RPM International Inc (RPM) 2008 Q1 法說會逐字稿

Welcome to the RPM International conference call for the fiscal 2008 first quarter. This call is being recorded. This call is being webcast and can be accessed live or replayed on the RPM website at www.rpminc.com. Comments made on this call may include forward-looking statements based on current expectations that involve risks and uncertainties which could cause actual results to be materially different.

For more information on these risks and uncertainties please review RPM's reports filed with the SEC. During this conference call, references may be made to non-GAAP financial measures. To assist you in understanding these non-GAAP terms RPM has posted reconciliations to the most directly comparable GAAP financial measures on the RPM website. Following today's presentation there will be a question and answer session (OPERATOR INSTRUCTIONS).

At this time I would like to turn the call over to RPM's President and CEO, Mr. Frank Sullivan for opening remarks. Please, go ahead.

Thank you. Good morning, and welcome to RPM's first quarter conference call. We're pleased to report record results for the quarter ended August 31, 2007. We are on plan for the year so far, and we are on target for our communicated goals of sales growth of 8% and earnings growth of 8% for our 2008 fiscal year. We are seeing a modest renewal of growth in our consumer business, which is good, continuing robust growth from RPM companies that serve heavy industry and infrastructure, and as anticipated some slowing in businesses and product lines serving commercial construction markets. I will now turn the call over to Ernie Thomas, RPM's Senior Vice President and Chief Financial Officer, after which I will provide some comments on our outlook, our three-year strategic plan and then answer your questions. Ernie.

Thank you, Frank, and good morning, everyone. I will begin with a review of our first-quarter operating results compared with the same period a year ago followed by highlights from our balance sheet and cash flow statements. And before I begin I should mention there were no adjustments to the asbestos liability in either quarter. Fiscal 2008 first quarter net sales grew 10.2% to a record first-quarter sales level of $930.3 million. Seven small acquisitions represented 3.2% of the growth in net sales. Organic sales growth amounted to 7% of the improvement in consolidated net sales, including pricing of 1.6%, net favorable foreign exchange of 2% of the growth, principally from a stronger Euro and also from a stronger Canadian dollar. Industrial segment net sales of $608 million grew 11.5% over last year's first quarter. Five acquisitions completed during the last 12 months represented 2% of the industrial net sales growth over the prior year first quarter. Organic sales growth in the industrial segment represented 9.5% of the net sales improvement which includes pricing of 2.4% and the impact of foreign exchange which also represented 2.4% of the industrial net sales improvement. Consumer segment net sales of $322.4 million for the quarter were up 7.9% from last year. Organic sales growth represented 2.3% of the consumer net sales improvement year-over-year including 1% from net favorable foreign exchange. Retail buying behavior was essentially flat quarter-over-quarter.

However, declines in the sales of existing homes, and to a lesser extent new housing starts, have affected several lines of our business. The balance of the consumer segment sales increase representing 5.6% of the growth in consumer net sales over last year's first quarter resulted from two product line acquisitions. Our gross profit margin of 41.3% in the current quarter improved from last year's first quarter margin of 40.9%, or about 40 basis points due primarily to price increases which were implemented after last year's first quarter. The industrial segment gross margin improved to 42% from last year's 41.7% largely reflecting the price increases previously mentioned. The consumer segment gross margin of 39.9% in the current quarter was up 50 basis points from last year's 39.4%, principally reflecting, again, the price increases implemented last fiscal year. Our SG&A expenses increased to 29.1% of sales compared to 28.1% last year. The increase reflects various one-time items including foreign exchange and acquisition growth plus additional expenses incurred to grow organic sales. Interest expense, net, reflects really four different items and was actually down about $0.5 million year-over-year due to additional investment income this year and the absence of make-whole payments that occurred last year in the first quarter. These two items were partially offset by acquisition related debt service plus rate increases on our variable rate debt. Overall interest rate averaged 6% this first quarter compared to 5.4% last year.

Our effective tax rate of 31.8% this year compared to 34.9% last year. The lower rate in the current period resulted from certain tax credits, a higher domestic manufacturing deduction this year, and lower tax rates on foreign sourced income. Net income of $68.3 million this year represents record earnings for our first quarter, increasing 11.3% from last year's $61.3 million, with a margin on sales of 7.3% remaining flat compared with results from a year ago. Earnings per share for diluted of $0.53 this year also represents a record for our first quarter, up 8.2% compared to last year's $0.49 per share.

A few comments on the balance sheet. Net accounts receivable were up $75 million, and acquisitions account for $12.3 million of that increase, foreign translation exchange accounts for 11.8% with a balance related to increased sales activity during the quarter. Inventories were up $53.4 million, again net acquisitions accounted for $13.4 million of that increase, and a foreign exchange effect $7.2 million year-over-year. Remaining increases related to organic business growth as well as certain strategic inventory builds. Total debt stood at $1 billion at the end of the quarter including our short-term debt, up $92.4 million year-over-year. This mainly reflects $38.6 million of additional indebtedness for acquisitions completed during the last 12 months less $22.5 million of debt repayments. The composition of our debt at August 31, 2007, included about 49% of fixed rate debt and 51% of variable rate debt.

Our total liquidity including our cash stood at $442.7 million at the end of August. Our 43% net debt to capital position improved from 43.3% at the end of May, the end of our fiscal year. Our liabilities related to asbestos are reflected in two areas on our balance sheet. Our current liability of $53 million represents estimated pretax payment that is may be required during the next 12 months. Under long-term liabilities, $278.4 million reflects estimated pre-tax payments required beyond the next 12 months. The total of $331.4 million compares with $354.3 million at May 31, 2007 reflecting a $22.8 million in pretax payments that occurred during the current quarter, which compares with payments of $16.4 million a year ago in the first quarter. Broken down, defense cost of 8.8 million this year compared to defense costs of 6.6 million last year while settlement costs of $14 million this year are up versus $9.8 million a year ago. We secured dismissals and/or settlements of 365 claims versus 232 claims in the first period last year.

