莫霍克工業集團 (MHK) 2016 Q2 法說會逐字稿

Good morning. My name is Julie and I will be your conference operator today. At this time I'd like to welcome everyone to the Mohawk Industries second-quarter 2016 earnings conference call.

(Operator Instructions)

As a reminder, Ladies and Gentlemen, this conference is being recorded today, Friday, August 5, 2016. Thank you. I would now like to introduce Mr. Frank Boykin. Mr. Boykin, you may begin your conference.

Thank you, Julie. Good morning, everyone and welcome to Mohawk Industries quarterly investor conference call. Today we will update you on the Company's results for the second quarter of 2016 and provide guidance for the third 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 those set forth in our press release and our periodic filings with the Securities and Exchange Commission.

This call may included 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 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. Our second quarter earnings exceeded our expectations. Our earnings per share for the period were $3.42, an increase of 35%, or $3.47 excluding unusual charges, an increase of 29% over last year and an all-time record for the Company. This marks the ninth consecutive period that Mohawk has delivered record adjusted earnings per share. Our strategic business initiatives and our acquisitions all contributed to our rise in earnings.

For the quarter, our operating margin grew 270 basis point to a second quarter record of 15.2% as a result of productivity, sales volume, acquisitions and lower input costs, offset partially by investments in SG&a and unfavorable price mix. Our revenues for the second quarter were 2.3 billion, an increase of 13%. Our highest quarterly revenues ever. During the period we generated free cash flow of more than $270 million.

Our innovations in products and processes, investments in efficiencies and integration of our acquisitions enhanced our performance during the quarter and provide a foundation for long-term growth. Our recent acquisitions are progressing as we broaden their strategies, leverage their distribution and provide additional resources. Across the Enterprise, we are investing in marketing to improve our product introductions and expand our distribution and sales.

We anticipate SG&A as a percent of sales will improve as we progress through this year. To optimize our businesses, we have initiated many capital projects that will enhance our performance this year and beyond by expanding our capacity, product offering and efficiencies. We are in the final stages of the start up of our new US ceramic LVT and outdoor rug operations as well as our European LVT plant.

We have begun additional projects to support our growth including LVT and laminate in the US and Europe; ceramic in Mexico; Italy and Russia; Continuum polyester carpet, engineered wood and utility mats in the US. This year we anticipate our capital expenditures will exceed $600 million depending on the timing of payments. Consumer spending at the end of the second quarter strengthened the US economy. The most recent National Association of Builders report affirmed continuing recovery of the US single family home market. Continued job creation, new household formations and low mortgage rates should support housing growth throughout this year.

Harvard's LIRA index projects remodeling activity will approach its 2006 peak in the middle of next year. The latest Architectural Billing Index which measures commercial design activity rose to the highest level in almost a year. In Mexico, low inflation has raised consumer confidence to its highest level in a year and economists are predicting further GDP growth.

The European Central Bank continues to stimulate the economy through a quantitative easing and low interest rates. The Russian economy remains in a recession, though there are indications it may be nearing a bottom. I'll now review our second quarter performance by segment.

Our global ceramic sales rose 5% as reported with operating income for the segment growing 16% over last year to a margin of 17%. FX negatively impacted the translation of our sales from Mexico and Russia by $16 million. Our North American ceramic business continued to grow and our margins benefited from higher volume, productivity and mix.

The home construction channel outperformed the rest of the business and we are had expanding our position with builders across the country. Our new product introductions are gaining momentum and positively impacting our margins. We increased sales personnel and distribution points to optimize our market position.

The introduction of some new tile programs were postponed by large customers in the period and are back on track. Sales of our countertops are increasing as we expand our distribution and product offering. We continue to enhance the quality of our independent distributer network and have expanded American Olean and Marazzi service centers on the West Coast.

Our new Tennessee ceramic plant is ahead of schedule with the final production line becoming operational in the third quarter. We are manufacturing higher value products at this facility, including 48-inch wood plank and color body porcelain tiles. The plant in western Mexico that we acquired last year is improving its performance with higher production levels and lower costs.

We're focusing each of our North American plants on specific products to optimize our productivity and increase their efficiency and quality. We are reengineering our product formulations and increasing the recycling of our ceramic waste.

Our ceramic operating margins in Mexico expanded as we upgraded our mix and reduced our cost. All of our Mexican tile capacity is being utilized and we have begun the expansion of our Salamanca plant.

We will double its capacity by adding new lines that will be operational the fall of next year. We continue to grow our retail sales as well as our participation in DIY and new construction channels in Mexico. Our European ceramic sales continue to improve with expanded margins and improved mix.

By upgrading our asset, enhancing our offering and improving our sales execution we have increased revenue and profitability. To continue these trends we're introducing more differentiated products in the middle price points and investing in retail merchandising, retail sales training and consumer advertising. We have initiated the final phase of our Italian asset modernization which will be completed during the first half of next year.

