Impact investing spectrum brands
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Now turning to the financial performance and our operating environment. Once again, we delivered top line growth this quarter. While we entered the third quarter with optimism, having implemented the necessary pricing actions to restore our margin structure and to begin to ramp up our EBITDA generation for a big rebound in our back half, we experienced 2 significant points of pressure during the quarter. The first was many of our retail customers communicated to us that they were experiencing rapidly changing consumer behavior, particularly in home appliances, as well as reduced foot traffic in the home center channels.
These unprecedented negative demand shocks and the unfavorable weather conditions materially reduced our planned sales for the quarter. This sharp reduction in retail orders led to our own inventory levels being higher than expected, which is in turn leading to higher demurrage and detention costs as well as additional storage costs in the short term. So in response, we've taken 2 major actions.
While these actions are difficult, it is the right thing to do to position our company for the business conditions ahead. Second, we pivoted our operating strategy to reduce our inventory levels and to run our operations to maximize cash flow instead of reported earnings.
This is negatively impacting our margins and contributed to the shortfall to our original earnings outlook. In addition, we are investing in targeted advertising and promotion to help our retail partners reduce their own current inventory levels. While these difficult actions negatively impact us in the short term, we are already seeing the benefits. And because of these aggressive steps, we believe we can return to our normal operating rhythms and profitability faster.
We are only 6 weeks away from beginning our fiscal , and we want to enter the new fiscal year as lean from an expense and inventory position as possible. Additionally, from an overall pricing perspective, while we continue to monitor inflationary pressures, I would like to confirm that all of our previously planned price increases are now implemented, and we are at our targeted inflation coverage levels coming into the fourth quarter.
In our HPC business, we have seen higher sequentially monthly profitability just in the last couple of months with, in fact, the profit for the month of July in this business greater than it was the entire third quarter. Given our third quarter results, shifting consumer demand and the related retail order patterns as well as our near-term focus on reducing inventory, we are updating our earnings framework. We are now expecting mid-single-digit top line growth over the prior year in the fourth quarter, and we expect fourth quarter EBITDA to be relatively flat to the third quarter and very similar to the prior year period.
This would imply a mid-single top line digit -- sorry, this would imply mid-single-digit top line growth with a mids EBITDA decline for the full fiscal year of Overall inflation remains high. We are seeing some easing in certain areas, including ocean freight and with certain material inputs.
Despite the near-term headwinds, our businesses remain competitively positioned, and our operating performance has already materially improved since we implemented the actions just described. If I could now turn your attention to Slide 7. Our capital allocation priorities remain consistent, but our short-term focus has adjusted to cash flow generation.
We are confident that the public markets are looking to invest and to allocate capital to a more pure-play global pet care and home and garden company, and these actions should result in a re-rating of the valuation of our publicly traded shares. Before I turn the call over to Jeremy, I would like to thank our teams who have worked tirelessly in the face of current market headwinds and have helped make some difficult short-term decisions to prepare our business for long-term success.
Now you'll hear more from Jeremy on the financials. Jeremy, I turn the call over to you. Jeremy Smeltser Thanks, David. Good morning, everyone. Just one quick clarifying comment. If you could turn your attention to Slide 9, a review of Q3 results from continuing operations, beginning with net sales.
The increase in GAAP net income and diluted earnings per share were primarily driven by the increase in operating income. Turning to Slide Moving over to the balance sheet. Additionally, pro forma net leverage was 5. Turning to Slides 11 and 12 on our expectations for As David mentioned, we're updating our earnings framework.
Regarding our capital allocation strategy, after the closure of the HHI sale, we intend to significantly reduce our debt levels. After full deployment of the HHI proceeds, we're targeting 2 to 2. Now to Randy for a more detailed look at our operations and business unit results. Randal Lewis Thanks, Jeremy. Thank you all for joining us this morning.
I will be reviewing our third quarter operations results by business unit. Organic net sales increased from continued momentum in the garment care and growth in personal care, which more than offset the decline in kitchen appliances. The third quarter represented the 12th consecutive quarter of year-over-year top line growth for this business.
As mentioned earlier, sales in the U. However, garment care in the U. Sales in the EMEA region were negatively impacted by unfavorable foreign exchange rates and pressure on consumers from high inflation and the impacts of the war in Ukraine. Excluding the impact of FX, organic sales in the EMEA region increased over the prior year as personal care and garment care appliance sales more than offset the decline in kitchen appliance demand.
