莫霍克工業集團 (MHK) 2015 Q3 法說會逐字稿

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

At this time I would like to welcome everyone to the Mohawk Industries third-quarter 2015 earnings conference call.

(Operator Instructions)

As a reminder, ladies and gentlemen, this conference is being recorded today, Friday, November 6, 2015. Thank you.

I would now like to introduce Mr. Frank Boykin. Mr. Boykin, you may begin your conference.

Thank you. Good morning everyone and welcome to the Mohawk Industries quarterly investor conference call. Today we'll update you on the Company's results for the third quarter of 2015 and provide guidance for the fourth quarter.

I'd like to remind everyone that our press release and statements that we make during this call may include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995 which are subject to various risk and uncertainties including but not limited to those set forth in our press release and our periodic filings with the Securities and Exchange Commission. This call may include discussion of non-GAAP numbers. You can refer to our Form 8-K and press release in the investor information section of our website for a reconciliation of any non-GAAP to GAAP amounts.

I will now turn the call over to Jeff Lorberbaum, Mohawk's Chairman and Chief Executive Officer. Jeff?

Thank you, Frank. We delivered another excellent quarter as our adjusted earnings per share rose 22% to $2.98, the highest quarterly adjusted EPS in the Company's history.

Our net sales were up 8% or 15% on a constant exchange rate. Our adjusted quarterly operating income also reached a record level at $309 million, up 30% over the same quarter last year. All segments contributed to our sales and income improvement.

Our new segment structure that we announced last quarter has benefited our performance, enabling us to optimize our regional businesses by enhancing our product offerings, manufacturing assets and distribution strategy. During the period we made significant progress in aligning our IVC acquisition with our European and US flooring businesses and our KAI acquisition with our Italian ceramic operations. The business strategies that these acquisitions are coordinating with our existing businesses and we are beginning to execute best practices across each segment.

We're introducing products to take advantage of the unique capability and customer relationships of each organization. Earnings for IVC and KAI acquisitions were in line with our expectations for the third quarter. As we leverage the strength of these businesses we anticipate greater market penetration and continued earnings growth in the future.

After a flat first quarter the US economy grew in the second and third period. In late October the National Association of Homebuilders reported that builder sentiment rose to its highest level in a decade, bolstered by an 11% year-to-date increase in single-family construction.

Also in October Fannie Mae and Freddie Mac announced initiatives designed to help lenders make loans more accessible to potential homebuyers. Harvard's LIRA index projects home improvement spending will gain momentum in the fourth quarter with homeowners investing more discretionary remodeling projects.

Improved employment and lower gasoline prices have kept consumer confidence high and should support remodeling investments. Commercial spending is forecast to continue growing with hospitality, office and recreation sectors leading the category.

Mexico's economy is benefiting from low unemployment and strong consumer activity with new residential and commercial construction driving ceramic sales growth. The European Central Bank has expressed a willingness to further reduce interest rates and expand its quantitative easing program to accelerate economic growth. The Russian economy is in a recession and most believe it will continue to face headwinds through the end of 2016.

I will now review the third-quarter performance of our three segments. Our Global Ceramic segment sales were up 2% as reported. On a local basis sales grew 11% and adjusted operating income rose 15% with adjusted margins increasing to 15% as a result of improved productivity, volume price, mix and the KAI acquisition, partially offset by currency headwinds.

During the period our US ceramic sales continued to improve with residential outpacing commercial. Sales grew across all channels as we increased our investments in new products, additional sales representatives and new service centers and galleries. The residential new construction sector remains the strongest part of our US ceramic business.

We continue to gain commitments from major regional builders as a result of innovative products which elevate home values. Wall tile sales have performed exceptionally well as decorating trends and our fashionable designs are expanding wall tile into new areas of today's homes.

In residential remodeling ceramic sales will continue their positive growth while hospitality and retail remain our strongest commercial sectors. Placement of new sample displays in major retail groups is increasing our position in this channel and new commitments by our independent distributors are strengthening our market position.

Home centers continue to see ceramic as a growth category and we're gaining commitments with our unique coordinated floor and wall tile collections. To satisfy increased demand in the US market we've begun importing ceramic tile from both our Russian and Bulgarian businesses, leveraging our global footprint to optimize our profitability.

Construction at our new Tennessee plant is well underway and equipment is now being installed. Productivity, material enhancements and yields are improving our costs in our existing manufacturing plant. We've also implemented several initiatives in our service centers to improve the customer service experience and move toward paperless transactions.

Growth in the Mexican ceramic market remains strong as we improved our position and we are adding new sales representatives to increase our market penetration. We continue to expand our distribution base and increase our participation in home centers, residential construction and commercial channels. Our new products and larger sizes with wood, stone and brick visuals are enhancing our market position and improving our margins.

Geographically we are in a stronger position with our recent acquisition in western Mexico, combined with our existing facilities in northern and central regions of the country. In Europe our ceramic sales are outpacing the market. We are enhancing our product mix with larger sizes, longer planks and outdoor tile.

We're benefiting from upgrading our assets at our manufacturing facilities which are increasing our competitiveness and yielding more differentiated products such as three-dimensional wall tile, hexagons and brick visuals. We completed Phase 1 of these investments during the period and we'll finalize the second phase in the second quarter of next year. We're planning additional enhancements to our capabilities following the completion of these two phases.

