莫霍克工業集團 (MHK) 2006 Q4 法說會逐字稿

Good morning. My name is Paige, and I will be your conference operator today.

At this time, I would like to welcome everyone to the Mohawk Industries fourth quarter earnings conference call.

[OPERATOR INSTRUCTIONS]

Thank you. I will now like to introduce Mr. Jeff Lorberbaum, Chairman and CEO. Mr. Lorberbaum, you may begin your conference.

Thank you, very much.

With me, I have Frank Boykin, our CFO. Would you please read our Safe Harbor statement.

Sure.

I would like to remind everyone that our press release and statements we make on this call may include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995 which are subject to various risks and uncertainties including but not limited to those set forth in our press release and our periodic filings with the Securities & Exchange Commission.

Thank you.

Mohawk's fourth quarter net earnings were 129.5 million, and earnings per share was $1.90, representing an increase over the last year of approximately 29%. The fourth-quarter earnings include expenses from one-time plant closing costs, stock-option charges not required in the prior year and income from a customs refund.

Net sales for the quarter were about 1.9 billion, an increase of 5% from 2005. The sales growth resulted from the Unilin acquisition, hard surface growth and price increases. For the year net earnings were 456 million, and earnings per share was $6.70, representing an increase over last year of about 17%.

In the fourth quarter we substantially exceeded our own earnings estimate of $1.51 to $1.60, recording earnings per share of $1.90. Mohawk's overall performance for the fourth quarter and full year was good despite a continuing slowdown in the flooring industries. The residential new construction and retail remodeling channels continued the declining trends that began in the third quarter. The commercial channel continues to out perform the residential channel.

Our fourth quarter results benefited from strength in our Unilin business and initiatives to reduce costs. Our overall strategy of offering a total flooring solution combined with an expanded geographical presence has positively influenced our results.

During the quarter cash flow from operations remained strong at 236 million and EBITDA of 304 million. We paid down debt of 603 million during the year and 191 million in the fourth quarter. Our debt to EBITDA ratio improved to 2.5, and our debt to capitalization ratio improved from 43% from 55% when we closed the Unilin acquisition in October of 2005. Our working capital also showed improvement over last year even with the slow environment.

Frank, would you give our financial report, please?

I would be glad to.

Net sales for the quarter were 1.899 billion, representing a 5% increase over last year. Without the Unilin acquisition which was acquired in October of '05, sales would have been down about 4%. Our gross profit as a percent of net sales for the quarter was 29.2%, which compares to last year's fourth quarter of 26.4%. In 2006 we benefited by the Dal-Tile Unilin mix versus Mohawk mix and also included in the 2006 results was a negative impact of $5 million related to a Dal-Tile plant shutdown.

In 2005 our margin was impacted by a $34 million charge related to the Unilin acquisition. SG&A came in at 17.1% of net sales in the fourth quarter of '06, up from last year's fourth quarter of 16.1%. SG&A was impacted this year by stock-option expense that was not included in the prior year, and amortization from the Unilin acquisition.

Operating income came in strongly at 12.1%, that compares to 10.4% last year. And interest and other expense came in at $40 million, up slightly from the $33 million of last year. Interest was impacted this year by higher interest due to the Unilin acquisition debt, higher interest rates, and then offsetting that would have been $4 million of customs receipts that we received for the quarter. We received $19 million of customs receipts for the year.

Income taxes came in at $60 million, representing a tax rate of 31.5% compared to 35.5% last year. The improved rate this year was primarily due to the Unilin acquisition. We also had some tax credits that we received in the fourth quarter that impacted our rate positively. We would expect our tax rate going forward to be in the 33% range for 2007.

Net earnings came in at $130 million, with earnings per share at $1.90 or 30% over last year. The Mohawk segment sales of $1.1 billion were down about 6% over last year, primarily impacted by the softness in the residential [broadalin] market. Operating income in the Mohawk segment was 10.1% compared to 11% last year.

In the Dal-Tile segment sales were $460 million, up about 4% from last year. They also experienced a slowing growth rate due to the residential channel slowing for them. Operating income for Dal-Tile came in at 12.5% versus 14.3% last year. This was -- the margin this year was impacted primarily by the $5 million of plant closing costs as well as increased freight costs.

Unilin sales for the quarter came in at $328 million. If we compare Unilin sales on a pro forma basis using a constant exchange rate, sales for the quarter improved 24%. If you'll remember, we acquired Unilin last year at the end of October, so we only have two months of activity in 2005 for Unilin. Unilin was positively impacted by growth in both the U.S. and the European markets.

Operating income for Unilin came in at about 20%. It was impacted positively by higher volume. Also, looking at 2005, it would have been impacted negatively by the $34 million charge that we took related to the Unilin acquisition.

Foreign exchange impacted our 2006 results positively by about $2.3 million.

We turn to the balance sheet. Working capital continued to improve over last year with receivable days at about 42 days and inventory turns at about 4.1 time. Fixed assets were $1.9 billion.

We had total capital expenditures in acquisitions in 2006 of about $237 million. That compares to depreciation and amortization of $275 million. We're estimating capital expenditures for 2007 to range from $250 to $300 million. This includes $100 million for strategic capacity expansions which we will assess throughout the year based on the condition of our industry.

We're estimating that depreciation and amortization for the year will be at about $305 million. As Jeff had mentioned, we had very strong cash flow during the year. Our debt ended up at about $2.8 billion, which represented a debt to capitalization ratio of 43%, a debt to EBITDA ratio of 2.5 times, and a payment paydown of debt of about $188 million for the quarter.

Jeff, I will turn it back over to you.

Thank you, Frank.

The overall economy continues to grow over 3% and consumer confidence improved to the highest level in almost five years. The Federal Reserve left short-term rates at 5.25% and stated that the housing market was showing some signs of stabilization. Mortgage rates continue to be favorable relative to historical levels.