Our Latin American business also continued to show strength and posted double-digit growth driven by higher consumer demand and expanded distribution. Despite macroeconomic challenges, our products continue to perform well with consumers relative to our competitors. In fact, we had a very strong share gain in our small kitchen appliance and garment care category in the U.
We continue to be very excited about our new product pipeline, which now includes great products like the PowerXL Duo NutriSealer. It's an innovative handheld food saver and vacuum sealer with a patented double seal technology. The product is also generating meaningful subscription sales of high-margin consumable bags used in the sealing process. These efforts will support our great brands through the rapid creation of digital assets that better tell our story and launch new innovations directly to our consumers.
The lower adjusted EBITDA margin was driven by the impact of unfavorable foreign exchange rates and higher inventory levels, resulting in increased short-term demurrage and detention costs. This is somewhat offset by cost-reduction measures and cost synergies from the Tristar integration. On a positive note, all of our planned price increases are now in place, and price is more or less offsetting inflation in the quarter.
While we see weakened consumer demand due to the inflationary impacts of gasoline, food, housing expense, inventory at retail is likely to be the biggest issue for the category in the next couple of quarters.
As such, we took swift action starting in the third quarter to both lower the inventory and reduce fixed costs in this business. We've been moving inventory out and slowing or stopping incoming orders. We have also ramped up the pace of integration in the Tristar acquisition to extract synergies faster given the inventory levels in the retail channels. As David mentioned earlier, we are investing in targeted advertising and promotions to help our retail partners reduce their current inventory levels.
We are monitoring customer inventory levels very closely to understand ordering patterns, and we'll continue to ramp these activities over the coming quarters to help drive higher volume. We expect the fourth quarter to improve over the third quarter, which will set up HPC for greater stability and cash generation into fiscal ' Moving to Global Pet Care, which is Slide The business delivered another strong revenue quarter with reported and organic net sales growth of Higher net sales were attributable to strong growth in companion animal, offset by softness in aquatics.
This quarter represented a record 15th consecutive quarter of revenue growth for the business with strong performance in the Americas and Asia Pacific. Growth in North America was driven by positive pricing adjustments and product availability recovery as fill rates in the U. This was a result of improved operating execution and chews product availability recovering slightly ahead of our anticipated plan.
Our Latin American business continues to perform well as our brand and category expansion activities are accelerating growth. Our European sales were adversely impacted by unfavorable foreign exchange rates. Adjusted for those FX rates, European sales were flat to prior year despite pressure on consumers from high inflation and the impact of the war in Ukraine. On the positive side, as we had projected during our last quarterly call, we have completed the implementation of all of our previously planned pricing during the third quarter.
But we're encouraged by the fact that most costs have currently stabilized in the aggregate. The combination of these 2 factors led to margins steadily improving throughout the quarter, which is a trend that we see continuing into the future. We are planning future price increases in fiscal '23 in the EMEA region to offset recent unfavorable FX and Russian-Ukraine war-related cost pressures. On the side of caution, retail inventories also rose in the quarter in this business as declines in foot traffic and overall spending, especially among the pet specialty channels, is starting to impact the size of retail transactions.
These channels have a higher mix of aquatics and small animal categories, which appear to be settling back to prepandemic growth rates. Additionally, while our year-over-year sales continue to show improvement, especially in our chews and treats products, we're beginning to see some signs of softness in the overall category POS.
We are cautiously watching the consumers' purchase behaviors given the levels of inflation that all consumers are currently dealing with. That said, we remain encouraged by the category fundamentals, especially given the profile of our business, which is becoming more and more aligned to the consumable products for your pet. With all pricing in place by mid-third quarter, increased freight and input cost inflations were almost completely offset by pricing.
We will achieve our full target inflation coverage in the fourth quarter. While we are carefully monitoring the consumer purchase behaviors and the impact it's having on the replenishment orders in the short run, we continue to be bullish on the categories we compete in and excited about the long-term future of our Global Pet Care business. The operating fundamentals within the business continue to improve as evidenced by our service levels in Q3 reaching their highest rates in the past 2 years.
Also, we continue to make steady progress on the inventory recovery of our critical chews category after almost a year of fill rate issues tied to disruption of supply in Asia. We are finally reaching a point where new production capabilities have reached the U. We are excited to be ramping up our revenue-generating activities on chews, which had previously been curtailed due to these product availability challenges. This, coupled with our demonstrated ability to drive growth with our category-leading brands and pricing power to recover costs, sets the business up nicely for the foreseeable future.
