Church & Dwight Co. Inc (CHD) — Q2 2022 Earnings Call Transcript

So I got promoted to CEO about seven years ago. But anyway, good morning, everyone. Thanks for joining us today. We've got a lot to talk about. I'll begin with a review of the Q2 results. Then I'll turn the call over to Rick Dierker, our CFO. When Rick's done, we'll open the call for questions. So Q2 was a solid quarter for us. Reported revenue was up 4.2%. Organic sales grew 3.4%, and this was in line with our 3% to 4% outlook. The adjusted EPS was $0.76. Now this was $0.06 higher than our outlook, but that was due to lower marketing. We grew consumption in 11 of our 17 categories in which we compete, and in some cases, on top of big consumption gains last year. Fill rates have improved to 90% in June, and we expect to get back to historical levels by the end of the year. Regarding brand performance, we experienced double-digit consumption growth in six of our 17 categories. I'll name them for you: ARM & HAMMER scent boosters, ARM & HAMMER baking soda, ARM & HAMMER clumping litter, Batiste dry shampoo, ZICAM zinc supplements, and TheraBreath mouthwash. And we gained share on eight of our 14 power brands, so that's a good story. Our shares are healthy. In Q2, online sales, as a percentage of total sales, were 16%. Our online sales increased to 15% year-over-year, and we continue to expect online sales for the full year to be above 15% as a percentage of sales. Since early 2021, we have announced price increases to combat inflation, and through mid-2022, we have already announced price increases covering 80% of our global portfolio. We did a second round of price increases in Laundry and Litter that just hit the shelves. But at the same time, cost inflation continues to climb. Since we spoke to you in April, we are now expecting $50 million of new incremental cost inflation. The cumulative incremental cost inflation is $135 million since we gave our initial full-year outlook way back in February. The incremental $50 million of inflation, combined with currency headwinds, caused us to lower our full-year EPS outlook. We now expect 6% operating income growth offset by a much higher year-over-year tax rate. Now, I’m going to comment on each business. First up is the US consumer business, which grew organic sales by 2.4%. Looking at market shares, as I said before, we had good numbers, with eight of our 14 power brands gaining share. Looking ahead, we expect even further improvement in our market share positions by year-end as our fill rates will improve and promotional and marketing spending will increase in the back half. Let’s look at a few of the important categories. Starting with Laundry, the trade-down to value detergent has begun. For example, during Q2, the liquid laundry category grew 7%, but value laundry detergent grew 11%, while premium laundry grew only 4%. In Litter, the category grew 12%, with both our black box, which is premium, and our yellow box, which is value showing double-digit consumption growth in Q2. The dry shampoo category was up 18% in Q2, while Batiste consumption was up 43%. Our growth would have been higher if not for our difficulty in securing aerosol cans and actuators. In Gummy Vitamins, sequential quarterly growth is slowing down. For the last three quarters, the category growth rate has been 16%, 10%, and most recently, 5%. We expect the category growth to turn negative in Q3 simply because we are lapping the consumption spike from the Delta variant in last year's Q3. Also, we continue to struggle with fill rates, which are hampering our ability to grow. Our most recent acquisitions are performing well. TheraBreath, which we acquired in December 2021, had a great quarter with 33% consumption growth. TheraBreath grew share of 3.1 points to 16.4% in the alcohol-free mouthwash category. ZICAM is our other recent acquisition, and it also delivered strong results this quarter. You may recall we acquired ZICAM in December 2020. We were hurt in year one of our ownership due to masking and social distancing. ZICAM cold remedy consumption was up 55% in Q2 and is the number one brand in the cold shortening segment with a 75% share. Looking ahead to the rest of the year, the regular flu season in the US is projected to be more severe than in recent years based on what the southern hemisphere is experiencing right now. Next up is international. Despite significant disruptions, our international business delivered organic growth of 6.5% in Q2, primarily driven by Batiste in Europe, Vitamins, and Batiste in Canada, along with growth across the GMG business, which is our export business. In April, when we spoke to you, we expected flattish growth in Q2 and a continuation of the supply chain lows we experienced in Q1, such as fill-level issues and delivery issues. These proved to be less disruptive in