Right. Hello, everybody. So for our next presenters, we're excited to have Stanley Black & Decker here with us. We've got Pat Hallinan, CFO. Pat, you wanted to kind of start off with some initial remarks. So why don't I turn it over to you?
Yeah. I'll say a few things and then turn it over to you, Joe, for some questions. Obviously, for manufacturers, especially manufacturers with long supply chains, especially those that extend to Asia, it's been quite an interesting year, and I would just start off saying that while this has been a year of dealing with a number of challenges and headwinds, as a team, we're quite confident that we stay on our long-term trajectory. About a year ago this time, we had a capital markets day laid out a number of markers of getting the mid-single-digit top-line growth, 35-plus% gross margin, and EBITDA margin in the high teens or better, and we still think those are the right targets for the business. Tariffs probably put us 12 or so months behind that pace, but we've taken enough price to offset the tariffs.
And then we're going to be pursuing mitigation. That is well underway. And throughout next year, that kind of gets the margin back on the volume impacted by tariffs. And we feel very confident with the path we're on. We would certainly welcome a calmer environment or a more construction products-friendly environment. But we are confident in the things that we control.
Makes a ton of sense, Pat. And so I know Chris isn't here, but still, it's early days for him as the CEO. Just any thoughts on just changes in strategic priorities or playbook is in place and expect to kind of keep on the same path?
Yeah. I would say, for those of you who aren't familiar with us, we hired Chris Nelson about two and a half years ago. He sat in the Chief Operating Officer chair for the better part of those two and a half years and took over the CEO reins in October, and I would say his approach will be evolutionary, not revolutionary. We are going to stay very focused on the financial metrics we laid out a year ago and very focused on the strategy that he really helped design over the last year, year and a half, of being a branded, products-oriented company where we're really, for the near to medium term, myopically and aggressively focused on organic growth and margin expansion as opposed to M&A, and the same brands, DeWalt, Stanley, and Craftsman, will remain the same priority brands. I'd say we'll do some very modest portfolio tightening.
So again, I'd say it's more evolutionary than revolutionary. And the thing that I'd emphasize at this stage of our journey is, and it's unfortunate, the tariff disruption of get to the 35% Gross Margin so that the focus is disproportionately on growth, right? Because that's kind of the next big, I think, the next big chapter of the same story.
Got it. So let's talk about the long-term targets. And you referenced the fact that the same targets still exist, but maybe because of the tariffs, they've been pushed out about 12 months. But let's talk about gross margin specifically. So the 35-plus% gross margin target, you now see it being achieved in the fourth quarter of 2026. Just talk about some of the levers that you need to pull in 2026 to achieve it. And then also, I know we'll get to growth. What kind of level of market stability do you need in order to get?
To growth, yeah. I could talk about both. I'd say gross margin, so I'd say the good news this year in a crazy year of a point in time when Liberation Day tariffs were 100% of our EBITDA, and obviously, and thankfully, those tariffs came down to maybe more like 35% of our EBITDA, but still a significant headwind. We really only had tariffs kind of knock us off forward margin trajectory for one quarter, the second quarter of this year, right? We took price quickly, and by the third quarter, we were back to margin progress. We finished this year probably the fourth quarter of this year around 31% gross margin for the full year and 33% for the quarter. Obviously, there's a little seasonality with our gross margin because we have outdoor products in the front half of the year that put some weight on it.
But we expect to get to 35% next year. And I'd say, Joe, the levers are we've been pursuing, as you know, about $500 million a year of gross COGS improvement each year. Next year is probably more like $350-$375 million of what I'll call like-type gross margin improvement, whether that's strategic sourcing, platforming, continuous improvement in the plants, and a few more plant activities. We probably get a few more footprint nodes out of the system next year. But then complementing that is $200+ million of tariff mitigation, which is by the planned movement of SKUs out of China, whether that's to Mexico or elsewhere in Asia, and then the SKUs that go to Mexico getting USMCA compliant. That effectively lowers the tariff bill by $200-$300 million. So it's the combination.
It's a modestly lower amount of gross traditional COGS savings complemented by about $200+ million of tariff mitigation.
Okay. Great. And then just on the growth aspect, as you look into next year, getting to that, call it 35%+ gross margin by the end of next year, does it contemplate a certain amount of growth?
