Lennox International Inc. 2026 Q3 Earnings Call

Good morning, everyone, and thank you for joining us as we share our 2026 third quarter results. Joining me today is CEO Alok Maskara, CFO Michael Quenzer. Each will share their prepared remarks before we move to the Q&A session. Turning to slide 2, a reminder that during today's call, we will be making certain forward-looking statements which are subject to numerous risks and uncertainties as outlined on this page. We may also refer to certain non-GAAP financial measures that management considers relevant indicators of underlying business performance. Please refer to our SEC filings available on our investor relations website for additional details, including a reconciliation of GAAP to non-GAAP measures. The earnings release, today's presentation, and the webcast archive link for today's call are available on our investor relations website at investor.lennox.com.

Now please turn to slide 3 as I turn the call over to our CEO, Alok Maskara.

Thank you, Chelsea. Good morning, everyone, and thank you for joining us today. Let me start with our third quarter results on slide 3. Third quarter revenue grew 10.2% to $1.6 billion, while total segment profit declined approximately 2% to $323 million. Adjusted earnings per share declined 7% to $6.84. Double-digit revenue growth was driven by continued outperformance in Building Climate Solutions, contributions from acquisition, and improving residential sales volumes. Profitability, however, fell short of our expectations. In response to the competitive environment, we adopted a more dynamic pricing approach to defend and stabilize our residential market share position. We are encouraged by the early results from these actions, but the trade-off was lower price realization at a time when tariff and inflationary pressures continue to increase. Within Home Comfort Solutions, organic sales improved meaningfully from the second quarter, and our share position began to stabilize.

At the same time, underlying demand remains constrained by homeowner affordability, elevated mortgage rates, and broader consumer uncertainty. Building Climate Solutions delivered another quarter of double-digit growth, with revenue up 24%. Margins remained healthy, although higher tariff and inflationary costs were not fully offset by pricing during the quarter. Given our third quarter performance and expectations for the remainder of the year, we are reducing our full-year earnings outlook. Our focus now is not only delivering a strong finish to 2026, but also on retooling the business to target consistent growth and revenue, profit, and EPS in 2027. Now, please turn to slide 4. We have launched a recovery plan focused on regaining share and restoring margins. While the near-term environment has changed, we remain confident in our long-term strategy. Our recovery plan is centered on 4 actions, and we are moving with urgency on each of them. First, pricing. We are rewiring our pricing approach to be more dynamic in current competitive conditions.

This means being more responsive and targeted by region and customer segment, particularly where a competitive price gap affects our ability to win or retain business. The objective is to defend our existing position and recapture share where we have lost it while remaining disciplined about the economics of our business. Second, productivity. We are rightsizing the residential business for current market conditions and accelerating productivity across manufacturing, distribution, and SG&A. With the A2L conversion behind us, we are able to dedicate more resources to productivity, which is expected to play a larger role in restoring margins. Third, portfolio. Affordability has become increasingly important for homeowners, and entry tier products have gained more relevance in the market. We are refreshing our entry tier portfolio with new products, including additional side discharge offerings.

More accessible price points will also strengthen our product portfolio for new construction. We are pleased with the Heat Controller acquisition, and early performance is in line with our expectations. Strategically, it has provided new insights and capabilities in the entry tier market and broadened the portfolio available to us. We see additional opportunities across parts and accessories to broaden how we serve our contractors and distributors. Finally, promoters. As evidenced in our Net Promoter Score insights, we have a strong base of promoters across our traditional residential and commercial contractors, as well as our commercial national account. Within residential national accounts, particularly private equity-backed contractor groups and residential new construction, we see an opportunity to deepen relationships and create more promoters. To capture that opportunity, we are updating our value proposition and expanding our capabilities to better meet the evolving needs of these customers.

We also continue to strengthen the relationships that has made us successful across our traditional contractors and commercial national accounts. These are actions within our control and execution is already underway. The near-term objective is to stabilize share and improve profitability. Over time, a stronger portfolio, a more advantageous cost structure, and deeper customer relationships position us to return to consistent growth and margin performance. With that, I'll turn it over to Michael to walk through the third quarter financial results in more detail.