the quarter than we anticipated. However, fill levels and delivery issues will continue to weigh on our Global Markets Group in the near term. Next up is Specialty Products. Our Specialty Products business delivered a strong quarter with 6.3% organic growth, driven by both higher price and volume. Now I want to spend a couple of minutes discussing our more discretionary brands since they are having an impact on our full-year revenue outlook. We see lower consumption for water flossers in the US as consumers trade down to lower-priced water flossers. Additionally, WATERPIK Asia-Pacific flosser consumption has been declining as a result of lockdowns. Similarly, there is a lower demand for WATERPIK showerheads, which is due to fewer DIY projects, many of which got completed during COVID times. WATERPIK is a discretionary purchase, and we continue to invest in demand-driving activities such as launch and learn to drive household penetration of flossers. It's fair to say gum health has not gone away and still only 16% of the US population flosses every day. This business has averaged high single-digit growth top line since we acquired it in 2017, and we're confident that the long-term growth prospects for WATERPIK are sound. The other discretionary brand we have is FLAWLESS. We're experiencing lower consumption with that brand, but that is largely due to the absence of our new products in this fast-moving beauty category. China lockdowns have impacted our manufacturing, and the new product launches that were planned for the first half have been delayed until the end of '22. Now, I want to spend a few minutes on the health of the consumer, private label trends, innovation, and our ability to supply. Innovation is at a multi-decade high, and interest rates are rising to tamp down inflation. While wages have risen, households are getting squeezed, and consumers are making choices to make their dollars go further. I think back to April during our Q1 call; we called out the strengthening value detergent segment. In the latest four weeks ended July 17, the value liquid laundry detergent category is up 8%, deep value is up 1%, and premium is down 1%. We think the trade-down is happening. Here's another early indicator of trade-down, this time in oral care: we had one major retailer point to the strength of manual toothbrushes, which have held up well for them in contrast to declines in rechargeable and power toothbrushes. This trend impacts both WATERPIK and SPINBRUSH, and here are a few numbers to illustrate that: the flosser category was down 7% in Q2, and battery-operated toothbrushes, the category was down 4% also in Q2. So we're keeping an eye on these and other trends. It's important to point out that 40% of our portfolio is value, and we expect to perform well in a difficult economic environment. Our largest businesses, detergent, and vitamins, are value products, and in Litter, our orange box is also valued. So we feel well-positioned for what may be coming. Regarding private label, private label shares are stable in the five categories where we have meaningful exposure to store brands. As you saw in the release, we have a strong lineup of innovations across our personal care and household categories. I want to highlight the early success of ARM & HAMMER Baby Laundry Detergent, which has already achieved a 10% share of the baby laundry category at Walmart. The other product I'd like to highlight is TROJAN RAW, which is the thinnest condom now on the market, which is already the number six out of 400 SKUs sold at Amazon. I also want to mention our recent launch of a new lightweight litter that we call Hard Ball. We expect over time this will enable us to get our fair share of the lightweight litter category. For the cat owners on the call today, we named it Hard Ball because of the hard ultra-compact clumps; it's quite a unique consumer experience. Regarding ability to supply, you may recall we hit bottom in Q1 with the Omicron resurgence when we saw our fill rates dip below 80%. The overall Q2 fill rates improved to 89%, although recovery in our high-margin personal care side of the business is still lagging. We're on track to be near historical fill levels by the end of the year, and the good news is July continues to show improvement. We have confidence in our revised full-year outlook for several reasons: improving fill rates, trade down to value, healthy new product innovation, and consumption strength in our recent acquisitions. Regarding support, we have key promotional events lined up in the second half, and two-thirds of our full-year advertising spend is concentrated in the second half. In closing, we expect our portfolio of brands to do well both in good and bad times, and we continue to hunt for new TSR-accretive acquisitions. Next up is Rick to give you more details on Q2.