During the current quarter we continued to secure a number of settlements on terms that were favorable relative to our reserve assumptions which did however result in higher cash outlays for the period. The number of active cases at the end of the first quarter stood at 10,957, essentially flat from May 31 at 2007, our active case load of 10,824, and last year's first quarter case load of 10,934. The average monthly number of new cases filed in the first quarter is approximately 15% below new filing in last year's first quarter. As we noted in the past and will continue to caution, there will be some quarter-to-quarter volatility of our total cash costs for asbestos. Our cash flows from operating activities were a negative $3 million compared with last year's cash flows from operations of $23.1 million for a net decrease of $26.1 million year-over-year primarily resulting from higher working capital requirements in the current period along with higher asbestos related payments. I will now turn the call back over to Frank

Thanks, Ernie. For the fiscal year ended May 31, 2007, we finished a five-year strategic plan period where we communicated our goal of doubling net income over that five-year period and in typical delivered RPM fashion we did it. We expect to do the same combination of a deliberate focus on internal growth, which is something we've been getting better at over the last couple of years combined with the acquisition of product lines and entrepreneurial free-standing companies in fiscal '08 and over the next three-year strategic plan period.

Our next strategic plan period is three years with a target date of 2010. Our expectations over that three-year period is that sales will grow at a compounded annual rate of roughly 10% driving a compounded annual rate of net income growth of roughly 12% with obviously a slower start and what is expected to be a stronger finish for that plan. We're in the first year of that plan where we have communicated our expectations for sales growth of 8% and earnings growth of 8% for our fiscal year which will end May 31, 2008. The lack of earnings leveraged to the bottom line in our plan is due to our expectations of slowing growth in commercial construction markets and higher levels of spending in marketing, selling, and product development areas, all of which are critical to achieving our new three-year strategic plan. What that means for fiscal '08 is that we will show positive growth in industrial and consumer businesses - evident of the fact that our markets are less impacted by the cyclical markets of new home construction or OEM finishes. We will fight through some challenging areas we anticipate in the commercial construction markets, and we will spend towards that 8% earnings growth plan particularly in selling and product development areas which are ongoing for the year.

While we do not provide guidance on a quarterly basis, and certainly believe that that is the bad practice, I think it is appropriate with the reemphasis of our goal this year of growing sales and earnings 8% for those that do look at quarterly splits to comment on our third quarter. Last year's third quarter you'll recall was very strong, with EBIT growth plus 15% due to one-time benefits in our tax rate actual net income growth, which was up more than 50%. Our plan for the third quarter this year which is a seasonally low quarter and relatively meaningless to the full year is for flat results at the operating level, and we certainly do not expect to repeat the one-time tax gains that we had in last year's third quarter, so I thought it was important given the seasonality of our third quarter to provide some perspective on that as you think about RPM's results for the balance of this year toward our goal of 8% earnings growth and EPS growth for the year.

Acquisitions will play a role this year starting with Star Maling, which is an acquisition of a Norway based provider of high performance coatings for the corrosion control, petrochemical and marine markets. We had a joint venture, which was part of Star Maling with our Carboline business that was reflected on an equity basis, so we did not reflect any of the joint ventures revenues which were smaller than the entire Star Maling business. On an annualized basis that means with a $30 million revenue base that it is a $30 million add to RPM once we get going with this business. In the early quarters this business will be marginally dilutive to earnings because of the expensing of acquisition costs, inventory write-ups and things like that although it will be accretive to earnings in coming periods, albeit in relationship to its $30 million revenue base.

We have a very good pipeline of similar-sized deals and so while you cannot count any acquisitions until they're actually done, we've got as good a pipeline for small and medium-sized product line or entrepreneurial companies as we've had in awhile and we believe that larger transactions will be back in our value range in the coming years given some of the challenges in the financial markets for private equity that for the last two to three years have pretty much priced strategic buyers out of the market for larger transactions.

In summary, we're generating positive growth, we're on plan both for our top line and bottom line. We are investing in a number of growth initiatives that will continue to fuel forward momentum, and despite a number of challenges that we and our competitors are facing, expect to finish the year on the positive side both in terms of core sales and earnings and then obviously adding to that the impact of any acquisitions that we complete throughout the year. That concludes my formal comments. We would now be pleased to answer any questions that you have.

(OPERATOR INSTRUCTIONS) Your first question comes from Jeff Zekauskas from JPMorgan.

Good morning.

Sorry, this is Silke Kueck sitting in for Jeff, how are you?

Hi, Silke, how are you?

Doing okay.

Good.

Can you discuss the monthly trend you've seen in the industrial construction market sort of from going from near June, July, to August and what we've seen in September so far?

We really don't provide guidance from one month to the next. I can tell you that in heavier industry areas like petrochemical, marine, power generation, infrastructure, we are seeing as robust growth as we've seen in a long time, very solid double-digit core revenue growth, and we expect that to continue. In the commercial markets and our expectation was, and we think it will come true that the commercial markets will be impacted by the significant slowdown in the residential construction market. We're seeing slowing in some of our businesses that in prior years might be growing at high single or low double-digit rates to kind of middle-digit rates, and we expect -- while we expect it to be positive for the year for a number of reasons related to RPM, we expect that to continue to slow down, and our expectations for the second half of the year is that product lines lines for instance Tremco Sealant's would be relatively flat as a result of slowing in construction -- in commercial construction markets as opposed to industrial.

How big is that piece that you've -- the commercial piece out of your industrial?

I would guess, and this is just a guess, but as far as we can tell, our exposure to commercial construction is in the $300 to $500 million range, and that's on a global basis. We have previously communicated that our direct exposure to residential new construction is about $100 million, and the balance of RPM products are really focused on renovation, repair, and maintenance, and I think you can see it, and you will see it reflected in our results versus some of our peers. We're facing many of the same challenges. We just don't have the same exposure to either the housing market or more cyclical OEM cycles or OEM customers.

And what you just said is what you expect for the commercial construction markets in the second half the volumes to be flat or was that an estimate for the full year?

In the second half we see it slowing down and to your earlier question, it is an area for us that has gone from a year ago high single-digit, low double-digit growth rates to kind of middle single-digit growth rates and I think by the end of the year it will be at that level or slowing more.

And then likewise on the consumer side can you discuss some of the trends you've seen at Home Depot and how the DAP product line is faring?

