Lennox International Inc (LII) 2011 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by.

Welcome to the Lennox International Q4 2011 Earnings Conference Call.

At the request of your host, all lines are in a listen-only mode.

There will be a question-and-answer session at the end of the presentation.

As a reminder, this conference is being records.

(Inaudible) turn the conference over to Steve Harrison, Vice President of Investor Relations.

Please go ahead.

Good morning.

Thank you for joining us for this review of Lennox International's financial performance for the fourth quarter and full year 2011.

I am here today with Todd Bluedorn, CEO and Bob Hau, CFO.

Todd will review key points for the quarter and year, and Bob will take you through the Company's financial performance.

In the earnings release we issued this morning, we have included the necessary reconciliation of the financial metrics that will be discussed to GAAP measures.

You can find a direct link to the webcast of today's conference call on our corporate website at www.lennoxinternational.com.

We will archive the webcast on that site, and make it available for replay.

We'd like to remind everyone that in the course of this call, to give you a better understanding of our operations, we will be making certain forward-looking statements.

These statements are subject to numerous risks and uncertainties that could cause actual results to differ materially from such statements.

For more information concerning these risks and uncertainties, see Lennox International's publicly available filings with the SEC.

Lennox disclaims any intention or obligation to update or revise and forward-looking statements, whether as a result of new information, future events or otherwise.

Now let me turn the call over to CEO, Todd Bluedorn.

Thanks, Steve.

Good morning, and thank you for joining us.

Let me touch on several key points, and then Bob will take you through the financial details for the quarter and the year.

2011 marked the second consecutive year of growth in unit shipments in North America for the HVAC industry.

But a significant mix down, and fewer system sales in the residential market, commodity head winds running ahead of price increases in the fragile consumer and macro economic environment weighed on overall financial results for the year.

We aggressively reduced the Company's cost structure further in 2011, while still continuing to make transformational investments as we position the Company for improved growth and profitability in challenging markets.

We continue to ramp up our Mexico manufacturing facility, source more components from Asia, engineer to cost reduce our product platforms, move further into material substitution -- including aluminum for copper -- and leverage R&D resources with our new India technology center, to mention a few examples.

We also focused on driving shareholder value with a disciplined use of free cash flow for dividends, share repurchases and acquisitions, while maintaining a strong balance sheet.

For the Company, overall in 2011, revenue was up 7%.

Excluding the impact of the Kysor/Warren acquisition, revenue was flat at actual currency and down 2% at cost in currency.

Our residential equipment and service businesses faced a tough year-over-year comparison to 2011.

The residential market was down in dollar value from a significantly lower mix of business without the $1,500 US tax credit for high-efficiency equipment in place, and with the re-emergence of minimum-efficiency condensing units based on the old R-22 refrigerant.

Both of these developments contributed to a decline of furnace shipments and fewer complete HVAC system sales.

Consequently, our residential revenue was down 5%, and service experts revenue was down 10%.

Segment margins for the year were down 370 basis points in residential to 5.6%, and down 300 basis points in service experts to slightly above breakeven.

In our commercial and refrigeration businesses we had a strong year, and constant currency commercial revenue was up 10%, and refrigeration revenue was up 5% on an organic basis, adjusted for Kysor/Warren and the strategic exit of the third-party coil business in Australia.

Commercial margin increased 20 basis points to 11.4%, refrigeration margin, excluding the impact of the Kysor/Warren acquisition in the first year of ownership, was up 170 basis points to 12.8%.

For the year, adjusted EPS from continuing operations was down 15%, and GAAP EPS was down 21%.

Turning to the fourth quarter.

Company revenue was down 1%.

Excluding Kysor/Warren, revenue was down 7%, with a neutral currency impact.

Total segment profit margin was 5.5%, down 90 basis points.

Adjusted EPS was down 7% in the fourth quarter versus a year ago, while GAAP EPS was down 37%.

GAAP EPS was impacted by $9.5 million charge for asset and goodwill impairment in our Hearth business.

Hearth is a business within our residential segment that is highly tied to new construction.

With single family homes starts at the lowest on record in 2011 and the business in a loss position, we had impairments in the fourth quarter.

Moving forward, we are pursuing strategic alternatives for Hearth.

The business, which includes fireplaces, stoves and ventilation equipment, is considered non-core to Lennox International.

Hearth was about 6% of residential segment revenue in 2011, or about 2.5% of total Company revenue.

