James Hardie Industries PLC (JHX) 2017 Q2 法說會逐字稿

Good morning everybody. I'll walk you through the result as we usually do. I'll give you a really quick overview and then Matt will walk through financials and we'll go to Q&A.

We've got our disclosure pages and -- so I'm on page eight. So as you can see, as you would expect most of the arrows are pointing up. We'll talk a little a bit about the EBIT margin on the next slide.

Basically, the market's pretty good and the market side of our business has been doing all right. We struggled a bit on the operation side as we've talked about a couple of times now, so we'll talk through that some more.

Just looking at the bullet points there. We did get higher volumes so we're positive [on the] market index. EBIT margin's at 25.5%, which is above the range but quite honestly it should be above that based on where we're at with the market. So we'll talk about that.

Then you've got your cash flow of Summerville capacity. So we are in bringing-on-capacity mode again in the US so we'll no doubt cover that either on one of the slides or certainly in more detail if we get into it in Q&A and you've got the dividend comment there.

So if you go into North America, you see 12% up on that quarter and 14% on a half year. The problem is we couldn't ship everything we had orders for in the second quarter, so our manufacturing continues to restrict supply. It restricted it somewhat in the first quarter but we had some inventory we could use to work off of.

By the time we get to the second quarter we don't have much inventory to work off. So you're basically seeing we shipped what we could make. We had orders for more so the backlog's higher than normal going into the third quarter.

Average price has been doing what it's been doing. We thought we'd be flat to slightly down and it's been slightly down most of the year.

The EBIT, obviously the percent increase has been underwhelming. Partly due to the manufacturing issues and partly due to the investments we made in the business. On the SG&A side, mainly for market demand.

We do have that last comment in there about freight costs and input; those are starting to level off. So they were better in the first quarter than they were in the second quarter.

Going to our EBIT margin slide you can see the last couple of years we've been at the top of the range, but like I say this year if we had performed better on the operation side we'd be more like last year, rather than just right at the top of the range, which is where we're (inaudible) right now.

Sales price we talked about. We've been, between fiscal year 2015 and 2017 we've been pretty flat, a little bit down on last year.

We can talk about that some more when we get to Q&A and then top line growth. We are in front of our market index even though we're restricted on capacity but it's disappointing obviously that we're restricted on capacity because that kind of masked where we're really at on market demand.

In the international business you can see performance has been really good on the EBIT line. Some of that's FX but most of it's business performance. The half-year number still has pipes in it, so that kind of skews the volume a little bit.

We'll go through business by business but the short summary is, Australia's doing all right. We could do better on the market side, so we need to work on that.

New Zealand's good even though you can see it has a little bit of a negative EBIT comp. We shouldn't worry about that, it's no big deal. It's just something that, you know, you kind of work through naturally, it's more design than [mistake].

Then the Philippines we do have -- we have hit a bump in the road in the Philippines. So here's all your arrows up for the businesses.

As you can see, Australia flat on volume in the second quarter. Like I said, I think we can do better than that. So our guys will be working to do better than that.

The price has been okay and the EBIT's been good. Now we got a favorable comp on the EBIT because we had a plant startup in Australia last year. So we're (inaudible) higher costs at the startup so that's part of the reason the EBIT's up as much as it is.

New Zealand, like I said there's your arrow going down on the EBIT but I wouldn't worry about that. Their business looks pretty good both from a market demand and a pricing standpoint. Unit costs is fine, it's up a little bit but no issue.

The Philippines we definitely hit a bump in the road. So all the down arrows in the Philippines are driven by lower volume.

Basically we've got a more competitive situation than we've had in the Philippines for a long time from an importer and we've given up some market position because of that. The guys are working on a game plan to re-establish our market position where it had been.

In Europe, if you remember we had a bad year in Europe last year. We're having an okay year in Europe so it's comping well. But it's really comping against a bad year. I'll hand it over to Matt.

Good morning. I'll take everyone through the financials, similar sort of charts to what we normally do.

So for the second quarter we had sales of almost $496 million, up about 10%. You can see volumes are up in most of the businesses.

Average net sales price in the international fiber cement segment was up a reported 10% for the quarter, but there was an FX in there so the underlying price was up more like 5%. Some of that was mixed and some of that was price increases in Australia and then just normal pricing in New Zealand and the Philippines.

Gross profit increased 10% so in line with net sales. Most of that lack of leverage, if you will, is what Lou mentioned earlier with respect to the production inefficiencies in the US.