Commercial building starts remain robust, and the residential industry continues weak. The contraction continues in the flooring industry with the fourth quarter softer than the third quarter. All product categories in the flooring industry are being challenged by the softness in the residential channel. The first quarter is expected to show continued deterioration. Historically these slowdowns lead to pent-up consumer demand that rebounds on the other side of the trough.

Our Mohawk segment was impacted greater by industry trends. Carpet industry sales declined by about 10% in units in the fourth quarter and slightly less in dollars. Both residential new construction and remodeling are off substantially with commercial sales growing. We do not see any short-term indications of a turn around.

Though oil prices have declined, we have not seen any relief in our raw material costs. With worldwide demand strong for intermediate chemicals, Mohawk's raw material prices have remained high and have not reflected lower oil prices. Over time they should come in line, but the timing is not predictable.

We continue to manage the lower volumes by reducing our production and controllable costs. We have reduced capacity by cutting shifts and working shorter hours. We have streamlined the administrative and marketing expenditures.

We're consolidating SKUs, introducing fewer products, and managing our sample investments with many productivity improvements under way to improve material yields, process enhancements and inventory management. These actions are helping us manage the declining volume that began in the second half of 2006. We'll continue monitoring the industry trends and adjust further if required.

We have substantially completed the separation of our carpet and hard surface sales management to increase our focus and responsiveness in each of the product categories. With the carpet industry volume declining, there are more promotions and pricing pressures in the market.

The product mix continues to shift to nylon filament and polyester at the expense of nylon staple and polypropylene. These shifts are a result of a change in the relative values of one fiber in relation to another. Our strength in our polyester category should be a benefit as we go forward.

At retailers who inventory product, there has been a reduction in their inventory levels reflecting the slower environment and a more conservative outlook. Our commercial business continues positive in the fourth quarter, with some softening in higher price points as customers trade down to maintain budgets. We're introducing new valued engineered products to meet those needs.

Carpet tile continues to grow at the expense of [broadalin]. We'll be introducing soon two new technologies including a new non-TVC based carpet tile and a new broadlin back which repels water.

The energy costs continue to be high in the fourth quarter, and we do not expect significant changes in the first quarter. We have Incorporated environmental sustainability into all our business practices through leading initiatives such as biobased fibers, renewable energy, products that contain post-industrial as well as post-consumer content, the replacement of PVC in our backings as well as a reduction in energy and water consumption continued to help Mohawk be a more environmentally friendly company.

Our Dal-Tile segment grew 4% during the quarter despite a deteriorating residential market. Dal-Tile is following the industry trends with residential sales declining and commercial positive. We believe the downward trends will continue in the first quarter.

A slowing new housing market is affecting this category particularly in overbuilt areas where housing inventories were more excessive. The Dal-Tile margin in the fourth quarter was down to 12.5%. The decline was a result of a one-time charge for closing costs of the high-cost plant lowering margins by about 1%. The balance of the decline is a result of lower volume and higher transportation costs.

The Mexican expansion and the Oklahoma plant expansions were completed. With ceramic sales slowing faster than anticipated, we're reducing our production levels. We have already reduced the purchases of ceramic from outside suppliers, but the long lead times will cause a temporary rise in inventory.

With lower volumes we're reducing our SG&A expenses, implementing new productivity improvements, focusing on the commercial and remodeling channels which we expect to lead the product category. During the year we invested in remodeling service centers, new distribution points, design centers, dome centers and regional warehouses. These investments will increase our penetration in the markets.

We've invested heavily in the ceramic business the last few years and it has positioned us well for the long-term. Our manufacturing additions will enhance our cost position, design capabilities and service levels. We are the leading player in the commercial segment and have a large marketing effort in creating commercial ceramic specifications for our products. The Dal-Tile distribution system is unmatched in the industry.

Unilin continues to out perform our expectations. For the full quarter, sales were up 24% on a pro forma basis over the prior year based on a continent exchange rate. Unilin margins were up to 20%. All Unilin product and channels performed well.

The higher volume created positive overhead absorption, the product mix was favorable, and the raw material increases we expected are received later than we had anticipated. The Unilin management team continues to produce strong results and has been an excellent addition to the Mohawk team.

The European market was strong, and almost every region showed significant improvement. The roofing and board businesses showed positive volume, and we implemented price increases to cover raw material changes.

Unilin's U.S. sales were up more than Europe with all channels improving. The Mohawk brand continues to increase sales of Unilin manufactured products. We're introducing new innovative products that are being well accepted by the marketplace.

Unilin received a ruling by the International Trade Commission favorable to our patents which precluded the importers that were in the court from bringing products into the United States that infringe on our patents. This should have a positive long-term effect on the value of our intellectual property.

We believe the quarter represents an exceptional period for Unilin where volume, costs, and mix were all positive. There will continue to be more volatility in the Unilin segment as volume trends tend to vary more from period to period than our other segments and businesses.

The lawsuit alleging Mohawk hired undocumented workers to suppress wages is now being appealed to the U.S. Supreme Court. Mohawk does not believe that the statutes support the use of RICO in the case, and the allegations are unfounded.

The flooring industry is cyclical. Typically, every decade we have a downturn, and it is always followed with a rebound. The long-term flooring industry dynamics are good. We at Mohawk are well positioned in all product categories.

Consumer confidence has reached another high, and employment remains strong. There are many potential signs that we may be nearing an inflection point. Mohawk's first quarter is always a lower period and customers are being more conservative than normal with inventory commitments.

Therefore we anticipate the first quarter with a continued decline in volume, lower manufacturing utilization, and continued pressure on margins. We'll continue to adjust our businesses as required. All components of Unilin were maximized during the fourth quarter, and we expect the results to moderate in future periods.

Based on these factors our earnings guidance for the first quarter is from $1.01 to $1.10. This includes pretax refunds of approximately $5 million which were received in January from US Customs. We anticipate a total refund from US Customs of more than $40 million, and we have received less than half that amount in 2006.

