Lennox International Inc (LII) 2012 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by.

Welcome to the Lennox International Q3 2012 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 call is being recorded.

I would now like to turn the conference over to Steve Harrison, Vice President of Investor Relations.

Please go ahead sir.

Good morning.

Thank you for joining us for this review of Lennox International's financial performance for the third quarter of 2012.

I'm here today with Todd Bluedorn, Chairman and CEO, and Joe Reitmeier, CFO.

Todd will review the key points on the quarter and Joe will take you through the Company's financial performance.

In the earnings release we issued this morning, we have included the necessary reconciliation for 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 website at www.LennoxInternational.com.

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

In addition, on the website you'll find revised 2011 and 2012 quarterly earnings statements and 2007 through 2011 annual earnings statements that show the effect of the Service Experts business moving to discontinued operations and the move of the Lennox national accounts services business to the commercial business segment.

On the call today, unless otherwise noted, the discussion and financial results will be based on continuing operations after the movement of these businesses.

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

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

For 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 any forward-looking statements, whether as a result of new information, future events, or otherwise.

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

Thanks, Steve.

Good morning, everyone, and thank you for joining us.

Let me take you through a few key points in the third quarter, and then Joe will discuss the financial results in a bit more detail and our outlook.

Total Company revenue in the quarter was up 3% at constant currency, led by 9% growth in our residential business.

FX had a negative 2% impact in the quarter.

Volume and price were up and mix was down.

Total segment profit margin expanded 150 basis points to 10% in the third quarter.

Adjusted EPS from continuing operations was $0.97, up 23%.

GAAP EPS from continuing operations was also $0.97, up 47%.

Free cash flow year to date through September was $36 million, compared to a negative $28 million in prior-year period.

We purchased $35 million of stock in the quarter and plan a minimum of $50 million for the full year.

In the third quarter, we also announced an 11% increase on our quarterly dividend to $0.27 per share.

This is a 30% payout ratio at the midpoint of our 2012 guidance.

In our residential business, segment profit was up 20% on the 9% revenue growth.

Residential continued to capitalize on the significant growth opportunities in new construction for us in the third quarter, with equipment revenue up more than 25%.

Equipment revenue from replacement business was up high single digits.

For the third quarter in a row, equipment sales outpaced replacement parts and supplies.

Our residential business continued to see some downward mix pressure in the quarter.

There were several reasons for this.

First, new construction continued to grow faster than replacement business and new construction tends to have a higher mix of minimum efficiency systems.

Second, we continue to have some mix down within our cooling products to more minimum efficiency.

Overall, 13 SEER shipments increased two points above the prior-year quarter to 65% of cooling product shipments.

And finally, a relatively warm month of September led to more cooling and less heating product shipments than in the prior-year quarter.

However, we saw continued good news in R-22 shipments.

They were down in the quarter, and we now expect them to be flat to slightly down from a year ago on a full-year basis.

You see this in our revenue growth numbers as we are doing better on system sales from a year ago.

Pulling together all these pieces, we had faster growth in new construction versus replacement, continued mix down in replacement, flat to slightly down R-22, and a higher overall residential revenue.

Our guidance for mix headwind has increased from $15 million up to $20 million for the full year.

In the third quarter, residential continued its strong performance and has significantly outpaced the market this year.

October is off to a good start, but seasonally it is the lightest month of the fourth quarter for shipments.

With weather turning cooler across North America and heating season setting in, we are focused on continuing the momentum we have seen this year in residential.

Turning to our commercial HVAC and refrigeration businesses, as I mentioned on webcasts and conferences in September, we were seeing some national account business in North America pushed out to the right.

As a result, we expected the third quarter to be lighter and the fourth quarter to be stronger.

This still looks to be the case.

For commercial, in the third quarter revenue was up 1% at constant currency and segment profit was up 5%.

North America commercial revenue was down low single digits.

While some national account plan replacement business saw pushouts, we continue to gain momentum with our growth initiative in the emergency replacement market and see continued success with our Landmark product line.