In addition, we have purchased a new manufacturing line to make even larger tiles to be used on floors, walls, and countertops. We're enhancing our Bulgarian product offering improving efficiencies, and supplying product to our western European and US Markets. Despite the continued decline of the Russian economy and ceramic industry, our sales rose significantly on a local basis with improvements in volume, price and mix.

We are increasing our market share through industry leading design and broader distribution. We've started up a new line to give us more porcelain production to satisfy our growing demand. We've enhanced the strength of our organization and broadened our sales and manufacturing capability.

We are further expanding our capacity to prepare for a stronger Russian market in 2018. For the second quarter our Flooring North America Segment sales were up 7% with operating income for the segment increasing 25% to a margin of 12% as reported. Operating income grew 16% over last year to a margin of 13% excluding unusual charges.

The segment's profitability improved as we increased investments in sales personnel, retail merchandising and samples. Like ceramic, some large customers postponed product launches and reduced inventory in the period and we anticipate sales improvement in the third quarter. Our residential carpet margins expanded as a result of our differentiated products, process innovation and investments that lowered our cost structure.

During the quarter, the industry's average selling price for residential carpet declined due to the shift of polyester and the lower costs of materials. Our mix was negatively impacted by the strength of the new home and multi-family channels which utilize lower value products. To satisfy the changing carpet market, we're adding more Continuum polyester production which uses recycled materials to provide higher quality and value.

We widened the distribution of our SmartStrand carpet, Karastan Broadloom and MainStreet commercial collections which outpaced our other residential sales. Our exclusive SmartStrand franchise is being benefited by our new Silk Naturals collection which has the appearance of wool but is softer, more luxurious and easier to maintain. We continue to strengthen our manufacturing performance with many process advances, higher yields and material enhancements.

Our commercial carpet sales increased as we strengthened our product offering and expanded our sales in all channels. Our innovative commercial introductions received multiple awards at the recent show and gained interest from architects and designers who attended. We continue to simplify our manufacturing, consolidate plants and improve our planning processes.

We are enhancing the design and value we provide to our customers while increasing our margins at the same time. All of our commercial channels are showing improvement with hospitality and senior living the strongest. Our new innovations in laminate are differentiating our products and expanding our market share.

We continued to deliver unique styling and performance features in our laminate collections. Our European operations are providing product to the US until our new capacity is operational next year. Our engineered wood sales continue to grow and we announced a price increase that will be implemented in the third quarter.

By the end of this year, we will install more engineered wood production to satisfy greater demand and produce higher value products. There is pressure on the solid wood sales as consumer preference shifts to engineered. In June we had a disruption in our Virginia wood plant which impacted sales by $2 million and we are now getting back to normal levels.

Our vinyl business continued to expand as we increased the product assortment and distribution of our LVT and sheet vinyl. Our growth in the LVT category has been constrained by our manufacturing capacity. We have recently made equipment modifications that will is significantly raise our LVT production and reduce costs.

We are preparing to introduce new designs and features to further grow our LVT sales in both residential and commercial. By the end of the year -- by the end of next year, we will double our US LVT capacity and enhance our capabilities in this fast growing category. For the period, our Flooring Rest of the World Segment sales were up 51% with operating income rising 91% to a margin of 20% as reported.

Operating income grew 67% to a margin of 21% on a local basis excluding charges. Our flooring business improved significantly lead by premium laminate and LVT. Our laminate mix benefited from our sales of our new collections featuring more realistic visuals and water resistance.

We're adding laminate capacity in Europe to support the next generation of this unique technology. To offset currency fluctuations we're announcing selective price increases. The system integration for Balterio laminate will be completed during the third quarter and allow us to realize additional synergies. In Russia, our laminate facility continues to be fully utilized and we are exploring options to add capacity.

The mix of our wood business improved during the period, offset by negative currency. Higher sales of wider wood increased our material costs and we are raising prices to offset. We're reducing our wood SKUs and driving productivity and quality.

Our LVT sales and margins increased as our mix and efficiencies improved. To support our LVT growth, additional equipment is being installed there also to raise our capacity and we are sourcing products to supplement in the meantime. To satisfy future LVT growth, another production line should be operational by the end of the year.

Our sheet vinyl sales were negatively affected by a fire in our Belgian plant that we reviewed last quarter. The operations are presently running about 95% of our expected rate and full production will be achieved this period. The impact of the fire on second quarter sales and earnings was approximately EUR6.5 million and EUR2.5 million respectively.

We anticipate recovery of about EUR2 million from insurance during this period. We are expanding commercial sheet vinyl sales that will improve our mix. During the period, our panel sales and margins expanded as we implemented many actions to enhance our results.

Our insulation volumes increased significantly, offset by currency changes and lower prices as material cost declined. The integration of Xtratherm in our legacy installation business continues with sales, administration and systems being realigned to enhance our results. I'll now turn the call over to Frank to review our financial performance for the period.

Thank you, Jeff. Net sales as reported were $2.310 billion, up 13%. Our legacy business was up 3% on a constant days and exchange rate basis. We had one additional day in the second quarter and we will also have one additional day in the fourth quarter.

