Middleby Corp

NASDAQ:MIDD

Earnings Call Transcript 2020-Q2

[Operator]

Thank you for joining us today for the Middleby Corporation Second Quarter 2020 Conference Call. With us today from management are, Chief Executive Officer, Tim FitzGerald; Chief Financial Officer, Bryan Mittelman; and Chief Operating Officer, David Brewer. We will start the call with comments from management and open for questions. Instructions on how to get in the queue will be given at that time.

Now I'd like to turn the call over to Mr. FitzGerald for opening remarks. Please go ahead.

[Timothy FitzGerald, Chief Executive Officer]

Thank you, everyone for joining us today for our second quarter 2020 conference call. As we begin, I want to let you know that there are slides to accompany our call today. They can be found on our Investor page at middleby.com in the center of the homepage, or by clicking on the webcast and presentations link on the right side of the page. The slides will not lead our discussion today, but are meant for informational purposes, and we may refer to them during the call.

We continue to be in ever-changing times with the COVID pandemic. Before we get into earnings, I'd like to start this call by thanking our employees who have continued to support our operations around the world. Their safety has been and remains our top priority.

Our teams quickly adapted to the new business conditions and changes to the workplace environment. During this transition, our customer support and technical service was there for our customers while product and parts shipping was virtually uninterrupted over the past few months. I am grateful for the extraordinary efforts during this difficult period. And to the entire Middleby team around the world, I'd like to say, thank you.

Now looking at the quarter, we were pleased to have maintained very strong levels of profitability across all three business segments despite the ongoing disruption to our business operations and the sharp decline in revenues. Our actions to quickly reset our cost structure and put profitability measures into place are reflected in the results posted for the quarter.

While the business environment remains uncertain, we remain confident in our ability to navigate business conditions. We will carry our financial discipline and our profitability initiatives into future quarters, which should allow for margin expansion as we see business levels improve off what we believe is the trough of the second quarter.

As it relates to our segment performance, in the Commercial Foodservice group, we have seen consistent improvement in the order rate throughout the quarter and into July. Our order rate in July was down 17% as compared to the prior year, confirming improvement in market conditions.

Pizza and quick serve concepts continue to do well. And we've also had strong activity in other areas, including healthcare, convenience stores and retail operations. Challenges will remain for travel-related outlets and dine-in only concepts. But June and July demonstrated some improvement in casual dining as indoor and outdoor dining restrictions were lessened in many states.

We expect to see volatility in orders and perhaps greater future order declines than reported in July. However, trends of improvement remain, and we do expect third quarter will improve as compared to the second. Many of the investments we made before COVID have proven to be even more relevant and critical.

Over the past year, we invested heavily in technologies to drive operational efficiency in the kitchen. We are addressing emerging trends such as mobile ordering, delivery, ghost modular and mobile kitchens, and we have product innovation supporting delivery and carryout, the broadest line of ventless cooking solutions supporting foodservice in non-traditional locations, the industry-leading IoT platform for the commercial kitchen and developed solutions for kitchen automation.

Despite the challenges of COVID, we are committed to continuing the investment in targeted strategic product and technology initiatives and trends we expect will further accelerate as we emerge from this period.

Delivery and carryout is now of critical importance to operators who have seen significant demand increases through this revenue driver. We offer a variety of solutions, including the Carter-Hoffmann pickup cabinet, a contactless station for food pickup by customers or delivery drivers, curbside pickup stations and delivery systems that keep food significantly hotter during delivery.

The activities around kitchen automation and ghost kitchens has grown significantly with operators seeking non-traditional locations with equipment solutions to support a flexible menu for delivery and carryout.

Our team at L2F, our automation company, is continuing to work with customers to develop solutions to reduce labor and increase restaurant operation efficiency. We remain fully committed to our investments in data analytics and IoT. More than ever, operators have a need to understand and measure what is happening in their kitchen.

Our open kitchen IoT solution remotely monitors and controls all brands of equipment in a commercial kitchen. It also automates food safety processes and drives energy savings through active HVAC and lighting automation. Open kitchen provides operators a comprehensive hardware and software platform to control, monitor and measure their entire restaurant in a single cloud-based application.

We also continue to invest in our beverage platform. Most recently, we announced the formation of the Middleby Coffee Solutions Group in the Seattle area to bring our coffee brands together and better serve our customers as they add or enhance their existing coffee programs.

We have a unique portfolio of coffee solution supporting the most current trends, such as automated bean-to-cup, Nitro Brew, Cold Brew and traditional espresso machines. Coffee continues to be popular worldwide, and we have a dedicated sales team now in place to take our innovative product lineup to market.

Moving on to the Residential Kitchen group. We have seen recent order levels return to growth both in the U.S. and UK markets, recovering from a low point in April when most retail locations worldwide were closed for business. In July, our order rate was up 28% from the previous year, following the three months of decline during the initial onset of COVID.

While COVID continues to cause disruption, the housing market appears to be quickly recovering both in terms of existing home sales and new homes construction. Demand is increasing as consumers are making investments to upgrade their indoor and outdoor kitchens as they are spending more time working, schooling and cooking with family at home.

We have seen increased demand in our refrigeration offerings as well with an increased need for cold storage for food and beverage. Recent product introductions, including our Viking built-in ice machines, and under counter beverage stations have been well received, supporting this growing demand.

During the quarter, we successfully launched our virtual showroom initiative with high levels of activity as customers are researching our brands for their kitchen. We are well positioned with the products introduced over the past several years, offering design, performance and technology features they are looking for.

Customers and kitchen designers can go to vikingrange.com and secure their virtual appointment, where they will get a personal tour of the Chicago showroom and the full attention of our staff for a one-on-one consultation with Chef Jamie and our residential team.

In the Food Processing Group, travel restrictions have made it challenging to complete installations and engage with customers to demonstrate equipment. Despite the near-term disruptive effects resulting from COVID, our backlog remains strong and provides stability for the upcoming quarters.

The overall demand drivers remain healthy and we are continuing to see demand and recent orders from our new product innovations and as we continue to develop business opportunities as we enter into new market segments. We are also seeing growing interest for automation and food production facilities to address employee safety and labor availability issues resulting from COVID.

In summary, this was a challenging quarter for everyone, for us, our customers, suppliers and partners. However, we remain optimistic as history has demonstrated the foodservice industry to be resilient. We have taken the immediate actions necessary to manage through the current environment. And as a result, we are positioned to respond to market opportunities during this period. We are confident the investments leading into this period position us well and we remain committed to advancing our long-term growth strategies.

