James Hardie Industries PLC (JHX) 2010 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the third quarter financial year 2010 results conference call.

At this time, all participants are in a listen-only mode.

There will be a presentation, followed by a question-and-answer session (OPERATOR INSTRUCTIONS).

I must advise you that this conference is being recorded today, the 11th of February, 2010.

I would now like to hand the conference over to your speaker today, Mr.

Louis Gries.

Thank you, please go ahead.

All right, thank you.

Hi, this is Louis Gries.

Russell and I are in Amsterdam for this call, so we appreciate everyone joining on the phone.

We'll go through the presentation like we normally do.

When we finish, when Russell finishes with his portion, he'll hand it back to me for question-and-answer.

We'll take questions from investors first.

Once all the questions from investors are completed, then we can move to any media questions.

So if we can go to Slide 5, you would have seen the results, I guess.

It's a similar story to the previous quarters this year--lower volumes due to the lower market opportunity, mainly in the US, obviously.

Higher pricing, lower cost, basically a pretty good result in a difficult market.

Third quarter was no exception.

The cost comps we've been getting this year relative to last year were much smaller in the third quarter than they were in the first two quarters.

That's somewhat due to those costs increasing for us, so pulp has increased pretty significantly, freight's come up some, and energy's come up some.

And then we're comping against a quarter where those costs were in decline last year.

So the delta from last year, quarter to quarter, is significantly less in the third quarter than it was in the first and the second.

Go to Slide 6.

You can see third quarter, just highlights for the US business.

Down 14% on volume, which is a bit less than it had been in the summer quarters, lower percentage decrease.

Average price was good, obviously, up 6%.

EBIT was down slightly at 2%.

EBIT margin compared to last year was up 1.5 points at 22.1%.

Slide 7 shows the nine months' results.

I guess the most significant number on this slide is the 27.5 year-to-date EBITDA margin -- EBIT margin, which is higher than we expected going into the year.

And like I said, that's been the result of the price and lower cost offsetting the loss contribution due to lower volumes.

Slide 8 gives you the snapshot on price.

Our year-to-date price is $638, this slide showing the quarter price of $650.

Of course, that moves around a bit quarter to quarter due to product mix, but again, it's been up pretty steady throughout the year, reflecting some product mix improvement and then some market price improvement.

Slide 9, also showing the US business EBIT margin, in this case within our target range.

Typical Q3 result, meaning that it was lower than the summer quarters, but still very strong, given the market conditions and the winter months in the US.

Slide 10 shows our primary demand growth.

If you look at the dotted line, they actually touched in the quarter.

But again, I usually try and point you to the solid line.

It smoothes it out a little bit.

And we do feel we're holding a bit of a gap between the market index and our sales.

So we're doing a little bit better than the market, but we're obviously not growing market share as strongly as we had in a good market.

We do anticipate, when the market flattens out, we will drive a bigger gap there.

Slide 11, just a little bit of announcement on a restructure we've done.

Most of the investors that know the company know these individuals.

Nigel Rigby has taken on responsibility for US business now.

That's a P&L responsibility, pretty much has the line management responsibility in the US.

Mark Fisher maintains a lot of the responsibility for the functional areas in the US--R&D, engineering, manufacturing, logistics, product management.

In addition to that, he has the P&L responsibility for the non-US businesses.

The reason, the timing of the structure was really around our belief, and I think I've given you a head's-up the last couple of quarters, we do think we're in a flattening market, anticipating a recovery some time in 2010, where we'll start seeing positive comps from a market opportunity perspective, and we want to make sure we get back to growth ahead of the market rather than waiting for it.

So we've started to put a few more costs in the business around the programs that we'll be either launching or relaunching.

And this organizational change fits nicely with the shift in emphasis from downturn to recovery.

We used to call it the SLT, the senior team at Hardie.

We're now going to a group management team label.

On that team will be myself; Russell Chenu, our CFO; Nigel; Mark; Rob Cox, our GC; and Sean, our Investor and Media Relations executive down in Sydney.

Go to Slide 12.

Going to the Asia-Pac business a bit.

These numbers are inflated quite a bit due to FX.

There was a big difference between the Australian dollar--basically, the US dollar, actually--but the Australian dollar relative to the US dollar has driven most of it.

So that 40% increase in net sales is almost all FX.

You can see that 3% or so was volume.

Price was flat in local dollars.

And the EBIT, about two-thirds of that 65% improvement in EBIT was foreign exchange.

So it's still a good bump on a local currency basis, and the EBIT margin in the business did improve, and it's above the 20% at this point.

The nine-month result was much flatter from a foreign exchange perspective, so this is -- pretty much reflects what the business is down in Asia-Pac have been able to do this year.

Still, volume down a little bit, price up a little bit, but EBIT up 10%, and EBIT margin ended at 20%.

So we're tracking well in the Asia-Pac business.

Slide 14 just gives you the third quarter summary.

I think I've covered all the things we've ticked off under US, with the exception of we stay focused on product mix shift and trying to grow the primary demand for fiber cement.

In the Asia-Pac business, I guess there's a couple of things, one I've already highlighted, the currency comps.

And the last point there, that market is improving or stabilizing, depending on what market you're in.

So they're a little bit ahead of the US on market opportunity being in recovery mode.

So we definitely feel like we've performed well right through the downturn.

The financials this year have been very good, considering the opportunity, somewhat helped by the lower costs, but also helped by better pricing and really good plant performance in the business.

If we go to Slide 15, that's the housing start slide we've been showing for a while now.

And as you know, for several years now, every forecast seemed to be a downgrade from the previous forecast.

The exceptions started happening in August, when I think we got our first upgrade from the May forecast.

And then August, October, and December are almost right on top of each other.

So I think it does indicate, most people that track the market feel that we are at or very near the bottom.

No one really has a good guess on recovery.

You would have seen also builders who are closer to the market than we are, being a manufacturer, they've also had more positive comments in the last month or so.

So I think everyone can feel like the market is near the bottom or on the bottom.

Now the question is, "What does the recovery look like?

How long does it stay on the bottom?

Does it start coming up slowly, or do we get a bit of a bounce-back?"

Slide 16, which is the US outlook.

You know, kind of what I just said.