Residential revenue was down 14% in the quarter, and margin was down 480 basis points on the year-over-year mix down, especially against a tough comparison to the fourth quarter of 2010, which had a rich product mix ahead of the expiration of the $1,500 high efficiency tax credit, as well as demand pull forward ahead of our announced price increases.

Weather also was warmer in the fourth quarter, with heating degree days down 10% in November, and down 21% in December, compared to 2010.

Service expert revenue was down 16% in the fourth quarter, and margin was down 260 basis points as the business faced the same residential dynamics.

On the commercial service side, revenue was up mid-teens and margins saw strong growth.

Turning to our commercial equipment business, revenue in the fourth quarter was up 8%, and segment margin was up 230 basis points, to a fourth quarter record level of 11.1%.

Revenue growth was broad-based, but led by double-digit growth in national accounts.

Lennox added five new national accounts in the fourth quarter, bringing the total to 20 new national accounts for 2011, the most accounts added since 2008.

In our refrigeration business for the fourth quarter, organic revenue was up 2% at constant currency.

From a regional perspective, Europe, South America and China continue to see strong growth.

North America showed solid gains, led by year-over-year strength at Kysor/Warren, and Australia was down.

Refrigeration segment margin increased 170 basis points to a fourth quarter record level of 11.7%.

Regarding Kysor/Warren, revenue grew at a high-teens rate in 2011, despite a choppy market, and margins expanded in each quarter through the year as the integration and operational improvements have gone well.

We remain on target for the business to be $0.12 accretive to EPS in 2012.

Now I will turn it over to Bob.

Thank you, Todd, and good morning everyone.

I will provide some financial details and additional comments on the business segments for the quarter and full year, starting with residential heating and cooling.

In the fourth quarter, revenue from residential heating & cooling was $300 million, down 14%.

Currency was neutral, volume was down 10%, and combined price and mix were down 4%, with price up 1%, and mix down 5%.

Let me expand on the mix for a moment.

While mix was down at the same rate as in the third quarter at 5%, the fourth quarter is compared against a rich mix of the fourth quarter of 2010, in which mix was up 6%.

As Todd talked about earlier, this was due to the high-efficiency products sold ahead of the expiration of the $1,500 tax credit, and in front of our announced price increases.

As mentioned in the third quarter earnings call this year, we were taking actions towards improving mix and encouraging more complete HVAC system sales going into the fourth quarter.

This included repackaging our incentives, and promotions to dealers and consumers, and filling out our line of products across the various SKUs of our new furnace platform.

We saw evidence in the fourth quarter that our actions are working, both with regards to mix and in share gain.

Now, moving on to residential segment profit, in the fourth quarter profit was $14 million, down 57%.

Segment profit margin was 4.8%, down 480 basis points from the fourth quarter a year ago.

Second margin was down from lower volume and product mix, as well as higher commodity costs.

Partial offsets include favorable price, productivity initiatives and lower SG&A expenses.

For the full year, residential segment revenue was $1.34 billion, down 5%.

Currency was neutral, volume was down 4%.

Combined price and mix were down 1%, with mix down 3%, and price up 2%.

Segment profit was $75 million, down 43%.

Segment profit margin was 5.6%, down 370 basis points.

Turning to our commercial heating and cooling business, in the fourth quarter commercial revenue was $160 million, up 8%.

Volume was up 6%, and price and mix were up 3%, with currency at negative 1% impact.

North American commercial HVAC revenue was up low-double digits, and Europe commercial HVAC revenue was up mid-single digit its at constant currency.

Segment profit was $18 million, up 35%, and segment profit margin was a fourth quarter record at 11.1%, and was up 230 basis points from the prior year quarter.

Segment margin was up from higher volume, favorable price and mix, productivity initiatives and lower SG&A expenses, with a partial offset from higher commodity costs.

For the full year, commercial revenue was $696 million, up 12%.

Volume was up 7%, and price and mix were up 3%.

Currency had a 2% positive impact.

Segment profit was $79 million, up 15%.

Segment profit margin was 11.4%, up 20 basis points.

Moving to our service experts business.

In the fourth quarter, revenue was $122 million, down 16%.

Volume was down 20% on warmer winter weather and the soft consumer environment.

Price and mix were up 4% on strong growth in commercial services, currency was neutral.

Segment profit was $1 million, down 78%.

Segment profit margin was 0.9%, down 260 basis points from the fourth quarter a year ago.

