The Toro Company (TTC) Q4 2021 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen and welcome to The Toro Company’s Full Year and Fourth Quarter Earnings Conference Call. My name is Victor and I will be your coordinator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to your host for today’s conference, Julie Kerekes, Treasurer and Senior Managing Director of Global Tax and Investor Relations. Please proceed, Ms. Kerekes.

Thank you and good morning everyone. Our earnings release was issued this morning and a copy can be found in the Investor Information section of our corporate website, thetorocompany.com. On our call today are Rick Olson, Chairman and Chief Executive Officer and Renee Peterson, Vice President and Chief Financial Officer. We begin with our customary forward-looking statement policy. During this call, we will make forward-looking statements regarding our business and future financial and operating results. You all are aware of the inherent difficulties, risks and uncertainties in making predictive statements. Our earnings release as well as our SEC filings details some of the important risk factors that may cause our actual results to differ materially from those in our predictions. Please note that we do not have a duty to update our forward-looking statements. In addition, during this call, we will reference certain non-GAAP financial measures. Reconciliations of historical non-GAAP financial measures to reported GAAP financial measures can be found in our earnings release or on our website. We believe these measures maybe useful in performing meaningful comparisons of past and present operating results and cash flows to understand the performance of our ongoing operations and how management views the business. Non-GAAP financial measures should not be considered superior to or a substitute for the GAAP financial measures presented in our earnings release and this call. With that, I will now turn the call over to Rick.

Thanks, Julie and good morning everyone. We delivered record results for fiscal 2021, with full year net sales up over 17% and adjusted diluted earnings per share up nearly 20%. This was a year marked by robust demand in both our professional and residential segments. Of course, this past year will also be remembered for the inflationary pressures and unprecedented supply chain challenges that affected the global economy. In this environment our entire organization executed extremely well as they collaborated with our channel partners to support the needs of our customers. During this dynamic year, we advanced our enterprise strategic priorities of accelerating profitable growth, driving productivity and operational excellence and empowering people. First, we drove exciting advancements in technology. We continue to expand our no-compromise battery and smart connected solutions. We were especially excited to launch our first commercial grade battery-powered stand-on and zero-turn mowers at the GIE+EXPO in October. We also showcased several autonomous prototypes at the show. The acquisitions of TURFLYNX and Left Hand Robotics, along with our internal investments, have accelerated our innovation pipeline and furthered our momentum in technology leadership. Second, our team demonstrated extraordinary creativity and resilience in this difficult operating environment. Our operations team adapted their production approach and employed new shipping strategies as they manage supply chain adversity. Our sales team implemented multiple in-year pricing adjustments and did so in a way that supported the long-term health of our business. And our entire team focused on mitigating cost headwinds with productivity and synergy initiatives and disciplined expense control. Many of the actions we took this year will provide enduring benefits. This includes the deeper integration of lean principles in our operations and the simplification of SKUs as well as investments to increase capacity and automation in our plants. Third, we remain focused on all stakeholders. We kept the health and safety of our team in the forefront as we supported our customers and channel partners while delivering record net sales and earnings. We invested in future growth, returned capital to shareholders and maintain ample liquidity. We also continued our legacy of giving back to the communities where we live and work. Turning now to the results by segment, for fiscal 2021, professional segment net sales were up 16% and earnings were up 19%, both on a year-over-year basis. We capitalized on robust global demand across our portfolio as business confidence increased and our customers look to replace and upgrade their fleets. Residential segment full year net sales topped $1 billion for the first time, up 23% year-over-year. This was on top of 24% growth in fiscal 2020. Earnings were up 7% on top of a 75% increase last year. Our actions to introduce innovative new products, refresh marketing and expand distribution were key drivers of the excellent results. These actions also strengthened the Toro brand and have positioned us for continued growth. For the fourth quarter, professional segment net sales were up 14% year-over-year. This marked the third consecutive quarter of double-digit growth for this segment. Earnings were down 3% for the quarter compared with 75% growth in the fourth quarter of fiscal 2020. Residential segment net sales were up 20% for the quarter on top of 39% growth last year. Earnings were down 55% compared to robust 90% growth in the fourth quarter of fiscal 2020. The earnings decreases for both segments were primarily driven by cost inflation, which was partially offset by net price realization. For both professional and residential, there were two main themes in Q4 which were consistent with what we have seen in the past few quarters. First, robust and broad-based demand across our markets worldwide, we capitalized on the demand with our innovative products, market leadership and best-in-class distribution networks. Second, supply chain constraints, inflationary pressures and labor challenges. While navigating these challenges, we kept our focus on getting products to our customers as efficiently and expeditiously as possible. Our team operated with the creativity and dedication that continues to be their hallmark. Our intense focus on customer service helped us exceed our guidance for the year and it continues to set us apart and position us for long-term sustainable growth. I want to personally thank our outstanding team and channel partners for their determination in this extremely dynamic environment. We will continue to execute against our enterprise strategic priorities and invest in innovation as we carry our momentum into the next fiscal year. I will discuss our outlook further following Renee’s more detailed review of our financial results. With that, I will turn the call over to Renee.

