宣偉 (SHW) 2002 Q2 法說會逐字稿

Good morning everyone and welcome to the [Sherwin] Williams Co. second quarter earnings results conference call. Today's call is being recorded. At this time, for opening remarks, I would like to turn the call over to [Conway Ivy], Senior Vice-President, Corporate Planning and Development. After his remarks, [Chris Connor], Chairman and Chief Executive Officer, [Sean Henesy], Chief Financial Officer, and John [Oak], Vice-President and Corporate [Comptroller] will be available for questions. Please go ahead, Mr. Ivy.

[CONWAY IVY]: Thank you. Good morning everyone. Thank you for joining us today for the review of our second quarter 2002 results and our expectations for the year 2002. This conference call is being transmitted live in listen-only mode via the Internet at www.companyboardroom.com. A replay of this broadcast will be available approximately two hours after this conference call concludes. It can be accessed at www.companyboardroom.com and will be available until Tuesday, July 23 at 5 p.m. ET. Before proceeding, I would like to remind you that during this conference call we will make forward-looking statements with respect to sales, earnings, and other matters. These forward-looking statements are based upon management's expectations and beliefs concerning future events. Forward-looking statements are necessarily subject to risks, uncertainties and other factors, many of which are outside the control of the company. This could cause actual results to differ materially from such statements. A discussion of these risks, uncertainties, and other factors are described from time to time in the company's reports filed with the Securities and Exchange Commission. The company assumes no obligation to update the information presented in this conference call which information speaks as of today only. After the review of our results, we will open this session to questions.

Summarizing the company's overall performance for the second quarter 2002 versus second quarter 2001, our net sales increased 3.2% to $1.45 billion. This result was favorably impacted by strong architectural [paint] sales, which were partially offset by continuing sluggish domestic industrial and automotive product sales. They were also impacted by poor economic conditions in South America causing weak currency exchange rates. Gross margins increased to 44.9% from 43.2%. We received the benefit of cost reductions through plant shutdowns last year, moderating raw material costs and improved plant overhead absorption from buying increases. These factors help offset lower production volume in industrial maintenance in our chemical coatings business. Pricing did not positively affect our gross margins. Selling, General & Administrative expenses as a percent of sales increased from 31.6% to 32%. SG&A as a percent of sales was higher in some business units due to the sales shortfalls and increased investments in our new stores color system and the new [dutchboy] plastic can.

Interest expense decreased $5.3 million due to reduced debt levels of almost $300 million and lower interest rates relative to the second quarter of 2001. Other expense net decreased by $2.5 million primarily due to a reduction in expense of financing and investing activities related principally to lower long-term debt. Our net income increased $17 million to $107.5 million from $90.5 million in the second quarter of 2001. This was due primarily to improved sales volume, reduced manufacturing costs, and expense control. Diluted net income per common share for the quarter was $0.70 per share compared with $0.58 in 2001. Excluding amortization expense of intangible assets and goodwill in 2001 to be comparable to 2002, diluted net income per common share would have been $0.62 per share for the second quarter of 2001. In reviewing our performance by segment for the second quarter of 2002 versus 2001, I will start with our [paint] store segment. Sales in our [paint] store segment increased 4.3% to $911.8 million. This was due primarily to strong architectural [paint] sales that were partially offset by weak industrial maintenance and product finishes sales for OEMs. Sales to both painting contractors and do-it-yourself customers were strong. Sales of our chemical coatings or product finishes or OEMs continued to show unfavorable comparisons. We see improvement in some segments such as wood furniture while other market segments to which our business is weighted, continued to lag.

We see little sign of improvement in the metals and plastics segment. Sales in our industrial maintenance portion of the business continued to lag as manufacturers continued to hold on expenditure and maintenance programs pending improvement in the economic outlook. Our marine business is showing improvement as our new products are being well received in the market. Regionally, our southeastern stores division led the sales performance followed by our mid-western division, southwestern division, and eastern division. Our chemical coatings division again showed a decrease, but at a slower rate than the first quarter. Comparable store sales increased 1.8%. Stronger sales growth was mitigated by weaknesses in industrial maintenance and chemical coatings. Operating profit increased $4.7 million to $123.6 million or 3.9% relative to last year. This was due to increased architectural paint volume which offset the effect of lower maintenance in industrial maintenance and chemical coatings volume. Profit improvement was also aided by a favorable sales shift to higher-margin products. We have continued our new store opening program as planned. For the second quarter of this year, we opened five new stores and closed one. Paint stores ended the quarter with 2611 stores in operation.

