Acuity Brands Inc (AYI) 2013 Q2 法說會逐字稿

Good morning and welcome to Acuity Brands' 2013 second quarter financial conference call.

After today's presentation there will be a formal question-and-answer session.

(Operator Instructions)

Today's conference is being recorded.

If you have any objections you may disconnect at this time.

Now, I would like to introduce Mr. Dan Smith, Senior Vice President, Treasurer, and Secretary.

Sir, you may begin.

Good morning.

With me today to discuss our second quarter results are Vern Nagel, our Chairman, President, and Chief Executive Officer, and Ricky Reece, our Executive Vice President and Chief Financial Officer.

We are webcasting today's conference call at www.acuitybrands.com.

I would like to remind everyone that during this call we may make projections or forward-looking statements regarding future events or future financial performance of the company.

Such statements involve risks and uncertainties such that actual results may differ materially.

Please refer to our most recent 10-K and 10-Q SEC filings and today's press release which identify important factors that could cause the actual results to differ materially from those contained in our projections or forward-looking statements.

Now, let me turn this call over to Vern Nagel.

Thank you, Dan.

Good morning, everyone.

Ricky and I would like to make a few comments and then we will answer your questions.

Overall, we are quite pleased with our results for the second quarter particularly given the challenging market conditions and the continued complexities associated with the Cochran closure.

With that said, we feel we delivered solid results while achieving success on numerous strategic priorities.

You will recall from our previous calls and filings we expected market demand in the first half of our fiscal year to be soft and inconsistent.

As independent market data became available for our first fiscal quarter, it confirmed the economic slowdown we anticipated which carried into our second fiscal quarter.

The result was inconsistent demand this quarter as well as -- but a -- but to a lesser degree.

However, in spite of this variability we achieved meaningful sales volume growth.

In fact, this quarter was our 12th quarter in a row of sales volume growth.

I believe this is, yet again, positive evidence our strategy to diversify the end markets we serve and to extend our leadership position in North America is succeeding.

These strategies include the continued aggressive introduction of innovative energy-efficient lighting solutions, expansion in key channels in geographies, and improvements in customer service and company-wide productivity.

As we noted in our last conference call we expect to continue to outperform the markets we serve and to deliver full-year results in 2013 more consistent with our longer-term financial goals as noted in our 10-K.

Remember, these goals represent upper quartile performance.

I know many of you have already seen our results, and Ricky will provide more detail later, but I would like to make a few comments on the highlights for the quarter.

Net sales for the quarter were almost $487 million an increase of 6.3% compared with the year-ago period.

This level of growth was significant given general economic and industry conditions.

Reported operating profit was $45.1 million.

We took a special charge in the current quarter for previously announced streamlining actions and incurred temporary inefficiencies associated with the Cochran plant closure which in total reduced operating profit by $3.1 million.

The year-ago period also had a special charges totaling $6.6 million for this and other activities.

Ricky will talk more about these special charges and the temporary inefficiencies later in the call.

We find it helpful to add back these items to both quarter's results to make them comparable.

Doing so, one can see adjusted operating profit was $48.2 million compared with $45.6 million, an increase of 6%, while adjusted operating profit margin was approximately 10%, essentially the same as in the year-ago period.

Diluted earnings per share were $0.57.

Again, adding back the impact of the items noted above in both quarters, adjusted diluted EPS for the current quarter was $0.62 compared with $0.57 in the year-ago period, an increase of almost 9%.

There are a number of key items to note regarding the results for the second quarter.

While net sales grew 6.3% compared with a year ago, sales volume grew more than 9% this quarter.

This level of sales volume growth was particularly noteworthy given the overall market conditions mentioned earlier.

The difference was primarily due to changes in channel mix as well as the mix of products sold and, to a lesser degree, lower pricing on like-kind LED luminaires between periods reflecting the decline in certain LED component costs.

The impact of acquisitions and foreign currency on net sales was not significant.

From a product perspective, while the growth in net sales was reasonably broad-based along many product lines, the increase in net sales was influenced by larger renovation projects particularly for national retail customers as well as growth in the commercial industrial and home improvement channels.

In fact, we believe some of the larger renovation projects were a carryover from delays in these projects noted in our first quarter earnings call.

This catch up, if you will, skewed both our product and channel mix from that more typical of the second quarter which is normally our softest quarter.

The mix of products sold on these larger renovation projects tend to have a lower gross profit profile than our overall average margin.

We also experienced a higher mix of value-oriented products sold through certain channels which tend to have a lower than average margin profile as well.

The change in both products and sales channel mix were the primary contributors to a consistent adjusted gross profit margin this quarter compared with a year ago in spite of strong topline growth this year.

Sales growth in our largest channel, commercial industrial, was slightly above this quarter's overall percentage increase in net sales due to continued emphasis on selling higher value-added lighting solutions, especially LED luminaires, which again grew by almost 2.5 times compared with the year-ago period, as well as continued focus on smaller medium-sized projects of various types.

Additionally, we enjoyed growth in our residential products as demand for new housing and renovation of existing homes continued to rebound helping to offset some of the softness in certain portions of the non-residential market.

We continued to experience growth in most geographies and channels in North America, all of which is encouraging, though this was somewhat offset by the continued weakness in Europe.

Excluding LED luminaires we believe the puts and takes for product pricing, as well as material and component costs, were again fairly benign this quarter.

Looking at overall market conditions for the second quarter we believe spending in key segments of the US non-residential construction market was slightly positive compared with a year ago.

Further, we believe the overall lighting market was up low mid-single digits during the same period supported by growth in renovation as well as the residential market.

This is in stark contrast with our sales volume growth in North America which was up over 9%.