Thank you, Rick and good morning everyone. As Rick said, we delivered record results for the full year driven by robust global demand in a very challenging operating environment. We grew fourth quarter net sales by 14.2% to $960.7 million. Reported and adjusted EPS were both $0.56 per diluted share, down from $0.66 and $0.64 respectively last year. For the full year, net sales increased 17.2% to $3.96 billion. Reported EPS was $3.78 per diluted share, up from $3.03 last year. Full year adjusted EPS was up 20% to $3.62 per diluted share. Now to the segment results, professional segment net sales for the quarter were up 13.7% to $732.5 million. This increase was primarily driven by net price realization and strong retail demand globally, led by landscape contractor, golf and ground and rental and specialty construction equipment. For the full year, professional segment net sales increased 16.1% to $2.93 billion. Professional segment earnings for the fourth quarter were down 3% to $101 million and when expressed as a percent of net sales, 13.8%, down from 16.2% last year. This decrease was primarily due to higher material and freight costs partially offset by net price realization, volume leverage and productivity improvements. As a reminder, this compares with 70% earnings growth in the fourth quarter last year. For the full year, professional segment earnings increased 18.9% compared to fiscal 2020. As a percent of net sales, segment earnings increased to 17.3%, up from 16.9% last year. Residential segment net sales for the fourth quarter were up 19.8% to $225.2 million. This was primarily driven by increased net price realization and strong retail demand for zero-turn riding mowers. For the full year, fiscal 2021, net sales for the residential segment increased 23.1% to just over $1 billion. Residential segment earnings for the quarter were $11.9 million and when expressed as a percent of net sales, 5.3%, down from 14.1% last year. This decrease was primarily driven by higher material, manufacturing and freight cost. This was partially offset by net price realization, product mix, volume leverage, and productivity improvements. For the full year, residential segment earnings increased 6.9% to $121.5 million. On a percent of net sales basis, segment earnings were 12%, down from 13.8% in fiscal 2020. Turning to our operating results, we reported gross margin of 30.1% for the fourth quarter compared to 35.7% in the same period last year. The decrease was largely due to higher material and freight costs resulting from the continued global supply chain, labor and inflationary challenges. We made progress on additional net price realization in the quarter, partially offsetting the year-over-year decline. We intend to restore and improve our margins over the long run. For the full year, reported gross margin was 33.8%, down from 35.2% in fiscal 2020. Adjusted gross margin was also 33.8%, down from 35.4% last year. SG&A expense as a percent of net sales for the quarter was 22.4% compared to 24.6% in the same period last year. This positive performance was primarily driven by volume leverage, partially offset by higher indirect marketing expenses. For the full year, SG&A expense as a percent of net sales was 20.7% compared to 22.6% last year. Operating earnings as a percent of net sales for the fourth quarter were 7.7% compared to 11.1% in the same period last year. For the full year, operating earnings as a percent of net sales were 13.1%, up from 12.6% in fiscal 2020. Adjusted operating earnings as a percent of net sales for the full year were 12.8%, the same as a year ago. Interest expense for the quarter was $7 million, down $1 million. Interest expense for the full year was $28.7 million, down $4.5 million. The decreases were driven by reduced debt levels and lower interest rates. The reported and adjusted effective tax rates for the fourth quarter were 13.3% and 13.9% respectively, and for the full year, 18% and 19.6% respectively. Turning to our balance sheet and cash flows, accounts receivable were $310 million, up 19% from a year ago, primarily driven by sales volume. Inventory was $738 million, up 13% compared to last year. However, finished goods inventory was significantly lower, while work in process and parts were higher. This was a reflection of our efforts to procure higher levels of key components and ensure service parts availability for our customers in this time of constrained supply. Accounts payable increased 38% from last year to $503 million. This was primarily due to the timing of