With that, we'll be glad to accept questions.

[OPERATOR INSTRUCTIONS]

Your first question comes from the line of Eric Bosshard with Cleveland Research Company.

First of all the out performance in the quarter relative to the guidance, what do you look at within the business that explains the material upside, and can you talk about the sustainability of those factors into the first quarter?

The biggest part of it is Unilin. We had a dramatic increase in the revenues, and when you have that much more than we expected, it flows through to all the various components.

In addition, with Unilin, the raw material costs that we had anticipated prior to the quarter were later than we had expected, and that helped the cost in the period that we didn't anticipate. The European economy is going much better than it has, and we expect continued strong growth, so everything hit right, and we don't expect it to continue at that level all the time.

For the last couple quarters we've been trying to figure out where the operating margin is of that business, 13%, 14%, 15%, and I know yourself you've given lower guidance, and it comes in above.

For '07 should we just assume this is a 18%, 19%, 20% margin business?

If you look at the average for the whole year, it is somewhere around 17.3%. We believe that the dynamics that we've always talked about which is that that business category that we're going to participate in lower pieces and it will affect the pricing of margins, we still believe that to be true, but we have raised our expectations, and we think it will probably be in the 16% to 16.5% range.

I would like to just remind you guys that we think that there will be more volatility in the category in the earnings, and the first quarter is going to be affected by these raw material increases we talked about that came in a little later, and then don't forget in the third quarter that the vacation schedules and purchases affects their business different than the U.S. business.

Okay.

Just one follow-up, Jeff, you commented that you're seeing signs of an inflection point in regards to demand. Can you just expand a little bit on what signs you're seeing that suggest that?

No. I am seeing signs in the economy that the Fed thinks that maybe we're towards the end of the cycle, towards the bottom of it.

I think, that's not exactly what their words were, they used, that I am seeing consumer confidence improve significantly, usually consumer confidence impacts our business. The interest rates are all there. They're more the overall economic results.

Our industry is still on a downward trend, and we're hoping we're getting towards the bottom of it. We haven't seen it yet.

Perfect. Thank you.

Your next question comes from the line of Margaret Whelan with UBS.

Good morning. It is actually Susan for Margaret.

How are you?

I am good.

You commented that you really haven't seen much of a benefit in terms of the raw material prices yet, but can you give us some sense of when that could potentially be a benefit and maybe how you're thinking that that could trend?

Typically the intermediate chemical pricing will follow the oil prices over time. As you go through various cycles with those, they hit at points in time where there is significantly more or less, but over time they tend to come back to the same relative values they trade at over time.

Presently they are all trading at high relative pieces relative to history, but it is going to go on until the supply and demand things work out over time, and we don't know when it is going to be.

Okay.

And then in terms -- along with the price increases that you guys have realized over time, do you expect -- how much of that do you expect you'll be able to hold onto or can you give us any sense of maybe how the margins will trend as the raw material prices normalize?

All we can do is use history, and we can say that historically when raw materials fall we tend to have -- it tends to positively impact our margins just as when they rise it tends to negatively impact them. I think the year was 2001 when we had falling oil prices and not I believe in 2001 in the Mohawk division we had all-time record margins at 11%, operating margins. That's the history, the future.

We all have to guess and say what are they doing? What's the timing of it. I don't know.

Okay. Thank you.

Your next question is from the line of Michael with Rehaut with J.P. Morgan.

Good morning.

Good morning, Michael.

Going back to Unilin for a second, and I guess looking at -- you had some real success on the top line which helped the margins, what are your expectations for '07 in the U.S. and in Europe particularly as you try and implement in the U.S. your strategy of putting it through your network?

What's the sales increase in '06 for Unilin?

We had about an 8% increase this year in sales over the prior year with Unilin. In an economy where the European economy was doing relatively well, we think that part is going to go on.

The U.S. economy Unilin is part of this whole North American struggle that we have with the residential piece, and 100% of the sales in Unilin go into that residential marketplace, so the timing of that's going to impact it, so depending upon how that does we're anticipating a lower growth rate in '07 than we had in '06 because we're assuming if the residential sales in this category are going to be off -- the growth rates will be impacted the same as everything else in our own internal guesses.

I mean, do you have an idea with the trade ruling and precollusion of some of the imports, you know, what amount of revenue that prevents or what amount of sales that opens up to the other competitors in the marketplace that that Unilin may compete for?

We do not. As you would imagine, these rulings, it takes a significant period of time to find out the results of how these rulings change things.

In addition, we have continued to maintain all along that we are going to license our product, our patents to other people, and so if we assume it is going to enhance the patent strength and end up in more licenses, and then either we have not -- we have to work through it and decide if everybody wants to pay us patents or not, and how that's going to affect the volume at this point.

I have to say they are -- the U.S. Customs is stopping product at the borders, and I don't know if they started yet, but they're in the process of it. We don't have the answer.

Okay.

How much of the laminate product that's sold the U.S. is domestically produced versus produced outside of the U.S.?

I have the numbers, but I don't want to give you a number that's wrong.

You can call me back later. We'll get that for you if you'd like.

Okay.

We have it, I just don't remember it.

All right. And one last question if I could.

Okay.

In the Mohawk business you mentioned that the carpet industry is down about 10% unit wise, a little bit less than dollars in the fourth quarter, but your Mohawk business overall was down six.

I wanted to know if the reason for that was the strength in the commercial segment and some of your hard surfaces business and what your actual residential carpet business did in the quarter if you could?

The 10% for the industry represents a combination of commercial and residential together, and we were similar to the industry. We have in our Mohawk segment we also sell other products besides carpet, and we have some hard surfaces and some rug businesses and other things. So we were similar to the industry approximately, and within that one we do not have any industry data on commercial and residential, but just guessing, I would guess that the residential business is probably off another at least 3, 4, 5 percentage points, 3% to 5% at least in the commercial, and the other things that offset it.