And results were impacted by lower volume, with some offsets from productivity initiatives and lower SG&A expenses.

For the full year, revenue and service experts was $529 million, down 10%.

Volume was down 13%, and price and mix were up 2%.

Currency had a positive 1% impact.

Segment profit was $2 million, down 92%.

Segment profit margin was 0.3%, down 300 basis points.

In our refrigeration segment, revenue in the fourth quarter was $189 million, up 36%.

Excluding the Kysor/Warren acquisition, volume was down 2% and price and mix were up 2%.

Currency was neutral.

From a regional perspective in constant currency, South America was up mid-20s, Europe was up mid-teens and China was up double digits.

North America was up mid-single digits, and Australia was down high-single digits.

Segment profit was $22 million, up 59%.

Segment profit margin for the fourth quarter record 11.7%, up 170 basis points.

Results were positively impacted by favorable price and mix, productivity initiatives and lower SG&A expenses.

For the full year, refrigeration revenue was $805 million, up 46%.

Excluding the Kysor/Warren acquisition, refrigeration revenue was up 7%.

Volume was flat and price and mix were up 2%.

Currency had a positive 5% impact.

Segment profit was $78 million, up 26%.

Segment profit margin was 9.6%, down 150 basis points.

Excluding the Kysor/Warren acquisition, refrigeration segment was up 170 basis points to 12.8%.

Looking at special items for the fourth quarter, the Company had net after-tax charges of $9.7 million.

This includes the $9.5 million of asset and goodwill impairment charges for the Hearth business.

For the full year, Lennox had net after special -- after-tax special charges of $20.3 million including $10.5 million from restructuring activities, the Hearth impairment and other items.

This impacted GAAP EPS from continuing operations by $0.39.

Corporate expenses were $13 million in the fourth quarter, down 25% from the prior year quarter.

For the full year, corporate expenses were $54 million, down 17% from 2010.

For 2012, our corporate expense guidance remains $65 million to $70 million.

Overall SG&A was $145 million in the fourth quarter, down 16%.

For all of 2011, SG&A was $660 million, down 9%.

Both periods include the SG&A taken on in the Kysor/Warren acquisition.

SG&A was down for the quarter and the year, primarily from low incentive compensation, commissions and selling expenses, as well as strong discretionary spending controls.

Cash from operations was $76 million for the full year versus $186 million last year.

Capital spending was $43 million in 2011, compared to $46 million in 2010.

Resulting in free cash flow of $33 million for the full year, compared to $140 million in the prior year.

Cash from operations was down for the year, primarily on lower net income, lower accrued expenses and higher working capital.

As you know, our free cash flow is very seasonal in nature.

We had a historically strong second half of 2011, with $194 million of free cash flow.

The timing of our accounts receivable collection, and work down of inventory, was not fast enough to offset the use of cash we had in the first half of 2011 to the degree we anticipated.

You may recall we had quite an increase in inventory in the first quarter last year, as we ramped up our factories to more level load activity in front of the summer selling season, as well as position equipment in our Company-owned distribution channel.

Given the level loading that took place last year, and the timing of some key accounts receivable collections, we anticipate a much better first half of free cash flow in 2012, relative to what we had in the first half of 2011.

Excluding the Kysor/Warren acquisition, working capital -- as a percent of trailing 12-months sales for the Company -- was 19%, compared to 17% in the year-ago period.

The quarter ending working capital ratio was 16.2%, compared to 15.5% at the end of the fourth quarter in 2010.

Looking at liquidity, cash and cash equivalents were $45 million at the end of December.

Our debt to EBITDA ratio was 1.9, ending the year within our target range of one to two times.

The total debt was $465 million at the end of the year, up $146 million from a year ago, and down $35 million from the third quarter.

We continue to be well-positioned with our balance sheet to continue executing on our strategic initiatives, and returning cash to shareholders.

We paid more than $36 million in dividends in 2011, and repurchased $120 million of stock, including $30 million in the fourth quarter.

We have a new $100 million stock repurchase authorization in place, and $20 million remaining under the prior authorization.

We are targeting $50 million of stock repurchases in 2012.

Before I turn it over to Q&A, I'll briefly talk about our outlook for 2012.

(Inaudible), our market assumptions for 2012 remain the same as we discussed at the Analyst Day in mid-December.

We expect North American residential and commercial (Inaudible) markets to be up low-single digits.

And we expect Europe HVAC and refrigeration markets to be up low single digits as well.

