Clorox Co
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Clorox Co
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Good day, ladies and gentlemen, and welcome to the Clorox Company Third Quarter Fiscal Year 2023 Earnings Release Conference Call. At this time, all participants are in a listen-only mode. At the conclusion of our prepared remarks, we will conduct a question-and-answer session. [Operator Instructions] As a reminder, this call is being recorded.
I would now like to introduce your host for today's conference call, Ms. Lisah Burhan, Vice President of Investor Relations for the Clorox Company. Ms. Burhan, you may begin.
Thanks, Jen. Good afternoon, and thank you for joining us. On the call with me today are Linda Rendle, our CEO; and Kevin Jacobson, our CFO. I hope everyone has had a chance to review our earnings release and prepared remarks, both of which are available on our website. In just a moment, Linda will share a few opening comments, and then we'll take your questions.
During this call, we may make forward-looking statements, including about fiscal year 2023 outlook. These statements are management's current expectations that may differ from actual results or outcomes. In addition, we may refer to certain non-GAAP financial measures. Please refer to the forward-looking statements section, which identify various factors that could affect such forward-looking statements, which have been filed with the SEC.
In addition, please refer to the non-GAAP financial information section of our earnings release and the supplemental financial schedule in the Investor Relations section of our website for a reconciliation of non-GAAP financial measures to the most directly comparable GAAP measures.
Now I'll turn it over to Linda.
Hello, everyone, and thank you for joining us. We delivered strong results in the third quarter and made a challenging operating and cost environment, with organic sales growth in all four segments, gross margin expansion and double-digit adjusted EPS growth. Our performance reflects solid execution by our team, the strength and resilience of our portfolio, the superior value of our brands and the relevance of our IGNITE strategy. Based on our strong performance, we're raising our fiscal year outlook.
During the quarter, we made great progress through building margin while maintaining top line growth. Net sales grew above our long-term target and we delivered our second consecutive quarter of gross margin improvement supported by cost justified pricing and decade high cost savings. We also made further progress on our IGNITE priorities, investing in our brands and innovation pipeline, while advancing our digital transformation and streamlined operating model to create a stronger, more resilient company.
While we're encouraged by our progress to-date, we're relentlessly focused on controlling what we can to drive and appropriately balance both top line and bottom line growth. Looking ahead, we expect the operating environment to remain volatile and challenging. Despite recent moderation in pockets of input costs, overall inflationary headwinds continue to be strong. In light of this and ongoing macro uncertainty, we're watching consumer reactions very closely given the potential for them to come under greater pressure and we are prepared to adapt plans as necessary.
Regardless, we have trusted brands and essential categories, which we continue to invest behind. I remain confident that our actions position us well to navigate this environment to deliver consistent profitable growth over time.
With that, Kevin and I will take your questions.
Thank you. [Operator Instructions] And your first question will come from Andrea Teixeira. Please go ahead.
Thank you, operator and good afternoon, everyone. So my question refers a more on the quarter coming in better than anticipated. And Linda, you and Kevin and the team had highlighted that elasticities can kind of came in better. But of course, you're not lapping and not assuming that's going to continue. So you can -- if you can talk a little bit about that? You called out Kingsford being one that you potentially have to work out the price gaps. Any other area that you'd think would be an opportunity? And regarding VMS, just as a clarification, are you putting the asset for sale or just rightsizing it?
Andrea, this is Kevin. Thank you for the question. Maybe I can start with our expectations for Q4. And as you saw, we delivered 8% organic sales growth in the third quarter, which is stronger than we anticipated. And you may have seen Andrea, in our prepared remarks, there is about 2 points that were one-time in nature, and I'm happy to talk about those. But if I set those aside, we delivered about 6 points organic sales growth. If you look at our outlook for Q4, our full year outlook, and you can back into it. We're projecting about 3% to 6% organic growth.
I would say at the high end of that range, it would look very like it did in Q3. We expect continued strong consumption. The business is performing well. I think the one watch out we have and you mentioned it is our Kingsford business. While we had very strong performance in the third quarter, Kingsford was a one business that came in below our expectations. And you may have seen in our prepared remarks, we're seeing an increased level of competitive activity and we're not seeing competition move to the same degree we moved on pricing. That was one of the businesses we priced in December and we've seen price gaps widen and as a result, we saw our shares decline in the third quarter.
Now the team with that in mind they've gone back and they've adjusted their plans in Q4, so we're increasing our support for the business in the fourth quarter. But it's certainly something we're watching, and Andrea, you may know this that business has an outsized impact on our fourth quarter. We do about 50% of our total sales in Kingsford happened in the fourth quarter. So it's clearly something we're keeping a close eye on.
We think we have good plans in place that we've adjusted to reflect what we learned in Q3, but we're watching that closely, particularly around the key holidays, and it's a little early to tell how Memorial Day or July 4 plays out. And I think if we have a good successful season, we'll be at the top end of that range, which is pretty consistent in Q3. But if it delivers below our expectations, I think that would be a reason why we'd be towards the lower end of the range for the fourth quarter.
Andrea, I'll take VMS. So as you're all aware, VMS is a small portion of our portfolio. It's about 3% of sales right now and has continued to face challenging market dynamics from a category perspective, what we're seeing coming out of COVID. And then, of course, we've highlighted the performance issues on that business. And we've reassessed that business as it relates to the role it plays in our portfolio.
As Kevin highlighted, we're seeing strong results across the majority of our businesses. And we think it's the right step now to look at resource allocation and allocate resources to businesses we think how higher growth potential and therefore, making a bigger focus on profitability in the VMS business. And that's what the team will be laser focused on moving forward. That includes, like I said, moving resources to businesses that have growth potential as well as continuing to narrow our focus on core brands.