purchases as well as more normalized spending compared with last year. Free cash flow was $450 million, with the conversion ratio of 110%. This positive performance was largely the result of higher earnings and lower working capital, primarily driven by an increase in payables. At the end of the fourth quarter, our liquidity was $1 billion. This included cash and cash equivalents of $400 million and full availability under our recently refinanced $600 million revolving credit facility. In October, along with our revolving credit facility, we refinanced our $270 million of outstanding term loans. The maturity dates for both our revolver and term loans have now been extended 5 years to October 2026. Over the past fiscal year, we have deployed our free cash flow to fund two technology acquisitions, increase our regular dividend with payments of $112 million and resumed share repurchases, with purchases of $302 million and also paid down $100 million in debt. We have also increased our capital expenditures, reflecting our commitment to invest in key technologies and ensure we have the capacity to meet future demand. We remain disciplined in our capital allocation strategy, which continues to be fueled by our strong balance sheet and cash flows. Our priorities remain the same and include reinvesting in our businesses to support sustainable long-term growth, both organically and through acquisitions; returning cash to shareholders through dividends and share repurchases; and maintaining our leverage goals to support financial flexibility. We are happy to announce that our Board has just approved a 14% increase in our regular quarterly dividend for the first quarter of fiscal 2022. As we enter the new fiscal year, we continue to benefit from strong demand momentum as evidenced by our higher-than-normal backlog and our leadership position in the markets we serve. Our biggest challenge remains meeting this heightened demand across our markets in light of the current global operating environment. We anticipate our quarterly sales cadence will be driven more by our ability to produce than historical demand patterns. We are managing the factors within our control and remain focused on procuring materials, components and other resources to accelerate our pace of production. We expect supply chain inflation and labor pressures will persist into 2022. With this dynamic backdrop, we are providing our fiscal 2022 guidance. For the full year, we expect net sales growth in the range of 8% to 10%, with the professional segment growth rate towards the higher end of the company average. For the first quarter, we anticipate net sales growth in line with our full year expectations, with residential growth slightly ahead of professional. Looking at profitability, for the full year, we expect improvement in overall adjusted operating earnings as a percent of net sales compared to fiscal 2021. We also anticipate professional and residential segment operating margins for fiscal 2022 to be higher than fiscal 2021. We expect increased net price realization to drive sequential improvement in gross margin throughout the year. For the first quarter, we anticipate sequential operating margin improvement for both segments. Based on current visibility, we expect full year adjusted EPS in the range of $3.90 to $4.10 per diluted share. The adjusted EPS estimate excludes the benefit of the excess tax deduction for stock compensation. For the first quarter, we expect a slight improvement in adjusted EPS per diluted share sequentially over the fourth quarter of fiscal 2021 but down from a record first quarter last year. As a reminder, last year’s first quarter reflected accelerating demand without the full effects of the current inflationary environment and product availability constraints. Supported by our strong cash flow, we are increasing our investments in future growth. This includes capacity, productivity and automation investments as well as the carryover of capital projects for fiscal 2021. We anticipate fiscal 2022 capital expenditures in the range of $150 million to $175 million and depreciation and amortization of about $110 million. Additionally, for fiscal 2022, we expect interest expense to be similar to fiscal 2021 and an adjusted effective tax rate of about 21% and free cash flow conversion in the range of 90% to 100% of reported net earnings. We remain well positioned to capitalize on this period of profitable growth as we continue to execute on our long-term strategic priorities. I’ll now turn the call back to Rick.