We believe our channel and product diversification, as well as our strategies to better serve customers with new more innovative lighting solutions and the strength of our many sales forces, allowed us to achieve meaningful value growth this quarter in spite of these challenging market conditions.

Lastly, we believe there was further evidence this quarter, such as improvements in the Architecture Billings Index and other leading indicators, that demand in construction for building should improve over the next several quarters.

As you know, there is a lag in the construction cycle between design and ultimate purchase of lighting fixtures and controls.

Before I turn the call over to Ricky I would like to comment on our profitability and the strategic accomplishments in the quarter.

Excluding the impact of the special charge and the temporary inefficiencies associated with the plant consolidation adjusted operating profit margin for the second quarter was approximately 10% or essentially flat with the year-ago period.

This is particularly noteworthy given that sales of LED luminaires now make up almost 15% of our total net sales.

Further, as Ricky will discuss later in the call, adjusted gross profit margin was 39.6%, essentially flat compared with the prior year.

We believe the expected benefits from the higher sales volume were offset by a meaningful shift in the product and sales channel mix as noted earlier.

The mix shift was primarily due to the influx of large renovation projects which tend to have a lower margin profile as compared with, for example, fixtures sold through specifiers within the C&I channel.

Also, as noted earlier, we experienced a greater mix of value-oriented products sold through certain channels.

The impact of products and sales channels mix was partially offset by lower material and component costs as well as productivity improvements associated with our ongoing streamlining activities.

While our gross profit margin is influenced by sales volume and overall mix, we expect our gross profit margins to continue to improve as volume grows, channel mix returns to historical norms, and as we continue to realize typical gains in manufacturing efficiencies.

The slight decline in gross profit margin was offset by a similar improvement in selling, distribution, and administrative expenses which were 29.6% of net sales this quarter.

Total SD&A expenses were $144.3 million, up about 6% this quarter compared with the year-ago period primarily to support the growth in sales volume this quarter.

On the strategic front we continued our rapid pace of introductions of new products, significantly expanding our industry-leading portfolio of innovative energy-efficient luminaires and lighting controls and solutions.

As I mentioned earlier, our solid-state lighting portfolio is expanding rapidly as are the sales of these luminaires.

Today, approximately 15% of our net sales are from LED luminaires.

And, we continue to fund the development of holistic lighting solutions for specific applications such as schools, healthcare facilities, and commercial office buildings to fully leverage our award-winning portfolio of lighting fixtures, controls, and components.

More impressively, as I noted earlier, our adjusted operating profit margin continued to remain solid while sales of LED-based solutions are a growing portion of our overall business.

Acuity is the clear leader in digital lighting solutions.

This is because we understand lighting and the sophisticated needs of our expansive customer base and are able to offer each tailored solutions from our industry-leading portfolio.

As I have noted before, our organization has a long and distinguished history of leading and innovating during eras of technology disruption.

Today is clearly no different.

Acuity Brands is leading the evolution to intelligent lighting solutions with its broad and deep portfolio of indoor and outdoor solid-state and traditional energy-efficient luminaires and lighting controls.

And, we are delivering profitable growth and strong financial returns for our shareholders while making these important investments.

Our formidable strength in innovation was on full display this quarter as Acuity received the prestigious 2013 Technology Brand Leader designation and won six LED lighting product honors from the Architectural Solid-State Lighting Product Innovation Awards for its indoor and outdoor LED lighting solutions, significantly outpacing our competition.

I will talk more about our future growth strategies and our expectations for the construction market later in the call.

I would like to now turn the call over to Ricky before I make a few comments regarding our focus for the balance of 2013 and beyond.

Ricky?

Thank you, Vern, and good morning, everyone.

I will highlight a few items regarding our income statement including the special charge in production inefficiencies related to our streamlining activities.

I then will discuss our cash flow and financial condition before turning the call back to Vern.

Vern covered the primary drivers for our sales growth and our profitability, so I'll not repeat these items, but I would like to provide a bit more color on certain aspects of our second quarter results.

Let's first look at our streamlining activities.

In the second quarter of fiscal 2013 we recognized a pretax special charge and temporary expenses related to the previously announced streamlining actions totaling $3.1 million or $0.05 per diluted share.

The pretax special charge was $0.3 million related primarily to the cost associated with the transfer of production due to the closure of the Cochran facility.

In addition to this special charge, we incurred $2.8 million of higher pretax costs related to temporary manufacturing inefficiencies associated with the closing of this facility.

Consisting primarily of expenses associated with the initial setup of production at various facilities that have accepted the production of products previously manufactured at the Cochran facility and nonproductive operating costs at the Cochran facility which ceased when the plant closed during our second quarter.

As Vern said earlier, we find it useful to adjust our results for these items to make them more comparable and we have included in our earnings release a full reconciliation of our GAAP amounts to these adjusted results.

The closure of the Cochran facility began in the third quarter of fiscal 2012.

And, as we mentioned previously in our 10-K and 10-Q and prior earnings conference calls, the timing of completing the transfer and closing the facility was dependent on how quickly we could receive the necessary government permits and approvals.

Due primarily to delays in receiving the necessary government permits and approval it has taken longer to complete and has cost more than we originally expected.

We are principally complete with the closure as of the end of the second quarter of fiscal year 2013.

We expect to incur an additional pretax special charge in temporary production inefficiencies of approximately $1 million associated with this closure during the third quarter of fiscal 2013.

We currently do not anticipate any further temporary production inefficiencies after our third quarter.

Annualized pretax savings associated with this closure are estimated to be approximately $8 million.

You may recall, in addition to the streamlining activities for the Cochran closure we also had other streamlining efforts in fiscal year 2012 which are yielding annualized savings of roughly $6 million.

Therefore, we estimate that these streamlining actions in total will generate annualized pretax savings of approximately $14 million or $3.5 million per quarter.