Was hard surfaces up or down?

Our hard surfaces was probably up slightly, but the industry I would assume is probably down, but I don't have any data to support that.

Okay. Thanks very much.

You're welcome.

Your next question comes from the line of David MacGregor with Longbow Research.

Good morning, Jeff, good morning, Frank.

Good morning, David.

I wanted to ask about Unilin but let me first ask about your CapEx plans for '07.

You indicated that you intend to spend an additional 100 million on capacity at a time when it sounds like you're trying to take capacity down throughout the balance of the business model, and I wonder if you can just talk about where in your business model you're spending that 100 million and what the thought process is behind continuing to invest in capacity at a time when you appear to be over capacity?

What we said was that we had -- we were going to invest -- what was the range?

250, 300 in total, 100 of that is (Multiple Speakers).

We said 250 to 300 in total, and included in that was 100 million of strategic projects. Some of those strategic projects that are potential could be an expansion of our ceramic business. For instance, that we have to decide it takes about a year-and-a-half to two years to put them up and get them going. You have to think way out ahead.

The question is do we want to do that now or wait and how do we see it. We also have internally projects that going into different product categories and different things that we want to go into and new things to add various revenues that we have to decide if we want to invest in some new concepts in ideas and pieces.

And so the reason for the broad range of the piece is, as we go through the year we are not -- we don't have to put everything moving forward at the first of the year, and we continue to evaluate the industry, and we continue to evaluate that we start these other projects which most of them take at minimum a year and some as much as two or more.

So how we go through the year and evaluate those will decide as we go.

Okay.

Did you say where in the model you were plan to go invest? You talked about the expansion of ceramics, but how much of the 100 million is that and how much of this is in fiber capacity?

I am not prepared to break down the various pieces. I mean they're on a schedule there to do, and we haven't concluded whether we're going to do them or not.

Okay. Okay.

The other question I had was really with respect to Unilin, and this is a business you bought a year ago, and there was a surprise for us in the second quarter of last year, and it was a catch-up on royalties. There is another surprise for us this year. Presumably royalties factor prominently in the surprise.

The truth of the matter is that it is pretty clear from the earnings miss versus consensus numbers and the way the stock is trading this morning and all the short covering that nobody really understands Unilin and there is very little visibility, and for good reason, you really haven't done much to create any visibility around that business.

So what do you do going forward to help us better understand this business in terms of opening that up, letting us understand, how much of it is laminate versus how much of it is roofing and board products? How much of it is the royalty stream so that we can do a better job of analyzing this business and come up with a better overall thesis on your stock?

I think we've given out some of that. Not as much as you would like. Historically we have given percentages of the flooring business versus the other board businesses as a percent of the business. We have given percentages of the U.S. business to the total business out.

We have told everyone that it was a privately held -- and we repeated over and over it was a privately held business that they didn't do any projections whatsoever. They ran their business based on cash flow, and that we have been spending the last year developing financial information and processes and procedures which we are going to continue to enhance over time, so we have given that.

If you would like to call Frank, and he would be welcome to give you what was already given out in those exact numbers. Give Frank a call and he would be glad to give them to you.

Can I just confirm the Quick-Step is roughly two-thirds of the overall business?

The laminate related business is about two-thirds of the total Unilin business.

Okay.

U.S. and Europe, David.

U.S. and Europe. Of course. And of that, roughly one-third of that is in the US, and the other two-thirds is in Europe.

Correct. The other two-thirds of the total Unilin business.

Okay.

Of the other business the remaining 33% that's non-Quick-Step or non-laminate business, how much of that is the royalty stream versus other building products related revenues?

None of it. The royalty stream is in the two-thirds because it is connected with the flooring. It is the other third is a roof -- a specialty roofing business where we create roofing structures. It is not roofing materials.

It is roofing structures where we have I very high market share in that one, and it is also specialty board products for the most part, so that's what the other third is. Anything related to laminate is in the laminate piece.

Right.

What are the typical margins in that specialty roof structure and specialty board products business in Europe?

We haven't given out the pieces. It is lower than the laminate business.

Lower than laminate. Okay.

I will follow up with Frank afterwards. Thanks very much.

You're welcome.

Your next question comes from the line of Laura Champine with Morgan Keegan.

Good morning, Laura.

Good morning.

The 16% to 16.5% EBIT margin target for Unilin, is that full year with lower margins to be expected in the first quarter?

We expect lower margins in the first and the third.

And what -- can you give a range of margins that you're targeting for the first quarter for Unilin?

It is all built into our estimate.

So no more clarity on that front, the 16 and the 16.5, that's full year and should be lower in the first quarter, but other than that we need to make our own assumptions, is that fair?

That's correct.

Correct.

Thank you.

Your next question comes from the line of Sam Darkatsh with Raymond James.

Good morning. This is Jeff calling in for Sam.

My first question also relates to Unilin and the different businesses you have in there or the different parts of the business. As I understand it you're vertically integrated there and that you produce your own fiber board, is that correct?

Both in the U.S. and in Europe.

Okay.

And that goes into both your product and then do you also sell that to outside customers?

In both continents.

What types of customers and end markets are you selling to? Are we right to assume that's largely the cabinet maker and is that sort of thing?

It is other flooring producers as well as -- it could be cabinet makers. It could be put together furniture. It could be -- some of it is even going into our own roofing business.

Okay.

Any one of those stand out as a larger end margin or anything like that?

I don't know the percentages.

Okay. Okay.

And then -- so a follow-up, how much of the board that you produce do you sell internally?

We make other board other than MDF. That's just a piece of it. We also make melamine boards and chip boards.

Okay.

Have you seen a big -- as I understand it prices for the board have -- prices for most of that type of board have been rising recently. Have you seen a big impact from that?

The pricing has gone up in the marketplace as well as have the raw materials, energy costs and chemicals to make it.

Okay.

But with the strong European marketplace, the prices have improved.