The GPC team remains focused on the execution of our long-term strategy, which is centered around inspiring trust through the delivery of unique and innovative products in order to drive demand for our portfolio of leading brands. Our pet business is a historically recession-resistant business with tremendous upside potential, and I'm confident we will return this business to its prior EBITDA earnings power.
Reported and organic net sales decreased 6. Overall, net sales were helped by price increases put into effect by the end of the second quarter. The organic net sales decline was driven by continued unfavorable weather across the U. This weather had an adverse impact on pest control POS, which further reduced retail replenishment orders during the quarter. Within the pest control category, we have seen solid demand for outdoor herbicides and insecticides but significantly weaker demand for repellents, which is a significant driver of our business.
Retailers also experienced lower foot traffic in home centers in general, which adversely impacted the POS for cleaning products. Although we continue to pace with the pest control category, overall category POS remains challenged and retailer inventories remain high. This drives further pressure on our sales. Given that most of the selling season is behind us and retailer purchase behaviors remain unpredictable, we are unlikely to recover sales loss thus far in the fiscal year.
For cleaning, we do continue to see gains over prior periods. Despite the recent POS trends, we actually increased our marketing investment spend over the July 4 holiday and advertised heavily to help push more inventory through our retail partner channels. We are also funding incremental consumer-targeted investments throughout the fourth quarter to support our retail partners and extending the season.
Although this will not necessarily result in reorders for replenishment this fiscal year, we expect to help clear out the channel for our fiscal '23 year. The impact of these actions reduced our near-term operating results, but will support the overall long-term performance of the business unit. And Spectracide and Cutter advertising campaigns were recognized by Effie International as 2 of the most effective marketing campaigns of the year. In fact, since , our innovation and advertising focus on brands like Spectracide, Hot Shot and Cutter brought more households into the pest control category than any other comparative brand in those segments.
We also experienced unfavorable product mix from weather and a decline in replenishment orders, which are typically better margin than displays that we shipped earlier in the season. We experienced higher product costs from raw materials, labor and freight, in line with our expectations.
And the impact of price increases more than offset the inflation in our third quarter. However, the favorable pricing was not enough to offset the impact of the volume declines. Our pricing actions to date are offsetting inflation. We continue to assess further price increases for fiscal '23 to ensure we maintain our margins in this business going forward. All in all, despite the current year category performance, we remain confident in our strategy and we'll continue to drive innovative consumer solutions.
As we look forward to fiscal '23, we are pleased that we are capturing meaningful distribution gains for next year. And our retail customers tell us they are still focused on both cleaning and pest control for the coming years as these consumable categories become more relevant to repeat high-velocity purchases versus categories such as lightbulbs. We've seen a high retention rate of the new consumers that came in during COVID and believe they will continue to purchase into the future. This segment has been recession-resistant in the past as outdoor living and gardening both typically do well in tough economic times.
During the last recession, we actually saw an increase in the number of new consumers coming into the category during the financial crisis. In my section, I want to thank all of our global employees for their strong efforts during these challenging economic times and for staying committed to our long-term strategic initiatives.
Now back to David. David Maura Thanks, Randy. Thanks, Jeremy, and I want to thank everybody for joining us on the call today. Given that we've covered quite a bit of material, let's conclude with our key takeaways.
If I could ask you to join me on Slide Secondly, given the challenging retail environment with multiple key customers actively reducing inventory levels, leading to unpredictable customer ordering and the overall uncertain macroeconomic conditions, we're lowering our earnings framework as we focus the business on cash generation even at the expense of our near-term EBITDA performance.
While lowering the short-term earnings framework, we believe we are well positioned to succeed long term because of the strength of our brands, the success of our investments in consumer-related innovations and our increased focus on consumable products. Third, despite the short-term headwinds, our businesses are fundamentally strong and solid, and we continue to take steps to prepare our business for long-term success. We have also accelerated the Tristar business integration to extract synergies faster.
I want to close by reiterating our commitment to manage the business for long-term success. I'd like to thank our employees who continue to work very hard to navigate our company through these unprecedented times. I want you to know the future of Spectrum Brands remains bright as we continue to make living better at home. And I'll now back -- turn it back to Faisal for questions. Faisal Qadir Thank you, David.
Elizabeth, we can go to the question queue now. Question-and-Answer Session [Operator Instructions]. Can you maybe elaborate on maybe what soon means? Or are you kind of saying that this is kind of a multiyear recovery as we think about the appropriate earnings power for fiscal '23? David Maura Peter, it's Dave. Let me take it, frame it, and then the guys can fill it in. Look, the reality is Q3, we had a negative demand shock. And we pivoted the operating strategy of the company.