Of which approximately $1 million was realized in each of our second and third quarters of fiscal 2012 and approximately $2 million in each of our fourth quarter fiscal 2012 and first quarter of fiscal 2013.

We achieved the full quarterly savings run rate of approximately $3.5 million excluding the temporary inefficiencies for all of these actions in this second quarter of fiscal 2013.

As Vern mentioned earlier, our adjusted gross profit margin of 39.6% was virtually flat compared with the year-ago period on more than 6% increase in net sales.

Due largely to an unfavorable shift in both the mix of products sold and sales channels.

This unfavorable mix shift was partially offset by the favorable impact of increased net sales, lower material and component costs, and realized benefits from the previously mentioned streamlining actions.

Let's next turn our attention to some of our results below the operating earnings line.

Miscellaneous expense is due primarily to the impact of exchange rates on foreign currencies, primarily Mexico peso denominated items.

In the second quarter of fiscal 2013 we had miscellaneous expense of $0.1 million compared with miscellaneous expense of $1.1 million in the prior-year period.

The effective tax rate for the second quarter was 33.6% compared with 35.4% in the second quarter of last year.

This lower effective tax rate was due primarily to the retroactive application of the research and development tax credit included in the American Tax Relief Act of 2012 which became law during our second fiscal quarter.

We estimate the effective tax rate for the full fiscal year 2013 will be approximately 35%.

Now, let's look at the cash flow for the six months ended February 28, 2013.

Cash flows used for operation in the first half of fiscal year 2013 was $0.3 million compared with $37.6 million generated from operating activities in the prior-year period.

This decrease in cash flow from operating activities during the first six months of fiscal year 2013 was due primarily to an increase in accounts receivables, a decrease in accounts payable, and the payment of prior year's accrued incentive compensation in the first quarter of this year.

Cash flow provided by operations in the second quarter of this year was $14.2 million which is an increase of $4.3 million compared to the second quarter of fiscal year 2012.

In the first half of fiscal year 2013 we spent $21.9 million on capital expenditures compared with only $9.4 million in the prior-year period.

This increase in expenditures is largely related to the capital associated with adding capacity in the plants receiving the production transfer from Cochran, expansion of manufacturing capability in certain other locations, and tooling associated with the large number of new products recently developed.

We currently expect to spend approximately $40 million in capital expenditures in the full fiscal year 2013.

This historically higher level of expected full-year spending is influenced by approximately $5 million related to facility improvements to accommodate the closure of the Cochran facility and an additional $5 million related to the refurbishment of a furnace at the glass manufacturing facility which is required approximately every five years.

At February 28, 2013, we had a cash balance of $262.8 million and total debt of $353.5 million.

At the end of the second quarter of fiscal 2013, net debt to total capitalization was just over 9%.

At February 28, 2013, we had additional borrowing capacity of $244.3 million under our credit facility that does not mature until January 2017.

So, we continue to maintain a significant amount of financial flexibility.

Thank you, and I'll now turn the call back to Vern.

Thank you, Ricky.

As we look forward we see significant long-term growth opportunities even though short-term economic challenges are still the norm.

While we don't give earnings guidance I would like to add a few more observations to what I mentioned earlier regarding our expectations for the balance of 2013.

First, as we have noted before, while we expect the economic environment to continue to be challenging, we anticipate that businesses and consumers in the US will accelerate their investments as uncertainties over US fiscal issues become clearer and the economy continues to improve.

Forecasts by independent organizations for industry growth continue to vary widely.

The consensus is the growth rate for key segments of the non-residential construction market for new construction in the US will still be in the lower mid-single digits in 2013 while sales for lighting fixtures are expected to be modestly higher supported by renovation and retrofit activity and a growing residential market.

This suggests that expected growth in the broad lighting market in North America will be in the low to mid-single-digit range for our fiscal 2013.

This is reasonably consistent with our outlook in previous filings.

Additionally, as we noted earlier, there are other signs that give us optimism regarding future growth of our business, leading indicators such as Architecture Billing Index, vacancy rates, office absorption, lending availability, and the rebound in residential construction are all favorable signs.

Therefore, while we still expect to see some volatility in demand amongst certain sales channels and geographies our expectation for the second half of fiscal 2013 is that overall demand in our end markets will continue to improve and be more consistent and broad-based.

The favorable trend in our March order rates reflects this improvement.

Second, the industry continues to experience some volatility with respect to input costs.

While some commodity costs have waned recently others continue to rise.

As of now, we expect material input costs to be relatively flat except for certain LED components which should continue to decline.

Further, we expect employee related costs will rise due to wage inflation and the negative impact of Obamacare on health care costs.

Of course, we will continue to be vigilant in our pricing posture and productivity efforts to help offset rising costs.

Additionally, as I've said before, we will defend our market position vigorously from competitors should they attempt to use price as their only point of differentiation.

Lastly, we expect to outperform the markets we serve.

Looking more specifically at our company, we are excited by the many opportunities to enhance our already strong platform.

As I noted in our last several conference calls, our strategies to drive profitable growth remain intact.

We continue to see opportunities in this environment including benefits from growing portions of the market, further expansion in underpenetrated geographies and channels, and growth from the introduction of new lighting solutions.

As the industry leader in North America we believe we are uniquely positioned with key suppliers around the globe to bring greater and more differentiated value to our customers, incorporating advanced technologies, providing superior lighting quality, and more sustainable energy solutions.

Our products and solutions portfolios continue to expand rapidly including the addition of six strategic acquisitions over the last few years.

And, we continue to add more.

We recently announced the acquisition of eldoLED, a leader in the design and manufacture of high performance intelligent drivers for LED-based lighting systems.