Since the first of this year, we have added a net of 38 new stores, including by acquisitions. We expect to add a total of approximately 70-75 stores this year. Our stores refresh program is proceeding as planned with a total of 350 completed at the end of the second quarter. Turning now to [BREAK IN AUDIO] segment for the second quarter of 2002 versus 2001 sales increased to $350.9 million or 3.7%. Increased sales of aerosols and other paint-related products to certain existing customers more than offset a shortfall in sales in our cleaning solutions business unit. A portion of the second quarter sales improvement was due to the shift in purchase by select retail accounts from the first quarter to the second quarter. Operating profit increased by $17.7 million to $66.3 million. This was due to higher sales levels, expense reductions due to plant closures last year, moderating raw material costs comparisons, improved overhead absorption due to volume gains and continued tight administrative expense controls. Our automotive finishes segment in the second quarter of 2002 versus the second quarter of 2001 sales decreased eight-tenths of 1% to $123.6 million. The slowly recovering domestic economy continued to curtail this segment's OEM sales as seasonal plant shutdowns were advanced.

Vehicle refinish sales were hampered by lower accident rates resulting from the [lingering] effects of a mild winter. In the second quarter of 2002 the operating profit of $17.7 million reflected an increase of $3.4 million over last year's $14.3 million. The operating profit was favorably impacted by improved manufacturing absorption provided by stabilizing sales volume, expense control, and moderating raw material costs, and improved manufacturing absorption compared to last year. Now turning to our international coatings segment results for the second quarter versus last year, if we exclude the effects of currency exchange fluctuations relative to last year, net sales for the segment increased 8.2% for the quarter with an improvement in unit volume. In US dollars, net sales were down 4.8% to $65.4 million in the second quarter of 2002 versus the second quarter of last year. The sales decrease in US dollars was due primarily to unfavorable currency exchange rates in the Brazilian [Rial] and the Argentine Peso. The segment reported an operating profit of $3 million, up from an operating profit of $1 million a year ago. This was achieved primarily by tight expense controls.

In the first half of 2002, when we exclude an $8.7 million charge to first quarter operating profit due to the recorded impairment of long-lived assets, which was taken in accordance SFAS #144 the international coating segment would have realized an operating profit of $3.2 million. This compares with an operating profit of $5.3 million in the first six months of 2001. The reduction in the operating profit for the six months from last year was due primarily to significant rate fluctuations, dollar-denominated raw material cost increases, price competition, and an unfavorable product sales mix to lower margin products. Though economic conditions in Argentina have not improved, our management team has been able to maintain positive cash flow. I would like now to turn to some highlights concerning our balance sheet. In terms of our working capital performance, our accounts receivable plus inventories less payable to sales were below last year's ratio. Operating performance has also improved with receivable base down by 3 days. Inventory days were down by 5 days. Total borrowings at the end of the second quarter were $572.7 million, which resulted in total borrowings to capitalization of 30.3% versus 37.6% at the end of the second quarter of 2001.

Barring any large acquisitions, we expect our total borrowings to capitalization to be approximately 26% at the end of 2002. During the second quarter of 2002 the company purchased 1,479,400 shares of its common stock in the open market. We intend to purchase shares of company stock for treasury in the open market from time to time. In the second quarter 2002, in terms of other items, we spent $35.5 million on capital expenditures. Depreciation expense was $25.3 million and amortization expense was $3 million. For the entire year of 2002 we expect to spend $130 million on capital expenditures, $115 million on depreciation and $10 million on amortization. Additional financial information is available on our website under [Scherwin].com/investor relations press releases. I would now like to give you a brief update on the status of our [lead] litigation. In Rhode Island, the judge has set September 4th as the beginning of a trial on whether lead paint is a public nuisance in Rhode Island. This first phase of the trial will not determine responsibility or liability, if any. These factors are left to additional phases of the trial which are not still not fully developed by the court. In Santa Clara county, California, the case is now in discovery as to fraud-related issues after the court dismissed the public and private [nuisance] course of action. It is the defendant's position that only public buildings will be the focus of any alleged injury review. As many of you may recall in our first quarter conference call, I mentioned that a case brought by the spring branch independent school district in [Hares] County, Texas was scheduled for trial for September 3, 2002.