Thank you, Matt, and good morning, everybody. We'll start with EPS. Second quarter adjusted EPS was $0.76, flat to the prior year. The $0.76 was better than our $0.70 outlook primarily due to continued strong consumer demand and lower marketing spend due to below-normal fill rates in our personal care business. The market impact was about $0.04 in the quarter. The good news is our overall fill rate continued to show improvement and hit 89% for Q2. Reported revenue was up 4.2%, reflecting a 1% drag from currency. Organic sales were up 3.4%, in line with our outlook. Matt reviewed the top-line for the segment, so I will go right to gross margin for the company. Our second-quarter gross margin was 41.2%, a 220 basis point decrease from a year ago. Let me walk you through the Q2 bridge. Gross margin was impacted by 600 basis points of higher manufacturing costs primarily related to commodity inflation, distribution, and labor, as well as a 10 basis point drag from currency. These costs were offset by a positive 270 basis point impact from price volume mix, a positive 20 basis points from acquisitions, and a positive 100 basis points from productivity. Moving to marketing: marketing was down $14 million year-over-year. Marketing expense as a percentage of net sales was 7.8%, and we expect two-thirds of advertising to be concentrated in the second half as case fill improves. For SG&A, Q2 adjusted SG&A decreased 10 basis points year-over-year. Other expense all-in was $15.1 million, a $3.7 million increase resulting from higher average debt outstanding. For income tax, our effective rate for the quarter was 24.1% compared to 24% a year ago. Moving to cash: for the first six months of 2022, cash from operating activities decreased 10% to $310 million due to lower cash earnings and higher working capital driven by higher inventory levels. We expect inventory to get back in line by year-end. As of June 30, cash on hand was $640 million. Looking ahead to Q3, we expect reported sales growth of approximately 2% to 4%, organic sales growth of approximately 1% to 3%, and gross margin contraction. Sequentially, we are decelerating from Q2 and as our VMS business comps to a COVID surge a year ago. We see a tightening in the consumer for our discretionary products such as WATERPIK and FLAWLESS. Those two reasons, coupled with the inventory issues we've all heard from retailers, compressed Q3 growth. Adjusted EPS is expected to be $0.55 per share, a 19% decrease from last year's adjusted Q3 EPS. This is largely due to higher SG&A, which is normalized levels of incentive compensation versus a year ago, plus higher marketing and promotional support. We expect higher EPS in Q4 to offset the Q3 decline driven by an acceleration of organic growth in the absence of prior year one-time investments. Now to the full year: we now expect the full year outlook for reported sales growth to be approximately 4% to 6%, reflecting an incremental drag from currency of 1%. We now expect organic sales growth to be approximately 3% to 4%. As you read in the release, we now expect an incremental $135 million of cost inflation for the year, which is $50 million higher than our April outlook. On a longer time horizon, we continue to plan on offsetting inflation with incremental pricing, laundry compaction, and productivity. We continue to anticipate full-year reported gross margin to be down versus 2021, as inflation is partially offset by pricing and productivity. We continue to expect gross margin to improve sequentially in Q3 and increase year-over-year in Q4. Marketing spend is now expected to be lower in 2022, driven by the lower spend in the first half of the year. We now expect full-year adjusted EPS to be flat to 2021 due to incremental inflation and currency headwinds. We continue to expect the full-year tax rate to be 23%. We expect cash from operations for the full year to be approximately $900 million, down from $920 million, and our full-year CapEx plan is now approximately $180 million as we continue to expand manufacturing capacity. In closing, we continue to perform in a volatile environment. Our share performance improved again in Q2, and we expect further market share gains in the second half as we invest in our brands and supply chain fill levels improve. With that, Matt and I would be happy to take any questions.

