A O Smith Corp (AOS) 2013 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the A. O. Smith Corporation second-quarter 2013 earnings conference call.

(Operator instructions)

As a reminder this call may be recorded. I would now like to introduce your host for today's conference, Pat Ackerman, Vice-President Investor Relations and Treasurer. You may begin.

Thank you, Danielle. Good morning, ladies and gentlemen, and thank you for joining us on our second-quarter 2013 conference call. With me participating in the call are Paul Jones, Executive Chairman; Ajita Rajendra, Chief Executive Officer; and John Kita, Chief Financial Officer.

Before we begin with Ajita's remarks, I would like to remind you that some of the comments that will be made during this conference call, including answers to your questions, will constitute forward-looking statements. These forward-looking statements are subject to risks that could cause actual results to be materially different. Those risks include, among others, matters that we have described in this morning's press release. In order to provide improved transparency into the operating results of our business, we are providing non-GAAP measures including adjusted earnings, adjusted EPS, and adjusted segment operating earnings that exclude certain items as well as nonoperating pension costs consisting of interest costs, expected return on plan assets, amortization of actuarial gains and losses, and curtailment.

Prior year results are provided on a comparable basis. Ajita, I will now turn the call over to you.

Thank you, Pat, and good morning, ladies and gentlemen. We continue to see the benefits in our performance from the housing recovery in the US and our expanding consumer business in China. Here are a few highlights from a very strong quarter. Our organic growth drove sales 13% higher to $549 million. Sales of A. O. Smith branded products in China grew 35%. Our adjusted earnings of $0.52 per share was 33% higher than the $0.39 per share recorded last year. Incremental margins associated with higher volumes of water heaters and boilers were the key drivers of the higher earnings. Based on our solid performance, strong balance sheet, and expected 2013 free cash flow of approximately $100 million, our Board increased the allocation of shares available for repurchase by 2 million shares. John will now describe our results in more detail.

Thank you, Ajita. Sales in the second quarter of $549 million were 13% higher than the previous year, driven by higher volumes of residential water heaters in the US and higher sales of A. O. Smith branded products in China. Adjusted earnings of $48 million improved 34% from our second-quarter performance last year. As previously announced, we transferred the majority of our residential water heater production from our Fergus, Ontario plant to other North American facilities during the second quarter. As a result of the capacity rationalization, we incurred a pretax restructuring and impairment charge of $4.2 million in the second quarter, related to employee severance costs and impairment of assets. Additional restructuring charges related to equipment relocation costs are expected to total approximately $2.5 million for the remainder of the year.

We project net pretax savings of $3 million to $4 million in 2013, and approximately $10 million in 2014. Adjusted earnings in 2013 excluded after tax nonoperating pension costs of $3 million and after tax restructuring and impairment costs of $3.1 million. Adjusted earnings in 2012 excluded after tax pension costs of $1 million. Adjusted earnings of $0.52 per share improved 33% compared with $0.39 per share last year. Adjusted EPS in the current period excluded nonoperating pension costs of $0.03 per share and restructuring costs of $0.04 per share. Adjusted EPS in 2012 excluded nonoperating pension costs of $0.01 per share.

Sales in our North American segment of $389 million increased 6% over last year. This segment includes our US and Canadian water heater and boiler operations. Higher volumes of residential water heaters in the US as well as higher boiler volumes more than offset lower volumes of commercial water heaters in the US. The results of our China, India, and European water heating businesses and our water treatment businesses in Asia are captured in our rest of world segment. Segment sales of $170 million increased 33% compared with last year, driven by increased demand for water heaters and water treatment products in China.

Behind currents by the market acceptance of our newer A. O. Smith branded products in China, we continued to innovate our product lines with features and benefits which provide value to our customers and differentiate our brand. We introduced our eighth upgrade to our electric water heater offering in the second quarter and the products have been well received. Other recent innovations include an ultra-quiet gas tankless water heater product line and water treatment products which have longer lasting filters and waste less water. The return on our investment in engineering and innovation is one of the success factors of our business in China. North America adjusted operated earnings of $63 million were 20% higher, and adjusted operating margin of 16.1% was 1.8 percentage points higher than last year. Improved performance was due to higher incremental margins associated with increased volumes of water heaters and boilers in the US, as well as improved pricing associated with the price increase effective in the second quarter of last year and lower material costs.