Okay. Would you say the pricing that's been taken has been more than enough to offset the cost increases or --

Yes.

Okay.

But the other thing that happened is some of the costs we had expected in the fourth quarter got postponed, so it also helped the fourth quarter.

Okay. Okay. Right. You you mentioned that in the release. Okay.

And then my other question is related to the promotional activity that you mentioned in the Mohawk segment. Can you tell us specifically where has that promotional activity been happening in terms of there anything you can single out like cut rolls or full orders or anywhere specific you can single out there, and then also how is that affecting you versus affecting the retailers or your distribution channels?

Given an industry that's in a significant unit fall, it is normal there would be more pricing pressure in the pieces. In everything I have ever been in, the more commoditized the product is, the more pricing pressure there is because it is more similar substitutes to them.

It tends to be more in the lower price pieces that are more commodities, and that's the way it works.

Okay. Have you seen --

We probably should give somebody else an opportunity to ask questions, Jeff. You can follow up with me offline if you would like to.

Okay. Thanks a lot for your time.

Your next question comes from the line of Errol Rudman with Rudman Capital Management.

Good morning, Errol.

Good morning to you, and my question has already been asked, so I thank you for picking me up, but I am satisfied.

Thank you.

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

Thank you.

You made some comments in the prepared statement on commercial, I believe the high end doing a little poorer than expected. A, is that correct, and, B, did you see any kind of inflection in commercial orders either positive or negative as the fourth quarter progressed?

In our high-end business as the raw materials went up, we have some of the products exceeded the other -- the budget areas they have been utilized in. So what we're seeing in some cases is that the customers are trading down from those products into higher value products, and we have lower price product in our present product line as well as re-engineering some of the ones that we had that are now higher than the price points that we like them at for future given the raw material increases.

And volumes in the quarter at any price point, was there any variation of trends?

I think that what's happening is more than anything is as we've gone through the year the commercial business has continued to improve, so what happens is the comps get harder. They start over -- I don't remember exactly when it started.

The rate of increases has got to slow down because the comps keep changing as you get further in the cycle which is going to continue happening. '06 was a pretty good year.

Okay.

Final just to clarify on the CapEx, are you saying that you got a $250 to $300 million range, and there is about 100 million of that that you may not do if business conditions warrant that, do I have that correct?

Correct.

Thank you.

Your next question comes from the line of John Baugh with Stifel Nicolaus.

Thank you. Congratulations first of all, and secondly not getting too many complaints about the diluting the return of capital on Unilin these days given these results.

My question, I know you're not going to break out royalty streams for us, not asking you to, curious as to the rate of gain of revenues and royalty year-over-year, if you would give us some flavor for if that changed materially either in the fourth quarter or the year, and your expectations going forward?

Let me answer the expectation first. When you have these royalty streams, nobody wants to pay us any, so the future, I mean, is totally unknown. Until you have an agreement with someone is unknown then I don't want to leave you guys. You tend to think like you just get the revenue.

In order to get people to agree to renumerate you for your patents, we spend a tremendous amount of money on legal strategies that cause a tremendous amount to go through the system and structure with various peoples, and we have huge investments in making these -- in protecting these patents, and it is not free, is this.

What was the other part of the question?

I was wondering the percentage, could you give me a feel for whether your royalty revenue went up in '06 fourth quarter year over year and year, year over year?

Yes, it went up.

Your question was whether it went up in the quarter and in the year?

Yes.

It went up in both.

And you get renumerated on a cents per square foot, so what you're tied to is units, not dollars, correct?

The industry units and then the number of license that is we have out there --

Sure.

That we do, and then offsetting that just -- just to give you -- in cases we spent $5 to $10 million on one case as it, so it is expensive.

All right.

And then follow-up just on the Mohawk division margin which was surprisingly strong to me in light of the unit declines of carpet. Was there any raw material relief? Was there something with reserves this calendar year end? You mentioned cost cutting initiatives, and of course I know we got some pricing.

Just curious as to -- and I know seasonally the first quarter is much weaker than the fourth. Just curious as to what were some factors that maybe helped the fourth quarter EBIT in Mohawk that won't repeat in the first quarter excluding the seasonality?

The biggest piece is that the first quarter seasonality you have a reduction in volume to begin with.

Historically in the first quarter we have historically had run more inventory in the first quarter in order to level out the business and to support the higher inventories in the rest of the -- the higher sales the rest of the year. Given the volume that we're at, we don't have to run the plant to do that. So normally you're running more in there, and you don't have that to run in those quantities this year. That's a significant impact on the business besides the lower volume to begin with.

We have to get through that piece. The next question is where is the industry volume going to be and when is it going to rebound, and as you know, we have a future window vision of about two weeks. We don't have any knowledge either what it's going to do.

The biggest chunk is the volume, and it keeps going down. The second is we really have spent a lot of effort reducing our costs in line with the business, and we have reduced the production staffing significantly. We have reduced the amount of new products we're putting in.

We've reduced discretionary spending. We've reduced the sales force with taking out the poorest performers. We reduced the administrative headcounts. We are -- it is a struggle. We're struggling as best we can to keep the overhead costs in line with the volume, and we're getting towards the point where there is not much more we can take out, and that also affects it, and the reason we can't take it out is because we don't think it is a permanent piece, and we can't give up the infrastructure.

Point taken. Great. Good work there. Thank you.

Your next question comes from the line of Steve Fockens with Lehman Brothers.

Good morning. Just one question for you.

I think in the past when you've talked about some things that could bring Unilin margins down a little bit maybe relative to what -- the strong performance you put up recently is a mix shift towards lower and more mid--priced laminate products and other stuff that could just change the mix.

One, I wanted to confirm that that's true and two, to what extent have you already done any of that or have you not done any of that such that as you're pointing to maybe a little bit lower margin in the future that that's this mix shift will be a function of some of that margin coming down?