The acquisition of eldoLED, while small today in terms of revenues, is a meaningful addition to our growing portfolio of LED-based lighting solutions, an area of significant focus and growth potential for Acuity and its customers.

Our strategy is straightforward.

Expand and leverage our industry-leading portfolio and solutions, coupled with our extensive market presence and our considerable financial strength to capitalize on market growth opportunities.

This all takes focus and resources.

We are funding these activities today because we see great future opportunity.

Through these investments we have significantly expanded our addressable market.

As I have said before, we believe the lighting and lighting related industry will experience significant growth over the next decade particularly as energy and environmental concerns come to the forefront.

We continue to believe that many markets we serve as part of the broader lighting industry could grow by more than 50% over the next few years providing us with significant growth potential.

As the market leader we are positioned well to fully participate in this exciting industry.

Thank you.

And, with that, we will entertain any questions that you have.

(Operator Instructions)

Scott Reynolds, Jefferies.

Quarter over quarter, we saw a decline of core business ex-LEDs.

And, overall, the market is relatively slow there, with the LEDs that's helping your overall growth rates.

Have you guys seen a consolidation among some of the larger producers that are able to give resources towards LEDs?

And, are you seeing your overall market share increasing?

Scott, this is Vern.

I'll take the first cut at that, then I'll ask Ricky to comment.

We look at the overall lighting market in its totality.

Of course, LED as a light source is a growing component of the industry.

But, when we look at the total marketplace, again, we see low single-digit kinds of growth, but we see ourselves gaining share both in conventional light sources as well as LED.

So, while you see our LED portion of our business growing quite significantly, we expect that normal cannibalization to occur.

But, we're looking at the overall market.

And, as I said earlier in my prepared remarks, our expectation is that that overall market, over the next few years, will see considerable growth because of improving demand, better technology, allowing for paybacks through renovation.

So, from our perspective, we are offering our customers complete lighting solutions whether it's a conventional light source, an LED light source, now coupled part as -- as a holistic solution, not just combined with controls and things of that nature.

So, our two cents on it is that we're seeing LED growth.

Our conventional business while, as a percentage of the total, is declining, it's not declining anywhere near the rate as our LED business is growing.

So, we're showing overall sales volume growth that I think is quite significant compared to where the market is.

And, we're doing that both in conventional as well as our LED solutions business.

And, on that same note, on the conventional side, have you seen any additional pricing pressure with some of the legacy producers trying to maintain margins?

And then, on the LED side, how do you use your position, your considerable agent channel, to fend off some of the low-price products that are coming into the market on the LED side?

So, with regard to conventional, so much of it is a project by project, channel by channel decision, whether it be competition pricing, value add, capability.

I don't think that we're seeing anything that is different than what we've experienced in terms of price competition on the conventional side.

And, LED is probably not terribly dissimilar while component costs continue to come down and they vary all over the board.

It depends really on application specific, product specific capability.

It's still a competitive market whether it's LED or conventional.

And, I don't know that there is a significant difference from our perspective, between LED and conventional from a competitive standpoint.

We're all seeing prices decline on componentry.

Eventually, that will begin to stabilize.

When that happens, I don't know, 18, 24, 36 months from now.

And then, it will be based on the value add of the solution that you provide.

And again, our expectation is that ultimately LED-based luminaires that have much more capabilities than, say, conventional luminaires will be a higher value-add component and will generate more favorable margins because of the capabilities that they'll have to offer so much more value to the end customer.

Noelle Dilts, Stifel.

Hi, good morning, and congratulations on a nice quarter.

Thank you.

My first question is -- again, you had very nice volume growth in the quarter.

Can you make an estimate at how much of that volume growth came from the deferred projects falling into the quarter versus a core improvement?

That's a great question.

And, unfortunately, it would only be a guess.

We know that projects -- certain renovation projects were deferred.

To try and quantify that, I think would be a bit of a challenge.

The whole notion of renovation, particularly amongst large retailers, and other larger corporate type accounts, continues because the payback opportunity provided by better, more efficient lighting is rather significant.

So, our expectation is that we'll continue to grow that business.

Unfortunately, our second quarter, which is traditionally our softest, when these types of projects came through, fantastic for topline growth, but it did have an impact on our margin dynamics.

I think if you look at the first-half, you see that our overall gross profit margins were roughly 40%.

A little bit influenced by more of this renovation.

So, to me, it's a little bit of a challenge to try to understand exactly how much was deferred, though we know some of it.

Just to put a little bit more perspective on those types of activities, if you look at our net increase in revenues of roughly $30 million, between these types of accounts as well as our business through the home center, it represented about two-thirds of the growth.

The rest of the growth came through our C&I channel and was actually even higher.

But, there too, we had mix differences that were going on.

Our sales volume growth was over 9% this quarter.

So, pretty robust along many fronts.

Okay.

And then, just expanding on that, you have seen this negative mix impact in -- over the past couple two quarters.

As we look forward, do you see that changing as you move into the back half of the year?

Or when you look at the increase in March orders is it more of a continuation of the same?

No, we do expect to continue this level of business and volume but we expect the other portions of our business to now start to continue to grow at more consistent rates as these areas.

And so, therefore, we are expecting in the second half a more traditional mix of business.

So, we would expect that with the volume, the traditional mix, and continued efficiencies and productivity in our business, we would expect to see our gross profit margins start to expand back to more historical and expected levels.

Christopher Glynn, Oppenheimer.

Vern, just to dig into some of your comments around the volume outlook, you just did 9% and sounds like expect overall demand to continue to improve.

If we go back a quarter, I don't think double digits was even in the lexicon, really, for the medium-term outlook.

So, just wondering what the real drivers are to such an abrupt shift in the trend there?