It's going to be a flat -- we're going to hit a flat market here pretty quick.

But if you look in the middle of that slide, the challenges remain, probably make you believe there's plenty of reasons that it's not just going to take off.

So we are expecting a flat market very soon.

We do expect to see some recovery, some positive comps as far as market opportunity goes, but we're not planning for any V-shaped recovery.

Slide 17 has a bit on the Australia and New Zealand markets and the Philippines.

I think everyone feels Australia is generally better.

We have our second bullet point in there that hedges a bit in case some of the things that have helped the market are now going away.

How much momentum that will take out of the recovery, I'm not sure.

But we feel like Australia's generally better.

New Zealand's flat to slightly better, and then the Philippines is fine.

For our market position, the Philippines market's fine.

Flat.

I mean, the business is running well, and the market opportunities are more than acceptable to run our strategy down there.

So on Slide 18 we summarize what have we been doing, what are we going to do?

It's still primary demand growth.

It's product mix shift.

We still have our zero to landfill initiatives tracking pretty well.

And I think what we really learned through this downturn on the manufacturing side is how to flex our plants up and down without having the costs spike on us.

So I think we're going to be able to benefit from that as we go into a recovery as well.

Like I said, all the businesses are running well.

So Asia-Pac's running well, and really, all three businesses in Asia-Pac are running better than they ran last year.

The US business running well.

Europe's tracking fine for being the small piece that it is.

At this point, I'm going to hand over to Russell, and he'll run through the financial review for you.

Thanks, Louis, and hi to everybody.

On Slide 20, just a bit of an overview, continuing on much the same theme as Louis spoke to.

Clearly, we didn't get too many tailwinds from the marketplace in terms of construction activity in any of the countries in which we operate.

But we did get some benefits from lower input costs relative to the prior year, and that was particularly apparent in some of our more material costs, such as pulp.

Gas in the US was down very dramatically on the prior period, as was freight.

So those things largely accounted for some of the improvement that we saw in cost performance.

But there was some very real improvement in plant performance as well.

We got some benefits from higher selling prices.

We've had pretty good management of our SG&A costs during this year.

It's probably not continued through the year, because we've been adding a few people each quarter, this quarter and the prior quarter, so the decline in SG&A's blunting a little bit, but it's still occurring.

And we did get quite a lot of benefit from the strength of the Asia-Pac currencies against the US dollar in this latest quarter.

Cash flow continued to be very strong in terms of generation.

In fact, our net debt has halved.

This is not a misprint in this slide.

It actually has fallen $140.8 million -- to $140.8 million since the 31st of March, 2009, so it's a pretty good result in nine months from a business that's performing during a very severe downturn, where we derive most of our earnings and cash flow from the United States.

Just turning to Slide 21, and I think this slide continues to be pretty useful in highlighting the consequences of the wild swings that we've seen in the Australian dollar in particular, but it's actually been relevant for most currencies against the US dollar, including the Kiwi dollar and the Philippine peso, which also affect Hardie, to a lesser extent.

But you can see there in the period to -- the quarter to 31 December '08, that the Australian dollar was tracking around $0.65.

In the quarter ending 31 December '09, the most recent quarter that we're accounting for, it tracked around $0.90.

And in fact, it closed at just a shade below $0.90.

So you can see there about a 38% difference in value, and you can see why the foreign exchange impact was very strong on our results in this current quarter.

And just at the bottom of that slide we highlight the sort of impacts that that has, so on the translation of Asia-Pac earnings, obviously, a pretty high impact in this quarter.

And the second one, the unfavorable impact on corporate costs incurred in Australian dollars.

That was actually, it's true, but we were very fortunate to have a pretty low level of spend in Australian dollars in corporate costs in the final calendar quarter.

So that hasn't been a big impact even though there has been a much stronger currency.

And obviously, in relation to the asbestos liability, a very large earnings impact and a very large impact on the balance sheet as well because of that significant shift in the currencies.

Turning to Slide 22, a quick look at the results.

Gross profit was up 17% on very flat sales.

SG&A expense was down 10% in Q3 on the relative period from the prior year.

Research and development expense is up a bit.

A fairly big switch in asbestos adjustments for the quarter, so we had a charge of $17.5 million in this latest quarter versus an income item of $93.6 million, but of course, all of that is non-cash in both periods.

And the net operating profit on a reported basis was $14.9 million versus $111 million in the prior year, so it's 87% down.

But if you look at it as we do on Slide 23, at the Q3 earnings from the core fiber cement activity, you can see that it's actually quite a different story.

If you adjust for the asbestos provision change, the ASIC expenses, which were way reduced in Q3 of this year versus Q3 of the prior year, those are the two biggest items.

And so, for net operating profit excluding asbestos, ASIC, and tax adjustments, we reported a profit of $29.8 million for the quarter just concluded versus $18 million in the prior year.

And that's a 66% improvement.

Looking at the nine-month earnings on a similar basis on Slide 24, so this is as reported.

You can see a fairly similar basis.

Net sales actually down in that period, reflecting volumes and foreign exchange.

A very flat gross profit.

SG&A down 15%.

A very big swing in asbestos adjustments of nearly $400 million as we moved from the gain from $0.69 US Australian dollar one year ago to the $0.90 US dollar at the end of 2009.

So that produced a $200 million charge year to date versus a gain of $194 million in the prior year.

And the net operating profit reported as a result of that charge we took in this quarter was a loss of $82.6 million versus a profit of $265.9 million.

But, as I said, to the extent that it's due to asbestos adjustments, and a lot of the swing was, it's largely a non-cash charge or gain.

On Slide 25, looking at a similar format, adding back those non-core items of asbestos and ASIC expenses, produces a profit of $109.3 million in the nine months year to date versus $92.8 million in the prior year, so it's an increase of 18%, which is obviously, in our view, quite a good result when you look at what's happened with sales--sales down 12% in that same period for the group--but profit up 18% is not a bad sort of a performance, I think, in the circumstances.

On Slide 26, just looking quickly at net sales for Q3, the US sales, US and Europe sales, were down 9%, Asia-Pac up 14%.

As Louis highlighted, almost all of that accounted for by the strength of the Asia-Pac currencies against the US dollar.

