馬斯科 (MAS) 2018 Q1 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to Masco Corporation's 2018 First Quarter Conference Call. My name is Regina, and I will be your operator for today's call. As a reminder, today's conference call is being recorded for replay purposes. (Operator Instructions)

I would now turn the call over to David Chaika, Vice President, Treasurer and Investor Relations. You may begin.

Thank you, Regina, and good morning. Welcome to Masco Corporation's 2018 First Quarter Conference Call. With me today are Keith Allman, President and CEO of Masco; and John Sznewajs, Masco's Vice President and Chief Financial Officer. Our first quarter earnings release and the presentation slides that we will refer to today are available on our website under Investor Relations. Following our remarks, we will open the call for analysts' questions. Please limit yourself to one question with one follow up. If we can't take your question now, please call me directly at (313) 792-5500.

Our statements today will include our views about our future performance, which constitute forward-looking statements. These statements are subject to risks and uncertainties that could cause our actual results to differ materially from the forward-looking statements. We describe these risks and uncertainties in our risk factors and other disclosures in our Form 10-K and our Form 10-Q that we filed with the Securities and Exchange Commission.

Our statements will also include non-GAAP financial measures. Our references to operating profit and earnings per share will be as adjusted, unless otherwise noted. We reconcile these adjusted measurements to GAAP in our earnings release and presentation slides, which are available on our website under Investor Relations.

With that, I'll now turn the call over to Keith.

Thank you, Dave. Good morning, everyone, and thank you for joining us today. Please turn to Slide 4. We had a good start to the year as our top line grew 5%, excluding the impact of currency. Our operating margin decreased 160 basis points in the quarter, mainly due to the planned growth investments we discussed last quarter in our Plumbing and Cabinetry segments and a lag in our price/cost relationship in Plumbing and Cabinetry. We are confident that we will leverage these strategic growth investments to achieve profitable growth and margin expansion in the second half of the year.

Additionally, we have implemented price increases across all our segments, and we expect our price/cost relationship to improve starting in the second quarter. While our operating profit declined, our adjusted earnings per share grew 13% to $0.45 per share due to lower interest expense and the benefit of the recently enacted tax reform. I'd like to provide you with some additional insights into the drivers behind each of our segments performance, starting with Plumbing.

Our Plumbing segment grew 11% or 6% in local currency. North American Plumbing grew 9%, led by Delta Faucet and Watkins Wellness, our leading spa business, and the acquisition of Mercury Plastics. Delta's performance was led by its high-end Delta and Brizo showroom brands in the wholesale channel, strong growth in the e-commerce channel and a strong -- and strong sales from its recently relaunched Peerless brand in the retail channel.

Watkins Wellness drove high single-digit growth as they leverage their expanded product offering through their existing dealer network and through new channels of distribution.

Outside of North America, our international plumbing operation achieved 3% growth in local currency, led by Hansgrohe, our leading international faucet and shower business. Hansgrohe continued to drive growth in both China and Germany, with particular strength in its premium Axor product line.

Decorative Architectural segment sales increased 10% due to continued growth from both Behr and Liberty as well as the Kichler Lighting acquisition, which closed in early March.

Kichler integration is going well, and I'm pleased to announce that Kichler recently received recognition for its product innovation, receiving 4 ADEX awards for superior innovation, design and aesthetics, highlighting Kichler's fit with Masco and our focus on brand innovation and service. Congratulations to the Kichler team on this great recognition.

Our Pro paint sales experienced strong growth in the quarter, and together with The Home Depot, we began another expansion of this initiative. As we discussed last quarter, we are recruiting and hiring additional Pro hub store employees and outside Pro reps, demonstrating our commitment to continuing to invest in this successful program.

Turning to Cabinets. Our repair/remodel sales grew mid-single digits, delivering another quarter of strong performance. We also made great progress executing on the program launch of our new Menards business by resetting over 300 stores with new displays that showcase our Cardell brand. Initial sales of this program are strong, and we're confident that we'll reach the $80 million annual sales run rate by the fourth quarter of this year.

Our Windows segment grew 12%, excluding the impact of the divestiture of Arrow, led by mid-teens growth from Milgard, our leading Western North American window business. Milgard experienced strong demand for its products across all its markets in the Western United States as its value proposition and strong brand continued to resonate with dealers and consumers. Our U.K. Window business offset a portion of this growth due to softness in the U.K. economy. Additionally, the bottom line was impacted by restructuring actions taken in the quarter.

We also continued our share repurchase activity in the quarter by buying back 3.7 million shares for $150 million through an accelerated share repurchase plan. With this recent buyback activity, we now expect to deploy at least $100 million to $150 million for share repurchases or acquisitions for the remainder of the year.

Our first quarter results were in line with our expectations, and we are on track with our plan for the year. We affirm our expectation to achieve earnings in the range of $2.48 to $2.63 per share.