Thanks, Renee. Heading into fiscal 2022, global demand drivers remain strong and our backlog of orders is high. At the same time, we continue to operate in a challenging supply chain and inflationary environment. With that backdrop, we’re keeping an eye on consumer and business confidence, along with inflation and COVID-19 developments, customer prioritization of investments to maintain and improve outdoor environments, regulations on reduced emissions and customer preferences for sustainable products, a continuation of strong momentum in golf and government support and funding of infrastructure projects. I’ll now provide some specific commentary for each of our markets as we begin the new fiscal year. For residential, homeowners continue to embrace their outdoor environments. We will continue to capitalize on this trend with our innovative products and expanded distribution channel. We designed our Flex-Force battery system to meet the higher power requirements of outdoor equipment, recently adding a two-stage snow thrower. This builds on our comprehensive suite of zero-emission solutions for homeowners. We are particularly pleased to offer an increasing number of handheld products in categories where we have not previously competed. For our landscape contractor markets, we’re seeing healthy budgets for capital purchases and continued consumer interest in home improvement as homeowners focus on the surroundings where many of them now live and work. Our market leadership with landscape professionals is further strengthened by the Revolution Series launch, which includes battery-powered stand-on zero-turn riding and walk power mowers. These mowers provide all-day run time on a single charge using our proprietary HyperCell battery system. They also come equipped with our Horizon360 software, which uses GPS and machine telematics to connect employees, equipment, crews and customer jobs together in one system. For golf, we are seeing courses in the healthiest financial position in years, supported by the game’s continued resurgence. Rounds played in the U.S. through October were ahead of last year and are expected to finish the year well above pre-pandemic levels. And this is not just a U.S. trend. Golf participation is also on the rise in Europe, with a recent study reporting a 34% increase in the number of golfers playing full length courses compared to 2016. As the only company that can offer a complete solution for both turf and irrigation, we have several advantages in this space and remain focused on solving challenges for green keepers. We have products that are quiet and reduce or eliminate exhaust emissions such as our all-electric greensmower, our lithium-ion Workman utility vehicle and our hybrid fairway mower. We have precision irrigation and sprayer products that reduce the use of water and chemicals. We have products that address skilled labor challenges. For example, the turf-friendly outcross tractor that allows operators to aerate with the push of a button, among other critical tasks. Last week, we were honored to be named by the Royal & Ancient as their official golf course maintenance partner. The R&A cited their commitment to showcasing the gold standard in golf course maintenance, along with the innovation and sustainability of our equipment and irrigation portfolio as being key factors in the decision to partner with us. For the grounds business, we continue to see budget prioritization for outdoor space maintenance. For municipalities that have sustainability targets, we have zero emission offerings that help them meet their goals without sacrificing performance. Our Ventrac-based products are benefiting from an expanded distribution network, reaching an increasing number of groundskeepers in need of versatility and productivity. For our irrigation and lighting businesses, we are seeing positive residential housing starts plus continued homeowner and commercial investments in outdoor spaces. In October, we were honored to receive our seventh consecutive WaterSense Award from the U.S. Environmental Protection Agency, this time, for excellence in engagement and outreach around the responsible use of water. For micro-irrigation, we are seeing strong demand across our wide range of products. The Irrigation Association just named our new Tempus automation system 2021 winner of its agriculture irrigation product contest based on the systems innovation that enables increased precision and efficiency. For snow and ice management, we are seeing strong demand given last year’s healthy following season and low channel inventory levels heading into the season. We will monitor winter weather patterns as the season progresses. Contractors look to our BOSS and Ventrac-branded solutions for increased productivity and efficiency. For example, they can combine our new rear-mounted BOSS Drag Pro 180Z with a front-mounted plow to cut time on the job by up to 50%. For rental and specialty construction, there is sustained customer interest in projects driving increased demand from both contractors and rental companies. We are capitalizing on the growing compact utility loader demand with our newly introduced Dingo TX 700 and 1300 offerings, rounding out our line of solutions to meet any customers’ requirements. And with our all-electric e-Dingo, we are also serving indoor construction needs. Finally, for our underground business, increased government spending, including the recent $1 trillion U.S. infrastructure legislation, provides additional tailwinds. This is over and above the growth prospects we recognized when we closed on the Charles Machine Works acquisition. We are focused on improving product availability to meet the heightened demand after closing out a year where supply chain constraints had a significant effect on our underground business. Across our markets, we remain well positioned to capitalize on long-term growth opportunities. Our consistently strong cash flows are supporting our investments in innovation and capacity. Our market leadership and trusted relationships, including service and support networks, set us apart. We will continue to prioritize technology investments related to battery, smart connected and autonomous. And we are excited about our innovation pipeline for fiscal 2022 and beyond. As we move into the New Year, demand across our markets is exceptionally strong. We are continuing to take aggressive measures to capitalize on this demand in a challenging operating environment. An important part of this effort is our commitment to operational excellence and sustainability. We recently welcomed Kevin Carpenter as our new Vice President, Global Operations and Integrated Supply Chain. Kevin succeeds Blake Grams, who has transitioned to the new role of Vice President, Sustainability, Business Analytics and Process Improvement. Both report directly to me and our highly accomplished leaders. We’re also launching a new 3-year employee initiative Drive for Five to align and engage our team across the enterprise toward achieving collective goals. The core focus of this initiative is to exceed $5 billion in annual net sales through organic growth while also improving profitability by the end of fiscal 2024. We have strong momentum heading into the New Year, guided by our enterprise strategic priorities of accelerating profitable growth, driving productivity and operational excellence and empowering people. Our business fundamentals are strong, and we remain well positioned to navigate the current global environment as we capitalize on future growth opportunities. As always, our extended team is the key to The Toro Company’s long-term success. I would like to thank our employees for their dedication and resilience as well as our channel partners, customers and shareholders for their continued support. We wish you all a healthy and happy holiday season. With that, Renee and I will take your questions.