And on a nine-month basis on Slide 27, not quite the same story.

There's a 15% decline in USA and Europe sales, and Asia-Pac sales are showing a fairly flat result, with no significant foreign exchange impact on a year-to-date basis from one year to the next.

And overall, the sales were down 12% for the year to date.

On Slide 28, looking at the segment information for Quarter 3, in EBIT terms, a 10% gain from $46 million in '09 to $51 million in year '10.

And most of that gain was contributed--in fact, all of that gain was contributed--by the Asia-Pac business.

And, as Lou highlighted, two-thirds of that was due to foreign exchange, and one-third due to the underlying performance of the businesses in terms of Australian dollars.

General corporate costs, we had a substantial reduction in corporate costs, but it's largely a one-off item.

We have had a favorable adjustment to a legal provision, a write-back of $7.6 million in the quarter.

And had we not had that write-back, then the costs would have been very similar to the prior year's Q3.

That produced, however, a total EBIT, excluding asbestos and ASIC expenses, of nearly $44 million, which was a 39% improvement on the $31.6 million in the previous period.

Looking at a similar format on Slide 29, on a year-to-date basis, you can see that the EBIT was $203 million versus $193 million, so it was up 5%, Asia-Pac growing 10%, USA and Europe growing 4%, which is relatively flat.

Corporate costs down by 16%, again assisted by that write-back of the legal provision in Q3.

And quite a good result there, showing up a 11% increase in earnings before interest and tax, excluding asbestos and ASIC expenses.

On Slide 30, and we've created a new appendix at the back of this, so some of the slides that we normally have in our pack, we've taken away from the main pack and put in an appendix, and this is one that we'll probably do that in future quarters.

But I did want to highlight that in this period, we've had some pick up in the effective tax rate.

That's due to a number of factors which have assisted us.

One is the adjustment to the legal provision.

That's a nice one that -- on which we don't have any tax when we created the provision, and then added to it, we didn't get tax relief, and that contributed to a very high effective tax rate over a year ago.

And now that we've written back the provision, obviously, that's reversed, and so we get some help in the effective tax rate.

We've also got a much reduced level of non-deductible expenses, so that's particularly the case in the ASIC costs, which have been non-deductible for us, now that those are reducing at assisted tax rate, and we've also had a bit of assistance from geographic mix, with the Asia-Pac earnings actually representing a higher proportion of our total earnings, and they're at a lower statutory tax rate than the US earnings.

So that also assists.

So the Q3 tax rate came in at 29.3% which, as you can see from Slide 30, is a very, very significant reduction on the 47% effective tax rate from the prior year.

And that flows through, to a lesser extent, in the nine months ETR on Slide 31.

That's at 35%, for the year to date 2010 versus 40% for the year to date 2009.

And we'd anticipate that the effective tax rate for the full year will come out somewhere pretty close to 35% in 2010.

On Slide 32, looking at general corporate costs, not much to highlight here, but we have separated the legal provision write-back so that you can see what's happening with the recurring item above the costs.

They're actually up a little bit in this period, and you can see also the extent to which ASIC expenses are down.

A year ago in this quarter, we'd spent $5.8 million.

In the latest quarter, we've spent only $0.6 million.

So it's led us to having a 63% reduction in general corporate costs, a total of $13 million difference, which is a significant help to profitability.

In the nine-month period on Slide 33 for corporate costs, a really similar sort of thing.

You can see again that ASIC expenses are down significantly.

And total corporate costs down 33% to $34 million for the nine months year to date.

Turning to earnings before interest, tax, and depreciation on Slide 34, this is a fairly straightforward slide.

Just one thing I did want to highlight on both the Slide 34 and 35, 35 being the year-to-date number, is the slight increase in depreciation and amortization for the US business.

That's up, both for the quarter and for year to date.

And that's a consequence, as our capital expenditure has reduced, we've been shifting more and more assets out of construction in progress into the asset register, and as we're doing that, it's lifting the depreciation charge.

We've got the lowest construction in progress for any time in the last five years.

There's virtually nothing much left in it, and as a consequence, we expect that we'll continue to see some increase, period on period, but it won't grow to the same extent that is demonstrated in Slide 34 and 35.

Slide 36, cash flow, and you can see here that the -- at the net operating cash flow level, we've had a very significant increase.

It was $25 million year to date for 2009 at the end of Q3, and that had been adversely impacted by some fairly material payments to AICF this time a year ago, as well as a $102 million US payment to the Australian Tax Office for settlement of some years, 2002 to 2006.

We haven't had those outflows this year, and as a consequence, the net operating cash flow is very strong.

It's nearly $200 million in the first three quarters.

And, in fact, in Q3 the net operating cash flow was $46 million which, given the level of activity, was pretty strong.

So even without those non-recurring AICF payments and ATO payment from last year, if you strip those out, you'll find that the cash flow this year is actually $25 million stronger, and that's reflecting just improved performance of the business, including working capital management and operating performance.

CapEx on Slide 37, and also in the cash flow on Slide 36, but let's look at Slide 37, because that's where it's separated between the US business and the Asia-Pac business.

Obviously, there's been some growth here, $35 million for the first nine months versus $17 million in the prior year.

And almost all of that expenditure is on finishing capacity in both the US and also in the Asia-Pac business.

So that's just enhancements to our capability with finishing, particularly given improvement in the product range, particularly differentiated products that require a higher level of finishing.

On Slide 38, looking at debt, we've had some change in our debt portfolio.

We've continued to reduce facilities, not substantially.

But in this quarter, we reduced facilities by a further $20 million.

We're now at $427 million.

Obviously, as I highlighted, the net debt has continued to decline, so it's at $141 million.

And we've also extended some of our facilities.

We extended $130 million of facilities in this period from the maturity date of June 2010 to December 2012.

And that's lengthened our average debt maturity a little, which is probably a good thing to do at this stage of the cycle.

But we'll continue, probably, to see some decline in the level of our facilities because, frankly, we don't see ourselves needing them in the very short term, and having idle facilities with current levels of fees is a very expensive exercise.

On Slide 39, a quick update on the asbestos fund, and there's further information in the Management Discussion and Analysis, which has been released this morning in Australia.