The DAP product line, for instance, was a very challenged product line for us last year. It was one of the product lines that has a greater exposure to residential new construction. You can go into a new home and find cases of DAP that was used around windows and in different areas and dry wall and things like that. We're actually seeing positive growth albeit very modest in our consumer business including DAP. We are spending into that. We are in the middle of a new product rollout at some major accounts with a new technology. It is a modified silicone technology what DAP calls 3.0. It's going very well, and we're in terms of selling and marketing expense spending into that and into the expectation that we will have a year of positive growth in our consumer businesses unlike last year where it was down, and we're seeing that so far the markets are still very challenged.

If you look at the categories that were in, for instance, in paint and coatings at a lot of the big box retailers, you will see that the categories are down in some cases significantly, but that's principally related to the larger volume architectural house paint and when you get into the more typical RPM products, patch and repair products, spray paints, small project paint, we are actually trending positive on a same-store basis. The other reason that I think we expect that to continue is it necessarily a sign of strength, we're just comparing to some weaker results last year as you certainly know.

Yes.

We had some easier comps for sure.

Thanks very much. It is helpful. I will get back into queue.

Good. Thanks, Silke.

Your next question is from the line of Saul Ludwig from Keybanc.

Good morning, Saul.

Good morning, guys. First just a quickie, Ernie, what was the price component of the revenue change in consumer?

Yes. We have that, Saul. It was 2.4%, I believe.

2.4%. That would have meant that your volume would have been down about a 1%, right?

No. Volume was actually up 1%.

Yes.

We were up about 1.3% in volume.

1.3% in volume, and you had 2% in price, and you had 5% in acquisitions and 1% for FX, something is not adding up here.

We'll get back to you, Saul. We were modestly up in terms of our actual volume.

Okay. Thank you. A question on the asbestos. Two questions. One, you ended last year in your current liabilities for asbestos payments at $53 million. You have at the end of the first quarter $53 million as your estimated current payments expected for asbestos yet you spent $22 million in the first quarter. You said you're going to spend $22 million in the second quarter. I am confused about your rate of spending versus what your balance sheet says is your expected rate of spending for the next 12 months.

Sure. We obviously look at that regularly, and when appropriate we will adjust that. The higher -- and it is higher than expected in terms of what we would have expected three or four months ago - costs that we're experiencing is really a transition cost, and it is a good move. It is really related to two areas. Number one, we had a relatively small firm that was our national defense counsel for years, had a great partnership with this firm, and they did a great job for us in that process. They developed into our data manager which is quite a job with the case load and all that that we have, and we are in the process of transitioning from them to Navigant who is probably the most sophisticated data manager for contingent liabilities and the most sophisticated data manager for asbestos liabilities. In that transition we're incurring higher costs, but the actual run rate on an annualized basis for Navigant will be somewhere in the $200 to $300,000 a year range for that service versus nearly a $1.5 million in our former structure.

You're going to spend $22 million in the first quarter and you're going to spend $22 million in the second quarter, that gets you up to $44 million for the first half of the year.

Let me finish, Saul. The second area in transition is in a number of state level defense counsel, and in one particular instance we will be moving from a defense counsel in one state whose run rate and actual experience was around $12 million (company corrected after call) a year, and our new run rate will be at $3 to $4 million a year.

Also, Saul, the $53 is a rolling 12 months, so it is what we expect to spend the next 12 months.

And just to finalize that comment, we are experiencing duplicate costs in that transition as we transition from some former defense counsel to new defense counsel. The net result of which should materially bring down our defense costs which as you know over the last four or five years has gone from $8 million dollars a year to something lightly in excess of $25 million a year, so at the end of the day this is all good news, but we are in a transition cost that started this summer and will be completed this fall.

This is like a big deal where you dump one set of defense counsel and pick up another. These decisions are not made lightly in that area.

That's correct.

The next question I have is this higher level of SG&A spending. Your SG&A spending was up 14% year-over-year. You comment in your release that this is for new marketing programs, new products, and I guess I was surprised to see SG&A up that much, and what do you expect to get for this additional spending and how long will this spending at a rate higher than sales growth continue?

First let me comment on any surprise out there. We communicated starting this summer about the '08 fiscal year that sales would grow at 8% and earnings will grow at 8%, and obviously that reflects a big lack of earnings leverage to our earnings in the bottom line, and it is principally a result of intended spending in areas I commented earlier like DAP. DAP had a challenged year last year because of the impact of the housing market. We have significant big new product introductions there, one of which is rolling out now across our largest account. We are spending into that in terms of marketing. We are spending on a lot of selling expenses in product lines like Tremco roofing, in our Carboline product line, in our Fibergrate product line. We are spending dollars in some green building initiatives, if you will. If you look at the portfolio of products that lend themselves to a lot of the green building areas, that's an area that's starting to pick up momentum, the most efficient siding in the market today anywhere is Dryvit. There are a number of initiatives at our Tremco sealant businesses, in that area.

There are also some initiatives with our Fibergrate business with their Indian partner who is actually a producer of components for windmills. So we have a lot of spending initiatives that are ongoing, and they were deliberate, and obviously we may not have communicated that as clearly as we should have, but as you know well with RPM, an 8% revenue growth would hit our bottom line a lot harder than 8%, if we didn't have a number of spending initiatives. We think spending in the consumer area now is the right thing to do, particularly in our categories because we think that the decline in revenues there has bottomed out or is bottoming out as we speak, particularly in our categories, which again are not architectural, paint related or in the consumer area not really commercial construction related but more maintenance and repair.

Thank you very much, Frank.

Saul, just to add to what Frank said, we also pick up an SG&A from acquisitions that were acquired after the first quarter last year.

I am aware of that.

You get a full roll on plus the foreign exchange from our foreign operations actually go up with the exchange rates.

So do their sales and so does their gross profit, too.

Right, right.

Thank you.

Thank you.

Your next question comes from the line of Robert Felice from Gabelli & Co.

Good morning.

Good morning. Just piggybacking on the last question. During prepared remarks Ernie mentioned that some of the SG&A expense was one-time in nature, and I guess he was referring to some of the FX and acquisition.

Yes.

If that's the case, I guess first how much of that is one-time, and then going forward, should we expect that to decline?

There was one area, one other area of one-time which is compensation related, related to some of our strategic plan equity incentive compensation.

The exchange and the roll on effect of the acquisitions occurring after the first quarter last year were pretty significant and I think together they are about $20 million of that $30 million increase or pretty significant.

Okay. Okay. And then you really got a benefit from the tax rate during the quarter that helped EPS line. For the full year can you update us as to what you expect your tax rate to be?