No. Obviously, we would welcome growth, and growth can provide leverage on the margin and it can provide some leverage headwinds if it doesn't materialize, but when you think of our cost structure, our PP&E is about 2%-4% of net sales, so there's not a big fixed asset issue around growth. It's really how we're leveraging the people in our plants issue, and so when the growth doesn't come, we have to right-size the headcount in the plants, and when the growth does come, we can leverage it up to a point until we need to add a shift or something like that, so next year, I'm not here today to kind of call next year's macro, but we probably aren't going to prepare for a robust macro. We'll prepare for kind of a, like, noisy, flattish, or thereabouts kind of macro.
We're going to make that 35% margin progress kind of irrespective of that. It'll force us, if that is kind of closer to flat than to up, that forces us just to be tighter on our headcount. We would certainly welcome the macro should it improve. I mean, I think there's a chance of that in the sense that this has been a year where, because of tariffs, people have been very lean on inventories. It hasn't been, with all the immigration enforcement, it hasn't been a terribly friendly year for construction labor. So if next year just those things stabilize or don't get any worse and there's any kind of midterm pressure on rates, then I think there's some chance for upside. That's the kind of stuff that it would take to get, I think, macro upside.
Makes sense. Do you want to just spend a minute or so talking about what you're seeing in the pro versus DIY channel?
Yeah. I would say this year, like the last few, the pro has stayed stronger. I'd say both have kind of been fits and starts. I'd say, obviously, the pro has been more robust throughout all of this. And the takeaway from this year is you have some SKUs because we took quite a bit of price this year. And while the elasticity across the total portfolio is roughly a point of price up, a point of volume down, obviously, that's not true everywhere at the SKU level. There's some that are more favorable and less favorable than that. When you really see truly, truly, truly only pro SKUs, things like hammer drills or saws for cutting concrete, you're seeing much less elasticity than you are in DIY SKUs. So the pro has stayed stronger.
I do think, though, that all have felt a lot of pressure from price and from inflation this year. And so the backdrop has been more challenging in 2025 in total than in 2024, still with the pro ahead of the DIYer, but both with some pressure. But the pro is still willing to pay for performance, safety, and durability. And the DIYer is still on the margin spending only when they need to.
Makes sense. So we typically talk a lot about the gross margin line when it relates to your company. But the reality is that you're also doing things on the SG&A side as well. I guess talk a little bit about some of the investments that you're making in SG&A, and then balancing that with trying to structurally have lower SG&A over time.
Yeah. And what I would say structurally, we've kind of had SG&A on a global basis as a percentage in net sales in the 21%-22% range. As you know, Joe, sometimes it's kind of been 22+ slight amount. Sometimes it's been lower. I would say if you're thinking of next year, I'd say somewhere very much in between those two. But inside of SG&A in a year like 2025 here, where sales is roughly going to be flat, we're pulling about $100 million+ out of the back office in order to put $100 million into the front office. And for 2025, much like 2024, the preponderance of that investment has been in product and in field resources, be it field sales or field support.
I'd call it pretty modest changes in 2024 and 2025 around digital capabilities or just pure brand advertising because over these last couple of years, we've been a little bit refreshing our brand strategies and dialing in which targets we're going after most. I think as we go into 2026, you're going to see a year that's somewhat similar where we're creating the capacity to invest by being lean in the back office. The investment will be similar kind of in that $70 million-$100 million range.
And it will be similar, but I think we feel we're at a stage digital infrastructure-wise and brand strategy-wise with DeWalt, Craftsman, and Stanley, where you'll start to see maybe a different balance of what I'll call just pull marketing, be it digital marketing or more traditional media for brand advertising, in addition to more feet on the street, but it won't be kind of all that. And I think it'll be, and that's just a reflection of the evolution of the brand turnaround.
Got it. You referenced earlier the $350 million-$375 million and platforming, manufacturing footprint, sourcing kind of being like the primary levers. You're also on the cusp of concluding a very large program, a $2 billion cost reduction program. One of the questions we get frequently is, how is there still room for them to cut costs? So how does the $350 million-$375 million that you referenced, how is that different from the actions that you'd already taken over the last couple of years to drive out pretty significant cost out?