Rest of world adjusted operating earnings of $22 million improved 82% compared with last year. Higher sales and improved mix of A. O. Smith branded products in China and smaller losses in our non-A. O. Smith branded water treatment business drove operating margins higher. Our adjusted corporate expenses were $13.3 million, an increase from the prior year primarily due to lower interest income, as well as expenses related to our acquisition activities and higher stock based compensation costs related to shorter amortization periods. Cash provided by continuing operations was $106 million in the first half of 2013, compared with $30 million last year, primarily driven by higher earnings from operations and a smaller investment in working capital. Our liquidity position and balance sheet remains strong, our debt-to-capital ratio declined to 14%.

We have sizable cash balances located off shore, and our net cash position was over $250 million at the end of the second quarter. We project our cash flow from continuing operations for 2013 to be between $240 million and $260 million. Our capital expenditures are expected to be $80 million to $90 million, which includes approximately $40 million for capacity expansion in China and India to meet growing demand for our water heaters in those regions. Our depreciation and amortization expense is expected to be between $55 million and $60 million this year.

I will now turn the call back to Ajita who will summarize our outlook and acquisition strategy. Ajita?

Thanks, John. Our outlook for 2013 includes the following assumptions. First, we expect the sales growth of A. O. Smith branded products in China will be approximately 18% in 2013, largely driven by products with new features and benefits that provide incremental value to our customers. We also have seen a positive impact in sales coming from online purchases and we expect online sales to more than double in 2013 from $5 million last year. You can infer from our 18% revenue growth assumption for the year that we expect our growth in China will slow to low double digits in the second half of the year. We believe the tighter housing regulations implemented earlier this year will have the government's desired impact and slow new home occupancy, and we also have a difficult year over year comparison in the fourth quarter due to record fourth-quarter sales in 2012.

Second, we expect our Lochinvar brand to continue to benefit from the transition from lower efficiency non-condensing boilers to higher efficiency condensing boilers. Lochinvar branded condensing boilers continue to offer compelling pay back in the form of energy savings and we have built a reputation for innovation and product quality. As a result, we expect Lochinvar branded sales to grow 10% in 2013, well ahead of GDP growth in the US. Third, we are cautiously optimistic about the developing recovery in the US housing and the overall economy in the US. We expect residential water heater volumes in the US to be 400,000 units higher than last year based on an increase in housing completion, as well as in replacement units.

Even though the industry experienced strong commercial volumes in the first half of 2013, which we believe was partially due to a pre-buy related to a Northern California regulatory change, we expect commercial volumes to be up about 4% for the full year. Our outlook for the US water heater business has improved from three months ago, and based on that, we have increased our 2013 adjusted EPS guidance to be between $1.84 and $1.90 per share. The midpoint of our new range represents a 20% increase over 2012 adjusted EPS of $1.56 per share. This guidance does not include the restructuring and impairment expenses associated with the plant rationalization, the settlement with a former supplier, non-operating pension costs of future acquisitions.

Our GAAP EPS guidance is now expected to be $1.62 to $1.68 per share due to the impact from the restructuring and impairment expenses partially offset by the settlement income, neither of which were in our GAAP guidance at the beginning of the year. Strong performance in our North American segment also prompted us to update our high level 2015 aspirations for our organic business. Based on our expectations for EBIT margins driven by new construction and 10% revenue growth in our Lochinvar brand of products through 2015, we are revising our North American segment margin expectation to approximately 15.5% from the previously reported 14.5%. This revision incorporates expenses related to the implementation of an enterprise resource planning system of approximately $11 million in 2015.

Expenses related to the ERP system are projected to be approximately $5 million this year and $15 million in 2014. We expect significant benefits from the system after its planned implementation is completed in North America by late 2015. We continue to expect organic growth of 7% per year through 2015, in revenues of $2.4 billion to $2.45 billion. Our rest of world segment margin of expectation continues to be 13% by 2015. Our earnings aspirations for our existing portfolio businesses are now expected to be approximately $2.25 per share by 2015, versus the previously disclosed $2.15 per share.

As you can see, this continues to be an exciting and transformative time for our Company. We have cash and borrowing capacity for additional acquisitions, and our pipeline of acquisitions supporting our stated growth strategy to expand our global footprint in water heating and water treatment solutions is active. Based on our core competency, our strategic focus for growth is simple. Hot water and clean water.