Those are my prepared comments. I'd like to turn the call over to Bryan for the financial discussion.

[Bryan Mittelman, Chief Financial Officer]

Thanks, Tim. For the second quarter, our GAAP earnings per share were $0.39 versus $1.66 in the prior year. Adjusted EPS, which excludes amortization expense and non-operating pension income as well as other items noted in the reconciliation at the back of our press release was $0.55, which was negatively impacted by $0.02 from acquisitions.

I'm proud to report for Q2 each segment exceeded the profitability expectations we set at the beginning of the pandemic. We also delivered on our commitment to reduce net debt having done so by $80 million. Revenues declined 38% or nearly 40% organically as COVID significantly impacted our results.

Total company adjusted EBITDA was over $74 million and represented nearly 16% of revenues, a sequential decline of only 450 basis points from the first quarter of 2020. We are clearly benefiting from the swift and aggressive actions we took. We entered this period with strong margins and we are still executing programs to maintain our leading profitability position.

Commercial food service revenues were down a little less than 50% organically, but we still generated over 18% of organic adjusted EBITDA. In residential, we saw revenue down over 30%, but generated EBITDA of 14% when excluding the impact of our recent acquisition. In Food Processing, revenues declined nominally and the adjusted EBITDA margin expanded by over 100 basis points to 22.6%. We are able to deliver gross margin of nearly 33% excluding the impact of FX rates and acquisitions.

In terms of SG&A expenses, when excluding $8 million from acquisitions, we saved approximately $40 million compared to either Q2 of 2019 or Q1 of this year. This large decrease was net of incurring approximately $3 million of higher bad debt expense to increase our reserves and also having $5 million of higher stock comp expense as it was virtually zero in the prior year given the timing of equity program implementations.

Restructuring charges are relatively low for the quarter at approximately $2 million as we leveraged furlough options in various government programs globally. More meaningful charges we'll be seeing in the third quarter, as we conclude on the necessary permanent steps to be taken.

As you know, we have a very experienced management team. While the pandemic is presenting unique challenges, we have successfully managed through crises before. The team once again is demonstrating that we have the skills to maximize profitability and cash flows when facing adversity and having to make difficult decisions.

And managing through this crisis, we immediately reduced our cost structure, redeveloping plans to further tweak our manufacturing footprint. We also continue to analyze our portfolio of products, customers, and investment areas to ensure our focus is on the most profitable opportunities for growth. We will emerge from this environment stronger than ever.

We've also posted a presentation, as Tim noted, to our website that shares additional information about the quarter. Along with our press release, you will be able to find information about year-over-year changes in revenue on a geographic basis for segment as well as the reported organic sales analyses.

So I'll seek to keep my comments relatively brief on the segment details as it relates to Q2 performance. For commercial food service, in spite of the topline challenges, we delivered gross margins of over 32% and EBITDA of 18%, excluding FX and acquisition impacts. These levels of profitability were achieved while revenues declined almost 50% organically.

Moving on to the Residential segment. On our organic basis, we experienced a sales decline of over 32% with high levels of decline in the UK. Yet again, we delivered gross margins of over 32% and organic adjusted EBITDA was 14%.

As I've done before, whenever I talk about residential, I cannot resist mentioning our awesome products. As most of you know, my family has a borderline infatuation with our Brava cooking device, but given the good weather in Chicago land, we're now enjoying outdoor cooking. The Brava still sees daily usage. However, a challenger for family favorites has emerged. We also loved the Lynx Napoli Oven. While it can do much more than pizza, I do admit that is our most frequent menu item.

While I am pondering having socially distanced visits with all of you to my backyard, virtual appointments are available through all of our residential showrooms. Our brand ambassadors and chefs are amazing, including Jackie Rothong, who will spoiler alert, was victorious on Chopped last night.

I'm very much missing being able to sample all their creations currently. I definitely cannot keep up with them. So please go visit them virtually. Also I probably need to procure some additional refrigeration capacity and Ss Brewtech products before personally hosting.

In any case, on to the Food Processing segment, where we saw modest organic decline of 1%, while we expanded adjusted EBITDA margins. Margins here see variability based on mix between bakery and protein, as well as within brands in those two groups.

Having briefly reviewed Q2, I did want to provide some insights on the upcoming quarter. In order to do so, I think it was beneficial to start with discussing order rates, which we have shared in the presentation available at the Investor Relations section of our website.

For commercial food service, we saw improvements throughout the quarter. We started by being down 65% in April to down 39% in June and then July orders were only down 17%. The order rates were rather consistently improving week-to-week, but the trend has moderated more recently.

Recall that while the lag between orders and revenue is relatively short for this segment, order rates will not perfectly align with the revenues. For instance, backlog changes have an impact. We expect volatility to continue, and there's still tremendous risk given market conditions. Nonetheless, we expect Q3 revenues to see a decline in between the June and July order rates we have disclosed, while EBITDA margins will improve over Q2 levels.

Residential has seen a tremendous resurgence after April orders being down 55%, June showed a 9% decline, and as Tim noted, July orders were up 28%. Volatility is the key word to keep in mind again, as we expect it to persist. July orders were positively impacted by pent-up demand after the disruption earlier in Q2, but we do believe we are on a path to strong recovery.

As we consider our product environment fill rates and backlogs, we don't expect revenue levels to be up as much as July orders were. Nonetheless, there is the possibility for growth, but our prudent expectation is to be thinking about nominal declines. Margins will expand as revenues increase from Q2 levels, and recall that our acquisition has impacted the reported adjusted EBITDA. I've mentioned volatility a few times and it’s having even greater impact in Food Processing.

For the past four months, order rates were minus 28%, minus 1%, minus 66%, and now up 83% in July. I share this to demonstrate the lumpiness of the business. It would not be appropriate to make a forecast determination from any one or two months sample. I know the comp to Q3 of 2019 is easy on a relative basis. However, that is admittedly a dangerous word to use in these markets. We are seeing disruption in our customer's businesses and some difficulties being encountered with installations, especially outside of the U.S.

Delays are occurring, but only limited cancellations have arisen. Backlog is back to levels about even with the beginning of the year. So my near-term expectation is for sequential quarters to be relatively flat to Q2 for the remainder of the year. So having covered the three segments, I do want to elaborate on cash flow, leverage and liquidity.