But the assets of the fund in cash and short-term investments are near to -- or were near to $80 million at the 31st of December, 2009.

The claims paid, as you can see in the table, running at $78 million for the nine-month period, which is very close to the actuarial estimate from KPMG for the same nine-month period, and also running a little bit below what they were 12 months ago.

Legal costs are very flat.

Insurance recoveries tend to be quite lumpy, so they're actually down, but one shouldn't read too much into that, and total net claims costs are running pretty close to actuarial assessment and the prior year.

So that seems to be going quite well, and the fund is actually doing quite a lot to conserve its resources.

On Slide 40 and 41, some update on our legacy issues, which we continue to actively manage.

The New South Wales government and the Australian government made a joint announcement on the 7th of November, which we highlighted at the Q2 results, to advance up to $320 million of funds to the Asbestos Injuries Compensation Fund in the event that that's required, so it's going to be a standby facility.

We're working with governments and with AICF on that.

It's not in place yet, but we are making fairly steady progress in getting all the documentation in place.

There was the enabling legislation passed during this quarter, just before the New South Wales Parliament rose, so there's actually quite a lot of work going in now to wrap that up.

In respect of the disputed amended assessment from the ATO, that court hearing was completed in September.

We're still awaiting judgment.

We're hopeful that that will come down in the first half of this year.

We have $265 million invested with the Australian Tax Office, which we're hoping to retrieve at some point.

And because we anticipate that judgment is near and there are some alternative consequences of any potential outcome in that case, we've actually increased the level of disclosure on pages 10 and 11 of the Management Discussion and Analysis, which actually looks to the potential consequences of the binary outcome that might occur with that.

In respect of ASIC proceedings, the appeal hearing continues to be set down for nine days from the 19th of April, so that's getting quite close.

And on Slide 41, we just have a fairly quick review of domicile.

Some of you, I think, will be aware that we had previously indicated that about this time in early 2010, we had expected to complete the transfer of domicile from The Netherlands to Ireland.

That has been delayed by an EU requirement that we negotiate with employees on employee involvement.

That's part of the SE arrangements, the Societas Europaea, which is an EU form of corporation which we're transitioning to.

We've just completed that negotiation on employee involvement this month, and we're now expecting to move forward with the rest of the proposal.

During the quarter, we transferred intellectual property from The Netherlands, and we've also finalized our Dutch financial risk reserve regime, which was the contract that Hardie entered into with the Dutch government in 2001 and which in the ordinary course would have expired at the end of 2010.

But because we're transitioning from The Netherlands, we terminated it early.

So we've completed those two things, and as a consequence of that, during the third quarter, we incurred a tax liability of $19.3 million, is the estimate.

That charge has been deferred, and it's included in non-current other assets.

We're awaiting a review of the fair market value of the intellectual property portfolio that was transferred to Ireland, and there is the potential for that review to result in a higher tax.

The guidance that we gave in the explanatory memorandum for the exit taxes, we call it, was $30 million to $50 million US, and at this stage, we're confident that we'll be below that range, but it is subject to review by the Dutch Tax Authority.

The proposal to become an Irish SE is required to be put to a second shareholder meeting, and we anticipate that that second shareholder meeting will be held in the second quarter of this calendar year, and also anticipate that we will complete the proposal early in the second half of this calendar year.

Two ratios on Slide 42.

I think this slide is very self-explanatory, but you can see that in the nine months of FY '10, we're very much on track to see improved performance on FY '09 on all key indicators, and all of our debt service indicators such as net interest cover, net interest paid and net debt payback are very, very strong, consistent with a company that's got falling debt and growing profitability.

On Slide 43, a summary.

Here is that the US and Europe businesses improved their EBIT performance.

A number of factors contributed to that.

The Asia-Pac business also had an increase in EBIT in the period, and that's been contributed to by a good gross margin performance and lower SG&A expenses.

Both businesses have made improvements to their EBIT margins in the nine-month period, and we're reducing our corporate costs, some substantially, particularly things like ASIC expenses.

And the overall profit, excluding those expenses, was up 66% for the quarter and 18% for the nine months.

However, we still have a fairly tough operating environment, and in particular, we are seeing rises in some input costs.

That's not necessarily rises against the prior year, but it is occurring quarter on quarter, particularly in relation to pulp and, to a lesser extent, freight and also gas, which have been the major sort of tailwinds we've had this year to date.

However, all businesses continue to contribute very strongly, and it's quite a pleasing thing to see that all of our businesses are contributing positively to the bottom line.

As I normally do, I'll just refer you to pages at the end of the Management Discussion and Analysis that contain brief financial reports that show the financial performance of the core business separated from the reported results.

I always feel that that's a handy way to zone in on the performance of the Company in terms of its fiber cement activities, and its financial statements, including cash flow, operating earnings, and also balance sheet.

So at that point, I'll close my presentation, and thank you for your patience, and hand it back to Lou for questions and answers.

Okay, thanks Russell.

Alicia, ready to go to questions.

Let's go through all the investor questions first, and then when those are completed, we'll go to any media questions.

(OPERATOR INSTRUCTIONS.) Your first question comes from Doug Macphillamy from Macquarie.

Please go ahead.

Thanks, guys.

Good morning, everyone.

I just wanted to ask a couple of quick questions, Louis.

Firstly, on just the improved plant performance and whether you have found that you're doing anything substantially different in this quarter and, indeed, the second quarter, or whether it is more a function of just the underlying market flattening out a little bit, which is making things a bit easier from the plant perspective versus operating in a market that's still coming off?

And secondly, just some of the, I guess, common commentary from some of the homebuilders in recent quarterly results has highlighted that they do intend to increase the amount of spec homes built in anticipation of the tax credit expiring mid this year.

Do you feel that the business is better positioned to benefit from an increase in spec home build versus prior years, given the traction that the Company has made over recent quarters or recent years with the larger homebuilders?

Okay, Doug.

First question's a good one.

It really does help when you're able to forecast demand, and we have been pretty spot-on since about June.

So since about June or July, there hasn't been much need to flex up or even take off in most of our facilities, so that gives them a little bit of an advantage.