SG&A expenses increased about 10% so they were up again in the second quarter, not as much as they were in the first quarter. I think we said in August that the first quarter was probably the toughest comp from an SG&A perspective and had the biggest year-over-year increase and you can see that's starting to come down.

As we go through the year we'd expect that to start to level off a bit, but we're continuing to invest in the business. So they won't go flat, but it just won't be as quite of a steep incline.

So those investments are mainly in sales and marketing. I'd say in almost all the businesses, so not just the US but also in the Australian and the New Zealand and Philippine business as well as continuing to add organizational capability at a corporate level to support the Group initiatives.

Net operating profit, on a reported basis $57 million, down 56% but that's obviously got a number of adjustments in it, asbestos primarily. So the adjusted EBIT for the quarter was up 11% and adjusted net operating profit of $74.7 million was up 14%.

So for the half year I'd say the dynamics are pretty similar, the numbers are slightly different but more or less a repeat story for the half, much like I just went through for the second quarter. So net sales of $973 million, up 11%, very similar dynamics and drivers.

Gross profit's up 11%. Gross margin percent's up slightly, you know, 20 basis points. It should have been up a lot more than that had the plants been running better.

We've also got some startup costs in the US as we're trying to ramp up capacity. There's some inherent inefficiencies that come with trying to do that quicker than doing it at the pace that you'd normally want to do it. So a combo of those two things are compressing margins in the quarter and will probably continue to compress them for the year.

SG&A expenses are up 14% for the half, again in the second quarter up 10% and they were up more than that -- up more than the 14% in the first quarter. Net operating profit up 10% on an adjusted basis; on a reported basis obviously down 24% but again that's got asbestos in it.

Nothing really going on below the line kind of tax, other income and expense and interest are more or less moving where you'd expect them to move. So really nothing much to talk about there.

You can see the trend chart on Aussie dollar and the US dollar. For the most part for the half, foreign exchange isn't really a feature in the results.

We talk a little bit about it in this quarter. We talked a little bit about it in the first quarter.

They offset each other for the half and it doesn't have a huge impact. You can kind of see that in the bottom right hand translation impact box on a dollar basis, pretty immaterial and on a percentage basis it doesn't show up.

Input costs, you know so the price of pulp is up about 4% compared to the same period a year ago. We're performing better than that but pulp is staring to move back up.

Cement prices are up about 5%. We're -- in the market -- we're performing better than that with our sourcing strategies, but nonetheless cement has still got an inflationary feature on it for us.

Probably the biggest change is gas prices continue to trend down, but we're starting to see those change in the market place. So we're not expecting that necessarily to continue for the rest of the year and into next year, but for the first-half result they were down in the market about 20%.

Freight in the market place is down 8%. Our freight costs aren't quite down that much with some inefficiencies built in as we're trying to maximize throughput out of the plants and ship out of various locations so there's some inherent inefficiencies when you do that.

Our freight costs are still down year-over-year but just not to the same extent that market prices are down. Then you can see electricity prices are down about 9% in the US.

Just (inaudible) everybody through the segments. North America, second quarter and first half, EBITs were up about 7% and 5%, again that compression versus the top line growth and the gross profit growth is a combination of startups, the plant, production inefficiencies that we're experiencing at the moment and then we're continuing to invest in SG&A to get out ahead of the growth that we see.

The international segment, the numbers are good for the first half and the quarter up 16% and 18%. Keep in mind we had close to $10 million of Carole Park startup costs in the prior fiscal year and a lot of that was front first half kind of loaded costs. So that was $5 million, $6 million, $7 million in the first half.

The remaining balance, $2 million, $3 million plus dollars in the second half. So they're benefitting for sure from a favorable comp.

I talked a little about earlier on average net selling price, the underlying core price is up 2%, 3%. We're benefitting in Australia from some favorable mix from product mix in particular. Then the pricing strategies in general in New Zealand are where we want them to be.

Then we're getting a little bit in this quarter some foreign exchange that's helping us. It gets reported on price. So the way we're thinking about price in international is more like 3%-5% and that's a combination of list price increases and mix and tactical pricing and we're happy with where we are on that front.

Lower production costs in Australian dollars, obviously the plant's a year-plus in now, almost 18 months into running in Carole Park with the new line. So that's going to give us a better unit cost comparison year-over-year.