Developments in this case have resulted in the plaintiff voluntarily dismissing [Sherwin] Williams and all other defendants, but one after the court received motions of dismissal from the defendants. The judge has also dismissed the remaining defendants the plaintiffs did not voluntarily dismiss. Therefore this case is completed for the [Sherwin] Williams Company. This is an example of how a case may be scheduled for trial, but may ultimately be dismissed as a result of discovery in various motions the defendant may make concerning aspects of this specific case. Several other cases have been scheduled for trial. They are two in Wisconsin for June and October of 2003, there are two in Mississippi for spring and fall of 2003. These are the only cases that we know where the judge is talking about bringing them to a trial. In review, to-date, since 1987, we have had less than a 100 lead litigation cases. Excluding the most recent cases over 85% have been dismissed. The active cases are in discovery and these five cases that I have just mentioned are the only ones currently scheduled for trial. Now I would like to turn our review over to [Chris Connor], who will make some general comments and highlight our expectations for the rest of 2002. [Chris]!

[CHRIS CONNOR]: Thanks [Conway] and good morning everyone. I would still have considerable work to do. We are encouraged by a number of positive trends we saw in our second quarter. I think beginning with our 18.8% improvement in net income on a relatively modest sales gain of 3.2%, excluding the impact of amortization expense in 2001, net income improved by 13% in the quarter. Our operational expense program, which was discussed with you in the past, is helping us achieve improved results across all of our segments. [Conway] has already shared with you the impact of this program in the area of working capital as we continue to improve our performance of inventory and receivable base and that is on top of considerable improvement in the same categories last year. Our operational [excellence] program is also having an impact on productivity performances in our plants and distribution centers, allowing us to increase service level performance at lower operating costs. We believe there is room for more improvement in all these categories and we expect to see focus in this area to continue to generate improved earnings and free cash flow performance. I recently concluded a trip visiting our operations in South America and in the face of difficult economic environments in just about every country, I think it is noteworthy that this segment of our company reported an improved operating profit performance as measured in dollars and was net generator of cash in the second quarter. We are clearly gaining market share and strengthening our company throughout this region during these turbulent times. Throughout this year, we have talked about a number of exciting new sales and marketing initiatives with you and I want to take a few moments and briefly you on the impact of several of them. The new color system, store refresh, and [Martha Stuart] Programs in our paint stores group are beginning to show positive results.

Although still in the early stages of our roll-out on these programs, the market is responding very favorably. For example, architects and designers as well as professionals and do-it-yourself customers are continuing to give us great feedback on our new color system. We are already seeing increased specification of our colors on major jobs eliminating the time we process the matching competitors' colors. The store refresh program coupled with the [Martha Stuart] program is proving to be a powerful one-two punch from crude sales performance. Stores where we had completed the refresh and have the [Martha Stuart] program in place are outperforming those stores yet to be converted. Our new [twist-and-pour] plastic package or [dutchboy] is also off to a great start. A national kick-off began on July 8th with the start of our advertising campaign. Early results from our retailing partners have been very encouraging. This compelling new package has created quite a stir in our industry and we expect to share with you news regarding additional national placement for this program as it reaches the shops. We are troubled by the seeming lack of confidence investors have in American businesses as a result of an increasing number of scandals surrounding accounting and other financial practices at several large public companies. [Sherwin] Williams has always prided itself on our [INAUDIBLE] balance sheets and our fair and accurate financial reports. We stand firmly behind every report issued by our company and will have no problems fully complying with new SEC guidelines requiring sworn statements from CEOs and CFOs. We will file the appropriate forms with the SEC by the August 14th deadline.

Turning to our expectations for the third quarter and the remainder of the year, although sales trends in our consumer segment are stabilizing, we expect achievement of year-over-year sales and profit improvement to our company to continue to be challenging throughout the remainder of 2002 as we anticipate our industrial and OEM markets to remain sluggish due to customer uncertainty about committing to future maintenance and capital expenditures. We anticipate that third quarter sales increase will be in the low single digits over last year's third quarter. With sales increases at that level, we expect diluted net income per share for the third quarter will be in the range of $0.65-$0.70 per share compared to $0.58 per share earned last year. As we had previously indicated on July 11th, we expect annual sales for the year 2002 to finish slightly higher than last year. Our expectations for diluted net income per share [INAUDIBLE] of the fact that change in accounting principles [for the year] are in the range of $1.92-$2.03 per share compared to $1.68 per share earned last year. Adding that goodwill amortization to 2001 net income to be comparable to the new accounting standard effective in 2002, diluted net income per common share would have been $0.62 per share in the third quarter of 2001 and $1.83 per share for the year 2001. This concludes our formal comments. Now, [Conway], [Sean], John, and I will be happy to take your questions.

+++ q and a.

Thank you. The question and answer session will be conducted electronically. If you would like to ask a question today, you can do so by pressing '*1' on your telephone keypad. Once again that is '*1'. We will proceed in the order that you do signal us. We will take as many questions as time allows. We will pause just one moment to [prepare] the roster.

Our first question today will come from [Timothy Juddman] with Lehman Brothers.