In Europe, revenue was up high single digits at constant currency.

The team has done a good job there of capitalizing on growth opportunities, especially in eastern Europe, despite the macroeconomic environment and uncertainty overall for Europe.

In refrigeration, revenue was down 6% at constant currency, but profit was up 22% on strong execution of operational initiatives.

As I mentioned, we saw some national account business move out to the right.

We therefore expect a stronger fourth quarter than third quarter in North America.

In Europe in the third quarter, we saw some slowing and revenue was essentially flat at constant currency.

Our other regions saw nice growth.

Before I turn it over to Joe, let me make a few points on our strategic initiatives.

In residential, we continue to expand our Lennox PartsPlus stores across North America as part of our HVAC growth strategy.

We added 30 new locations in the third quarter and are now up to 100 of these wholesale stores.

We are targeting adding another eight locations in fourth quarter.

Among the benefits, the PartsPlus stores are helping us gain market share by capturing new business with non-stocking HVAC dealers, as well as better serving all dealers with equipment and parts, supplies, and accessories.

In Australia, we have focused our refrigeration operation on several initiatives to help drive growth, including growing refrigerant sales and our wholesale business in that country.

We are seeing some success with this initiative and are making further investments to support the growth in that market.

In Europe, we continue to look at the opportunities on a regional basis to further improve productivity for our commercial HVAC and refrigeration businesses, as well as to best support our growth in that region.

And finally, regarding Service Experts, we announced in third quarter we plan to divest this nonstrategic business.

We are affiliated with thousands of independent dealer contractors serving the residential and light commercial market across North America with our Lennox and Allied brands of equipment.

Service Experts consists of 108 dealer contractor branches, and strategically, it is not necessary for us to own them.

With the recovery in the North America residential market this year and the interest we've had from potential acquirers, we are planning to sell this business, as well as establish a supply agreement for our equipment with the future owners of Service Experts.

At this time, I will just say that we're making good progress towards the sale of the business and we will keep you updated as appropriate.

Now I'll turn it over to Joe.

Thank you, Todd.

I'll provide some additional commentary on the business segments for the quarter, starting with Residential Heating & Cooling.

In the third quarter, revenue for Residential Heating & Cooling was $386 million, up 9%.

Volume was up 12%, price was up slightly, and mix was down 3%.

Currency was neutral.

Residential segment profit was $38 million, up 20%.

Segment profit margin was 9.8%, up 100 basis points.

Results were primarily impacted by higher volume, lower material costs, productivity initiatives, and favorable price, with offsets from mix, higher SG&A expenses, and investments in distribution.

Turning to our Commercial Heating & Cooling business, in the third quarter commercial revenue was $220 million, down 2%.

Volume was flat and price and mix were up 1%.

Currency had a negative 3% impact on the revenue.

North America commercial HVAC revenue was down low single digits.

Europe commercial HVAC revenue was up high single digits at constant currency, but down mid-single digits at actual currency.

Commercial segment profit was $33 million, up 5% from the prior-year quarter.

Segment profit margin was 14.8%, up 90 basis points.

Results were primarily impacted by favorable price mix, lower material costs, and productivity initiatives, with an offset from higher SG&A expenses.

In our Refrigeration segment, revenue in the third quarter was $204 million, down 9%.

Currency had a negative 3% impact, volume was down 12%, and price mix was up 6%.

On a regional basis in constant currency, South America was up mid-teens, Asia-Pacific was up high single digits, Europe was down low single digits, and North America was down mid-teens on the timing of national account business.

Segment profit was $25 million, up 22%.

Segment profit margin was 12.3%, up 310 basis points.

Refrigeration results were primarily impacted by favorable price mix, lower material costs, and productivity initiatives, with offsets for lower volume and higher SG&A expenses.

Turning to discontinued operations, Service Experts moved to discontinued operations this quarter due to our previously announced intent to divest the business.

Service Experts' revenue, excluding national account services, was $98 million in the third quarter, down 18%.