[Operator Instructions] Our first question will come from the line of Tim Wojs from Baird. You may begin.

Hey, good morning, everybody. Nice job.

Good morning.

Good morning. Maybe just to start off and kind of the guidance cadence, it does sound like you’ll start a little down in the first quarter, just – it seems like based on production constraints and kind of continued price/cost headwinds. But how would you expect the rest of the year to kind of play out from an earnings or a margin perspective? I’m just trying to understand how much of the year-over-year improvement in earnings is kind of weighted to the second half versus the first half?

Sure. I’ll start, and Rick, please feel free to chime in and add some commentary. Tim, as we look at the year, we would concur that in the beginning of the year, we will still be in an inflationary environment and we expect supply chain will still be a challenge. We do expect as the year progresses, both of those will start to improve somewhat. We’ve seen commodities come off some of their peaks and starting to move in the right direction. And we will continue to work through the supply chain challenges, but we expect that those will improve as we go through the year as well. From a gross margin perspective, we expect to see sequential improvement in each quarter as we go through the year. And when we look at the total year, we expect operating earnings to improve overall for the company as well as the improvement in both the professional and residential market. So those are some of the key points. When we look at our sales growth of 8% to 10%, the other thing I would add is the majority of that is more weighted towards price. We do have some volume growth, but we do see some constraints around product availability, again, especially in the beginning of the year. That will improve, but that’s also factored into our guidance as well.

Okay. Okay. That’s helpful. And when do you expect, I guess, price cost to be positive on a dollar basis and then positive on a margin basis?

Yes. We’re not providing specific quarterly guidance because it’s a dynamic environment, and it continues to be hard to predict. We are looking when we look through the whole year, that we do expect to see improvement. And we’re seeing improved price realization really in every quarter. We started to talk about that in Q3, saw it again in Q4. So we’re seeing traction around that pricing. And again, our long-term intent is to restore it and to improve our margins. But it’s difficult to predict the exact timing given the environment that we’re in.

Okay, okay, that sounds good.

Yes, Rick, do you have...

One thing I would just add specific to, for example, the residential business. We have – we’re in a higher margin position in general, especially in 2020 relative to our historic margins. And we continue to see the benefits that help to drive those margins higher in 2020. It’s just – it’s from a perspective of historic versus – we’re at a higher margin level right now.

Yes, very good point. Although it’s a smaller part of the company, being about quarter of our sales, even though we ended a little bit down from the prior year, you’re absolutely right, Rick. The margins for residential are up from where they had operated previously and we are pretty proud of the strong performance.

Just driven from the work that, that team has done whether it’s channel, the product refresh and the work that they have been doing. So that’s keeping things in perspective.

Okay. Okay. Good. And then maybe just last one for me, and I’ll hop back in queue. But the $5 billion revenue target in Drive for Five, I guess, a, is that organic? And then b, if that’s the case, I think it implies 8% organic revenue CAGR over the next 3 years. And if you look at the business pre-COVID, I think Toro grew 3% to 4% organically. So could you just talk to the specific drivers that would drive that kind of growth, I guess, reacceleration or acceleration for Toro over the next couple of years?

