest of the world, we're seeing that activity from a data center construction perspective, continuing to accelerate.

We haven't seen pauses or cancellations and that activity is stepping up, and it's stepping up in a variety of geographies across the nation. Those are great projects for us. They're great projects for us on piping systems as well as valve and automation, fabrication and virtual design, which are some of the other value-added services that we're bringing to the market that help us to earn that business from the local contractor as well as the trust of the owner and the engineer.

The next question goes to Phil Ng of Jefferies.

Congratulations on a really impressive quarter in a tough environment. Kevin, I just want to drill down a little bit more on the non-res piece. It sounds like the data center side of things remain really strong but we appreciate comps to get a little tougher in the coming quarters. But just give us a little perspective, what are you seeing on the momentum side of things?

You talked about bidding activity still being strong. Just give us a little more color on where you're seeing the strength, the bidding activity within non-res? And how far are you bidding out in just the backlogs in general?

And the backlogs are tough to really get after. And the reason that I say that is our backlogs are building, and they're quite healthy across commercial, mechanical, across fire protection, across Waterworks and across industrial pipe valve and fitting, so more broad-based. The tougher part is, as we've discussed in the past, the gestation period of these projects, they do vary. And so for us, it really is around what that operational agility is, if you will, of making sure that we have the supply chain tightened up right so that the piping system and the valve project are done in a timely fashion because these are incredibly large projects relative to historical standards.

And so making sure that you've got that in the right place at the right time is challenging. But those backlogs are building. But it's not just in the data center activity. We're seeing it in biotechnology and pharma.

We're seeing it in some large-scale hospital work as well. And then we're starting to see that play out in the water and wastewater treatment plant side of our business, which again plays well to our Waterworks business but also plays well to industrial pipe valve and fitting because those 2 customer groups work very well together on the construction of water and wastewater treatment plants, and you saw that play out in our results. You also saw that play out in what our M&A strategy is as we look to get, again, closer to the design and specification side of the world and broaden our offering on process equipment solutions, pump packages, valve offerings and overall controls inside the water and wastewater treatment plant.

So we're building out that capability very much in sequential line with our strategy.

Okay. Great color, Kevin. And then from a price and margin standpoint, both really impressive, pricing inflected nicely in this quarter. Bill, I guess, a question for you.

Should we expect pricing to kind of build from here? Or this is a kind of a good run rate? I know the commodity side of things were still negative. Are you starting to see that stabilize and potentially we got an avenue for that to inflect?

And then on the gross margin side, strong, nice expansion there. Was there any timing nuances with like inventory profit gains? So should we see some moderation or we can build off these gross margins, assuming obviously normal seasonality?

Yes. First, just to start on price and margin. We were pleased to see price inflect positive. As we've talked about over the last couple of quarters, we came into this year expecting our suppliers and the industry to return to, call it, low single-digit inflation and passing through annualized price increases.

We saw that step-up a bit with initial announcements of tariffs. We then saw that pull back a bit when the reciprocal was pulled back and paused. So we've seen a lot of noise in the system. But overall, we've seen price move back into that low single-digit rate.

It's difficult to predict how that plays forward. But I would expect and we are expecting some modest level of overall inflation as we play through the calendar year. On the commodity side, as you mentioned and as we noted, the commodity basket as a whole is still in low single-digit decline. We have seen movements in the different product categories.

Clearly, copper tube and copper fittings are in, I would call it, healthy levels of inflation. We have seen with -- as steel tariffs came through, we have seen steel pipe, carbon steel and stainless steel move back towards flattish, maybe up a little bit. And then there's still pressure on PVC, both on the plumbing side of the world and Waterworks, which is still in deflation. So as a basket, those are still in modest deflation, and it's difficult to predict how that plays forward.

But if I take a step back from that, again, our best view is that probably some modest level of inflation as we round out the calendar year. On gross margins, we were really pleased with the 31.7% gross margin delivery in the quarter. We did see the benefits of the actions that we took earlier in the fiscal year. We talked a lot as we came out of Q2 and into Q3 that we had focused our sales teams.

We had made some pricing tweaks and we had made some adjustments to ensure that we are properly charging for the value that we provide in the market every day. And we saw that start to play through as we exited Q3 -- exited Q2 into Q3 and then certainly through Q4. But there's no doubt we saw some temporary benefit in the quarter based on the timing and the extent of supplier price increases. So when we take a step back, we've been, I think, pretty consistent with our view that this -- the overall underlying ongoing normalized gross margin of this business is somewhere in that 30% to 31% range.