Our service should improve as we gain additional capacity to satisfy growing demand. Our new wall tile collection has received the 2015 design award in Italy, reflecting our position as Europe's ceramic design leader. We continue to gain share in Western Europe as well as surrounding markets by expanding our customer base with multiple brands and increasing our participation in commercial projects.

And new Bulgarian ceramic business is increasing its product mix, improving its manufacturing and expanding sales outside the local market. New capacity has recently been installed to produce larger sizes in embossed wood planks. We've seen increasing competition in opening price points as the European exports to Russia have declined.

Though Russia is in a recession we are increasing our share in the ceramic market. During the period our sales grew on a local basis though our margins contracted as inflation outpaced price increase. As imports substantially decline we are improving our mix with gains in the high-end of the market.

To further support our leadership in the premium market we are installing a new production line next year to increase our porcelain capacity to produce higher value commercial products historically purchased from Europe. During this period we increased our adjustments and sales personnel to expand our DIY specialty retail and commercial businesses. We opened seven new franchise stores during the quarter and we're investing more in marketing to grow our sales.

Our Russian comparisons in the next two quarters will be very difficult due to consumers pulling forward purchases as inflation dramatically increased last year.

Our Flooring North America segment, sales were up 8% over last year with adjusted operating income increasing 41% over the prior year. The adjusted operating margin increased almost 14% due to improved volume productivity input costs and the IVC acquisition partially offset by price and mix. The new structure of our North American carpet and hard surface businesses is improving our performance as we leverage the strength of our brands, marketing strategies and consumer relationships over all categories.

During the period we increased our investments in sales personnel, marketing and promotion in both carpet and hard surface categories to enhance our position. We anticipate these investments will improve our results by expanding our market penetration and enhancing our product mix.

Our carpet business continued its margin improvement from productivity and lower input costs offset by price, mix and additional sales investments. We're beginning to see improved margins from our recent product introductions and the expansion of our Karastan branded customer base. Our builder channel is growing significantly and we are improving our position in the home center channel.

We are expanding our SmartStrand Forever Clean collections with new tonal flecks and fleck visuals. The popularity of our polyester carpets continue to grow. The superior stain resistance and softness of our Continuum polyester products are helping us capture sales in this category.

Our commercial margins are continuing to expand with the introduction of more stylized products, improve manufacturing efficiencies and enhanced service. We continue to revise our product offering to reduce manufacturing complexity and eliminate underperforming SKUs.

Our new plank carpet tiles are gaining acceptance in the A&D community and our award winning collection from NeoCon are now entering the market. We're gaining momentum with large national accounts and we're expanding our integrated installation services for large projects. We're increasing the specialization of our salesforce by sector and enhancing our training so that our sales professionals deliver superior solutions to satisfy our customers' needs.

We're improving our efficiency and reducing our costs by closing two commercial plants and consolidating the operations.

Our rug sales and margins were up during the period as our new product introductions gain tractions in the marketplace. Our focus on new fiber innovation is differentiating our offering and improving our mix. We have extended our line with a new exterior mat collection that has been well accepted in the marketplace.

Sales of our hard surface products are growing faster than carpet across all channels with builder and commercial sectors expanding the fastest. We're seeing margin improvement in all categories driven by higher volume productivity and cost savings. We're investing in new product samples and sales personnel to further expand our participation in all facets of the marketplace.

Our recent laminate introductions are creating a new high-end category with deeper structures, more sophisticated visuals and unique water resistant technology. Wood remains the aspirational purchase for most consumers and our solid wood collections appeal to builders while our engineered wood products have become a desirable remodeling choice.

IVC's management team is now guiding our US vinyl product strategy and leveraging our customer relationships and logistics expertise. Our sheet vinyl and LVT sales continue to grow and we're introducing new Mohawk branded products from IVC to expand our vinyl offering in all channels.

Our LVT growth has been limited by our manufacturing capacity. However, production at our new US plant continues to increase as we refine the processes of the world's largest LVT plant. We expect significant improvement in our costs over the next 12 months as we implement equipment modifications and process enhancements to increase our production.

We continue to increase the productivity of all of our manufacturing assets, improving our efficiency yields and quality. Material costs are benefiting our margins partially offset by lower price, mix and other inflation.

We continue to optimize our raw materials through reengineering our formulations and increasing our recycling. Our enhanced logistic systems are improving service to our customers as well as the return on our investments.

For the period our Flooring Rest of the World segment sales rose 24% as reported or 41% on a constant exchange rate with adjusted operating income improving 48% over the prior year. The adjusted operating margin increased almost 16% due to improved volume, input costs and the IVC acquisition, partially offset by significant currency headwinds. Our laminate sales increased during the period and we have realigned our sales and product strategies to optimize our brands.

Quick-Step and Pergo will be focused on the premium high-end laminate with differentiated features. Balterio, the laminate brand from IVC, will focus on stylized products customized for specific retailers. We will maintain separate sales and product development organizations to satisfy different customer needs across all channels. Our premium laminate brands continue to benefit from deeper, more natural structures and bevels that yield more realistic visuals.

We've also added water resistant technology that's unique in the marketplace and expands applications for laminate into additional areas. Our current premium product collection is one of the most successful ever due to its unique features and performance benefits. Sales of our stylized collections are also growing and we're introducing collections with our new digital technology to differentiate our products.