We generated strong cash flows, $78 million from operations with benefits from lower accounts receivable levels as well as some other net benefits from working capital changes. Optimizing our working capital in the current environment remains a key focal point. We will continue to manage capital expenditures well below prior year levels. Overall, positive free cash flow generation will persist.

For the past 12 months, free cash flow has exceeded $400 million, a record level for us. Over that period, EBITDA is defined in the credit agreement is nearly $600 million. Our leverage ratio is now just below 3x. We also have over $600 million in borrowing capacity under our credit agreement.

While we generate industry-leading margins and cash flows, leverage will exceed 3x for the upcoming quarter given the year-over-year revenue declines. Recall that we are currently able to borrow up to 4x bank EBITDA, we expect to be below that level for the remainder of the year.

We closely monitor our current and projected cash and debt levels, ensuring we have sufficient availability and flexibility within our credit arrangements and overall capital structure. We were confident in our ability to demonstrate strong Q2 results and believe this would afford us better options than what the credit markets had previously offered. We've obviously not yet formalized any new arrangements.

However, our financial strength also afforded us the opportunity to be patient. Having delivered that strong financial performance, we will benefit from improved capital markets and are ready to take advantage of better options currently available to us. We will have sufficient access to capital. Any solution we implement will provide financial flexibility and allow us to make strategic investments. It is not solely about a financial covenant. We will continue to responsibly deploy capital and to provide solid returns over the long-term.

In conclusion, as we worked through the second quarter, we ensured employee safety, maintain continuity of operations to meet customer demands and took actions to cut costs. Additionally, we invested in innovation to further our development of leading technologies.

So along with Tim and I know the same holds true for Dave who is sitting here six-feet away from me. I also would like to thank our employees for their relentless efforts to achieve positive outcomes. We've incredible teams that rise to the challenge and generate industry-leading results during these unprecedented times. We will continue to deliver best-in-class results.

With that, Joel, please open the call to questions.

[Operator]

Thank you. [Operator Instructions] Our first question comes from Joel Tiss with BMO. Your line is now open.

[Joel Tiss, BMO Capital Markets]

So I wondered if – just one, I guess, I don't know – anyway, are you seeing any signs of distress or inventory dumping or anything coming out of the dealer distributor channel that would cause maybe the recovery to be delayed a little bit?

[Timothy FitzGerald, Chief Executive Officer]

So we're pretty well positioned with, I would say, our strongest partners are the larger, more stable dealers or at least that's where our revenues are, I guess, more concentrated. And I think they're pretty well positioned as we go through this period. I think they're well capitalized. They've got broad businesses and we really have not seen that.

I mean certainly they've got challenges much like we do, and they're adjusting to the new business environment, but certainly they are managing through this much like we are. We don't really see kind of distressed actions that you might kind of be describing there, including credit risk. So I know that would be a concern to some of you, but that really hasn't been an issue from our perspective.

[Joel Tiss, BMO Capital Markets]

And then as you guys think about emerging from this period with like some momentum, ability to maybe take a little bit of share or play a little bit of offense. Can you give us a couple of – maybe a couple of examples or directions you're thinking in that you could really come out of this in a much better market share position three years from now?

[Timothy FitzGerald, Chief Executive Officer]

Well, so certainly, I mean, one of the things that I said on the prepared comments, and those are not new comments because we've been talking about it for a long time, but certainly our investment in differentiated technologies, right. I mean, so certainly across the brands and the portfolio, we feel that we've got leadership positions there and are continually investing in innovation.

But as we brought a number of these other broad-based initiatives on, which is kind of the brains of the kitchen, which is controls, IoT, automation solutions to address growing trends, again, talking about things such as delivery, ventless solutions and beverage. Those are things that we're continuing to invest in, right. And we do view those as higher growth opportunities. They are emerging trends.

And in many cases, they're higher ROI to our customers, so they should help us expand margin. So those are really some of the things that we've been playing for in the long-term. And we've put dollars against them. I mean, last year, we had a $15 million to $20 million budget, which I would say is incremental.

And then we've carried that through to this year. I mean, that was really the run rate that we had in Q1. And although we adjusted our cost structure, we've really been committed to not shutting that down. I mean because we do see that that is not only the future, but that is really where the future is getting accelerated right now.

I mean all those things are starting to come online probably more quickly as our customers are kind of rethinking what does their operation need to look like. What is the demand driver. Delivery right now – so if you look at the restaurant revenues right now in this period, 90% of it is order ahead, delivery, drive-thru or carryout. So some of that trend is here to stay and our customers are adjusting for that. So we're pretty well uniquely positioned for that.

I would say, the other thing, and I didn't mention that in this call, but in other calls we've really been evolving our sales processes as well. So I mean, investments in digital, marketing, training and support tools, so we can better engage with end users and educate those customers. That's very important to us.

So that is something that we’re doing last year. Continue to do through the second quarter and as it's more difficult to get on airplanes and see customers face-to-face, those types of communication are increasingly important, and I think we've been very effective with that. So those are things that are going to help us not only get through this period, but really accelerate where we wanted to be and how we were thinking about the world even last year coming into this year.

[Joel Tiss, BMO Capital Markets]

And then one last one, I don't want to take up all the time. Just with all your decades of wisdom, can you give us a sense of what you think over like same thing like next three to five years? You think there's going to be a lot of menu changes where maybe more of the quick serve guys are seeing an opportunity to take some share from the casual space? Or anything there that could really lead to maybe a little more of a surge of business a couple of years out?

[Timothy FitzGerald, Chief Executive Officer]

Yes. So I'll kick it to Dave in a second because he's got even more decades of wisdom than I do. But the answer to that is, yes, right. I mean, if you look through this period, 75% of the traffic is going through limited service locations, right. So it is kind of the non-traditional. I mean certainly, quick serve, fast casual, C-stores, the retail offering.

So there's a shift in that direction because they really are geared towards that delivery, drive-thru and take out. So I mean, I think as dine-in is rethought, the pile probably shifted a bit and we think that bodes well for us because that is where – we’re positioned those customers are looking for kind of technology solutions and the things that I mentioned really that kind of goes into those segments.

[David Brewer]

Yes. Let me add to that. Thanks for the comment on the decades of experience. I was counting the years, as you said that, 40 years in this business, about three quarters of that running food processing and beverage plants, and then restaurant operation, engineering and restaurant development outside the United States. So thanks for that comment.