And we would expect that we would settle back down into that range as we move into the future. And in fact, if you look at -- we talked about August revenue but if you look at August gross margins, we started to see that normalization play through. So we're very confident with the underlying gross margins of the business, and the teams are doing a great job executing every day for our customers.

The next question goes to John Lovallo of UBS.

You may have answered this partly with Phil's question but sort of back of the envelope at the midpoint, it seems like the implied calendar year second half operating margin is expected at about 9.2-ish percent versus 9.6% in the first half, and that comes despite what looks to be about a 1% improvement in sales half-over-half. So what's sort of driving that expected margin decline? Is it the timing of the pricing that you just mentioned? Or is there other factors as well?

Yes, it's a great question, John. And I think we'll -- as we get more used to calendar quarters, we'll get more used to the seasonality of the business. But I would point mostly to that seasonality. If you go back to last calendar year in the second half, we delivered about an 8.8% operating margin.

And your back of the cocktail napkin math is spot on in terms of the guide for the full year at 9.2% to 9.6%, implies that the second half will be somewhere in the upper 8% to, call it, mid-9% range in the back half of the year. So we are expecting continued improvement year-over-year. And I'd point a bit more towards seasonality that the second half of the calendar year will be typically a touch lighter given November and December with the holidays from a seasonality perspective.

Okay. That's helpful. And then last quarter, I think you guys talked about $100 million of expected annual savings from restructuring actions and there wasn't expecting much impact in the fourth quarter -- fiscal year fourth quarter. So how should we sort of think about the cadence of those savings as we move forward here?

Yes. We are pleased with the execution of those streamlining actions and the cost savings are playing through in the underlying cost base of the business. But maybe more importantly, the speed and agility of decision-making has improved in the field. And that was really the primary reason for some of the organizational design changes that we made, moving those decisions closer to the customer.

We did quote about $100 million of annualized cost benefits. We did see that play through in the fourth quarter. And I would expect that, call it, roughly $25 million year-over-year to play through over the next 3 quarters. If you look at the fourth quarter and just take a step back, our cost as a percentage of sales were roughly 20.3%, which is roughly flat to last year.

So we got good underlying cost reductions from the streamlining actions. We had a bit of cost increase driven by sales volume and a touch of cost inflation. And then certainly, every one of our associates has a variable component of their pay that's linked to performance. And given the strong financial performance in the second half, our associates were appropriately awarded for that performance.

So we very much believe that the cost base is positioned well as we look to the second half and would expect a bit of operating leverage, assuming that the sales environment plays out like we expect.

The next question goes to David Manthey of Baird.

Kevin, Bill. First question, Bill, you gave some nice detail on commodities pricing. I was wondering if you could just give us an idea by segment sort of high end versus low end of the pricing spectrum by segment, just so we understand how that sort of lays across your reporting segments? And then you mentioned the kind of the reversion of the gross margin to that 30%, 31%.

And I guess that kind of implies 100 basis points maybe of incremental benefit in the period because of some of the inventory gains that would be temporary. Is that in the range? And then is there anything left over as we look to the October quarter, should we expect some residual benefit as well there? Or are we pretty much worked through now?

Yes. I'll start with the commodities and pricing. And if I go back to my comments earlier, having seen a bit more inflation in copper and then steel returning towards flat to up a little bit. You should expect that our non-res business has a bit more inflation in it right now than our residential business.

It does vary by customer group, and we generally don't provide a lot of detail by customer group. But I would consider that Waterworks is slightly down on price, largely driven by PVC and with the majority of our customer groups, slightly up from an overall inflation standpoint and maybe again, a touch more inflation on the commercial mechanical side of the world, given copper and steel. In terms of the gross margin, we do expect, again, it to land somewhere in that normalized range of 30% to 31%. If I look at last year in the second half of the calendar year, we were right about the mid-30% range, 30.4%, I believe.

So we would expect there to be some relative performance to last year. But we would expect, again, the temporary benefit that we've seen over the last quarter, 1.5 quarters, driven by the timing and extent of supplier price increases to start to wane as we go through the back half.