During the quarter our laminate sales were strong in Eastern Europe, Russia, Australia and New Zealand. To increase our Balterio brand sales in the Russian market we're moving products formerly made in Belgium to our Russian manufacturing facility of laminate.

Our wood sales increased during the period but were constrained by supply limitations. Our margins were up as we improved our mix and lowered our cost. Continued cost savings from production in our Malaysian and Czech plant as well as favorable exchange rate positively impacted margins.

We continue to benefit from the 2014 acquisition of the Czech manufacturing plant which we have upgraded and expanded. Our mix and average selling price improved as we marketed wood collections under our premium brands and introduced differentiated surfaces including matte finishes, rustic visuals and reclaimed looks.

Our vinyl business also improved with significant growth in LVT. As with laminate we are marketing two brands focused on different channels to maximize our distribution in our marketplace. Our new LVT plant in Belgium is producing high quality product with unique features and is increasing production to satisfy the growing demand.

New equipment will be installed in a plant by the end of year to increase our capacity further. Our European LVT startup is doing well and additional material supply will be installed next year to reach the planned capacity. We're introducing new LVT sizes with embossing, enhanced scratch resistant and superior click installation system to add more value and participate in the commercial sector.

Our product mix within the IVC Moduleo brand is improving from higher value products with embossed and registered designs. Our Russian sheet vinyl business declined. We increased sales in other geographies to utilize our capacity.

Our non-flooring product categories in the segment are up slightly with improving margins due to some relief from material costs. We continue to see significant growth in our insulation panel business which delivered improved margins from higher volumes and lower cost, partially offset by selling price.

One of our chipboard lines experienced an unplanned stop and will be down for four weeks, impacting operating income by approximately $3 million to $4 million in our fourth quarter.

I will now return the call over to Frank to review our financial performance for the period.

Thank you, Jeff. Net sales for the quarter were $2.151 billion, up 8% as reported or 15% higher on a constant exchange rate basis with the legacy business growing 6%. Foreign exchange reduced sales $131 million compared to last year.

All segments grew over last year on a constant exchange rate basis. During the quarter growth was driven by acquisitions and improving volume as well as mix, partially offset by lower pricing in carpet and vinyl. Our gross margin as reported was 30.8%.

Excluding charges the margin was 31.4%, up 310 basis points from last year. This was driven by volume, productivity gains and lower raw materials, partially offset by price, mix and currency.

SG&A as reported with $373 million. This represented 17.3% of net sales.

Excluding charges SG&A was 17.1% of net sales, up 70 basis points from last year due to investments expanding our salesforce, increasing sampling and raising our merchandising. Unusual charges for the quarter were $20 million with approximately $15 million associated with the IVC and KAI acquisitions. About three-fourths of the $15 million was from purchase accounting and acquisition cost with the balance related to acquisition integration.

The remaining $5 million of the unusual charges was for continuing integration of our Spano acquisition. The operating income excluding charges was $309 million or 14.4% of sales. The margin grew by 250 basis points and operating income would have been $21 million higher using a constant exchange rate.

Interest expense for the quarter was $19 million which compares to $35 million a year ago. It was down this year primarily due to the redemption premium paid last year when $254 million of our 2016 bonds were redeemed.

Implementation of the CP program, our commercial paper program, this year also resulted in lower rates. Other expense was $5 million and was unfavorable $7 million versus last year due to foreign exchange.

The income tax rate for the quarter was 22% this year and that compares to 19% last year. We estimate a full-year tax rate this year of 22% to 23% and we estimate next year's full-year tax rate of 25% to 26%. Geographic mix and lower interest deductions will pressure our 2016 tax rate.

Earnings per share excluding charges was $2.98 and is a new quarterly record for Mohawk, representing an increase of 22% over last year. Weighted average shares outstanding for the fourth quarter are estimated to be 74.5 million. Our estimate for 2016 outstanding shares will be 74.8 million for the full-year.

We jump to the segments, in the Global Ceramics segment sales were $792 million, up 2% as reported or 11% on constant exchange rate basis with the legacy business improving 8%. Foreign exchange reduced sales $76 million compared to last year. We had strong volume growth in the North American and European regions with Russian volumes slightly down but price up significantly to offset inflation.

Our operating income excluding charges was $121 million or 15.3% of sales. The margin expanded 180 basis points and operating income would have been $13 million higher using a constant exchange rate. Higher investment in selling and marketing to drive future sales was offset by volume growth, productivity and price mix.

In the Flooring North American segment sales were $955 million, increasing 8% over last year with our legacy business up 4% over last year. This was driven by strong hard surface and rug business sales, partially offset by unfavorable price and mix.

Operating income excluding charges was $133 million, or 13.9% of sales, up 330 basis points driven by productivity, raw materials and the IVC acquisition, partially offset again by price mix and our SG&A investments. In the Flooring Rest of World segment sales were $404 million, growing 24% over last year or 41% on a constant exchange rate basis with our legacy business up 6%. Foreign currency reduced sales $55 million in this segment compared to last year.

The IVC acquisition was the biggest driver of growth with laminate and wood also turning in strong performances. Operating income excluding charges was $64 million, or 15.9% of sales with the margin up 260 basis points. And it would have been, operating income would have been $9 million higher using a constant exchange rate.

The improvement here was driven by volume, raw materials and the IVC acquisitions partially offset by currency. In the corporate and elimination segment, our operating loss excluding charges was $9 million and we are expecting approximately $35 million for the full-year in this segment.