We have done some of it. We haven't participated in those markets as much as we think potentially we will, but we have -- we are taking business that Unilin historically would not have participated in, so there is some of that going on. It is going to continue going on which is part of it.

The other part is, the industry and the competitive nature of it that is going, there is a lot of capacity coming on. We're assuming we're going to have to react to those things. Offsetting those I have to give credit to our people and their creative innovations that they continue to come out with innovative products that have more value and people are willing to pay them for those.

We have both things occurring at the same time.

So if you think that if we're to look at that 16, 16.5 and say, there is upside risk -- upside potential there, you think some of that would be just your company's ability to continue to innovate and put out good, new products?

I didn't say that. You did.

I said my best guess was 16 to 16.5, if I had a different guess I would have given it to you.

All right. Fair enough. Thanks very much.

Your next question comes from the line of Carl Reichart with Wachovia Securities.

Good morning, how are you?

How are you, Carl?

Fine. I just want to make sure I understand this, is any of the Unilin product running through the Mohawk sales line at all?

Yes.

Can you give me a rough idea of what percentage that might be?

No, we can't. There is some margin of it, some of the margin is less than the Unilin side because they are doing the manufacturing, and some of the margin is less than the Mohawk side because they're doing the sales and marketing and distribution.

They're sheering the revenues on a basis we think is reasonable.

Okay.

And then can you give us an update, Jeff, on the rollout of Unilin through the retail partner base because it talks about that being later it seems like it might have been a little earlier you got more Unilin out in the field than maybe you thought you would by this point.

Is that correct?

Let me say what I think you're asking. We have two distribution methods. We have the Unilin historical business which we sell under the Quick-Step label.

Right.

We also have a Mohawk brand that's sold under the Mohawk Brand label, and they be we have private label pieces, so private label is all going under the Unilin -- under the Unilin segment there, and the Mohawk piece is a transition.

The Mohawk piece has taken us longer than we thought. It took us almost through the entire year to get the products to the customers, and then to get them introduced into the field due to the timing it takes to design them and execute them and make samples, and so we should get more benefit from that next year than we did this year.

Okay. So that rollout is effectively complete through the Mohawk side at this point?

The products are introduced. They're just getting out to the marketplace. Some of it didn't get out until the fourth quarter.

Like anything else, we now have a complete product line, and now we're going into the first quarter and typically we do a lot of introduction in the first quarter anyway, so now we have the next generation of product on top of those. Until we got through the fourth quarter they only had a limited selection of products versus a full line, and that was a hardship.

Okay. Great. I appreciate that, thanks, guys.

Okay.

Your next question comes from the line of Bob Thompson with Advantis Capital.

Good morning, guys.

Seems like you've done a great job of getting your leverage down to 2.5 times and the debt to cap getting into the range you're looking for. What's the plan for the balance sheet for 2007, having kind of gotten pretty close to your goals almost a year ahead of time?

We're going to continue looking for places to invest the money. We continually look at acquisition candidates at all points in time. We have stated that things of interest, we have a wood business which we need to support which is of interest to us.

We have expanding our ceramic businesses and laminate businesses in potentially other parts of the world and bringing us in the new markets, and continuing to look at alternatives in the carpet business and rug businesses to keep earnings growth, hopefully investing it with rational methods.

Okay.

Are you satisfied with your leverage at 2.5 and 43% or do you want to get them down a little bit more before you do more acquisitions or how do you decide that?

The real question almost is how much further up do you want to go? If you did a large acquisition, how much further you want to drive it up.

Yes.

Versus drive it down. It is really the more pertinent question.

Okay.

What would that be?

Well, as you expect there is not a single answer to it. You can see we took a choice at a point and drove it up to 55%. Prior to that the highest we had it was in the mid40's, maybe 46, 48, I am not sure, and historically prior to that we would have used some stock as a method of financing it or this time we used all cash, so you have to get back to each acquisition.

What you see is going on in the marketplace, and if you want to use cash and stock or all stock and depends on what we perceive the marketplace and how much flexibility we want it leave ourselves over the next year or two. There is not a flat answer to it.

Yes. Are you seeing -- what are you seeing on the acquisition front? Are the private equity guys driving the prices up higher than you would like to pay or how is that sitting right now?

That happened in a number of occurrences, and we walked. They use a method different than we do that they take and leverage it up dramatically more than we do, and they seem to be satisfied with a lower operating margin that's leveraged up much more, and they also throw into the package most of them assume a fairly high multiple on the exit side and combining all of those things, everything has got to go right to make it work.

Different than they, they seem to take a portfolio approach and if they miss a few it is okay. We try to make 100% of them work, but I think we're a little less aggressive in our valuation than they are. It is impacting the pricing in the marketplace and some of the pieces. On the other hand we may get to buy some of them cheap not too long from now.

I agree. I think you're playing it right. Thank you.

You're welcome.

Your next question comes from the line of Douglas Pratt with Galleon Group.

Hi. Thanks very much.

A couple follow ups on Unilin. You said Unilin growth year over year was 8%. I am assuming on the entire business, which I guess is about 1.1 billion in '05. Is that excluding currency changes? Is that cost and currency or does include a benefit for currency and if so how much?

That includes currency. I will have to get the number for you without currency for the full year.

Okay.

So should we assume that ex currency sales were probably down year over year in Unilin?

Yes, probably as high as 8%, but not down.

Okay. Great. Thank you.

Your next question comes from the line of Barry Haimes with Sage Asset Management.

Good morning.

I had just a couple of follow-up questions on the Unilin. First, I just wanted to be clear when you said revenues were up 24% year on year, was that three months compared with three or three months compared with two, because you mentioned you only owned it for two years?

You don't think we would do that, do you? 3 to 3.

I wanted to be 100% sure.

More importantly, when you look at the source of the revenue beat within Unilin, could you give us just a rough sense for how much of that was Europe better than you thought? How much of it was you being able to enhance their distribution as you talked about in one of your earlier answers versus maybe just any change in the U.S. market? Just trying to get a feel for where within Unilin you saw the biggest improvement?