In the third quarter, we'll have one less day compared to last year. Plant disruptions temporarily pushed sales down by approximately $9 million in the quarter. We had a negative FX impact of $16 million with the decline in the ruble and the peso offsetting the positive impact of the euro.

All segments grew with the strongest performance in our Rest of World segment. Our gross margin as reported was 32.7% or 32.8% excluding charges, up 180 basis points over last year. Volume and productivity were the biggest drivers for our improvement. SG&A as reported was $405 million or 17.5% of sales.

It was $402 million excluding charges or 17.4% of sales which was 20 basis points higher than last year. Marketing investments, primarily in the ceramic and Flooring North American segments, continued during the quarter. We expect the SG&A percent to net sales to decline in the second half as spending slows and we leverage our costs better with higher sales.

Operating income as reported was $351 million with a margin of 15.2%. We had restructuring charges of $6 million related primarily to the woven carpet consolidation in our North American Segment. We estimate another $20 million to $25 million of charges in the second half of this year.

Our operating margin excluding charges was 15.4%, which is up 160 basis points even with a $4 million foreign exchange headwind. The operating increase over last year was impacted primarily by positive volume at $46 million and productivity at $41 million offsetting SG&A investments of $18 million. Interest expense for the quarter was $10 million, which improved $7 million as higher rate bonds were refinanced last year under our -- this year under our CP program. Other income was $5 million and includes favorable FX.

Our income tax rate was 26% this year, compared to 24% last year, and we are estimating our full-year rate at 25%. Earnings per share as reported were $3.42. Earnings per share excluding charges was $3.47, up 29% over last year.

Moving to the segments. In our Global Ceramics Segment sales as reported were $830 million which is a 5% increase over last year. Our legacy business is up 4% on a constant days and FX basis.

We had very strong local currency growth in Russia with both North America and Europe also growing. FX was a $16 million headwind in this segment. In Europe our premium products experienced the strongest growth.

Operating income as reported was $141 million or a margin of 16.9%. The operating margin excluding charges was 17%, an increase of 140 basis points. Operating income growth was driven by positive volume of $12 million and productivity of $14 million offsetting $6 million of SG&A investments.

In the Flooring North American Segment sales as reported were $981 million, an increase of 7%. The legacy business, using constant days, was up slightly with a 1% increase. Hard surfaces and LVT sales growth was the strongest.

Operating income as reported was $119 million with a margin of 12.1%. The operating margin excluding charges was 12.8%, up 110 basis points. The operating income increased primarily from productivity of $22 million and input cost deflation of $9 million offsetting negative price mix of $9 million and another $9 million from SG&A investments.

And then finally, in our Flooring Rest of World Segment sales as reported were $500 million, up 51% with the legacy business on a constant days and FX basis up 5%. Both LVT and laminate had good growth in the quarter. The operating income as reported was $101 million with a margin of 20.2%.

Our operating margin excluding charges was 20.1% and was an increase of 160 basis points. Operating income was positively impacted by volume of $28 million with lower input cost of $8 million and productivity of $6 million. If we look at the corporate and eliminations segment, we had an operating loss of $10 million and we expect a full year loss of about $35 million.

Turning to the balance sheet. Receivables ended at $1.4 billion with our days sales outstanding up to 54 days from 52 days last year. This was primarily due to channel mix. Inventories at the end of the quarter were [$1.000000007] billion.

Inventory days continued to show good improvement with 105 days this year compared to 106 days last year. Fixed assets were $3.2 billion at the end of the quarter. We had capital expenditures in the second quarter of $136 million and depreciation and amortization of $101 million.

CapEx for the fiscal year is estimated to be between $600 million and $650 million for the year and depreciation and amortization of $410 million. Long term debt ended up at $3 billion with our leverage at 1.8 times debt to pro forma EBITDA. Jeff, I'll turn it back over to you.

Thank you, Frank. We're optimistic about our future performance as a result of our ongoing investments in people, products and assets. Our comp booking trends have improved and we anticipate third quarter sales growth will be higher on a local basis.

We expect continued margin expansion in all of our segments due to process improvement, operational innovations and greater efficiencies. Across the business we're introducing differentiated products and leveraging customer relationships to increase our market position. We're making significant investments to expand our capacity and grow sales in all of our products and geographies.

Our LVT sales growth is accelerating and our new plants are making gains in capacity, productivity and efficiency. Taking these factors into account, our EPS guidance for the third quarter is $3.40 to $3.49. This represents a 14% to 17% increase over third-quarter 2015 EPS, excluding any restructuring charges.

From 2013 through 2016, we will have invested over $2 billion in new assets to drive Mohawk's profitability. We have substantially integrated our recent acquisitions and with our strong organization and balance sheet we can exploit additional opportunities. In every region our differentiated product collections, operational excellence and extensive customer relationships give us advantages so we can deliver stronger results. We'll now be glad to take any questions.

(Operator Instructions)

Our first question comes from Mike Rehaut from Credit Suisse.

Hi. Thanks for taking my questions. I think you mentioned some of the modifications to the current LVT capacity and just curious since that's helping your productivity out of these plants, could you give us a little more color around that?