Well, again, our expectation is that the overall lighting market will grow in our fiscal 2013, low to mid-single-digit range.

So, the notion of double-digit growth really is Acuity outperforming the market that it serves -- or the many markets that it serves.

So, I'd like to be clear around that point.

Number two, this quarter, we were benefited by some delay and then carryover effect.

It's difficult -- as I mentioned in the previous question, difficult to precisely estimate how much that was.

It was some.

So, the 9% growth was a bit of a make up for some of the expected, or the shortfall, that we experienced in the first quarter.

I think if you look at our overall first-half, where we said we expected inconsistency and choppiness in the marketplace, it played out that way.

But yet, when we look at the first half growth over the year ago first half, I believe, Ricky, we were up, what, 4% or 5%?

Correct.

So, that's fairly consistent with what our view was.

But, our expectation for the second half is that we will continue to post some reasonably strong revenue growth driven by sales growth as well as share gain.

And, I would just add, as Vern made -- mentioned in the comments, we are seeing some of the macro indicators, the Architecture Billing Index, employment, vacancy rates, those types of things, beginning to improve.

Not at rapid rates and not always consistent month-to-month.

But, we are seeing indications that if the economy continues to show this slow recovery here in North America, that we'll benefit from a stronger market in the second half than what we had in the first half.

Chris, we are also expecting, and seeing, some of the investments that we have made over the last few years starting to contribute to our growth.

And, as we get into the second half of our year it's typically when we start to see things like schools and commercial office buildings and other types of business where the mix is a little bit richer because of the value add of the products and solutions that we sell into that.

So, we're expecting a one-two punch of a better mix of products as well as this economy and the demand for space and lighting, and so on and so forth, starting to improve.

And, our expectation is that renovation will continue to be a source of growth for Acuity and for the industry.

Okay.

So, the spirit of your -- I appreciate the color, by the way, thanks.

The spirit of the comment on a pickup might have been more of a second half versus first half comment, then, versus 2Q rates?

Yes.

Again, as Ricky points out, we think that there is leading indicators that would suggest that the overall demand will start to become more consistent, more broad-based, and more favorable.

I still think that the, overall -- for our fiscal 2013 when we look at the market, I believe that that low mid-single-digit range is probably reasonable.

And, again, Acuity would expect -- we expect to outperform the markets we serve.

Thank you.

Peter Lisnic, Robert W. Baird.

Hi, good morning, this is Josh Chan filling in for Pete.

So, with respect to your comments about the higher mix of value-oriented products, can you give us a little bit more color on that?

And, particularly whether that's due to the market or your strategy or is that simply a normal fluctuation in your view?

I believe it's more of a normal fluctuation.

Different channels have a different profit dynamics to create our overall average.

When we serve products, or projects, that have a more rich mix of the entire portfolio of products that we are able to provide, we tend to see our margins improve.

When a project is a single fixture type and it's in a certain channel such as doing renovation for large retailers, the margin profile on those types of projects tend to be less than our overall average.

Just reflecting the competitiveness of that space.

Okay, great, that makes sense.

My second question is on the price declines of LED luminaires.

Obviously, as the component prices decline, there's reason to believe that fixture prices should decline as well.

But, I was wondering if you're seeing any pressure that's beyond the natural pressure, if you will?

Any unnatural price pressures caused by either new entrants or certain competitors that you're seeing in the LED space?

I can't really comment on the pricing strategy of all of our competitors.

It's very much, and I think it's consistent with the way the industry has been, it's very much a channel specific, project specific, piece of business specific opportunity around what are going to be the pricing dynamics into that space.

And, for those competitors who really have only prices as their point of differentiation, it probably is a challenge for them.

That doesn't mean that we're not insensitive to what pricing in the market.

But, we work very diligently to add value beyond just the price of a component or a solution.

We really try to sell the fulsomeness of what Acuity provides as part of that overall capability.

And so, therefore, we are looking to differentiate based on the fulsomeness of our value proposition not just price.

Be clear, the markets are always competitive.

The various channels, the various end customers, it's a competitive market.

And, whether it's conventional lighting solutions or its LED-based solutions, we see that same level of competitiveness throughout.

And, I would say that it's not materially inconsistent with what historical norms have been.

Okay.

Thanks, for your time, and congrats on the quarter.

Thank you.

Winnie Clark, UBS.

My first question is in terms of the increased spending you've seen on new products, how should we think about that going forward?

Is that something that will become a tailwind at some point or have we've seen a bit of a structural shift where you'll have a more elevated level of spending going forward relative to historical norms on new products?

I would say that we probably are at a fairly consistent level.

The cadence that the organization is producing products is formidable.

And, the investment that we have the infrastructure to support that is pretty consistent.

We just acquired two fantastic businesses, both very small.

Adura as well as eldoLED.

These businesses have fairly de minimis revenues compared to our overall portfolio.

But yet, their capability in what they can bring, and will bring and are bringing, in terms of broader solution will allow us to, I think, leverage future sales.

So, spending feels to us like it's in a consistent range.

We may see a little bit of uptick in some of our commissioning because these products are very -- have high value added.

But, I think overall we're probably in a pretty consistent range.

It's now really leveraging the topline to help drive that as well as continuing to drive productivity throughout our organization.

As Ricky pointed out earlier, we're getting the consolidation of the Cochran facility behind us.

And, I think you'll start to see us continue to drive that level of improvement in productivity that we are known for that should also be contributory to improved gross margins going forward.

Okay, great, thank you.

And then, just lastly back to the LED pricing pressure that you saw and to what degree was that offset by the declining input costs?

In other words, how should we think of the impact of the lower prices on margins for LEDs versus what you've seen over the last couple of quarters?

Again, great question.

The issue for us is it's very product specific and then channel specific.