Based on these assumptions, our guidance for 2012 revenue growth is 2.6%, with a neutral impact from foreign exchange.

As discussed at the Analyst Day, there are several puts and takes we expect for 2012.

We continue to expect $20 million to $25 million in material cost reductions, through a combination of sourcing initiatives and engineering-led cost reductions.

We expect an incremental $10 million of savings from announced restructuring projects.

We currently project $15 million of commodity headwind in 2012, but offset by price.

We will see some carryover benefits this year from our 2011 price increases.

And most recently on the pricing front, we announced a 1% to 6% price increase in North America commercial that we began to push through in December.

North American refrigeration has announced a price increase of 2%, effective March 15th.

Regarding price -- product mix, we anticipate lower mix in the residential business to be a $15 million headwind this year.

And as incentive compensation as we loaded across the Company, and aligned with our 2012 performance targets, we expect variable SG&A to be up about $20 million.

The biggest factor overall, of course, is the macroeconomic uncertainty and the strength of consumers.

Our 2012 guidance for adjusted EPS from continuing operations remains $2.20 to $2.60 for the full year.

The GAAP EPS range remains $2.17 to $2.57 including the impact of announced restructuring activities.

As most of you know, the first quarter is by far our seasonally lightest period in the context of the full year, and in fact, we were in a loss position for the first quarter last year and in two of the last three years.

So far this quarter we have seen warmer weather than last year, with heating degree days down 32%, and this is having a negative impact on our residential and service experts business through January.

In commercial, what we are looking forward to continued strength with our new and existing customers in 2012, the timing of some national account businesses is expected to ramp-up in the second quarter and beyond, benefiting growth after the first quarter.

The final point I will make on the first quarter is that our material cost reductions of $20 million to $25 million for 2012 is back half loaded, as it will flow through the P&L more in the second half of the year.

To wrap up with a few other guidance points for 2012, we expect interest expense in 2012 to be approximately $20 million.

We anticipate a full year tax rate of 33% to 34%.

Our average weighted diluted share counts for the full year is expected to be approximately 51 million shares, and for capital spending we expect $55 million in 2012.

As we continue to focus on transformational investments in the business.

And with that, let's go to Q&A.

(Operator Instructions).

Our first question is from Jeff Hammond with KeyBanc Capital Markets.

Please go ahead.

Hi.

Good morning, guys.

This is Brett Lindsey, stepping in for Jeff.

(Multiple Speakers) Hi Brent.

Just on the commercial business, seems like you're seeing some resiliency there, you know, as you kind of look over the near-term any pockets of caution or -- or areas that might be showing some more strength?

And then just any color on traction within the national account business?

We continue to see good progress both in our commercial and our refrigeration business.

You know, as we have been saying over the last couple quarters, quarter rates have abated a bit from where they were earlier in 2011, but they're still positive, and we had a really good quarter in fourth quarter.

We talked about on the call that we added new national accounts in fourth quarter up to 20 for the year.

I think the additional color I would add on commercial, is strength in verticals of schools, even though those markets are down.

And the final point would be what Bob mentioned in his comments, is we still expect the market to be up low- to mid-single digits in 2012, but the timing of some national accounts will make that more second half -- second half of the year than first half.

Okay, great.

And then on free cash flow, it came in somewhat light versus our expectations as well as your at the December Analyst Day.

Maybe just some of the factors supporting the shortfall there.

Yes.

I think I pointed out in my comments up front we actually had a good second half of the year with $194 million in free cash flow.

Relative to our expectations, we definitely had some timing of accounts receivable collections that -- that drifted into January, and inventory ended up the year a bit higher based on some inputs as well as lower revenue relief.

Okay.

Great guys.

Thanks.

I'll jump back in the queue.

Thanks.

Question from Josh Pokrzywinski with MKM Partners.

Please go ahead.

Hi.

Good morning guys.

Hi Josh.

I just wanted to dig in a little bit on this revised EPA allocation for R-22.

Any impact that you're hearing from your contractor customers in the way that they're pitching dry-ship or any (Inaudible) -- obviously, formally, your expectations are unchanged.

Just trying to understand how that may color your thinking?

Yes, Josh.

Maybe I will broaden the answer for those on the line who aren't as quite tied into it as you are.

You know, we've had some movement over the last month or so, both from the DOE and from EPA, reference the R-22 dry charge issue.

