Watsco (WSO) Q2 Revenue Drops 4%

Key Points

• GAAP revenue of $2.06 billion for Q2 2025 missed estimates by 7.3%.

• GAAP earnings per share of $4.52 for Q2 2025 fell below analyst expectations.

• Record gross margin reached 29.3% for Q2 2025, supported by pricing and technology investments.

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Watsco (NYSE:WSO), the largest distributor of heating, ventilation, air conditioning, and refrigeration (HVAC/R) equipment in North America, released its second quarter 2025 earnings on July 30, 2025. The most notable news from the quarter was a sharp revenue decline, with GAAP revenue totaling $2.06 billion, which was below Wall Street GAAP estimates of $2.22 billion. Revenue was 3.6% below the prior year period. GAAP earnings per share were $4.52, falling short of the expected $4.78 (GAAP). GAAP earnings per share were nearly flat year over year. Despite these challenges, it achieved record gross and operating margins. The quarter's overall story was one of margin expansion despite significant revenue headwinds tied to regulatory changes and market softness.

Source: Analyst estimates for the quarter provided by FactSet.

Business Overview and Key Focus Areas

Watsco (NYSE:WSO) is North America's largest distributor of HVAC/R equipment, with a presence in 43 U.S. states and across Canada, Mexico, and Puerto Rico. It operates from 701 locations and serves over 130,000 contractors, supplying HVAC equipment, replacement parts, and refrigeration solutions to both residential and commercial customers.

The company's recent focus has revolved around scaling its already-dominant distribution network, completing strategic acquisitions, and investing in digital tools. Market leadership, supplier partnerships, technology integration, and navigating regulatory changes are central to its operations. The ability to respond quickly to evolving product standards, environmental rules, and shifts in end-market demand remains critical to its long-term success.

Quarterly Developments: Margin Resilience in a Disrupted Market

During the quarter, GAAP revenue missed analyst expectations by $162 million. Revenue dropped 3.6% compared to the prior year. The decline was attributable to the industry transition to A2L refrigerants, more temperate weather conditions, and lower homebuilding activity. A2L refrigerants are a new environmental standard requiring HVAC products to use lower global warming potential materials. According to management, "The sales mix of new A2L equipment sold domestically was approximately 25% in Q1 2025 and 60% in Q2 2025," marking a rapid transition in its product portfolio. The company invested heavily in training, new inventory, and customer support to accommodate the change.

Despite the revenue decline, Watsco posted a record gross margin at 29.3%, up from 27.1% the prior year. Gross profit rose 4%, and operating margin improved to 13.2%. The gains were achieved through "double-digit pricing realization" fueled by the A2L product rollout, along with technology-led pricing optimization. These digital tools enabled quick, targeted pricing adjustments across regions and customers, helping offset weaker unit volumes stemming from lower homebuilding activity and more temperate weather.

Looking at product categories, sales of HVAC equipment—which make up the majority of the business—fell 6%, while other HVAC products remained flat. Commercial refrigeration products, which represent a much smaller portion of the business, grew 3%. Geographically, domestic revenue declined 3%, while non-U.S. markets experienced a sharper 12% drop. Management noted that as the A2L transition becomes fully adopted in the second half of the year, some of the temporary effects on volume and sales mix should subside.

On the cost side, selling, general, and administrative (SG&A) expenses (GAAP) increased 6%. Rising costs were attributed to higher labor and logistics outlays tied to the regulatory change. Still, operating margin improved to 13.2%. The combination of technology and scale enabled the company to implement price increases rapidly, without significant pushback from customers.

Technology and Innovation: Digital as a Margin Engine

An important driver behind margin expansion is Watsco's technology investment—over $250 million in the last five years, with a current annual run rate of $60 million. Advanced mobile applications, such as the HVAC Pro+ Mobile Apps, saw authenticated users increase 17% year-over-year to more than 70,000 for the 12-month period ended June 30, 2025. The company added over 10,000 A2L product codes to its e-commerce and mobile platforms, supporting a seamless transition for customers and enabling quick market adaptation.

E-commerce now accounts for 34% of total sales, or $2.5 billion for the twelve months ended June 30, 2025, with some regions exceeding 60%. The company's OnCallAir® platform—a digital quoting and sales tool—delivered $886 million in gross merchandise value (GMV) in the first half of 2025, a 19% year-over-year increase. Artificial intelligence tools, such as the internal "Ask.Watsco" platform and customer-facing real-time support bots, are designed to enhance efficiency and customer satisfaction.

Strategic Acquisitions and Balance Sheet Health

The company made three distributor acquisitions in Sunbelt markets so far in 2025, expanding its reach in high-growth regions. Since 2019, it has added 12 companies since 2019, representing approximately $1.6 billion of annualized revenue and 120 locations. The industry remains highly fragmented, with the company pursuing a long-term "buy and build" strategy to grow scale and consolidate the sector.

Watsco's balance sheet remains conservative, with $293 million in cash, no debt, and shareholder equity exceeding $3 billion as of June 30, 2025. The company's operating cash flow (GAAP) was negative for the first half of 2025, primarily due to inventory investments related to the A2L transition and normal seasonal patterns.

The company pays a dividend and, in April 2025, raised its annual dividend by 11% to $12.00 per share. This marks the 51st consecutive year of dividend payments, a reflection of Watsco's commitment to shareholder returns and prudent capital allocation.

Looking Forward: Guidance and What to Watch

Management did not offer specific financial guidance for the third quarter or for the remainder of fiscal 2025. However, the company indicated that the A2L transition's headwinds should ease in the second half of the year as customers, contractors, and end-markets adapt to the new products.

Investors should keep an eye on the pace at which industry adoption of A2L products completes, as well as ongoing developments in technology-driven pricing and digital tools. Key focus areas include the company's supplier concentration—its largest supplier accounted for 62% of purchases in 2024—as well as trends in homebuilding, weather, and broader regulatory changes. The company's upcoming "WatscoOne" initiative, set to launch in 2026, aims to expand service to institutional and enterprise HVAC customers, offering a potential new channel for growth.

Revenue and net income presented using U.S. generally accepted accounting principles (GAAP) unless otherwise noted.

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JesterAI is a Foolish AI, based on a variety of Large Language Models (LLMs) and proprietary Motley Fool systems. All articles published by JesterAI are reviewed by our editorial team, and The Motley Fool takes ultimate responsibility for the content of this article. JesterAI cannot own stocks and so it has no positions in any stocks mentioned. The Motley Fool has positions in and recommends Watsco. The Motley Fool has a disclosure policy.