Turning to the balance sheet at the end of the quarter, our receivables were $1.3 billion. This reflects days sales outstanding at 54 days, up slightly from changes in channel mix. Inventories ended the quarter at $1.621 billion.

The days improved to 105 days from 113 days last year. This improvement was impacted by acquisitions and better inventory management.

Fixed assets for the quarter ended up at $3.046 billion and includes CapEx of $124 million with depreciation and amortization of $95 million for the quarter. We are estimating CapEx for the full year this year to be approximately $530 million as we invest back into the business to support volume growth and improved productivity.

And then finally total debt, total long-term debt ended the quarter at $3.2 billion with a 2.3 times debt to EBITDA leverage ratio. We expect the leverage to improve to about two times by the end of the year.

Jeff, I will hand it back over to you.

Thank you, Frank. Mohawk's performance benefited from strategic acquisitions, new investments in sales and operations and improved manufacturing and logistics. The US residential and commercial flooring markets have improved throughout 2015 with hard surface sales growing faster.

Looking to the fourth quarter we anticipate the US economy will continue its gradual growth. We expect year-over-year margin growth to continue in all segments as a result of our strategies and acquisitions. We are selectively increasing our SG&A relative to sales to optimize future market share.

Our recent acquisitions are being integrated into our businesses and are positively impacting our earnings. The costs associated with new plant startups, interruption of our board production and four fewer days will be absorbed in the period.

Taking all these factors into account our guidance for the fourth quarter is $2.66 to $2.75 per share which will be a 17% to 21% increase over 2014 excluding any restructuring charges. Our fourth-quarter earnings guidance would have been approximately 15% per share -- $0.15 per share higher on a constant exchange rate relative to last year.

Our view for next year is that the US and European economic growth will remain stable with Russia facing continuing headwinds. We anticipate each of our segments will expand sales and margins from acquisitions, market initiatives and productivity improvement. We will continue higher levels of capital investment to enhance our product offering, expand our capacity to grow our margins.

Next year our total interest expense should decline $25 million to $30 million with a redemption of our 2016 bonds, rising interest rates and no additional acquisitions. In 2016 we expect that foreign exchange rates will be a headwind and our tax rate will increase to 25% to 26% as our geographic earnings change. Our balance sheet can support significant additional capital investments and acquisitions to further improve our results.

We'll now be glad to take any questions.

(Operator Instructions) David MacGregor, Longbow Research.

Yes, good morning everyone. I wonder if you could just talk about what the total benefit of lower input costs amounted to this quarter and what will that benefit increase and will that benefit increase in fourth quarter?

The majority of the difference came in the Flooring North American segment. There was about a $29 million benefit from changes in material cost, labor, SG&A and energy, partially offset by price, mix and sales investment.

Can you say what it was in the other two categories, Jeff?

It was a small number. It was $1 million I think in one and $1 million or $2 million in the other, David. We will have it in the Q that comes out later.

Okay, sure, that's great. And then just a follow-up, what are you assuming in your fourth quarter, any guidance for FX impact on revenues?

We're assuming that we generally use an FX rate that's close to where we are at the beginning or when we estimate the quarter.

Thanks for a much.

Mike Wood, Macquarie Securities.

Hi, congratulations on the quarter. Just curious on your comments, there was a lot of commentary in terms of sales investments in ceramics, US-Mexico, you mentioned sales personnel and carpet hard surfaces. Is this a continuation of a strategy or are you now just accelerating these investments because you're seeing the market pick up or if you can just kind of give us some of your strategy there?

When we came out of the downturn we were doing everything possible to reduce our expenses and drive our profit margins up. And then we started expand, moving from that to investing at a normalized level with the businesses.

In the last quarter, maybe a little before we started changing that and investing even more. And we made a decision that instead of lowering the SG&A percentage that we were going to invest more in it in these expanding sales forces, most of which was in the United States. We're investing more in products and merchandising.

We're increasing the hard surface sales forces as we've added more vinyl to the group as we go through. And ceramic we talked about increasing distribution point, design centers to keep pushing those forward.

Our Mexican business is doing well. We're adding salespeople in it.

In Russia the market is down but we're going to go ahead and invest more to take advantage of our position in the marketplace in a declining market. We estimate in the third quarter that the investment is about $13 million and we're going to continue investing going forward. The result of that is going to be instead of the SG&A percent coming down next year it's going to end up flat but it's going to start higher and improve throughout the year.

I got it. Very hopeful. Then you'd commented in the past about a 5% to 7% growth rate typical in this market in a recovery.

You guys are in that range now. But I'd be curious if you can opine on how much of that growth is coming from your share gains, how much the market is? And if you think the market is sustainable at this pace of growth or could it pickup?

My guess is the flooring industry is probably growing around 4%, maybe even closer to 5%, depends on where you go going forward. I don't know, none of us know exactly where it's going to end up.

And then you have to keep remembering our business is now much bigger than just the US business. So about a third of it is around the world in different places and the economies are in all different shapes depending upon where we are in which we're optimizing our positions in the ones that are having trouble as well as the ones that are doing well.

Okay, thank you.

James Armstrong, Vertical Research.

Good morning and thanks for taking my question. My first question is a little bit on M&A, something you've been proven good at. What regions do you see the most potential M&A or the best pipeline at the moment and if the opportunity arose, is there anything preventing you from getting materially bigger in the US?