Now I'd like to turn the call over to John, who will go over our operational and financial performance in detail. John?

Thank you, Keith, and good morning, everyone. As Dave mentioned, most of my comments will focus on adjusted performance excluding the impact of rationalization, the inventory step up related to purchase accounting for the Kichler acquisition and other onetime items. In addition, any reference to prior period comparisons has been adjusted to reflect the adoption of the new revenue recognition and pension accounting rules. Please refer to Page 19 of the earnings call presentation for the details.

Turning to Slide 6. We delivered solid top line and earnings per share growth in Q1. On a reported basis, sales increased 8% or 5% in local currency. Excluding the divestitures of Arrow Fastener and Moores and the acquisitions of Mercury and Kichler, sales increased 7% or 5% in local currency.

Foreign currency translation favorably impacted our first quarter revenue by approximately $49 million as U.S. dollar weakened against both the euro and the British pound.

In local currency, North American sales increased 7% in the quarter or 5% excluding acquisitions and divestitures. Consumer demand for our industry-leading repair and remodeling products across all the channels of distribution and across all price points drove this performance.

In local currency, international sales decreased 2% in the quarter. Excluding the divestiture of Moores, international sales increased 2%, driven once again by Hansgrohe.

Gross margins declined approximately 150 basis points compared to the first quarter of last year to 32.6%, principally due to the strategic growth investments we discussed on our fourth quarter call. These investments include increased display spending and depreciation in Plumbing and launch costs related to the Cardell Cabinet program at Menards as well as a lag in price/cost in Plumbing and Cabinetry. These items aggregate approximately $30 million.

Our SG&A as a percent of sales decreased 10 basis points to 19.5% as we continue to leverage our SG&A, while making strategic investments to drive profitable growth.

We achieved operating profit of $250 million with operating margins of 13%. Our EPS was $0.45 in the quarter, an improvement of 13% compared to the first quarter of 2017. As a reminder, our adjusted EPS calculation assumes a 26% tax rate.

As we look to the balance of the year, we anticipate some of the strategic growth investments will continue into the second quarter. These investments will diminish in Q3 and Q4, leading to a stronger second half of 2018.

As Keith mentioned, our performance in the first quarter was consistent with our operating plan, and we are affirming our annual EPS guidance of $2.48 to $2.63 and our free cash flow estimate of $800 million.

Turning to Slide 7. Our Plumbing segment delivered another quarter of strong top line results. Segment sales increased 11%. Excluding the impact of currency and acquisitions, sales increased 5%. This solid performance was driven by growth in our faucet, shower and spa businesses. Foreign currency translation favorably impacted this segment's sales by approximately $43 million in the quarter.

Our North American sales grew 8% in local currency in the first quarter as we experienced strong consumer-driven demand for our industry-leading brands with wholesale, large retail and dealer customers. We also benefited from approximately $10 million of pull-ahead sales as customers pulled orders from Q2 into Q1 in advance of the launch of Delta's new ERP system in early May.

Additionally, our spa business continued to outperform the competition as Watkins Wellness leveraged its strong dealer network, innovative new products and industry-leading brands to drive growth.

Our international Plumbing sales increased 3% in local currency as Hansgrohe's focus on key markets continued to yield results with strong growth in both China and Germany.

The main drivers of the operating margin decline in Plumbing were higher strategic growth investments, including display costs and increased depreciation, and as we mentioned on our fourth quarter call, a lag in price/cost. These items collectively amount to roughly $20 million.

The higher strategic growth investments will persist into the second quarter, but then moderate in Q3 and Q4. We anticipate the price/cost lag will dissipate in Q2, as our pricing and cost containment actions are fully realized.

As a reminder, there will be incremental costs of approximately $5 million in each of Q2 and Q3 related to Delta's ERP implementation.

While we have recently made investments in our Plumbing business, we will leverage these growth investments, and when coupled with the improving price/cost relationship, we expect in 2018, this segment will grow 4% to 6% with operating margins similar to our 2017 margins.

Turning to Slide 8. The Decorative Architectural Products segment grew 10%. This performance was driven by another quarter of strong growth in Behr's pro initiative and our acquisition of Kichler in early March. Excluding the acquisition of Kichler, sales grew 4%. As a reminder, this segment is mostly impacted by the new revenue recognition accounting rule, and all comparisons reflect the application of this new rule in both 2017 and 2018.

Operating income in the first quarter matched the first quarter of 2017. The benefit of increased volume was offset by strategic growth investments and increased legal and other variable expenses. We continue to face raw material cost pressure in the paint category, and we are diligently working to mitigate the impact of this inflation.

And as a reminder, the acquisition of Kichler will increase our depreciation and amortization expense by approximately $20 million on an annual basis.

Turning to Slide 9. In the Cabinetry segment, sales declined 6% in the quarter. Excluding the impact of the Moores divestitures, sales decreased 1%, primarily due to declines in our new construction business. This builder business continues to be impacted by the effect of lost business in the second quarter of 2017, which will anniversary here in the second quarter.