Great. Thanks. Good morning, everyone. Two for me, if I could, Matt. So I think you've probably been a little bit more cautious on the consumer probably earlier than maybe some of your peers. Everyone got off practice calls this morning; they're calling for a category slowdown as well. Without asking you to be redundant, Matt, you called out some of your more discretionary categories. You're also calling it out in laundry. Maybe you could just talk about the scope and the exposure within your product portfolio in terms of where you expect to see further trade down and outside of what you called out. Maybe talk about the changing category growth rates underlying your guidance for the year? And then a follow-up. Thanks.

It’s a pretty broad question, Kevin. Yeah, as far as the categories go, let's start with discretionary. I did mention that both the water flossers and FLAWLESS were both struggling due to trade down—trade down for WATERPIK but also the absence of new products for FLAWLESS. However, if you think about our portfolio, 90% of our portfolio comprises everyday essentials, and only 10% relates to discretionary products. Although we spend a lot of time discussing discretionary products and how they impact the full year call, it’s not the whole story. As I mentioned, we had growth in 11 out of our 17 categories that we're in, and we do expect that to continue in the second half. There are a few categories I'll call out besides WATERPIK and FLAWLESS like Spinbrush, for example, which was down a little bit. Another one that was soft in the quarter is depilatories, as well as oral gel, but everywhere else you saw growth.

Yeah. My follow-up is probably for Rick. Just in terms of the EPS outlook. The environment is clearly challenging; costs have gotten worse, FX not as a big headwind for you guys, but nevertheless still headwinds. Can you talk about the constraints on the pricing front? And then historically, it's well thought that you have been run pretty lean, but are there other levers to pull here in terms of productivity to offset some of the cost headwinds? And then I can pass it on. Thank you.

Sure, Kevin. From an EPS perspective, we've announced a second round of pricing, as an example for laundry and litter, and that'll be a tailwind. Our personal care, fill levels returning from low 60s back to normal will also be a tailwind. Promotional support, because we didn't have the fill levels in the first half of the year to do promotions like we normally would, will be a tailwind as well. We think trade down will present a tailwind in general for laundry, as Matt quoted some numbers on how the value categories are starting to grow. So we think we're well-positioned for all those reasons. For EPS, we also mentioned that Q3 is down significantly, but Q4 is expected to be up significantly and Q4 is also lapping some of those investments in one-timers that we’ve talked about previously. So that's on the EPS side. On productivity, we discussed last quarter—Lauren asked about productivity phasing, and that’s still true because early on in this year and even late last year, it's hard to break in to get line time to go do qualification to execute any productivity type efforts. And we mentioned it last quarter; it's still valid. It’s going to take time to build for the year. As we have back to the right capacity and fill levels, we’ll have more and more time available to devote to productivity initiatives at our plants.

Okay, very good. Thank you, guys. Good luck.

Hey, Kevin.

Good morning. Thanks for taking my question. I guess I just want to go back to the gummy vitamin category. You guys talked about slowing category growth, so I was curious what's driving that lower category growth? And then secondarily, you mentioned that your fill rate is still being challenged. When do you expect your fill rate to get back to where you'd like it to be?

We expect the fill rates to return to mid to high 90s by the end of the year, Rupesh. Household is ahead of Personal Care right now. Of course, Personal Care is our higher-margin segment, so that’s the one we're focused on the most.

Yes. Just to give you an example on that, Rupesh, right, we were in the low 60s on fill rate for Personal Care within the portfolio. In Q2, we had 74% in the month of July, so we can—we have visibility into rapidly improving that number.

Yes. And as far as the vitamins go, keep in mind you’ve grown off a really gigantic base in the last couple of years with growth in 2020 and 2021. Although the growth rate is slowing down, it’s because of the tough year-over-year comparison, last year Q3 was just a huge spike because of the Delta variant. So, consequently, we expect the growth rate to go negative year-over-year.

Yes. For example, Rupesh, Q3 last year, the category grew 33%. The other quarters grew 19%—Q1, Q2, and Q4. So, it's more of a comp issue.

Yes.

Okay, that's helpful. And then just on the cost side, obviously, cost pressures continue. Based on your visibility right now, do you have any sense that the cost pressures could be peaking, and if you look forward to next year, some of these pressures could roll over? Could you provide more color on the risk that you see to your cost outlook for the balance of the year?

I'll leave you with two thoughts on the cost side: we do think there will be inflation next year. We think that inflation will only come down as demand comes down. If we enter into a recession, we think that demand will start to slow in general for the macro economy, and usually, we would be about 50% hedged from a commodity perspective for next year. We're not hedging at all as an example. Hopefully, that gives you some context.

Okay, great. Thank you.

Hi, good morning, everyone.

Hey, Chris.

Just maybe we could talk a bit more about the phasing for the year, Q3 versus Q4. I’m specifically trying to understand the snapback that you’re expecting in Q4 and what's driving that. Perhaps within that, you can comment on whether there are specific volume headwinds you expect to improve in Q4 versus Q3. Do you have specific promotional plans in Q3 that will not reoccur in Q4, or is there just a call on the consumer trading down and that benefit accruing to you? I’m trying to get some incremental context and confidence on that recovery you're expecting in Q4 relative to Q3. And then I have a follow-up.