I think that we're a very unusual Company that we have the ability to acquire businesses and maintain the businesses good ones, we can go into new geographies or new product categories and maintain and improve the businesses. So I think we're very well-positioned with that.

That allows us to look at both new geographies and/or new products both within geographies we're in as well as new ones and we've proven we can do it in all of them. When we look at acquisitions because of that we can enhance ones more that are in geographies we're already in because you can leverage the strength of both businesses.

However, by going into new geographies you will tend to see us when we go into new places to buy the best businesses because we're buying the management as much as we're buying the business isn't it. And then once we get that we then take a different strategy of how to expand it either through greenfield or through other acquisitions around it. I think that gives us a very strong platform to grow and we're really not focused on any particular marketplace.

And I would just add that given the relative size of our business to the US market there's more opportunities outside of the US.

That's completely fair. Then switching gears a little bit, a lot of companies have been talking about labor issues restraining sales growth. Are you seeing any of that in your markets or do you see any evidence of that yet?

The only thing that I guess you would see is that the homebuilders and some of the remodelers are struggling with getting labor to execute their strategies as much, which then backs up to us. If there's more opportunity we're not quite getting those but in our own particular business we're able to attract talented people.

I think that we're perceived as a business that's growing and offering opportunities. So we don't see much of it in our own businesses.

Okay, thank you very much.

Robert Wetenhall, RBC Capital Markets.

Hi, this is actually Collin filling in for Bob. In the North American you just robust improvement in margin, you noted that part of this improvement was because of productivity improvements. Can you give us a little bit more color on what you're doing on the productivity side and maybe quantify the improvements and how much room is left to drive productivity?

The improvements are everywhere. We have a theory in our business, we call it halfway there. And it doesn't matter where we are or how good you've gotten or where you are in the business, even if you just improved it there's opportunities to move it further and we drive that through the whole business.

We start in the fall with a plan of developing strategies and pushing it down through the whole organization. There's dissatisfaction with where we are. With that we combine that with we're investing heavily in the business.

This year we'll invest about $500 million in the business which allows us to do more with this structure that we have and in 2016 we're planning to spend even more. The combination of these things are what's allowing the margins to go up in a difficult market.

Great, thanks for that color and then a question on the pricing mix side for North America. You noted that there was a negative price mix. Can you give a little bit more color around the drivers, maybe quantify it a little bit, and is any of this related to your giving back price in your lower, from your lower input costs?

All the businesses are competitive. As the raw materials decline there is some giveback of raw materials into the marketplace by us and our competitors.

There's more of it at the lower end and the higher end but it happens everywhere as you go through. I forgot the rest of the question.

He asked how much. In the 10-Q it will show about $20 million of headwind for price mix for that segment also.

Great, thank you very much. I appreciate it.

Keith Hughes, SunTrust.

A question on the KAI acquisition in terms of the revenue growth. We all have the prior year numbers but can you give us some sort of feel for how that did in the quarter versus prior year before you bought the business?

Keith, when we talked about the acquisitions last quarter we guided, we thought they'd be accretive $0.20 to $0.25 together IVC and KAI. And they both together came in at the top end of that range of about $0.25 accretion.

And then from a revenue perspective the revenue is a little lighter than I thought. How did that look versus prior year?

We don't break out the sales at the levels below the segments. The KAI business has had some increasing competition in Europe. As I discussed before as the European ceramic suppliers lost business into the Russian market, for example, they tried to push the stuff through the marketplace so that's affecting some of the opening price points.

On the other hand with the business between us we are upgrading the product mix. We're moving them into new categories they have, we're using our relationships to have them sell product outside the local markets they've been in. And we see it as a big opportunity going forward.

We've just put in some more capacity into place in order to make higher end products. So we're well-positioned and we think it will help us both within those markets. We're using that as a low-cost supply into other parts of Europe.

And switching to IVC, in their domestic business I know they had some lower margin sheet vinyl business. Is that something that you will be able to supplant with something higher margin and has that process begun?

We like the strategy that they have. They have a broad base of business from low, medium to high. They sell based on differentiated products, high service level.

We actually make unique products for different customers to differentiate them in the marketplace. We like their strategy which is why we bought the business and we're not changing it now.

Okay. Two questions for Frank. You have some notes coming due in January 2016. Are you going to be paying those off or just rolling over the financing, Frank?

We will be paying those off and rolling it into the CP program.

Okay. And the other line on the income statement went from an income in the prior year to an expense this year. What was the change?

That was the currency. I think it went from $2 million of income to $5 million of expense. That's the transactional FX impact on our receivables and payables that are denominated in foreign currencies.

So that's the difference between what you're selling and the cost, is that correct?

That is the difference between the exchange rate when we enter the transaction and the exchange rate when we settle the transaction.

Okay, thank you.

Stephen Kim, Barclays.

Thanks very much, guys. Good quarter.

Frank, you had, actually let's start with Jeff, you had talked about the sales investments and I think you indicated that you'd be expecting those and incremental spend to continue into next year, more weighted in the first half is the sense I got. I was curious if you could talk a little bit about how long it's going to be before you see a significant revenue response from these investments? And then also if any of the investments related to the Ragno repositioning, I didn't hear you mention that, but just wondered if that factored in as well?