And also maybe an update on, just in light of that and some of the other investments you're making, where you stand from an LVT capacity on a revenue basis? And when you talk about doubling over the next year or so, just where does that put you as far as how many dollars of revenues you'll be able to produce? Thanks.

We presently have three plants. Two in Europe and one in the United States. The plant in Europe was started before we purchased IVC and it's been ramping up. We've just made -- when we put the plant in, we didn't put in all of the things it took to optimize the capacity because we weren't sure what we didn't know.

We've recently added more capacity to feed it which is going to up the production levels as we speak in Europe. The US plant was a totally different technology than the other two which ran about 50%-60% faster over there. It's also in its final stages of start up. We've been making modifications to it and over the 4th of July we made additional changes to it to try to get it to what we believe to be is the optimum capacity later in the fall of this year.

In addition to those, we are in the process -- or have ordered pieces of equipment to open the next generation of the United States plant that will run even better and have more capabilities. And we going to put another line in the United States and into Europe, both of which should be running by the end of next year to enable us to grow the business. The combination of all those together will give us capacity exceeding $1 billion between the two. We will have slightly more capacity in Europe than we will have in the US when we get through.

That's great Thanks. And as my follow-up, once you're fully ramped and online with the three plants, could you give us a sense for just differential in costs between fully producing domestically versus your current sourcing model?

I'm not sure I'm prepared to break that out for you.

Okay. Thank you.

Our next question comes from the line of Robert Wetenhall from RBC Capital Markets.

Bob, you there? Maybe we should go to the next one.

Hello?

Hi.

Can you hear me?

Yes, we can hear you now.

Sorry about that. Fantastic results, I think they speak for themselves. Instead of going in, because there is a lot of detail that both of you provided, I was hoping to go big picture today and talk about the $600 million of capital spending for this year.

If you could walk us through the pay back that you're getting on the dollar spend? And why does the heavy investments that you've been making, both in SG&A and capital spending, the $2 billion between 2000 and 2000 -- 2013 and 2016, why does that make more sense for Mohawk given your track record -- your successful track record of acquisitions? And why is that preferable to share buybacks and returning capital to shareholders?

I'll see if I can get all those out. If I forget any remind me. Our strategy has been to aggressively every drive our business growth and profits through our capital allocations and, to tell you the truth, I'm really not sure that our ability to do that has been fully recognized by the entire market.

Prior to 2016, we invested about $5 billion into the business which is why we've been doing so well and expect to continue doing well. Of that, about $1.5 billion was into our existing assets and about $3.5 billion was into nine other acquisitions. With those things, the paybacks range from the short end of two years for some of the capital to the long end of about five years with most things.

And the difference in doing some of the internal pieces is when you go into big projects, it can take a year to year and a half to get it going, another year to bring it up to level so you don't get as much return in the first year or two but over the -- IRR over the five and ten year period is usually much greater, is it, along with lower risks.

At the same time during those things, we have investing as the business got stronger, we started investing more in SG&A and most of the businesses to drive it. And with the investments we're putting in to get about $1.2 billion to $1.4 billion, is what we said, of additional sales we have to be bringing up the SG&A in order to support those things and it goes in before you actually get the sales results when you get through. From there going forward, in 2016, we've announced we're going to invest in over $600 million and it's going in the same things of new products, increasing efficiencies and giving us more capacity in all of our different businesses.

Again, these investments are the ones that give us the highest return at, what we believe to be, the lowest risk of our various opportunities. Today, the fastest growing part of the flooring industry is LVT. As we just went through before, we'll have over $1 billion of capacity to support this in the US and Europe so we think we're well positioned. Our plants are more automated than others that are in there and they're more integrated, forward and backwards, in order to make it at lower costs and give us high flexibility to make whatever the customer wants.

With this we continue to look at acquisition opportunities around the world. We remain disciplined in our approach to get good returns on those and the Organization's ability to identify and execute these opportunities is really what sets us apart.

I agree and that's a very helpful articulation of the strategy. And I also agree with your comment that I don't think this is being fully recognized by the investor base. Could you talk to us about -- the $600 million is a lot more than you normally spend when we're thinking about owning Mohawk for the next two to three years, what's the trajectory of SG&A spending on a dollar basis? Frank mentioned you're going to get leverage and, although it's a little early, how should we be thinking conceptually about CapEx in 2017 and 2018? Thanks and good luck. Nice quarter.

Thank you very much. The SG&A, we started raising it last fall getting ready for all of these investments in order to have the sales strength to push through the growth to support all these different pieces we're in. It's -- we've been doing it across the Company in the various regions which is why we're doing as well as we are. In the second quarter, even with those investments, the SG&A as a percent of sales, I think was only slightly above last year.

About 20 basis points.

So slightly ahead of last year. As we go through the fall, we think we're going to get leverage and expect the percent to sales to decline above the prior year as the sales get more in line with it. On a going forward basis, we'll have to keep investing but we hope to keep the percentage either where it is or going down. Now for given moments it might get ahead or behind it as you try to align it with the new capacities we have coming in. Did I get all of the questions?

