Energizer Holdings, Inc. (ENR) Q4 2020 Earnings Report, Transcript and Summary

Good morning. My name is Andrew, and I will be your conference operator today. At this time, I would like to welcome everyone to Energizer's Fourth Quarter Fiscal Year 2020 Conference Call. All participants will be in a listen-only mode. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Jackie Burwitz, Vice President, Investor Relations. You may begin your conference.

Good morning and thank you for joining us. During the call, we will discuss our results for the fourth quarter of fiscal year 2020 as well as our outlook for fiscal 2021. This call will be available for replay via the Investor Relations section of our website, energizerholdings.com. Also available on our website is a slide presentation providing details about results for the quarter. On the call with me this morning are Alan Hoskins, Chief Executive Officer; Mark Lavine, President and Chief Operating Officer, and Tim Gorman, Chief Financial Officer; and John Drabik, Senior VP Corporate Controller. With respect to use of our forward-looking statements risk factors and GAAP to non-GAAP reconciliation, please refer to our press release and slide presentation issued earlier today, which is available on our website. And the risk factors we have in the reports we filed with the SEC. Information concerning our category and market share discussed on this call, relates to markets where we compete and it's based on Energizer internal data. Data from industry analysis and estimates we believe to be reasonable. Unless otherwise stated, all comparisons are for the same period in the prior year. With that, I'll turn the call over to Alan.

Thanks, Jackie, and good morning, everyone. As I'm sure you saw in our press release this morning, we have many topics to discuss on today's call. I'll first address our performance in the quarter and the year at a high level before providing some color around my planned retirement and Mark's appointment as Energizer's next CEO. At the onset of the pandemic, we committed to two principles: ensuring the well-being of our colleagues and meeting the needs of our customers and consumers. In a year filled with incredible challenges, we leaned on exceptional team to adapt in real-time to ensure business continuity and reposition us for the future. While we ensure our brands and products were available to customers and consumers where and when they needed them, it came at a higher cost than expected, which is reflected in our financial performance for the quarter and the year. In particular, we have seen three factors impact our business since the beginning of the pandemic: increased COVID costs based on our efforts to meet the elevated demand of our customers and consumers; changing sales mix due to the pandemic, including markets, channels and products; and higher interest expense as we defensively positioned our balance sheet. The demand, particularly for batteries in the U.S. and many developed markets internationally, was elevated and prolonged since the middle of March. Because of the duration of this outsized demand and the variability between markets, we fulfilled the demand spikes in the spring and summer, while also undertaking additional actions to ensure we were prepared for the upcoming holiday season. As a result, the cost to serve the increased demand has been higher than we expected. However, since the start of the pandemic, we made the decision to meet the demand, given our belief that our value of relationships with our customers far outweighs the short-term costs. As Mark will describe in detail in a moment, our performance has truly been a team effort and involved a multitude of actions, including a small acquisition, improving operating efficiency in our supply chain, plant reconfigurations and true partnerships with our suppliers. Based on what we know today and our expectations for the future in terms of demand levels, cost and product mix, we expect our first quarter 2021 results will reflect the tail end of the incremental cost with minimal cost thereafter even if the current level of demand persists. However, we recognize that there remains a high level of uncertainty because of the pandemic and its impact on the retail landscape and our global business. We also saw a shift in the mix of our business across markets, channels and products, driven in part by consumer behavior in response to the pandemic. Ultimately, this has had a net negative impact on our margins in the fourth quarter of 2020 and full year, particularly in the fourth quarter. While we believe a portion of this shift is temporary, as Tim will discuss, we have accounted for the ships in the business mix that we believe will continue into the next year and our guidance for 2021, assuming no material disruption to our markets, customers or operations. And finally, our results for the year were also impacted by interest expense, as we defensively positioned our balance sheet for the uncertainty we saw earlier in the year. In recent months, we have aggressively pursued opportunities to pay down debt and refinance our outstanding indebtedness at lower interest rates. Even with the challenges brought on by the pandemic, there were several notable accomplishments from the year that we believe from the year that we believe demonstrate our organization's resilience and validate the confidence we have about this business moving forward. All major initiatives related to the integration of our Battery and Auto Care acquisitions are either well underway or complete. In 2020, we delivered $51 million in synergies and the outlook that Tim will cover for 2021 reflects the full year run rate of the benefits that we expect our shareholders will see from over $100 million in synergies. We maintain the top line momentum in our business with organic net sales up 6.1% in the quarter and 2.5% for the year. Over the latest three months, we have seen strong category growth and share gains across our Battery and Auto Care businesses. In particular, our Auto Care business delivered extremely strong results for the quarter and full year behind strong operating fundamentals, exciting innovation and favorable weather patterns. While due in part to onetime items, working capital management and the timing of inventory movements, which will reverse as we rebuild our safety stock, we significantly over delivered on free cash flow, the number one priority, achieving $405 million, up $149 million versus the prior year. This cash flow has enabled us to pay down over $100 million of debt to start 2021, and we remain in a strong position to continue to further reduce debt and pursue a balanced approach to capital allocation. Finally, the global efforts of our colleagues have been remarkable, and I have seen more dedication in the past year in the service of colleague safety and business continuity than I ever could have imagined. I truly appreciate the hard work that so many colleagues have put in as we continue to operate through the pandemic. In summary, 2020 was a challenging year, and we are looking ahead to 2021 and our plans to drive organic sales growth, margin expansion as the year progresses, synergy realization and EBITDA growth. Before I turn the call over to Mark, I'd like to take a moment to address the CEO succession plan we announced this morning. After nearly 40 years at Energizer and the past five years as CEO, I announced that I've chosen to retire effective January 1, 2021, and Mark will become our new company CEO. Mark's appointment is the culmination of rigorous succession planning with our Board over the past two years. And after thoughtful reflection, I believe now is the right time to transition to the next-generation of leadership. We have nearly completed the integration of the spectrum businesses, have taken action to address challenges from the pandemic and are on track to substantially eliminate incremental costs resulting from meeting elevated demand and the platform for the Company's next phase of growth is well established. There is no one more qualified than Mark to oversee Energizer's next chapter. He has been instrumental in defining and executing our strategic initiatives and has overseen our integrated operating model with a focus on growing our platform and market positions across categories. I have great confidence that he will be an exceptional CEO for Energizer. To ensure a smooth transition, I will continue to serve as a director and an adviser to the Company until the end of September 2021. It has been an honor and a privilege to expend nearly a 40-year career as part of the Energizer family. It's a pleasure to have served as its Chief Executive Officer in the past five years. We have taken bold steps to transform the Company from a single category company to one with a mission to achieve industry leadership as a diversified global household products company in batteries, lights and auto care. I couldn't be prouder of what this organization has accomplished and want to thank the Energizer colleagues for their dedication, commitment to excellence and their passion for winning. With that, I'll now turn it over to Mark for a detailed review of the business and actions we have taken to put us on a path to deliver meaningful growth in 2021 and beyond.