I think the main driver, though, is we had run these plants pretty much for throughput for a lot of years as the -- we were growing in a growing market, and the downturn gave us an opportunity to learn how to manufacture when demand wasn't unlimited.

And it took us a little while in the downturn to really get our stride there, but I think we're very comfortable running these machines on less than 24/7.

And the plants--I think I've commented in previous quarters--they continue to perform better than I would have guessed they could have at the level of utilization they're running at right now.

So I think it does help if we're forecasting correctly, and I guess this quarter's a good example as well.

Our January forecast, we were just a hair higher than that, and our February to date forecast, we're just a hair higher.

So we have had very steady production schedules in most the facilities.

As far as the homebuilder question, yes, I commented.

They're definitely a little bit more optimistic recently with their public comments.

Will it help us?

We have regained our position somewhat in the big builder segment.

You know, that's the most price-conscious segment of the builders.

So we've won some of that business back with Cemplank, and we've won some of that business back with Color.

So we're a little bit better positioned there.

But you've got to keep in mind, there has been a bit of a shift as we've gone through the downturn.

I think they'll be building some smaller houses as they start ramping up, and they'll be building more toward the entry level of the market, where we're not necessarily strongest at the entry level, although in Texas we're pretty strong at the entry level.

Most other markets, we're biased toward the top.

Okay, excellent.

Thanks for that.

Your next question comes from Emily Behncke from Deutsche Bank.

Please go ahead.

Thank you.

Just a couple of questions, please.

Firstly, Louis, in your remarks you mentioned that the higher prices are a function of some market price increases as well as mix.

Just wondering, have you put some market pricing freezes out there and what you're seeing in terms of mix?

Are you seeing, is the increase really the result of improved penetration in ColorPlus, or is that, are you starting to see some increased demand from TRIM?

And just wondering, as a follow-up to Doug's question, what utilization are you running at currently in the US, please?

Okay.

On the pricing, we have not taken any increases in the business since last spring, so I think we went May 1, June 1 type increase last year.

So what you're seeing is the full impact of those increases.

On the product mix side, what you're seeing is Color and TRIM and a few other things pulling it up.

And then you see a higher percentage of HardieBacker and a little bit higher percentage of Cemplank pulling it down.

So it's pulled up about, probably this quarter a little bit more, maybe a little over one, maybe almost two, with four to six probably being more market price.

Keep in mind, it's not an exact science, because you have your regional mix and your customer mix as well.

On the utilization, I did not have anyone calculate the utilization for me, but it's running below 40.

It's kind of like 500,000 housing starts.

When it gets that low, I quit thinking about it.

So the guys are doing a great job at that level.

I actually was able to visit three of the plants in the last six--really, four weeks, and I was blown away by the progress the guys have made in the plant during this downturn.

And, in turn, if the market comes back, then that utilization can be ramped up pretty quickly at a reasonable cost?

Yes, I wouldn't want to mislead you.

It will be a test, because hanging onto those efficiencies as you try and do more and shift back to throughput will be a test for the organization.

But believe me, most of the conversation in the business, in the manufacturing side of the business right now, is around exactly that.

You know, have we de-bottlenecked everything we need to de-bottleneck?

Have we looked at our product mix, new product mix?

Are the machines set up to make new product mix at the higher volumes?

HZ10 runs a little slower than HZ5, so do we have all that sorted out?

So it will be a challenge for the organization, but I expect them to do well on the ramp-up.

But there might be a few bumps in the road, but I don't expect anything major.

And just finally, in terms of repair and remodel penetration, is that market, are you happy with the progress that you've made there?

I am happy.

I look at it as an S curve, and in some of the markets we talk about regularly -- Atlanta, Houston, Portland, we went through that S curve many years ago.

But most of the markets, we are still on the flat part of that S curve, and I really think we've got four or five more markets getting onto the steeper part of the curve, which is good.

And then, rolling out to additional markets is what's in front of us, and I think I flagged at one of the other quarterly results that we probably wanted to add -- or maybe it was at the US tour.

We want to add around 50 or 60 reps into our organization so we can be fully resourced to go after repair and remodel as hard as we want to.

So the effective sense is about 60 R&R/40 new at the moment?

No, I think it's -- I believe it's more R&R now.

I think last time I might have mentioned I thought it was like two-third R&R at this point, and I would believe that would be the case.

Thank you so much.

Yes.

Your next question comes from Rohan Gallagher from Credit Suisse.

Please go ahead.

Good morning, gentlemen, good morning, everybody.

A couple of questions, if I may.

First question, can I just get some clarity?

You obviously are starting to spend some money to prepare yourself, Louis, for the upturn or when things do recover a nudge in terms of product development, et cetera.

I know you don't disclose the SG&A at the regional level, but how much of that, broadly, would have impacted your margins in this quarter?

Not too bad this quarter.

We did go up a little bit, but we're planning bigger increases in future quarters.

But just to kind of give you an idea--I'm not giving you an exact number--we brought it down about 10% this year, and we'll probably bring it up 10% next year.

So we didn't -- this year it was a good reduction, I thought, considering where we're at in the downturn, meaning we had already taken other reductions in previous quarters and years.

And we'll start bringing it back, and it's going to be very targeted adds, and I've already indicated a lot of it's going toward field sales, and some of it will go toward plant engineering to make sure that the ramp-ups go well.

Good.

Terrific.

Second question.

In regards to your balance sheet, incredibly strong.

You've halved your net debt.

Russell, you were correct, I did think it was a double -- a miss -- a double print a bit.

I am conscious of your asbestos liability commitments and also the binary outcome of the ATO.

But those two issues, taken into context, what's your view on capital management, whether it be dividends, buybacks, et cetera, given the strength of the balance sheet, and arguably, we are at the bottom of the US housing cycle.

I think the first thing to say is we haven't taken a view.

We have suspended dividends, and that's where we stand.

We haven't addressed it at the Board level.

Management hasn't made a recommendation.

Being where we're at and not quite through the downturn, we're pretty happy knowing that debt facilities are more expensive than they had been in the past, and just putting them there and have them underutilized or unutilized is an expensive exercise.

We're kind of happy there.

So we'll adjust our capital management program once we see the downturn behind us, once we're sure we know what the market looks like and have a feel for what the recovery might be like.