On an operating basis, Service Experts had a pretax loss of $5.9 million, or a loss of $0.08 per share.

This compares to revenue of $120 million and a pretax profit of $3 million, or $0.04 per share, in the prior-year quarter.

Service Experts also had goodwill impairment of $17.7 million after tax in the third quarter of 2012.

Discontinued operations in the third quarter also included a $1.1 million after-tax gain, primarily related to the final working capital adjustments from the divestiture of our hearth business in April 2012.

Not included in discontinued operations, to be clear, is the Lennox national account service business.

This business was formerly reported within the Service Experts business segment, but now is reported in the commercial business segment.

Any asset revenue of $23 million in the third quarter and EBIT margin of 12.8%.

Looking at special items in the third quarter for continuing operations, the Company had $300,000 in after-tax restructuring charges, $900,000 after tax for the net change in unrealized gains on open futures contracts, and a $600,000 after-tax charge for other items.

Corporate expenses were $14 million in the third quarter, down from $15 million in the prior-year quarter, and for 2012, our corporate expense guidance remains $65 million to $70 million.

Overall, SG&A was $126 million in the third quarter, up 3% from the prior-year quarter.

For the first nine months of 2012, SG&A is up 2%.

For the third quarter, cash from operations was $75 million, compared to $140 million in the prior-year quarter, on the timing of working capital changes.

Capital spending was $12 million in the third quarter, up from $8 million in the prior-year quarter.

Free cash flow was $63 million in the third quarter, compared to $132 million in the quarter a year ago.

Free cash flow year to date through September was $36 million, compared to a negative $28 million in the prior-year quarter.

Cash and cash equivalents were $49 million at the end of September.

Our debt to EBITDA ratio was 1.7 ending the quarter.

Total debt was $481 million at the end of the quarter, down $48 million quarter over quarter and down $19 million from a year ago.

Before I turn it over to Q&A, I will briefly talk about our full-year outlook for 2012 with one quarter to go.

Looking first at our market assumptions, we continue to expect North America residential HVAC shipments to be up mid single digits for the industry.

Our residential business has clearly outpaced the industry for the first nine months of 2012, with shipments up 12%.

For the North America commercial unitary market, we continue to expect industry shipments to be up low single digits in 2012 and we continue to expect Europe HVAC and refrigeration shipments to be up low single digits as well for the industry.

Based on these assumptions and the Company's performance year to date, as well as the effect of Service Experts moving to discontinued operations, we are adjusting our 2012 guidance.

Revenue growth at constant currency increases from range of 3% to 6% to a range of 5% to 7%.

We continue to expect a negative one-point impact from foreign exchange on a full-year basis, resulting in revenue growth guidance of actual currency of 4% to 6%.

We had previously expected commodity headwind on a full-year basis of $10 million to $15 million and said that we would capture price to offset that.

We still expect to capture price in that range, but we now expect a commodity headwind of approximately $5 million for the full year, largely due to the decline in steel prices.

Residential mix, however, as Todd discussed, is now expected to be a headwind of approximately $20 million for the full year versus our previous estimate of about $15 million.

Our global sourcing and engineering-led cost-reduction programs are on track, and we still expect $20 million to $25 million of savings for the full year.

For SG&A, we still expect about a $20 million headwind this year, based on the higher commissions and the reinflation of other variable incentive compensation aligned to 2012 performance targets.

Our guidance for adjusted EPS from continuing operations moves from a range of $2.35 to $2.65 to a range of $2.60 to $2.80.

The midpoint of the guidance range increases from $2.50 to a midpoint of $2.70 for the year, which is up 20% from $2.25 last year.

Our GAAP EPS from continuing operations guidance range increases from $2.30 to $2.60 to a range of $2.55 to $2.75.

The weighted average diluted share count guidance for the full year remains approximately 51 million shares.

We will expect our full-year tax rate to be 33% to 34%, and for capital spending, we still expect approximately $55 million for all of 2012.

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

(Operator Instructions).

Robert Barry, UBS.

I just wanted to make sure I understood all the moving pieces in the guidance.