Thanks, Alan, and good morning, everyone. I am truly honored and humbled to take on the role of CEO. On behalf of Energizer's colleagues around the world, I want to thank Alan for his leadership and contributions to Energizer. And on a more personal note for the great working relationship we have had and we'll continue to have as we work closely over the coming months to ensure a seamless transition. As we move forward, our long-term strategies remain intact. We have put in place initiatives to address recent challenges, and we are positioning the Company to build upon our accomplishments, and create value for our shareholders. Before jumping into the results, I also want to thank our colleagues around the globe who have continued to demonstrate resiliency on a daily basis. Their tenacity and hard work are incredibly impressive. But more importantly, their commitment to keeping each other healthy and to meeting our customers' needs is truly inspiring. Let me briefly on the Battery and Auto Care categories and then turn to our performance. Consumption in the battery category remains strong, particularly in North America and modern markets. Globally, category value was up over 15% in the three months ending August, showing some moderation versus the previous quarter. While our value share was down slightly, it improved sequentially in the latest three months, due to new distribution, which set during the summer in the U.S. If we look at the U.S. for the four weeks ending October 18, the category grew over 7%, and we gained slightly more than three share points. The Auto Care category also continued to show very strong growth as it rebounded from the lockdown period in the spring. This resulted in category value growth of 17% for the three months ended in August, with the appearance sub-segment growing more than 27%. Our innovation, in combination with our brand-building expertise, expanded distribution and continued strong operational performance, created momentum for our brands, resulting in share growth in a category that is experiencing double-digit growth rates. Turning to our financial results. Top line momentum in our businesses continued to be very strong. While we gained share in both Batteries and Auto care and delivered strong organic sales growth, we are not pleased that we were not able to translate this into earnings growth. Our bottom line results reflect the impact we saw from changes in our sales mix as well as higher costs from our effort to meet increased demand, particularly in our Battery business. Let's walk through the impact of the sales mix changes. As you may recall, we started year with softer-than-expected performance in batteries following increased pricing taken in 2019 as well as some competitive activity. Then as the year unfolded, the pandemic resulted in lockdowns across the world, which drove shifts in our business from higher-margin markets, which, in some cases, had longer and more severe lockdowns to lower margin markets. In addition, we also saw shopping behaviors changed as consumers navigated the pandemic by migrating to different channels and often bought larger packs to meet their increasing consumption. Looking at the full year, the combination of the lower volume of higher-margin sales in the first quarter and then a migration to lower margin markets, channels and products later in the year, impacted our gross margin. We believe that many of these factors have already reversed or will reverse over 2021. Our margin compression was also impacted by higher cost, particularly in the fourth quarter, as we continued with our efforts to meet as much of the increased demand as we could. As you know, we typically see low single-digit growth in the Battery category with short periods of heightened demand for holidays and disasters. As a result of the pandemic, we experienced elevated and prolonged demand in certain geographies. This was compounded as we were preparing for the upcoming holiday season. At that point, we were faced with the decision to abandon customers in a moment of need or extending ourselves to deliver no matter what. To us, the choice was painful but abundantly clear. We took a series of temporary actions to ensure we could serve our customers, ramping up our internal production, aggressively sourcing raw materials and finished goods, frequently at higher prices and in some cases, incurring tariffs and increasing airfreight and co-packing capacity. Many of these actions are not part of our normal low-cost operating model. In addition, we purchased a new manufacturing facility, which we believe will help support us in meeting the demand in the first quarter of '21 and will also provide benefits well into the future. The efforts resulted in additional costs for the fiscal year of $29 million. Combined, the shift in mix and the decision to meet the needs of our customers and consumers impacted our gross margin by 200 basis points during 2020. Looking ahead, current trends show consumers are beginning to return to pre-pandemic shopping behaviors and some of the mix shift is reverting to historical levels. However, we are actively managing the business based on the belief that some portion of these mix shifts will continue in the short to medium term. We are confident that our broad distribution positions us well to mitigate any lasting changes