Yes. Okay. Well, there are a lot of factors influencing this. For example, the fill level improvement: we're leaving money on the table in several categories. Once that gets fixed—particularly on the personal care side—we're going to benefit from that, and that's more back-end loaded into Q4 than Q3. It’s true that we’ve got both trade and advertising in place for Q3 and Q4. We believe as the economy deepens, that the trade-down will continue and accelerate. So, you're calling out the right levers with respect to the second half.

Yes. Let me give you some numbers to go with that. So our guide for Q3 organically is 1 to 3, which implies a 5% plus number in Q4. As Matt said, personal care fill levels are fully back. Promotional support's there. We think trade down is accelerating as well in Q4. So all those reasons, we think organically, we're doing better, which should help EPS as well, of course. We also know we have some higher inflation expectations in Q3, higher SG&A as we had some one-time catch-up last year for incentive compensation being much lower versus a year ago, and then we have higher tax in Q3 as well. We believe both organically and from an EPS perspective, we have an inflection going from Q3 to Q4.

Okay. Thank you. Then a quick follow-up would just be that in Q2, price/mix was below our expectations, perhaps a bit below your expectations going into the quarter. I’d be curious your thoughts there. Despite what we're seeing as pretty strong pricing in consumption data, can you provide some context on why that’s happening? Did promotional activity accelerate heavier than you were expecting in the quarter, and is that flowing into the back half of the year? Were there specific mix impacts that were a bit worse than you had anticipated? Just looking for insight on the Q2 price/mix key drivers and how that's informing your back half expectations.

Yes. It's pretty straightforward, Chris. There’s been no change really to our pricing aspect of it; that’s all going well. We threw out another round of laundry and litter pricing, and that’s going well; it’s still early days. We will continue to evaluate whether we need to do incremental pricing as cost inflation happens. We decelerated from a price/mix perspective from 7.8 in Q1 to 6.2 in Q2; that entire deceleration is due to a negative mix from WATERPIK. What I mean by that is consumers are trading down from higher-priced units to lower-priced units. That’s the entire delta right there. It should inflect positively again in Q3 and Q4 for the company because of the next round of laundry and litter price increases.

Okay. Thank you.

Great. Thanks. First, I just want to follow up on that and ask you to talk a little bit about your price/mix expectations from here, given that you called out your two highest-per-unit categories as seeing the deceleration. How do you think about that during this macro slowdown? Also, could you comment about what you're seeing in terms of elasticities of demand and private label? As private label starts coming back, how does that impact your view on trade down? It sounds like you're expecting some benefit from trade down, but do you see any risk that the lower end of your consumer base could potentially trade down as well? Thanks.

Yeah, I'll take the price/mix question. So first half, volume would be down 4%, and price/mix was up 7%, and that's how we got a first half result of around 3%. We think the second half is down 3% on volume. That's really a slowdown in the discretionary stuff like WATERPIK showerheads or FLAWLESS, offset by the value trade down and whatnot. Price/mix, on the other hand, is pretty consistent; 7% in the first half, 7% in the second half. What I said before to Chris, really lower mix on WATERPIK due to the trade down will negatively impact, but the positive is higher prices on laundry and litter products.

Regarding private label, as I mentioned in my opening remarks, there are five categories where we compete with private label, and those private label shares have been largely stable. The only one that’s moved up a little bit is litter; it’s now at 11.9%. We haven't been interacting with private label in that category as opposed to some of our competitors, so we're confident that the private label will not be a significant issue for us in the near-term—at least in the next six months. Does that help you, Olivia?

Yeah, that's perfect. Thanks.

Thanks. Good morning. Just specific, I guess, housekeeping-type things. One on the cost environment in your hedges, historically, I thought you did some hedging on diesel costs. I didn’t know with the runoff of energy prices, the potential comeback around energy prices, if you are locked in more or have some potential where that could provide relief in the back half? Second, on currency and FX exposure, can you just remind us versus the euro, the peso, etc., what your exposure is, and what we should be looking for?