I mean, the midpoint is going up $0.20.

Could you tell us what the impact is from moving Service Experts out?

Yes, I guess I'd probably think about it this way, if I understand the question you have, Robert -- I assume others have it, too -- is a couple points.

One is from the guidance we had on the table before the $2.35 to $2.65, Service Experts deteriorated in third quarter versus that guidance that we gave last time.

And in our continuing operations, everything else, reflecting the strong Q3 that we had, the new guidance is very much in line, maybe even slightly up, versus the guidance we had on the table before for the continuing operations.

Okay, got you.

So adjusting for Service Experts, just so I'm clear, the continuing op guidance for the other three businesses is about the same now as it was before?

Correct.

Okay.

And then, I just wanted to clarify also what the guidance implies for the variable SG&A that I think was a negative $20 million in your original outlook?

Yes.

I mean, Joe sort of called it out in the script.

We still expect it to be $20 million of headwinds from reinflating incentive comp in 2012.

Okay, and then just finally, on the -- you had alluded to the PartsPlus stores helping to drive market-share gain.

I know a while back you had quantified that as about half of a $25 million EBIT benefit expectation.

I was just curious kind of how you were tracking versus that or if you could just dimension that share gain a little bit.

Thanks.

Let me punt a little bit, Robert.

I think the short answer is we've gained significant share this year in Lennox residential, and it's often hard to sort of break out the different pieces of what's driving it.

At the December analyst day, we'll take a crack at that and sort of give a little bit more insight onto some of the drivers.

But the short answer to your question is we're seeing a share gain in Lennox PartsPlus even better than what we had hoped when we put them in place.

Steve Tusa, JPMorgan.

Could you just give us a breakdown around what your housing business did, and then what the R-410A systems, if you can do this, sold into replacement markets did in the quarter?

New construction in resi was up 25% year over year.

What was the second question?

The second question was, I guess, just that there's a lot of moving parts around R-22 and 410A, and so I'm just curious.

R-22 obviously is coming in weaker than expected, so I'm just curious as to 410A.

R-22 as a percentage of the mix, as we said on the call, was down in the quarter versus a year ago, and we had been calling all along for it to be 25% of the mix this year.

We're now saying it's going to be flat.

More likely, it's going to be down.

On a year-to-date basis, it's down versus last year.

Okay.

In terms of the systems sales of 410A, I understand the question.

It's a little hard to calculate sort of all the pieces and sort of how they attach, but I think you can look at our volume growth, 12% in the quarter, and I think that's reflecting the fact that we're tying together systems sales and getting furnace volume versus last year's second and third quarter where we didn't.

Right, so what do you think, just to guess?

Are installs of 410A, you know, just condensing units?

I'm just trying to get an idea around the consumer's mindset.

Are those -- you've got housing up, which is a big help, obviously.

You've got R-22 down.

Does that mean the 410A replacements, you know, the condensing units, are up?

And if they are, it seems like it's kind of low to mid single digits.

Is that right?

Our add-on and replacement for the quarter was up high single digits, and so we have 25% in new construction portion of our business, up 9% in add-on and replacements.

And if you do all that weighted math (multiple speakers)

Then you get to the 12%.

Yes.

And we were flat to down on parts, so you sort of roll that and you get to weighted average.

Okay, that's perfect.

As far as price cost is concerned, obviously you're getting a little more of a benefit here.

How does that kind of roll forward into next year, the way your hedges work?

Do you already have a benefit dialed in?

And also, what's the approach on upcoming pricing into next year?

We always try and get price in the market, and part of that will -- as we roll into 2013, we'll have more visibility on the end markets.

It's early on 2013, although I guess it's getting later as we get closer, but if spot prices on copper and market prices on steel stayed where they are today, we'd have some tailwind going into 2013 from commodities.

Okay.

And then, one last question.

You guys are a big -- a relatively, I think, larger furnace play here.

You guys have a very, I think, easy comp to a warm winter last year.

There's also the furnace regulation, I guess, that's coming up and changing.