One is a proposal reducing the allocation of R-22 refrigerant -- the amount that's able to be produced.

This has led to a spike in our 22 refrigerant pricing, almost triple in value on the street.

This is a recent development, so we're still evaluating how it's going to play out, Josh.

And another proposal's that manufacturers cannot sell R-22 condensing units that were not certified prior to January 2010.

This has no impact on us, because the R-22 units that we sold last year, and plan on selling this year, were certified prior to that date.

These two actions from the EPA and DOE are certainly steps in the right direction.

We don't think they'll have a big impact on 2012, given where we are now.

So -- are the guidance that we gave back in December of -- you know, the market moving from 20% R-22 dry charge to 25% R-22 dry charge is still our perspective.

But on the longer-term, this is good movement from the DOE and EPA on the loophole.

More needs to be done, though, and we continue to work with our peers, DOE and EPA on these, and related issues.

Okay.

And then maybe just one follow-up kind of competitively on the R-22 environment.

You know, obviously I know you guys are focused on your own business, but anything that you are seeing from competitors that suggests that there's a new approach outside of obviously trying to get into that market a little bit more thoroughly in 2012, that says there could be some additional share shift?

People either abandoning it or deemphasizing or maybe getting a little bit more aggressive?

I just -- anything that you've noticed over than the past couple month.

Short answer is no.

The longer answer is I wouldn't have expected -- or our guys wouldn't have a expected it to see it yet.

I mean, where we'll see it will be when we're going into the cooling season.

And so the R-22 market is really sort of emergency replacement over the counter.

Somebody's units breaks, and it's hot outside, and they have to replace it and that's what they go with.

And then, obviously, even with warm weather in January there's not a whole lot of that going on right now.

We will see this when we get into the summer time.

So, the answer, is we haven't seen anything but we wouldn't have expected to.

Okay.

Then just one final one.

Can you comment on how price yield has gone over the past couple, you know, months as well?

Obviously you have announced increases in yield underneath that.

Any change in what you saw earlier in -- first in what you saw earlier in 2011?

I think it's consistent with what we said back in December that, you know, we're going to have commodity headwind this year of about $15 million and we think we can fully offset that with price.

Residential, commercial and refrigeration all took price increases early in 2011, residential announced a second increase effective 3Q 2011 and commercial 4Q 2011.

Actually, last week, our refrigeration business announced another price increase starting mid-March of this year, and residential will continue to monitor the strength of the market and commodity movements.

As you know, it's a very competitive market, but we all face the same commodity issues, and with copper inching its way back towards $4 per pound, the industry has historically been able to capture priced offset commodity headwinds.

Alright.

I appreciate it.

Thanks, guys.

Thanks, Josh.

We have a question Robert Barry, UBS.

Please go ahead.

Hi, guys.

Good morning.

Hey, Robert.

Morning.

I'm sorry if I miss it.

Did you say what the mix was of R-22 in the fourth quarter?

No, we didn't.

Could you?

I'm looking.

Okay.

Someone showed me a 4 -- I am not sure.

That's for us.

4% for our residential.

Yes.

4% for our Lennox business and, again that ties -- Robert, as you know -- but for others on the call, the answer I just gave Josh, you know, fourth quarter, first quarter aren't really big R-22 quarters.

It's when you get into the summer time.

It was zero last year.

Yes.

Could you also tell us, year-over-year, how much operating profit pressure that Hearth business caused in resi?

Yes.

In 2011, we lost a little over $12 million on -- or approximately $80 million of revenue.

For 2012 we expect to improve conditions for the Hearth market as we think (Inaudible) is going to come back, and by the way we have seen that early in the year.

And we took -- have taken additional aggressive cost actions to significantly narrow the loss position in 2012.

That 2012 a loss in 2011, what was that in 2010?

A little over [$14 million].

Okay.

So it actually got a little bit better?

Correct.

Year-over-year?

And then, just finally, the SG&A was down a lot in the fourth quarter year-over-year.

How much that was just lower commissions due to lower revenues, things like that, versus the initiatives that you had taken?

The answer is it was both.

I mean people got less commissions and less bonuses, given the performance of the business, But lots of discretionary actions that we took across-the-board, so the restructuring actions that we talked about and -- and -- in the December meeting and we're going to see some of that bounce back in the next year, as we talked about back in December, that there's going to be $20 million or so of reinflation in SG&A because of some of those things, both in fourth quarter and across the year, the sort of one-time items.

Got you.