in the mix profile. With respect to the incremental cost, we've taken steps to substantially eliminate them by the end of the first quarter of fiscal '21. More specifically, we identified two areas of focus to enable us to meet the increased demand at a cost more in line with our historical model. First, we enhance our manufacturing network to meet near-term needs and support long-term plan; and second, we reorganized our global product supply teams. In batteries, we increased capacity in the U.S. by adding lines in both our Finamore and Asheboro facilities. In our International network, we completed a modernization project at our Singapore plant in June that provided additional capacity. Then, in October, we acquired an outland facility in Indonesia. We expect these actions will significantly increase our cost competitive capacity and will enable us to reduce the amount of product that is sourced from third parties. Since we are leveraging our existing facilities, we believe there will be minimal incremental fixed costs added to our network, which creates flexibility for variations in demand without stranding unnecessary costs. We are already seeing the benefits in the three-month period from July through September approximately 10% of the batteries packed in the North American market were transported using airfreight. While in October, that number was down to 6%. And In November, that number is trending at 3%. And by December, our plans call for our use of airfreight to return to pre-pandemic levels. In Auto Care, while our business performed extremely well during the past year, we still see opportunities for this business. In particular, we have added shifts and are running our Dayton facility at much higher utilization rates. In the coming months, we will -- we expect to install additional lines in our production facilities to manufacture our wipes products. These lines will initially help support the extreme demand we are seeing for that product. As demand normalizes, we expect to be in the position to bring certain outsourced products in-house as well as support our International Auto Care growth plans. We are also streamlining and improving how our global product supply teams operate. In particular, we are investing in our demand and supply organizations, including with enhanced technology to enable them to predict and manage through much greater volatility than we have historically seen. In addition, we are streamlining our end-to-end supply chain model with single point of accountability by category, which spans from manufacturing to customer delivery. We expect the actions I've just outlined will remove substantially all of the incremental costs by the end of the first quarter of fiscal '21, and we anticipate being able to achieve further cost reductions over time. We believe that the end result will be a more diversified, resilient and agile end-to-end supply chain that operates with a lower cost structure than before the pandemic. We are also accelerating our investment in enterprise analytics to drive better and more timely decision making. With the majority of the IT integration efforts behind us, we are turning to the next phase of our system and process improvements, which is intended to deliver significantly improved visibility and insight into our business results. Similar to supply chain, we expect that the end result of this project will enhance our ability to analyze and model our business and ultimately have greater predictability on cost to serve and emerging consumer patterns. Overall, we will continue to focus on what we've done repeatedly in recent years, finding areas where we can drive costs out of our business and improve margins. As we progress through the integration of our recent acquisitions, we identified additional opportunities to streamline and simplify our organization. We believe these efforts will allow us to improve our overall margins, while still providing the flexibility to invest in growth, which emerge in our categories. Before I turn the call over to Tim, I also want to comment on our outlook, including providing an update on the long-term targets for fiscal 2022. With our fiscal 2020 results and the expectations for 2021 that were included in our earnings release, we are now projecting growth of a lower than previously expected base. As a result, we no longer anticipate meeting our pre-pandemic targets of $700 million in EBITDA and $400 million in free cash flow in 2022. With that said, we expect to deliver growth beyond 2021 based on the financial algorithm that underpin the long-term targets we had previously provided, which Tim will detail shortly. As we look ahead, we remain committed to our strategic priorities, which were key to delivering five consecutive years of organic growth. It is clear that going forward, we need to not only maintain our top line momentum, but also aggressively drive productivity to remove the temporary incremental costs and return us to our historical low-cost operating model. During times like these, it is good to return to basic foundational execution and focus on what matters to drive long-term value for shareholders. Building blocks for delivering this value starts with the flawless execution of our fiscal 2021 plan, and that is clearly what we are committed to do. With that, let me now turn it over to Tim.