Our repair/remodel business performed well in the quarter. KraftMaid's solid performance in our repair/remodeling business delivered mid-single digit growth through increased volume. In addition, the rollout of our new Cardell program at Menards is on schedule, and we are pleased with this program's initial performance.

Segment profitability declined in the quarter by $12 million, principally due to the approximate $10 million investment related to the Cardell retail cabinet win and a price/cost lag. We expect this lag will abate in the second quarter as our cost control and pricing actions are realized.

Turning to Slide 10. Our Windows segment sales increased 4% and excluding the impact of currency, increased 2% in the quarter. Excluding the divestiture of Arrow Fastener, sales grew 12% or 9% in local currency. Foreign currency translation favorably impacted this segment's sales by approximately $4 million. This performance was driven by strong growth across all channels at Milgard, which grew mid-teens percent in the quarter. Milgard's strong growth was due to increased volume, a positive mix shift toward our premium window and door products and favorable pricing.

Segment profitability in the quarter decreased $4 million, largely due to the Arrow divestiture and restructuring costs in our U.K. window operation.

And turning to Slide 11. We ended the quarter with approximately $500 million of balance sheet liquidity as well as full availability on our $750 million revolving credit facility. During the quarter, we repatriated approximately $425 million to partially fund the acquisition of Kichler.

Working capital as a percent of sales increased 340 basis points versus the prior year to 18%, largely due to the impact of the Kichler acquisition. Kichler's total working capital was added to the numerator of this metric, but only 21 days of sales were added to the denominator. As such, working capital as a percent of sales will decline throughout the year as an increasing amount of Kichler's sales impact this metric.

Further, whilst Kichler's business model lends itself to higher levels of working capital than most of Masco's other businesses, we believe through our deployment of Masco Operating System tools, there's a significant opportunity to further improve this metric over time.

During the quarter, we continued our focus on shareholder value creation by repurchasing 3.7 million shares valued at approximately $150 million.

Finally, I'm happy to report that Moody's recently upgraded our credit rating to investment-grade. As a result of this action, our credit rating is now an investment-grade with the 3 leading credit rating agencies, Standard & Poor's, Fitch and Moody's.

And with that, I'll now turn the call back over to Keith.

Thank you, John. I'm pleased with our team's execution. We are on plan and we're off to a good start in 2018.

Fundamentals driving our business remain strong. Demographics, namely the large millennial group, are increasingly favorable and should drive household formations and housing for years to come. Home prices are appreciating, up over 5% year-over-year, boosting consumers' confidence to invest in their homes. Consumer confidence is up 8% year-over-year, the highest level it's been in 18 years. And U.S. residential housing stock is aging, a key driver of repair and remodel spending, with 70% of homes in the United States now over 25 years old.

We are executing our strategies to capitalize on these strong fundamentals. In Plumbing, we're driving strong top line growth while investing for the future across our diverse plumbing platform, particularly at Delta and Hansgrohe. In Decorative, we're investing behind our powerful Behr brand to continue the growth of our pro paint initiative, along with our partner, The Home Depot, and we're excited about the opportunities with Kichler, our new lighting business.

In Cabinetry, we're on track with a significant new retail program launch and continue to drive sales growth in our repair and remodel business. And in Windows, we are increasing share with our market-leading Milgard brand.

Our leading brands and our strong execution generate robust free cash flow, and we will continue to deploy that cash flow with a disciplined and balanced approach to acquisitions with the right fit and return, share buybacks and dividends to create value for our shareholders.

With that, I'll now open up the call for Q&A. Back to you, Regina.

(Operator Instructions) Our first question will come from the line of Stephen Kim with Evercore ISI.

In particular, I wanted to ask about the strategic growth and price/cost lag. I was curious -- you gave a lot of information, but I was curious if you could help us out a little bit with the breakdown of how much was related to specifically strategic growth versus price/cost in your segments in the quarter. And then also, as part of that, particularly in Plumbing, I think that you had indicated that you thought that you would do about $4 million in the first half of '18. Was wondering whether or not that expectation had changed for strategic growth?

So -- yes, Stephen, as we think about the $30 million of strategic growth and price/cost that we called out, obviously, a big chunk of that $10 million is related to the Menards spend for the program -- the retail program we're launching under the Cardell brand. As it relates to the Plumbing segment, there are really 2 pieces there. One is which you highlighted. Some of the display spend that we incurred in the quarter. The other portion of that is the increased depreciation. As you may recall, and I think we called this out in the last several calls, we put some new facilities in our Hansgrohe distribution center last year, and we're investing in a new plating facility for them over in Germany now, and so that is causing our depreciation to tick up a little bit. But -- that obviously is funding future growth for that business, which has performed very strongly globally for the last several years. And then the last piece of that -- and that's all in, Stephen, I'd -- I count that Plumbing investment between the display spend and the depreciation roughly split evenly about $5 million each, so $10 million in aggregate. And the third $10 million is really price/cost. And that -- in fact, it's principally the Plumbing segment, but also a little bit in the Cabinetry segment as well.