The last 13 years, I would say here at Middleby, I've watched as we've pushed technology for the adoption of speeding up speed of service and lowering food costs and lowering labor costs. During this crisis, I was just in a restaurant a couple of weeks ago, and they've reset their drive-thru menu for speed of service, for customer convenience and for profitability. And so the franchisees – the 10 franchisees, different franchisees I've talked to over the past three weeks are making more money per dollar sold than ever before.

And so while the operators in this business love to serve food and take care of their customers, they love making money more than anything. And what is going to change permanently is their ability to think through operationally how the kitchen operates and how they can safely take care of their employees and increase their profitability. Thanks to the learnings that have occurred in the last six months.

They're on the quick service side through drive-thru and carryout and delivery. These guys are making more money per dollar sold than ever before, and they are not going to let that learning go. That learning translates right into the what Tim talked about in the last answer about the automation that we've been developing over the past three years or four years. I remember the puck, the delivery carryout solution two years ago. We were so far ahead of the marketplace. Well, guess what? That's a huge success right now. Everybody is attracted to that in adoption.

Ghost kitchens, commissary kitchens, dark kitchens, we had that two years ago and we were promoting in it now from – and guess what? Now everybody, all our competitors are saying, they're coming up with a new original idea. They weren't even thinking about it a year-ago.

So it's exciting right now to see the change. We're bringing the future to the present, and it reeks of automation and technology around controls, systems and processes to improve profitability of the restaurant operator. It's probably one of the most exciting times I've ever seen and that's 40 years.

[Joel Tiss, BMO Capital Markets]

That's awesome. Thank you so much.

[Timothy FitzGerald, Chief Executive Officer]

And if you want me to talk about Food Processing, I can tell you the same story. But let's go.

[Joel Tiss, BMO Capital Markets]

Yes. I don't want to take up all the time.

[Timothy FitzGerald, Chief Executive Officer]

All right. Thanks, Joel. Appreciate it.

[Operator]

Thank you. Our next question comes from Mig Dobre with Baird. Your line is now open.

[Mircea Dobre, Robert W. Baird & Co. Inc.]

Yes. Good morning, guys. Thanks for taking the question. So I'm looking at slide deck. By the way, thanks for all the detail in there. I'm looking at the slide with recent order trends. So the 17% decline that we've seen in July, I'm looking to get a little more context around that. Can you – maybe first and foremost, tell us a little bit as to what you're seeing on a parts side of the business versus just the outright equipment? I'm wondering, if maybe there was some variance here that that would kind of explain this sequential improvement?

And then related to this, I guess my question as you're sort of looking at your distributors around the country, have you noticed any variance in demand trends in July between, say, the folks that are operating down in the states that have been harder hit with the virus, like Texas or Florida, California versus kind of the rest of the country and also across the various verticals that you have.

Are there some that are getting to the point that they're operating closer to pre-COVID levels from a demand standpoint? Because I would imagine that within your mix, things like travel and leisure and the casual dining, I would imagine that that's still flat on its back. So it'd be helpful to understand kind of some of the moving pieces here. I realize that's kind of a lot, but thank you for humoring me here.

[Bryan Mittelman, Chief Financial Officer]

I'm trying to sort through it. I think parts…

[Timothy FitzGerald, Chief Executive Officer]

Yes. So as you kept going, I started to jot some of it down because I'm sure I'll forget it. So maybe kind of unpacking it. So the first thing is parts, right. So we did see demand drop in Q2, which might be counterintuitive given you would think that it would be servicing equipment, but as you kind of think back to April, restaurants were really entirely shut down, that was kind of the original mandate.

So people were not turning on their equipment. And even where service was discretionary things such as preventative maintenance programs, the restaurants were cutting their business expenses much like we were. So those things were kind of coming off as we were in a period of uncertainty.

So as we went through the quarter, and then certainly as we kind of look into Q3, restaurants are opening, I mean, certainly on the quick serve, some of the – there's a lot of restaurants that are fairly busy right now. So services kind of come back on to the plate. I mean, so I would say it was really a) little bit of blip up. There was no service. Then b) the channel was destocking relative to demand levels.

I mean, particularly service agents didn't want to refill their trucks when they really weren't sure what was going to happen in the world. So kind of getting into July and Q3, we anticipate that service will be back to levels that are kind of similar to the pre-COVID, it's hard to say. Maybe not up, but it will be less down, right. So it was down as much as equipment in the quarter. So I think that kind of – there is a little bit of a tailwind as we come into Q3.

[Mircea Dobre, Robert W. Baird & Co. Inc.]

So I'm sorry, just to clarify, you're saying that parts were down as much as equipment in a quarter and maybe better than this down 17 number in July?

[Timothy FitzGerald, Chief Executive Officer]

Yes. So I do not know the July parts number. So I'm giving you kind of a macro view of parts were down more than you would expect in Q2 akin to what equipment was. You typically say, services can be resilient. We have destocking in the channel and immediate disruption. It will be back on in Q3, maybe not the pre-COVID levels, but it is going to be in a much better situation in Q3 than it was in Q2. So that's a positive. All right. So kind of already forgetting…

[Bryan Mittelman, Chief Financial Officer]

Geographic distribution activity.

[Mircea Dobre, Robert W. Baird & Co. Inc.]

The geographic, yes.

[Timothy FitzGerald, Chief Executive Officer]

Yes. So as you look at that, yes, there is a dichotomy there and so not all regions are performing the same, so maybe surprising the Northeast is actually the one that's down the most. But as you kind of think about week-to-week and month-to-month, what we are seeing is that when you have restaurants that are retrenching because of the shutdown of the dine-in in California, obviously in some added restrictions or hotspots and places like Florida.

In Dallas, yes, we are seeing that kind of move up and down. I mean, so California, a couple of weeks shot back down as the governor put new restrictions into place. Yes, but then it actually started to improve again even as much as a week later.

So I mean, I think the takeaway from that is we're going to be kind of in a period of the whack-a-mole here for a while as we go through the third quarter because I think we've kind of come up to a level because people want to eat out and they're finding ways to do that. And whether that – the different avenues, we talked about, but I do think we're going to have volatility here driven by the dynamics of COVID hotspots going down and you think about school systems starting to open up and what the implications of that can be.