It takes time to get sales, new salespeople in the field, to have them develop relationships, to have them start moving product into the marketplace. You get some benefit immediately and you get some later. We have increased the amount of salespeople across all the pieces I've already reviewed with you.

We are spending more on pushing products into, more distribution of our products into the different marketplaces as we go through. In the residential piece what you will see, it probably takes three to six months to see some of the benefit, in the commercial business it takes much longer because you have to get into projects and the projects don't get executed it could be for two years down the road. But we think we're in a good position and we think it's the right thing to do.

Got it. Anything on related to what you're doing over there in Italy in terms of moving more into the higher end, anything associated with that?

The Italian business when we bought it was a very, they were about breaking even maybe, they were losing a little money. So we have really been focused on driving the profitability of the business. With that we've been really controlling the cost.

We went through -- we're finishing the second phase of replacing the equipment. Each of the investments were about $30 million each. Those investments are allowing us to increase our product mix to bring better products to the marketplace and as we need it we will incrementally increase the salesforce to go with it.

We use the two brands as we do in every other place to be able to get greater penetration in the marketplace. And it allows us to satisfy one customer on one part of the street and give differentiated product to the other. With that we also have different product strategies with each and it goes through all of our businesses and it's one of our strengths in managing multiple brands in the same marketplace.

Okay, great. And then a second question sort of very much related to it as you talked about the two phases so far in Marazzi Europe and putting in the new equipment. By the time this Phase 2 is finished in 1Q 2016, how much do you expect on average your capacity in European ceramic will have increased?

And then just a quick one for Frank. You gave guidance -- you reiterated your guidance on tax for the year, but that leaves a pretty wide range for the quarter. I would guess that probably you'd be thinking you're coming in at the higher end of the range, given all the dynamics we're seeing it terms of geographic profitability. Just wanted to see if you could provide a little more color on 4Q specifically. Thanks.

On the capacity question, the goal was -- and we've actually done it -- is to throw out the equipment one piece at a time and put it in so we don't interrupt the sales that we can. We get through -- at the first two phases it wasn't to try to increase the capacity, but it will probably be up around 5% plus or minus with the first two phases. And then we haven't started yet, but we think there's going to be a third investment right behind it.

But you also get a top line impact because you increase the sales dollars per unit by selling higher value product. So that's where a lot of it's coming from.

And then the tax rate on Q4 is going to be around 18%.

Okay, so thank you very much. Thanks.

Michael Rehaut, JPMorgan.

Thanks. Good morning, everyone. First, just a couple of clarification questions. You mentioned a raw materials benefit of $29 million. Was that -- the $29 million was, I think you said that was concentrated in Flooring North America, but was that all in Flooring North America and there was just some marginal benefits in the other segments? And did that $29 million cover both raw materials and lower energy costs as well?

Yes. So the $29 million is the North American segment and that's input costs, so it includes raw materials, energy cost, labor, etc. And that was basically what the $29 million represented. Was that all your question or did you have another part to it?

No, well I guess really it would be helpful I think most people thought that there be a very large benefit primarily from raw materials. So if you are thinking about that $29 million, is that more driven by raw materials or kind of equal across the three buckets that you mentioned?

I'd say it's more driven by raw materials.

Okay. And the pricing giveback that you mentioned of $20 million, is that something that began to recur this quarter and you said it was more concentrated in the lower end, on a relative basis is your mid- to higher-priced products holding up a bit better then?

It's price mix, it's the two things combined, Mike. So we have a hard time separating the two but it's both combined. There was pricing pressure last quarter as well that we spoke to on the call as well as mix pressure.

The mix pressure is coming from polyester, the lower-cost product that's causing a de-mixing in the industry as well as with our sales.

One of the things with polyester on average it could sell for 10% or more or less than equivalent nylon product. So as the industry has moved you've lost a significant amount of top-line revenue in the industry going to lower-cost products which decreases the revenues of the entire industry.

Great. And just last question, bigger picture going back to your multiyear acquisition strategy, obviously a lot of the recent ones have been more focused in Europe. Obviously you have some very large positions already in North America, US specifically.

As we think out over the next three to five years, Jeff and Frank, perhaps you could just give us an overview from a geographic and/or product perspective, where does the most opportunity lie, particularly from a geographic perspective? Is it still in Europe or are you looking to other major regions across the world as well as from a product perspective?

I'm not sure I agree with the first premise that says of most of what we're doing is in Europe. If you recall Marazzi was the number two provider of ceramic manufacturing in the US. Pergo had the biggest part of their business in the US for instance.

So as we do the acquisitions of larger businesses most of them have pieces. IVC was a very large participant in the US vinyl business. So it hasn't been as one-sided, even though what's happened is the offices that these companies were not in the United States but they all have big positions in the United States.

As we look forward to the piece we really are not geographic dependent on the decision. The question is does the business fit our strategy, is the price we pay give us the returns we want and what's the long-term value add and consistency of business and what can we do with it? It could be anywhere.

However, there are certain areas of the world that it's difficult for US players to play in, meaning they don't play by the same rules we do. And so areas where they don't play by the same rules some of the things that happen is local companies in our industry don't pay taxes properly and we do. So we try to stay away from things where there is something inherent about giving us a less than competitive position in the world, so that's a major part of the considerations when we think about different companies.

One real last quick one for Frank. Frank, corporate expense for next year you said $35 million for 2015. Can you give us a sense directionally or rough range for next year?