Yes, I'll take the commodity one first. I think I said earlier, we have very limited hedges out for 2023. We entered this year; I'd say we're about 80% hedged. Most of the cost inflation we're talking about is primarily raw material impact, and that's coming through incremental discussions with third-party manufacturers. It just takes time for those costs to move through the supply chain. Our outlook this time versus last time is minimal on commodities, I would say. Of course, diesel prices are up, but that is hedged to some degree. Ethylene is up, and that is hedged to some degree as well. That’s on the commodity side. On currency, a couple of comments: we’re not heavily exposed to currency. We called out the 1% drag on the top line, 1% drag on the bottom line. We don't hedge in translational terms, and transactionally, we hedge about 80% of our transactional exposures, whether that's the euro or the Canadian dollar.

Great. Thank you.

Good morning, and thank you. I was hoping you could comment on the mix impacts on gross margin you may see with VMS going negative in Q3 and possibly in Q4. I'm assuming that's a headwind. I just want to confirm that. Also, are you seeing a down trade of that category from your brands into private label? And I remember you got away from some of the contracts in private label, so I was just double-checking if it happens this down trade as you mentioned in categories like laundry, that helps you. In this case, you may not be helped as you are no longer making private label for some of these customers. Just trying to clarify.

Andrea, this is Matt. Just with respect to private label, private label shares in vitamins are stable, so we're not seeing growth in private label. Of the five categories we compete in, it’s only litter that showed an uptick.

You're right; we walked away from private label manufacturing for vitamins a couple of years ago. To get back into that, on gross margin mix, there's not much of a mix impact on vitamins, whether it grows or declines from a revenue perspective. Just to talk about gross margin in aggregate: in Q1, we were down 190 basis points. In Q2, we said it was a lot like Q1, and it was down 220 basis points. In Q3, we expect to improve from a little bit in Q2, but it’s not going to be the same improvement we thought previously. In Q4, we think we will inflect positively. The reasons we discussed previously are personal care fill levels, productivity, and pricing. Gross margin in Q4 last year was one of our lower quarters. So, I know you didn't ask for details on gross margin, Andrea, but I thought that would help in context.

Super helpful. Thank you. I’ll pass it on.

Hi, guys. Quick question on inventory, just to make sure I heard it correctly. Your inventories need to be worked through a little bit, so should we assume that your results will lag what we see in terms of consumption for a little while? Can you also talk about what inventories look like at retail, particularly for WATERPIK and some of the discretionary items, as discretionary items at retail, a series of other categories seem to be quite high?

I think you saw in the release we said we had to get back in line by year-end. Really, WATERPIK wasn’t due to consumption per se; it was more because we were trying to get ahead of the Chinese lockdown that happened, so we built up supply. It takes a couple of quarters to work through that, especially as consumption comes in a little bit, but we think we'll be in a good spot by the end of the year on that one. A similar answer on FLAWLESS; we believe we'll get back in a good spot there as well. At retail, I think in-stock levels are good, especially for our household business. Where we're still struggling is personal care, as our fill levels are lower than we like. However, we're confident we will recover quickly in the back half.

You asked about WATERPIK as well on inventory on-shelf or at the retailers. Just to remind everyone, about half of the flosser business is online. There isn’t a lot of inventory carried by the online class of trade, so we don’t see an issue there with respect to WATERPIK inventories or softness in sales because of high inventories in the channel.

Okay, got it. Following up on Olivia's question a little bit—I know you mentioned many times that private label share has been flat—but can we talk about that consumer and the value part of your portfolio? From a consumption perspective, are you seeing anything just with that consumer? I know you're not seeing trading down, but maybe they are consuming less, buying less, or clearing their pantries. Just curious what you're seeing.

If you think about value detergent, some of the numbers I quoted earlier are from the last four-week period ended July 17, indicating that value laundry detergent is up 11%, deep value is up 1%, and premium is down 1%. This suggests and affirms that trading down is indeed happening. In Litter, the category grew about 11% to 12% in the quarter. We grew even faster. The growth wasn't limited to our premium brand; both our black and yellow boxes experienced double-digit growth as well. There is private label in litter, but I mentioned it's ticked up 1% to 11.9%, and we haven’t interacted as much with private label as some of our competitors. The other big category would be vitamins, which is stable. We also see stability in baking soda and oral analgesics, specifically Orajel, where private label shares remain stable.