We've heard that some of the newer furnaces are a lot more expensive to install.

Do you think you're going to see any kind of pre-buy associated with that here in the fourth quarter as contractors tell people that the 80% is obviously a lot cheaper than the 90%?

And the second question, I guess, is do I have that wrong?

Am I getting kind of the wrong information from the channel on that?

Let me come at it this way.

I don't think it's more -- at least with our product line, it's not more expensive to install our new furnace versus our old furnace.

A 90% efficient furnace costs more and the street price is more than an 80% furnace, that is certainly true.

But I think the more fundamental point is the way the implementation of this efficiency change is being implemented in the field is different than in the past.

Where in the past it was implemented at the OEM level, which is you couldn't make them after a certain date, which means there's real incentive for distributors and, to a lesser degree, dealers to sort of stock up on the units, which drove a pre-buy.

While DOE is still sort of fine-tuning the implementation details and we're waiting for them, and parenthetically, may delay the implementation since we haven't gotten them yet, but the way we understand it right now the way the implementation is going to work is the dealer can no longer install them after the effective date.

So any pre-buy would have to be the consumer deciding to buy a furnace and having it installed prior to the implementation date, and that's a lot less likely.

People just don't pull forward their decisions to replace furnaces until they have a reason to.

Yes, I guess what I've been hearing is that the new furnaces are -- because you have to clean out some pipes or something like that, that they're a couple times more expensive to install.

And so my point was, if contractors were going to come to somebody today, they wouldn't just fix it, they'd say, look, it's going to be a lot more expensive to replace a couple years down the road, so just do it now.

I guess what you're saying is that that's not the case.

I'm saying it may happen on the margins, but our experience is consumers, even a dealer they trust or a contractor they trust, if the furnace is working, to have someone tell you to put it forward because -- they're not likely to do that.

Right, okay.

Thanks.

Jeff Hammond, KeyBanc Capital Markets.

So just back to the moving pieces in the guidance because I -- the guidance at the midpoint is going up by $0.20.

I think just year to date, if I did the math correct here, your Service Experts that you pulled out was about $0.29, excluding, I guess, the goodwill.

So it just seems like that that's more than the guidance revision up, so just help me to understand that.

And then, just on the revenue growth going up two points, how much of that is again kind of pulling out Service Experts, which has been down, versus maybe you can talk where your underlying revenue growth is going up in the remaining businesses?

I think it's what I've said before, Jeff, that we were disappointed in third quarter with the Service Experts performance, and so the guidance we had on the table, even when we reiterated three weeks or four weeks ago when we announced Service Experts we were disappointed on the outcome of third quarter for Service Experts, and I think that sort of helps explain some of the math that you're looking at.

On the revenue side, it's largely Service Experts coming out because we're down year to date and expect to be down second half of the year, and the way I think about sort of the color within the core businesses, resi is probably a little stronger than what we had thought, but the commercial businesses during the second half of the year were probably a little softer than what we thought.

But net net in the core business, our continuing operations revenue is about what we thought was going to be with the prior guidance.

So it's really -- that's a lot of words, but the long and short of it is the change both in earnings and in revenue guidance is exclusively, or a very, very large part, driven by Service Experts being taken out.

Okay, perfect.

And then, you talked about all the timing issues in national accounts, and on the same token it sounds like you're seeing some commercial softness.

So what's kind of just timing versus your customers maybe starting to act differently, whether it be macro uncertainty or otherwise, versus just things moving around quarter to quarter?

You know, our sense right now is it's timing of things being pushed out.

And again, we keep asking ourselves, does this feel like 2008, 2009?

It doesn't.

We're still getting strong signals from our large national account customers, and we saw some pushout really in the grocery segment in North America in our Refrigeration business, some pushout in North America commercial in our HVAC business, but the orders and the backlog appear solid for fourth quarter.

We're talking to our customers all the time, and so far, so good.

Okay.

And then, just final question, and maybe this is jumping the gun a little bit.