The other businesses, you know we're continuing to cut our losses in the other segment. That's primarily windows. We're continuing to execute pretty well with the windows business. So as that business performance improves the EBIT losses will continue to narrow.

No real change in R&D, more or less still on strategy, kind of in the lower band, lower end of that 2%-3% band. No strategic change in any of the projects or whatnot, it just reflects the normal timing.

General corporate costs are basically about flat. There's three major pieces of corporate costs. So there's labor and capability, there's stock compensation and then there's foreign exchange.

So what you're seeing as flat is a little bit up on labor and capability offset a little bit in the first half with stock comp and foreign exchange. In general not material enough to worry about but we are adding capability to some of the corporate functions as well, as we see growth.

On a tax basis, so we're now estimating an adjusted income tax estimate for the year -- income tax rate, sorry, for the year of 26%. It's down from what we talked about in August of 27%.

That primarily comes on the backs of the US result we're forecasting to be a bit different for the year and it's a high income tax jurisdiction. Adjusted income tax expense for the quarter and half year increased primarily due to the adjusted operating profit, partially offset by lower ETR as our earnings forecast changed for the year.

No real change in where we pay taxes. We pay taxes -- I think a lot of you that know us well -- we pay the in Ireland, the US, Canada, New Zealand, the Philippines and then not in Australia due to the asbestos deduction that we have in the country.

Almost $131 million of cash flow from operations for the half, it was up 50%, 53%, so good cash flow generation. That continues to be a strong feature.

Favorable change in working capital, obviously a combination of inventory levels coming down and no real -- a different dynamic than normal on receivables and payables, those are continuing to perform well. Obviously the increase in net income once you adjust it for non-cash items and then that's partially offset by a higher payment that we made this year to the trust, the asbestos trust.

Our CapEx is down a bit. You can see 17% -- it's down $7 million, $8 million in the first half of the year compared to a year ago. Keep in mind a year ago we were starting up or we were constructing both the Plant City line which is now running and the Cleburne line, which we're in the process of starting up in the current third quarter.

So that's the reason for the adjustment. We can talk more about CapEx in the Q&A.

Then you can see on the dividends paid, slightly lower this year. Keep in mind that the $206 million had a special dividend from FY15 in it, but you can see that we executed on the share buy-back during the second quarter.

Okay so we go to CapEx. As I said half-year CapEx of about $36 million down 16%, 17% from the prior year.

We are announcing that we are restarting the Summerville facility. So that's Summerville, South Carolina; it's a facility that we mothballed during the financial crisis.

We're in the process of getting that facility started back up. It'll be relatively inexpensive: brownfield capacity you can see about $18 million. We hope to get that started back up in the early part of fiscal year 2018, first half of fiscal year 2018.

We're in the process of commissioning the Cleburne flat sheets line that we put in place so the construction project is now complete and the team in November started that line up. So we've got that capacity coming online.

Then we'll continue to look at additional capacity projects. We bought a piece of land in Tacoma last year. So we've got a team that's now working on starting to put engineering, construction plans in place to build out lines on that piece of land.

Then we're looking for additional land in the northeast and then down the road -- I think last year we talked a little bit about having a plant at some point in time in the mid-south and we're going to continue to look for a piece of land for the mid-south. So CapEx while down now, will be a feature; it will be an increase, if you will, in future quarters.

The Philippines capacity project is on track despite the temporary hiccup in the business. We're going to obviously continue to build out the capacity in that facility and that's going more or less on track.

In terms of capital allocation, no real change. The financials and the overall health of the Company continues to be very good. Strong margins and as you saw good operating cash flows.

The ratings haven't changed since I think we last talked. The capital allocation priorities haven't changed either. Our top priority continues to be investing in organic growth.

So whether that's getting capacity in place for the plants, infrastructure of existing facilities, sales and marketing, resources or SG&A in the form of supporting PDG initiatives. That continues to be the number one priority, followed by the ordinary dividend. So today we announce a $0.10 first half dividend in line with our payout ratio.

Then number three is this kind of flexibility for sort of everything after that. So we always want to have flexibility to be strategic, if an opportunity presents itself. A sufficient cushion with the way we manage the balance sheet in the event that the market cycle changes quickly, then additional returns as we see appropriate.

Liquidity and funding's really good. I'll take everybody through that on the next page.

There's no real change on the corporate debt structure. We still have $500 million of unsecured revolving credit facility. We've got a $400 million senior unsecured note now maturing in 2023, $85 million of cash.