That was great and just the other part of that and then I'll hand it over. What about capital spending in 2017 and 2018. Should we expect the elevated level of $600 million or do you see capital spending, because you made a lot of investments in the last three years to your credit, should we think that will taper off?

We haven't finalized next year and beyond. A lot of the investment we're making this year, there will be parts of it carryover to next year. I would guess it's going to be elevated next year but we really haven't put it together yet. Just one last comment. The best thing I can do for the shareholders and the Company is continue to find internal investments that have good paybacks. And I mean if I could find twice as many I would do it, assuming that the risk and rewards are right, which is what we're paid to do.

Sounds good to me. Good luck. Thanks very much.

The next question comes from the line of Sam Eisner from Goldman Sachs.

Thanks and good morning, everyone.

Good morning.

So going back to the productivity numbers, Frank, if I heard you correctly, I think you said about $41 million of productivity savings and I think that compares to $29 million in the first quarter. So you're running close to $70 million if I annualize that it's about $140 million, and so I'm curious the sustainability on the productivity savings?

I understand that you're spending $600 million this year, but perhaps you can give us more of a medium-term commentary on how you think about productivity savings? Its been steadily marching higher from about $100 million in 2014 going to about $130 million in 2015 and now it seems to be, again run rate of about $140 million for 2016 so curious how you think about the medium-term productivity savings for the Company?

This is Jeff to start. All these capital investments that we're putting in, a significant portion of them is also going towards improving the cost structures. And as they come up, we have lower costs as well as higher revenues and pieces so some of the investments are going there. Every part of the business starts out the year with an internal productivity goal.

It's made up of two parts. One is capital investments and the other is process changes. And we have very disciplined procedures of coming up with innovative ideas and then insuring that they get driven through the business and executed. And the ideas we start out with, I think we probably get about 60 -- some we don't even know how to do. We just put them down and say we need to do something. We probably get about 65% of them get executed. At the same time we come up with more of them every year and we really put in a good process to drive it.

And besides that, Sam, I would not say that we're prepared to give a number or guidance. But like Jeff said, we are driving the business. Everybody has goals in terms of productivity improvement whether they are in manufacturing, distribution or administrative roles and it's just a deeply embedded part of our culture here to continually improve the business.

I want to make sure you understand we aren't out of ideas. And that's the reason we keep raising the profits and the margins.

Got it. So in your terms we're half way there on the productivity improvements?

I'm looking at a sign in my office that says, half way there. No matter where we are, we are always half way.

Sounds good. And then maybe secondarily, a little bit more of a macro question here. We've heard a couple comments from other participants within the broader building products sector this quarter talk about credit and ultimately consumers beginning to use some credit, whether it's HELOCs, whether it's home equity loans or even cash out refinancings.

Curious what you're seeing on the ground level from some of the customers or at least commentary from some of your retailer about how customers are ultimately using financing? If they are using it, in particular in North America. Thanks.

To tell you the truth I'm not close enough to it to give you specifics of it. We think that the credit lines are getting better with people as their incomes go up. We think that the banks are getting a little easier in giving some credit. At the same time as the incomes increase and gasoline prices come down, we think all the things are in place for us to do well over the near term.

Appreciate that, thanks.

Our next question comes from David MacGregor from Longbow Research.

Yes, good morning, everyone. Great quarter, Jeff. With all of the things you've got going on right now in the way of start ups, can you just talk about the impact of start-up costs on your 2Q margins and how that might have compared with first quarter a year ago?

Yes, start up costs in the second quarter were about $4 million. I don't know what year-ago numbers were off the top of my head. We're estimating about another $3 million to $5 million in start up through the second half of the year though.

That's the amount of increase over last year, isn't it?

No, that's total start up.

Yes, it sounded a little light to me as well to me as well but congratulations on that. And then secondly, if you could talk a little about China and I know you've had investments there but I haven't heard you talk much about it lately. Could you just update us on the scope of your presence? Are you profitable? What level of growth are you achieving? Just any general elaboration would be helpful. Thanks.

Somewhere in the recent past, we changed the ownership position that we have in the China joint venture from an equity position to a debt position with agreements on a buy and sell arrangements between us. And we changed the strategy because what we needed to do to operate in that environment with us as an equity partner, it limited their ability to participate on an equal basis in the marketplace so we still have a relationship with them. We're still purchasing product with them. But that's the relationship at this point.

Great. Thanks very much.

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

Thank you. Good morning and congratulations on another terrific quarter.

Thank you.

Could you tell us -- you made this comment about orders improving, I'm just curious, is that an inventory pipeline kind of refill comment or are you seeing end market demand actually improving? And if you could maybe discuss, Jeff, regionally where you're seeing it as well as product line where you're seeing it? Thank you.

Normally, we don't discuss the order side in the piece. We did at this time because the growth rate was a little lower than we had wanted it to be and we wanted to make sure to understand that -- going into the next quarter, we're actually seeing the bookings from our customers increasing and going up. We believe that the growth rate is going to strengthen our growth rate.