Okay. And then specifically on HVAC, you didn't mention that as it relates to pricing. But maybe if you could help us understand the benefit from pricing and acquisitions in the HVAC segment that netted to the number we saw. And any comments you have regarding the refrigerant transition?

Like do you have any R410 systems left at the end of July? And then multi-family is a hot topic lately. Any other commentary around HVAC would be helpful.

Yes. HVAC overall, on equipment, we are going through the transition, as you noted, from 410A to A2L. And so clearly, A2L systems have a higher price point, but we are clearly working through that transition as we went through the back half of the calendar year. So there was a bit of inflation on overall equipment, but we're also seeing a lot of repair replace and so not nearly as much inflation on parts and supplies.

I would consider HVAC. You should think about it as very low single-digit overall inflation in the overall business, again, a bit more on equipment, a bit less on supplies and parts.

And when you look at the overall market and what our business was, Dave, we were pleased with being, call it, down 1 in Q4 on a plus 9% prior year compared to. And if you look at the business overall, we continue to get after counter conversions to address the dual trade contractor and be the source of supply for them. We've done about 600 of them. We'll continue with, call it, 50-plus more as we go into early 2026. You've seen us expand our geographic footprint and we will continue to open up new stores that are dedicated to serving that dual trade HVAC and plumbing contractor, and then you've seen it play out in the M&A side.

There's clearly a move towards more repair versus replace in today's world. We have sold through the majority of our 410A, and that was in place as we went through the fourth quarter, which is why, as Bill indicated, low single digit is probably the inflation number you should be thinking about. But that will clearly move as repair moves a bit more to -- repair moves to replace and as we start to see that A2L play into the system as the system of choice. But you've also got the balance between ductless and unitary systems playing through as well.

Generally speaking, we're very pleased with the strategy. We're very pleased with the execution, and we'll continue to have that as a major source of growth for us on the residential side of our house as we go forward.

The next question goes to Sam Reid of Wells Fargo.

So you called out a little earlier some softness in resi remodel. And I just wanted to unpack that a bit more because you've got a really strong presence in remodel with higher income consumers. And that's historically insulated you from some of the category slowness. So are you starting to see demand crack from that higher income consumer?

And then can you just give us a sense as to where remodel backlog sit today versus, say, 1 to 2 quarters ago?

Sam, the remodel market is continued pressure. We're seeing continued pressure there. We've said that the higher end of the market will continue to perform better than the rest. We're pleased with a plus 3% growth rate in Ferguson Home, especially as we brought those 2 channels together.

And if you look at our showroom business in particular, it is predominantly that remodel space today, and it's primarily that remodel project work for the higher end of the market. We've seen traffic continue to be healthy and so we'll look at that continuing to be the driver. On the lower end of the market, we saw that pressure play through in residential trade and along with new construction pressure and PVC price deflation, that puts that business under a little bit more pressure in a down 2% position. But generally speaking, we're pleased with that higher end of the market with Ferguson Home.

That helps. And then just switching gears and drilling down a little bit more on Waterworks, I mean really strong results here, especially in the context of some peer REITs, can you just talk to more specifically what you're hearing from your large homebuilder customers? It sounds like there was a pullback that accelerated in August in demand for, let's call it, new residential subdivision projects. But I just want to confirm that.

And then can you just give us a rough sense as to where your resi Waterworks business sits from a geographic standpoint? Do you under-indexed, for instance, in markets like, say, Florida? Just love some additional context there.

Yes. I'll start with, we don't under index in Florida. But if I take a step back and look at our business, clearly, we're really pleased with a plus 15% in the quarter, we're really pleased with a plus 20% on a 2-year stack inside that Waterworks business. It's a testament to what the group has built over time and that diverse business mix that they have, residential, commercial, public works, municipal spend, water, wastewater treatment plant, stormwater management, geosynthetics and even moving closer to that engineering environment, as I referenced earlier, with pumps, valve packages, process equipment and controls.

And so that continues to play well for us. Perhaps the biggest impact that we've seen though is in that large capital project, non-residential space as the water piece of that business is quite impactful. And then the multi-customer group approach on non-res is playing out. If I then shift to your residential portion of the question, we have a pretty broad-based business residentially across the U.S.

We're very -- we have strength in the Southeast. We have strength in the South but it's pretty broad-based. If you look at what we're seeing, I'll take aside conversations with the large builder. We've clearly seen pressure on that new residential construction space as has the rest of the country.