And we think that's the right role for the business moving forward. Given that, that's what triggered the non-cash impairment, but we feel like we have the right plans moving forward. And as it relates to our portfolio, we're always doing that work with our Board. We'll continue to do that. But right now, we're focused on driving more profitability in the VMS business as we own it today.
That's very helpful. If I can squeeze one question on, if I can, on the wipes business. It seems as if there wasn't any call out of -- it seems that has normalized. Any changes in potentially regaining some shelf space that was lost at the time given the private label taking more share and you didn't have enough capacity, how did that normalize? And anything in the dynamics of the timing of promotions in doing a club or anything that you could call out that happened in the quarter?
Yeah. Certainly, for wipes, that was a business or one of the business most impacted by COVID. And as we noted, in Q3, we were lapping the Omicron variants and then begin to get to a period where we're more normalized from a COVID perspective with wipes. But it definitely has been bumpy over the last few years as we've gone through that. But we've been very pleased with the performance on the wipes business. We've continually grown share quarter-after-quarter for the last well 12 months over 18 months now on wipes. We've regained significant distribution.
Our merchandising plans, while lower than they were pre-pandemic are stronger than they have been and that's behind our ability to supply and we are able to fully supply that business now. And we continue to see consumers turn to us in times of cold and flu. Even with a season that was moved up, we saw strong consumer reaction from a cold and flu perspective. So we feel good about the future of that business. We continue to have a good innovation pipeline. And if you look at our shares, they certainly support the fact that what we thought would happen with all the tertiary brands launched did as we return to strong share leadership and continue to grow that share position.
Very helpful. Thank you. I’ll pass it on.
Your next question will come from Peter Grom with UBS.
Thanks, operator and good afternoon, everyone. So maybe just two questions on gross margin. Maybe one more near term and one, looking at longer term. So you've been making some nice sequential progress this year in 3Q of almost 42%, which is quite strong. But the guidance implies a step down in 4Q. So I know there's a lot of noise. If I go back and look at gross margin progression, pre-pandemic, it's pretty rare that you see that sequential step down. So just any color on what may be driving that?
Hi, Peter. Yeah. Thanks for the question on gross margin. I would not look at it as stepping down in Q4. If I look at our Q3 performance, and as you mentioned, we delivered a 41.8%, there's about 1 point of benefit from the one-time items we highlighted. So if I set that aside, it's sort of an ongoing basis, we're a little under 41%. If you look at our raised outlook for the full year, we're now looking at 38.5% to 39%. You can back into the fourth quarter and now suggest we get to about 40% to 41%. So I would say our fourth quarter is very much in line with what we delivered in the third quarter, if I just set aside the onetime benefit we had. And so we expect the good strong performance we delivered this quarter to continue on into the fourth quarter.
That's super helpful. And then I guess maybe looking out longer term, I recognize being hesitant to provide goalpost around a time line of returning to pre-pandemic profitability. But just looking at the 3Q performance, the 4Q exit rate, the broader trends around inflation. It just does seem like there's -- the light at the end of the tunnel might be approaching faster than anticipated. So I would just love some perspective on the margin recovery? And whether based on what you're seeing right now, whether returning to pre-pandemic levels is in the cards as you look out to next year?
Yeah. Peter, as it relates to gross margin, Lynn and I remain committed to getting back to pre-pandemic levels that's work that's well underway, and we intend to get there. I'm going to be cautious about providing in the outlook for fiscal year '24. We're still in the process of developing our plans. So it's a bit too early for that. But I would say at a high level, you should expect when you see our plans, it will be very much focused on the same priorities we've been driving this year. We're going to continue to drive top line growth. We fully expect to continue to make progress, expanding gross margins and rebuilding them. And then we'll continue to advance our strategic priorities.
The challenge with the gross margin, I know there's a lot of interest in exactly when we get to pre-pandemic levels is. On the elements, we control, I feel very good about the progress we're making and we've talked a lot about those drivers. I would say those initiatives are primarily on track or exceeding our expectations. But the reality is there's a real impact from the areas we don't control, either supply chain disruptions or inflation. And as I said in the past, I really think that inflationary component will either accelerate or delay our time to recovery, depending on how that plays out over the next 12 months to 24 months.
And I frankly don't think anyone's got a particularly good crystal ball right now to predict that. And so we're going to continue to focus on those things we can control. We're making really good progress. I expect that progress to continue in fiscal year '24. But I think it's a little premature for us to make an exact call on where we think we'll be by the end of '24.
Got it. Thanks so much. I’ll pass it on.
Yeah. Thanks, Peter.
Your next question will come from Anna Lizzul with Bank of America.
Hi. Thank you very much for the question. To continue the theme on gross margins. I did want to just follow up. Understanding that commodity costs are still a headwind, but directionally keep moving in a better direction and less of a drag on margins here. I mean do you see commodity costs largely stabilizing at this point into fiscal Q4? And then also, do you see a bigger benefit acknowledging that the mix and assortment on margins was a benefit in fiscal Q3, would you expect a bigger benefit on that in fiscal Q4? Thank.
Yeah. Thanks, Anna for the question. As it relates to commodity inflation, it is still an inflationary environment. Now it is moderating that level of inflation. But to give you a perspective, in Q1, we had 330 basis points of commodity inflation; in Q3, at 230 basis points. And so we've seen some moderation, but still an inflationary environment. As we've said, resin is a one product rebuy that we are seeing deflation.
