Good afternoon, ladies and gentlemen, and welcome to Systemax Inc. First Quarter 2021 Earnings Call. At this time, I would like to turn the call over to Mike Smargiassi of the Plunkett Group. Please go ahead.

Thank you, and welcome to the Systemax First Quarter 2021 Earnings Call. Leading today's call will be Barry Litwin, Chief Executive Officer; and Tex Clark, Senior Vice President and Chief Financial Officer. Formal remarks will be followed by a Question-and-Answer Session. Today's discussion may include certain forward-looking statements. It should be understood that actual results could differ materially from those projected due to a number of factors, including those described under the forward-looking statements caption, and under risk factors in the company's annual report on form 10K and quarterly reports on Form 10-Q. The press release is available on the company's website and has been filed with the SEC in a Form 8-K. This call is the property of and is copyrighted by Systemax Inc. I will now turn the call over to Barry Litwin.

Thanks, Mike. Good afternoon, everyone, and thank you for joining us today. We extended our strong top line performance into the new year with first quarter revenue up 10.5% to 251 million and an average daily sales growing almost 9%. Sales reflect the continued recovery in core categories, which finished the quarter with a strong March and solid demand for our global industrial branded products. We've been very pleased with the core category performance and with signs of an improving economy, we remain optimistic about the demand environment. We were disappointed in our Q1 profitability results, but believe that many of the drivers of gross margin erosion are temporary and will ease as we move through the summer. Domestic and ocean freight pressures as well as the impact of a write-down totaling $2.7 million of certain PPE products contributed to a performance that was below our expectations. This was partially offset by improved product margins and SDNA leverage. The inventory write down is a result of the normalization of demand for certain inventory positions we took to service customers during the pandemic. We believe we managed our inventory well during a turbulent period of demand and pricing fluctuations. Our investment in key PPE categories allowed us to respond to our customer's urgent needs while strengthening our relationship with them. This write down was a small fraction of the gross profit these categories contributed during the past year. The quarter was further impacted by a soft February during which significant winter storms affected both customers and our distribution network. As noted on our last call, we also incurred additional costs associated with the transition to a third-party logistics provider. These events impacted freight performance and Tex will provide additional details and discuss actions we've taken to drive improvement. During the quarter,…

Thank you, Barry. I will now address our performance in more detail and would like to note that we had one additional selling day in the U.S. in the first quarter of 2021 as compared to the year ago period. In the first quarter revenue grew 10.5% over Q1 of last year. Revenue was $251.1 million with average daily sales growth of 8.9%. US average daily sales growth was 6.8% while Canadian average daily sales growth grew 38.6% in local currency. Growth in the quarter was highlighted by mid-teens growth in January and March offset by a soft February, which saw a slight decline year over year. It was impacted by significant winter weather across the country. We once again recorded growth across all sales channels led by e-commerce, which accounted for more than 56% of our transaction count up almost 500 basis points from the prior year. Sales benefited from the rebound of core product lines, including storage and shelving, material handling, HVAC and outdoor equipment. We also saw our private label offerings increase as a percentage of total sales. Consumable products within the pandemic assortment, including PPE and sanitizing supplies made up 5.6% of sales in the first quarter, as compared to 7.5% of sales in the same period last year. We recorded improvement in our ability to acquire and retain targeted business customers as we further leveraged data analytics. This drove higher order values in the quarter and aligns with our disciplined execution of our ACE strategy. Gross profit for the quarter was $77.3 million. An increase of approximately 1% from last year. Gross margin was 30.8% off 290 basis points from the prior year, driven by a combination of factors, including a $2.7 million write down of certain PPE supplies. Gross margin performance also reflects the…

[Operator Instructions] Our first question comes from Ryan Merkel with William Blair.

Everyone, a couple of questions from me. First off, you listed several drivers of the lower gross margin. It sounds like freight margin was the biggest negative. How much of an impact was that?

Ryan, it's good to hear you. A few areas in terms of freight overall in the period that we talked about, primarily optimization around our 3 PL relationship that we brought on brand new. That relationship has a significant long-term cost benefit to us as well as an improvement in our overall customer experience. So we believe we can do a better job on managing costs long-term and also managing our service levels better through a direct carrier relationships. So we've completed that transition and certainly saw some increased costs due to that. We also saw some elevation in our LTL costs through the period. So given constraints in the market in terms of the carrier networks, that had an impact as well. And certainly with supply chain side, given some of the widespread reports around port congestion and container availability, those continue to impact us and we're continuing to optimize around that, but we think a lot of those factors will kind of ease throughout the summer and many of which we've been able to continue to mitigate.

Okay. That's helpful. I guess if I add back the one-time items that you're mentioning, what would gross margins had been in the first quarter?

Yes. Barry, I'll jump in there. So Ryan, obviously we identified 110 basis points that came out of the inventory adjustment. So that was a write down. So that's a discrete onetime event. The balance of events, we didn't enumerate the balance. Obviously, there are, as Barry highlighted, a number of moving parts, but all typically around our freight profile. While those are transitional in nature, we believe that we can obviously mitigate those costs. Obviously one thing that you think about when you have increased or even inflationary costs in the LTL market, pricing is very important. So really being able to manage your pricing on the freight side as well as optimizing that network to get the right carriers in the right location. And that's one thing that we have much more ability to do going forward. So while it's hard to identify the specific onetime nature of those costs, we do think that they will ease as we move through the coming months. And we already started to see some of that sequential improvement from the early part of the quarter into where we're at now.