So I think, that's where – as we think about July because that was your other question. We don't necessarily think – it's very difficult to predict the business right now, which would have been very transparent giving month-over-month order rates. So we can kind of in real time tell you what's happening.

Our expectation is that, July it's not that the order trend doesn't kind of continue in a positive fashion from July. We think that we've seen the lows in Q2, and we probably stay better than what we've seen in as recently as June. But then I think we kind of get to this period where we start to bounce around at levels that are better than June, not necessarily perhaps as good as July. Although we'll see what happens.

So the other thing I just mentioned in July, we are seeing some of the pre-COVID activities that we were working on kind of strategic initiatives for our customers start coming online. I mean, there was new menu development that in product adoptions some of our more recent technologies that have gone into some customers that have had confidence levels that kind of bring those back on, and those have happened in – we've had them in C-stores, we've had them in retail, we've had some in fast casual. And the other thing that's in there is we've had some restaurant remodel. So there are customers who are taking this opportunity to refreshing and remodel their store.

In some cases, it can be elements of thinking about dining rooms and employee safety and there as well. So those were activities in July that certainly we did not have in April and May. And I'll just also kind of say, April and May was again, the initial shock as we went through June and into July. So even though, we've got a slide in the deck, where we're at with dine in. I don't even remember that that was all shut down in April, right.

So even though it's not great across the country, dine in has really open everywhere except for a couple of states, and so you pretty much have outdoor seating available, and then you've got anything from six-foot restrictions to capacity of 25% to full capacity. So although that is not great, it's allowing our casual dining customers that are also looking at offering more and more curbside pickup. It's allowing them to really start driving revenues on that dine in, and that was not there 90 days ago.

[Mircea Dobre, Robert W. Baird & Co. Inc.]

Right. That's great color. Thank you for that. Then my follow-up, maybe for you, Bryan. On a gross margin side, maybe you can help us think about the progression going forward. I mean, looking at the quarter here, you had call it, 510 basis points of compression on a 40% decline in volume. Obviously, the decline in volume are getting better going forward, is there a good way to kind of link the year-over-year change in volume to the year-over-year margin compression in the back half? Thank you.

[Bryan Mittelman, Chief Financial Officer]

No, I mean – so margins will improve slightly from here, right. But the impact of each – better performance going forward from where we are, it should be slightly better than what we've seen, right. I'd say like the contribution margin for each dollar better from the trough should get slightly better, right. So I would – I guess, I'd start with modeling it kind of what we've seen already, and if you want to kind of tweak that to a slightly better side than how the Q2 math worked out, that would make sense to me.

[Mircea Dobre, Robert W. Baird & Co. Inc.]

So lower detrimental margins on a gross margin side going forward.

[Timothy FitzGerald, Chief Executive Officer]

Right.

[Bryan Mittelman, Chief Financial Officer]

Yes.

[Mircea Dobre, Robert W. Baird & Co. Inc.]

Great. Thank you for that. Good luck.

[Timothy FitzGerald, Chief Executive Officer]

Thanks.

[Operator]

Thank you. Our next question comes from Jeff Hammond with KeyBanc Capital Markets. Your line is now open.

[Jeffrey Hammond, KeyBanc Capital Markets Inc.]

Hey. Good morning, guys.

[Timothy FitzGerald, Chief Executive Officer]

Hey, Jeff.

[Jeffrey Hammond, KeyBanc Capital Markets Inc.]

Great color and great performance here. So just want to come back to the July orders here. Was there any thing in terms of lumpiness that kind of makes you feel that it's unsustainable? Because what we were hearing in the channel was that we were getting this plateau, but clearly July, it was a step function up. And I just want to – and you're putting a little bit of caution around that, so just want to understand it better?

[Timothy FitzGerald, Chief Executive Officer]

Okay. Yes, I mean maybe to just reiterate, I mean, we're thinking that we probably see some retrenchment and volatility from July, but certainly we stay kind of north of June. And again, mentioning some of those activities that I did with C-stores, retails, fast casual, I mean that's real business that came through the month of July. And again, those were initiatives and rollouts that we were anticipating pre-COVID.

So again, we were pleased to see those come through, but that gave us a little bit of boost in July. If you were to back that out, we still would have been ahead at June. So I think that maybe gives you a little bit more color. It's hard to put a number on that, but that was one of the reasons why we think that as we go through August and September might retract a bit, plus some of the dine-in locations that are closing down.

However, we are – some of the things that we saw on July, it doesn't mean it's not going to happen again. There are other projects that are out there and we're engaging with customers. So we're kind of more broadly, we are seeing some of the pre-COVID things come back online. And Dave, I don't know if you want to add some color further.

[David Brewer]

Yes. I think it's going to be – listen three of us love beating your expectations, and I think we'll continue to do that. But it's going to be tough business over the next three to six to nine months. And it's our financial discipline and our operations and our connectivity to the customer that allows us to outperform the competition. But it's going to be month-by-month because people are starting. We're very connected.

One of the great positives that have come out of this terrible situation is our connectivity to the customer. And we're seeing customers start and stop, start and stop. But the bottom line is they're buying into our solutions. And so I think it's going to be lumpy. It's going to be tough business. It's going to be very aggressive business. I think we’ll clearly outperform our competition, but it's going to be tough for the next six to nine months of lumpiness.

[Jeffrey Hammond, KeyBanc Capital Markets Inc.]

Yes. So just on the – I think you said $40 million of cost savings in the quarter, can you just confirm that and then split out what you think is structural versus temporary and when you start to think some of that temporary stuff starts to leak back in?

[Timothy FitzGerald, Chief Executive Officer]

Yes. It will leak back in as revenues and business levels justify it. You'll see of that $40 million and again that's after increasing arrear reserves and taking some stock comp. Around $25 million or so of it was from comp and commission. So kind of feeling people related in such and probably $10 million to 15 million of active actions around travel and advertising and professional services and trade shows and the like. And then there are additional pieces about other things that were just changing in the business.

So it certainly feels like – again, most of it is structural and I'll call it semi-permanent. I say semi-permanent because the people side has a variable component to that. And also as you know, I noted in my comments, we know our levels going forward aren't the exact same as they were before. So more will be forthcoming about how much of that becomes permanent versus how much of it becomes I'll call it short-term variable.

[Jeffrey Hammond, KeyBanc Capital Markets Inc.]