But I think you mentioned as you think into 2013, maybe if commodities stay where they are, that's a tailwind.

But can you talk about maybe just some of the things that, as you move into 2013, whether it be restructuring or how you think about these PartsPlus efforts and kind of the savings there, maybe what you're still doing on the sourcing front, maybe just some of the things that you can control moving into 2013 that you feel good about relative -- regardless of what the market does?

And certainly if there's any headwinds against that, point those out as well.

And as you well know, Jeff, in mid-December we'll give more chapter and verse.

But let me give you a couple high-level things to think about.

As we continue to focus on the sourcing initiatives and the engineering-led cost reductions, like moving from copper to aluminum where possible, for example, order of magnitude we currently expect a comparable level of savings of 2013 that we saw in 2012, $20 million to $25 million.

As I said earlier, due to the nature of our hedging program if everything stays where it is right now in terms of pricing in the market for copper and for steel, we would expect that to be a tailwind in 2013.

We target SG&A to grow at half the rate of revenue, and sort of the reinflation we had this year from long-term incentive comp, we won't have next year, so we won't have the headwind next year.

So if revenue goes up, you'd expect a bounce in the margins of SG&A as a percentage of sales improving.

And then, sort of the broader answer to your question around PartsPlus, around product introduction to include control systems, to include the continued development of our furnace product line up in residential, the advances in energy efficiency both in our commercial HVAC and refrigeration businesses, we've gained a pretty significant share for us this year and we expect that momentum and the investments that we've made to continue in 2013.

Okay, great.

Thanks, guys.

Keith Hughes, SunTrust.

The business that you discussed, national accounts business, that was pushed out in commercial, do you think that will come back in the fourth quarter or it could be early 2013 before that's realized?

You know, right now when we talk to the customers, Keith, we think while we were down in that segment of the business in third quarter, we think we'll be flat to slightly up in fourth quarter.

So the short answer is we think some of it has been pushed out to fourth quarter.

So I mean, your revenue guidance, if I interpolate, you should be having a big fourth quarter in revenue.

Can you just kind of walk through the three segments and what do you think, at this point, the fourth quarter will look like in terms of revenue growth?

Again, we don't give quarterly guidance, but I'll sort of high level just reiterate --

Yes, that's fine.

-- the things we said in the script, which is we've had good momentum in resi and we think that continues, although it's weather driven and as we go into the heating season, it needs to cool down.

But we're off to a solid/strong October.

We have to see what happens in November and December, and December is our biggest month so there's still a lot in front of us.

In the commercial side of the business, we talked about -- and I'll lump commercial, HVAC, and refrigeration together -- we saw a strong planned replacement in third quarter.

We think that continues with some of the initiatives we put in place, both on the product side and on distribution.

We saw solid Europe actually up for us in third quarter, and we think that, given what we see on orders and backlog, that continues in fourth quarter.

And then, sort of the wild card is this national accounts, which is obviously a big piece of what we do in North America.

And as we talk to customers, we think that's going to be flat to slightly up after being down in third quarter.

Okay, final question in residential, can you talk about the pace of business in the quarter?

Did it accelerate, decelerate?

What's your view there?

Yes, you know, our September was in line with our July and August.

We didn't see anything drop off.

We sort of saw a pretty linear quarter for us.

Rich Kwas, Wells Fargo Securities.

A bigger-picture question just on use of the balance sheet.

I know the focus is to keep that pretty healthy and you're going to be buying back stock, but considering Daikin and the move there with Goodman, does that change your philosophy on either increasing scale, whether it's here or internationally?

I don't think it changes anything we've said in the past, Rich.

We will keep debt to EBITDA just a little bit south at two.

We'll give money -- or we'll invest in the business.

And we think we'd be someone who could naturally consolidate the industry, and where it would make sense, we would do that, whether it's in North America resi or North America unitary or globally on our refrigeration business, but we're not going to sort of jump into a deal just because Daikin bought Goodman.

For the right deal that could create shareholder value, we'll pull the trigger, like we did on Kysor/Warren.