And we're really lowering aggressively the inventory levels. I'm trying to get the company basically battle-ready for recession. Q4 is -- I mean, just to give you some visibility, right? And that's why we put the call as late as we did on the calendar because I wanted to have the July numbers in front of me and be able to give you guys some comfort as investors.
July for the remaining was essentially flat. In fact, the fourth quarter is likely to be the best quarter of our fiscal year for fiscal And the goal is basically to get back on track in fiscal ' I hope that helps you out, and the guys can fill in. Jeremy Smeltser Yes.
I'd just add, Peter. I mean, obviously, it's a little early to be giving guidance for '23, and the economic conditions are moving all over the place week-to-week and month-to-month. So I think we've got to watch that closely. We'll know more in 90 days, and we'll report the fourth quarter, and we'll try to give you an even more clear picture for F '23 then. Peter Grom Okay. That's helpful. You mentioned the business is performing well.
You won new business or distribution, I think you mentioned. Can you maybe help us understand or provide some numbers around that? I think we're all hoping that this deal closes. But I think we're also trying to figure out how much EBITDA would really come back to the business if this transaction were not to close.
David Maura Well, the transactions are going to close. HHI is performing well and actually better than its competition in the industry. There's no question like all businesses, they've had to absorb a lot of inflation, and that's hurt their short-term performance like all the rest of us, but they're getting their pricing in.
It's a good business. We're going to close the deal. Operator Our next question comes from the line of Ian Zaffino with Oppenheimer. Can you tell us maybe what's driving that?
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Shades of Green: Four Types of Impact Investing Impact investing can be broken down further into four layers, from light green to dark green, each corresponding to a specific type of impact investment: liquid impact, illiquid impact, venture impact and philanthropic impact. As these impact investments go from light to darker green on the spectrum, they often become more narrow in scale and scope.
Liquid impact investments such as public equities or green bonds enable you to get in and out of an investment quickly. This deep green choice allows people willing to take on more risk or give up some return on investment to fully align their vision, values and investments.
Getting the Right Shade of Green How can you discern the differences between these subtle shades to determine how much of an impact your investments are making? It comes down to a calculation called Net Impact Score , which accounts for both the beneficial and destructive nature of investments.
All Genus funds come with an investment policy statement, and you can discuss how to align your priorities with your portfolio manager or advisor. Interested in exploring what impact investing could look like for you? First, investors are starting to view their financial portfolio and their philanthropic giving as a system.
Investing in fossil fuels, for example, while simultaneously donating to environmental causes means that the dollars in the financial portfolio are working against dollars in the philanthropic allocation. Last, but not least, more and more individual investors are seeking to align their financial portfolios with their personal values. Where Impact Investing Fits We find it helpful to look at impact investing and its relationship to both traditional investing and traditional philanthropy in the context of a two-by-two matrix, along the dimensions of financial return and social impact.
Traditional investments are typically made without regard to social impact, and philanthropic contributions are generally made without consideration of financial returns. While there are clearly many investment opportunities that prioritize impact over returns, and many that prioritize financial returns over impact, there are a growing number of people including Impact Engine that believe there are opportunities to invest in funds, organizations, and companies with the potential to provide attractive financial returns that grow in lock-step with their impact — the upper right quadrant of the upper right quadrant.
Spectrum of Capital Our friends at Bridges Ventures articulated the following spectrum of impact capital: Traditional investments lie on the left of this continuum and traditional philanthropy on the right. Over the last several decades, impact-motivated investors have started to move towards the right, incorporating consideration of social impact into investment decisions. Responsible investing applies a negative screen on harmful products e.
Sustainable investing, which takes impact considerations to the next level, applies a positive screen, selecting investments based on proactive, positive environmental, social, and governance ESG factors. The highest impact opportunities lie in directly addressing issues and markets where a social or environmental need creates a business opportunity — some have the opportunity to beat the market and generate alpha; others require some financial trade-off in order to generate the desired impact.
In our network of investors, however, we see a broad array of motivations and approaches. We embrace all of these investors to the extent that their funding is supporting the hand-in-hand model we so strongly believe in, but we especially want to support those who are seeking to use impact investing intentionally for the reasons stated above. Members of the Impact Engine community are already doing fascinating work along the impact spectrum, from social impact bonds, to custom-designed values-based public equities portfolios designed to track to the market indices, to microfinance.
In some cases, the same individual is embracing multiple points on the spectrum.
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