[TIMOTHY JUDDMAN]: Good morning guys; good quarter. [Chris], just a quick question for you. There has been a lot of media attention obviously around [Martha Stuart] and what the future for empire may be. Can you put investors' fears at rest that you feel pretty strongly that that is not going to impact your [Martha Stuart] programs in your stores?

[CHRIS CONNOR]: Well, our relationship with [Martha Stuart] and [Martha Stuart] on the media revolves around our supply of [Martha Stuart] paint line [that] came out of another retailers as well as a separate [Martha Stuart] signature program that we have in our [Sherman] Williams stores. That program in our stores is a color palette that assists [do-it-yourself] customers as well as contractors in selecting the right colors. Our association with [Martha Stuart] throughout our entire program has been really an outstanding program for a company and we have continued to see strong support for that program at [shops]. We looked at sales of [Martha] programs through our stores, pre-June 15th press release, post June 15th press, and there has really been no impact whatsoever. It has continued to be strong, improving growing program in our stores and we have reason to believe that our retailing partners are experiencing the same kinds of results. In terms of allegations against [Martha] as a person, we have no comment as we believe...

[TIMOTHY JUDDMAN]: No no no, I was not even going there.

[CHRIS CONNOR]: The program is doing fine, Tim, and continues to have our confidence as well as the other retailers who have been carrying it.

[TIMOTHY JUDDMAN]: Just two other quick housekeeping notes. So you guys have won me over in this plastic container called [dutchboy]; I think it is quite exciting. What kind of milestone should investors be watching in terms of rollout and then as a second housekeeping note, just your thought process on second half raw material costs?

[CHRIS CONNOR]: Well, in the package we expect - as we said on our comment - share with you as it [achieves] shelf space, I really would think it is too early. We just literally started shipping in the last weeks of June. The rollout is occurring right now. We think it will be a positive contributor to that segment and time will tell. Regarding raw material cost increase, [Conway] you want to [throw some light] on what we see there?

[CONWAY IVY]: Yes. I think, as you all know, when we comment on raw material costs we really [reverted] the industry and not specifically our own raw material structure. I think the [Spires] have implemented raw material cost price increasing in the second quarter due to increases in crude oil prices and this has resulted in price increases in hydrocarbon solvents - [styrane] and several other monomers. Acetone prices increased due to domestic supply constraints. These were caused by supplier plant production issues and higher export pricing, which constrained domestic supply. Price increases on latex polymers may occur as a result of the impact of increased crude oil prices on downstream derivatives. In terms of metal containers, the price increases there have appeared to be successfully implemented and this was primarily due to the impact of steel tariffs imposed by our government. On March 1, 2002 a TiO2 price increase of $0.05 per pound was announced and that appears to be holding. Again in June 11th Dupont announced an additional $0.06 per pound price increase to take effect on July 1st.

These industry raw material pricing trends, other than the TiO2, are in line with the expectations we expressed in our first quarter conference call. At that time we expected the industry year-over-year increase for 2002 to be in the 2-3% range. Now, based on crude oil pricing settling in a $25-28 per barrel range and with this second price increase amounts for TiO2, we would expect the industry raw material cost increases to be in the upper part of a 2-3.5% range for the year.

[TIMOTHY JUDDMAN]: We are thrilled as ever. Thank you very much.

[CONWAY IVY]: Thank you.

Next, we will hear from [Jayson Puttman] with CS First Boston.

[JAYSON PUTTMAN]: Hi! good morning and congratulations on a good quarter, especially on the working capital front. I guess the first question: I am wondering what your forecast assumptions are in terms of just the economic assumptions for the [back half] or are you assuming any acceleration for just this kind of steady state environment?

[CHRIS CONNOR]: No, I don't think we are assuming any acceleration. In fact, we think that the industrial sector of the economy, which is an important indicator for us for the coatings that [we sold in there], will continue to be under some pressure.

[JAYSON PUTTMAN]: Okay, so basically that is going to just drag along bottom and really no improvement in that category either? [INAUDIBLE] are pretty easy.

[CHRIS CONNOR]: That is how we have in our forecast.

[JAYSON PUTTMAN]: Okay, good. The second, I guess, just looking at the consumer segment...looking to some of the inventories that are in the channel right now, how do you feel about that? and along with that, I guess the [home centers] have lots to talk about? Home [centers] have been very cautious about taking inventory - just your comment on that as well.