But in lieu of that, we'll give the money back to shareholders in dividends and share buyback.

Internationally, are you seeing any greater opportunities in Europe, considering the landscape over there?

I know you're performing fairly well, but just given the competitive landscape, what are you seeing out there in terms of opportunity?

(Multiple speakers).

Yes, I think, there's clearly more properties where people are interested in doing a deal.

I think we just have to be very particular about what we would do in a market like Europe.

I think doing the right deal could get us to critical mass and that could make a lot of sense, but at the same time, I think our strength's in North America, our strength's in our refrigeration business, both in Europe and around the world, so I think we'd just have to find the right opportunity, and if we did, we'd pull the trigger.

Okay, thanks so much.

Josh Pokrzywinski, MKM Partners.

Just a couple of follow-ups here.

Most of the questions have been asked.

But I just want to understand the net net of some healthy volume outgrowth, and I think some of that coming from maybe a little bit overweight in the resi new construction side, just how you guys net out the mix headwind versus kind of year-to-date share gains.

Should I think about that as a neutral on the year or maybe a slight headwind on that?

Just maybe some color on that.

I think if I understood the question, we love when we grow with new construction.

And so, it creates -- we called out mix, so we continue to call out that number.

But even though the number may go from 15 to 20, in part because of the move -- residential new construction growing faster than add-on replacement, it's accretive to our EBIT, Josh.

We like it, it's good business for us, and we want to grow it as fast as we can.

Okay, so I -- just to make sure I understand the question right, resi new construction, even though it's all R-410, is dilutive from a mix perspective?

It tends to be a higher mix of 13 SEER, that's the reason, right?

So when you look at your mix of entry level versus non-entry level, RNC is a less rich mix, if that's the right way to frame it, than AOR.

Got you.

I guess I was under the impression that the market was so heavily biased toward 13 SEER that that would be kind of a small needle mover at this point.

No.

I mean, in add-on replacement, you know, we give overall numbers, but a third to a half of the market is still premium product, and so that's still -- and in dollar value, we think about half the market is above 13 SEER.

In unit, it's more like a third, but there's still a large part of the AOR that's above 13 SEER, add-on and replacement that's above 13 SEER.

Got you.

And just a second one here, and maybe the data is hard to come by, but it seems like some of the strongest weather support and the strongest replacement part of the season came from kind of Northeast, Midwest, with some of those heat waves, and then maybe the Sunbelt was a bit more normalized.

Do you guys think you picked up share from just where you guys are relative to some other players in Florida and Texas and Georgia versus your strengths in maybe the northern part of the country, and should you think about that as a potential headwind into next year?

I guess just any data you have out on that or feedback from distribution.

No, I mean, I understand the question.

But there are markets where we have historically not been strong -- as strong as we are sort of in the central Midwest.

We had a very good summer, so I think obviously weather helps.

But I really think it's the things we're doing.

I think it's the investments in the PartsPlus stores.

I think it's the investments that we've made in new product, like our new furnace product line and our new icomfort Wi-Fi control system.

I think, quite frankly, it's -- this is a game where share -- you can either gain share because you do things right or the other guys do things wrong.

I think some of our competitors, pretty well publicized, have sort of stumbled at different times over the last 18 months, and I think we've taken advantage of that.

Got you.

That's helpful.

And then, just one last one, on commercial new construction, any signs of less [vad] there or does that remain challenged?

And I guess, to the extent that there is any new construction there, what kind of properties are you guys seeing activity in -- or verticals, I mean?

You mean, commercial new construction or residential new construction?

Yes, commercial new construction, or what's left of it.

Yes, I mean, we -- again, as you know, we play in unitary.

We're seeing some growth in the verticals that we play in, most specifically some of the retail segments.

You know, again, I'm not sure how long that continues as we go into 2013, but we've grown there.

As you know in our commercial HVAC business, we've flipped from where we were three or four years ago.

We're now a little over two-thirds replacement market, rather than new construction.

So while new construction matters to us, we're a lot less exposed to that than we were just a few years ago.