Certainly. Keep in mind, this is an employee initiative. So it’s really our set of internal goals versus guidance. But we do share it because it helps you to understand the direction that we’re headed and what we’re thinking about. When we look at Drive for Five, our goal is to be at $5 billion or more. And it is organic. I mean, to answer your question, it is organic sales growth. And we also have an operating profit variable as well, and that’s $750 million or more of adjusted operating earnings. So – and that is $750 million or more, so both of them are more. And that really allows us some flexibility with employees as the environment unfolds to be able to reset specific goals each year. When we look at the current environment, what we do see is starting the year with a little bit higher sales growth than we would normally see, in part driven by price and also that strong demand environment. As we look forward, we believe that the demand is strong for the year and we also recognize that field inventory is low. So we’re not sure how much of that field inventory we’re going to be able to replenish in fiscal 2022, but we see that as a driver beyond that. And just some of the market fundamentals, especially in some of our core businesses, we believe, are going to be strong for the next several years.

That’s a great point, Renee. It’s really a combination of the long-term core Toro businesses for decades that are very healthy right now. Residential, we mentioned previously. Certainly, the golf business is the healthiest it’s been in many, many years, continues to be very healthy. We added 60 million rounds last year. And that’s after losing 20 million rounds in March and April due to golf course shutdowns. We are at a very high level of rounds play just as one measure. Golf courses are healthier than they have been in many, many years. The demand for equipment is exceeding the supply right now. In fact, the used equipment market is especially through the roof right now. I can’t buy used equipment. Infrastructure, so that’s just an example of a legacy Toro Company business. If you look at some of the more recent acquisitions, Ventrac has been a contributor within this last year, continues to look very positive going forward. And then the biggie is the underground business driven before we ever went into the pandemic from the demand for broadband, especially the 5G build-out, which is just in the first innings at this point. And then enter the infrastructure bill, which was passed in November. And if you tick off the key portions of investment within that bill, they hit exactly – I can’t say exactly, but they hit many of the top product categories that are part of our – especially the Ditch Witch business. So, $65 billion for broadband, $7.5 billion for charging stations, all of which have to be trenched in with our equipment or drilled in. $65 billion for improving their liability and resiliency of the power grid, $55 billion on water and sewer infrastructure. Those are all the markets where we play with that business. So, it was strong before we went into the pandemic and post investment continues to be strong drivers well into the future.

And also the transition to battery with the new Revolution Series is a growth driver as well.

Exactly. And we are extremely excited about the offerings that we are able to bring to our customers in the area of zero emission products. Especially just recently, the introduction of the Revolution at our industry show in Kentucky earlier this year. And our focus is on zero compromise. So, this is a product that exceeds the expectations for our commercial contractors to go all day and be able to support their business. And what’s happening as we enter these battery markets, it’s not just that there is a battery offering, it’s battery plus it’s a Toro. So, you get all of the features of our experience that are rolling in our IP. I mean I had a chance to use two-stage battery-powered snow thrower over the weekend. 5 years ago, we said that would never happen because of the power requirements, but it is a zero compromise experience. It was quiet. I was able to get out early in the morning. And not only that, but it had hand warmers, which I thought we would never have in a battery product. So, it’s a very exciting time with our – with the electric offerings, battery electric offerings. And all of these are drivers for growth in the future.

Okay, great. Well, thanks for all the color and good luck on fiscal ‘22.

Thank you.

Our next question comes from the line of David MacGregor from Longbow Research. You may begin.

Good morning everyone. So, do you have pricing initiatives in place now to fully pass through the higher costs you are getting? And so this is just a timing difference, or do you have costs in place today that maybe you haven’t got pricing in place for yet, but you intend to implement those pricing actions as you go through 2022?

Yes. David, we started implementing multiple pricing actions in fiscal 2021 as the inflation environment started to unfold. Traditionally, I am sure you recall, we more traditionally price kind of going into the season. But when we saw the environment, we try to move quickly and then the environment accelerated. So, we did take multiple pricing actions. We have taken pricing – market-based pricing going into the season. And we have chosen to do more absolute pricing versus a surcharge approach. And although that takes a little bit longer to see the full realization, we also feel as the market leader in many of the areas we participate in that we are setting that price point for the overall market. And so we have seen an improved pricing realization. Based on our estimate for inflation, we will see how the year progresses. And if inflation is more significant, then we will have to look at additional pricing as well. But as we look at the total year, we do expect to see operating margin improve from a total year for the enterprise as well as both for the professional and residential segments. And we expect gross margin to improve sequentially and as we go through the year. So, we think we have addressed it, but we will remain agile. And if we need to make changes, we will make those as well.