Okay, that's helpful. And then when you talk about the price/cost improving beginning in 2Q, I believe, that -- Keith, that was your expression. Just wanted to be clear there. I mean, you've laid out, I think, the strategic growth investments, so we can model that. But on the input price lag, price/cost lag, could you give us a sense, are you actually expecting that to flip positive in 2Q or simply diminish the negative headwind in 2Q? At what point would you anticipate that will actually flip positive?

Stephen, again, John here. As we look at it, I think what we're doing is the pricing that we put in the market in -- across our segments is actually just recovering pricing. So I think by the end of the second quarter, we'll be flush with the raw material inflation that we've incurred in the market.

Okay. And as part of that, are you expecting input costs to continue to inflate from here in your outlook? Or is that -- are you anticipating it's just sort of where we are right now?

You know as I look across our portfolio of businesses, I think the base metals, copper and zinc, have been -- they rose in the second quarter or starting late second quarter of last year and have been on a relatively narrow trading band since then. And so we're not anticipating significant movements in either copper or zinc. So I think that should be relatively stable through the balance of the year. And across our other product categories, I think, for the most part will be stable. The one that we're keeping a close eye on is the input cost to paint. You know with oil now approaching $70 a barrel and that affecting derivatives that go into paint, we are keeping a close eye on how that both the engineered resins that go into paint move as well as TiO2 moves. And I think as we said earlier in the year, mid-single-digit inflation and input costs to paint wouldn't be out of the realm of possibility here in 2017.

Your next question comes from the line of Matt Bouley with Barclays.

I guess maybe shifting to the growth side of things. Keith, talking about some of these investments you're making in Plumbing across the new displays and then some of the investments, John, you just mentioned with Hansgrohe, is there a way to just kind of help us understand some of the timing of the fruits of all that investment? And maybe just elaborate on where do you see growth kind of heading in that segment as we move through the year and into next year.

As often is the case, Matt, when you make these growth investments, you earn your way into them and you leverage them in subsequent periods. And that's the case, certainly, with some of the investments we've made to support growth in our Hansgrohe business. We've invested in a new logistics center in Germany, which obviously supports the base business, but also is key as we endeavor to be a leader in the eBusiness space, which requires that quicker delivery with higher fill rates, et cetera. We've made some investments across many of our segments in pro paint, for example, but in Plumbing also where we're investing in feet on the street and people to drive revenue and their productivity comes up over time. Really, what we're looking at is to start to leverage these investments, specifically to your question in Plumbing, into the back half of the year. So while we think about our expectations for growth, that hasn't changed. When we think about margin, we think it's going to be similar to the full year versus last year -- full year '18 versus last year '17. And with the pressures that we've seen in price costs and all the growth investments that we're putting into the segment, we think that, that's pretty good performance.

Got it. My next question, I wanted to ask about cabinets. Alongside some of the all the investment spending with Menards, did you actually recognize revenue from that new business during this quarter, or is that still something that we're going to expect to more meaningfully impact the top line as we move through the year?

Yes, Matt, it's John. We did recognize a little bit of revenue in here in Q1. But to your point, I think what you'll see as the year progresses that you'll see greater and greater revenue come from that program as it begins to approach its run rate of about $80 million on an annual basis.

It's a good program for us. We worked hard to capture a chunk of the business. It supports our profitable growth objective in this segment. And as John mentioned, it's meaty. It'll be a $80 million program, and we expect to hit that run rate by the end of the year.

Your next question will come from the line of Nishu Sood with Deutsche Bank.

Yes, going back to Plumbing for a minute, the price/commodity effect in first quarter, I think, you folks have talked about it in the past. It normally takes about 2 quarters for cost increases to come through. And most of the time, even I think in the fourth quarter, you are able to get price ahead of that. So just wanted to understand the kind of what was the mechanism? Why the sharpness in the effect in the first quarter? And does it have to do with, I think you mentioned, some pull forward of sales ahead of -- I don't know if I heard this right, the ERP implementation. Was that a confounding factor here? I just wonder if you could talk to that a bit, please.

Sure, Stephen. As it relates to the price/commodity element, recall that commodities elevated starting in the second quarter of 2017. And so the P&L impact flow -- hit our income statement exactly as we would've anticipated in the first quarter. And to your point, yes, as we get out in pricing -- but obviously, we don't get pricing at every customer at the same time. And so there was a little bit of a lag of putting price into the marketplace. And so we feel really good about where we -- how our teams reacted to the commodity inflation, how they are actively offsetting price with -- are offsetting inflation with both price as well as cost containment activities within their own operations. As it relates to the pull forward, no, I don't think that the pull forward affected $10 million of Delta, really confounded the price/cost effect at all. That is really more customers ensuring that they've got inventory on hand as we go through our ERP implementation.