It would be about the same.

Great, thanks again.

Stephen East, Evercore ISI.

Thank you. Good morning, guys.

Jeff, on the IVC acquisition your contribution is coming in at the high-end of guidance. And if you look at what's left to be done, could you talk about what needs to be done to maximize contribution and maybe help us quantify how much more upside is there is to those numbers and how long it takes you with that?

IVC was a very well-run low-cost business and they had a very defined strategy which they executed well. The biggest opportunities are to leverage the other relationships we have in the rest of the business to broaden the distribution of their products, to continue with adding design capability to the business and expanding the distribution of the businesses. There are opportunities with best practices that we learn from them and they learn from us as we go through.

We have the -- they have invested, started investment in a new LVT plant in the United States just coming up, so filling up the plant in the United States they are helping us dramatically speed up the progress of the LVT plant we have in Europe that we were building coming up. And then the question is are there other geographies or other places to move into LVT and vinyl now that we have a core group competence within it and an opportunity as we consider every other product category we have.

Okay. So it sounds like from a cost perspective you all are there, it is just how much of the IVC product you can really lever because of your organization --

There's not a lot of cost take-out in this business.

And then following on the two LVT plants, what type of startup costs do we have in the third quarter, what do you all think happens in the fourth quarter and then I guess next year, how long does it take you to quote, full capacity for those two?

Well the startup cost in Q3 were about $8 million and it will be close to that in the fourth quarter. That's startup for not just LVT but for everything that we're doing, the major projects that we're doing.

And then going through it's going to take most of next year to get the two LVT plants up where we want them. There was unique technologies that have never been done before.

There were things put in them that to push the limits of the technology and some of those things to actually optimize them we're going to have to replace and sometimes the equipment could take six months or more just to get once you decide what you want to do to execute it. So it will take us throughout most of next year to get the plant capacity up to the level we want in both of them.

Okay. All right. Thanks.

And the last question I had was Jeff, on the North American Flooring it looks like your core growth was what 3.5%, 4%. You all have gone to this new structure. Could you help us out, how much do you think was the organic demand that was going on in the market versus the new structure and as you move, as the structure gets embedded over the next three, six, nine months would that provide any tangible meaningful incremental growth to this business?

What is going to do is help us in multiple different ways. One is it's going to help us broaden the distribution of all the pieces. So by putting them all together you have the same management sitting on top that's trying to figure out how to use the relationships between all the different pieces and drive it, how to use the operational excellence and ideas we have across the business as you go through.

How to use the distribution structures as we go through. The combination of all these things there is a lot of overlap in these hard surfaces because we have the direct salesforce has all reported to the old segment, now by having them together is one of the reasons we're expanding the sales organizations even more, to push the products through the marketplace as well.

It's also going to help us focus on the independent distributors and bring them more unique products, differentiate them more and expand our distribution there. And then you have just the best practices across the pieces of sharing resources. So longer term they are all incremental pieces. You are not going to see it as one big lump anywhere.

Okay, thank you.

Mike Dahl, Credit Suisse.

Hi, thank you this is actually Matt on for Mike. Thanks for taking my questions.

So first just following up on the earlier questions on lower pricing and the sales investments in the carpet category, assuming no change to input costs would you say that what we saw in the third quarter would be in line with what we should expect going forward? Or would there be risk to incremental promotional activity from here?

First of all remember that we're highly seasonal from quarter to quarter and you can't take one quarter's margin and apply it to the year. So what we've said is that the margin improvement that we've had we expect to see continued margin improvement year over year but that doesn't mean that the same margin in the third quarter is the annual margin as we go through.

Our expectations are that next year you'll continue to see improved margins, improved sale from all the investments and strategies we're putting together. And we spend a lot of time differentiating the products and new innovations that we bring into the marketplace and I think that our service and quality continues to improve. And I think that we're improving our position in the market.

Okay, understood. Thank you.

And then just on the organic growth in Flooring North America, you delivered pretty healthy growth in the legacy business. So understanding that you don't disclose the actual results under the old structure but just wondering if you could break down the relative performance of the carpet and laminate wood categories just to help us kind of better understand the sources of that growth? Thank you.

The Flooring North America sales were up about 4% on a comparable basis. The carpet grew the slowest and remember that polyester is reducing the average selling price, offsetting some of the top line within it.

Our rugs and hard surfaces are growing faster than carpet -- the industry is growing faster and our categories are going faster. And then with the new IVC we're putting in new products in our different brands as we go through. And we expect our vinyl sales to increase and fill up the new plant we're just building.

Okay, that's very helpful. Thank you.

Sam Darkatsh, Raymond James.

Hi, this is Josh filling in for Sam. Thanks for taking my questions. Just to clarify on that last answer, your carpet business did grow or can you give us a sense of how it performed relative to the industry?

The industry numbers that we have we think were about flat with the residential lower and the commercial higher and our business, our residential business was probably similar and the commercial we said we have been changing the product lines. So we're dropping a higher level of products replacing them but we're getting huge benefits in the cost and margin.

Got it. And do you have any outlook or color you can give us on industry pricing over the next couple of quarters within carpet?

The carpet industry is competitive. There have been like you expect more pressure on the commodity products than the other. With the raw materials coming down we've given some of it back and we'll continue to react to the market and hold our positions.