We've seen that for a good part of the year but that's being more than offset by most of the other products we purchase. And so it continues to be inflationary. We had called about $400 million in total supply chain inflation, about half of that from commodities and half from other areas at the beginning of the year and that still looks like the right call. We still expect about $400 million of inflation. And so I expect to exit this year still operating in an inflationary environment as it relates to commodities.
Now as it relates to manufacturing and logistics, I'd say the one area we are starting to see prices come down year-over-year, at least that's our expectations on transportation. It has stabilized in the third quarter. And then our expectations in the fourth quarter, we'll start to see transportation on a year-over-year basis to be lower. But keep in mind, when we talk logistics, there's really three pieces in there.
There's transportation, which I think is moving to a deflationary market as we're seeing less demand for goods and more trucks available. But that also includes warehousing and what we call our diesel surcharge and we continue to see inflation in those other two elements. So logistics continue to be a headwind, but transportation piece of logistics, we're starting to see that decline, at least that's our expectation for the fourth quarter.
Okay. Thanks very much. And then just on the mix and assortment part of margins, are you expecting to see a better benefit from fiscal Q3 to fiscal Q4?
I don't. I mean a little bit of the Q3 benefit mix and assortment is our cleaning business, particularly wipes because we're lapping Omicron, our wipes business is down and bigly when you get to large multipacks. And so that was a benefit in the quarter that I expect them to get back down to a more normalized mix of our cleaning portfolio, I would not see that continue in Q4.
Great. Thanks very much.
Thanks, Anna.
Your next question will come from Dara Mohsenian with Morgan Stanley.
Hey, guys. Good afternoon. So a couple of things on the gross margin side. I guess I wanted to re-ask Peter's question and I understood the answer in terms of on an underlying basis, at least the high end of full year guidance seems fairly similar levels in Q4 -- fiscal Q4 versus fiscal Q3 adjusted. But you did see a lot of sequential improvement in Q3 relative to Q2. And as you mentioned, there are some things getting better in terms of logistics in theory, some of the commodity costs are less of a pressure point next quarter.
So just wanted to understand why we wouldn't continue to see a path of sequential improvement, given as we look at fiscal Q3 on an underlying basis, you saw that versus fiscal Q2? And then also, just looking at the underlying performance in fiscal Q3, can you just highlight, based on the pressure points of the individual buckets, where did you come in better than expected versus what you originally expected in fiscal Q3? Thanks.
Sure. Yeah. Thanks, Dara. As it relates to Q4, I'd say the one item I would add to your list and you're exactly right. We expect some moderation in cost inputs as we move from Q3 to Q4. The counterbalance of that is on pricing. We believe Q3 will be the strongest benefit from pricing. As we move into Q4, we're now lapping two price increases, the first two rounds we took. And so I would expect that we'll see less benefit from pricing in Q4, essentially offset by more moderating cost environment. So collectively, we get back to that 40, 41, which is fairly consistent with Q3, seeing a little less inflation and a little less benefit from pricing about offsetting.
And then as it relates to Q3, probably the biggest benefit above what we expected is volume deleveraging. We went into the quarter expecting based on elasticities that we would see volumes down in the mid-teens range. And as you saw, our volume was down about 11%. So that stronger top line performance that really drove through the entire P&L. We overdelivered on sales relative to our expectations, but it also contributed to a strong gross margin as well as EPS. So that was really the biggest change versus our expectations. And as I mentioned earlier, Peter, the cost inflation is generally in line with what we expected. That was true for Q3 and we still expect about $400 million of cost inflation for the full year.
Great. That's helpful. And then just on price gaps, you obviously talked about Kingsford, are the plans on Kingsford mainly to adjust promotional spending? Are there other plans as you think about managing that business, particularly heading into the peak season here? And can you discuss if you're comfortable with price gaps elsewhere across the portfolio or are you seeing anything worrisome elsewhere? Thanks.
Sure. I'll start with the portfolio and then get a little deeper on Kingsford. So from a price gap perspective, the pricing we took a few months ago went generally as expected. And we've seen pockets of price gaps. And frankly, we're still closing some of those, and we've adjusted some of our plans on the businesses where we've had issues. For the most part, our price gaps are in line to where we expected them to be. Kingsford, as you call out is the biggest gap that we have right now as competition did not follow that price increase in full. And that's one that we are making adjustments to our plan, and we have those already beginning to show up in market in Q4.
Part of that would be trade related. We're ensuring we have the right merchandising plans to support the right price points, but we're also focused on market baskets with retailers, which is one of the biggest opportunities given the overall basket for the consumer in the drilling space is under pressure with protein prices being up, and of course, the rest of the things that go on the grill. So we're focused on supporting those enhanced merchandising plans, and we'll expect to see that play out as we head into Q4.
That being said, though, we are laser-focused on any price gap issues that we have in pockets and we have plans ready to adjust, and we will do that on select other areas of our portfolio where we continue to see gaps. But what I'd say is there's so much noise as prices fluctuate and as promotion starts to come back into the marketplace that we're being incredibly cautious to ensure that we have the right value for our brands and maintain that superior brand value with consumers but not get ahead of ourselves from a trade perspective. And I think that balance has been working, and we'll continue to do that in Q4 and beyond as we manage price gaps.
Great. That's helpful. Thanks.
Your next question will come from Filippo Falorni with Citi.
Hey. Good afternoon, guys. Question on pricing. You mentioned obviously in Q4, you're going to cycle some of the price increases from last year. You still have the December price increase flowing through. So can you give us a sense of magnitude or the sequential change in pricing that you're thinking for Q4? And then longer term, you've talked in the past about shifting from list price increases towards more price back at capture. So can you give us a sense of the potential contribution from those initiatives as we look to fiscal '24 and beyond? Thank you.