Nishu, this is Keith. I think when you think about the impact of the growth investment that's continuing into Q2 with depreciation, as we talked about, and then continued display spending and some ERP spend at Delta, and you look at -- if you recall last year, Q2, we had real strong margin performance. I think it was north of 21%. So thinking about our Plumbing margins, they will likely be down in the second quarter to the same degree that they were down last year. But definitely expect expansion in the third quarter as we begin to particularly leverage the growth investments. So for the full year, we expect Plumbing margins to be similar to last year. And as I mentioned, given the work and the money we're spending on growth and the way we've handled the price cost, we think that's good performance.

Got it, that's helpful. And then on paint, obviously, the DIY volumes in the market have been kind of soft, but Behr has been outperforming, also very strong performance on the Pro side. Just wondering if you could give us a sense of how DIY volumes and the momentum in pro paint continued in the first quarter, please.

We think we're about flat in DIY all in, and overall for the DIY market, that low single-digit, we really haven't come out with low single-digit growth. We really haven't changed our opinion on where that will fall out. In terms of Pro, we continue strong growth in that segment and we're continuing to invest even more into that. So overall, when we think about the paint market, we think it's pretty good, particularly when you look at our performance versus that market with the strong Behr brand, our outstanding partner in Depot and our quality and service levels.

Your next question will come from the line of Michael Rehaut with JPMorgan.

This is Neal BasuMullick in for Mike. So I guess continuing on paint, you touched a little bit on this, but can you talk a bit about what you're doing right on price cost?

Well, I think what we're doing right is continuing to perform like we've demonstrated over the better part of the decade, and that is over the price/commodity or over the commodity cycles as we go through them. While there's leads and lags on both side of that, we've been able to come out flush and mitigate those impacts over time. I think what we're doing extremely well in this segment is working with our partner, The Home Depot, to keep these pressures in balance strategically and together invest for growth in this segment and that's really paying off. So I think we've -- our relationship with Depot has never been stronger as evidenced by our performance over all in both DIY and Pro. And I think I'd point to that as something we're doing well as well.

Okay, that's good to hear. And then I guess kind of factoring that in what you see is the pace of margin recovery through the year. Specifically, how much do you think you can pick up in Q2?

Well, you don't -- when we -- it's important to note, as John mentioned, that the Deco segment has been affected by the revenue recognition accounting standards more than any other of our segments. So when you recast our margins for deco, they were 19% last -- prior year quarter and 17.2% this quarter. A big driver of that, far and away, was the Kichler's acquisition. Their margins are in that low double-digit range, lower than the high teens that we've typically experienced in the segment. So recast that, that Kichler acquisition is, call it, 150 to 200 basis points on average per quarter. So when we look at our base business with the inflation we've experienced in the paint raws and the actions we've take to improve that price/cost relationship, plus the expansion of our Pro initiative plus additional hub store employees and outside Pro reps to continue to drive the volume, we're expecting modest margin erosion for the full year. And again, when you look at all the investments we're making and the state of the commodities, that's pretty good.

Your next question will come from the line of Samuel Eisner with Goldman Sachs.

Just maybe sticking on the paint segment, just keep to your last comment there on the modest margin erosion. I think prior to the Kichler acquisition, you had made the comment that you expected margin degradation, given price/cost headwinds that would be less than the 2017 levels. Obviously, that was before the Kichler transaction. So I was wondering if we could maybe just parse out, do you still expect kind of the base core business, do you still see margin compression this year? Was your prior comment inclusive of Kichler as well? Just any kind of greater clarity there would be helpful.

Sure, Sam. With -- restated for the accounting changes, with Kichler, our revised long-term margin expectations are in that 16.5% to 18.5%. And we've been operating at a higher end of that range and we expect to continue that through '18. With regards to the base decorative business, that's what my prior comment referred to. We're expecting modest erosion in that base business.

That's helpful. And then maybe your -- I recognize it's maybe a little bit early for this question, but Kichler, you've owned now for just about 2 months. Maybe you can talk about kind of looking at that business, what had surprised you both positively and negatively? Now that you got your hands on it, where are the opportunities for margin expansion, given the fact that it is going to be a drag on the business going forward? Maybe just an overall update on how Kichler stands 2 months in.

No negative surprises whatsoever. The prices -- the surprises for me really have been positive. I knew going in through the due diligence that they were particularly focused on the consumer and that they were product-driven and understood the trends ahead of the actual trend being realized and were -- had a very short product development cycle. That's really impressed me and has been a positive side. In terms of the integration process, very smooth, very smooth. We've integrated treasury, risk management and legal; we're rolling out the introduction to the Masco Operating System, and they've been very receptive and very eager to be part of the team; we've met with a significant number of key customers and that transition has been seamless. This is a good business for us. It fits in many ways in terms of the channel and the overlap. It fits with regards to the importance of influencers in this purchase journey in terms of designers and showroom associates, which is very close to a lot of the work we do in plumbing and what we do in the aisle in paint. So we're excited about being able to add value to Kichler. And honestly, we're excited about being able to learn from them as well. So very positive integration.