We expect to be in the 32 to 34% range.

That's slightly - if I remember correctly - slightly below your prior expectations?

That's correct. You could probably even refine that a little bit more to 32.5 to 33, somewhere in that range, so it will be favorable to our prior communication, but I think slightly bigger than last year.

Okay. So I guess comparing your expectations from three months ago to today, it seems like the SG&A may have come in a little higher than expected but that's being offset by a lower than expected tax rate. Is that correct?

No. The spending that we have are all intended. There is no kind of out of budget spends going on in terms of where we are. So again it doesn't sound like we communicated it very well in July, but this was a year in which we very much intended to continue investing in some programs and initiate others, and the best example I already commented on was DAP. We spent a challenging year last year with declining revenues and trying to maintain a decent bottom line there by appropriate expense cuts across that business and across our whole consumer segment we had negative core growth, and we see that bottoming out, and it is very much in our annual plan to spend into that in terms of opportunities to hit our bottom line positively when the core growth starts to pick up.

I guess what I am getting at or wondering is that if you expect your tax rate to be slightly lower for the full year, and you haven't changed your net income growth expectations, that would suggest to me that something else within there is offsetting that leverage. Perhaps you can just -- we could delve into that a little bit?

Again, all I can tell you is that we're pretty deliberate in how we plan, and we're pretty -- whether it is a longer-term plan or an annual plan, and this year we plan to grow 8%, and that will come not only from -- I am sorry, sorry, will come not only from growth, but it is going to come from spending. So we will grow our way up to 8% or something in that range, and we will spend our way up to or down to 8% as well, and there are a number of initiatives out there that we're doing, so that's our current plan. How the tax rate falls out, is a little challenging for us just because we got a $2 million plus one-time benefit in the third quarter last year we don't expect to repeat, and that's the best I can answer your question.

Okay. All right. That's helpful.

I can't emphasize enough the fact that we will grow our way into and spend our way down to what we think is going to be an 8% earnings and EPS growth rate this year excluding acquisitions, and as Ernie commented on, with the requirement to expense more acquisition costs up front and an inventory markup, these acquisitions typically will hurt us in the early period or the first period they're part of us, but if we do them right, they will help us in future periods, and while one $30 million deal won't impact our net income to any material extent, if we can get some of these other deals in, then I think that our consolidated basis you will see us be able to beat our results. I am really talking about the core of RPM that existed as of June 1 of this year.

All right. Then I guess lastly, you touched on the consumer business in response to a prior question, but I wanted to go back to that a second. With consumer sentiment declining, what gives you the confidence in renewed growth through the remainder of the year? I would imagine we're yet to see a lot of the fallout from a number of developments in the financial markets over the last couple of weeks and the residential construction market, the consumer seems to be slowing quite a bit, so perhaps you can just delve a little deeper into some of the trends there and what gives you that confidence?

Sure. Historically, and it is probably less true today because we do have business and product lines like DAP that are exposed to new construction, historically our consumer products in some ways reacted counter cyclical, and when you go through a period in which -- not so much new construction, but housing turnover slowed, that kind of stalled consumer activity in our product categories at a lower level of housing turnover, and I believe at a lower level of new construction as long as it bottoms out. Then what you see is people maintaining their homes and doing modest redecorating and this isn't -- our products, again, aren't typically used on the $100,000 or $50,000 remodeling of the kitchen.

They're used to repaint, redecorate, maintain, and so historically over the last 20 years a lot of our products have been counter cyclical, and in terms of the patch-and-repair product lines of DAP, and we have the leading market share in every major home center in terms of patch-and-repair, in terms of the rust preventive and decorative products of Zinsser and Rust-Oleum, we think that will hold true here now. I know we're talking about modest rates of growth here, low single-digit, and that's a combination of the more steady nature of our product lines versus our peers, and the fact that we're comparing it to easier comps in terms of actually declines in the prior year. This isn't any big robust thing at this point in time. It is positive, and we're seeing it continue, and we expect to see that for the balance of the year.

That's very helpful. Thanks again for taking my questions.

Your next question comes from the line of Keith Wiley from Goldman Sachs.

Good morning.

Good morning. Just had a quick question on the acquisitions that you mentioned you might be able to get the opportunity to do some larger ones, and I notice your credit ratings are B double-A 3 negative. Can you do these larger acquisitions, and are you committed to maintaining that investment grade rating as you pursue them? Would that require the use of some equity and debt financing?

The answer to the first part of your question, maintaining investment grade ratings have always been important to us. The improvement in our liquidity leverage ratio in interest coverage ratio is in the last five years from when we were put into the current rating profile is dramatic. I think that the asbestos situation has had more to do with our current ratings than our actual credit profile which is equal to or better than some of our peers that have a more solid middle or upper triple-B rating, so that's an issue for us to keep in mind. Maintaining an investment grade rating is important to us. We feel we have significant liquidity or I am searching for the right word. We've got significant room within our existing lines. We've got about $420 million of liquidity to do acquisitions that are sizable and maintain our investment grade rating. Anything bigger than that we would look at in terms of what how we would fund it, and in the past we have used equity or gone back and refinanced with equity or equity linked securities, and in every instance it would be deal specific, so in terms of accretion or dilution, how we funded a larger transaction in some combination of debt or equity would be specific to that transaction and incorporated in the price we paid for that transaction. We've never done a dilutive deal, and we're not going to start.

Having said that, we were successful for many years -- we did a $300 million deal with DAP in 1999. We did a $350 million deal or roughly 300 million with Tremco in '97, and they were all within the value range that had worked for RPM for 30 plus years, and as you know the private equity market is really has priced the strategic players out of deals even of that size, not so much because they were happening, just because the price expectations were more in the private equity space, and I think, at least temporarily, that game is over, and it will take probably six to nine months for the market to adjust to what we would consider to be more normal valuation ranges.

Okay. Thank you.

Yes. One last comment on that is our debt structure today with a 43% debt/cap ratio on a net basis does have a $150 million convertible security which is well in the money, and it has some unique features to it that are very positive cash flow wise, a 2.75% coupon, so we like that, but nonetheless there is one piece of our current debt structure that we treat as debt, but is a convert that is well into the money, and so that's also something to keep in mind in terms of our current credit profile and rating.