[CHRIS CONNOR]: I think that has been a couple of your trends that we have seen. We can point to across the board all retailers who have had a focus on this and in pushing back against the supply chain expecting manufacturers to be better managers of their inventory and we have taken our leadership position there with a number of our retailers and continued to find ways to help them reduce their inventory and improve their [GMROI]. That trend will continue and I do not think it will have any additional impact beyond the guidance we have given you on our results.

[CONWAY IVY]: I think also, [Jayson], we could see in the first quarter some retailers who were holding back on building their inventory but as the architectural paint sales grow and began increasing, that increased their order rates in the second quarter. I think it will remain to be seen what the sell-through on architectural coatings...how that will be running in the third quarter...that will determine what they do.

[JAYSON PUTTMAN]: Thanks and then quickly, on current trends, can you just give us an update on how things are running in June and on into July?

[CHRIS CONNOR]: I think if we look at the way the quarter played out, as I just mentioned, some of the retailers held off buying and so April was a very strong month in terms of favorable comparison to last year. We could see some weakness in May and then a strengthening in June. I think that is continuing in July, but I would not say there is a very strong upward trend that we see in the overall market. That is why we are remaining cautious concerning out outlook for the remainder of 2002.

[JAYSON PUTTMAN]: Okay, great. Thanks a lot. Congratulations again.

[CHRIS CONNOR]: Thank you.

[Chuck Seringovsky] with McDonald Investment has our next question.

[CHUCK SERINGOVSKY]: Good morning, good quarter. Question first about the [twist-and-pour]. Chris, can you talk about whether it is more than a mixed ship; is it creating incremental sales at this point or is there somebody going in who would have bought [dutchboy] gallon in a metal can than simply buying it in a plastic jug? Secondly, any update on selling on the cleaning solutions business? Conway, can you talk about some of the reallocations that changed the segment reporting this year versus last?

[CHRIS CONNOR]: Okay, I will start with your question regarding [twist-and-pour] and add a little more color and flavor along that. There are some retailing partners - [Maynards] specifically - where this product is replacing a strong [dutchboy] position on shelf already. In that regard we are not seeing an incremental [shift] except for the other brands that [Maynards] might carry if customers are electing to ship. Again, it is too early to tell. We have just literally been on shelf for days and a couple of weeks. [INAUDIBLE] on the other hand, we are setting, as we speak, eight additional [feet] of [dutchboy] where they did not carry it previously. So all sales through there will in fact be a shift to that container from hopefully all other products that [Sears] carries that bring in new customers back to their department to find this container. So that is pretty much what we are seeing. We are trying not to be elusive here but we just don't have the kind of information that will be able to report on it as we get some more runnings-on with the program. Regarding cleaning solution, [Conway], if you could take that one.

[CONWAY IVY]: In terms of cleaning solutions we have terminated that divestiture process and essentially two-thirds of that business is being folded into our other divisions and another third of the business is now being phased out. The reason why we reached that decision was based on the offers we received for that business were so low, it was more valuable to us and to our shareholders to retain the business and we have since taken out costs on the remaining businesses to make them viable.

[JOHN OAK]: [Chuck], this is [John Oak]. Trying to answer your question on the segment restatements, beginning January 1, 2002 we have moved from the operations of our Mexico subsidiary from an international segment to our consumer segment. So we went back and restated last-year results for that move. We have also moved some of our highway products out of our stores segment into our consumer segment. They were big enough so we thought that we should go back and restate last year's results and we did.

[CHUCK SERINGOVSKY]: Thank you, John.

Next is [Jefferey Wickoskus] with JP Morgan.

[JEFFEREY WICKOSKUS]: Hi! good morning. A couple of things; you talked about the industrial side of your stores business being sluggish. Does sluggish mean down?

[CHRIS CONNOR]: Yes.

[JEFFEREY WICKOSKUS]: Then, I take it as being continued sluggish in the third quarter means continued down.

[CHRIS CONNOR]: Yes.

[JEFFEREY WICKOSKUS]: Okay. Second question; in going through the [lead paint] litigation, you cited an example of cases being dismissed even though trial dates have been set. Are you trying to say that there is some material chance or meaningful possibility that this September 4th case won't go to trial?

[CHRIS CONNOR]: I think the main reason why I mentioned that, [Jeff], is to show in terms of the whole legal process. As you know, many motions may be filed as a result of the discovery process and of course it is case-specific. So even though a judge may set a case for trial in terms of bringing both the plaintiffs and the defendants to focus on...getting ready, bringing all these issues forward, depending on the facts of the situation a case can be dismissed. I would not really have any comment right now in terms of Rhode Island, but that process is continuing, and obviously, we would never want to speculate on whether a judge would dismiss or delay a trial until the judge would actually render his rulings.