Sure. Hi, Filippo. As it relates to Q4, I won't give a buy line forecast for the fourth quarter, but you should expect that the price benefit to margin we saw in Q3 is a high watermark this year. And then now as we really start lapping that second price increase, you'll start to see that pull back. I'd say more in the range, somewhere in that Q1 to Q2 range, generally in that area. So we'll see that start to step down. And that should continue to play out that way for the next three quarters until we fully lap the last round of pricing we took in December, it will continue to step down in value over time.
And then your question on list price changes, I think you may have read in our prepared remarks, we do not have any additional large scale pricing in our plans for the balance of this fiscal year. We will continue to work on place back architecture (ph) changes. And then we'll evaluate we're developing our plans for '24. So we'll come back to you in August and we'll share more details about our plans about how much would be pricing and how we would execute that pricing is a little too early to have that conversation.
What I would say though, maybe longer term is, I think as we get through this inflationary cycle and we get back to an appropriate level of margins, I would expect us to get back to a more normalized level of how we grow the top line, which is more volume dependent and we'll continue to focus on innovation, consumer trade-up and some price back architecture be much more volume driven than price mix driven and so I think you'll see that evolve over time. But we're still very much in the mode where it's being more driven by price mix and I expect that to continue for another three quarters until we lap all this pricing.
Great. That’s helpful. Thank you.
Our next question will come from Lauren Lieberman with Barclays Capital.
Great. Thanks. Hi, everybody. In the prepared remarks, Linda, you talked about, you’ve been please with market share performance and I was -- Linda’s, readily apparent on a dollar basis. But I was just curious how much you guys think about volume share and whether or not that's a metric that's important to you, it's something you focus on? And then, I have a follow-up related to that after I kind of hear the answer.
Sure, Lauren. So on share overall, we were happy to maintain share in aggregate, and we grew share in five of our nine businesses and continue to grow share in the growth markets around the world. That being said, of course, our goal is to grow share and I've been transparent about that, that we're not satisfied into that zone, but we are really pleased to see given the level of pricing that we've taken that our shares have held up.
And of course, we are talking about dollar share, and if you recall, earlier, we were growing volume share pretty steadily as pricing had fully taken hold in our categories, and that was something that we were looking at, too. So Lauren, we're balancing both of them. Our focus is usually on dollar share as the primary metric that we want to focus on. We think that convey as well our overall superior value and how we think about consumers thinking about value in the category and dollar share is a better representative of that. But again, we are watching volume and unit share to see how consumers are making decisions, et cetera.
The good news is that because the categories have mainly moved in line with us with some exceptions, Kingsford being notably, you're seeing adjustments in volume share that in some places are larger, but most of the time in line and just have to do with normalizing price gaps. So we watch it, primary metric is dollar share. Happy to see where we are and happy to be growing in five to nine businesses, but the work is certainly not done yet.
Okay. Great. And then so when I was thinking about gross margin and Kevin had mentioned it briefly about the operating deleverage and it was better this quarter than expected, but it's still a headwind to gross margin. As you think forward, what should we be thinking about in terms of volumes, stable at newer lower level, albeit give all the pricing (ph), is it volume growth? Because [Technical Difficulty] how should we think about where the business is geared to on an absolute volume performance basis such that if we're really talking about restoring gross margins versus pre-pandemic levels. We often be mindful of where volumes stand relative to that pre-pandemic period?
Lauren, I'd say a few things on volume. I think one thing that continues to benefit is, as you know, is we chose to use contract manufacturers mean that significant spike, so we did not overbuild our facilities that allowed us to, as volume moderated we were able to set those agreements down and not be left with a lot of unused capacity internally. And so I think that's benefited us. I think -- as I mentioned, I think to Filippo, as we move forward now, depending on where pricing goes in fiscal year '24, but given the pricing we've taken, I would expect price mix to continue to moderate and the volume declines to moderate as well as we cycle through this pricing.
And so as I said, short of any future pricing being taken, I think we've probably got a three more quarters or so, we're seeing price/mix driving the top line to a greater extent of volume. But I think that will level and balance out as we look further out into our fiscal year '24 and so I think that's when we get to a more steady state of volume.
And what we try to do is be thoughtful about ensuring we're building our manufacturing capacity to be in line with these plans and not getting ahead of ourselves. And so that's the work we've been doing with our supply chain team to try to make sure we don't end up in a position where once we get to the steady state, we've got too much capacity in our facilities. I think we're in pretty good shape, but that's something we continue to evaluate and continue to adjust our plans. But certainly, it's something we're keeping a close eye on.
Okay. Great. And then final question. I was just in the expenses excluded from earnings this quarter and then the outlook set in the operating model changes that just things are moving more quickly, so higher expenses in this year, but no change to the overall program. But on the digital expenses, they are higher. And so you're now excluding, I think it's an additional $0.07 or something like that. So I'd just be curious if we could explain a little bit what's the incremental? Is it just the estimated cost of the program has gone up? Is there an incremental savings, just curious about that change?
Yea. Sure. Thanks for the question. As it relates to our digital transformation that program is very much on track. As you know, it's a five year program, and we plan to spend $500 million, no change in our expectation. We are seeing a little bit of a shifting between years. This is the second year of the five-year program. We started the year out, expecting we spend about $150 million, $90 million of OpEx, about $60 million of CapEx and that $90 million equates to about $0.55. We have now raised our total spending to about $160 million, so from $150 million to $160 million. And that's just a little bit of shift in timing between years. We're not changing the overall expected spend as a result of pulling a little bit of that forward into fiscal year '23, we've raised our expectation about $10 million and that's that $0.07 you mentioned, Lauren.