Right. How much forward visibility do you have on those costs now, Renee?

From a cost standpoint, we have a forecast that is in we have been working, especially even more so than ever with our supply base. So, we have good ongoing discussions with them, both about certainly price, but also about their capability and capacity. So, we feel like this is a time in the year where we have quite good visibility. Now it’s still changing. And some of the supply chain challenges are not as predictable. So, we are needing to react to those as well. But I think going into the season, we typically have pretty good visibility. And we have a backlog that’s higher than normal. That also helps us to understand what specifically, our customers are looking to purchase.

Right. So, I guess part of my question around price cost here is just it seems like with the gross profit pressures this quarter, what we may have seen was a lot of product going to market that came out of the backlog that had kind of legacy pricing coupled up against factors of production that were priced, reflecting the inflation in the spot markets right now. And that’s why, I guess I asked about timing. Is this really just kind of you were cleaning out the backlog and that didn’t have the pricing that you needed to deal with the costs you had to absorb?

The backlog is a little bit of that. Part of it is just the implementation of pricing, so not necessarily backlog, but some of the price changes don’t happen instantaneously. They have to – they go through a process. In some cases, they are more bid type of pricing. So, that just takes longer to implement those. So, we will be seeing incrementally the benefits of those pricing effects even from last year beginning to go into effect. But it’s a combination of just implementing them, the time to implement them plus the impact of the backlog that could have some price protection in it.

Yes. And as Rick said, it does take a little bit longer to implement a full price increase than a surcharge. But we think over the long run that really allows us to maintain that price point, because we do think that inflation at some point will start to come down and normalize. And so that will – we think in the long-term that is really beneficial for us. And we expect to see some of that improvement already within the year.

Got it. I would agree. And then last question for me is just on supply chain. And I guess a lot is hanging in the balance here around your ability to secure the materials to get product-in, product-out. But are you seeing any improvement at the margin and fulfillment rates?

Supply chain continues to be our top challenge. What I can tell you is that we have got incredible focus internally on that topic. So, all of our – we happen to do a complete operational review last week and went through every top constraint down to the supplier. So, we have – we are managing those intently and intensely. And our guidance reflects our best estimate of how that product will continue to flow into the year, including assumptions for getting better or worse. We – just a reminder, this is a market-wide phenomenon. But this is where we are pleased in a couple of things. Our long-term relationships with our suppliers that put us in a good position to have very constructive conversations. And then the intense focus I talked about and even extending into not just an operations issue, but combining that with design solutions where we can design around constraints and working cooperatively with our suppliers to be able to solve those issues. So, intense focus, our expectations are built into our guidance. And we are driving to make it better every day. Still a top issue, though.

Got it. Okay. Thanks very much. Good luck.

Thank you.

Thank you.

Our next question comes from the line of Ross Gilardi from Bank of America. You may begin.

Hi. Good morning everybody.

Hi Ross. How are you?

Hi. Great, Rick. Look, you guys have made progress with your Cordless offering across the business, specifically in residential. I mean what percentage of your SKUs today or your revenue or however you would like to cut it in residential are electrified? And what percentage will be electrified by the end of fiscal ‘22?

Yes. Today, it’s not a significant percentage of our business, but it is our fastest-growing area. And we continue to see traction around that. We do – our focus is really on offering solutions for our customers. And so really, the customer will make a choice on what they want to buy. But we have really a full zero emission offering for residential customers. And in fact, when we look at Revolution, which Rick mentioned earlier, we are really making great headway into the professional, which is 75% of our sales. So, we are continuing to see good traction around that. And the technology that we have, we feel, is very well suited for the purpose of the customers using it for.