Net debt still well within our range. So we're at 1.17, it's 1.12 if you will, well within that 1 to 2 range that we continue to try to manage the balance sheet within. We did complete the $100 million share buy-back in the six months ending in September, so we were pleased with that result.

Guidance for the year, obviously we changed guidance down to $250 million to $270 million. It's primarily driven by a combination of the startup costs that we're experiencing -- by trying to get a combination of the Plant City line number 4 up and running, now the new Cleburne line up and running, Summerville constructed and going, at the same time that we're trying to also look at additional capacity for the future.

Combined with not being able to ship everything that we had orders for. So a combination of those two is really the driver of the adjustment down at $250 million to $270 million -- is what we're now providing for guidance for the year.

No real change in kind of underlying macroeconomic or macro indicators. US housing still is kind of in this 1.2 million to 1.3 million new construction starts for the year.

Our overall market index hasn't changed on that front and no real underlying change in some of the valuation-based items like foreign exchange or our view on commodity prices, things like that. So the guidance adjustment down was really driven on a combination of startups and production.

With that we'll go to questions.

Okay, (inaudible) questions. Thanks.

Good morning, Louis and Matt, it's Emily Smith from Deutsche Bank. So just a couple of questions around the capacity ramp-up and the costs associated with that.

I know you mentioned that's the main reason for the change but you kind of had that increasing capacity sort of in your plans, so what's changed between now and, say, even a month or two ago when we were in the US? Secondly, I think Matt when you were talking about the startup costs you didn't mention Plant City 3 which I thought was also coming on line in Q4, is that still the case?

And just finally, I guess when you look at that profile around additional capacity that's being added, there's really only capacity coming on line in Q1 2018 according to your timeline. So is it fair to say that FY17 is going to be the worst of it in terms of cost risk and, I guess overlaying that potentially with a price increase in March 2017, is that still on the cards? Thanks.

Yes, so capacity (inaudible) shift the question a little bit because the question was on startup costs. I think most of the questions are probably about our EBIT margin, which I think -- we talked about this a bit in September but we clearly had our equation for capacity wrong for a category that so much -- was such a big share of.

So we didn't have enough insurance in our capacity utilization equation. What happened is then we did start growing a little bit more in the market but the plant started to perform below expectations.

What that's triggered is four things really. We're pulling startup costs forward.

We're having higher freight costs because we're throughput optimizing. So we're going to the width of the plant, width of the machines to determine where products are made, rather than closest to market.

We have higher unit costs because we're trying to throughput optimize. So we have -- when you think of unit costs, it has a numerator which is what you spend and a denominator which is how much you make.

Our focus is spend more on a numerator to get the incremental board out of the plant. Which doesn't result in more unit costs but it does result in higher throughput and a better situation for our customers.

The other thing is we're restricting shipments. So we've got some volume that we didn't ship that we could have and should have shipped.

So that's kind of the story of the EBIT margin, it's that four part equation and it all started with the planning by the supply chain and where our capacity utilization needed to be and how quick we'd bring up capacity. Then it was made much worse by the fact that our current network of plants just basically started to run not as well as it had.

A few of the plants kind of maintained their throughputs and a few of the plants kind of fell off a cliff. Then the rest of the plants were just a little bit less than they should have been.

Now we're starting to work our way through that as far as the existing lines and we're seeing the right kind of trend lines. The plant's that had fallen off the cliff have kind of responded.

That was somewhat related to some major equipment failures in a few of the plants and just starting to chase your tail and trying to catch up. So we're seeing a positive trend line there. We're not back to where we think we should be, but we're approaching that.

Then the startups PC, PC startup has now made some trim, which was a big hurdle. So we started that line up on planks, ramped it up to a certain efficiency and then switched to products -- switched to product line of trim, which is another learning curve.

So we took a dip there, but we are producing trim off the line and we expect to go off that kind of improvement curve over the next six months. Pretty steep probably for the first three or four months and then starting to flatten out.

We had some board off Cleburne number 3, so we're very early in that ramp-up. The funny thing on ramp-ups, if they go well they actually cost you more.

So whenever you're starting up a line, the board you're producing is more expensive than the average cost you have for your board and your system. So we actually think Cleburne's going to startup pretty well. So far it looks good.

If it starts really well, it'll actually be a little bit more of a drag on EBIT between now and the end of the year and then it kind of just starts up average. But we'll just see how that goes.