Okay. Thank you so much. Sorry for all the questions.
Thanks, Lauren.
And our next question will come from Olivia Tong with Raymond James Financial.
Great. Thanks. Good morning. My first question is on advertising and your view on reinvestment levels, especially with A&P up pretty substantially in Q3. So we certainly saw some nice acceleration following the gross margin improvement. So just wondering on your views going forward if gross margin continues to recover ahead of your expectations, where do you think advertising goes? And then just a follow-up on that. This is the biggest increase in advertising margin that on a year-over-year basis in quite a few years. So can you talk about where the incremental spend was and your view on the ability to generate the same level of ROI on that spend versus what you're going and expectations were?
Sure, Olivia. Advertising continues to be an incredibly important part of how we support the superior value of our brands. We believe fundamentally in it. And it's why we've done everything to continue to maintain spending what we think is about the right level over a year, which is about 10% of sales and we'll continue to be on track for doing that this year. As you noted, Q3 was significantly higher than other quarters and that's given innovation that we launch and timing of merchandising.
And again, we don't manage quarter-to-quarter, but this was the right time to spend this money to support our brands. And coincides with having our fourth price increase in the market, which is good timing. We continue to believe that about 10% is the right spending, but we adjust that and look at that depending on what the businesses require. And we're not afraid to move or adjust that moving forward. But again, right now, about 10%, we're on track to do that for the year.
And if you look at our ROI on marketing, it has been terrific and is another reason why we continue to feel strongly that, that investment contributes to the value creation that we can get from our brands. And our focus, as you know, has been on improving our ROI given the fact that we are driving personalization. So we wanted to get to know 100 million consumers in the U.S. And what getting to know 100 million consumers does is it allows you to know them better and it allows you to personalize to them.
And we've had the added benefit of driving efficiency and effectiveness by doing that. So we're getting the right people, the right message at the right time and spending our money more effectively. And if you look across the advertising we said in our prepared remarks that, that was more heavily concentrated in the U.S. where we had lots of good opportunities. and was pretty widespread across our businesses. And you saw the strength across all segments with organic sales growth across all four.
And again, as we head into fiscal year '24, we'll let you know what we think the right level of advertising spending will be, but you can hear that our commitment to that as the way we create value remains steadfast.
Got it. That's helpful. And then I just have a few specific questions on Kingsford. If you could just remind us first where Kingsford margins stand relative to company average. And then obviously, a lot of pricing this quarter. How much of that pricing acceleration that you saw in Q3 was driven by Kingsford versus the other brands where you saw competition in follow (ph) pricing?
Olivia, I'll answer on gross margin and we don't provide gross margin at individual brand level, but it's a nice profitable contributor to the company. And I'm sorry, can you repeat your second question? I'm not sure that was tracking.
Sure. Would you mind just giving us a sense in terms of Kingsford relative to company average then? And then also, how much of that pricing acceleration that you saw in Q3 was driven by Kingsford versus other brands where you did see the competition follow your pricing?
Yeah. On the margin, we don't share other than I'll just give you direct message, it’s a nice business for us and so we're quite happy when we get increased sales in Kingsford. As it relates to pricing, I would say I'm not sure I fully understand your question. But I would say overall, Kingsford is not as large in Q3, your question about how Kingsford usually contributed to pricing. As I mentioned earlier, we do about 50% of our sales in our fourth quarter on the Kingsford business, so it has a very outsized impact on the company. But in Q3, that's really early season for Kingsford. And so it's less meaningful in terms of the impact it has on our performance.
Got it. Thanks so much.
Your next question will come from Chris Carey with Wells Fargo.
Hi, everyone.
Hi, Chris.
So I'm just digesting a lot of the questions on this earnings call around sequential momentum in gross margin, which was great. It sounds like the underlying momentum will continue into Q4. I guess the question I want to ask is just philosophy on investment, right, because of this gross margin trajectory continues and you don't materially step up spending, you're going to be looking at a very, very significant year of earnings growth in fiscal '24, right? And I know you're not going to comment on fiscal '24, but certainly, this is the reality when you flow through these gross margins to the model. And I think these questions on investment are well taken and where you want to spend. But if 10% of sales is the right number, then it would imply that you're going to be spending an enormous amount on S&A?
And I guess, just maybe help us understand where the types of areas where you might want to lean in, if you're now clearly over delivering on the gross margin line? If not an advertising? Are there areas of SG&A that you felt like have been underinvested in that you have opportunity over the next four to six quarters as if you look at the normalization of the P&L over the next couple of years? And just connected to that, there's been this target of 13% estimate as a percentage of sales out there. Is that still a relevant target over the near to medium term? Thanks, Rendle.
Sure, Chris. I'll start and then ask if Kevin wants to add anything after I finish. Just maybe taking a step back in what we're trying to accomplish. And we talked about the balance that we want to strike between maintaining top line growth and rebuilding margins and ensuring given the incredibly volatile and uncertain environment that we're taking all the actions we can control to do both of those things. And we are pleased with the progress that we've made on both of them. If you look at our growth, if you look at any kind of three-year average over quarters, et cetera., it puts us at the top end of our growth algorithm and then we're making nice progress on margin.