Okay, thank you.

Thanks.

We have a question from Adam Samuelson with Goldman Sachs.

Please go ahead.

Yes, good morning.

Gentlemen, I hope you can dig a little bit more into the working capital performance.

It looks -- the inventory at the end of the year not down as much -- actually up year-on-year in terms of a days perspective.

Any commentary you might have on what the implication is for the first quarter, given the weak resi selling season, and maybe your production levels in the first half, and maybe some fixed cost absorption there.

Yes, Adam.

If you go back and look, kind of, how we performed in 2011, we had a pretty significant ramp-up of inventory in the first half of the first quarter of 2011 and, as I think I pointed out in the earlier conversation or earlier points, the second half the year we did very well from a cash stand point, both working capital and overall.

We just didn't fully offset the ramp-up that we had in the first quarter of 2011.

As we go into 2012, we're already kind of at that ramp-up level.

We'll still have growth in inventory in first quarter as we get ready for the summer selling season, but not nearly the magnitude that we saw in first quarter of 2011 over fourth quarter of 2010.

Okay.

It just looking back, your inventory days in 4Q are the highest they've ever been, so I'm just trying to understand, some of that presumably is the change in the distribution infrastructure, but I'm just trying to understand the implication, just given the weaker resi volumes, here.

Yes, and I think it's that ramp-up that we had and just didn't bleed it all off in the -- in the second half of the year.

Didn't fully offset that.

Yes.

Okay.

And then maybe switching gears -- in refrigeration, the organic margins, if you flip back to Kysor/Warren about 400 basis points year-on-year, and maybe if you could provide a little bit more color on the drivers there, and break up some of the pieces as you do in the -- in the (Inaudible) between price mix, volume, SG&A and material costs.

Are you talking fourth quarter?

Yes.

First off, the (Inaudible) will be out probably in about a week and a half or so, and we'll have a lot of detail there.

Overall for the quarter, organic refrigeration did very well.

They got some nice benefits from price and mix combined.

I mentioned on the call price was up by, I think, two points overall for the quarter for that business.

We continue so see very good benefits in restructuring, from both SG&A and a factory standpoint, and we see some material cost savings occurred in the fourth quarter of this year.

Okay.

Is any of that restructuring associated with the Kysor/Warren integration at all, or is that purely on the existing business.

What I was just striking I guess so existing business.

Obviously, we're doing some integration restructuring within Kysor/Warren also.

Okay.

That's it for me.

I appreciate the time.

Thanks.

Thanks.

We have a question from Steve Tusa with JPMorgan.

Hey.

Good morning.

(Multiple Speakers) Hey Steve.

How are you.

Could you, you know -- you said 4% R-22.

Could you just clarify that a little bit?

Is that like total resi business so that includes like, it was obviously a higher number in your -- in kind of the value brands and then what did it finish out for the year as a percentage of volume?

I'm looking at data that's been handed to me, Steve.

I don't -- what did we say --

It was mid-teens, Steve.

Mid-teens.

Yes.

So -- and then you're kind of -- obviously, you have margin assumptions for next year in resi.

Are you thinking that that percentage goes up next year, or you're assuming it's kind of flattish?

Yes.

I think what we're assuming is that the industry is going to go from 20 to 25, and we will move with the industry as it moves from 20 to 25.

So we're going to get our fair share of R-22 as the industry moves.

Okay.

Great.

And then the first quarter commentary you made, I mean, obviously a pretty dramatic drop-off.

Last year you guys lost money.

Are you talking about revenues being down meaningfully?

I mean the distributors we talked to are talking about now that kind of sell-through is kind of flattish in January as you kind of move beyond these tougher comps.

How do they think about how bad or -- I guess how bad that performance is going to be in the first quarter.

Yes.

I don't want to get into giving any specific guidance on Q1, but as I pointed out, clearly weather is a big issue for us.

January the heating degree days down 32%.

I think it was 59-degrees in New York, it's 40 up in Milwaukee, and that's continuing into February and that's going to have an impact, and Q1 is historically very light.

Yes, we lost quite a bit in first quarter of 2011, but we lost money in two of the last three years.

Right.

So it's not dramatic, and the summer selling season Q2 and Q3 are really our main months.

Just remind, me what percentage of your business in, kind of, these winter months is heating versus cooling?

I don't have that data by quarter.

I would have to actually --

That's great.

Well then just for the year.

How much is heating versus cooling?

About 45% heating.