We have said in the past that our margins on our LED portfolio are within the range of our conventional lighting.

And, that still is true.

But, again it's very, very product specific.

So, as -- we respond to market level pricing, but we also respond to the value proposition that we bring, looking to differentiate and extract more value, higher price for what we deliver.

So, as we think about pricing in the marketplace, we're trying to make sure that we are projecting the margins that we believe we deserve for the type of value that we bring to the table.

So, as that pricing for components continues to decline, our sense is is that it finds its way back into the market, typically in terms of lower selling prices.

But yet, it's virtually impossible to categorize it as -- or in a very general way.

You have to be very specific about channel product and value.

Okay, great.

Thanks for the color.

Rich Kwas, Wells Fargo Securities.

This is [Vida Rodwin] in for Rich Kwas.

My first question is on your order trends.

Could you talk to order trends within the quarter and particularly what happened in March?

Did you see an uptick towards the second half, first half?

Any commentary there is helpful.

We believe that in the second quarter our input rate was fairly consistent with the sales volume that we saw.

Our backlog first quarter -- excuse me, second quarter of this year compared to second quarter of last year was essentially flat.

So, you saw the nice uptick in volume.

And, from what we have seen so far in March, we would expect to continue to see a favorable year over year trend in order rates reflective of, again, what we believe are improving conditions in the overall marketplace.

Okay.

Was March second half weighted?

Any color there at all?

Or was it very consistent throughout the month?

To look at daily order rates and then try and draw a conclusion from that is almost impossible.

So, we tend to look at months and then quarters.

And, I would say that -- and we typically try, during this call, to give some reflection of what we saw in our order rates for the month so that someone can at least have some basis to say, what's the trend in the marketplace?

Again, our March input was favorable compared to the year-ago period.

Okay.

My next question is expanding on a previously asked question but I just wanted a different take on this.

On the margins in LED, it just appears to me that if you were passing through the component cost decreases your margin should actually increase, everything else equal.

But, what is happening there?

How should we think about that?

Is the pass-through lesser than where your price, is it -- is the component cost benefit being passed through, is it lesser -- is the price more than the component cost benefit?

Or what are the other dynamics that will actually affect the margins in the LED space?

Not just now, but going forward, too.

How do we think about that space?

Sure.

Generally speaking, LED luminaires are more expensive than their equivalent counterpart in conventional lighting.

And, it varies across the map depending on what type of application or product it is.

But, generally speaking, they are still higher.

So, as pricing of componentry comes down and as other -- as all of us put that pricing back into the market, attempting to stimulate more demand, creating more value, not just on the fixture but on the overall solution, pricing becomes more what is the value and use?

What's the payback?

What is the opportunity?

I would agree with you, and as I mentioned earlier, our expectation is that once component costs become somewhat at parity with its conventional counterpart for the same type of output, you're going to see a higher margin because the LED luminaire with our controls capability will allow for much more value add to the end customer typically paid for through superior energy savings.

Again, based on how we manage the internal workings of an LED luminaire.

So, our expectation is that margins should improve over time.

I think we are a ways off from that.

In other words, a ways off from having the light engine from a conventional light source or luminaire be equivalent to what an LED light engine would be.

I still think that the cost of those are quite a ways out.

So, or the price comparability, I should say, cost comparability.

So, I think it's still a bit of time before we see that expansion of margin on LED-based luminaires.

Ricky, do you have any additional comment on that?

I would echo not only do we see the potential as LED becomes a bigger percentage of the market for margin expansion as a result of all of the value add and the value proposition LED offers.

Certainly energy savings is one but much lower maintenance costs, the ability to control for architectural purposes or for tuning light, so that you can get productivity enhancements, and so forth.

All of these things suggest to us that people would be willing to pay for this added benefit that they're going to receive from this very controllable, very long-lived, very low energy consumption technology.

And, not just LED.

We're obviously investing heavily in organic LED and as technologies move.

And, of course, the most recent acquisitions show the investments we're making in wireless controls as well as drivers that we think here you can put software, you can put capability.

If you have a wireless control that's on an LED that cuts the installation cost substantially, then we would think you'd be able to sell that solution at a higher cost than you'd be able to sell a wired solution.

So, again, we look at it all as a system and a solution of which as these systems and solutions become more mainstream, we should see an opportunity for that to enhance our margins.

Okay, thank you.

That's helpful.

One quick verification, so Cochran is behind this now.

When you say principally complete, it's just done and there's only just $1 million more left and then we only have savings to reap from here?

That's correct.

Finally.

Yes, the plant has been totally shut down.

Actually had an auction and sold off the last of the equipment and it's up for sale.

If anybody's interested in a plant in southern Georgia, give us a call.

We would certainly have a very nice facility we would love to sell.

So, that's totally shut down and actively being marketed for sale.

And, the permitting issues and all are behind us.

We're just now in this last few months of transitioning workforce and getting them up efficiency curve through training and volume that we've moved in and so forth.

And, do not expect any more inefficiencies after this $1 million estimate that we have for our third quarter.

Thank you.

That's all I had.

Matt McCall, BB&T Capital Markets.

Vern, on the margin front, you talked about the second-half being more consistent with historical levels.

I think you referenced some expected mix shift.

I assume part of that mix shift is less renovation, more new.

So, the question is, you referenced ABI, several leading indicators, do you have any more tangible evidence if it's actual project activity, RFPs, order rates on those longer-term projects, anything tangible we can talk about?

I'm really trying to get to the visibility into that back half mix shift.

Matt, I think you can look at our historical trends as a way to look at -- use that as a platform, if you will, to create your models going forward.

It is a very typical of Acuity for our second half to be 52%, 53%, 54% of our annual revenues compared to the first half.