Emily asked about PC 4 and we are doing work on PC 4 to have it available next year. We're doing work on Summerville to have it ready to start up next year.

So we do think fiscal year 2017 we should have had the capacity so it was a mistake, which I've already covered. But that is what we would see as the shortage that we had this year we don't expect next year. We don't have as much kind of insurance in the equation as we'd like and that's why we're accelerating all the startups.

Price increase was the other part of the question. For those of you that follow the Company, we normally review price at the end of the calendar year, and if we're going to take an increase, we announce it early in the year and it either goes into effect March 1 or April 1, so we're in that process.

It's quite certain that we'll take price this year, but we haven't been through the whole calculation to determine exactly what level. But we will take price this year.

Thank you. Sorry, can I just follow up, why aren't you -- why are you restricting shipments?

We're shipping what we're making.

Right. Okay.

Yes. It's just been restricted by the production, available production.

Thanks.

Peter Steyn from Macquarie. Sorry, a bit loud.

Louis, could you comment on how you're seeing the markets? Matt made some comments in his closing remarks around the market, but are you comfortable now, having gone into the election and then out of the election on the other side, how you're reading the market? Is there any signs that particularly worry you going into calendar 2017 and beyond that makes you uncomfortable that the market may have changed?

The short answer is no. The markets have been good for us. It's been kind of slow, steady recovery for several years now, which since we're a company that tries to grow market share, that's the ideal situation (inaudible) market share.

So we like where the market's at. I wouldn't have a clue and I don't think anyone else would have a clue as far as if there's going to be an election impact on the housing market.

We're not planning for one, so if we get a positive bump, we'll have to be ready to take care of that. If we get a little bit of a negative drag on the housing market, we'll adjust to that, but we're not expecting any real significant change and -- what we see in the market, which is slow, steady improvement.

Right. Then maybe just changing tack, on working capital, could you comment on how you see progression in the inventory trends over the next number of quarters? You're obviously short right now.

Yes. We'll --

You were planning to ramp that up into --

Yes.

-- into the next quarter. How do you see all of that coming out from you from a cash flow point of view?

Yes. No. That's a good question.

I guess the thing we want to clarify is the reduction in inventory was not a plan. It was -- it was out of necessity to service as much demand as we could. So we pulled our inventories down.

So we'll bring them back up. We always bring them up in the winter. But this time next year, you'll see higher inventories than we have currently, just because we don't expect to be short on capacity at that point.

Andrew Johnston, CLSA. Two questions. First on -- just following on from that market question, Lou, your numbers are tracking well above market and sort of match DR Horton's orders, which have also been well above market.

But their latest result are only -- the order growth was only 3%. Is that -- is that significant in the way you're looking at the market or is that just -- do you think that's an aberration specific to them?

I mean, when you -- you know when your data gets smaller and smaller and now you're under one builder over a quarter, your variance just gets bigger. So I think Horton's doing well in the market and if they had a soft comp, I think that just reflects where they're at at that particular quarter versus the previous.

I don't think it reflects anything on our housing market. I think if you put all the big builders together, you see they're taking a little bit more share as we go through the recovery and their growth looks pretty good.

Remember, we just -- we just want an increase in market. We don't actually want a -- you know, strongly increasing market, so we've been living with the -- whatever it has been 5%, to 10% or 11% for three, four years. It's a perfect market.

I would think it's a perfect market to grow market share and looking back, we probably should have grown more, so we're focused on making sure we get another two or three years of steading increases. We're going to work hard to grow more share than we have.

Your PDG for the half sort of looks around the 8%, 10% mark, depending on where it is and clearly you're saying you could have actually shipped more, had you -- had you had more to ship. So maybe the question -- but I'm just thinking who's taking the stuff that you're not shipping?

Yes. It's a good question. Obviously some of it's being deferred, they're waiting for us.

We've got the seasonal downturn happening, so we're now for the first time in the last several weeks we're actually producing more than we're getting orders for. So we are starting to play a little catch up now. So a good amount of our shortage, hopefully we can get back in the slower months.

Those that -- the rest of it -- people that had to go on and build their house and couldn't get our material, I would say that would be some conversions were minor where they deferred to conversion. They'd made a commitment to go to fiber-cement and then because product availability was tight, they -- you know, maybe pushed it back and as you guys know, our closest alternatives are CFC and LP.