We are pursuing actionable acquisitions in these two areas around the world. We are also pursuing acquisitions which expand our core product lines. We are particularly keen on products and technologies that offer energy and water efficiency gains. And finally, we are considering water related adjacency, which can leverage our distribution, water heating know how, and brand to provide value to our shareholders.

We expect our businesses to generate approximately $100 million of free cash flow in 2013. As a result, our Board increased our authorization to repurchase shares resulting in approximately 2.5 million shares available. We may repurchase shares through a combination of opportunistic open market purchases, stock trades, and 10b5-1 automatic trading plans. We believe our free cash flow, borrowing capacity, and existing cash of over $450 million are adequate to support the repurchase program, as well as our active acquisition strategy.

You have seen this last chart before. We showed it only as a reminder that we will be a financially disciplined acquirer. You should know that while we came close to completing a handful of acquisitions over the past 12 months, we have walked away for various reasons. In the end, we held fast to our financial criteria. Our transactions will be focused on value creation and creating returns for our shareholders. This concludes our prepared remarks and now we are open for your questions.

(Operator Instructions)

Our first question comes from Charley Brady from BMO Capital Markets.

Thanks, good morning, guys. I just want to clarify on the China growth -- your commentary when you mentioned A.O. Smith branded products -- there is not a meaningful percentage of non-A.O. Smith, right? There's nothing into that wording?

Well, we have been consistently using that, Charley, for about the last year. What we are excluding is the small piece of non-branded water treatment business, primarily, is what's being excluded from that.

Okay. Has the water treatment business in China -- is that above breakeven now?

On a total basis, it is approaching breakeven. We had a great quarter in the A. O. Smith branded piece that more than doubled year over year. And the sales were over $10 million in the quarter, so it had a great quarter. The new products seems to be catching hold.

35% growth in China is pretty robust growth. And obviously it's not being repeated in the second half. I'm just trying to understand -- that was pretty outsized growth. Was it a function of new product introduction, so we are stocking the channel? Or exactly what drove such a strong performance in China?

It was across the board. We brought out the new Series 8 Electric that was very, very well received. Our Super Quiet Instantaneous product has been extremely well received. As I said previously, our water treatments did very well during the quarter. And then even some of our energy efficient, like heat pump, which is coming off a small base, was up significantly. So, it was really across the board.

But yes, a lot of it was driven by new products. There might have been some stocking of inventory, best we can tell, it wasn't significant, but bringing out the new Series 8, there certainly could have been some. But, no, it was a fantastic quarter.

Okay. And just one more -- I'll hop back in the queue. In North America, $3.6 million nonoperating pension costs -- does that continue into the second half?

Yes, that's -- we talked about that at the beginning of the year. And that is what we said the run rate for the year would be. So, pension costs were up about $17 million year over year, and we talked about why. But yes, we would expect that will be the same number over the last half of the year, each quarter.

Great, thanks.

Our next question comes from William Bremer from Maxim Group.

Good morning, Ajita, John, Pat. Very nice quarter. First and foremost, I was wondering -- given the volatility in the underlying commodity prices that we've seen, has the Company been able to capitalize on this, given its strong balance sheet?

From what standpoint? I'm not sure the question.

Have you been able to utilize, say, forward contracts, and lock in some prices in copper and steel?

Well, the whole problem is -- there is not a very liquid market in steel. Copper, we are a small user of it, so, yes, we do have a few forward contracts. We have explored looking at steel contracts, but it's still in its infancy. And because the markets are not very liquid, the pricing is not very efficient. But we continue to look at that.

Right, okay.

Now, some of the other industrials companies that I cover do perform some steel activity. (multiple speakers) Let's go to the boilers, if I may? Can you give us the contribution for Lochinvar for the quarter?

Well, we don't separate out that, but I will say that Lochinvar has exceeded the 10% growth year to date, and their margins are up year over year. So, the new products they brought out, which maybe we haven't talked about enough -- they brought out a larger CREST condensing boiler last year. They have expanded that up to 5 million BTU. That's been very well received in the marketplace, so that is contributing to their very nice growth.

How is Lochinvar's bookings or backlog look at this time?

The backlog looks strong, and what it should be at this time of the year. Overall, the Lochinvar acquisition is meeting or beating expectations, and is right on track for our 2015 expectations.

Very nice. And then just one housekeeping, if I may, on the corporate expense line? $14.5 million -- a little higher than what I was anticipating. Can you tell me if there was some one-time items in there that I might have missed? Or what's a good run rate going forward?