I can't speak for everybody else, our growth rate is going to strengthen in the third period and the first month that we've been seeing -- we're seeing those things and we think we're confident that it's going to occur going forward. At the same time, last time, you know we also had this $25 million of sales that were reduced between a combination of plant disruptions and negative FX, which decreased a little bit as we go through and so we believe the business would be better.

However, the European businesses were actually stronger in the second quarter and we think those could moderate a little because it was so strong in the second quarter. And I want to remind everybody that our friends in Europe in August, take August off so it's always at a lower level and the margins drop and the sales drop as things go in Europe.

We keep trying to get them to work though through August. We aren't working -- we can't get them to do that yet. (Laughter)

If anybody can do it you can. So just following up on that, is there -- you're saying then that what you can see is better orders but you aren't sure if that necessarily means the end markets are better or did I miss read that? Thank you.

I can just tell you that our business is increasing. We believe that we've taken actions that our business should be better than others. I'm not sure how the whole market is going to be versus where we are.

Appreciate it good luck.

Our next question comes from the line of Mike Wood from Macquarie Capital.

Hi, guys. This is Drew on for Mike. Thanks for taking the questions. So on LVT, there's no secret that there's a lot of capacity coming on in the US and Mohawk alone is doubling capacity by the end of the year. So I just wanted to ask what products do you think that the new LVT capacity is going to cannibalize and what products from Mohawk are most at risk?

So the cannibalization within the marketplace, first, is there's a huge amount, almost all the LVT is coming in from China. So first is, there is going to be a switch between the amount that sold from China and the amount that's made here.

The industry today here, depending upon whose estimate you use, is somewhere around $1.3 billion, $1.4 billion it's expected to grow maybe 15% so it's going to grow $200 million over the next 12 months. So that's occurring.

Separate from that -- so one is there's the change from where it's supplied from. On a separate basis, it's taking a little bit from everything. It's coming out of almost every product category where it is. If you say it's going to grow, I'll make up something, if you say it's going to grow $200 million over the next 12 months, that's approximately 1% of the industry.

And if you do that the whole industry grows maybe $300 million to $400 million its taking about 1/3 to 25% to 30% of all of the growth is what's happening and it's coming from all over. We hope -- we think we're going to be the best positioned in the marketplace with the lowest cost assets and ability to deliver the best style and features in the marketplace. We know we're ahead of everybody else.

Great, thanks. And then just on the margins for LVT in the US. Is that expanding across all price points or are there major differences between the high end and the low end?

They are different -- it's more segmented than that. There's differences between residential and commercial. There's differences between low, medium and high, and there's different products and different features required to optimize each. They are installed different. As at the low end is could be glued in or laid in. The high end could be clicked and the performance features are different depending upon residential and commercial.

Great. Thanks guys, nice quarter.

Thank you.

Our next question comes from the line of Laura Champine from Roe Equity Research.

Thanks. Jeff, the question is about the assets that you're adding in Russia. You said they were to meet demand in 2018. Is that demand that you expect just through your own market share gains or are you actually making a call on a recovery of the end market there?

Let's see. First is our present capacities, we're about three years into it, I believe, into the market decline. The ceramic industry in Russia, my estimate is it's off about 35% from the peak. So the first thing that happened was the imports coming into Russia declined first and they are headed close to zero if they aren't already. Now in that environment, the imports were supplying the mid- to high-end part of the marketplace.

We were positioned in the mid- to high-end part of the marketplace and so we became the best option to replace it. Our business, in connection with the rest of our businesses, we can make any product in Russia you can get from anywhere. So over that time what's happened is, our business has been expanding in the midst of a huge recession that's going on over there. We've also been expanding -- so we've expanded the product offering with more style and design at different price points and we have also been expanding our distribution points.

I don't know if you remember, we also have over 300, either owned or franchised, retail stores that we put through there as well as our own total national distribution system over there. In addition because of these things, we're the only company over there that has a consumer brand. So with all of this, we've been running our assets wide open at the moment. This year, we've actually increased the capacities coming on in the fall of this year because we've run out of porcelain capacity, as we speak today.

And that's coming in over the next -- this period we're in right now. And then the market is really close to looking like it's bottoming soon, so it takes us about almost 1.5 to 2 years to get new capacity in, so we've ordered right now, in order to be able to sustain the growth after 2017, we have to have some more capacity. So that's what we've ordered and it's coming in, if the market picks up -- we know the market is going to pick up somewhere.

It's really low from where it is. Its got to pick up. Our distribution has been broadened so we're really ready for it. And there's a chance we could be a little early or we could be a little late. But we're in the right position and I think we can push it through the marketplace no matter what.

Great, thank you.

Our next question comes from the line of Eric Bossard from Cleveland Research.

Thanks. Curious for what you see going on in terms of your market share progress as you're adding capacity and adding new product and new designs? Interested to understand a little more about how that's connecting and what's happening with that with your partners and your retail customers?