CFC, I don't think, has a lot of capacity to deal with, so if anyone picked up directly from us, it would have been LP, because they're a close alternative that has capacity.

Just finally on the Philippines, the imported product, is that a fiber-cement product or is it some other?

It is fiber-cement. Yes.

Okay. Great. Thank you very much.

Good morning, Lou and Matt. Keith Chau from JP Morgan. Just a quick question relating to a couple of the comments from the September tour around your recruitment drive.

I think you mentioned that there was a few heads to be allocated or appointed to the global management team, including HR, international and sales. How far progressed are you in that process and do you think allocation or appointment of a head of HR will actually help you, I guess, configure the operation in a way where you won't have some of these issues or it will help you plan a bit better for the strive to 35/90?

Yes. So that's a good question. So the quick update is we're at the very end of the HR search.

We'll make an announcement there shortly. I don't know if we'll announce it publicly, but we will internally. Then with head of sales and marketing and head of international, we're at the very beginning of our searches.

So I'd expect three to six months for those searches. Then whenever we bring on someone senior, we have a pretty long onboarding, so even if head of HR were to join in January, they wouldn't be fully in the job until May or June, so they go through a learn-the-business period that's fairly long.

We've got a bridge -- we've got bridge organizations in place. To counter your question, why are you doing this? Are you doing it for 35/90 and the answer is absolutely.

On the org side, on the HR side, we -- a lot of you guys have met some of our people. We got really good people, but our depth isn't what it needs to be. So you also know part of the reason that depth isn't what it used to be or it needs to be is because we were kind of reluctant in the past to recruit externally at a very senior level at all.

We prefer people who are early in their careers [and we] recruit them. Then our turnover is running above our targets, so put those two things together, we're short of depth. That gets in the way of running initiatives, slows down things, whether it be on the operation side or the market side.

So there was just a bit of shifting with our organizational strategy that enables that 35/90 that needs to happen and we've gone for an HR executive that we think can provide the leadership we need in that area. Head of sales and head of international is really just building more depth on the GM team. So it -- most of you guys know Fisher.

He takes care of international. International, as you've just seen from our results, runs pretty well. The head of international is more about what's the great potential for Hardie outside of US in fiber-cement than it is about running the Asia-Pac business. We got a good organization in Australia that runs the Asia-Pac business and they will continue to have that responsibility.

So the head of international is more of a longer term, strategic position similar to non-FC, which Fisher, as gives up international, he grabs non-FC growth, which we think is important five to seven years out. Probably the fiber-cement outside the US is important more like, maybe, seven to 12 years out. But we do think there's an opportunity to think about fiber-cement in [so many] geographies and we're going to start doing work on it.

Did I catch all your question there, Keith? Okay. Any other questions in the room? Yes.

Hi, Lou. It's Ramoun Lazar from UBS. Just keen to get a bit more color on PDG and I guess the regional mix and how you did in the various regions.

Yes. I think our -- what's been disappointing to us is our overall growth, especially this year, has been fine.

If we would have had the capacity, you're probably looking at a PDG very close to our target, if not right on our target. But we're not -- we're not running our full game up in the vinyl markets.

So we get LP in some of those markets and obviously most of the vinyl's in there. So

mid-Atlantic, northeast, mid-west and Canada, eastern Canada mainly.

We've done all right in the markets, but we're just not as laser focused on vinyl as we need to be. So that's one of the things we're trying to change in the business.

On the other hand, the -- kind of the more established fiber-cement markets or the kind of hardboard wood-type markets in the mountains, we've done well in those. We've done well with our growth initiatives and those are a little bit simpler, simpler game plans to run, but we run them well. We haven't run the vinyl game plan as well as we should.

Just to follow up on Andrew's question around the deferred shipments, are you able to maybe quantify what those were in the second quarter?

Yes. I'm sure we have an exact number in the Company, but basically what I tried to indicate is we're 14% for half and 12% -- maybe be 15% for the year instead of 14% and probably 14% for the quarter. So, yes, second quarter demand looks very similar to first quarter demand.

Like I said, in the first quarter we were able to ship down -- use some inventory and ship extra board that we (inaudible) produced. Second quarter, we were kind of at the point where we had no more excess inventory to shift, so we were just shipping what we were producing.

I think everyone that knows the business knows the exteriors run at a higher rate than the interiors. So those would be higher numbers for exterior.

Okay. Questions on the phone.