Yeah. I'd say on the margin, platforming and in-plant improvement, which platforming was barely at all in the last three years, and in-plant, which was a smaller part of it, are growing, but I'd still say the preponderance is in strategic sourcing. But what I would tell you is like any company where you kind of have a living, breathing marketplace you're dealing with and performance execution, the pipeline we have right now of ideas to chase the 350-375 next year and the fruit that they're bearing in the early days is on a proportional basis like the pipeline we've had, so the way we govern it is we have at any given time, we have a set of four big work streams going, whether it's in-plant improvement, sourcing, platforming, or taking nodes out of the network.
There's a game plan, and there's kind of a high side, low side, and what's the monthly and quarterly estimates of those, and how much fruit are we getting along the way. We're on a trajectory right now that would tell us proportionally we could deliver the 350, 375 next year. On the tariff mitigation, we have every Friday morning, we're together with a by SKU, where is it moving from country A to country B, and how much USMCA. You can imagine it's an intense project management process, but it's the requirement for us to get to 35%. You've been part of this journey even before I came on board. When Don laid out this game plan in the middle of 2022, it was predicated on volume growth being mid-single digits.
And so what we've had to do is get to the same endpoint with higher tariffs and with basically a volume decline. And so we've had to gin up more ideas and pursue them more aggressively.
So it's interesting. In a hypothetical scenario where tariffs may not go away, but they're a lot lower than they are today, you've done a lot to your supply chain to change the supply chain. How does that ultimately affect your P&L if we were in a much lower tariff environment than what you're experiencing today?
Yeah. I mean, I think you're getting to the issue: some of this regrettable, or is it introduced some complexity, or all these kinds of things? And I think like any manufacturer, we have not, as a country, provided a very stable backdrop of policy to the good or the bad, right? I mean, it's been a lot of whipsawing. And I think what we've concluded, we're a global player, is at least our U.S COGS have to be minimized in China because whether we've lived under Democratic regimes or Republican, there's enough friction there. Sometimes it's just pure geopolitical friction. Sometimes it's very trade-centric geopolitical friction. But I think that's something we must do. And as long as we execute places like Mexico, Vietnam, Thailand efficiently, first of all, over time, we can definitely get them to China levels efficiently. It'll take some time to get that.
But we feel like we're going to end up where we were a company that probably had three big centers of gravity manufacturing-wise. We're probably going to be more like four or five. China doesn't go away. I mean, we still have a European business and an Asian business and a Latin American business that gets service from China. But that node shrinks a bit, and probably two other nodes grow a bit. Would you rather have three than five from an inventory perspective? For sure. But I think that's just the world we're going to be living in. And we feel like it gives us the flexibility that as different forces play out over time, we can kind of adapt over time.
Yeah, and just for those that are not familiar, your expectation is still to have less than 5% of your COGS that you're sourcing into the U.S. from China this year.
Correct.
Yeah.
We started this year around 15, and we probably finished 26 below five.
Yeah. Pretty incredible change there. Also for the folks that don't understand or don't know much about your platforming strategy, do you want to explain the strategy and then ultimately why now is the time for you to embark on it?
Yeah. I mean, there was a very big part of Stanley Black & Decker for a long time where there was a highly decentralized engineering and product development process. And that's only changed in the last two or so years where Chris Nelson brought in a Chief Technology Officer. We centralized all engineering and new product development off of one central group. And in the old world, I think to the benefit of the company, and one thing we've tried to hold on to is we were very close to end users and what they valued. And so our product developers knew intimately what they needed to do to drive value to end buyers. But they also had full license and really no good infrastructure to share. So they went off and they did everything in a very bespoke manner.
I mean, if they were innovating the next impact wrench, they specified their own engine, they specified their own transmission. And there was nobody overseeing it to harness it. That's a miss on our part. We now have the org structure and the incentives in place and just the governance in place that people have to use set libraries for key components. And also that we have the expertise to make sure we're offering up the quality library to do things. And so I think now at the time, it's a huge I came from a business where we use platforming to great extent. So did Chris. I came from Fortune Brands, Chris from Carrier. And it's super powerful.
It is a very big cultural change because people have to give up a degree of freedom, and they have to see enough value in speed and cost to give up the degree of freedom because they are making trade-offs. But I think it's going to be a very powerful lever for us. I think it's a modest piece of what gets us to 35%. I think it is an unlock beyond 35%.