Thank you.

Hi, guys. Good morning. I just want to start going back to vitamins. I think your call on the third quarter is pretty clear, but where do you think that category goes for your business beyond Q3? Number one. And as you think about the fill rate improving in vitamins, is that more to be a function of your capacity improving, or is it actually the category coming back to you and alleviating the pressure through declines?

Yes, hey Steve, it's Rick. I think the back half of the category will be under pressure as it was elevated for all of Q3 due to the Delta spike last year and a little into Q4. So that’s our view. If you take a big step back, the category has more than doubled over the last two to three years. We’re really happy with the vitamin category. Regarding fill levels for vitamins, we continue to improve every single day. We have two issues on two SKUs driving the issue right now. It’s ingredient-related, and we’ve finally worked through alternates. In the next 30 days or so, we should be back on vitamin fill.

Yes. And Steve, the other thing to add to what Rick said, we’re super happy with the growth of the category over the last couple of years, but the long-term growth will be driven by the transition from pills and capsules to gummies. This transition should sustain the growth of the gummy category in the future. New ingredients and new product offerings drive additional catalysts.

Yes, and you guys are value-priced in the category too.

Yes.

Okay, so then I wanted to pivot. Also, 1.5 months ago, we talked a good deal about how your portfolio has evolved since 2009. I thought you did a good job of underscoring how, in fact, there are still a lot of similarities today versus 2009 and your resiliency in terms of the 40% value exposure. Now I'm wondering if that was a bit of a false sense of security just given the fact that you've added discretionary categories. I appreciate it's only 10% of the portfolio now, but it’s obviously having an impact. So I’m curious, number one, what your outlook is on those categories going forward and what kind of drag this may have if the economy evolves in the way that seems to be anticipated in 2023, number one. Number two, I'm wondering if it changes how you approach incremental M&A because a good deal of your M&A with FLAWLESS and WATERPIK has skewed to these discretionary categories lately, and I’m wondering if this experience changes that at all.

Yes. We'll start with M&A. Our two most recent acquisitions were ZICAM a couple of years ago in 2020, which got us into the cold shortening category, and then TheraBreath, which brought us into the mouthwash category. We continue to seek out everyday essentials. We're very happy with the WATERPIK acquisition; of course, it’s discretionary—it’s a longer purchase cycle. However, this business has grown high single digits since we bought it in 2017. For long-term investors, this is a good brand to own. We have plenty of opportunity outside the US, and yes, okay, we’re going sideways right now, but keep in mind that the change in EPS is driven by cost and currency. We’ve left money on the table in the first six months of the year due to fill rates. If not for that, we’d be in far better shape. But it's water under the bridge. We believe that by the end of the year, we’ll have our fill rates back in line. We’ll be growing from a smaller base for WATERPIK, but once the economy settles down again, it will rekindle the growth of WATERPIK. Regarding acquisitions, those acquisitions—WATERPIK met all of our criteria. We don’t have a criterion that it can’t be discretionary. But certainly, we are oriented toward buying everyday essential brands, and you can expect that from us in the future.

Okay. Thank you very much.

Okay.

Great, thanks. Just wanted to ask a little bit about pricing. I think when you spoke at recent conferences and even last quarter, you mentioned that if you required incremental pricing beyond the July increases, it would likely come in the form of packaging size adjustments. I’m curious, A, if that’s still the case, and B, I think you also mentioned that this approach would require some CapEx investment and some time to deal with tooling. Given the CapEx guidance is a bit lower for this year, how do you see that fitting into your pricing dynamics as you look ahead? Is there anything you would need on the CapEx side to implement those?

From a pricing perspective, you're right; we said last quarter that primarily next year, we're focused on pack size versus pure price increases. Now, of course, with new inflation and new news, we will react accordingly and will see if we have to do any incremental price changes as well, right? I'd say it'd probably encompass both aspects. On CapEx, it’s immaterial; it pertains to CapEx outlook on change parts for a line, for a carton, or mold redesigns. It’s just a handful of million dollars, so it’s not that impactful.