Thank you. The first phone question comes from Simon Thackray from Citi. Please go ahead.

Thanks very much. Morning, Lou. Morning, Matt.

I just want to get to understanding the guidance. I took your point, Matt, about what's being implied in terms of capacity additions and taking those costs above the line, et cetera, but I'm just trying to understand it.

Based on the guidance, you're talking about a split that's either 53% first half or 58% first half versus what you're talking to the second half. Historically, your revenue is reasonably balanced half-on-half, 0.51 or 0.52.

Your profitability for this first half at 15% NPAT on sales is the highest it's ever been. Can you step me through -- what's the total impact that you're expecting in that guidance of $250 million to $270 million from a dollar perspective and exactly where it comes from.

Yes. I think the purpose of the range is not to provide an exact number. So I mean, I'll try to give you some sense though Simon to help you -- why do we guide down. So I think in the earlier part of the year, we obviously were anticipating there would be some incremental cost to the normal run rate in the business related to startup.

Two things have sort of changed in the last few months, so one is we're going to start up more, so we're pulling some of that start up forward. Then two, we're trying to go quicker with the startups, and that is inherently more inefficient.

So I think we may have made a comment in the August call that startup costs were kind of mid-single digits. They'll be above, we'll call it, $10 million, $11 million now for the year just in the US.

So with Summerville, Cleburne 3, Plant City 3, Plant City 4 and getting both lines in Fontana up and running, we've got five startups now kind of running and we're trying to do that concurrently. It's a bit of a double-edged sword in the sense that if it doesn't run well, obviously there's waste and that costs us. When it does run well, you get a higher unit cost per board that you end up shipping.

So the startup adds incremental costs both ways in that regard. So that was one factor in the way we thought about guidance this time versus the way we thought about it in August. The second is in August we weren't anticipating that we weren't going to be able to fulfill all the orders to the extent that that has played out over the last couple of months.

So when you leave orders unshipped, obviously that changes the volume forecast for the year and then obviously that has an impact on the way earnings are going to play out for the year. So a combination of those two factors is really what drove the adjustment from where we were on guidance in August to the -- to the guidance that we're providing today.

Okay. So is it right to then assume that that's going to be -- the second half will have a much weaker -- therefore much weaker EBIT margin performance on that basis?

Compared to a year ago, I think that's probably a pretty safe assumption.

Yes. Okay. So that's where it -- where it will come from.

I'm just trying to understand the acceleration of the five plant lines. When we were in Charleston in September, the discussion was around having allocated the A-team to the startups and leaving the existing manufacturing businesses to their own devices and that would cost in terms of operational performance. That strategy was going to be reversed, I think, from memory.

You were bringing your A-team back onto the lines to make sure the existing network would be operating effectively. But we were anticipating that that may slow down the rate of commissioning, so has something changed between September and now or have I just completely misinterpreted that?

Yes, Simon. I think we need to go back to the headline. Manufacturing has been more of a problem and a longer problem than we were anticipating in the summer.

I guess the best way to describe it is in the summer we thought we were getting a lot of normal variance and then some things we had to fix in those two plants. The reality is we had a few issues across the network, pretty much across the network, outside of a couple of plants, that needed to be addressed, so we backed up and addressed that.

So we got behind on some things we shouldn't have got behind on. It's resulted in some excessive downtime at several plants in the US. Okay?

As far as the startups, the -- probably the biggest change between when we talked at length in September and now is we live with the problem we've had this year long enough to where we say, hey, we just got to push through this thing and make sure everything is exactly like it needs to be going into next year. We're more aggressively bringing it forward -- startups forward.

As Matt said, and I alluded to earlier -- by the way, the Cleburne startup, which has been set up like we had talked in September, they're doing very well firewalling the startup from the existing lines. We started to make board on the new line and the efficiencies on the existing lines have not fallen off like they did at Plant City and Carole Park. So that little part of the (inaudible) has worked well.

But bringing all these startups forward and like we commented, if the startups go really well, you've just put more board into the system at a higher cost. If the startups go poorly, which we don't anticipate or don't have any indicators that they will, you have a lot of waste. So it's just -- we're just being really aggressive internally to get all of our available capacity started up and producing board and that's pulling costs forward.

If you look at the two years, clearly our EBIT margins would be better this year if we weren't fighting this problem. But last year, we shouldn't have deferred startups. If we had the right equation, we wouldn't have deferred startups and you would have paid for some of those startups last year. So it's just -- there's some errors in our planning there, but it's more timing than it is absolute dollars there (inaudible).