Thank you, Alok. Good morning, everyone. Please turn to Slide 5. Third quarter revenue increased 10%, driven by continued volume growth in commercial equipment and services, along with contributions from M&A. Recent acquisitions are performing well, delivering approximately $20 million of operating profit accretion in the quarter. That growth helped offset higher tariffs and other costs. However, competitive pressures limited price realization and total segment profit declined 2%. Our immediate priority is turning revenue growth into improved profitability. Alongside the product and pricing actions Alok outlined, we are accelerating cost productivity across manufacturing, distribution, and SG&A, including restructuring where appropriate. Restructuring actions are already underway, with associated charges included in GAAP net income and excluded from adjusted results. Against that backdrop, let's take a closer look at our segment results, starting with Home Comfort Solutions on Slide 6.

Home Comfort Solutions revenue increased 3% in the third quarter, with organic revenue down 1%, compared with a 9% decline in Q2. Direct-to-contractor sales declined 6%, improving from a 12% decline in Q2, while two-step organic sales increased 13%, benefiting from last year's industry destocking comparison. Sales trends are improving, though we are not yet seeing a broad recovery in underlying demand. Acquisitions contributed $39 million in revenue and $6 million in segment profit, performing in line with expectations. Despite improving sales trends, organic segment profit declined $46 million. Favorable mix and price provided $13 million of benefit. However, tariffs and related inflation, net of cost productivity savings, drove $47 million in cost headwinds. We expected the price increase we introduced in late Q2 to cover more of the cost headwinds, but homeowner affordability pressures, softer demand, increased competition limited realization.

With current competitive conditions, we are placing greater emphasis on cost productivity across manufacturing, distribution, and SG&A to support margins in the near term and position us for stronger margin expansion as volumes recover. Let's turn to Slide 7 and review Building Climate Solutions. Building Climate Solutions revenue increased 24% in the third quarter, including 15% organic growth. Acquisitions contributed 9% to revenue growth and approximately $13 million in segment profit. Our investments in factories and sales coverage are improving quoting speed and product availability, helping us win more emergency replacement business. We also continue to grow with national accounts through our full lifecycle equipment and service offerings, with new heat pump product offerings further expanding our opportunities. Together, these capabilities position us for continued growth in both channels over the next several years.

Higher sales volumes drove organic segment profit growth, but margins declined as pricing did not fully offset higher tariffs and inflation. Price increases take longer to implement under large national account contracts, while competitive pressures limited realization with local contractors. We are focused on narrowing the price cost gap through additional productivity, while we expect continued volume growth will provide further margin leverage. Let's now turn to Slide 8 to review cash flow and capital deployment. We generated $395 million of operating cash flow in the third quarter, up $95 million from last year, with trailing 12 months free cash flow conversion reaching 108%. We continued to reduce inventory, with organic inventory units down more than 15% from last year. Inventory dollars were slightly higher as acquisitions added approximately $100 million of inventory and inflation further increased inventory costs.

Net debt to adjusted EBITDA increased to approximately 1.4 times, reflecting in part the $200 million acquisition of the Comfort-Aire and Century brands completed in Q3. We also repurchased approximately $151 million of shares during the quarter. Looking ahead, our capital deployment will place greater emphasis on opportunistic share repurchases when our shares trade below our assessment of intrinsic value while maintaining a disciplined net debt to adjusted EBITDA ratio. We continue to expect approximately $225 million in capital expenditures this year to support our entry-tier product launch in early 2027, new contractor training facilities, innovation labs for data center cooling applications, and AI tools to drive growth and productivity. With that, let's turn to Slide 9 and discuss our updated financial guidance. As Alok outlined, we are updating our full-year adjusted EPS guidance range to $21 to $21.50.

Lower price realization and expected tax rate of 21%, compared with 20% in our prior guidance, are the primary drivers of the reduction. Sales trends are improving in HCS and growth remains strong in BCS. However, competitive conditions have limited our ability to realize the pricing we expected to offset higher tariffs and inflation. Our updated outlook assumes these pressures continue through the remainder of the year. We now expect revenue growth of approximately 6% compared with 8% previously. This primarily reflects a lower contribution from price and mix, which we now expect to deliver low single-digit growth compared with mid-single digit growth in our prior guidance. Our overall volume outlook is also modestly lower, although we continue to expect a low single-digit decline. Stronger BCS volumes partially offset lower volume expectations in HCS.