Well, I think that a good run rate is $12 million to $12.5 million a quarter. We talked about, in the notes here, that we did have some, I'll call them, one-time or unusual related to acquisition activity that was relatively sizable in the quarter. But I think a reasonable run rate is that $12 million to $12.5 million, quarter.

And same question on the tax rate going forward?

Yes, I think a tax rate of 31%, plus or minus, is a reasonable rate.

Okay. Thank you very much.

Next question comes from Scott Graham from Jefferies.

Hello, good morning. So, I was wondering -- you had positive pricing in this quarter. And with steel maybe starting to turn the corner a little bit, I was wondering if that -- if pricing -- I know it was anniversaring the year-ago. But is price increase now back on the table in the markets for you guys in the next 12 months?

This is Ajita. When it comes to pricing, you know that we don't really talk about anything that going forward. And, over time, we have been able to balance out commodity prices with pricing in the marketplace. There are ups and downs, but over time, it balances out.

Fair enough. Then from what I'm -- if we were to not increase prices from here, it would seem that with the anniversaring of the price, that pricing, essentially, should be neutral in the second half, right?

I can't really comment any more on prices, Scott.

Fair enough. Fair enough. I wanted to ask about the acquisition pipeline. Obviously, it's now been two years and counting since we have had something of size. I know you have walked away from a number of deals. Would you -- with the share repurchase being increased, I'm just kind of wondering -- is that a signal that you continue to be maybe frustrated with some of the pricing that is out there?

No, I think that we continue to look for acquisitions that fit our strategy, and it goes back to the fact that we are going to be very disciplined in terms of the financial and strategic criteria that we have put out, and we are not going to compromise on it. And we have looked -- it is active -- we are looking. You can see by some of the increase in corporate expenses that we have gone quite far down the line on some of them. But if it didn't seem right, feel right, and didn't fit strategically, we walked away from it. So, it doesn't change anything from a strategic viewpoint -- our outlook viewpoint, in terms of how acquisitions fit into our long-term strategy.

Of course. Two others. Could you give us same-store sales in tier 1, 2 and 3? At least give us some color on that for China?

Well, both -- same-store sales for both were up very nicely, both tier 1, tier 2 and tier 3. So, that continues to be pretty much across the board. It was not in any specific region, per se.

Okay. And last question, probably also for you, John. What have been the ERP expenses in the first half of the year? And with the $5 million for '13, and $15 million for '14, when would we start to be able to exact some type of a return on that?

Well, as we said in there, we expect -- we have incurred about $2 million in the first half of the year. So, we'll have $2 million in the first half or so, and $3 million in the second half of the year. 2014 will be the largest year because that's when we'll be starting the implementations, et cetera. We expect to start, as we talked about in the press release, getting benefits late 2015, but at a run rate -- annual run rate in 2016. North America, we expect to have done late in 2015.

Very good. Thank you.

Next question from Sanjay Shrestha from Lazard Capital Markets.

Thank you, it's [Aditya Satghare] here. Two questions -- the first, just to follow-up on China here. How should we think about the benefit from the store footprint optimization so far this year?

Well, we mentioned that we expect the stores to be in the 5,000 to 5,500 range. They were up a little bit in the second quarter as we opened some in tier 2 and tier 3, more in tier 2 and tier 3. I think we are seeing some benefits as we talked about late last year when some of the inefficient stores were being closed, either by us or by our partners. So, I think that has provided some value. And again, we, both us and our partners, continue to look at that very closely to make sure the stores make sense.

Got it. And the second question is on the Lochinvar -- can you give us some more color on the potential to take the Lochinvar product line outside the US -- maybe specifically China, right? And give us any update on the potential in that market?

The potential to take that product to China is very high. It's going to take some time. The market really hasn't developed in terms of -- for those types of products, but it is happening. And like anything else in China, it is happening at a very fast pace.

So, we expect that there will be a low level of sales later this year, going into the first quarter of next year, starting out. And for it to start increasing from there. So, it is going to take time to build up, but certainly long term, there is tremendous potential for that product line, and those types of products in China.

All right. Thank you. That's all I had. Congratulations on a strong quarter.

Next question comes from Matt Summerville from KeyBanc.

Good morning. Couple of questions. Just, John, another one on the share repurchase. Is the objective simply to offset incentive-comp-related stuff from options, et cetera? Or is the objective to lower the share count over time?