Your next question comes from the line of Greg Halter from Great Lakes Review.

Good morning, Greg.

Good morning, guys, how are you?

Good.

Correct me if I'm wrong, but it looks like corporate expense was about $11.2 million versus $8.5, up about 33%. Can you discuss what's the factor on the increase there?

Yes. A lot of the one-time expenses that Ernie referenced are in that corporate expense area, and so that is a higher than normal run rate for corporate expense.

Okay. And where should the normal run rate approximate?

Maybe in the $8.5.

Okay. Thanks. And on the --

$8.5 to $9.

Okay. On the asbestos side, I know there is a suit against insurance companies. Any update that you can provide us there would be helpful.

Sure. I don't have a lot more to add than what we've talked about in the past, but the summary judgment filings are done. We would expect the judge to rule on the summary judgment motions certainly within this fiscal year, and it could happen within a matter of a couple months or four or five months. It is really in the judge's hands. We feel really good about our case. We think the fact that a major sophisticated insurance company settled their way out of this a year ago, lends credibility to how we feel about the case, but having said that, I have challenged our lawyers to a position of making this very meaningful, so we are going to have either a settlement and/or pursue a judgment that is worth hundreds of millions of dollars and reinstatement of insurance or we're going to get zero because you will not see any more $15 million settlements or anything close to that relatively small size given our position and given the significantly higher exposure of the remaining insurers.

Okay. And if we could go back on the pricing again on the industrial versus the consumer, I am not very clear on in the quarter which -- what amounts those different segments were up.

Let me clarify that. The industrial was 2.4%, and the consumer was actually very small, 0.2%, so it was very small. Sorry about that.

All right. That's helpful. Last question. I noticed on your cash flow statement there was a small amount of share repurchase, I think 3.5 million.

Equity plans.

Nothing any different than that, though?

Right.

Okay. Thank you.

Thank you.

Your next question comes from the line of Amy Zhang from Goldman Sachs.

Good morning.

Good morning. I have two quick questions. First, actually I was wondering can you give us an update on your general review on the domestic trends in the U.S. painting industry and obviously, [America] is talking about a 4% to 5% domestic decline for calendar year '08 and one of your competitors is preannounced nationally for this October quarter, and reduced the inventory in anticipation with tough market condition going forward. Can you just give us some update there?

Sure. I-- This will be a little bit of a repeat of comments I made earlier. The challenges that are facing our industry generally impact us as well as our competitors. Having said that, we have substantially less exposure to cyclical markets. We are not in the architectural house paint business. We are not in any material way in the more cyclical OEM coatings business, and so, for instance, our exposure to new furniture construction or new furniture manufacturing might be in the range of $30 or $40 million. Our exposure into other OEM in terms of different product lines we have is probably in the 60 to $80 million range, so we have very modest exposure to the types of things that this housing slowdown will impact in terms of architectural coatings or the related OEM coatings on things like white goods, appliances, furniture, that's not our market.

So further more I don't have really a good handle other than what I read on architectural paint volumes because that's not our space, and so I don't know if this is a good answer for you, but we expect to see modest increases in our consumer business versus some of our competitive peers who have more exposure to architectural coatings and where clearly the impact of the residential housing decline is going to impact them far greater than it will us. The one area where we saw that exposure more directly was in our DAP business who has maybe a 25% share of their business directly exposed to new construction.

I understood. My second question is can you give us some update on your pricing strategy in the near-term, particularly on the consumer side given some big box home improvement retailers are seeing difficult demand trends that might become more aggressive in seeking price concession from their suppliers going forward?

We have gotten price increases across all of our businesses, consumer and industrial, over the last three years. It has been a struggle. It has been very much justified by first actions we've taken to be more efficient in terms of operations and most directly by a probably the most dramatic increase in raw materials in our industry ever, and so we have lost about 300 basis points of gross margin due to the inability to pass on enough price to pass on our raw material increases and maintain our margins. We're starting to recover that, and in our again versus some competitors who are in more commodity space spaces in our spaces are particularly in consumer our products tend to be smaller ticket items. Our products are branded and so while you can find a different spray paint from a different competitor, you can't buy Rust-Oleum from anybody but RPM and the same is true in many of our industrial markets.

In fact, we would expect in the coming couple of years to recover some of that lost gross margin in part dependent upon oil prices but also in part dependent on what we see as significant capacity coming into the chemical space principally in China, India and the Middle East, and it is going to be coming on a little bit this year but more in the '09 through '12 time frame which should have a meaningful impact on the supply and demand issues that have been a significant part of our raw material price increases. So if anything, we see gross margins picking up, and this first quarter was the first year-over-year marginal improvement in gross margins we have delivered in three years.

Okay. Got it. Lastly, with crude oil price stabilized around $80, can you give us an update on your raw material trends and outlook over the remaining several quarters of this year?

Sure. Our raw materials are relatively stable right now with a few exceptions, and there are some exceptions that are related to, for instance, slowdown in-housing markets some areas where we're actually seeing price declines, and areas like TIO2. There remain other areas of raw material that is are stubbornly high. Copper, for instance, is a major raw material for some of our marine coating product lines. Zinc is a major raw material for a lot of our corrosion control coatings, and so the metals markets have remained stubbornly high, and they're a little bit volatile from one month to the next. They can go down and then perk right back up. Epoxy resins have also been relatively high although we have plans to address that. With those comments in general, we're in a period of time at $80 a barrel oil where our raw material pricing is relatively stable, and back to your earlier question, at these levels we think particularly given some of the supply and demand dynamics that are changing that over time we will be able to improve our gross margins. Now, if $80 oil turns into $100 oil, we'll probably be looking at a different story and taking some different actions.

Thank you very much.

Thank you.

Your next question comes from the line of Vital Aelion from Banc of America Securities.

Good morning, Vital.

Hi, guys. Frank, any talk about potentially positive catalysts other than micro catalyst that could turn EPS into a number that is higher than you're currently anticipating?

Well, the types of things that could drive our EPS higher would be if and how quickly we could get some of the acquisition activity we're looking at completed. A couple of the opportunities we see would be nicely accretive once we get past the initial step of the acquisition costs. I think the other area that would help us significantly is a stronger industrial market than we're anticipating in the second half. Our outlook for commercial construction in general in our planning is that it will be at best flat the second half of the year. If we are incorrect in that we will surely have a stronger year than we're anticipating. Doesn't feel like we're wrong there right now, but that's another area that would help. I think those are the biggest things that I could point to in terms of being able to meaningfully move our earnings higher than our forecast.