If I can just sneak one more in just, John, on freight costs this quarter or for the year, how are you thinking about that? What is the percentage of COGS? Just an overall kind of update on freight as it relates to your price/cost discussion that you're giving earlier.

Sure. Sam, good morning. It's -- in terms of freight or distribution logistics costs, for the most part, a lot of our products are sent on standard distribution runs. And we don't -- we're not expecting -- we're not incurring much incremental inflation there. We're seeing -- where we are seeing just a touch of inflation is on some of the more ad hoc or short-haul runs that we make. And so at this point of the game, it's not really that impactful to us. Keeping a close eye on it and, I want to make certain that it doesn't exacerbate over the course of the year, but right now we think we've got that in pretty good control.

Your next question will come from the line with Susan Maklari with Crédit Suisse.

This is Chris on for Susan. You mentioned lower Cabinet sales and you built a direct channel due to the prior margin...

Chris, could you speak up just a touch?

Yes, sure. So you mentioned before about your lower Cabinet sales and you built a direct channel due to your margin rationalization efforts in that business. Once you lap that impact, how quickly do you expect to return to positive growth? And what do you expect your run rate growth to be exiting 2018?

Yes, Chris, on this one, we -- once we lap this business, actually for the full year 2018, excluding the divestiture of Moores, we expect the top line growth in this segment to be in the 5% to 7% range. And so we feel really good that we can pivot to growth rather quickly, once we get the anniversarying of this lost business behind us.

Okay, got it. And then turning to Windows, I mean, you had strong performance out of Milgard this quarter. Could you just walk us through some of the aspects driving the favorable pricing environment there and just the overall strength you're seeing on that side of the business?

Really, Milgard's growth was driven by their brand strength and their value proposition. This business has done exceedingly well with regards to lead times and fill rates. And we found clearly when we stub our toes and don't do well, that affects us. And we've got some of the problems that we've had a year ago well behind us. We've got a new leader in that business and a new leadership team, and that focus is really what's driven the growth. That value proposition resonates with dealers, so we've got an outstanding dealer network out there. And that's very productive for us, both in terms of big-box and dealers and also the builder business that we choose to do out there. So it's really the Milgard value proposition that's driving the growth.

The other thing, Chris, that I'd point you to is, as you recall, this time last year, we were in the midst of the turnaround. And I'd say that we did have a relatively easy comp in Q1 compared to Q1 of last year and the comps will get a little bit more difficult. So you might not see that same mid-teens growth out of Milgard as you go deeper into 2018.

I would say we're expecting full year sales growth in that range of 6% to 8%, excluding the Arrow divestiture. And then on the margin side, we're going to see some expansion. But I'd remind you that we do have continued ERP expense. The ERP implementations are going very well out there, but we'll have continued ERP expense. So while we're expecting margin expansion for the year, we probably won't make it to that long-term guidance of that 10% to 13%.

Your next question will come from the line of Dennis McGill with Zelman & Associates.

First question is just on Cabinets. You talked to mid-single-digit growth in repair and remodel. Can you split that between home centers and dealers? And then also just discuss what you're seeing if any variance on price points and promotions?

Yes. So a couple of questions in there, Dennis. In terms of our remodeling growth between the various channels of distribution, we're really not breaking that out. Obviously, KraftMaid expands across both home centers and dealers and both were positive, and so we're feeling good about how that performed in the quarter. As it -- what was...

On the promotions. I think the retail promotion environment was a little bit elevated year-over-year in Q1, but just a touch. We would expect maybe a slight increase in promotions for the full year, but really not a whole lot. I think the retailers view this class, this aisle, as something that has a lot of add-on sales, obviously. So I think that's lucrative for them. And obviously, as you know, Dennis, they set their price and their promotional schedules and we support them where it makes profitable growth sense for us. So I'm pleased with the promotional level. I think we're competitive where it's at. So it's working out well.

And then the other part of my 3-part question there was on the price point. Are you see anything that stands out as far as within the Cabinet business?

Our semi-custom product is doing real well and that's obviously on a bit of a higher -- the higher end of the continuum. And when you look at the market data, whilst it's tough, as you know, to take a judgment on the market with a couple of months’ worth of data. But the semi-custom piece is doing well in. We're outperforming the market and gaining share. So I would say that for the areas that we compete in that semi-custom space is pretty strong.

Okay. And then Keith for you, on the ERP within Delta, I see people are always a little bit cautious of ERP implementations. I think there's little bit disruption in the Windows business as well. How confident are you that this can be implemented without disruption for you guys or your customers?