Sure.

All right.

Thanks, guys.

Sanjay Shrestha, Lazard Capital Markets.

My first question, I know you don't give the quarterly guidance, but given that we're now really one quarter left of the year, can you touch on some of the puts and the takes as to low end versus the high end of the EPS guidance?

You know, what are the things you guys are thinking about as low versus the high?

You know, I think sort of the big variable would probably be commercial end markets, both commercial HVAC and refrigeration.

I think maybe secondary, although order of magnitude maybe the same lot, same level, would be residential.

As we talk about, we have a week backlog, if you will, or a week forward look on our markets, so as we go into November and December there's still a lot of uncertainties.

I think on the cost side, we understand the equation pretty well and the productivity initiatives are all kicking in, so I think it's more about unknowns in the marketplace.

Got it.

So one follow-up, if I may.

On the refrigeration side, I think, Todd, you talked about some of the strategic initiatives and bookings and backlog kind of getting better.

So when we really look into 2013, right, so should -- is it fair to expect, given some of the internal initiatives and everything you guys are trying to do, that that business should actually have a topline growth year over year?

Well, we haven't given 2013 guidance yet, but I think, if I understand the question, could I expect refrigeration to grow next year, the short answer is absolutely.

I think we have a great business there.

We're winning in the marketplace.

The acquisition we've done on Kysor/Warren in North America is gaining traction.

So yes, the short answer is I could, but that's a lot driven by the macroeconomic environment (multiple speakers) sort of how things shake out.

Sure, so then on the Europe, right, you guys have been sort of having a volume growth in that market, given the sort of European environment.

So the question is how sustainable that is in Europe, and then, two, is that strictly coming from the market-share gain for you guys and if there's anything you could share with us?

Yes, I think it can continue.

You know, as we said before, we have a small position in Europe compared to the overall market in HVAC and in refrigeration, so it's possible for us to sort of outrun the market.

That's number one.

Number two is our strength is France east, not France south, and so what I mean by that is we have a position in Germany in our process cooling business and we've seen growth in eastern Europe and Russia in both businesses.

Projects there are still getting financed and we're still growing.

That's all I had.

Thank you so much, guys.

(Operator Instructions).

Glenn Wortman, Sidoti & Company.

Can you just help us better understand the margin improvement in refrigeration, up 310 basis points year over year?

Sales were down, I think, 9%.

Operationally, we had a very good quarter in refrigeration with productivity, lower material costs, as well as a focus on improving mix and price in the quarter.

I mean, the material cost reduction is $20 million to $25 million.

We talked about how that would be second half of the year, and a large chunk of that was in our refrigeration business and we're bearing or reaping the fruits of our labor.

Again, we'll remain focused on strong operational performance and driving initiatives to continue to win with our refrigeration business.

And then, just a longer-term question, do you think you're still on track for your segment profit margin targets for 2014 for each of your businesses?

Glenn, lots of moving pieces, given that we took SEI out of the mix.

We'll update all that in December.

I think the point about operationally, whether it's material cost reduction, whether it's mix, whether it's share gains, we're tracking as we hoped we would, I think the update that we'll give on the core business will be what do we think the market is doing and what's the revenue topline going to look like, driven by how the external market performs.

Okay.

Thank you very much.

Thank you.

And there are no further questions in queue, so I'll turn it back to Mr. Bluedorn.

Thank you, operator.

I guess I'll leave you with a couple key points.

We're strong growth in both new construction, replacement business.

Our residential business significantly outperformed the market this year, and we look to continue that momentum in Q4 and beyond.

Fourth quarter is off to a good start.

We saw strong margin expansion in our commercial and refrigeration business in third quarter.

The topline growth was affected by the timing of national account business.

Our backlog and order rates look solid for these businesses, and we expect the fourth quarter to outperform third quarter.

With Lennox competitively well positioned and winning in the marketplace, we look forward to the fourth quarter of 2012 and on into 2013.

I want to thank you all for joining us today.

Thanks, operator.

Thank you, and 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.