Thanks, Mark, and good morning, everyone. In addition to the earnings release we provided this morning, a slide deck is also available on our website, highlighting additional key financial metrics. First, I would like to look at our three main earning metrics for the quarter: earnings per share, EBITDA and free cash flow. Sales mix shifts across our markets, channels and products as well as increased costs related to COVID, negatively impacted our fourth quarter performance, resulting in adjusted earnings per share of $0.59 and adjusted EBITDA of $140 million. Earnings per share, was also negatively impacted by an increase in the tax rate. Adjusted EBITDA and earnings per share were both below our previously provided outlook. Adjusted free cash flow of $161 million, on the other hand, came in well above expectations. This was primarily due to significant working capital benefits caused by the spikes in demand that Alan and Mark described earlier. Now a bit more on the drivers of these results. First, organic revenue increased 6.1% due to positive results across all our categories, driven by distribution gains and strong replenishment because of increased demand, particularly in North America. These items were partially offset by the year-over-year decline in measured storm-related sales and increased cost to serve due to continued elevated demand in batteries. Based on the elevated demand in batteries and resulting pressure on fill rates, we incurred increased cost to serve, which we anticipate will impact the first quarter of 2021, but expect these costs to be reduced in subsequent quarters based on the actions Mark described earlier. While we have also talked a lot about increased battery demand, I would also like to point out that following lockdowns in March and April, our Auto Care business also experienced elevated demand, as consumers became focused more on the cleanness of their cars and shifted to do-it-yourself. We grew faster than the category as consumers turn to our brands and innovation. As a result, organic sales in our Auto Care business grew 18.6% in the quarter. Total company gross margin decreased 370 basis points to 38.4%, driven by incremental COVID cost of $19 million, unfavorable sales mix and currency impacts, partially offset by expected synergies of $9.4 million. A&P increased $12.8 million to 5.3 percent of sales as we continue to invest in our brands and innovation. SG&A, excluding acquisition and integration costs, declined approximately $4 million to 15.6% of net sales, down 150 basis points due to synergies and travel restrictions. While we achieve strong top-line growth, we did not achieve the outlook we provided in September for EBITDA and EPS due to three factors. First, increased COVID cost to $6 million caused by elevated demand, primarily customer fines and penalties, which negatively impacted sales and gross margins. Second, increased costs associated with source product from third parties of $4 million, including tariffs. And finally, SG&A did not decline as much as we anticipated, doing parts of $6 million of factoring costs, legal fees and compensation expenses. The increased factoring contributed in part to our free cash flow performance for the year. These factors combined account for a decline of $16 million in EBITDA and coupled with an increase in our tax rate, about $0.20 in earnings per share. During the quarter, we took advantage of favorable debt markets, and refinance our 2025 and 2026 senior notes, totaling 1.35 billion in principle. The refinancing transactions were net present value positive, lowered our annual interest rates, resulting in approximately $17.5 million in annual savings, and extended the duration of these borrowings by roughly three years. These actions resulted in a loss from the extinguishment of that of $90.7 million, or $1.01 per share. Now turning to our outlook for 2021. As we continue to navigate through the impacts of the pandemic, we have made certain assumptions for purposes of our operating and financial planning projections, including the duration, severity and global macroeconomic impacts of the pandemic. Specifically, our assumptions for fiscal 2021 do not anticipate any significant disruption to our global manufacturing plants, distribution centers, or customers. We assume the retail environment will remain competitive and the commodity costs will be benign. Should any of the assumptions we have made change, our expected results may be significantly impacted. Looking specifically at our key metrics, we expect net sales growth in the range of 2% to 4% with expected growth and batteries at the low end of the range, and auto care at the high end of the range. Gross margins to be essentially flat with approximately $15 million of COVID costs, including the first quarter and minimal COVID costs in subsequent quarters, adjusted earnings per share in the range of $2.95 to $3.25, adjusted EBITDA in the range of $600 million to $630 million and adjusted free cash flows in the range of $325 million to $350 million as working capital returns the more normalized levels. The main drivers of improvements, our expectations for continue top line growth, the expected reduction of COVID driven cost, incremental synergy realization and lower interest expense as a result of lower average debt and refinancing actions that were taken during 2020. We expect foreign currency to be a slight tailwind in 2021 and the impact of commodities to be flat to slightly positive. Partially offsetting these benefits, we expect a portion of the margin compression we experienced in 2020 will continue into '21 as some of the shifts in markets, channels and products will persist. We also wanted to provide a quick reminder about the quarterly cadence of sales we saw in 2020. In the first quarter last year, we saw reduced sales levels, particularly in battery. And as a result of the continued elevated demand in many markets, much of the net sales growth for 2021 is expected to take place this quarter. The spike in demand in Battery and Auto Care due to COVID-related lockdown took place late in the second quarter and was sustained through the fourth quarter. We expect to continue to see net sales growth until we lap those spikes in battery. At which point, we anticipate we will start to see slight year-over-year declines in net sales as we approach a more normalized level of demand, particularly in North America. We expect to continue to incur incremental COVID cost in the first quarter with a favorable lap in similar COVID cost in the third and fourth quarter of 2021 based upon our current assumptions. We would expect to see a gradual improvement in gross margin rates as we progress through 2021. Turning to capital allocation. Over the long term, we remain committed to a balanced approach to capital allocation. In the near term, our focus will continue to be on paying down debt, driven by our strong free cash flows in the fourth quarter, we have already paid off $100 million in debt during October. We ended 2020 with net debt to credit defined EBITDA below five times and expect to continue to generate strong cash flow, which can be used to reduce leverage by up to 0.5 turn per year. We also plan to continue to invest in our businesses to achieve our sixth consecutive year of organic sales growth, complete bolt-on acquisitions in Battery and Auto care, while also returning cash to our shareholders through our dividend and opportunistic share repurchases. Today, we announced our Board declared our quarterly dividend and approved a new share repurchase authorization of 7.5 million shares. The outlook for 2021 includes the benefits of the full run rate of more than $100 million in synergies we expect to achieve. As we look beyond fiscal 2021 and plan to return to guidance based on the financial algorithm that underpinned our long-term targets prior to the pandemic. In particular, grow top line ahead of our categories, which in a normalized environment would mean flat to low single-digit growth, improved gross margins and SG&A, leading to consistent low to mid single-digit growth in EBITDA and EPS. After normalizing, we would expect free cash flow to return to the historical range of 11% to 13% of net sales. And finally, we continue to expect to supplement shareholder returns with a dividend. Now I would like to turn the call back over to Alan for closing remarks.