I'm really confident in our preparation. We've been at this for a long time. At Delta, we've moved some of our high potential talent over there. We've highlighted -- or excuse me, hired external people to come in, in both program management as well as quality. While -- you mentioned Milgard. While we had a little bit of issue initially, I'll tell you that our last 2 implementations, 2 plant implementations in Milgard are going very well, and it was one of our biggest plants that we recently did. So there's always inherent risk with ERP systems. I'm really confident in the Delta team.

And I think to further that, we've incorporated a lot of lessons learned on our prior ERP implementation. The Delta team, to Keith's point, has done a tremendous job of preparing for this, and we're very confident in their ability to execute.

Your next question will come from the line of Stephen East with Wells Fargo.

Keith, maybe turning back to Kichler a little bit. Could you tell us -- as you look over, call it, the next 3 years or so, what do you think is -- would be a normalized growth rate for you and an Op margin rate for you? And then I know -- I believe you source primarily from China, steel tariffs, any tariffs impacting you all? And do you have opportunities for alternative sourcing?

Well, in terms of -- there are a couple of questions in there. In terms of the overall margin, that low double-digit margin that we've talked about in the past, we're obviously going to continue to drive that up. We see opportunities from -- for some synergies, not only in the working capital area, but also in some of the gross margin areas around procurement costs and those sorts of things. With regard to tariffs, the primary commodity here is glass. And then on the steel side, we really, at this point, haven't seen any tariffs because it's not tariffs aren't targeted or being levied towards value-added products. So, so far, we're in good shape there. And I would tell you that when you look at the decorative lighting fixture industry, it follows a very similar model. So should there be any price or, excuse me, cost pressures, we'd be in the soup with all of our competition. So it really comes down to supply chain management to vendor development, et cetera. So we're pretty confident in our ability to compete in those areas. And we see improvement opportunities as we start to get more into the business.

Stephen, as it relates to growth, we think the growth of Kichler will be very similar to the overall segment's growth of 4% to 6% over time.

Okay, 4% to 6%, all right, that's helpful. And then the other question I had is, we've had a lot of news in the paint side, the DIY channel over at Lowe's. Do you think, as you get into the second half of this year and the first half of this year, promo spending for you all in the sector increases?

No, I wouldn't characterize it that way. I mean, we've seen some promo increase in the last quarter as different brands and different products are launched and that's normal. But I'm not particularly expecting any significant increase in promo. If you look across the different players in the industry, I think our partners demonstrated some of the best discipline.

Your next question comes from the line of John Lovallo with Bank of America.

First one, I think, on Hansgrohe. It looks like it was a 3% year-over-year. That seems like it's a bit of a slowdown over the past couple of quarters. I think it's been running kind of in the high single digits. Anything you could point to there?

Yes, generally, we saw good growth in Germany and China, as I mentioned in my prepared remarks. But we did see a little bit of softness in the U.K. and a little bit slower growth in some of the southern European countries' growth, but not as stronger growth as we've experienced in prior quarters. So just a little bit of a pullback in some -- outside some of their core markets. But overall, their home country of Germany has done well, and their emerging market growth has been just terrific.

And you know we're seeing good -- we're seeing the growth spread aground higher in actual brand, as I mentioned, as well as our good segment when you think in terms of good, better, best. And I think that's always for me a good indication of solid market performance when you have both ends of the price continuum growing.

Okay, that's helpful. And then my second would be -- I just want to make sure I understood this correctly. In terms of the raw material pricing dynamic, I think you had mentioned in the second quarter you're going to catch up on the pricing side. Is that really by the end of the second quarter, would you still anticipate a negative impact in 2Q?

I think there will be modest impact in Q2 and it will improve as we go through the quarter.

Your next question comes from the line of Kathryn Thompson with the Thompson Research Group.

This is Steven on for Kathryn. Plumbing, the margin came in lower than expected. I guess can you maybe balance the mix impact? I'm a little surprised with the strength in Watkins. I figured the margin decline would be less than it was.

The margin was really driven by our growth investment, as we talked about, in displays and in -- and some depreciation of those assets that we put into support growth, new plating line, new distribution center over in Hansgrohe. We had a little bit of a price/commodity lag. So together, those, as John mentioned, are about $20 million.

We had not much of a mix impact in the quarter. We had a little bit of mix, but not much at all.

All right. And then maybe stepping back with a higher level view, if this strength in trend to lower price points, starter homes continues throughout the year, do you see any product gaps in your portfolio that you need to invest more in or acquire? Or do you expect one segment to benefit more on volume side than another?