Okay.

And my final question, just in regard, Louis, to Europe.

Firstly, is it a positive contributor, and what's the plan for that business going forward, given the time duration that you have been in there?

Yes, no, it is a positive contributor on the EBIT line.

There's no real investment other than inventory in Europe, so it's not a problem for us as far as an economic return.

But you're right--why bother if it can't be bigger than it is?

We've been over there, I can't remember, maybe five years.

We do well with backerboards in the UK, we do well with siding in France and a few other areas in continental Europe.

But we've got to find a bigger product opportunity, and that's pretty much what our focus is.

We've proven that we can do business in Europe.

We've proven that we can approach it from a European perspective rather than country by country.

But that doesn't mean much if we don't find a big product opportunity.

So that's where our focus is.

I think you guys might have asked me at the Investor Tour, "Well, how much patience do you have for it?" I wouldn't have much patience if I was losing money over here.

But since we're contributing a little bit, I have a little more patience.

And what that means is I don't know.

Maybe 18 months, maybe three years.

If we're still where we are, then I wouldn't be too happy to stay here long term.

But having said that, I do think there's a reasonable chance we will find a bigger opportunity in Europe.

Thanks, Louis.

Your next question comes from Simon Thackray from RBS.

Please go ahead.

Thanks very much.

Good morning, guys.

I'm a bit confused, to be honest with you.

I'm just looking at the -- you made the comment about no market share gains, and on the mix of sort of 65/35 R&R versus new housing, can you just help me understand?

I didn't think R&R was down quite as much, even accounting for the lag, as new housing.

But we haven't really eked out any kind of market share gains, but R&R is gaining traction.

So have you lost share somewhere, or can you just sort of--I know this is a moving feast on the quarter, but can you help me reconcile where we are?

Because the volume came in spot on with the lag in the new housing market; now, that could be just coincidence.

So can you just give us a bit of a feel there in terms of whether you've lost share somewhere?

Yes.

I'm not sure I've tied everything together that you've tied together.

You know, the first thing I'd do, and I guess my comment was on our primary demand chart, so the red line being the market index and the blue line being ours, and we touched each other this quarter.

So that would mean flat quarter, but that's not an exact enough formula to use it quarter to quarter.

That's why I provide a trend.

As far as gaining share in repair and remodel, I guess I made it kind of clear that I thought we were still in the flat part of the curve in most markets, and we had four or five markets coming off the flat part and onto the steep part of the curve.

And then, of course, we have our traditionally strong repair and remodel markets, which I commented on--Atlanta, Houston, and Portland being the main ones.

So as far as losing share, again, I'd have to sit down and think about your question and go through the arithmetic.

But all our numbers say we're not losing share, but we're not gaining a lot of share in the downturn.

You know, our program going into the downturn, hold your price, control your cost, and hold your market share.

So we've done all that, and I think we're still doing it, even at the very bottom of the downturn.

Okay, so I guess Louis because we've touched on R&R.

If we then look at the go-forward plan on RCs, your first comment, really, in the MD&A is that some margin compression may lead the recovery, the actual housing recovery, which is fine.

So I presume that one of those got to do with the initiatives--not just the background costs, but also the initiatives you've been looking at or engaged in.

And we didn't really hear much about what was happening with non-metro nor how your supply chain partners were managing the shop packs or the job packs.

Can you give us a bit more color on that?

Hey, Simon, I think that's stuff for our Investor Tour you hear about once a year.

That stuff doesn't happen overnight.

So, so--?

Yes.

No, where are we at on non-metro?

We're still in the design phase of non-metro.

We've assigned a pretty good manager to assess it market by market.

That's what he's doing right now.

Nigel and I are going to get involved once he goes through the four main markets he's looking at.

Then he's going to do a straw man and then get Nigel and I involved.

So we're still very much in the design phase of non-metro.

We've got a few concepts around SG&A, how to contain SG&A, how to make sure you have enough decision-makers in front of you when you're in the market.

But as far as how you drive the market development the same way we do in metro markets, that's still design phase.

As far as our supply chain partners, I'd say the supply chain's not a bottleneck right now.

We've done quite well with Color in a couple of the big markets we've been after--Houston and Portland--but a lot of that's under the repair and remodel side.

But we do have some of the big builders using Color.

Now, down in San Antonio, Horton's going to Color.

We've got--quite a few of the big builders have gone to Color in the Raleigh market.

Atlanta's been slow to develop.

Denver, we've got some traction.

Salt Lake City, I'd say we have a little bit of momentum.

And so anyway, again, it's just all flat part of the curve in four or five markets, so it's not going to move the numbers of a national business, but it is confirming that the strategies work, and it's just a matter of going through all the market development and putting the cost in.

Now, as far as margin compression, I tried to cover it a little bit.

We're very happy with this year.

We're very happy we got some help on the cost side with cheaper pulp early in the year, cheaper energy, and lower freight rates, just due to the lower level of activity.

In addition to that, we had very good pricing, and we had very good plant performance, and we had lower SG&A costs.

So everything's gone right.

It's kind of ridiculous that we're sitting here with a 27% EBIT margin through three quarters.

And, quite honestly, we couldn't be here without the help we got on the cost side.

Now, that help is starting to erode a little bit.

Pulp prices are back up.

I don't expect much help there.

Energy's still less than it was last year, and you wouldn't call it expensive, especially the gas.

And freight rates are starting to come up, but again, they're on the low side, still.

So I think we're looking good.

If we are actually getting to the flat part of the market, I'm pretty confident we can improve returns next year without all the help from the cost side, and start to run more of our growth initiatives.

Now, how much, what that would all look like, it's just way too early to tell, because no one knows what the recovery's going to look like.

Okay.

So in terms of, I guess, on the positive outlook, where you get the growth besides the initiatives we talked about, when do we look at CapEx ramp up?

When do we look at resumption of diesel, that other stuff?

It's still way too hard to tell the trajectory, or are you (multiple speakers) these long-term plans to get your 35-90 target?

No, I tell you, one of the things we did when Fisher and Rigby took on their new roles is we sat down and went through the whole thing again.

We just tore apart the business strategy and put it back together.

And I'll tell you, it came up pretty much the same.