Thanks, Tim. As I stated earlier, the pandemic created many challenges during the fiscal year. However, we believe the plans we have laid out today will put us back on the path of delivering meaningful growth in fiscal 2021. Our focus over the course of the fiscal year will be on driving top line growth through innovation, investing in and strengthening our brands for the long term and driving productivity to simplify and standardize our business and reduce costs. With that, I'd like to now turn it over to the operator, who will open the line for questions.

We will now begin the question-and-answer session. [Operator Instructions] The First question comes from Bill Chappel of Truist Securities. Please go ahead.

Alan, congratulations, we enjoyed working with you, Mark, congratulations to you as we continue this journey.

Thanks, Bill.

I guess, before looking at maybe boil down the biggest driver of why you don't think you're going to get to that $700 million in 2022 in EBITDA? Just trying to understand, it seems like a lot of these changes over the past few quarters have been transitory. And as we move towards 2022, things should normalize, hopefully. So just kind of help me there one major driver and why we can't get there?

Sure. Bill, I can walk you through some of the rationale we had. We had a lot of long discussions about this and really took a step back. We're in the middle of enormous disruption in the marketplace right now. Planning for '21 was a bit of a challenge, but we felt like we had enough of a handle on the building blocks to be able to provide the outlook that we did today. But then when you take a step back, think about the macro backdrop with the pandemic, both its duration and severity and the impact on markets around the world, how a vaccine might impact the trajectory of any of those items, I think then you look at the economic impact from a fallout standpoint, any government stimulus that may or may not be introduced, whether in the U.S. or around the world, and then the resulting impacts that you would see those have on our categories, all of those items have significant uncertainty. And the further out you go, it's tougher to call what the impacts would be and what the shape of our business would look like at that time. So all in -- and then second, we have tremendous growth in top line. Our brands are being sought out by consumers all over the world. We've realized the synergies. But then we also have to recognize we incurred significant transitory costs, which need to be addressed in our business. Those costs are unacceptable, and we need to take steps and have taken steps to actively get those out. And so from that point forward, I think you look at reestablishing gross up a lower base and then what we were initially projecting. There's a smaller impact, I would say, and that involves here, which is, the international auto care growth plan. It's still going -- it's still going to grow, and it will grow at a healthy rate. But it is been slowed a little bit because of some of the disruption around the pandemic. We took all those factors and we just felt that it was prudent to focus on executing '21. We want to go back to basics. So, we want to make sure we deliver exactly what we just said around '21 and then continue to move forward with the financial algorithms that we introduced, a couple of years ago.

Okay, so it's not necessarily impossible -- it's just, there's no point in setting up its used case where it's only three years out. And second is, just to understand that the commentary on kind of mix shift this quarter on the batteries going to more multi-factory. I understand that, but I guess I'm trying to understand why that's new versus and maybe since we started in March or how it was incrementally impactful, and then maybe kind of put that more on the rail back side or was it more on the Energizer side or is it kind of across the board?

I would say most of the impacts that we've described are across the category. And what I would say is that, the mix shift from our battery business has really been impacted by market mix shifts, which is when some of the higher margin markets were shut down, you saw a demand these less than we expected. Some of that demand migrated to higher or lower margin markets that had less impactful shutdowns. We think that's the fact that the earliest to reverse as some of the markets will open back up, and even some of the shutdowns that have occurred in Europe recently have been less restrictive than they were initially. And then you have the channel impact side of dynamic, which is consumers migrating to different channels to shop, and then also buying larger pack sizes, because they're using more batteries. That's something that we do think and has already started to revert back in terms of channel shifting back as well as a little bit of pack size reversion. And so, as a result, we think about half of that is going to persist into fiscal '21 in terms of the channel impact side. And then, we'll continue to work to make sure that the margin impact as we enter into '22 is lessons but we have built-in about a 50 basis point headwind because of some of those shifts things in '21.

The next question comes from Jason English at Goldman Sachs. Please go ahead.

Hey. Good morning folks. Thank you for sliding me in, and let me add my congratulations to both of you, especially you Alan. You've had a long and illustrious career at Energizer and congratulations about that. Two questions. One super simple, one free cash flow outlook for next year, I don't really understand what adjusted free cash flow is. Can you just give me what your applications are in terms of real cash flow for your cash flow for '21?

Well, operating cash flow, it's going to come down. When we talk about adjusted free cash flow, we're taking out the acquisition and integration cash flow number. So, we expect that to be about $20 million of non-cash items in there. And overall, it's about $60 total. So when we say $325 to $350 million, what that really is reflecting is a return to normalization of our working capital. So $325 to $350 overall working capital returning to normal and then initially we had a one-time recovery of about $30 million early in the year that we're not going to see repeat.

So, it takes $20 million off that get to like real spendable free cash flow, deployable free cash flow, is that -- can I hear that right?