Ross, if you think about the residential part of the business, our focus was not really to be first to the market in all cases for handheld products or even walk power mowers. We have been very much focused on the philosophy of zero compromise. So, the products that we are introducing really beginning 2 years ago, more last year, completing further product introductions this year, is very much focused on top priority of zero compromise so that our customers will – there will be no diminishing of the Toro promise of what they can expect with our brands. So, that’s been our focus. We like our strategy. The response from the marketplace has been very strong. It’s one of our fastest-growing categories. And we know that this is going to be a long-term competition. So, that’s really what we are focused on rather than near-term results that we might be able to get with something that doesn’t really meet our expectations, let alone our customers’.

Okay. Thanks. And then just how do we think about these bands that California has got on gas-powered lawn mowers and some of the handheld in 2024? I mean other states have got similar proposals on the table. And I understand that you have made a lot of headway and that it’s your fastest-growing part of your business. But I think you are still pretty heavily overweight gas-powered equipment. So, just can you help us contextualize this? Why won’t this lead to market share losses, at least on the residential side, once these proposals go into place?

Yes. The trend with California and with CARB has been pretty well understood by us for quite a while. So, we have been preparing for the time where this would be the case, the 2024 date that you are talking about. And we are in a position, particularly with what we talked about, the recent introductions, but also professional products that we have had in areas of golf utility vehicles and so forth to be able to comply. And our position is that if you are in California, we can support you with zero emission products. If you choose to continue to use gasoline products or diesel products, we have a great lineup that uses conventional fuel as well. And so our position with California is we are prepared in 2024 to offer a full line of products to support our customers. It’s hard for me to describe the – why the Revolution product is so revolutionary. I would actually invite you just to go to revolution.toro.com or you can just search and Google on Toro Revolution. It just gives you 30 seconds, you can just take a look at what that is. But it’s fundamentally an electric and battery system that’s designed for these products with the duty cycle of outdoor equipment in mind. And it is a zero compromise, not only for a residential customer, but for a commercial customer, which is a breakthrough and a much bigger business opportunity, a bigger piece of our business. So, residential gets a lot of attention. But the future playing field really is about commercial and professional products, where we intend to continue to lead.

Got it. And then just lastly, I want to ask you about gas engine supply and just what’s your strategy for procuring gas engines in ‘22. I mean is the biggest supplier in that market as you shut a lot of capacity as we understand. You have got another big supplier that’s no longer going to supply engines to third parties as we understand. You got big duties in China. Is there an international source of an EPA-certified gas lawnmower engine that we are not aware about outside of China? Are you able to get around these tariffs somehow or did you find somebody else to build some new gas engine capacity in the U.S.? Because from the outside, it’s just not clear how you kind of get around the issue given the strength of the market right now.

I think the key to understand is that we have a portfolio of engine suppliers. And we have relationships with each of them, and we are talking with them every day. We have commitments that are – that support our plan. And that’s been built into our guidance for the year. So, we are talking about growth in a particular area. It includes the engines and then we have line of sight to where those engines are coming from. And it is a portfolio. So, there are some categories where certain suppliers are stronger than others. I mean some of the public discussion about engine supply or in some categories that don’t apply to us. So that’s maybe one thing to note is we are very focused on our strategies to support our plan. And we have got confidence that with our – we have got great engine suppliers. And we will continue to work through challenges to support our plan, but those options are built in.

And just lastly, I mean is engine supply the issue with this underground business, because you continue to talk about the strength of the backlog there for a lot of pretty obvious reasons that make a lot of sense. But are engines the major issue in that business, or what – do you have visibility on when that’s going to get better or clean underground?

Engines are one of many components that are critical that in the case of underground, it’s not even our top issue, I would say. There are other – if you think about heavy equipment and components that might be shared across multiple markets and platforms, whether it’s construction, ag, specialty equipment things like hydraulic components. And then sometimes just minor parts can also cause disruption. So, it’s been – it’s really the preponderance of all of those, which we are prioritizing, going after aggressively and expect to continue to see improvements throughout the year.

Okay. Thank you.

Thank you.

Thank you. I am not showing any further questions in the queue at this moment. I would like to turn the call over to Julie for any closing remarks.

Thank you, Victor, and thank you all for your questions and interest in The Toro Company. We wish everyone a safe and happy holiday season. We look forward to talking with you again in March to discuss our first quarter fiscal 2022 results.

And this will conclude our conference call for today. Thank you for participating. You may now disconnect. Have a great day.