I would say it is a combination. We have said that we will, at minimum, buy back the comp related, et cetera, but also in this situation there is an opportunity, as we look out over a period of time, to reduce the share count. So, I think it could be a combination of both. But we have said at a minimum, it will be the incentive related.

And then just with this ERP, the numbers that you shared with us, John -- is that what you are budgeting? Or what you actually expect to incur from an expense standpoint? I have never seen a company-wide ERP implementation that's been anywhere near budget.

Well, that is the expense portion of it. We obviously have a capital portion of it, also.

Right.

And that's also -- will be in our numbers, obviously. So, we've spent some time with our systems integrator, and we know what you are saying, but our attempt is going to be to come on budget.

So, how much of the system cost will end up getting capitalized then?

Well, traditionally it is about 50% to 60%, and we think that will be the case here.

Got it. And then, you mentioned launching, I believe in Q2, the Series 8 Electric wall-hung product. What is the ASP differential on that versus the 7th generation?

My understanding is it was up about 5%.

Okay, and help me understand. So, the 8 comes out, there is some level of sell-in to the channel. What happens with the Series 7 that are already on the shelves? And help explain how that shift occurs, and who ends up, at the end of the day, paying for it?

This is Ajita. It is kind of a running transition; we don't bring back inventories. It is a running transition that happens at retail where, when they run out of Series 7, they go into Series 8, and they have promotions behind it, et cetera.

The other thing that we are now doing much more of is using the older models for our internet sales. So that, that way, we balance out and make sure that we can have a very robust online business that doesn't interfere with our retail business. And so, that's another area which we are balancing out, and utilizing the older models to manage.

Got it. And then, with respect to tier 1, 2 versus 3, 4, however you bucket it, how would you describe same-store units? Not same-store revenue, but same-store units?

Both were up units.

Okay, can you give any more granularity there? Were unit volumes up?

No, we really haven't gotten into unit basis because there is so much price/mix type issues. So, we have been pretty much talking about dollars, if you will. But units were up at both locations.

But I think one thing we can say is that latter part of last year, and last year, we saw the major cities slow down. Now the major cities are coming back up, and we are seeing the growth across the board in the large cities also -- the mega cities like Beijing and Shanghai.

And that sort of gets to my question, Ajita -- what would you attribute that shift or that reacceleration to? Is it simply your product refresh? Or are you seeing household formations accelerate -- consumer sentiment accelerate upwards? Help me understand what has caused that transition?

I think it's -- as John said earlier, it is a combination of all those reasons that he mentioned. The new products, our product fit, the market, people feeling a little better, [part of it]. I think that there was a certain amount -- the government brought in restrictions in housing at the end of last year, and so there was a little bit of peak in terms of buying at the end of last year. So, as people get in, that would have pushed some volume into the first quarter of this year because there was a higher level of activity of people actually buying apartments to get ahead of those restrictions and regulations. So, I think it is a combination of all those things that have made the market pretty strong in the first half.

And those restrictions kick in when, Ajita?

Well, the restrictions were early this year. And in fact, and what we have been told, is the decorating aspect normally trails three to six months after the actual closing, if you will. And so, the comment our people have made to us is certainly the second quarter was helped by that.

Clearly, though, it's also being helped by the higher price associated with some of the new products, whether it is Series 8, whether it is the Super Quiet that carries a fairly decent premium, or whether it's the water treatment products. They all carry higher selling prices, if you will, than their predecessors.

That is helpful color. Where are you guys right now in terms of store count? And what is the net add closure target for the year?

We're at -- we have said we would be about between 5,000 and 5,500. We are at about 5,450 at the end of the second quarter. I think that is a plus of a couple hundred units, I think, for the year. And again, those are primarily tier 2 and tier 3. We would expect to be in that range of 5,000 to 5,500.

Okay, great. Then, John, with interest rates moving up, what is the funded status of your pension at the end of the second quarter?

At the end of the second quarter, our best estimate is we have moved nicely about from low-80%s to about 90% funded at the end of the second quarter. So, as we have talked, we have a glide path in place, and we've done some things to derisk a little bit, if you will. But there has been a big improvement over the first half of the year.

And then just, sorry, one more question. You mentioned $100 million free cash flow. You have $240 million to $260 million operating, $85 million or $90 million, whatever the number is, in CapEx. How does that math work? Am I missing something?