Okay, great. And then just final one on Res Kitchen. There's been all the stock and a lot of investment in home and home is kind of a sanctuary and just can you talk about how that's resonating? And I see your chart on like the appliance data, but it just seems like as people invest more in their homes that there's a real opportunity here. And just as you see this shift, what's your ability to kind of ship, react and ship product on time, et cetera?

[Timothy FitzGerald, Chief Executive Officer]

Yes. That's a great question. So I mean, we do feel pretty good about the demand environment. I mean relative to this, the situation we're in certainly, saw orders trend up pretty significantly in July. We do think there's some pent-up demand in there, obviously things were down in the three quarters before.

So whether that's projects getting completed, orders getting placed with dealers, some things that maybe would have expected to happen in April, May kind of gets pulled to that period somewhat. However, a couple of things, I mean and we've got some slides in there. I mean the appliance industry overall is seeing kind of a recovery and a forecast that's on the positive side of things for the back half of the year. As we went into the period, the market was pretty good.

New home starts were up double-digit when we were coming into the year, existing home sales activities, which kind of then help support remodels, which is kind of the strongest piece of our business we're doing pretty well. So as you kind of look at the data over the last three months, there's been significant improvement.

The existing home sales is a little bit V-shaped. I would say new construction kind of surprising in a period like this that we're only down 4% in the month of June relative to last year, and new permits are actually ahead of last year. So that kind of gives you a little bit of – look ahead of what might happen.

So that dynamic seems pretty good given the environment, but then you add on that other element, what you said is, the world is shifting, some of it may go back to where we were, but a lot of it won't, and people are spending time at home, kids are at home being schooled.

And we're eating more at home, even when we're ordering in and we're taking delivery, we’re putting the food in the refrigerator and then reheating it and certainly people are spending more time cooking again both indoor and outdoor. So we've really seen strength across the different product categories. So it started first with outdoor, and then we've got indoor cooking and refrigeration. So it's pretty much across the platform.

I don't think we're going to maintain similar to what we just said in commercial, residential being up 28% by any means. But we think it's possible that we would see us being on the positive side of the ledger for the rest of the year. And then kind of baked underneath it, I mean much like we talked about with commercial, I mean, there has been a quite a bit of heavy lifting over the past several years, certainly new product introductions and that continued into throughout last year and into this year really across the brand. So that is exciting.

And then really our infrastructure investments that we've talked about for a long time, I guess a long time being three years here with our service team or sales team, and we've come light years and thanks to the great teams that we have there relative to where we were before.

And it really is, we kind of go through this period that also plays well for us because we've really been able to kind of support the customer because we've got that much better infrastructure. Now the demand that you pointed out that is a challenge. So I just kind of say that one of the things that were – our caution is that as we went into this, number one we kind of locked down pretty hard. I mean and so we did that. With residential, we really didn't anticipate orders to recover as quickly. So that's number one.

Number two, employee safety is a real focus here. And I will say unfortunately at some of our residential divisions, particularly Viking and Lynx, which is a Mississippi, that's been a hotter spot. And when we have cases of COVID or suspected COVID, we locked down the factory.

So I mean we've had inefficiencies that have been running through our Q2 numbers, and that may continue into Q3. So that not only impacts our profitability, but also our ability to ship orders when we have a demand environment that's actually increasing not decreasing.

So I think our backlog has been building in that area. We've been thinking very hard about how do we increase throughput and capacity while ensuring that we've got employee safety because in the other factories, it's a bit easier when you've got less people and you can distance them.

So that's one of the challenges that we probably have in the third quarter. It's a good problem to have from an order production standpoint, not a good problem from a COVID standpoint. But that's something, as I mentioned, that's priority one. So that could impact how revenues rollout relative to incoming orders.

[Jeffrey Hammond, KeyBanc Capital Markets Inc.]

Okay. Thanks guys.

[Operator]

Thank you. Our next question comes from Tim Thein with Citigroup. Your line is now open.

[Timothy Thein, Citigroup Inc.]

Thanks. Good morning. First question is on the commercial margins. And just looking at the EBITDA margins there, compared to your global peers, I think that the gap, at least from what I looked at this morning and the gap is probably the widest it's ever been. So hats off to that team.

I'm just curious, was there anything you'd call out Tim in terms of maybe, I mean you talked about the cost actions, was there anything that maybe helped you on the plus side or any restructuring or engineering expenses or projects that maybe got pushed to the back half? Just anything you would call out that maybe you won't repeat as a benefit?

[Bryan Mittelman, Chief Financial Officer]

Well, we certainly were rather aggressive in the actions we took and we were trying to be very measured with how we did attack things in engineering given innovation is so critical. But we will continue to adjust that as the demand comes through.

[Timothy FitzGerald, Chief Executive Officer]

Yes. I mean, look, I would say a couple of things, one, we're heavily focused on profitability, right. So that's kind of one of the hallmarks. And I think it's also – it's not fully how we operate the business and our urgency towards delivering the bottom line.

But I mean, it also goes to the strength of the brands and the products, and that's something that we'll continue to focus on. There will be some costs that we took out, that's probably not sustainable to take out if we see growth happening, so that will come back on, but it'll probably come on relative to volumes increasing.

I'll just add, maybe I'll let Bryan kind of clean this up a little bit. But I would say, although, certainly there's a lot coming up. We did have probably some incremental costs in the quarter relatively. So there's kind of some netting there and I'll kick it over to him, but particularly bad debt. Like I know maybe I'll just ask you to comment on that.

[Bryan Mittelman, Chief Financial Officer]

So I did mention, we did take $3 million of bad debt expense, and it doesn't mean to indicate that we had $3 million of restructurings in write-offs. But we wanted to make sure that we took a prudent position on our reserves given the risks in the market. So that's one that we did have that may not recur.

To Tim's point, we maybe bringing back online expenses that aren't directly, immediately revenue generating in the very short-term, however, with orders and then revenues improving that provides contributions where we can afford to get back to the fast and full pace we had before.

Now, as I say that, I don't want you to think that we completely stopped our efforts, that wasn't the case. We were just looking everywhere we could and making sure we had a balanced viewpoint of things. I mean, think it's also probably important to think about the cost and the supply chain side of things too. So let me have Dave add some commentary here.

[David Brewer]

Yes. Thanks, Bryan. Great point. And I'm glad you recognized that separation versus our global competitors. I think it's specifically a recognition to the people at Middleby there are making a difference in engineering, in purchasing and supply chain and manufacturing. The work that's been done over the past three months is clearly showing up in the numbers. It's separating us from our competition. It's allowed us not to do rolling shutdowns. We've actually put the customer first and supplied products.