I think that we're doing a little better than the overall market. It's hard to go through because each of the markets different. So carpet is about -- the industry this year is about flat in units, however the dollars are down because of the change to polyester which is a lower price product and then the pass through of the pricing. So the dollars are down even though the units are about flat. In the last quarter, I think we've done a little better than the industry.

On the other side of the thing, you have products are growing much faster. So laminate is growing faster. I would guess we're probably growing a little less than the industry in LVT but I'm not sure because we've held it up to, we don't want to -- we've held it up a little bit waiting for our capacity to support it but it's going to start getting more as we go through. You have ceramic that's growing relatively well. We're fully participating in it. Wood is growing.

We're putting in a new wood plant to participate more in it. Our plant's been running full and we've increased the capacity of it coming into this year. So I think we're doing well. I think we'll grow more than the marketplace.

Okay, that's helpful. Secondly, in terms of -- you were pretty specific on SG&A, but curious on how we should be thinking about gross margin? You've had now four quarters of benefit from lower input costs than we saw this quarter, a little less benefit and less give back on price? But any guidance you could give us on how we should think about the gross margin and/or the price-cost environment that we should look forward to?

Let's see. The margins, we're expecting to have higher margins this year over last year in the fall going forward. It's built into the estimate that we've given you in the earnings per share. All these investments and things we're doing are trying to drive the two pieces, which is the top line up and the cost down.

And then you'll hear us managing the SG&A piece. On purpose, we raised the SG&A last fall and we're going to have to keep tweaking it based on what the market is and what's happening in order to balance our sales with our production expectations. And hopefully we'll be able to drive it without going -- without raising the percentage and driving it down but we'll have to see how it goes.

Okay, that's helpful thank you.

Our next question comes from the line of Michael Rehaut from JP Morgan.

Good morning, it's Jason in for Mike. My question is on the organic growth trends in Flooring North America. I know obviously the growth on an organic basis slowed to about 1% from 4% last quarter and I think you highlighted that there was some large customers that postponed product launches as one of the drivers there.

Just wanted to see if that was really the biggest driver of the slow growth or if there's anything else to call out? And then I think you talked about having more of an indication of solid orders in terms of 3Q, but you just wanted to see what July trends looked like in Flooring North America and if that organic growth rate returned to that 3% to 4% number you saw the last few quarters?

I think first, our belief is that the GDP growth slowed -- did increase like we had anticipated and the market growth was a little slower. Second is that you have to realize that residential carpet is a huge part of our total business and the average selling prices are negative, is it, for all of the reasons we've already discussed. We did have large customers in multiple categories push product launches out but they are still going in.

We had some customers actually lowering inventory in the period. And then given all those things, what we said is that we expect the higher growth in the third quarter and the bookings we've -- that are in hand that we've been receiving through July support that expectation.

Okay, great. And then just a question on what you're seeing in terms of the hardwood volumes in North America and where you stand right now from a price cost standpoint versus lumber?

We announced a price increase some time prior to now. Those -- with those increases are being implemented as we speak and they will be put through the marketplace. We have seen from that, of the categories -- you have to look at it from an engineered wood product and a solid wood product.

The solid wood product is under pressure because, as the price has gone up on the solid wood, the engineered price has gotten less, and so the engineered capacity is going to continue growing at the expense of the solid wood. And I'm guessing that the wood -- the total wood volume, if you look at the year, we're guessing somewhere in the 3% to 4% range for the industry, and overall, for the whole industry, it could be 3% or more.

We think the wood piece will be growing at a faster rate than that, maybe 5% to 6%. But then all of the growth is in the engineered piece and the solid could be flat or down.

Okay, great. Thanks.

Our next question comes from the line of James Armstrong from Vertical Research.

Congrats on a good quarter. First question is, have you seen any impact of Brexit on either your business or the M&A potential in the European market yet?

You have to understand that our business in those areas only make up about 1% of our income. So relative to our whole business, it's really a small part of it. Out of that we support what we have there in two ways. One, we have local manufacturing, and the local manufacturing is in products that don't easily ship and have high freight costs so those businesses haven't seen a significant change in anything at this point.

The other part we ship from Western Europe into there. We have been -- we're in the process of adjusting prices relative to where the pound's been to get them leveled out. And it's a little early to tell exactly how this whole thing is going to move forward. But our total business, is not going to have a significant impact one way or another.

That helps. And switching gears, you talked about the mix shift in carpet in the North American business. Do you think that mix shift will continue into the back half of the year or should it rebound more towards the consumer higher-margin business.

I'm not sure of the mix shift you're talking about.

You talked about the more shift to the home -- or new construction market.

What I said was that there are channels that are doing better and so as a general piece, new housing is growing much faster than the general market. A lot of the new housing is at lower quality levels and at the same time you've seen the multi-family business grow. On average, those channels use lower quality product than when the consumer comes in and purchases it as a remodeled piece. So as those pieces -- I don't see those changing in the near term.

I'm hoping that the remodel piece will improve, is it, more but we'll have to see how it goes. On the other side, the other thing that's happening is the builder and multi-family channels have moved faster to polyester. So the difference in moving from where they used to buy nylon to polyester is also impacting the average price in those even more so than the other one.