No, we have dividends. We take out dividends. We had some share repurchases already.

Okay. (multiple speakers) All right, that is free cash after dividends and share buyback. I got it.

Yes.

Okay, perfect. Thank you.

Our next question comes from David Rose from Wedbush Securities.

Good morning, all. I think most of my questions have been answered, but maybe just a couple of last ones. Is it possible to bucket some of the margin improvement in North America business by price, mix and raw materials?

I'm sorry. I didn't see the first part of it.

If you could bucket the margin improvement?

No, we normally don't disclose that information.

Yes, I know it's not something you -- (multiple speakers)

All three were certainly contributors, and relatively comparable.

So, John, I know it is not something you disclose often, but if you can provide a little bit of color in terms of what expectations should be on a go-forward basis with steel prices, and how we should think about the offset? Typically, there isn't an offset when steel prices go down that passes on, so you don't always get the gain immediately, or the hit immediately. How should we think about that flowing through in the next couple quarters? That benefit that --

I won't be specific on steel, but I'll say traditionally if you look at the commercial market and the residential market, it is traditionally about 52% to 53% first half of the year, 47% to 48% the second half of the year. And that's been pretty consistent over the last seven years, and you look at -- much of that is affected in the third quarter. So, as we would expect, and historically, the third-quarter margins get impacted by volume. There's been a slight increase in steel, so it could be affected by that, also. But that's what our expectations would be.

And your tone going into Q2 was, as always, fairly conservative. And so, there was some, I think, pleasant surprises on the margin side. I think one of the issues you had addressed in terms of potential headwinds was some operating inefficiencies in the closure -- the Canadian operations. Did you see that -- those inefficiencies in the quarter?

We had some, but not as high as expected. Both our Canadian and our US plant performed better than what we would have expected. So, we did have some inefficiencies, but not as much as expected.

Okay. And anything else operationally that exceeded your targets -- better cost of quality, some other metrics that you can provide for us?

No, but I'll say the operations are performing very well. And what we have consistently said that incremental volume is going to be very beneficial to us. And we saw the first two quarters of 2013 were the highest quarters we have seen since 2008. And so, I think it kind of supports what we have been saying is -- we get help from the housing recovery and commercial construction, that those will be beneficial, and we saw that in the first half of the year.

And then, lastly, I'm assuming the mix shift impact or the pull forward on the commercial boilers wasn't as significant as you had thought?

Not sure how to answer that. I'll say the commercial market's been interesting. The April numbers were very good. May and June numbers are up, not out, but our May was pretty good. But our June was lower, and significantly lower than the prior year because basically last year's June was the highest month of the whole year. So, we have talked about -- we get some of this lumpiness, if you will, month by month, but -- so, June was lower -- not necessarily lower than expectations, but it was lower.

Okay. All right. That's helpful. Thanks John.

Next question comes from Samuel Eisner from Goldman Sachs.

Thanks, good morning, everyone. So, I had a couple of questions again on the pre-buy that you guys called out. Is there a way to parse out how much the benefit was, say, in the second quarter, then also in the first quarter? And in particular on the margin line, how much of a mix benefit you got from the pre-buy?

Well, we certainly -- we talked about -- you are talking about the pre-buy associated with Northern California, I assume?

Yes.

Yes, we certainly saw that benefit in the first quarter. We had estimated the industry units I think were up 4,000 or 5,000 units, and we estimated 50% of that was associated with the pre-buy. That certainly helped us in the second and the first quarter, and it was not a significant effect I don't think on really the second quarter.

Okay, great. And then, in China, you mentioned that store openings are running a little bit faster than I think you were anticipating. Are the new stores that are being opened in the tier 2 and tier 3 cities -- are those stores being opened by Suning and Gome, or are those some of your specialty stores? Just help me understand a little bit who is actually building these new stores?

I think the net increase was primarily our specialty stores, primarily. Suning and Gome are kind of floating. They have been closing some and opening some, so net not much of an increase. But I think for the most part it's been specialty stores. And we've said, one of the advantages to us is we have a much smaller footprint, we can much easier open it up in the tier 2 and tier 3 cities than our partners who have to build a five- or six-[store] operation, if you will.

Great. That's definitely helpful.