And I can tell you that not only have we had financial performance outpacing our competition, but our customer service is outpacing our competition. And I can tell you that I've had half a dozen phone calls from CEOs and COOs of our end users thanking me for the delivery of equipment because we chose to take the customer first. And at the same time, these great people in purchasing and supply chain and manufacturing and engineering maintain these financial performance numbers. It's a remarkable feat that we're going to hold on to.

[Timothy Thein, Citigroup Inc.]

Okay. Got it. And maybe Dave staying with you, just what's the tenor of conversations that you're having with your large chain customers is, they've clearly been the relative winners here from the traffic and volume standpoint. And so just what are you hearing in terms of their investment plans? And I'm assuming that new store count is not really high on the list, but I don't know what from a menu standpoint, just what you're hearing from an overall activity and how that plays into the pipeline of activity in the backend?

[David Brewer]

Yes. Let me give you two sides to that coin. So we are very connected. Our sales team are the people on the front line of customer relations are more connected than anybody in the industry and we're learning a lot. The customers were learning a lot about menu, menu management and speed of service and profitability. The ones that are being successful, the operators that are being successful, whether it's the franchisor or the franchisee.

I constantly have conversations with very large franchisees, and it's like they're talking about making more money than they've ever made in their life. And I'm like, hey, come on spend some of that with us since we're a good friends and they're like, now I'm going to hold onto it for now because I'm not sure what's going to happen in the next couple of months, but let's figure out what we're going to do when I release that money. So that connectivity is really important.

The activity around C-stores is growing, grocery store and retail are stepping up their process around foodservice and using more automation to deliver products to their customers. So they're in shopping for groceries. So the C-stores, the cruise lines are revamping a lot of their kitchen equipment as they're refurbishing, getting ready for launches late next year, but they're refurbishing. The fine –white tablecloth and the dine-in, they're active, they're not giving up their businesses.

These guys are not going to wait. They're going to reemerge better and stronger, and they're going to – our connectivity with them and helping them emerge stronger is better than ever. But it's going to be a tough three, six, nine months here. And that's where I think the difference between us and our competitors is really going to shine in our ability to run this company and stay connected to the customer, so that we can pull solutions through our channel partners, our trusted channel partners, our trusted dealers, we'll pull solutions through them.

We're going to deliver them to the end users that we sell directly to, the big, large chains globally. But it is really a testimony to the people in engineering and manufacturing and purchasing the performance we've gotten and our ability to stay with our customers while they are struggling in some cases and succeeding in huge ways in other areas.

[Timothy Thein, Citigroup Inc.]

All right. Thanks for the time.

[David Brewer]

Thanks, Tim.

[Operator]

Thank you. Our next question comes from Todd Brooks with C.L. King & Associates. Your line is now open.

[Todd Brooks, C.L. King & Associates Inc.]

Hey. Good afternoon, everybody. Just a two part question for you. If you look at – and this is on Slide 11. If you look at 26% of the business typically being fueled by new builds, of that 26%, if you look back over last year, how much of that is made up by the segments that remain currently strong? So QSR, pizza, and maybe to a little bit lesser extent, fast casual.

[Timothy FitzGerald, Chief Executive Officer]

So we probably don't have it broken down just in that quite that detail. I'll make a couple of comments, one, international, as you kind of think about emerging markets and where store growth is coming. So it's not only a segment, but where in the world is that happening? You probably have kind of an oversize piece of new stores coming from outside of the U.S. and the emerging market.

So I mean, I think we feel confident that that's going to come back on in the longer term. In the near-term, markets such as India, Brazil, Latin America are more disrupted where we expect some of that would occur. But other markets such as Asia and China specifically, we're seeing some of the activity picking up. So I think is – I don't know if it's a third like – certainly greater than a third of what our geographic mix is coming from the new store. So it might be half of our new store activities is from international. So I think that bodes pretty well.

But certainly in the U.S., I think I actually don't know how it breaks out. Although over time, what's happening is you've got less in independence, less in casual dining. So really, over time, QSR, what was going on with C-stores that those trends were kind of cause more of the new store openings to be there. So looking at, I think that's going to be more impacted clearly than the installed base, but it's not entirely off the map.

[Todd Brooks, C.L. King & Associates Inc.]

Okay. And then just the second part of the question, any sort of – as you're looking at 2021, whatever the hole is and new builds, whether it's the – like you said, casual and independents aren’t back as quickly as some of the healthier segments, maybe some international disruption.

But whatever that hole looks like, if you can talk about the combination of probably more menu activity at once than we've seen in the industry just through the pandemic and how much that could drive from the menu driven side of the business?

But also secondly, how much of that hole can be filled by emerging channels? And I'm thinking kind of ghost virtual, some of the new emerging locations. I'm just trying to think new build, the puts and takes over the next year if you net out the opportunities with just some balance sheet realities for some operators? Thank you.

[David Brewer]

Yes. Well, let me take an initial shot and you can wrap it up, Tim. I think the hole will be filled frankly, and just like – our customers are just like we are at Middleby, right. They're taking advantage of this slow period to reset how they operate. It's known to everybody on this call that a lot of measurements of the restaurant industry are new store openings. And so they will come back in and fill that void in their performance, in their business performance.

I think it will be, and I agree with your point that you implied is that the smart customers, the smart chain customers and regional chain customers are going to think about how they run their restaurants differently, and whether that's the use of a commissary or a ghost kitchen or a dark kitchen and so they create an effectively better operating system. I think that will be filled and that's going to happen next year and the following year.

They're going to back fill that void and fill it in with technology, not only in their existing kitchens to maintain distancing for their employees, safety for their employees, but better and more importantly, better customer service for their customers. And so I think the void will be filled. I'm seeing tons of really smart activity out there by our customers on filling that void so they can bring back that financial performance of their corporations by filling that void that you're talking about.

[Timothy FitzGerald, Chief Executive Officer]

Yes. I’ll add. That's a good answer. I mean, I think it's tough to predict right now, but I agree with Dave. I mean, I think what's going to happen is they are going to invest in their existing store locations, right. So they're going to bring technology and that's going to be the first priority before they get to the new stores. There are going to be some of the concepts that we're working with. Some of them that they see this as an opportunity because they do have a unique differentiated advantage.