And so, I don't think that that trend's going to -- it will continue.

The other thing is that as you get into third and fourth quarter you typically have a more rich mix of business that are around projects, whether it's schools -- I mean schools still are a challenging business right now because of state and local type government funding and financing.

But, that's a good example of, again, a vertical that needs to have all of this work done before, if you will, September 1.

So, we historically have had a richer mix of business as well as more volume in the second half.

Our third and fourth quarters are typically our strongest quarters.

So, we're expecting that to continue.

I want to be very clear, we like the renovation business.

We work very hard to do an excellent job for our very large, if you will, corporate customers.

We bring great value to them.

But, those projects tend to have a very narrow mix of products that go into those projects as compared with a commercial office building.

So, when you see things like absorption and employment rates improving, all of those are typically very favorable leading indicators for a company like Acuity Brands which really provides superior solutions into those types of applications.

So, when we look at both indoor, outdoor, and the investments that we've made, whether again whether again it's eldoLED, which is a fantastic company, and how it's allowing us to bring greater, more effective, lighting solutions we think that it gives us a leg up to really do well as these markets come back where we've had traditional strength.

Okay, and one word, I guess, we haven't mentioned is controls.

I know that's a part of the overall solution and that you don't break it out.

But, can you just talk about maybe the percent of luminaires sales that now includes some type of smart controls?

And, again, I know you don't break it out, but maybe remind us of the margin opportunity there.

What's the trajectory of the penetration of those smart controls in your sales as you build that bridge, so 50% growth rate a few years out?

So, when folks think about our LED luminaires virtually every luminaire has a level of control capability in it.

You have to control that luminaire and a lot of the investments that we have made are really directed towards that.

And, I'll just comment on eldoLED, eldoLED is a superior dimming technology for LED capability.

We are a customer of eldoLED and that's how we came to know them.

The ability to provide superior lighting solutions, architectural dimming, tunable light, is -- that's what they do.

And, that's what's Acuity is now going to do.

And, we're going to make those products, by the way, available to the industry because they're so fantastic.

Anyway, coming back to the margin dynamics -- or excuse me, around controls, it's not just controls in the luminaire but controls of an entire lighting spaces.

We see that business growing meaningfully.

If we look at what our end light system is doing, again, very small today, but it's literally doubling every quarter in terms of its capability.

Obviously, from a very small base, but it allows us to really win jobs because of the overall holistic capability of what Acuity Brands can bring.

And, customers love it because it's all Acuity.

If there's an issue, they know who is going to resolve it.

There's no finger-pointing about well, someone else made this component and someone else brought their software to do this.

So, who's at fault?

It's a fantastic solution, so we see that business continuing to grow.

When we acquired many of the businesses we thought that they would double every 18 months.

We have been reasonably on that track.

A few quarters we've had a blip or two here or there, only because, I think, 6 months to 12 months ago, Ricky, some of the renovation work slowed down.

And, we sell a lot of our controls componentry into those spaces.

We are very complementary with the large S-Co's.

We sell a lot of a lot of product to them.

So, some of that business had ebbed and flowed but we continue to see a positive trajectory for our overall controls capability.

Matt, maybe just to add on it, virtually all of our LED products, which are now, as we've indicated, almost 50% -- 15% of our sales have controls on it at some level.

Whether it is lumen maintenance that allows you to keep the same lumen output over the life of the fixture, whether it's dimming capability, whether it's daylight harvesting or other types of capability that were putting in to that.

Whether the customer chooses to activate it today or it's latency in there and then they can activate it at a later date as they integrate a more holistic system in or integrate it into their building management system.

So, without being able to give you a specific what percent of our luminaires and all as you see LED growing as a percentage of our sales, virtually all of those have some level of control in it.

And, obviously, we control a lot of the traditional fixtures as well.

And, as we build out our control platform with these acquisition, that gives us that many more opportunities to add those features to the products as the customer sees the value.

Ricky, maybe just to follow-up on that, when you talk about the renovation activity today and you compare it maybe to the pre-controls initiative, is it dollars?

The spend per square foot noticeably different now when you compare to previous projects?

Maybe when you talk about some of these retailers are you seeing an increased adoption of controls in the buy?

I wouldn't say -- again, it's project to project.

If it's a big large retailer you wouldn't necessarily see a meaningful shift.

And, in fact, most of the retail renovation we're doing is still traditional, still going to more energy efficient fluorescent.

We still have the LED conversion opportunity ahead of us.

Obviously, occupancy sensors those are becoming more norm because the payback is so quick.

So, you're seeing a bit.

But, it's sold project by project.

I don't know that I'd want to make a broad statement on a trend.

Ricky, I would say in the renovation side, particularly on the industrial side, which is, again, a very fast-growing opportunity, there you're seeing many, many more luminaires with embedded controls because of how that space wants to be lit and how they use those industrial spaces particularly warehouses.

Okay.

Thank you, Vern.

Very helpful.

Jagadish Iyer, Piper Jaffray.

Two questions.

I just want to understand a little bit more in terms of the gross margin side.

I just want to look at -- if I look at going forward, when you talked about recovery in the gross margin side, how should we be thinking about the LED side, also the traditional side?

And then, I have a follow-up.

Well, again, we provide gross margin on a consolidated basis.

We don't really break out gross margin between conventional and L ED.

But, let me say that our expectation on a go forward basis is that we will realize a more historical mix in our second half than what we did, say, in this particular quarter.

This quarter was skewed by larger renovation projects and, to a lesser degree, certain value oriented products which typically have a lower margin profile being sold through certain channels, whether it's C&I or home improvement.

So, as we expand into our second half, we would expect that the mix would be a more rich mix of our capability, not, and I want to be clear about this, not because we would be selling less renovation.