[JEFFEREY WICKOSKUS]: Just quickly a last question, in terms of the [twist-and-pour] bottles, for the same amount of shelf space, are there more [twist-and-pour] bottles that you can put on the shelf or what is the percentage difference that it is meaningful?

[CHRIST CONNOR]: With an eight-foot [run], this package allows fourteen [phasing] compared to thirteen [phasing] with the traditional round metal can - one extra phasing on an eight-foot [run].

[JEFFEREY WICKOSKUS]: Okay, 8%; that is meaningful. Thank you.

[CHRIS CONNOR]: Thank you, Jeff.

Next, we will hear from [Joseph Zeroka] with Merrill Lynch.

[JOSEPH ZEROKA]: Good morning everyone. Can you just clear up the Santa Clara comment for me, [Conway]? The case was dismissed but now there is discovery for a fraud case?

[CONWAY IVY]: Well, in that case, portions of that case were dismissed and the portions that were dismissed included the public and private [nuisance] course of action. With those dismissals, it left a portion related to allegation of fraud and that is what the discovery is continuing on.

[JOSEPH ZEROKA]: Okay, and then on the Wisconsin case that you mentioned, was [Sherwin] Williams the defendant or did you inherit that with [Max]?

[CONWAY IVY]: Well, one of those cases was the one that we have inherited - I assume with the acquisition of [Max].

[JOSEPH ZEROKA]: That is the one from Milwaukee.

[CONWAY IVY]: Yes. And then there is also another one that is a personal injury case that was filed in September 1999. In both cases, all of the allegations are similar to the allegations in all the other cases as well.

[JOSEPH ZEROKA]: Okay and then, not to delay, but a plastic container question. Does that go to the retailer at the same price level as the comparable products in the metal container or is there a pricing difference to them or on the shelf?

[CHRIS CONNOR]: We have not commented on them probably.

[JOSEPH ZEROKA]: Okay, fair enough. Thanks.

Our next question will come from [Richard Diamond] with [Inwood] Capital Partners.

[RICHARD DIAMOND]: I have two questions; one is: have you evaluated selling your industrial and international operations since you don't get a lot of credit for it and they seem to add volatility to results. One question for [Conway], could you update us on the status of litigation in New Jersey?

[CHRIS CONNOR]: Regarding the sale of our industrial and international operations, we rightfully so reviewed all of our operations and make sure they fit with the portfolio. We are firmly committed to these few segments of our company so much so that we are really in the midst as we speak, of rolling out a much more aggressive industrial organization structure that will really capitalize on the unique opportunities that we have here, both domestically and internationally. Excellent product line and great brand recognition , we find ourselves in a trough here in terms of demand but we can clearly see through the other side of that demand picking back up. I think the same can be said of international where the volatility there is such that in times like this you struggle but coming on the back side of it, you can make some significant improvements there.

As I commented earlier, even in these tough times we are gaining share in these segments. We are seeing some contribution in terms of earnings, not [having] enough cash and those are the kind of things we should be doing in tough times to prepare for the lift. We expect the lift will come in both these segments.

[RICHARD DIAMOND]: I guess I am not worried about your ability to operate successfully. I am just worried about the opportunity cost thinking how much more successful the company would be if management's time was fully devoted to the US and North American markets as opposed to opportunities overseas?

[CHRIS CONNOR]: That is an unanswerable question. We do not lack for any management time and focus on our core businesses, which are predominantly architectural coating in North America. These are small parts of our company, but we think that they have upsides and [sale] potential so they are worthy of our efforts.

[RICHARD DIAMOND]: Thank you on that.

[CONWAY IVY]: Richard, if I might go to New Jersey, they were a number of cities and counties that filed suits against us and the other defendants again on a similar allegation to the other litigation. Part of the onslaught of this litigation, which occurred when these suits were filed in December 2001, we believe that that was stimulated by the creation in New Jersey of a ten-year [statute] of limitations on municipalities to sue. That was established in 1991, so a lot of these cities could see at the end of 2001 that that 10-year statute limitations apply.

Right now the New Jersey cases have been consolidated in front of one judge and the judge is at least right now treating these cases as a group initially. As in all of our other cases, now the parties are going through motions and then we will see whether that will lead to the other phases of the discovery and that. But it is still very early in that process.

[RICHARD DIAMOND]: I guess I am just trying to assess to what extent is Rhode Island a [INAUDIBLE]. Should you be victorious? How much of this will evaporate? What are the implications of Rhode Island for the [company]?