A few enhancements, a few reallocations, but pretty much the same.

But we went through for four years.

We've laid out our capacity -- we took assumptions on housing starts, and we laid out our capacity for four years.

If we're right on what we're basing our planning on, you'll see pretty big spending on flat sheets in about three years.

But prior to that, we're going to spend on Color, and that's not as near big a spend.

We're going to spend a bit on infrastructure to deliver the job pack.

So we're going to start spending capital, but it's not going to be like the $150 million type investments you might get when you start building flat sheet plants.

As Russell pointed out, we spent a fair amount this year on two key initiatives from a product standpoint.

One, a finishing line that does our shingle product line out of Pulaski, and the other is the HZ10, HZ5 investment.

So we spent a fair bit this year, so again, we felt good about having a tailwind, because that made it easier to spend the money on the capital that we think is going to be important in the recovery.

Excellent.

Thanks very much.

Your next question comes from Michael Ward from CBA.

Please go ahead.

Hi, Louis.

Just thinking about your longer-term utilization rates, you in the past made the comment that, arguably, effective utilization comes down as you increase your product mix.

But today we've heard a lot about your improved manufacturing efficiency.

Do the two actually balance each other out and you get no change to your long-term utilization rate?

Or are you still comfortable that long-term utilization rates will actually be lower?

No, long-term utilization rates will be lower on our stated design right now because of the product mix changes.

So I think I flagged last quarter, or maybe at the Investor Tour, we're going to restate our capacity around our current product mix at our year end results.

So what you've learned out of the downturn in terms of your manufacturing efficiency won't make a material change to the product mix?

No, because we're not getting it through throughput.

We're getting it through material yield and what I call conversion costs, which would cover maintenance costs, felts, wires, stuff like that (multiple speakers), refiner plates, pulp or parts, stuff like that.

Okay.

And then just on the CapEx again, I know you just mentioned it in reference to Simon's questions, but the finishing line and the level of CapEx--

I'm sorry.

Could you repeat that for me?

Sorry.

Just the level of CapEx that we've seen since so far through '09, is that something that will be higher or lower through maybe '11 and '12?

Yes, I'd expect a tick-up next year.

What's a tick?

Maybe $15 million at the most, so somewhere below, somewhere around $15 million would be our guess right now.

But I want everyone to understand, we're pretty quick with our capital, so we're going to read the market before we commit to some of the things that we're thinking about doing.

We're going to read the market better and get some confidence in the recovery before we pull the trigger on some projects.

Okay, thanks.

Your next question comes from Matthew McNee from Goldman Sachs JBWere.

Please go ahead.

Louis, I've just got a couple of quick questions on the same sort of topic.

But firstly, I think in the past you've said that you expected to see positive comps in your US sales for this quarter, this is the fourth quarter.

Is that still your expectation?

What I think I said is I expect to see some positive comps in the spring.

And one of those months may be the fourth quarter.

That would be March.

But I think once we see our seasonal pickup, we'll know better.

And I don't know if that seasonal pickup's going to come in March or April or maybe even May.

But I have to admit, every year I get nervous around this time.

I have trouble reading the market because everything slows down so much.

It's hard to feel optimistic, so I was probably more optimistic in October that we'd get a positive comp in the spring.

Now I'm starting to hedge a bit and say, "Well, maybe it won't come until this summer."

But having said that, the builders have a better view of the market than we do.

They're one step or two steps closer to the market than we are, and they seem to have a little bit more optimism.

So maybe I'm just nervous just because of the time of year we're in.

Yes.

But just to clarify, your comment previously was just about one month, not necessarily the whole quarter?

Yes, but I think once you start seeing a month, you'll see a month, and then I would guess in the first six months, you'll have four positive comps in those first six months from a housing start perspective.

Yes.

And just one other question.

I think going back to the topic most of us have been focusing on, and I know this is a hard question to answer.

But I think all the people are sort of struggling with the interplay between the fixed costs labor schedule as capacity utilization ramps up versus your getting a little bit more complicated product mix and maybe more SG&A.

So if you, ignoring moving to raw materials and things like energy and freight, if you saw a 30% or 40% increase in volumes over the next 12 months, would you expect the fixed cost leverage to work more in your favor, or are you going to basically see offsetting impacts like the more complicated product mix, more SG&A, pretty much offset that in terms of margin?

I'm just trying to get a feel for should we be seeing margins going up materially or staying the same or maybe even coming down?

Again, margins are partly about what happens in your business and partly about what you decide to do in your business.

I've tried to give you guys an idea.

I think Hardie's done a very good job in the downturn by staying ahead of the downturn.

I intend to make sure we stay ahead of the recovery, which means I will spend money before we have the volume.

Now, I'm not going to spend a ton of money, and I'm not going to spend it way ahead of the volume, but we are putting some costs in the business now.

So that's probably what's at play with your EBIT margin once we hit the recovery.

Now, back to your comment about operating leverage.

You can read our results and know that we've taken a lot more cost out of our business than most building materials manufacturers did through the downturn.

So, therefore, we have less "operating leverage," because we have a lower percentage of fixed costs.

But we do have depreciation, tax and insurance, which is fixed, and that all stays the same, regardless of how much we make.

So if we make 30% or 40% more, that incremental board will be cheaper than the board we make right now.

Would you expect, again, it sounds like to me that margins are probably going to be not materially different either way in terms of--excluding, obviously, pricing impacts and things that you can decide to do.

Yes.

Hey, Matt, we have pricing, then, obviously, we have spending on the growth initiatives.

And then as we've explained, and I know you know, we're not cost-plus pricers.

So our EBIT margin naturally waves with the cost of our inputs or our freight.

And you can see that now.

We're running higher now because we have relatively low costs from energy, pulp, and freight.

And if that gets relatively more expensive, it's going to come off our EBIT margin, because we're not going to go to our customers and tell them we need more money because something just went up in cost.

Along the same lines, when that commodity prices that raise our price once utilization goes up.

So you'll see other building materials companies, as soon as things get tight, if we did get a (inaudible) recovery, and their industry got a little bit short on capacity, they'll jump their prices.

We're not going to do that, either.

So I think what you're going to see out of Hardie is just more of the same.