Yes.

Okay, got it. And Mark, I know it's early and you're just assuming the new leadership role, but I'd love some preliminary thoughts on what you think you may look to do different in terms of strategic direction for this business, because I'm sure you've got some ideas. You've have had a position of heavy influence. So, I can't imagine it's going to be a massive shift, but I'm sure you're going to look to find ways to put your own your mark on the business so preliminary thoughts on that.

Sure, Jason. I think it's a little early to sort of put a fine point on any sort of different direction we may want to take. I mean, obviously, we are going to continue with the three strategic priorities we've had leading this innovation operating with excellence and drive productivity that won't change. I would say our focus for '21 is fairly simple. It is to continue with the top line momentum that we've seen to continue to invest in our brands, continue to drive innovation in our categories, because consumers are responding to that. The focus on the organization needs to be twofold. We need to get the costs that we incurred in '20 out of the system, and improve the margin profile that eroded over the course of '20. And we need to increase our visibility from a financial perspective to be able to improve the visibility and our analytics to be able to drive better decision making, and then frankly just some better communication externally to be able to provide better visibility to where we think for share, because the P&L is going. I think if we accomplished those items, I think that's a successful '21. And I think we continue the momentum that Alan started with the Company right after separation, and we look to continue to drive that forward. Certainly some things would be different in the future, but I'm not ready to put a fine point on those. And so I have a little more time in the fee and can have more discussions about it.

Next question comes from Lauren Lieberman of Barclays. Please go ahead.

I was curious, I know it's not so much fun to be backward looking, but I think in this instance, it's probably appropriate to do so. And I was just curious, kind of looking back at the way that your global supply chain is set up, the capacity sort of on hand, again, all pre-pandemic. What were the alternatives, right? I mean, a pandemic and this surge in demand was, for obvious reasons, not in your business plan? Or should it have been? So if you sort of look backwards now and say, are there just things that operationally should have been set up differently to begin with? Were you not yet adjusting to the idea that battery demand had kind of hit a trough and was starting to improve in a structural way? But I just wanted to kind of if we almost could take the COVID surge out, did this environment reveal sort of cracks in the prior -- set up the prior plan? And I'd be curious to learn about that.

It's a great question, Laura. I don't believe, obviously, in hindsight, knowing what we all know about the pandemic, we all would have planned differently heading into it. But I believe our supply chain even with that operated extremely well during this pandemic. I think what it did, and we had long challenged the organization to increase our flexibility and agility. And that is something we've been pushing for years. And as we got into the pandemic, recall that our demand curve for batteries is fairly stable and fairly steady with increases around holiday and then first capacity around disasters. That's something that we've planned for and long been able to handle. What you saw in the pandemic was that it was prolonged and elevated for an extended period of time. Since we run a very efficient from a capacity standpoint during the year, obviously, the longer that demand stayed elevated, the more problematic that was going to become within our current constraint. We saw that coming. And as a result, I'm actually really impressed with what the organization has been able to achieve because we've essentially asked the organization to manage through the pandemic, continue to execute the integration and in the middle of it reshaped your supply chain, and they were able to do all 3. We added lines in We added lines in Asheboro. We added more efficient lines in Singapore, and we bought a new facility in Indonesia. What that does is it reshapes our ability to be more flexible and agile and does it in a way that doesn't increase our cost structure in the system. So I think, all in, the transitory costs that we incurred over the last six or seven months are unacceptable, but we took that head on, we fixed it, and they're not going to continue once we get through Q1 and to be able to do that in six or seven months in the middle of the pandemic is an impressive accomplishment of the organization. So I think the supply chain was operating well. It's going to operate even better in the future.

The next question comes from Kevin Grundy of Jefferies. Please go ahead.

Great. And Alan and Mark, I want to extend my congratulations to both of you as well. Two questions for me. Mark, the first one, just building on some of the topics that have been addressed on the call. Specifically, enterprise systems and how this pertains to your outlook. Now you touched on this, and I think the commentary was with new systems in place, it will give you better ability to model the business. So the natural concern and disappointment, I'm sure, from your end as well, is just with a month left in the quarter, the earnings outlook or the earnings delivery fell short. So the question is where are you in that process now, again appreciating the volatility in the environment with respect to your systems and enterprise analytics? When is that process going to be completed? And then the natural follow-up would be given what you currently have in place, how would you characterize your visibility on the current outlook for fiscal '21? Should investors be concerned on the ability to deliver on it? And then I have a follow-up.

That are all fair questions and push is, Kevin. I think as we think about where we are on the enterprise analytics, our business as we got through the -- our business, as we got through the integrations became more complex. You had more markets of scale and significance around the world. You had a more diverse product portfolio as well as brands to track and monitor. The first priority was to migrate all of those acquisitions onto the same platform and get everyone within in the same environment, which we were able to do over the course of '20. Now it's the next natural step to start making adjustments to those systems to make sure that it kicks out data faster and in a more reliable way. I would -- the process is really well underway for that. We've done a lot of deep dives over the last six months into those systems and how we can change it and what alterations we need to make. We're certainly not all the way to bright, and it will be an ongoing process as we work our way through '21. But in terms of visibility and processes and systems, we've already seen improvements. We're going to continue to see improvements every quarter throughout '21. I would say the migration to the end state will be at the end of '21, but certainly, steady improvement throughout. We recognize the misses that we've had in the past, and we take those very seriously. They are frustrating to us. As a result, you can rest assured, we took a lot of diligence in what we just provided today and made sure that we felt very comfortable with the numbers we put out today, recognizing that we've had a spotty track record in the past. And the only way to change that is just to continue to hit the numbers we say and show you that, that things are going to improve.