I think Kevin highlighted why Q3 between onetime less deleveraging than we expected, what we expect in Q4, really happy with the margin performance that it's nothing that we should expect as outsized in Q4. Obviously not providing a fiscal year '24 outlook, but let me just give you how we're thinking about the environment and what's going on out there. We want to continue to maintain that balance on top line growth and margin improvement. We still think it's a multiyear journey to rebuild margins. And we think the uncertainty from a consumer perspective in '24 is going to continue to remain high.
And that's very difficult to predict right now exactly what the inflationary environment will look like when -- if we will hit a recession, and then, of course, what the corresponding impact will be to the consumer. And it is very likely that they could become under more pressure. And so what we're taking this out is another good quarter. We need to continue to control or controlling. We want to continue that into fiscal year '24.
And then we want to make the right investments to your good point to support that business. And we believe in advertising, supporting innovation, which we continue to feel very strongly about ensuring we have the right capital plans against our business, which we feel we do. And we'll look at all of those hard in '24 to make sure that we're making the right choices. And we're not afraid to invest if we need to, to support both that top line growth and rebuilding margins.
We'll have more specifics, of course, and we talk to you again in August about what that means for '24. But just know that the posture we're going into is we're committed to that margin growth, committed to maintaining top line and then making all the necessary adjustments to do that at the right pace.
Okay. Thanks for that. That's a very fair just on the -- just one quick follow-up on Olivia's question. The way I understood it was, did Kingsford atypically contribute the pricing in Q3. And as such, to get back in Q4. I'm not exactly sure that's what you meant, but that was the question I had. So I figured it ask you as well. Thanks so much.
Yes. Chris, on pricing, as I think you may recall, we took pricing pretty broadly across our portfolio in December. So Kingsford was one of a number of brands repriced. And so as I said, Kingsford did not have an outsized impact and because it is low season, it had fairly small impact. So I don't expect to see any meaningful change in Q4 as it relates to the pricing we took and specifically what Kingsford contributed to that pricing overall because again, pricing is just one brand and we priced a good portion of our portfolio in December.
Okay. Thanks so much.
Yeah. Thanks, Chris.
Your next question will come from Javier Escalante with Evercore ISI.
Hi. Good afternoon, everyone. My question has to do with SG&A and if you could, first, operationally, tell us what you have accomplished on this digital investment that you are making financially is $0.63. It's been excluded of consensus what is reasonable to think as recurring cost going into fiscal '24?
Hi, Javier. I'll start just with a reminder of what our digital program entails and how we're thinking about it. And then if there's any specifics we want to provide, Kevin can talk about the specifics of the spend for this year and how we're thinking about it moving forward. So we're investing, as you know, $500 million to transform our company digitally. And this, of course, is putting in the right technologies, including a new ERP, but it really is around changing the processes and the work that everyone at Clorox does to be faster and simpler.
And we see this supporting both our top line momentum as we put in place innovation capabilities, better access to consumer data to drive insights and speed of decision-making as well as efficiencies as we have the ability to look across our supply chain and make decisions that reduce costs. This investment is on track. I think Kevin highlighted that to begin with. We'll see differences year-to-year. We're in the second year of the program, but the team continues to be on track implementing against that.
What we've said is, most of the investment is upfront, but you get the majority of the benefit as you start to exit our IGNITE strategy or in 2025. And that's because you're putting all of those capabilities and technologies in place and changing how the entire company works and operates. And then we continue to be on track for that. This is a very high-return project for us. When Kevin and I evaluated this, we looked at the return and we track that project by project to ensure we're getting that return, and we continue to be on track to deliver good value on this over the long term.
As it comes to specifics, we talked about in our release that we are about to implement the first region of our ERP coming up this calendar year. That is on track. -- as well as some of the other technology improvements that we've made. And of course, we have paired that with an operating model change that is also on track and in fact, a little bit ahead from a cost savings perspective this year as we were able to implement some of those changes faster. But those two things in combination are really about being fast, simple and more cost effective company that we -- that we want to be and to develop the type of resiliency and strength we can to weather whatever comes our way, another pandemic or whatever else the macroeconomic or geopolitical environment throws our way.
So just to clarify, there is no recurring cost associated with the $0.63 in digital spending that you are making in fiscal '23?
Sure. Hi, Javier. As it relates to the spending, what will happen is the $500 million is the cost, the investment to put these new systems in place. I think through the end of this year, we'll be a little less than halfway through that spend. So it will be somewhere around $230 million, $240 million. And then that will continue as we complete the program over the next three years. That's the one-time investment with this in place. Now there are all ongoing maintenance costs, which we have in our legacy systems now that when those get shut off, there will be ongoing maintenance costs for a cloud-based system that we'll continue to pay. But the $500 million is the cost of the investment in this technology to get it put in place.
That's very helpful. And if you changing topics, if you can comment underlying category growth on a volume basis so we can compare it versus your 11% decline now that Omicron is behind us? And if you can give that assessment of volume category growth when it comes to your household penetration, Clorox products versus 2019? Thank you very much.
As you would expect, given the elasticities of what we spoke about and the fact that our pricing is generally in line with category pricing, category volumes were down, and we've absolutely expected that to be the case. If you look at dollar sales, so if you look at consumption, high-single digits in our categories, which continues to show the strength and resilience of the consumer in our categories. Given we compete in Essentials, this is something that we expected. We're watching really closely as the consumer continues to react to pricing and as they continue to react to the macroeconomic environment.
But right now feeling very good about the category position that we're in and consumer response to pricing. Generally, we would expect over time as we begin to lap category pricing and see category volumes return and get to that place where you see low-single digit growth in our categories from a volume perspective over time. We are certainly not at that point right now. as we have nine more months to lap pricing. And then, of course, we'll see what plays out from a commodity perspective and any required pricing that happens in the future that would also impact that.