Okay. If I can ask the question in the opposite.

Sure.

What would be the negative catalyst to EPS other than micro catalysts that could make you fall short of 8%?

Other than macro issues, other than macro issues, $100 oil prices and stuff like that, I don't know that they're there. We have some big spending initiatives embedded in this plan and if markets get more challenging than we anticipate, we can start cutting some of those spending initiatives, and so I think thinking about our year in terms of our goals is I think you need to be very deliberate about because we're going to be very deliberate about hitting that 8% target, and I think we have an appropriate amount -- an appropriate amount of caution in terms of where the construction markets are going and we also have a significant amount of spending for growth initiatives such that if things turn out weaker than we thought we can take an axe to some of those spending initiatives, pretty quickly, and a fair number of those spending initiatives are actually planned for the second quarter. We will be doing TV advertising with DAP for the first time since DAP has been part of RPM, and there are a lot of different programs we've got going out there we're pretty excited about, and also help us, and that was my prepared comments, build into what we think will be a momentum-building in terms of our three-year thinking between now and 2010.

Thank you, Frank.

Thank you.

Your next question comes from the line of Rosemarie Morbelli from Ingalls & Snyder.

Good morning.

Good morning. I am glad I made it. Thank you for taking question. Looking at your expectation for the year, last year's first half was actually weaker than the second half, and you saw some pickup in the second half which means this year the comparison is this year in the first half and it will be in the second half in addition to which the consensus out there is for a slowdown in the economy, and whether you are as impacted by it or less as much or less than some of your competitors, you are still going to be effective to a certain degree. So with an 8% growth rate in earnings in the first quarter let's assume that you have a similar level in the second, I would expect that earnings growth to slow down in the second half, so first of all it will be flat in Q3, but as you said that is almost irrelevant. It also means you would expect a very strong fourth quarter with more difficult comparison in the slowing economy, so can you help us understand how you will get to the 8% for the year?

I probably won't help a lot more than we already have. We quit providing quarterly guidance in October of '02, and I think it is a bad practice both externally and internally. I kind of broke my rule after all these years by providing some guidance in the third quarter, but I wanted to make it clear relative to what we had last year's third quarter, so that's about as much guidance on quarters as I would give you, but I think it does give you some pretty good guidance with our first quarter as to where we are having released these results, and my comments on the third quarter and our strong belief that they will see a year in which earnings are up 8%, and so how you decide to spread quarters for the balance of the year is certainly up to folks that look at things on a quarterly basis.

Don't you agree that in terms of a comparison basis the second half will be more difficult than the first half because of the trends last year?

Absolutely. That's one of the reasons why we are comfortable in commenting for instance in the construction markets we expect them to be relatively flat. Those products in those businesses of ours in that market had a pretty strong finish last year, and we don't -- the comparisons are tougher, and we think the environment is slowing. Conversely our industrial businesses are humming, and we don't see that slowing at all. I wish that was more of our business today, but it is a nice size, and we also think that the consumer businesses will actually as the year progresses trend upward. We are spending -- as I said on the call, we are spending into that belief. We've had some real weakness in the consumer markets. We have some insight into residential new construction with our Tremco Barrier Solutions which is a very high margin but a direct play in residential new construction. We have a 40% market share for the market of waterproofing and insulating residential basements in new construction, and so we have a pretty good insight into how many holes are being dug or more appropriately in these days how many holes are not being dug on that side, and we also have a good sense of where we think we can go with our big customers the consumer side which will be different from our peers because of the difference in what our products do versus what some of our peers products do. That's as good as I can tell you.

Right. When you talk to our customers, Frank, do you hear them talk about slowdown or are they continuing to be quite positive in terms of expectations? You say the industrial business is humming. Well, your quarter ended in August, and it looks as though some things are falling out of bed in September based on either actual quarter decline or customers saying they're concern and are dealing with their own inventories and are going to be cautious. What do you hear from your customers at close end?

I think for the industrial segment, Rosemarie, there is three ways to look at it. I will tell you the three ways first and talk about each. One is what we consider heavy industry. The second is commercial, and then the third is understanding the split between international and North America. The industry, the businesses that our Carboline product line or Fibergrate or Stonhard product line and our Tremco Roofing product line to a certain extent serve including infrastructure are very strong and all signs are they will continue to be strong for some period of time. It is the flip side of $80 oil. With $80 oil there is a lot of spending that didn't go on from the late 80s to late 90s that's now going on today in power generation, power distribution, in steel, and marine, in petrochemical and offshore oil, and we're in a good position to participate in that. Even in odd things like nuclear, our Carboline business has the number one specifications which was quite a job to go through that many years ago in terms of coatings for nuclear power plant facilities, so there is a lot of areas there. Highway bridges were a major player in across North America.

Commercial conversely, if you're Tremco Roofing you're doing almost all 99% re-roofing and institutional markets, hospitals, healthcare, schools, Universities, military, that business is steady as it has ever been, and we get better at that, particularly in the service side. If you're in Dryvit, if you're in Tremco Sealants, if you're in some of the markets where we serve commercial construction, that's the area that we think is slowing and will be slowing down. That's, I think, the right way to look at the markets that our industrial businesses serve and why we feel the way we do.

Okay. And then you said you were going to deal with international versus North America, and you'll have --

Yes, international is doing quite well. Europe is stabilized, and I say that for a number of years Europe was growing -- western Europe was growing like a weed. We think that growth rate is not slowing down, but it is not growing quite like it was. Conversely with our illbruck business, illbruck and Tremco has done quite well in western Europe. The plant integration we under took is complete, and we're investing heavily in Russia and eastern Europe. Our Carboline business with the acquisition of Star Maling in Norway, the acquisition piece of what they're doing is one piece of being much more aggressive in the petrochemical area and marine markets globally, and those markets are growing at great rates. Our problem there is that we tend to be growing from a relatively small base so our industrial markets are doing quite well also in international geographies although it is a smaller piece of RPM as you know.

Right. It is about 16%, isn't it?