And if they are very well positioned for the trends right now that will actually accelerate some of the store openings going after that. And also, we're working with a – at least, there's a dozen ghost kitchen, mobile kitchen operators that we're engaged with very actively.

It's very difficult to say how large this is going to be, but the reality is it's relatively small to the overall number, but it's not only those guys. It is the existing operators, and Dave kind of alluded to this that are also adopting those same practices. So I think that's actually the bigger opportunity that will impact revenues here over the next year or two.

[Todd Brooks, C.L. King & Associates Inc.]

Okay. Great. Thank you, both.

[Operator]

Thank you. Our next question comes from Walter Liptak with Seaport. Your line is now open.

[Walter Liptak, Seaport Global Securities LLC]

Hey. Good morning, guys. Thanks for taking my questions. I'll make them quick because we're running a little bit late. But I just want to do a follow-up on the cost reductions. And I think it was Bryan in your presentation, you talked about how small the charge was for restructuring in the second quarter. And I think alluded to some restructuring for the back half of the year. I wonder if you can provide us with more detail, what might be going on?

[Bryan Mittelman, Chief Financial Officer]

The quick and blunt answer is no, I can't yet. I think I've made it clear that we need to take some actions and it will be forthcoming, but given the necessary steps around finality of decisions and employee impacts of such, I'm not going to elaborate it at this time.

[Walter Liptak, Seaport Global Securities LLC]

Okay. And then – thanks for that. In the process business, it sounds like there's – there maybe some need for some new capacity that there's projects out there. Is it possible to book orders using kind of digital sales methods instead of the kind of the face-to-face walking around the factory? Or do you think those bookings will push out maybe into 2021?

[Timothy FitzGerald, Chief Executive Officer]

Yes. I mean, so is it possible? Yes, we have a lot of longstanding customers that we've had relationships and they're very familiar with our equipment. They know our equipment and we've got great teams that support them every day.

That being said, it is helpful when you can test equipment particularly if it's a new customer relationship or a project where they're putting a new technology or innovation in and we've come up with a lot of new products over the last year and a half, so that gets to be a bit of a challenge.

We had opened up our innovation center. Actually, our second innovation center, we had a bakery one that we opened in 2018 followed by the protein processing center in 2019, and that – these are great tools really to demonstrate the equipment, the performance and validation to our customers. So it's tough right now.

We get those customers in there. So does that mean all the business goes away? No. But there's just kind of an element of orders that will be kind of dependent on us engaging with them. And I just kind of – Bryan mentioned in his comments, but that is a very global business. I mean, certainly, Middleby overall is, but as you kind of think about food processing.

We've got systems going from the U.S. to Russia from France to the Middle East. And there's also the element of being able to do the installs and the service, which is really just a function of people being able to get on airplanes right now. I mean, certainly safety is an element that we're considering when we do send people, but it is very hard when you've got the cross border.

So I would chalk both of those things up to near-term disruption and kind of tactical matters rather than demand because coming into the year, we had an all-time record backlog, Q1 that continued to build – new product innovations are being well received.

We were trying to address new markets, such as pet foods, dry beef, dried meats, alternative proteins. Bacon was an area that we’re already in, but we’re really continuing to expand our solutions and footprint there, including with recent acquisitions such as Pacpro that we did about a year ago.

So all those things are still very relevant, so I think they will come back on line once the business conditions settle a bit. So we're still very positive and optimistic on the business, but we might see a couple of quarters here where truly just the disruptive factors going on in the world make it tough to get some of this stuff done.

[Walter Liptak, Seaport Global Securities LLC]

Okay. Thanks for the description.

[David Brewer]

The only thing I'd add to that is, I agree with everything Tim just said, but there is an inherent need for food manufacturing to be maintained around the world. And so the governments and the people that are doing it, do get some exceptions. When there's a need to keep a food processing plant up and running and they call us to help them bring in some new equipment or keep – maintain a piece of equipment, exceptions are being made. So I agree with everything Tim said, but don't underestimate just the inherent need to ensure food supply to the population.

[Timothy FitzGerald, Chief Executive Officer]

Yes. And I mean, just maybe to further add on that, the demand at those customers generally is strong right now, right. I mean, people are eating generally more by the way. So as you kind of think about all of our segments, whether it's Food Processing, whether it's Residential or whether it's Commercial, food consumption is going up.

I mean, I think there's – one of the things that stand out there is the COVID-15. I think many of us have gained £15 during the pandemic. So the consumption of food is not going down. It is going up. So that demand really starts with our food processing customers. And we've seen kind of resurgence and things like hot dog consumption and meat consumption generally, which is good for our business.

And I think the other element, and it's certainly one of the things we bring to our customers, and this is true as we talked about in the commercial foodservice, but food processing is automation, right. I mean, we are bringing highly automated systems and more and more complete solutions.

And that's becoming more important, not only for the reasons we had coming into COVID, but now you add the element of employee safety. I mean, they've got – it is difficult to have people in the production facilities to the extent that you can automate and space people out, and then also there's availability of labor issues as well. So food automation is going to continue to be more important. And during this period, we are getting more inquiries on solutions to address that which we have.

[Walter Liptak, Seaport Global Securities LLC]

That's great. If I can just squeeze one last one in. I don't think you've taken a question on M&A. Yes, I wonder if it's possible to get a deal done now, if you've got a pipeline.

[Timothy FitzGerald, Chief Executive Officer]

Yes. So good question. So obviously that's also one of the hallmarks of Middleby and we expressly said we would be deferring that in the second quarter as we kind of locked down and make sure we understand where the world was.

Certainly, we're still working through current issues, but I mean, I think as we've gotten our legs under us and a better view of the trajectory, we're keeping kind of the pipeline of activities alive. And I think our expectation is as we kind of move through the second half of the year, it maybe possible to start bringing some of the – kind of prudent type of business development opportunities back online. And certainly, our expectation is in 2021, we'll be back into the M&A swing.

[Walter Liptak, Seaport Global Securities LLC]

Okay. Thank you.

[Operator]

Thank you. That's all the time we have for questions. I would now like to turn the call back over to management for any closing remarks.

[Timothy FitzGerald, Chief Executive Officer]

Well, I'll just kind of wrap it up and say thank you to everybody for attending today's call. We appreciate all the time and questions and discussions. So we look forward to connecting with you again on the Q3 earnings call.

[Operator]

Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.