[CONWAY IVY]: That would really involve speculating. On our part, it will depend on what the plaintiff's bar - how they would view any rulings in Rhode Island or elsewhere. I think the only thing that I can say is we have said since 1987 we are going to vigorously defend ourselves. We are not going to settle these lawsuits and we will just wipe them out till the end. So in terms of the ruling having a impact on a litigation, that is going to be a function of how the plaintiffs view those rulings.

[RICHARD DIAMOND]: Thank you very much.

[Frank Donnell] with [Addis] Capital has a question.

[FRANK DONNELL]: I have a couple of questions. First, what is the difference in packaging cost between a plastic paint can and a metal paint can?

[CHRIS CONNOR]: [Frank], I think we have given guidance in the past that it is slightly higher.

[FRANK DONNELL]: If still prices keep going up and the metal paint can manufacturers do try to pass on the price increases, is switching to a plastic paint can...do you have enough capacity to make that a legitimate threat?

[CHRIS CONNOR]: Then the prices will be slightly lower. Today we do not, but given the demand we are seeing for this we are quickly converting some [INAUDIBLE] in some of our facilities and we would be able to respond if that trend accelerated.

[FRANK DONNELL]: Are you self-manufacturing the plastic or is that being done by somebody else?

[CHRIS CONNOR]: That is being done by other manufacturers.

[FRANK DONNELL]: And...that is all the questions that I have.

[CHRIS CONNOR]: Thanks [Frank].

Next is [Eric Peschard] with Mid-West Research.

[ERIC PESCHARD]: The consumer segment had a little better revenue growth than we have seen. Can you talk a little bit about what contributed to that?

[CHRIS CONNOR]: Sure. I think [Conway] gave some guidance there, [Eric]. Our diversified brands division which is our aerosol and applicator businesses had a really strong quarter for us. We had some tiny issues with some retailers with purchases in the first quarter that were not made as they started inventory concerns and were brought into the second quarter that helped out. We had some existing accounts that were just enjoying this stronger architectural [diy] business and so their reorders were pretty good.

[ERIC PESCHARD]: Second question, capital spending was up a bunch in the second quarter; it was flattish on a year-over-year basis, year-to-date, but up second quarter to second quarter. Yet the store opened number was not really big in the quarter. [How do you then account for] capital spending in the second quarter?

[CHRIS CONNOR]: In the second quarter, if you take a look at our capital expenditure, you are right. In the second quarter we were at approximately $35.5 million, up from $22.5 million. As we mentioned before, we are going through a store [point-of-sale] refreshes. That is not to be confused with the interior refresh as a store and so we are [sparing] to buy the computers to replace our point-of-sale devices which was in our plans.

[CONWAY IVY]: I might add that during the first six months, our total capital expenditures was almost $54 million versus $45 million last year.

[ERIC PESCHARD]: Okay. Thank you.

Our next question will come from [A. Brontein] with [Glenview] Capital.

[A. BONTEIN]: Hi guys! I am sorry I might have missed part of what you were saying with respect to the Rhode Island case, or may be you said it separately. You said something about motions out of discovery activity. Has discovery activity gone forward in Rhode Island and have any motions been filed out of that activity?

[CONWAY IVY]: Yes. Though the plaintiffs opposed going through discovery process discovery has been ongoing with 2 million documents being recovered and they are various motions being made concerning that case.

[A. BONTEIN]: Have they been filed or are they just being prepared?

[CONWAY IVY]: Well, a motion was made before the judge indicating that the individual property owners of Rhode Island should be notified and be aware of this litigation as its outcome could affect them, particularly adversely. The judge denied that motion and so a request has been made to the Supreme Court to review that judge's decision.

[A. BONTEIN]: That is the most proximate in time with respect to trial dates established as of now, is that correct?

[CONWAY IVY]: Yes. September 4th. The judge has been pretty clear; he wants it to go to trial on September 4th.

[A. BONTEIN]: I might have missed this, but did you give any detail on your buyback program?

[CONWAY IVY]: Yes, we did.

[A. BONTEIN]: I will get it separately. I don't want to repeat...I don't want to make you...I will get it later, Ivy. Thanks.

[CONWAY IVY]: Thanks.

Next, we hear from [Mike Beerman] with [Eminence] Capital.

[ADAM MURPHY]: This is actually [Adam Murphy]. Just a follow up on that question; you mentioned that there are separate pieces of the Rhode Island trial. I guess can you talk about what happens in first phase, how long should that take, and what could happen in subsequent phases?

[CONWAY IVY]: I think the first phase of that trial will only determine whether [lead] in paint is a public nuisance in Rhode Island. It would not determine any responsibility or liability if any.