And last one for me, could you give us a feel of what some of the puts and takes were on the ceramic margin sequentially, why it was down a little bit on somewhat similar sales?

Well I mean it's hard to compare the margin sequentially because you've got seasonality. So for example we've got the European business ceramic segment and that's going to be slower in the third quarter than it is in the second quarter. What we try to look at is how the margins improved compared to where they were a year ago.

Got it. Congratulations on the quarter and good luck with the next one.

Dennis McGill, Zelman & Associates.

Hey Frank, just a quick one to follow up on the North American growth. If carpet was flattish, does that imply that the other categories, primarily laminate and wood, were up high-single double digits in quarter?

Sure.

Laminate, wood, vinyl, everything else we sell.

And the leading areas within the channel I guess if that's as strong as high-single low double digit where you are seeing the strongest growth channel wise?

I think that our business is doing reasonably well in all the channels. I don't think one of them is different.

Okay, I appreciate it. Thanks.

John Baugh, Stifel.

Thank you and now good afternoon. Listening to all the activities in Q3 it sounds like you gave the whole management team vacations in the last quarter, Jeff.

I was going to ask three different questions but now your stock is off $11 I'm presuming on this fear that your carpet margins are collapsing because you're giving back pricing. Could you perhaps to clarify a little bit for folks on the line here that first of all not all your raw materials and carpet are virgin chemicals and you can talk about the recycled content and corn and perhaps address what I think is a misperception that your carpet margins are down in the third quarter and are going to be down in the future. Thank you.

So I think the clarification on oil is that in our carpet business a large part of the materials are from oil but over time we've developed two large categories which are significant to our business. One is recycled polyester which the majority of our polyester comes from recycled bottles which doesn't follow exactly the oil prices. The second is that we have our SmartStrand category which comes from corn which also follows different ones.

Now they're related, in some ways they're not related but they are not directly related. The second is that besides the improvement in the raw materials the investments we're making we're getting huge productivity improvements across the business. And then we spend a huge amount of effort differentiating our products and bringing new products into the marketplace to improve our mix relative to the marketplace.

Now with that we had been selling more of the lower-priced pieces as something but we still have a much higher mix than the industry average because of all the merchandising and marketing we do. We are confident that we're going to continue improving our profitability in the business going forward.

However, we're going to have to react to market pressures just as in every other category. We think that we're investing significantly more than most of the industry and we think we're executing better. So we're quite confident about the direction that we're going and where we're positioned.

And just to clarify, John, one more time, the soft surface margins have shown improvement year over year.

Great. And I think your comment was that you expected that to continue into 2016, correct?

Expecting our margins in each of our three segments to continue in fourth quarter and through 2016.

Great. Then just as a follow-up, could you comment maybe on your intensity, your appetite for acquisitions, if you're going to be close to two times leverage here by the end of the year that's kind of been historically a trigger point.

And then maybe Frank a comment on roughly where free cash flow annualized is running. Thank you and good luck.

We've done a lot of acquisitions in the last two or three years. We've done significant ones this year. Even with that we generate a huge amount of cash as well as our EBITDA is going up both paying down debt and increasing our capacity.

With those things we have the balance sheet to invest significantly more in the internal capital as well as acquisitions if we find the right businesses at the right values and we're aggressively looking for those things. However, we're only going to do it if we like the returns on the investment and the risk levels.

On the free cash flow question, John, the third quarter was about $265 million. For the year we'd estimated to be $530 million or $540 million in that range.

Thank you. Good luck.

Phillip Lewis, Security Capital Brokerage.

Good morning, guys, and congratulations on the quarter. Just quick, just to clarify the emphasis on hiring the new specialized sales folks, is that going to be across all the channels?

We have different salesforces going into different channels. Each of the businesses is different, so in my carpet business I have multiple salesforces selling carpet into specialty retail. I have specialized salesforces going into the builder and multifamily channel.

I have multiple specialized business salesforces going into the commercial business and in all those things I have similar variations of that in the other businesses. We are increasing the salesforces in all of them, positioning ourselves to be more aggressive than we have in the past. We're confident about our position and products we're bringing to market and we believe that we can help our growth and profits by putting these investments in today.

Okay, thank you. That was very helpful.

Jason Smith, Cantor Fitzgerald.

Hi guys, it's actually Laura Champine. My question is on the pricing actions.

It's clear that you're giving up some pricing to offset the cost savings you have. Are those actions over in your view or are there more, is there more that needs to be done in the current quarter?

The pricing actions are related to competitive situations in the marketplace. We will remain competitive and as the market changes we have to change with it or our customers will find other alternatives.

The market has been fairly disciplined up to now and given what's going on in the raw materials I think that the industry is doing reasonably well. And I don't see anything that's going to change it in the near future.

And I would add, too, both on the raw material front and the pricing front for the quarter it was where we expected. It was in line with our expectations.

Thank you.

There are no further questions. I turn the call back over to Mr. Lorberbaum for closing comments.

Thank you. We have a distinctive culture that drives product differentiation, operational efficiency and customer commitment. We operate our business in a decentralized manner that creates competitive advantages while driving best practices across our total enterprise.

Our capability to execute acquisitions and broaden our products and geographies provides unique opportunities to Mohawk. Our substantial cash flow and debt capacity will enable us to sustain both our internal and external expansions.

Thank you for joining us. Have a good day.

This concludes today's conference call. You may now disconnect.