As I stated, every single part of the business exceeded our expectation. It didn't matter which product or which channel which is highly unusual. The U.S. grew more than the European business, and everything hit right in every piece.

The laminate business grew more than the other business, and then the U.S. piece of laminate grew more than the European.

Was the U.S. growth the function of the market or was it more a function of the enhanced distribution?

We believe our growth significantly exceeded the markets. We think the markets growing, but it is probably again there is no digits. There is no definition of -- if you want to guess the last number last year they estimated depends on whose numbers you use, 9% to 10% growth last year. This year we would assume grew significantly less, maybe in the mid-5 range could be more or less. Don't know. We think we're doing significantly better than the market.

Great. Thanks very much. Appreciate it.

Okay.

Your next question comes from the line of Lori Bilker with Dillion Read Capital Management.

Thanks for taking my question.

You have done a great job with bringing the leverage down. I just had a question on the current portion of the long-term debt.

I know you guys have about 300 million coming due in April and just wanted to see what your thoughts were on financing that, and also I wanted to find out how much you have outstanding on the two revolvers?

We'll have to roll that 300 over into the revolver when it matures.

Okay.

On the outstanding -- on the revolver I will have to get back to you. If you want to call me in my office I will give you the exact number on that.

Okay. Thanks so much.

Your next question comes from the line of Bob Goldberg with Scopus Asset Management.

Good morning.

Good morning.

Sound like a broken record but one for follow-up on Unilin.

It is nice to have questions about why you're doing so well. Usually the questions are why are you doing so lousy.

It is a high class problem, right?

That's right.

I remember back in the first quarter of '06 there was some inventory adjustments at the distributor level in the Unilin chain.

Yes.

I was just curious if maybe some of the strength in the fourth quarter was due to restocking and maybe more general question where do you see inventories and how is the sell-through going at the retail level?

Two different questions. One is retail and one is distribution.

Yes.

Again, anything in the residential business we see retail that it is poor. The traffic in the retail stores is not what we would expect, that we don't hear any indications from anywhere in the country that bottomed or turned or anything that tells us something changed at this point. Almost everybody in distribution as well as retail as they've gotten into the economy as the residential sides close most of the people have, as you would suspect, started reducing inventory that their sales estimates change.

We think that over the last X months that most people have moderated their inventories, and we don't foresee we're getting a big lift from inventory adjustments. If anything, it is the opposite.

On the specific thing of pushing the inventory down, the Unilin distributors, when we shorten the lead time dramatically reduce their inventory levels. It took much longer and much was greater than we thought it took all the way through to somewhere in the third quarter, and then we said then it turned, and then I think that the people that are selling our products are doing better than the general market place and they're supporting it.

To summarize, I guess the perception I get is that the strength in your U.S. laminate business is really attributable to your initiatives? Of your business?

Versus what?

Versus the market? Doesn't sound like the market was relatively soft in the fourth quarter?

I don't have any market data, so I can just give you gut instinct from what's going on. I don't have any data to support it.

We think that, I said before, we're guessing that maybe laminate grew 5% plus or minus, but that's a number I pulled out of the air. There is no data on it at this moment.

Okay.

The growth rate for the U.S. business was greater than the 24% that you had for the segment?

Yes.

Okay. All right. Great. Thank you.

One other piece. We keep saying that the quarter-to-quarter variation appears to be greater in this business than some of our other segments which I said before also, so I just want to repeat it.

Thanks for the help.

This is Frank. I would like to add someone asked earlier about the outstanding revolver balance at the end of the quarter. It is a little over $200 million. Revolver and the securitization.

Your next question comes from the line of Tom [indiscernible] with [Lukram] Capital.

Good morning, guys.

Good morning.

Was there any benefit to the LIFO change back in the third quarter and the fourth quarter year over year?

Tom, -- one more time, I am sorry?

LIFO.

All the historical numbers when we moved off LIFO were adjusted so that they're all comparable, so any number -- I don't know if you take the recent numbers that we put out, the historical numbers were all adjusted so that they're all on an equal basis. If you have old numbers they could be wrong.

The balance sheet in Q4 '05 was changed also?

Yes. Everything that's presented on anything that we sent out now has been restated to be on a FIFO basis.

Okay.

Why are you so quiet about what the royalty will be or was in the quarter?

Part of the royalty piece we have negotiations with various licensors, and if you start announcing it basically you're telling the marketplace what you're charging each new license. You wouldn't know but the people in the market would know exactly what the C's were and the -- all the pieces to get to it.

We don't think that's a benefit of maximizing our shareholders value.

How many years are left remaining on those royalties, is it something that goes on forever?

It does not go on forever. It goes on through I think 16 or 17, maybe 17. I should know that one, but it's either 2016 or 2017.

Is anyone appealing those royalty payments in the court systems?

Everybody is fighting them every minute.

Okay.

How is that one?

That's great. Thank you.

Your next question comes from the line of Quentin [Biondo] Virtual Partners.

Good morning, guys. Congratulations on a great quarter.

Thank you.

Historically you have been great acquirers. At what point in the company's lifecycle do you guys decide just to repurchase your own stock at cheaper levels than you can pay for strategic assets?

When we can't find businesses that we think will add value to the shareholders more than buying back stock. It doesn't keep us from doing both.

Put the question another way, just given the way you trade in the market, the market hasn't given you guys credit for tremendous execution, and the cheapest your stock does it make sense at some point to step in and do buybacks rather than a premium prices for assets?

If you go back in time around 1999 or 2000, our stock was trading at about a 4.5 cash flow basis, and we bought a large amount of stock back at very low prices, so if it gets real low we really get or attention and in the range where it is it is really that versus other alternatives.

Great. Thanks.

Your next question comes from the line of David MacGregor with Longbow Research.

Welcome back, David.