Great.

Across the year.

Right.

Okay.

I think that's -- I think that's basically it.

Thanks.

Thanks.

We have a question from Nigel Coe with Morgan Stanley.

Please go ahead.

Yes.

Thanks guys.

I just want to dig into the inventory.

You know, you mentioned the -- you didn't get into as much of the ramp-up as you had expected but, you know, I think we've kind of been dancing around this issue, you know, but in (Inaudible) first half, obviously, you haven't got to raise production as much as you normally would have, because you have inventories on hand, but I'm just wondering what does that do to your first half margins within resi.

Do we see a bit more pressure on that, just because of fixed cost issues?

I think it was anticipated in the guidance.

I mean, we knew we had a big ramp-up last year in first quarter and we weren't going to do it this year.

And then given, broadly speaking, our cost of goods sold is 80% material, 10% direct labor, 10% fixed overhead we're going to adjust the direct labor based on the volumes, so the absorption factor isn't the same other sort of fixed cost industries, so there will be some, but we anticipated it and sort of baked it into our guidance.

And then on the (Inaudible) obviously, the price increases -- hard to know how that's going to play out -- but I meaning should it theoretically, you know, drive a bit more replacement versus -- versus -- sorry -- drive more repair versus replacement?

I think it depends how far it gets inflated, right?

So there's -- right now, there's a compressor replacement as sort of the lowest cost option.

The option we want to drive them to is a complete system replacement with 410A, and then in between there is the dry charge, and the dry charge right now sort of close enough to the replacement in value that it's sort of an easy sell to replace the unit rather than repair the compressor.

If it gets inflationed enough, then all of a sudden we're talking to people about the distance from an R-22 dry charge to 410A system, it gets close enough that we can make that sale.

And, again, I -- you know when you're doing an R-22 -- or, excuse me, when you're doing a compressor replacement, if R-22 refrigerants has tripled or more in price, you're still going to have to recharge the system when you do the -- within the compressor, you're still going to have to add Freon, and more importantly, the consumer is still going to be exposed to that over time.

So, I think it's all goodness for the industry, because I -- we -- we think, both for the consumer and for the industry, 410A was the transition that needs to take place.

I don't know how much of an impact it's going to have on this year, but over the next few years, I think it's movement in the right direction.

Okay.

And you talk about low- to mid-singles on the commercial HVAC in 2012.

You're putting through a 2% to 6% price increase, which implies that your volume assumptions are fairly flat.

First of all, is that correct and secondly, is that volume 2012 a little bit too conservative.

When I talk about low-single digits, I'm talking about the industry, and I'm talking about unit volume, and so we didn't -- we don't give revenue -- we didn't give revenue guidance for our commercial segment for next year we just gave sort of color on the industry.

I see.

So the actual revenue should be a bit better than that.

If we hold and gain share, and the industry is up single-digits, we will do better than that in revenue.

Okay and then just one final clarification.

The $50 million R-22 headwind.

That's a revenue headwind, not an EBITDA headwind?

It's on a EBIT headwind.

It is.

Okay.

Thanks.

We have a question from Keith Hughes of SunTrust Bank.

Please go ahead.

Thanks.

This is Judy in for Keith.

Most of our questions have been answered, but we just want clarify on the goodwill asset impairment charges.

Were those all related to the Hearth business?

Yes.

They are.

Okay, alright.

Great, thank you is so much.

Thanks.

(Operator Instructions).

Our next question comes from Steve Tusa with JPMorgan.

Please go ahead.

Yes.

Sorry, I just had a couple follow-ups.

The first one was on R-22.

I mean, obviously, everybody had kind of a step down in profitability as the mix changed.

I guess what you're saying -- is that normalized now so, kind of, on a like-for-like basis if, you know, R-22 goes from 20% to 25% of the industry, as opposed to, whatever it was, 0% to 15%?

I mean, you know, do you feel like you've kind of -- you kind of weathered the majority of that storm, and then sorry what was the $50 million R-22 headwind?

I must have missed that.

Yes.

Good question.

Thanks for giving me a chance to clarify.

The movement of the industry going to 20% to 25% R-22, and our moving with the industry, is going to lead to a negative mix impact that we talked about in December of $15 million -- one five -- on our EBIT.

Okay.

$15 million on your EBIT.

Okay.

That's baked into your numbers.

Correct.

And we talked about that back in December.

Is that in our guidance that's quote under quotes old news.