The only other thing that I would say as it relates to pricing and you think about volumes. We're not seeing that type of trade down either as it relates to consumers making choices for private label, et cetera. That's been pretty steady. As we highlighted earlier, our shares in aggregate, are flat. We grew in five of nine categories. We have seen private label increase share a bit in some of our categories, but it's not coming from us. It looks like it's coming from other brands and that there is a simplifying of the category, and it all relates to the value that we offer consumers 76% of our portfolio is still deem secure by consumers. We've continued to invest in that. So volume is what we expect in the categories. And again, we expect that to bounce back over time as we continue to invest in innovation and advertising and in category growth plans with our retailers.
And the household penetration statistics, do you have them?
Sure. Yeah. On Household penetration is still very high for the Clorox portfolio. We're still in about nine out of 10 homes, and as we spoke about last quarter, household penetration is something we expect to decline in a time when you take extraordinary pricing. But that's not a clock phenomenon. It is a category phenomenon. And what you see is people using those more price sensitive behaviors. They're letting a trash bag, fill longer. They're stretching their time in between cleanings they're doing those things to make their wallet stretch, and that results in usually category penetration declining and we are seeing that. What I would say, though, is we see no difference in our brands versus the category, and we would expect over time to rebuild category penetration as we rebuild volumes.
That’s all for me. Thank you very much. Very helpful.
Thanks, Javier.
We'll hear next from Steve Powers with Deutsche Bank.
Very thanks. Actually, it's a good lead in. I just wanted to pick up on that household penetration discussion. Last quarter, we were talking about it. And I think the framing was that you were looking to rebuild household penetration over the course of 2024 and then looking longer term, obviously. Just in response to, I think, to Lauren's question earlier on volume growth, Kevin, your response, if I heard it correctly, you emphasized stabilization of volumes.
So I just want to marry you kind of tie those two things together and make sure I'm grounded in the right takeaway because if we're rebuilding household penetration over the course of '24, I think that implies positive volume, whereas you emphasized stabilization of volume. I know it's maybe splitting hairs, but just wanted to think of -- just kind of understand how you're thinking about it? Maybe it's a progression over the course of '24, but just -- so I don't walk away the wrong impression. Thank you.
Yeah, Steve. Thanks for the question. As it relates to volumes, I think for the next three quarters, given that the pricing we just took in December, we would expect to [indiscernible] volumes decline and view with grow top line based on price mix as we get past that pricing and assume we don't have any other large-scale pricing in our plan, then I think the balances start switching. And as we target that 3% to 5% top line growth, you're driving that more through volume versus price mix.
So then I think it reverses and then volume starts to be the primary driver of our top line, supplemented with our innovation and trading consumers up, but more volume driven as we target 3% to 5% over the long term. . But I think we’re probably still a number of quarters away before we get to that more stable environment. We’ll return to a more traditional model of top line being more driven by volume and price mix.
Okay. Thank you very much.
Yeah. Thanks, Steve.
Your next question will come from Jason English with Goldman Sachs.
Hey. Good afternoon, folks. Thanks for sorting me in. A couple of questions. Let's start with maybe the trade down. To Lauren's question earlier, you're clearly losing some volume share in a number of categories. You're seeing usage occasions like they're not going through cheaper products, their trade down. Where are you seeing those lost usage occasions out of your brand? Like, where is it going, if it's not going to it's a trade down?
Yeah, Jason. It's very dependent on category the consumer behavior. But what I would say is we noticed big buckets of the following: First, we see consumers trading to larger sizes, and they're looking for the best cost per use, for example. We also see certain consumers trading down to lower sizes because they're looking for the lowest out-of-pocket price point, and they're willing to pay on a higher per use basis because they only have a certain amount of money to get them through their shopping cycle for that period of time. We're also seeing people trade within our portfolio, for example, so where somebody might use a more expensive cleaner, they are using a dilutable cleaner or a bleach cleaner and willing to put more elbow grease in to get that same amount of clean and trade off that pricing convenience.
And then we're seeing behaviors and this is really consistent across the category where people are just trying to stretch something more. So they're getting every less spray out of a bottle. They are using a wipe longer, they're stuffing a trash bag, and that's pretty consistent across the category. But really, those 3 1st buckets are the really important ones as we see people trade into different sizes and then, of course, adjust their behavior. And the good news for us is, in many cases, we're able to capture that consumer because we offer different levels of convenience, for example, in our cleaning business.
Okay. And Kevin, can you -- you mentioned a couple of sort of onetime transitory benefits this quarter. Can you remind me what they were and quantify them? And then related, maybe do the adjusted math on this. Gross profit, we're all benchmarking is pre-COVID, right? How you -- as you are, too, when you mentioned like recovery to margins, your gross profit, I think, was up adjusted 19% versus 3Q '19. And cumulative volume growth of three, suggesting that unit economics are up a lot, like 15.5% versus pre-COVID. And almost to Chris' question, like, why you hold this? Like you're going to blow through a $3.2 billion, $3.3 billion gross profit next year at that level. So what is anything unusual or is that like -- that's it, your unit economics are that much better and we can run rate this?
Yeah, Jason. The two questions, I think the first question you had was onetime benefits in the quarter. We had two. The first one was on trade spending. We have a normal process at the end of the second quarter. We evaluate our trade spending accrual. In this case, we're not seeing the promotional environment increased at the rate we expected. So we reduced our trade spending accrual. That was a onetime benefit in the quarter. .