Yes. Thanks.

Jeff, a couple quarters ago I asked on you the call if it was possible subsequent to the Unilin acquisition and the debt you had incurred to do that deal if you could make an acquisition of Armstrong, and at the time you said you didn't think that was possible. Your plate was full.

I just wanted to come back to that and in light of the announcement just recently come out of that company. Are you potential acquirer of Armstrong?

As you are already aware before you ask it, you know that we can't have specific information on potential acquisitions.

You ruled it out two quarters ago. I was still wondering if you can do that now or anything changed?

We always try to listen to things and depending upon our cash and availability, we always go through a analysis of what the risks are and the potential rewards and to tell you we should not go through that -- to tell you we wouldn't go through that, that's ridiculous.

Sure. Understood. Thanks for addressing that.

Just to follow up, you mentioned the U.S. laminate business was stronger than the European laminate business. Would that be the case if we excluded the royalty stream?

Yes, yes.

Thanks very much, guys, and congratulations on a good quarter.

Thank you.

Your next question comes from the line of Michael Rehaut with J.P. Morgan.

Hi. Thanks.

Just wondering if you can give more detail on what you expect the cost savings would be from the plant shutdown in the ceramic tile division as you shift that capacity?

I don't have that. It is not dramatic to the whole. It is a relatively small plant, and compared to the capacity we've been investing in the past two or three years, it is a minute portion. It is not significant to the whole.

Okay and in term of the SG&A initiatives that you've been doing and you mentioned a broad array of areas that you're trying to tighten the belt, do you have a sense of what that might result in in terms of a dollar number or a basis point percent of sales number?

It is all built into our -- we basically give the bottom answer, and that's our best guess which has it all included.

For the quarter you gave -- you mean in terms of what you have in guidance for the quarter?

Yes. That's all built in, our best guess of all pieces. As you can tell from that call we don't always guess right.

Fair enough. As you look at SG&A, you were able to be in a 16% to 17% range, in the last three years, it went up this year to 17.6. What's your corporate goal in that, to try to get back below 17%?

You have two or three things going on. One is that you have you a mix change between our total business and depending upon which business category you're in they have different SG&A costs.

So as the hard surface business has grown, our SG&A has gone up -- if everything else stayed exactly the same, the average would go up, and in addition, this year we had many changes in our Mohawk segment, so we invested much more heavily than normal in new sampling and pieces and we're trying to get that back down to where we would like it to be, but the mix change is part of it.

The other thing that impacts the cycle is the Unilin amortization, if that runs about $80 million. We have that in this year and we don't have it in last year.

You also have the the options expense. You got two big numbers. You got the 80 plus option expense with operating under what? 15 give or take.

15, 18.

I don't have the number in front of me, but, about 90, 95 million of.

Things that we have this year that we didn't have last year.

Right right.

With all of that being said and given there are several moving pieces, you're not sure if that 17.6 is -- would go back maybe, certainly it still should go down a little bit but maybe to either you're not sure if it would be like low 17's or mid-16's?

The biggest problem is in answering the question for you is we don't know what the volume is going to be. This year.

Okay. Volume constant.

Volume constant, I expect to improve it. Problem is I don't where volume is going to be.

That's in effect my question. If volume was constant, would you think you could get it to the low 17's or the mid-16's?

Should improve.

I got to go back on the first one, it depends also what the mix change. If you hold volume constant, you still have a mix change question.

Okay. Thank you.

Ladies and gentlemen, we have time for one final question from the line of Eric Bosshard with Cleveland Research Company.

A simpler question perhaps.

On Unilin you said the pro forma growth in 4Q was 24%. Can you explain what that growth on that basis was in the prior quarter or two and what you would expect it to be on that basis in 2007?

I don't know if we have -- what happened is the 24% we had adjusted for the timing and we adjust it for FX exchange rates. I don't think we have that with us today.

Do you have a sense of what you expect it to grow in 2007 relative to 2006?

What we said is that we expect the European economy to keep going reasonably well which all indications are, and that we expect -- that we expect the U.S. business that the economy -- that the category based on what we know this minute is under more pressure today than it was under last year, and so depending upon what it looks like going through, it is anybody's guess what the U.S. residential business today.

The whole question is not if it is going to turn, it is when it is going to turn, and I don't know for those of you who looked it over, I mean this happens about once a decade. It happened in the early 90's. It happened in about '82, '83, and it happened in the mid-70's.

We're going through this, and we have to get through it, but it will change, and I just don't know what it is going to be next month or next year.

I guess in my question is I am trying get a sense of the 24% growth in 4Q.

Should we think if things stayed somewhat like they are now you may keep growing 20% or 25% like you did in 4Q or was there some factor that made the revenue number in 4Q look different? That's the sense I am trying to get.

I don't know a way to grow a business as large as we have 24% continuously unless all my competitors go out of business.

You did it in the fourth quarter, I guess, is the point.

I also told you it was an exceptional piece and I didn't expect it to keep going.

What we said I guess is from all our comments that most likely that the U.S. economy is worse this year -- if the U.S. flooring industry is worse this year, it would be probably less than last year, and we said last year was about 8%.

Okay.

The full-year growth is the last year -- that 2006 growth of 8%?

2006 over 2005, yes.

Unilin up 8% in 2006 or laminate Unilin?

Unilin.

Okay. So your Unilin business was up 8% for the year, it was up 24% for the fourth quarter and it probably grows less than 8 in 2007?

Unless we get surprised by either the economies or something most likely.

Okay. That was my question. Thank you.

Thank you.

Ladies and gentlemen, thank you for your participation.

I now turn the call back to Jeff Lorberbaum for any concluding remarks.

I think that we had an excellent quarter given the circumstances in the industry.

I think in the short term, there are continuous opportunities in the business, long-term we are well positioned within multiple product categories, and we appreciate everyone being here, and have a good day.

Thank you. This does conclude today's conference. You may now disconnect.