Right.

Okay.

And then the other question just on kind of how you manage your inventories, you know, looking at kind of fourth quarter levels relative to -- to history and just seasonally speaking -- I mean how much of your kind of cooling season do you usually have in inventory, you know, in December?

You now, how do we think about kind of the seasonal dynamics about how you build inventory, i.e.

how relevant is your inventory level at -- you know, at kind of year end as a -- as a determinant of kind of of what you're going to do entering the cooling season?

You know, the it the inventory that we have in January -- step back.

You know, Bob talked about it and I -- the way I think about it is -- is last year, compared to prior years, we sort of changed our flow of how we produce the inventory, that we started earlier in the year first quarter and sort of ramped up early, both in refrigeration by the way and -- and in residential to sort of move level load our factories.

And then, as we went through the summer season, we then bleeded off and wanted to end the year at a certain level and what happened was the markets, especially in res, were softer maybe than what we thought, and so, therefore, we didn't bleed at all quite off.

Now, I think what you're leading to, it's really quite frankly a question of timing.

Now as we go into first quarter now, we aren't going to have the ramp-up in inventory that we had last year, because we came into the year with the inventory.

So we will bleed some of it off, more importantly, we're just not going to build at the same levels that we did last year in the first quarter, because we have the inventory already.

Right.

In -- in -- in the first quarter?

Correct.

So entering the cooling season it's not like you're going to be coming in there with a -- with -- with a ton of product, which is in with you make all your money any way.

Correct.

Rights.

Okay.

I think that's -- one more question.

Sorry.

On the commercial dynamics have you seen, you know, any kind of change in -- in appetite as far as customer behavior?

Obviously you had a good year this year.

You know, do you feel like there is still a little bit of, kind of, pent-up replacement demand?

How is that market kind of transitioning as we make it through kind of year two of growth there.

You know, it continues to chug along, Steve.

I mean, it's not sort of the 20% growth rates that we saw in first quarter last year.

But the backlog, the order -- order rates remain strong, and I think the thing that I am encouraged by is how broad it is.

It's national accounts and planned replacement, but it's also increasingly the [at once demand] that we've been focused on, it's verticals like schools and so I think it's a broad segment of the market that -- that we think continues to understand and have cash to make investments to lower their operating costs to buy our high energy efficient equipment.

Right.

And then just one more last question.

You know, just to make sure I understand what you're saying around demand (Inaudible) and price increases at residential.

You know, just to make that -- just to make sure I understand this correctly.

What you're basically saying is that it's not necessarily 2% to 3%, 4% price increase on equipment, that's only 50% of the contractor costs that, you know, that is kind of the destroys demand in resi, it's really when you have that installation cost that goes from, you know, $1,500 for the compressor repair, to $3,000 for the R-22 to, you know, $6,000 to $7,000 for, like, the full 410A system.

Is that the way to think about it obviously a 1% to 5% price increase on equipment costs that's only half the installation cost is, you know, is kind of peanuts in the end.

Yes.

I apologize if I said anything that implied it.

No you're exactly right.

What the consumer sees is the installed cost and -- or installed price and part of that is a big -- half of that is labor, half of that order of magnitude is equipment, and so that gives us pricing power as an industry, and we have seen that we've been able to do that.

The dynamic we have here that's made it more complicated, is this R-22 drive charge gives a consumer all-in price point that -- that has mixed us down as an industry.

Right.

Right.

Right.

Okay.

Thanks a lot.

Thanks.

Operator, next question.

We have a question from Adam Samuelson, Goldman Sachs .

Please go

Yes sorry just one quick follow-up.

The $15 million headwind from R-22 in 2012, what was the number in 2011 all-in for the year?

$30 million.

$30 million.

Okay.

Thank you very much.

Great.

Thanks, Adam.

At this time I will turn the conference back to Mr.

Todd Bluedorn.

Thanks, operator.

A few points to leave you with.

For 2012, commercial and refrigeration markets continue to look solid, and we have announced price increases that are being enacted in these markets.

We expect improved market conditions in residential this year, with low single digit shipment growth, and less mixed headwind than what we saw in 2011.

We will continue to drive our strategic initiatives across the Company for improved revenue and profit growth in 2012, and continue to focus on driving productivity across our business globally.

Thank you for joining us today.

Ladies and gentlemen, that does conclude your conference for today.

Thank you for your participation, and for using AT&T Executive Teleconference.

You may now disconnect.