We would just be selling more of some of these other types of projects, which carry a more traditionally higher mix of product.

Yes.

Just as a follow-up, do you see any incentives in the horizon, particularly in the LED side, that would really accelerate the adoption of lighting of LED-based lighting?

I'll take a cut then I'll let Ricky take a cut.

There are still incentives both at the federal level through tax credits as well as at the state level through general utilities to provide for the conversion of older inefficient lighting to newer efficient lighting.

And, it's not just the light source of LED.

As Ricky pointed out earlier, conventional lighting, particularly very efficient fluorescent products, also qualify because they can drive so much savings.

This is why Acuity is agnostic to the light source but very focused on providing a good, better, best value proposition into those verticals, into those channels and to those customers based on what their needs are.

So, I believe that there will continue to be the types of incentives that will encourage people to convert older, less efficient lighting to new more efficient lighting.

I also believe, this is just a personal belief, that in the next few years we will see some type of government mandated energy policy that will further drive the adoption of just more efficient lighting, both conventional as well as LED.

That was a comment I was going to add on, while we're not seeing a decline in incentives, not necessarily seeing an increase there.

They're pretty broad-based already, but where we are seeing some growth is in regulatory side whether it's in the building codes, whether it's, obviously, the banning of the incandescent bulb over several years here in the US.

And, I agree with Vern, I think at a national level we may see some form of an energy policy that will dictate some level of control, some level of dimming, and so forth.

So, I think the green movement, the sustainability movement is growing and is very strong.

And, lighting is one of the largest consumers of energy in both residential and commercial households.

I think it's going to be very much a focus around taking advantage of where technology, both on the light source side as well as on the control side, to get these kinds of reductions in use of energy and cleaner energy.

And, I think we're going to see continued growth in the building codes, not only enacting more building codes but more strict enforcements of the building codes that are out there because virtually every state has some level of requirements already.

That's good.

Thank you, so much.

Colin Rusch, Northland Capital Markets.

Can you talk about what you're seeing from the LED providers in terms of evolving geometries?

We know they're increasing onto a smaller geometry.

Are you starting to see that from any other providers just yet?

So, the great news for Acuity is that we scour the globe looking for the best, most cost-effective efficacious componentry that's available.

And, while I'm not expert on geometry and sizes of chips, I will tell you that the evolution of the technology and the leveraging of the investments that a lot of these very large folks have made will continue and will proliferate.

And, again, we buy from virtually everybody but it's really very much specific to the application and the opportunity.

So, I would expect there to continue to be cost evolution and efficiency evolution particularly as these things commoditize.

We continue to send teams around the globe.

I have a team in Asia as we speak now continuing to monitor the progress that each of the chip manufacturers are making in both high-performance, mid and low performance chips.

And, are very eager to work with all of them as the value proposition makes sense in the application we're looking at.

But, nothing so far in terms of material changes in geometry that you're seeing today?

Correct?

Again, I would say that there are others out there who can answer that question far more effectively for you than me.

Okay, perfect.

Just on the value capture with a couple of these new technology acquisitions, do you really see that the value capture being in a higher ASP or are you going to be able to design a fair amount of costs out of your systems with eldoLED technology or the Adura technology that you're bringing to the table now?

It's a great question.

We see it as an opportunity for both and I'll just speak to eldoLED for a second here.

Their capability to provide continuous dimming is unparalleled in the market.

And, to do it at a very cost effective way is really their skill set.

And, we'll make those components available to the industry.

But, what -- so, there's an opportunity for costs and benefits.

The real opportunity for Acuity is to incorporate this type of technology more fulsomely throughout its portfolio so that we can bring capability to a broader market than exists today.

Very high-end architectural dimming is very expensive and few people can really take advantage of it.

With eldoLED I believe Acuity is going to be able to make tunable light much more mainstream and affordable where we know in schools it can enhance the learning experience, where we know in healthcare it can enhance the healing experience.

So, these types of investments I think will allow us to provide a very differentiated solution to end users like healthcare, like schools, universities, commercial office buildings.

And, to make it user friendly.

We understand how to use light and we know how to make it user friendly.

So, I think that it gives us a real opportunity to expand how people use lighting in their space in a much broader way.

So, I think it's twofold.

Cost, but it's also going to be capability.

And, that's pretty exciting.

One other item I'd mention eldoLED brings -- we've also made some International acquisitions in Canada, with the International capabilities, the value proposition for us is expanding and being able to service other parts of the globe with the proper certified electronics.

UL, obviously, is the primary certification that we look to here in North America, but CE obviously is prevalent in Europe and other parts of the world.

EldoLED now brings us that CE certified driver that we can input into our fixtures and be more global and more opportunity to compete on that front and grow our market share in that way.

So, it's not only enhancing the capability but expanding our ability to address the market.

And, I'll just further point out as Ricky mentioned the acquisitions of Pathway and Horizon and Renaissance and others have brought tremendous human capability.

And, these products are now hitting the market.

We're very excited to be at Lightfair because of what our customer base will see.

But, it's not -- it shouldn't be lost on anyone that Acuity won of the technology brand leader designation from the Architectural Solid-State Lighting Product Innovation Awards.

We are leading this area.

And, these acquisitions are a meaningful part of us being able to do these things.

All right, perfect.

Thanks, guys.

I would now like to turn the call back over to Mr. Vernon Nagel to for closing remarks.

Thank you, everyone, for your time this morning.

We strongly believe we are focusing on the right objectives, deploying the proper strategies, and driving the organization to succeed in critical areas that will, over the longer-term, deliver strong returns to our key stakeholders.

Our future is bright.

Thank you, for your support.

This concludes today's conference.

Thank you for participating.

You may disconnect at this time.