Okay. If I could sneak one more in. So you're seeing some recovery in gross margin as you get into 2 Q. Can you provide a little bit more details on sort of the cadence through the year? It sort of sounds like sequentially, there'll be a small list into 2 Q and then maybe more lift in the second half. Is that the right way to think about it?

Yes, I would say that's right, Ryan. I think as we start to talk about the easing, we have several factors. So we think the LTL, 3 PL optimization will really helped to start improve. On the freight margin side, as Tex had mentioned, we are seeing sequential improvement and we certainly see quarterly improvement through the full 2 Q as well. So we're working through the optimization piece, but I think the one area that we're continuing to fight through is obviously on port congestion and container availability, which we're taking actions to help improve. But I think those are some of the major areas that we'll start to see improvement on.

Our next question comes from Anthony Lebiedzinski with the Sidoti & Company.

So first looking at the first quarter, can you give us a sense as to like how much of your revenue growth was driven by your core non-pandemic merchandise?

Yes, sure. Anthony, it's good to hear from you. When you take a look at our overall growth in the quarter, we definitely saw improvement in overall core mix. So that has been change relative to the 2020 profile where everyone saw quite a bit of PPE and safety. So we've been pleased with the overall growth of core products, particularly in our storage and shelving, material handling, HVAC and the outdoor supplies. So I think as the economy starts to come back and there are obviously clear signs of growth, companies are coming back and looking for those products, whereas they didn't. So we're going to be certainly relying on core growth continuing. And that's what we'll continue to see a higher balance of sale of that volume throughout the year.

Barry, let me add a little bit of color to that as well. So Anthony, as we did highlight that the kind of PPE supplies as we've identified those throughout the last year, they made up about 5.6% of sales this quarter versus about a little over 7% to 7.5% last year in the same first quarter. So you can do a little bit of reverse engineering on that math, but PPE supplies actually, we saw a decline in those year over year, which would mean the aggregate increase in our core supplies increased. And we definitely saw that continue to accelerate as we moved through the quarter. And as we highlighted, we saw mid-teens growth in both January and March with actually a small slight decline in February based upon those winter storms. So…

And then in terms of the transition costs to the new logistics provider, just wondering if there was any additional costs in the second quarter that we should be aware of.

I'll take it. Sorry, Anthony. So yes, I mean, as we think about the transitional costs, we did, I'll call it we completed the transition, actually as recently as this week in terms of really aligning on our new carrier relationships. So obviously there was transitional costs, there was some duplicative costs. There were some increased costs as we moved through the period. Those are the ones that obviously now that we have the relationship, we're locked in with our new network, our new carrier relationships, optimizing that will continue to take some time to get that at an optimal level. So yes, that will continue into the second quarter, but we think at a muted level compared to the first quarter. And we do expect to see improvement in those costs as we move forward.

Got it. Okay. And 2 more questions for me, as far as your inventory position now, just wanting to get a sense as to how much of your current inventory has pandemic related products. I know you took the write down, I assume you took write down for everything that you needed to, or just wanted to get a better sense about that.

Yes. I'll jump in there. So yes, if you think, Anthony, the write down is obviously an inventory reserve that you take based on net realizable value. Sorry, getting a little accounting on you in there. But so yes, we look at the sell price, look at the sell through of the product and determine what we believe the appropriate level of realizable value on that inventory is. So yes, based on our Q1 close, and obviously as we move through the closing period, we identified what we believed was the appropriate levels of inventory reserve. That's not to say there isn't any possibility that there'll be another one in the future, but we did take the appropriate amount that we reviewed and was necessary at the time.

Yes, that's right, Tex. And the other thing, Anthony, too…

Got it. Okay and the last question -- oh, sorry.

No, I was just saying, as we look out towards the middle part of the year…

Go ahead.

No, I was just going to add that as the economy continues to come back and companies start to return, there's still opportunity for product in the pandemic nature that exists in those facilities as they return. So I think we've assessed kind of what we need to get us through those periods.

Got it. Okay. And then last question for me, the tax rate came in lower than what we had expected. Just wondering how we should think about the tax rates for the rest of the year.

Yes, that's definitely my question. So yes, it definitely came in at a lower level, combination of factors contributed to that, largest being the impact of stock option expense benefit. Now that you recognize that on the exercise of options that we're exercised in Q1, obviously given the value of the options that were exercised and the overall kind of net income level, it did contribute to that level. We also saw, obviously our Canadian, who you heard we mentioned our Canadian business grew roughly 38% on an average daily sales basis with the Canadian business operating with some NOLs in its balance sheet, we were able to, there was a tax benefit there. So in the kind of long run, we do think 25% is still kind of that -- under the current tax code would be the right, 25% to 26% would be the right tax rate to model. But in the short term if Canada keeps performing very well, there could be a little bit of favorability in that going forward. But again, overall 25% to 26% is still how we model our tax rate internally.

This concludes our question-and-answer session and our conference for today. Thank you for attending today's presentation. You may now disconnect.