Got it. A quick follow-up in. I guess, on the guidance. Just thinking sort of the big drivers as we look at the EBITDA walk going from fiscal '20 to '21 and Mark touched on specifically, really trying to drive to get some of these costs out of the system. But I guess, it doesn't seem like there's a big expectation of that happening. And I guess, where I'm coming from with this, is you just sort of tumble through the numbers and you put sort of a reasonable incremental margin on what you expect to do from a top line perspective. Synergies, again, will be material this year and so far so good on your ability to deliver FX and commodities, not a big factor. And then as you sort of baked in the COVID costs you called out in the first quarter, it doesn't -- that kind of gets you there. That kind of math kind of gets you to what you expect to do for the year, which then begs the question, why are more of the COVID costs coming out of the P&L in the balance of the year? So maybe you can just sort of comment on that or maybe clarify how I may not be thinking correctly about how you guys see the next 12 months?

Yes. So Kevin, we called out for this year roughly $29 million of COVID cost and what we've baked into next year, which is all in the first quarter, is $15 million. So year-over-year, about a $14 million decline in those costs, and so we do have those costs coming out and the trends, as we indicated, the trends we're seeing are favorable in those. And that by the end of the first quarter, they'll be essentially eliminated is our current expectation. So that is embedded within the EBITDA outlook that we provided. The big driver of not seen more is just that our expectation is for gross margin to be flat year-over-year, inclusive of the $15 million of COVID costs in Q1.

Next question comes from Andrea Teixeira of JPMorgan. Please go ahead.

Congrats both, Alan and Mark. So my question is, again, just on the margin side. And building on what you just said, as we went back to the guide before COVID, right, and you just adjusted it out. There was also like the synergies, right, that we had in the Auto business. So I wanted to just bridge, what is the new implied kind of all things equal kind of more normalized base of profitability? Is that something that -- it sounds as if a lot has to do with the either the price back or more competitive pricing or channel? So I was just thinking of like how we should be thinking longer term, take the 2021 adjusted for COVID and then take that for the long run and perhaps assume that the synergies will be what you could extract were all embedded in your 2021?

Yes. So Andrew, in terms of '21, the COVID impact is about 50 basis points. So you're roughly at 41 1 ex-COVID. And so the remainder of the erosion that we saw in '20, inclusive of the COVID costs, currency was a headwind, the last component that we talked about on this call was the mix impact. So, we are expecting those mix impacts to continue into '21, which is why you're not seeing a higher gross margin rate in 2021. But as we move forward, we expect that things will normalize, and the rate will improve as we move forward. I don't know, Mark, if there's anything else.

Yes.

I just struggled with because you're going to be anniversarying that mix shift, right? Unless you're saying it's going to exacerbate through fiscal 2021. Obviously, you still have the first quarter to get through it, right. The first and most likely, the first half of the fiscal, but then you're going to anniversary it, so unless you're saying, like people are going to continue to pile up even more with the channels? Or you're just seeing people trade down even within your mix within the brands? Is that reduction or…

No, I think the way we're thinking about gross margin for '21. And again, I don't -- we don't want to back into providing '22 guidance on gross margin. But as you think about gross margin, from the guide we provided at the beginning of '20 until the action was '20, we had $29 million of direct COVID costs, $15 million of that is going to continue into '21. On the mix shift, we said half of it, we think, is going to continue into '21. You're going to have both market customer channels, some combination revert back. Beyond '21, we're going to assess that as we work through '21. But we already see from a direct cost and a direct mix, half of that each coming back into '21. And so as we get through '21, we're going to get a better handle on any long-term changes. But as of now, we don't expect any. And there's a lot of actions we're taking to ensure that we have improving gross margins beyond '21.

The next question comes from Rob Ottenstein of Evercore. Please go ahead.

Couple of things. First, can you tell us where you are on the service levels with the retailers that cause the fines? And do you expect that to roll over into calendar 2021?

I would say, we are in much better shape from a fill rate standpoint than the period that resulted in the fines that we talked about today. We've entered into a bit of a pinch point, I would say, in around mid-September to mid-October from a service level standpoint. But I would say where we sit here today as we head into the holiday season, service levels are very strong.

Great. Second, can you talk a little bit about the channel mix shift that you're seeing, is this a shift to e-commerce? And maybe you can kind of give us a sense of what the channel mix shift was last year? What it was this year? So just get a little bit better clarity on the moving pieces there?