We've paid particular attention over the years to make sure that we have a broad assortment where applicable. Whilst the opening price point does tend generally to have lower margins, they're not as low and there's not as big as a spread as there once was as we work in both procurement and shop floor productivity and variable cost productivity. So we're in pretty good shape, and I think that's evidenced by -- I'll go through a couple of them that stand out for me in our Watkins spa business, world leader in that space with very strong performance in the high end. We've also worked to come in to get more reasonably priced good level of product that we can sell online and that's going very well. We've recently relaunched our Peerless brand, which is an opening price point brand in plumbing, and that's taken off very well and is getting good positioning on the shelf. When we look at our ability to land profitable growth in Menards, that required some outstanding value engineering and brand positioning with regards to the opening price point as well as having a package on the semi-custom piece. So our mantra is, we need to be where our customers are buying from a channel perspective, which obviously is e-business, and we need to be where they're buying from a price and performance perspective as well. So this is -- we've put a lot of work in this and it's happened over several years.

Your next question will come from the line of Alex Rygiel with B. Riley FBR.

Keith, in your opening comments, you mentioned you were very pleased with the quarter in Hansgrohe, Plumbing in aggregate. Could you comment on 2 or 3 surprises in the quarter, either positive or negative, that maybe you didn't anticipate 3 months ago that you're taking action on today?

I expected the Kichler integration to go well. It has exceeded my expectations. I knew that there would be -- we knew that they would be a price/cost lag and that we would be able to manage that. And that went as expected. I would tell you, we got a little bit of a logistics headwind that I wasn't quite ready for, so to speak. We didn't expect as it relates to some of the rules and -- of how over-the-road truckers manage their time. And that's driven cost up a little bit. Oil started to pierce north a little bit more than I probably expected. So in the cost basket, there's been some higher than expected, lower than expected, but on average, I think we're about ready for it. So I think I would characterize this quarter significantly more as on plan than I would surprises.

Your next question comes from the line of Keith Hughes with SunTrust Robinson Humphrey.

Most of my questions have been answered, but with a heavy share repurchase in the quarter, what is the ending share count?

I think, it's around 310 million, Keith.

310 million. And you've highlighted in the prepared text another share repurchase number. Is that in addition to what we saw in the first quarter?

Yes, that was either -- again, we were careful with our wording there. We said either $100 million to $150 million of either additional share repurchases or M&A throughout the balance of the year.

Your next question comes from the line of Phil Ng with Jefferies.

Given the moving pieces in Decorative, just curious how should we think about margins for the full year? And to offset some of these headwinds you're seeing, is that more on the price side, cost side? And then in a rising raw material environment, how quickly can you pass that through?

I think as we talked a little bit before, Phil, if you think about the base business, I'll separate that because we're in the middle of the Kichler acquisition, the base business we would expect margin erosion, slight margins -- modest margin erosion is how we're characterizing it. When you think about the effect on the segment from the Kichler acquisition, that would be in the range of 150 to 200 basis point reduction.

Got it, that's helpful. And then in terms of your ability to kind of pass that through from a pricing standpoint, is it like a quarter lag, 2 quarters? How should we think about that?

We have a significant customer concentration. So we don't talk about specific pricing actions in there. And I'd go back to my prior comment over the long term of price/commodity fluctuations, we tend to stay flush.

Okay, that's helpful. And just one last one for me. From a top line perspective, pretty encouraging strong start in light of some of the weather-related issues some of the other companies have talked about. But the markets, obviously, get nervous about higher rates. Just curious how insulated is your business and any early reads on the spring selling season?

We don't believe that rising interest rate is going to put a break on housing, full stop. The 10-year bonds are up about 45 basis points since year-end, mortgage rates are about 4.5%. And we had that level at 2014. We are almost, if not almost there, to 85% repair and remodeling, which is significantly less sensitive to interest rates. Home equity lending is a very small part of the R&R market financing nowadays. Biggest driver in our opinion of R&R spend is real wage growth and home price appreciation, consumer confidence. All those are positive. Affordability, particularly when you look at historical standards, still very good. Our view is that the market can digest a steady gradual increase in interest rates, and that repair and remodel is the spend that's more around a lifestyle decision as opposed to, say, a tax decision or an interest-rate decision. So rising rates generally signal a good economy, and we do well in good economy. So we don't expect a break in '18 or '19 as it relates to rising interest rates.

Our final question will come from the line of Ken Zener with KeyBanc.

The last question is maybe, Keith, about the rising interest rates. Which categories -- realizing you're obviously 85% R&R, and we have a favorable view on R&R tied to rising prices lifting homeowners equity, how -- if rates are going up, though, full stop, I heard yet, which categories will be more susceptible when you think about price points? So think about paint versus cabinets, which might be more tied to, right, cabinets, faucets, under renovation. Could you discern it may -- your comments a little bit by price point, if you would?

I don't think it's so much price continuum variation as it is new construction versus R&R. So I would look more to the new -- the higher new construction segments as potentially being more impacted by that. But as I'm out in the market and I look at the issues around new construction, it's not rate. It's more capacity and skilled trades and the ability to get the jobs completed. So I would maybe twist my answer and not go on a price continuum discussion and say more of a new construction impact. And as I said, we're about 85% R&R.

Ladies and gentlemen, this will conclude today's conference call. Thank you all for joining and you may now disconnect.