The measurable impact is going to be the cost efficiency and cost savings and the productivity associated with it.
Inventory longer term. I mean, I think it's right. You can imagine a world where if sales were flat, we would like to get another 800 million to a billion of inventory out of the system. I think that will make about 200 million of progress next year. That'll become easier once we get through some tariff mitigation because you can imagine there's a lot of inventory builds and drawdowns as we go through tariff mitigation. But if we're going from a world with three big manufacturing centers, as we just talked about, to five, that's a work against inventory. So if we're going to get inventory net down over time, we're going to need efficiency, and efficiency is going to be better sales and ops planning, but also from things like platforming.
So we've talked about some of the pieces for 2026. Do you want to elaborate on maybe you mentioned inventory? That's a piece that people will be paying close attention to. We talked about the gross margins as well. Do you want to provide any other thoughts around an initial framework for next year?
Yeah. I certainly want to stay away from strong form guidance because I think we're still trying to figure out exactly where the consumer and the market will be. So I kind of leave it to the wise people in the audience to kind of make your own kind of market predictions. I think, and this is consistent with both the third quarter and some of the Q&A that has followed, right? We'll be aiming to hit 35% gross margins by the end of next year. We'll be there or very close. Certainly, our goal as a team to aim for 35%. We're probably going to finish this year with an average of 31%. It'll be 33% in the fourth quarter. That's a pretty seasonally strong gross margin quarter for us.
I think next year is probably going to be an average of somewhere in the 32-33% range with 35% being the endpoint. I think SG&A will be somewhere in that 21-22% range. Tax, about 20%. And we'll probably try beyond the cash that would flow out of that normal operating income chase about $200 million of inventory reduction. And I think until we talk to you about our market expectation at the end of January, beginning of February, that's a framework to put up against your own market expectations.
That's helpful. And your comment on seasonally strong in the fourth quarter, that is something that we've witnessed and experienced before. So gross margins stepping down sequentially, but still up year- over- year, probably starting at the low 30s to start the year. It's probably the right way to think about it.
Yeah. I'd say that. I'd say that's the case. I mean, I'm still waiting to see. We do have, we talked about it on the third quarter call that as we went through tariffs this year and some of the pricing, we decided as a leadership team, "Hey, let's not be too dour on the elasticity. Let's keep some capacity in our plants in case it's better than one-to-one." So we're kind of working now to get that capacity out of our plants. That'll have a little bit of a headwind into next year because, as you know, those under absorption gets capitalized and rolls off the balance sheet in the first half, but I think you're right in that we'll make some progress sequentially, but you'll drive that average of 32-33 off the back half of the year.
Makes sense. So you referred to pricing just now. I mean, pricing has been strong, partly driven by the tariff environment that we've been in. What's the kind of right way to think about pricing into next year?
Next year? I mean, our industrial business, which is 15% of our revenue, is always doing some pricing on the margin. But that's very targeted and very unique to that business because they're engineered products for customers. And we're always doing a little bit internationally for FX in our tools business. But we don't have any big tools and outdoor pricing for next year. We did a second wave, as we talked about doing, and we've executed it and finished that all up with our customers. And so unless there's some significant shift in the tariffs, we don't anticipate a big pricing event next year. Now, you will have carry-in pricing that's pretty material, right? Because this year we took $800 million of annualized pricing, but really we got a half a year of it roughly.
And so you do have the front half of next year that pricing coming in. So in your reconciliation, you'll see pricing, but we don't have a big new price increase coming next year. And right now, as you look at the things that tend to affect our business, metal pricing, resins, and transportation, there's maybe a little bit of upward pressure in some metal categories that you're familiar with. But I'd say logistics are net favorable. And so you kind of look at, I don't want to say zero inflation for next year, but pretty benign inflation. And we'll be leaning on cost of goods sold improvements to kind of offset that.
Okay. Great. I know we haven't touched on it yet, but we should. The fact that you're kind of changing your strategy within tools and outdoors to be much more brand-focused versus sales-oriented. Talk about what that actually means for the three brands that you're really honing in on, and then also what it means for the brands that are not part of the DeWalt.
Yeah. That's a good question.
Stanley and Craftsman.