And then just lastly, in terms of the guide here. So, if I look at the second half, basically you guys are flat for the second half over last year. So, I'm just curious if you can maybe just go through a walk there, and help me understand, for the second half of '13 versus the second half of '12, is everything just the same? Or are there some puts and takes that are different? Just help me understand that a little bit better?

Well, I would say we are up a little bit from last year's second half. And certainly the first half was a great first half, helped by volume, and we are stepping back and taking a look. There is some potential headwinds that we are trying to understand with respect to the housing recovery. Obviously, recent housing starts weren't great, interest rate's up, so we are taking a relatively cautious view.

I think last year's second half was about $0.82 or $0.83, and right now our midpoint would be about $0.87. So, again, there is some potential headwinds we are just stepping back and taking a look at. But obviously, we just had a great first half of the year.

Great. Really appreciate it. Thanks so much.

Next question from Robert Kelly from Sidoti.

Hello, good morning, everyone. You talked about a lot of the success in China being related to new product growth. Could you put a number or percentage contribution from new products this quarter?

I really can't; I don't really have that data. But obviously, that was a big benefit is that the four major areas where we saw growth were in electric, wall hung, and that clearly benefited from the Series 8. The Instantaneous side was up significantly, and I can tell you the Super Quiet was a big component of that.

The water treatment, as I said, more than doubled. And a big component of that was -- that's a combination. I think the marketplace is much more accepting -- understanding now of the need for water treatment. But also we have a unique, distinct product, which I think has been very well received. So, I can't give you a number, but clearly those three were big contributors.

Okay. Was it 25% of your growth? 50% of your growth? Any help as far as the percentage?

I just really don't know. We don't break it down that way, so I can't really --

And part of it is because introducing new products, and the new products replacing the older products, that's the normal cycle of doing business in China in the consumer business. So, it is not -- so, the frequent introduction of new products, usually with features and benefits that command a higher price, is the norm, in terms of business. So, the new products come in, they essentially replace the old products, and, depending on what we add to the new products, they are usually at higher prices.

So, when we came out with new features, for example, on the electric Series 8 new features and new cosmetics, and were able to have a price increase associated with that. As Ajita said, that's been the norm, how we've been operating for the last 10 years in that country.

Great. Any idea after 2Q -- after the product launches, what your share in China is?

We are guessing about 25%, so we have seen some share increase.

Great. And just one final one. You talked about the strength in North America. Where are you at utilization-wise in North America?

We still have significant capacity. You have an industry that, in 2006, was 9.6 million units. This year it's going to be -- we're estimating 8.4 million units. So, there's still certainly reasonable capacity. It would be a nice problem for us to have -- to realize.

Thank you.

And part of what we have been doing during that time is, as you have seen, we have maintained our margins during the time where the volume has dropped. And we have been working really hard at making sure we are improving our processes, and becoming really efficient. And you can see the impact of that with the incremental volume, which is coming at very healthy margins.

Absolutely, thanks very much.

Next question from WIlliam Bremer from Maxim Group.

Yes, just two quick follow-ups. In terms of Lochinvar, deploying it in China, what is the ramp up of installing that type of unit there? There was a huge ramp up here domestically in terms of the underlying certifications to get installed for that type of component here. Is it going to take longer there?

And my second question is an update on India. Just given the volatility of the [rupee], and what you are seeing there? I do realize the CapEx going forward, but could you give us some color on how things are progressing there, as well?

I think it's going to be -- the ramp up in China is going to be slow. Like I said, that the -- this is for Lochinvar product. It is going to take a while for the product to build up, and for the market to be really accepting of this type of product.

Yes.

And as we have kind of said, we have to put the infrastructure in place to be able to train, install, after market, et cetera. And also, we have talked about the licensing requirements there are a little more strict than they are other places, so that's taking a little longer than we expected. But, as Ajita said earlier -- and we have to bring a new product, a new idea to the marketplace. But there is certainly interest in energy efficiency, and we think, down the road, it will be a plus.

The longer-term potential is certainly there; it's going to take some time to build up. India, on the other hand, the devaluation of the rupee is certainly hurting us. The economy isn't as robust as we had expected. But from a unit volume viewpoint, the business is growing. And we are very happy with the growth that they're seeing there.

As we said, Bill, 80% of sales by the second half of the year, so stay tuned.

Yes, exactly. Okay, that's all I have. Thank you, gentlemen.

Thank you, and I am showing no further questions. Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program; you may all disconnect. Everyone have a great day.