If you look at our bidding activity, we have not seen a significant fall off in residential bidding activity. But that said, we have no idea how that work will be released. Will it be released at all? And what does that look like in terms of sections or phases and how that plays out.

But we do anticipate that in the near-term, we'll see some continued pressure on that new residential waterworks insulation space.

The next question goes to Ryan Merkel of William Blair.

I wanted to follow up on the new residential construction market. So you mentioned that trends have weakened. Can you just give us a little bit more color? We've heard the Sunbelt, in particular, has weakened recently and then lot development feels like that slowed quite a bit.

So curious if you're seeing that. And then for the guide, are you assuming that it gets worse from sort of August to December for new resi?

Yes. Maybe, Ryan, I'll start with the guide. Again, we don't see anything falling off of a cliff. From where we sit today, we think that new resi will be a bit weaker as we move through the back half of the calendar year.

And therefore, we think that our growth overall for the second half of the calendar year could be a bit below the first half. First half was clearly at 5%. So I'd read that to be sub-5%. But again, don't see that falling off dramatically.

To Kevin's point, we're still seeing decent activity out there. And if I go back to kind of how we saw the residential markets playing through our fiscal year, we've been pretty consistent and kind of seen a bit more softening as we've come through, but expected those markets to be down low- to mid-single digits. We now expect them to be down maybe a touch more in the second half of the year.

But Ryan, it's precisely why we are pleased with the balanced business mix that we have inside the organization and the growth areas that we've got with HVAC, Waterworks diversification, large capital and then that higher end of the remodel market of residential with Ferguson Home.

Got it. Okay. And then my second question, just back to the non-resi market, up 15%, so a really good number. But when I look at the details, industrial is up 5%.

So could you comment on why that particular market might be a little bit slower than the others? You mentioned the onshoring theme, which is very real. Just curious if you expect the industrial market to stay softer than commercial and civil.

I'll give you a bit of color and then Bill can fill in. If you look at that plus 5% number. That's inclusive of our fire protection business, our industrial business and our facility supply business together. If I think about the fire business and the industrial business, they still were working through periods of commodity deflation.

And as Bill indicated, we haven't seen a massive ramp-up in steel pipe pricing across those markets. But we were very pleased with what those businesses have done in market share and especially in our industrial business and what they've done to work together with our water business and our commercial mechanical business on the valve packages and the valve actuation and automation pieces of large capital projects. We're pleased with that, and I wouldn't read too much into the plus 5% against the plus 21% of the commercial.

The next question goes to Mike Dahl of RBC Capital Markets.

Just to go back on HVAC for a minute. I wanted to dive a little bit deeper. Obviously, a lot of concern from some of the OEMs and invoicing some much sharper declines in the near-term. So a similar question as you just answered on Waterworks.

But when you think about what the guide embeds for the balance of the year, the OEMs seem to suggest that the near-term is going to be quite pressured on HVAC volumes, but then potentially even better price mix than what you've articulated. Just give us a little more detail on how your guide embeds kind of that HVAC growth in the second half.

Mike, thank you for the question. If you look at the HVAC business, as we looked at the fourth quarter, as Bill indicated, we would see low single-digit price embedded. We clearly believe that, that will increase on the equipment side as 410A moves over to A2L. We also had that mix move from replace to repair, which had muted what that overall inflationary impact is.

But if I also look at a down one number in the quarter, it really was the tale of, call it, 2 geographies, if you will, inside of our company. Very strong performance on the East Coast, the Mid-Atlantic up through the Northeast and the Midwest with some challenging weather environments and sell-through inside the Western United States and it really was bifurcated. We know there's going to be pressure on new res construction. We know there's going to be pressure on affordability with the consumer as we go through the next several months.

But we are pleased with what has been happening from a volume perspective, especially as we've got a lot to go after in the market and continue to expand. As I indicated, we're going to expand our counters. We're going to expand our locations, and we're going to continue to focus on that from an M&A perspective. So the market is going to be a bit challenging but we're bullish on what that looks like over the medium term.

And Mike, that's effectively embedded in the guide, again, being -- not to be too repetitive, but the second half being down a bit from the first half would play through. And our expectation is that, that's driven by that new resi weakness and a bit of HVAC softness. And we've seen that in August. HVAC was down a touch in August, still low single digits.