Like anything, I mean, I'll get in more detail to that last part. But in more, it's our biggest brands between DeWalt, Stanley, and Craftsman, that's over $9 billion of our $13 billion of revenue. So it was a little bit of, "We need to get that right. Otherwise, what are we doing?" kind of thing. But what it really means to be brand-led, I mean, a lot of what we were doing before was we were innovating product and then after the fact, really figuring out which brand is most effective or most applicable to the product, and we weren't being disciplined enough of the trade segments we were chasing or which types of DIY customers we were chasing.
And so it was a lot of product push and a lot of focus on channel exclusivities or at least some differentiators across channel and probably not enough focus and discipline on end buyers back. And so shifting to brand-led is really which end users should each brand target with what level of priority? And then what does that mean for the product roadmap? And then what does that mean for which channel partners and geographies? And then where do we place our dollars from there? And so over the last two years under Chris's leadership, we've really gone through, as we've done our annual strategic planning, working end user back and focusing much more discipline on specific trades or specific segments of the DIY market, much more discipline on what that means for our product roadmap and the product roadmap being uniquely brand-driven.
And then where are the geographies where that's going to give us the most amount of growth? And it's been a big change for the company because it was kind of a product push instead of an end user pull type company. And that's been the change we've been going through as we've navigated this.
So the second part of that question was, what does it mean for the other parts of the brand?
The other brands, we have had general managers where, and I've been part of turnarounds prior. You don't say, "Hey, we don't care about these other brands," which for those of you who don't know would be things like Black & Decker and Lenox and Irwin and Proto. And there's a whole host of brands, Mac Tools. It's more with very limited resources and very limited senior leadership attention. How do you kind of hold water? Because we needed us to kind of hold in there. And so they have to get very focused on. There's very few things they can do because they have very few degrees of freedom.
And then also a little bit has been, and if you really would have paid attention to third quarter disclosure, there were some brands we bought and we stretched too wide, probably just to the liking of our channel partners, but it wasn't sustainable for either of us. Like Lenox, which has long been a cutting tools brand. We started making Lenox screwdrivers and tape measures. And we did the same with Irwin, which used to be a woodworking brand. Not very sustainable for us or our channel partners. We've gone back and we've refocused those brands on where their core strengths are greatest. And that's been a part of what they've done.
So it begs the question whether there's potential addition by subtraction in some of the brands that you're talking about. But then there's also been discussion that we've had historically about within the engineered fastening business, potentially pieces of that portfolio as well.
Yeah. I mean, I think we still have a leverage issue out there. And we've been reasonably explicit that there's a part of the industrial fastener business, most likely our aerospace business, where if you follow the aerospace M&A sector, it's been a pretty hot sector. And that's a business where we have a good business, but it's a relatively small part of our business. It's about $400 million of revenue out of $15.25 billion. And as you know, we're not going to be on an M&A path in aerospace. That's the most likely asset we sell. And I think that gets to our leverage issue. I think other portfolio changes will be small things on the margin. I think there will be some other small things that happen just because they probably don't have the growth and margin potential we're looking for in the total portfolio.
I think more to if we had a clean sheet of paper, would we have as many of these brands as we have now? Maybe we wouldn't design it that way with a clean sheet of paper. But I think on a tools brand-wise, we're more likely to focus those other brands than we are to jettison them just because we probably couldn't get paid enough relative to the value of focusing them.
Makes sense. One last question. So you're targeting about $600 million or so in free cash flow for this year. That assumes, I know that the fourth quarter tends to be seasonally stronger, but it does assume a pretty significant step up. So maybe just kind of walk through how you're thinking about that and whether that's still.
Yeah. I mean, again, those of you who don't know, seasonally, we do about the last quarter to third of the year is a bulk of our net cash flow. This year is probably even more so, again, because of some of the inventory builds and other expenses we faced in the middle of the year tariff-wise. The fourth quarter route to full year $600 million is about like $150-$160 million of net income, probably like $130-$140 million of D&A, and then over $500 million of working capital improvement, predominantly from receivables and inventory, and it'll be a mix of all three, but those are typically the heavy ones in the fourth quarter.
Still on track?
We're still on track. Yeah.
Okay. Great. Pat, thanks so much for being here with us today.
Oh, thanks.
Great to see you.
Yeah. Thank you.
Thank you.
You're welcome.