You know, that price graph that we put in our results is a pretty nice, smooth, linear-type situation.

I expect that to be the case.

The EBIT margin, we've been running above that 20 to 25 margin as many quarters as we've been in the range, and we've only been below it one quarter.

So I think we have a bias toward the high, or just above that range, and I think we'll maintain that bias.

I don't think anyone should take their spreadsheets and say, "Look, they're going to be up at 35 or so EBIT margin," because we're still going to spend on growth.

The value creation in this business over the next 10 years is much greater if we keep growing the business than if we just start optimizing EBIT.

So we have no intention of optimizing EBITs in a good market.

Yes, no (inaudible).

(OPERATOR INSTRUCTIONS.) Your next question comes from Lou Capparelli from the BlackRock Investment.

Please go ahead, sir.

Hi, Louis.

Just on the same vein, most of my thunder has been stolen, but the question I was going to ask is you've always previously peaked in earnings--I forget the precise number in the US, but it might have been about 360-odd EBIT.

And that was in a world of 2 million housing starts.

Given how extremely well you guys have done through this downturn, what would you need--and given the change in your business mix as well, which I suspect is quite important--what sort of level of housing starts would you need to be at these days to get back to those levels?

Do you need 1 million or can you do it with a lesser level than that?

Obviously, we wouldn't give that number, but we point everyone to--if you're looking for 360, just take a guess of what our EBIT margin's going to be, guess it at 30.

Don't guess it at 35, guess it at 30, and then that gives you your revenue, and then divide it by whatever price that year is with taking out--our fairly linear nature of our price curve, you can probably get there yourself.

Now, Simon brought up a pretty good point earlier.

He says, "Hey, I'm not understanding, or you guys are confusing me with this how much is R&R and how much is new construction?" Because if you take our numbers and take an assumption on how much is R&R and new construction at the beginning of the downturn, and then work that through the downturn, you would see that our revenue per new construction start is way off if you take a normal assumption about R&R.

So it's going to be up.

So when I engage with an investor, either in broker lunches or these type of sessions, I usually say, "Don't think of 2 million starts and 360 EBIT.

Just take your model and figure out what we'll make next time we have 1.2 million starts, and you'll see that it's significantly different than what we were making last time it was 1.2 million starts."

Yes.

Just another way, like I hear what you're saying about margins.

But when you look at the nine-month result, it is a pretty staggering statistic, to be down in volume terms 19% with EBIT up 4%.

This is really over-simplistic, but it's like a 23 percentage point difference between your volumes and your EBIT.

Now, if your volumes are flat, can we expect to see 20%-plus EBIT growth, just maintaining that sort of (inaudible) differential?

I tried to indicate that things are getting more expensive, so the pulp, which is on the public index out there for NBSK, is very easy to see.

I think pulp the rest of the year is going to be on the high side rather than the low side.

So it was cheap for a while.

This quarter we didn't get much benefit from pulp, where the first two quarters we got a pretty huge benefit from pulp.

I think fourth quarter, our pulp will be higher cost, or either flat or higher cost than it was last year, same quarter.

Natural gas, again, it's another input that's easy to follow.

You can see that's been extremely inexpensive, and it's starting to creep up.

And then, I don't know what all the freight indexes are in the US and how public those are, but we are starting to see, especially on certain routes like the East Coast, where freight is getting more expensive.

So if our volume were to stick right where it is, our EBIT margin would be under pressure because, obviously, our cost is starting to come up a bit.

So we got a lot of help on cost first and second quarter, and we got some help on cost in the third quarter, and I believe, especially from a comp perspective, that help is going down every quarter for the foreseeable future.

Now, having said that, if pulp were to spike and then come back the other way, maybe it would look a little different the summer of next year.

But right now, it looks like pulp's going to go up and hold.

It doesn't look like it's going to go up and crash.

So again, for everyone, I know these are really hard results to understand.

We keep using the word "tailwind." We gave you some idea how much the tailwind has been.

It hasn't been overwhelming, so it isn't what our results are about.

Our results are about very good pricing, very good plant performance, cuts in SG&A, and tailwind along with all that stuff.

So the business has performed really well.

And in addition to that, we've gotten help on the cost side, and it's given us very good EBIT margins at very low volumes.

And back to Simon's question on market share, yes, we feel that we're improving our market position.

Now, it's really hard to measure, and I could take probably a reasonable guess at what our volume would be next time we're at 1.2 million starts, but I understand it's not straight arithmetic.

There's a lot of judgment involved.

Okay.

Thanks, Louis.

Yes.

Your next question comes from Emily Behncke from Deutsche Bank.

Please go ahead.

I'm sorry.

Just a follow-up question, Louis, that you indicated before earlier that your growth in, there's a reasonable chance that you'll find a large opportunity in Europe.

And just taking it, obviously, the changes in management probably means you might be spending more time on focusing on those sort of growth opportunities, or how should we read those two comments?

No, as part of the little bit of a reset we did on the organization, we have put one of our senior guys right across international, working for Mark Fisher.

And I think you know Grant Gustafson, and that's what he's going to do.

But you buy shares in Hardie for two reasons--one, the US business, and lately, more importantly, a distant second.

But still a very good business, is that Asia-Pac business.

I wouldn't be buying shares in Hardie right now for what we might accomplish in Europe, because it's way too close to call--way too early to call, sorry.

Okay, thanks.

Your next question comes from Doug Macphillamy from Macquarie.

Please go ahead.

Good day, guys.

Just one final, quick question on pulp.

Louis, would you just mind reminding us of what the lag is in terms of the realized prices paid in your business?

I think it's about a month, but I just wouldn't mind a reminder on that.

Yes, that's about right.

I think we buy about a month behind, and we probably have a month in inventory, so it might stretch out to 45 to 60 days, something like that.

But it's not a big lag.

And, of course, we buy it at discount to NBSK.

So when you look at NBSK, you can't just do it dollar for dollar, because we do buy it at discount.

But it points you in the right direction, for sure.

Okay, that's great, too.

There are no further questions, sir.

Please continue.

Okay.

So those were all investor questions, so Alicia, you're saying there's no media questions?

There are no media questions, sir.

Okay.

Thank you very much, and I appreciate everyone joining the call today.