Robert, what I would say is, if you use '19 as the baseline, the shifting that occurred in '20 was, obviously, strong e-commerce across both pure-play digital as well as omnichannel offerings from retailers. That saw a significant increase at one point during the year, there was around 21% or north of 21% of the battery category went through digital. That has subsequently come down to 16% and then down to 13%, depending upon which retailers are in and out of that number. But that gives you directionally kind of where the shifting was and where it's migrating to. I would say the easiest way to describe it is consumers were really trying to make fewer trips, and they were bigger trips to retailers. So what you saw is some smaller retailers suffering and then larger retailers benefiting. So it was really consumer saying, I don't want to have to go to the store at all. I'm going to go through a digital platform. Or when I go, I'm going to stock up, and I'm going to go to a big store that has more offerings. You are seeing some of that ever -- I mean, as you went through the pandemic, you did see more specialized retailers benefit particularly in the auto channel, where that -- the foot traffic in the auto channel benefited because it was a small shopping experience consumers knew they could get in and get out more quickly. So there really has been a dynamic where consumers have shifted around in terms of what stores they're shopping. And as a result, we see some of that continuing into '21, particularly as the pandemic as we're experiencing a bit of resurgence, but expect that to normalize. Our basis is, say, Q3, Q4 as we sort of work our way through the year.

Great. And then just finally, how are you thinking about the trade-off between pricing and market share? You're getting good market share. The brands are strong. The consumer demand is strong. In general, how are you thinking about, hey, maybe raise prices to offset some of the higher costs?

Well, I would say -- go ahead, Alan.

Yes, I was going to say, Robert, we look at that on a regular basis, and we look at any number of factors to assess whether pricing is warranted in the market. At this stage, we don't feel it is, although we will continue to monitor that. But from an overall pricing standpoint, we're actually seeing globally that the current pricing environment remains favorable at retail. And from a cost to retailers at this point, we feel that we're in a pretty good place. We're going to take a first pass as would be expected by our retail partners to eliminate any efficiencies and costs in our own business, which is what Mark laid out earlier in the prepared remarks.

The next question comes from Faiza Alwy of Deutsche Bank. Please go ahead.

So, I don't know if I missed this, but can you give us a breakdown of how Battery sales were in international markets versus in the U.S.? And I'd love to know how you're thinking about that in 2021. I know you talked about a 2% sales growth number for batteries. How should we think about that U.S. versus international?

On the international market side, what we saw is, obviously, some pretty steep declines as we worked our way through the pandemic and some of the shutdown measures were more extreme than others. In recent months, when those restrictions have lapped, we've seen a rebound. They're not all the way back to where they were in the aggregate, but certainly much improved from what I would say would be the May, June, July time frame.

Yes. Faiza, as we said, some of the markets were severely impacted during the pandemic. And if you look at Q4 international was just slightly positive compared to strong growth in the Americas, driven by North America. And if you look at the full year, it's some of that similar trend for the full year. So in Q3, as we reported, international was actually down compared to Americas being up nearly 9%. And so, it did have an impact on International. As Mark has indicated, as we move through '21, we would expect that to normalize back to historical trends for international.

The next question comes from Olivia Tong of Bank of America. Please go ahead.

First, congrats, Alan, on your retirement and congrats Mark and best to welcome the new role. My question, I wanted to get back to EBITDA. And I guess that this is in a normal backdrop in the July and the original expectations when you set the $700 million target didn't anticipate COVID. But it also didn't assume increased demand, shelf space gains, and I would assume a somewhat measured macro backdrop. So it looks like based on your new growth targets that it would take until 2024 to reach that original target. But your fiscal '21 EBITDA target is only $10 million off of your pre-pandemic target. So I guess, what's changed that drives an additional year of delay off of that $600 million to $630 million target if you think you're getting back to normal levels that airfreighting in the next few months and the mix in batteries going to return to normal? It seems like you've said a couple of times that you think most of these things by second half of '21 are back to a more normalized level. So if you can expand on that that

Olivia, I think the main rationale behind the decision is just the uncertainty in the macro backdrop and what's going to be the after effects of the pandemic. And with further out you go, obviously, it becomes harder to predict what those are. And because of the cost we've incurred in '20, we do want our focus to be make those transitory get them out, but then recognize, we're also growing off of a lower base. So in order to get to the same levels as we were to get to '22, the growth rates would have to increase fairly dramatically. Obviously, we will work hard to make that to make that the case, but we didn't want to put out numbers where there's really a fair amount of uncertainty behind them. And certainly, as it gets beyond 2022, we felt it was prudent to just get back to the financial algorithm. It served us well from separation forward, execute '21. Like you said, if we can execute '21 and achieve what we set out, we are back on track. And then let's provide '22 guidance when we get to the end of '21.

Our next question comes from Carla Casella of JP Morgan. Please go ahead.

My question is on the mix that you talked about. Can you just talk about which were the biggest drivers of driving down the margin on the mix shift side? And also, I'm sorry, it's in that you're including the customer penalties when you're talking about the mix shift as well as those are separate items.

I think as if we think about gross margin was isolated as direct COVID costs of 29 million and that includes the fines some penalties. When you're talking about mix shifts, which is roughly another 100 basis points of decline in gross margin. We have an allocated the shift between markets, channels and pack sizes. But I would say if you were to work away through it, I mean roughly assign a third, a third, a third to each of those and you'd be in the probably the neighborhood of the impact.

This concludes our question-and-answer session. I would like to turn the conference back over to Alan Hoskins for any closing remarks.

Thank you for joining us on our call today. And again, your continued interest in Energizer. Thank you.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.