You've said it's two to three quarters before you get back to your expected manufacturing cadence or operational targets. So presumably for fiscal 2018, the question is how fast can you grow and not get caught by the market?

I think we can grow 20% and not have supply problems. So -- and we don't anticipate the market being up more on an index than about 6% to 8%, so 20% is plenty of headroom.

As far as the two or three quarters to get where we want to be in manufacturing, obviously when you're -- when you run into a problem like this, you do a lot of work to understand what drove it. We found some drivers we didn't like, so like I said, we backed up, kind of changed our approach in a few important areas.

So I do think there's a -- there's a bit of relearning going on at Hardie. It takes two or three quarters to get there, but I like -- I like where the organizational thinking has gone. I'm starting to like to see the trend lines as well, so I think we're good, but it probably does take two or three quarters before we're happy.

That's terrific. Thanks, Lou. Thanks, Matt.

Okay.

Thank you. The next question comes from James Rutledge from Morgan Stanley. Please go ahead.

Thanks. Good morning. Just following on, I guess, from Simon's question in terms of how we're thinking about fiscal 2018.

I guess you've talked about some of those one-off costs embedded in your guidance for fiscal 2017 coming out, then getting the manufacturing efficiencies. I guess that, combined with price in a reasonably strong volume environment, would take you well above the 25% margin top end of the range.

How should we think -- be thinking about that kind of investment? Does that restart SG&A investment or is there something else that I'm missing there?

Yes. No. It's a good question.

But as you know, we don't guide forward into the next year. But if you listen to my story, you got all the points right. I think we hit the bottom in manufacturing this year, so we'll have better numbers next year.

We'll have a market price increase. I think our [captive] pricing will be the same or a little better. We're not anticipating a bigger than normal, meaning our trend line on SG&A build -- and we expect to grow above the market index and it's supposed to be a market that might be up index wise around 6% or 7%.

So, yes, if you read all those comments, we should be looking for a nice financial kick-up next year, which we didn't get this year. Obviously we're going the wrong way in our bottom line leverage this year and so it's a pretty disappointing result for us. I mean, obviously, the Hardie financials are good financials, but the financial improvement is not good. So we see that as a temporary situation.

Okay. Thanks.

I guess the story around SG&A there is that it's just incremental growth. There's no need for a further step change or, I guess, the returns that you get from further investment in SG&A. You're still seeing the returns from the prior investment, so there's no need to have another big step up.

Yes. As far as market programs, we don't have any major launches or anything that we think is going to take a lot of dollars. As far as our field sales, we made a lot of additions there.

We'll have some incrementals, but it won't be the step change which we had, like, a year ago. Building up the depth at the senior level does cost you a bit, I think that will get lost. It's not big enough to really see a dragged EBIT number, but you'll SG&A increases at that level, but I don't think they're going to be big enough to worry about.

Okay. Thanks.

Thank you. The next question comes from Andrew Peros from Credit Suisse. Please go ahead.

Thank you. You kind of answered my question around inventory but perhaps I can ask it a different way. You've obviously talked about the inventory build over winter, so you'll be effectively running your plants a bit harder.

I'm just wondering to what degree will that have a positive impact on your EBIT margins over that period and is there potential for that to more than offset those startup costs that you're talking about throughout the remainder of this fiscal year?

Yes. I mean, I think the number to look for this year is our guidance number, so we've guided it down and we've guided it down because the US forecast has been reduced and the US forecast has been reduced because the operating side of the business is costing us more than we originally had planned for. So, I mean, I think our guidance is what it should be.

It does reflect we're not out of the woods on the unit cost and the freight cost increases and that's somewhat related to startups. I do feel way better about our trend line on existing equipment. I think we've addressed a few of those issues and put those behind us pretty quickly.

Yes. So as far as anything else on the EBIT margin for this year, Matt indicated there our guidance change because of the US EBIT.

So I think you can figure out where our EBIT margin expectation is. We expect to be at the top of the range, just like we always say. But I'm acknowledging, as you already know, with the kind of market demand we had, we should be above the range this year and we stubbed our toe in manufacturing and that's why we're just right on the top of the range.

Okay. That's great. Thanks.

Yes.

Thank you. At this time, we're showing no further questions from the phone.

All right. Thank you. Appreciate it, everybody. Thanks.