The 77% of our 2007 revenues were generated in North America, and-

If I may, you talked about the initial profit of the acquisitions being dilutive, therefore the acquisitions being dilutive at the beginning and picking up. How long is the beginning? Are we talking about two quarters, one quarter, one year of dilution?

It really depends, Rosemarie. In some instances it is one quarter. With a freestanding business where you would expense acquisition costs and perhaps have an inventory write up, more of our acquisitions are product line acquisitions or businesses where we're doing some element of integration. In those instances you know, four to six months would be typical, and in a larger instances like illbruck we actually closed an existing Tremco plant and integrated it into some illbruck production. We consolidated some distribution, and, boy that, took us more than a year, but it is in any instance less than 18 months, and in other instances it is just the period in which the acquisition is acquired.

Okay. Just not to beat it to death, but the 8% top line growth just making sure I understood properly does not include acquisitions including the latest one in Norway?

That's correct. To add more color to that, that 8% growth, and I don't have these numbers exactly right, but that 8% growth is probably a planned assumption of 5% or 6% core growth split between some higher rates than that in industrial and much lower rates than that in consumer with the balance, Rosemarie of being a couple percent, 2, 2.5% of that 8 is really the add-on in '08 of acquisitions we completed in '07. Okay?

Yes-yes.

But that's the RPM that existed as of June 1. Star Maling will be added to that 8%, and any acquisitions we do if we do any further in this year will be additive to that 8% growth expectation on the top line, and if we do them timely and do them right, hopefully will also be additive to that 8% expectation to earnings growth, but again that's very circumstantial in terms -- mostly in terms of the timing of when we get them done and how quickly we absorb any transaction costs and get the integration going so that they become accretive.

Two quick questions for Ernie if I may. On the interest expense line, is that -- is the first quarter level a good level or do we have to add the additional borrowing for the Star Maling acquisition in the next three quarters.

I think what you see there is a good indication.

I think we've got a fair amount of cash in Europe, Rosemarie, and I don't know off the top of my head exactly how that was funded, but I would guess the vast majority of it is from cash in Europe.

That would take out some interest income, so net net was it all incorporated in Q1 or is there a little piece of additional cost or lack of income that is not showing up in the first quarter?

Wouldn't move it materially.

Keep in mind, too, the Star Maling was done in September, so it is a second quarter event. It is not a first quarter event.

Okay. And, Ernie, you say that it is too small to make that much of a difference.

It won't make that much of a difference.

Last comment to interest expense, Rosemarie, we saw higher interest expense if you net out the million dollars plus prepayment penalty we had for retiring bonds last first quarter because of higher interest rates. Obviously we're starting to see the rates come down as it relates to the half of our debt levels that are floating rate.

True. And lastly, of the 5% organic growth companywide, what was -- and you may have said that but I missed it, what was the split between volume and price, 5% excludes FX already?

Yes. We take FX out of that. Pricing was 1.6 overall.

Okay. And you think that if the economy slows down and therefore there is more competition in terms of selling volumes, you are still going to be able to get some pricing.

Yes. Again, I think, Rosemarie, that we're going to keep fighting to maintain -- not only maintain but regain where we are. I think we're in a good space right there. If there is two flip sides to that. If there is more robust growth in the economy than we anticipate, we'll benefit from that on the revenue side, and that's really what would drive along with oil prices higher prices. If the economy slows and, for instance, big paint guys are buying less TIO2, packaging comes down, things like that, then we should benefit from that scenario, particularly in an environment where some of our publicly compared peers are seeing, 3, 4, 5% absolute revenue declines or core growth declines and we're able to maintain positive growth. The supply and demand issues in some of our chemical space as long as the underlying fundamentals and petrochemical and oil stay the same should help us not hurt us.

Okay. Thank you very much.

Thank you.

Your next question is a follow-up from the line of Jeff Zekauskas with JPMorgan.

Hey, Silke.

Try to keep this quick. Just really quickly in like during the last downturn in 2001 I think you also initiated a very large restructuring, and you took a lot of head count and lots of plants were consolidated. Is that something that you could -- are there other things you could do, this time around, and in that same spirit it seems that your CapEx for the first quarter was pretty low, I think like 5 million in the first quarter, and I think last year in the first quarter you spent twice that. Can you also just ratchet down your CapEx spending to maintenance levels?

The answer is yes to that, but the cash flow issue in the first quarter and CapEx issue in the first quarter, those are really timing differences. We would expect our after-tax from operations for the year including asbestos to be up 12 to 15%, so we expect robust performance there. A lot of that is timing. If you look over the last 25, 30 years, we've been able to maintain positive momentum regardless of the economic conditions. The 99, 2000, 2001 period that you're referring to actually was restructuring driven more in our consumer businesses, and it was when we organized RPM into the groups we have today. As you recall, we had 80 manufacturing facilities, 40 of which operated on a one-shift basis, and at the same time we were picking up market share at Home Depot. We became their category manager in 1997, '98, so we were gaining all this share. We were getting the snot kicked out of us in terms of how inefficient our operations were, so we were actually growing ourselves in the lower margins in a terrible cash position because manufacturing wise we weren't very efficient, and so that restructuring had more to do with kind of historic build up of plant inefficiency and not really being as focused on manufacturing in a competitiveness as we are today. And less to do with the impact of what was a tough downturn in 2001 and 2002.

Okay. And very last question, can you quantify the amount of -- what the spending initiative is for this year that is baked into your 2008 guidance?

I don't have that number off the top of my head, but it would be relatively easy to calculate. I mean, I think you would have a -- if you assume a stable gross margin and look at where our SG&A spend was last year and assume 5% plus core growth rates and it would be relatively easy to calculate. It is tens of millions of dollars, and some of it is in India. It is in some new product categories in DAP. Having had a terrible year last year in DAP, we have very deliberately increased spending in a number of selling and marketing in new product initiatives. It's in our industrial businesses where we are really starting to ramp up what, for instance, the Carboline was an international presence to what is more and more looking like a global company, and so it is in a lot of different areas, and it is tens of millions of dollars, and to your earlier question, if the economy and our performance are worse than we anticipate, there are millions and millions of dollars of spending initiatives that we can either put on hold or just cut, and that's something that we've proven the ability to do I think surgically as we brought our SG&A down from 34% to today's 30% over the last five years which was a combination obviously of the leverage in terms of our revenue growth but also being more deliberate in where we spend money and where we don't.