So again, I don't see that falling off a cliff from our revenue perspective. But we're coming up against some pretty tough comparables in HVAC, start to lap some double-digit comparables. So probably some softness in the near-term on HVAC, all embedded in the guide with a touch softer revenue in the second half.

Okay. That's helpful. And then shifting gears just on the balance sheet and capital allocation. You've done a good job deploying a decent amount of capital.

That said, your balance sheet is still being pretty conservatively managed around the low end of your target range. There's obviously a lot of differing views on where we are in the cycle right now. But from your standpoint, what would it take for you to deploy capital even more aggressively towards the midpoint or upper end of your leverage range? And is that more likely, as you sit here today and look at your M&A pipeline, is that more likely to come through increased focus on M&A or a step-up in buybacks?

Yes. I'll start with. We try to be very consistent, and I think we've delivered consistency when it comes to capital allocation. We like having a strong balance sheet.

It gives us that optionality to scale up and to go after growth investments. And so we intend to operate towards the low end of that leverage range of 1 to 2x net debt to EBITDA on an ongoing basis. In terms of scaling up, you would see us scale up where there were really good organic growth opportunities or maybe more so in the near-term, where there would be more M&A opportunities. There's nothing large in the pipeline right now, but we have that balance sheet flexibility to take advantage of those opportunities should they occur.

We'll take our last question from Anthony Pettinari of Citi.

Just following up on the last question on M&A. I think you indicated there's nothing large in the pipeline, but I wonder if you could talk more -- maybe more generally about what the pipeline looks like as we get closer to the end of the year. I guess, specifically, valuations, seller expectations, whether you're seeing any increased competition for assets in water and air, maybe from new parties. Just -- is there anything that's kind of changed about the landscape in the model?

Yes, Anthony, no real significant changes in the landscape. I mean it's been a pretty competitive environment in water and air for a number of quarters and years, quite honestly. But valuations still probably towards the upper end of our typical, call it, 7 to 10 net -- 7 to 10 enterprise value to EBITDA range. We have a good actionable pipeline.

As I mentioned, yet nothing really large in that pipeline. But quite frankly, that's what the industry is. The industry lends itself to 10,000-plus small- to medium-sized competitors that are out there. And our focus has been on consolidating those markets over time.

So our strategy is very consistent. Our pipeline is pretty healthy. And we think we have a good opportunity to continue to consolidate the industry.

Okay. That's very helpful. And then just following up on maybe some of the earlier questions on margin. You said you expect some level of inflation over the next few quarters. Does that anticipate any specific tariff-related price increases? Or are we pretty much kind of level set on tariffs essentially sort of being in prices right now?

Yes, Anthony, as Bill said earlier, we expected earlier in this year to get annual price increases, that's happened. We thought we would see some additional increases based on a variety of factors, that's happened. And it was offset by continued commodity deflation principally in PVC. And so at 2% inflation in the quarter, that's modest overall inflation.

We expect that to continue. But it's a pretty uncertain environment. As Bill indicated earlier, manufacturers reacted quickly to the reciprocals, then pulled back in large part and they have been slower to address those changes and taking a more wait-and-see approach. The good part for us as a business is that the cost of product pales in comparison to the cost of labor, and we wake up every day, making sure that we're driving construction productivity for that water and air specialized pro.

And so yes, we expect some degree of modest inflation, but we're going to compete every day in the market and make sure that we leverage scale, that we're sourcing product from 37,000 different suppliers and then we're getting the right price for the right project, and getting it at the right time to get that project done. So it will be modest inflation as we go forward, but still a lot of uncertainty in the marketplace right now.

Thank you. I'll now pass back to Kevin Murphy, CEO, for closing remarks.

Thank you, operator, and thank you all for the time today. We appreciate it more than you know. And again, I just want to reiterate, thanks to our associates. We're incredibly pleased and proud of the execution of our strategy in both the quarter and the full year.

And although near-term markets remain challenging, particularly on the residential side of our balanced business mix, we're confident in our ability to outperform over time. So please reach out with any further questions, and we look forward to seeing you very soon. Thank you again.

That concludes the Ferguson Fourth Quarter and Year-end Results Conference Call. I'd like to thank you for your participation. You may now disconnect your lines.