Okay. So relative to the comments previously about the CapEx, it was more about the time needed to implement rather than it being a cost.

Exactly right. It's more about 6 to 12 months to design a mold, cut a mold, change parts requested for a line for a different size carton. Those are the types of tasks that take time.

Okay, great. Thanks a lot.

Hey, guys. A follow-up on that: on the incremental $50 million of cost pressure, are there plans to take incremental pricing or is it more productivity improvements and pack size changes? I want to understand that. If there's no concrete plans to take incremental pricing, then what might be the reason?

Right now, as we just mentioned with Lauren, we're really focused on pack size changes and adjustments that way, which effectively serve as a price increase. We will evaluate doing incremental pricing if inflation continues to escalate, and we continue to chase the ball downhill.

Okay. On the demand elasticity front, volumes appear to be reacting more to pricing than some of your CPG peers. Some of that may be linked to supply, but as you parse through consumer demand elasticity, can you give us an update on where you’re coming in versus what you expected and if you've seen any sequential change recently?

Yeah, you hit it on the head, Dara. In general, our comments wouldn’t change from last quarter. We saw a 20% to 30% better-than-expected elasticities for volume. The new laundry and litter price increases just went into effect a few weeks ago, so it’s kind of too early to comment. If there’s any noise, it’s usually because of fill levels, not due to price-volume sensitivities.

Okay. Last point: in terms of price gaps, with substantial pricing increases moving forward, have there been any categories where price gaps have either expanded for your premium products or narrowed for your value products? Can you characterize the competitive environment on pricing relative to what you have realized?

Through the end of June, we were pretty pleased with elasticities. Keep in mind, we have a new round of price increases just hitting shelves in July. That will be for both laundry and litter. So we’ll be monitoring the developments of the next quarter. Regarding the promotional environment, there was a pullback in Q2. In liquid laundry, for instance, the sold-on deal was around 31%, which was down by 60 or 70 basis points year-over-year. Some brands have seen significant pullbacks. For example, Purex was down 500 basis points year-over-year, and we were down 340. Because we were tightening our concentrate, we and others may be pulling back to modulate price. In litter, the category is also seeing promotion levels decline again year-over-year; sold-on deals are around 11%, normally high teens. Back on liquid laundry, about 31% sold-on deal, usually mid-30s. Thus far, the promotional environment has been quite subdued this year. With our latest price increases in place, we will observe the reaction from our peers in Q3.

I’d also mention that we're generally happy with all of our price gaps. Even when we have led in a category, if you take a step back, the category has reacted, and all the price gaps tend to normalize within a few months.

Great. Thanks, guys.

Awesome. Thanks, guys. I guess, I heard you in the prepared remarks saying you expect—maybe in the press release, I don’t know; it’s all jumbled in my head at this point in time—but you have an anticipation of accelerating trade down in the fourth quarter. Which categories do you expect to benefit the most from that?

Laundry is the significant one where we expect that trade down. That’s the big player. We've already started to see this. Remember, in Q1 we said that in the previous several quarters, value detergents had been losing share to premium products. That changed in Q1, and now value has held its share against premium. In Q2, value is starting to grow faster than premium. In the latest four weeks, value detergent is up significantly by 11%, while premium went down 1%. So, we believe that trend will accelerate. This could be slightly muted by our recent price increases, and we need to see what happens with competitors and their timing of price increases moving forward. We have plenty of support, both advertising and trade behind our detergent in the second half, which is why we think things are poised to accelerate.

P&G talked about laundry on its earnings call earlier, and they referenced marginally promotional activity. They stated that they are leaning back in now with more advertising and retail merchandising. If that transpires, how does that jeopardize your outlook and your expectations for the fourth quarter?

You have to remember, Tide premium is twice the price of ARM & HAMMER. I don't think that's too big of a factor. It's true that Tide Simply is around; that wasn’t in place back in 2009 in the last recession. Up until our recent price increase, we had a significant price gap with Tide Simply. We’ll see how their pricing changes in the second half along with their trade strategies.

Yeah. Fair point. Thanks a lot, guys. I'll pass it on.

Okay.