Okay, that helps. Thank you very much.

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

Good morning, Jeff and Frank, how are you?

Great morning, Sam.

Couple questions. First off, this is a piggyback on one of the earlier questioners, I know you mentioned the delays in some carpet shipments due to customers reducing inventory. I think you also cited in ceramic tile that there were some delays in the second quarter getting pushed to the third quarter.

Can you estimate what the sales impact of that? I know you had estimated the plant disruptions but could you estimate what those shipping delays were because of customer timing?

I don't have those to give you, in front of me.

Was it material?

I wouldn't have mentioned if it didn't impact it. (Laughter)

Perfect. Okay. My last question, its been maybe 12 months or so, outside of Xtratherm, that you've made a deal -- an acquisition of some significance. I'm trying to get a sense of why that is, based on the fact that you've indicated there's a real fertile hunting ground for deals.

I'm wondering is it a lack of selling interest? Is it the fits that you're looking at may not be that great? Or is it the valuation being too high? What's been the impediment or the constraint on making deals?

We continue to talk to people and look at various opportunities. We remain disciplined in our approach with risk and values, so we applied different risk levels to the different businesses depending upon where they're located and what they are. And we haven't been able to come to a common agreement with anybody in the last six months but it doesn't mean we aren't trying.

So, Sam, I would also remind you that many of our acquisitions that we've done over the years have been discussions and negotiations that have gone on for years. Dow Tile is a good example, IVC is a good example, Marazzi is a good example. Those each were at least two or three years of ongoing discussions.

Helpful, thank you much. Have a great weekend.

Thank you.

Your next question comes from the line of Scott Redner from Zelman & Associates.

Hi, good afternoon now. Frank, real quick question for you. Cash flow from operations year-to-date has essentially doubled from last year, just curious if you could talk about the cash conversion in the back half of the year? Is there anything unusual in those numbers that we see?

No, Scott, I expect the cash flow this year to continue to be strong as we move into the second half of the year there. We're going to continue to see good strong earnings and manage operating or working capital even with the elevated CapEx.

The CapEx will be more had in the second half than it was in the first half as we go through. But so should the earnings and then, don't know about acquisitions, whatever shows up.

Okay, thank you.

Your next question comes from the line of Megan McGrath from MKM Partners.

Thanks, good afternoon. Most of my questions have been answered. I did want to ask, you go through a lot of the capital projects each quarter.

Are there any that -- on those that involve increasing your capacity, I could guess LVT but I'd love to hear your answer. Where do you think the most acute need is to increase capacity and have you either accelerated plans or reprioritized any in the last couple of months?

I think LVT is the most important one because of the changing marketplace and the opportunity would make it at the high one. The question about changing plans are not, given our capital structure which I've spoken about a few times up to now, we really have a huge amount of capital available to us so if it's a good idea, we're going to support it today as we go through.

We have other things that if you look at the different businesses, my laminate in the United States is running full out and we're importing products from other places. My ceramic, I'm actually importing product from our manufacturing in Italy, Russia and Bulgaria into my ceramic business as you go through. We mentioned that my Mexico business, I was selling everything we were making at this point.

My wood business in the United States, I said I was building a new plant because I'm sold up there. I mean I could go through them one at a time with you but I mean the business is running really well and we're adding capacities to support our growth.

Thanks, that's helpful. That's all I have.

Thank you.

Our final question comes from the line of Susan Maklari from UBS.

Thank you. Good morning. Quickly I'm just wondering, in your comments you mentioned that your counter top sales are increasing and it sounds like, as if perhaps you're gaining some share there. Can you just talk about who you think you're taking that from and maybe what the trends have been there?

I forgot how many years ago we decided to go into the counter top business. We saw it as an adjunct to our ceramic business and we've become the largest distributer of countertops in the country. It a very fractured business as a distribution business with a lot of small people in regional places. And because we cover most of the United States but not all of it with it, so it's an opportunity to grow our business as a broad distribution company.

We've been able to leverage our relationships with ceramic and stone flooring to build a nice business that we have and we see opportunities to expand the position into more distribution and look at the other opportunities within it. There are, for instance, in Europe there is a porcelain counter top being made similar to ceramic tile and we're actually putting in capacity, I mentioned earlier, to actually make it in Europe.

So once we put that in, which should be some time next year, we'll start importing it and selling it through our own distribution. As a for instance.

Okay, thank you. And then more broadly, and you touched a little bit on this in some of your other comments, but can you talk about what you're seeing on the remodel side in general? Has that accelerated at all and are you seeing shift in people perhaps taking or choosing some higher margin kind of choices within that?

I think my best answer is, more of the same. Is it. It's okay but you would normally think it should be really much stronger given where we are in the cycle and what's going on, but it is what it is.

Okay, thank you.

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

Thank you for joining us. We're optimistic about our position in the marketplace, we believe the market's going to continue doing well and we think we're well positioned. Have a great day.

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