It would be speculation in terms of estimating how long that first phase would take, but I know both sides have a list of expert witnesses and dealing with that issue. So we would just have to wait and see how long that would take. Then depending on the outcome of that, if it is determined to go to the next phase of the trial, then there would be a whole set of different legal elements to that and I would imagine there would be a time involving discovering and other matters that would have to proceed before the second phase to start. But I think the court has not fully developed the concept of how this would proceed after the first phase. I think court is focussed on the first phase and so a lot of the elements of the other phases are still unclear.

[ADAM MURPHY]: Fine, okay. I think yesterday there was a news article or some news report of a verdict in St. Louis. I guess a jury awarded a plaintiff - I think it was over a $1 million against [INAUDIBLE]. Can you just talk about that? What kind of precedent that sets? Does that affect any of the other trials?

[CONWAY IVY]: First of all, I don't know anything about that because we were obviously not involved.

But just based on what you have indicated, if it was a suit against a landlord, these were typically the nature of these suits that were going on for the last sixty or seventy years because the exposure of lead to young children - these buildings - are due to the lack of standards of maintenance and that. So traditionally since the landlords were responsible for maintaining the buildings, were sued and this was what had actually happened really up till 1987. But because of the complexity of obtaining a redress from the landlords then the plaintiffs said, 'well, we will start suing the lead pigment manufacturers' in the sense to recover this and this was what started our involvement in this for the last fourteen years, so I would say a typical landlord suit. There are many precedents for that going back [for any] number of years. I don't know anything about this specific case or the allegations.

[ADAM MURPHY]: Is it possible that the landlords in these cases - if they were to use their own trials - could they turn around and sue the manufacturers?

[CONWAY IVY]: Unfortunately, in our society anybody can sue anybody on almost any allegation. So...

[ADAM MURPHY]: Let me just ask one quick financial question. The quarter showed very strong improvement in gross margins and you talked about some of the factors. Should we look for a similar type of improvement in gross margins over the back half of the year as well?

[SEAN HENESY]: No, as we were talking, the plant closings and so forth that occurred late last year, [INAUDIBLE] and so forth of that, you will not see the degree. But as Chris pointed out in the operational excellence that we are going through in our company, I think we are going to still look forward for other factors that will improve our margin, but we do not see that margin increasing comparable from quarter to quarter, year over year in the back half of the year.

[ADAM MURPHY]: I guess, just [BREAK IN AUDIO] the operating margin, have you any idea as to what kind of margin we should look for in the second half?

[SEAN HENESY]: Well, we are giving in the guidance of around $0.65-0.70 earnings per share. If you work that back, then we are looking at $1.92-2.03 for the year, though not a very [INAUDIBLE] number.

[CHRIS CONNOR]: I think they would be stable and I think you also have to remember that our business is seasonal and our big volume quarters are the second and third quarters. So essentially the guidance we want to give is in terms of our earnings per share improvement.

[ADAM MURPHY]: Okay, great. Thanks a lot.

[CHRIS CONNOR]: Thank you.

As a reminder, to ask a question, please press '*1' on your telephone keypad.

[CHRIS CONNOR]: I might add that since it is right about 12 o'clock, we do not want to exclude anybody, but if there are one or two more questions that would be fine. But then I think we should begin to wrap up and then I will be happy to receive individual calls today and tomorrow as well.

We do have one question in the queue and that is a followup with [Chuck Seringovsky] with [McDonald] Investments.

[CHUCK SERINGOVSKY]: Couple of quick ones; I just want to refer to the comment about retailers shifting of orders from first quarter into the second quarter. Is that then just trying to get their inventory closer to the sale timing? Can you give us, John, perhaps the impact on EPS from foreign exchange?

[CHRIS CONNOR]: [Chuck], I would think that your analysis on the shift is exactly correct. They are trying to move the inventory closer to the sale, waiting to see a little confidence and that is all we saw, spring loading orders to capitalize on the start of the big peak [exterior] season, or typically you might have been studying those [index] in March; they were being set in April and May of this year. [John], you want to handle the second question?

[JOHN OAK]: [Chuck], I think from the foreign currency exchange rates, the impact on profits was pretty low in the quarter. It ranges about $1-1.5 million dollars in the quarter as a hit.

[CHUCK SERINGOVSKY]: Would that be aftertax?

[JOHN OAK]: Yes.

[CHUCK SERINGOVSKY]: Thank you.

That concludes our question and answer session. I will now turn the conference over to Mr. [Conway Ivy] for any closing or additional remarks.

[CONWAY IVY]: Yes. We thank you all for joining us today and as I said earlier, I will be happy to take any calls the rest of the day and tomorrow should any of you all have additional questions. We thank you for your participation.

That concludes this conference call. Thank you for joining us today.