And then the other onetime benefit was one of our competitors had an out of stock in our dilutable category. And so our Pine saw business saw a pretty nice performance, double-digit growth as a result of that out of stock. Now the combination is back on shelves. So we don't expect that to continue back to a more normalized level of competition. So those two items are the ones we highlighted is fairly unique for the quarter that we don't expect to continue into Q4. That generated about 2 points of top line benefit and about 100 basis points of margin benefit for the quarter.
And then on unit economics, yes, we're in mean rebuilding gross margins and we are going to be. We expect to be a much larger company than we were before the pandemic. We went into the pandemic with a little over $6 billion in sales. As you know, we're seeing a little over $7 billion right now. So you would expect gross profit to be higher because as we rebuild gross margins, and we are a bigger company that will generate more gross profit. So ultimately, we expect that to occur as we rebuild margins over time. But as Linda said, we think that's a multiyear journey to get there. We'll have to see how much progress we make in '24, we're developing those plans right now. But that is certainly our intent is to rebuild gross margin and have the results or the impact of gross profit as it relates to a larger company.
Okay. Yeah. It sounds like this is a good benchmark. It's a run rate then. Thank you. I'll pass it on.
Thanks, Jason.
And your next question will come from Kevin Grundy with Jefferies.
Great. Thanks,. Good afternoon, A couple for me, a cleanup on the SG&A, Kevin, I apologize if I missed this. It looks like your SG&A on an underlying basis, ex the digital moved up about 50 basis points from your prior guidance. What's driving that?
Yeah. Kevin, if you just -- I'll talk Q3 and talk full year. So in Q3, a little over 16%. We had a couple of items. We had the digital transformation, which we highlighted is about 150 basis points. We also had about 40 basis points from our operating model changes. A portion of those restructuring set in SG&A, a portion sits in link. And so you're seeing some of that flow through in SG&A.
And then the other one was we have higher expected incentive compensation. We have a very strong pay-for-performance philosophy. And as we've taken our goals up for the year. We expect our incentive compensation will be higher as well. So we baked that in. So as a result, we went from 15% to 16% was our expectation last quarter and now we're expecting closer to 16% for the year.
Got it. A couple more for me real quick. Just to walk from like the 14.5% this year to 13% ambition longer-term understanding it's going to take some time to get there. But sort of broad brush strokes, what gets you from 14.5% this year to 13.5% over a reasonable amount of time?
Yeah. I would say one is, if you just get to a normalized level of incentive compensation, it's going to be above target is our expectation this year. But if you just go back to a target payout, you pick up 40 to 50 bps there. And then our expectation, you start looking at the operating model we talked about, so $75 million to $100 million. We're going to generate about $35 million of our expectation this year, but that's a nice contributor as you look at '24 and beyond.
And then you start getting the benefits from our digital transformation. We're still very early in that process. But over time, as we bring a new technology online, we're going to see more productivity opportunities. And so collectively, when you look at all that together, that's the path for how we believe we get to 13% as we look forward over the next several years.
Got it. Thank you, Kevin. One quick follow-up, if I can. I was going to ask on trade promotion and it kind of came up end of your response. Again, like from our perspective, hard to gauge sort of order of magnitude with the decision to take down the accrual. But I think like collectively everyone on the call would think promotion levels moving higher and not lower, and I guess, particularly in your categories.
So I was going to -- a question for both of you. I was going to ask Linda just how you're thinking about freight promotion risk around that? Are you starting to have those conversations already? Are retailers starting to push already? They see what's going on with resin and inflation more broadly. They see what's happening with this gross margin start to inflect. Are you starting to get more pressure there? And Kevin, maybe you could just jump in and sort of comment on the decision to take down a trade accrual with the likelihood the trade promotion is going to move higher over the next 12 months? And then I can pass it on. Thank you for that.
Sure, Kevin. We're continuing to see the promotional environment normalize. And the dynamic that happened is we expect the promotional environment to increase this quarter but did not increase as much as we expected. And that's a dynamic and then Kevin can talk about the accrual as it relates to that. As we look just broader, though, in the environment on promotion, that stays a very specific role for our categories. We talked about in the past that more than 90% of our business is done off the shelf with no pricing discount and promotion plays a role to ensure that we talk to consumers about innovation. We talked to them around key holidays and pulse points where consumers are looking, for example, back-to-school or back to college or around cold and flu.
And we use that to ensure that we're speaking to consumers about our products, the values they offer and new innovation. That continues to be the focus that we have on the promotional environment, and those are the discussions we continue to have with retailers. We're not afraid to use promotional dollars if we have price gaps that we need to adjust on a temporary basis, and we will do that. We are doing that right now, as we have a couple of price gaps that are out of line that we spoke to earlier. But generally, Primo continues to be a strategic investment lever for us to ensure that we're in front of the consumer when we need to be and when it matters from an innovation and pulse point period. perspective.
And then I would just add as it relates to the trade accrual specifically and Linda said it well, which is it's not that we expect tradesmen to go down. It's just not growing at the rate we expected. We -- before the pandemic, about 25% of our product was sold in some form of promotion. In our most recent quarter is at 20%. And if I look at Q3 a year it goes at 19%. So it is increasing. We expect that we get back to more of that pre-pandemic level faster. And so the reduction in accrual is just recognizing it's not as growing as fast as we had anticipated, but we do expect to continue to increase.
Understood. Thank you., both. I appreciate it. Good luck.
Thanks, Keving.
That concludes the question-and-answer session. Ms. Rendle, I'd now like to turn the program back to you.
Thank you, everyone. We look forward to speaking with you again on our next call in August. And until then, please stay well.
And this concludes today's conference call. Thank you for attending.