But your current earnings guidance really is based on your spending or your -- sort of like exiting all of these initiatives.

That's correct. That's why if our assumptions on the economy are correct, that 8% number is a pretty good number because we not only will grow to it and fight our way through it and challenge businesses, but we'll spend down to it unless something in the macro environment changes our outlook either positive or negative.

Okay and very last question if I may, did I hear correctly that your corporate expenses should be a run rate of 8.5 to 9 million on the quarterly basis?

Yes.

That would be much. Pardon me.

9 per quarter.

Roughly 9.

That would mean that that's quite a bit lower than what we've seen in the -- what we've seen in the quarters last year, then?

It is a catch-all category. There are a lot of things that go into that.

We'll get you better guidance on that, Silke, and we'll communicate that in the next conference call and get something out there on that, but we had a good $1.5 million plus of one-time events in that category in this quarter, so I think that's -- we'll have to get a better feel for that, but this quarter was higher than a normal run rate because of some of the one-time elements that Ernie had commented on earlier.

Okay. Just seemed when I look at if my model is correct for the -- if I look at November quarter I think corporate was 15 million and February quarter was 12 million, and then it was almost 14 million in May. If you go down to 8 to 9 million, that would be a very large reduction.

We'll get you a better number on that, and we will communicate that more broadly once we have a better answer on that.

Okay. Thanks very much.

Good. Thank you.

Your last question comes from the line of Saul Ludwig from Keybanc.

Frank, that was a very appropriate of you to talk about the third quarter. We appreciate that because the tax rate is a big item. Last year in the industrial sector in the third quarter their earnings were flat with where we they were in the third quarter of '06, yet your sales and let's say the third quarter this year are going to be almost $100 million more than they were in the third quarter of '06, so you would think you would be able it make some more money in the industrial sector in the third quarter again that you had a flat year last year, and then in the consumer sector your earnings were up a little bit last year in the third quarter, and you've commented about expecting an acceleration in the consumer business, so then relative to corporate expense you had $12.5 million in the third quarter of last year, and we think it will be somewhat less, whether it is $9 or $10.

We will get you a better number on that corporate expense.

Okay. But on the two operating businesses, won't you expect those businesses to have higher operating income in the third quarter because of the easy comparisons?

I don't have the right answer for you there, Saul, other than on a consolidated business we got interestingly enough we got beat up in our third quarter last year because people felt like all the gains were tax related. When you look on a consolidated basis our EBIT was up 15%.

Yes, it was, 22.5 versus 19.7.

And in our business 15% EBIT growth is pretty solid, and I can tell you that in terms of how we look for the year and what our plan is for the third quarter, it is flat. That's as blunt as I can be.

Flat at the EBIT line.

It is going to be flat, and so --

Flat at the EBIT line.

It is going to be flat, and so what I can tell you is without getting into more detail, I wanted to provide that color on the quarter which I hope not to regret because as I said I think providing quarterly guidance is a bad practice both externally and internally, but it is an odd quarter for us, and it is so small seasonally that one penny plus or one penny minus is a big percent, and it can depend on whether we have a bad winter or an easy winter or whether we have a big sell-in to our consumer accounts in February instead of March, so there is a lot of funny things that occur in that third quarter that make it a hard quarter to figure out. The reason I commented on it is that many of the analysts that follow us and do count quarters are all over the place versus where we were last year and what the expectations are for this year, so I wanted to point out that our expectations for the year on a core basis is that we'll be relatively flat and remind people that the lion's share of the net income and EPS gain last year was related to a one-time tax event.

But by flat did you mean flat at the EBIT line or flat at the net income line which impacts the tax rate? What did you mean by flat? You may be off, but I just want to understand what you meant by flat by this line or are you talking about being flat?

I really don't want to provide anymore guidance than that. It is not only because I am being cute because it is such a small quarter that whatever I tell you will be wrong by a penny in terms of the reality, and it is a quarter in which if we have a penny more we'll be up by a big percentage, and if we have a penny less we'll be down by a big percentage, and if we have the same pennies we will be flat to EPS. We will not repeat a $2.2 million one-time tax benefit.

And just out of curiosity you mentioned --

And we will not likely repeat-- we are not planning to repeat a 15% EBIT gain.

Right.

Those are the two pieces of guidance I want people to get for the quarter, the third quarter.

Just curiosity to finalize, you said you're going to do TV advertising for DAP now. Why would you be doing TV advertising for DAP now when we're going into the winter?

No, no, it will be in the spring.

Oh, you said the second quarter. Second calendar quarter.

That's correct. That will be at the end of the fiscal quarter, but I was just using that as an example of some of the spending initiatives we have in this year's plan that get you to that 8% rate. It is also an example of some of the spending initiatives that are -- will drive earnings down to 8% or that will be relatively easy to defer or just eliminate in the event that we find ourselves in a more challenging environment than we anticipate.

Great. Thank you very much.

A lot of spending initiatives like that this year.

Thank you.

Excellent. Thank you.

Gentlemen, you do have a final question from the line of Mike Hilt with Travelers.

Hi. Thanks for taking the question.

Good morning.

Good morning. I know you mentioned that you don't have any architectural paint exposure.

Right.

We did see the recent news out of Rhode Island regarding lead paint, lead-based pigments, and I am wondering about Rust-Oleum or some other product you have.

We do not have any lead paint exposure. We are -- we're not involved in the architectural house paint business. Rust-Oleum has never had lead in their products. Fortunately it is not an issue that is of concern to RPM or our companies or our historic products. We have our own challenge which we are now on the slow downside of in terms of asbestos, but lead paint is not an issue for us.

Wonderful. Thank you.

Thank you.

There are no further questions at this time. I would now like to turn the call back over to Mr. Frank Sullivan for closing remarks.

Thank you very much. RPM's annual meeting of shareholders will be held tomorrow at 2 p.m. at the Holiday Inn in Strongsville, Ohio. There we'll provide some additional details of our three-year strategic plan. We'll discuss our dividend program and provide comments on our outlook, and of course answer questions for shareholders. We generally have almost 1,000 participants at our annual shareholders meeting and hope that many of you will be able to join us. Thank you very much for your participation in today's call and for your investment in RPM. Have a great day.

Ladies and gentlemen, you may now disconnect your lines. Have a wonderful day.