A.O. Smith Corp (AOS) — Q1 2019 Earnings Call Transcript

Thank you. Good morning, ladies and gentlemen, and thank you for joining us on our first quarter 2019 earnings call. With me today are Kevin Wheeler, Chief Executive Officer; John Kita, our retiring Chief Financial Officer; and Chuck Lauber, our incoming Chief Financial Officer. Before we begin with Kevin’s remarks, I would like to remind you that some of the comments that will be made during this conference call, including answers to your questions, will constitute forward-looking statements. These forward-looking statements are subject to risks that could cause actual results to be materially different. Those risks include, among others, matters that we have described in this morning’s press release. In order to provide improved transparency into the operating results of our business, we provided non-GAAP measures, adjusted net earnings and adjusted earnings per share for 2018 that exclude the restructuring and impairment costs associated with our plant closure in Renton, Washington. Reconciliation from GAAP measures to non-GAAP measures are provided in the appendix at the end of this presentation and also on our website. As a courtesy to others in the question queue, please limit yourself to one question and one follow-up per turn. If you have multiple questions, please rejoin the queue. I will now turn the call over to Kevin, who will begin our prepared remarks on slide four.

Thank you, Pat, and good morning, ladies and gentlemen. Our first quarter results met our expectations and are aligned with our previously communicated projection for China of over year-over-year sales, as a result of a channel inventory build in the first quarter of 2018. Company sales of $748 million declined 5% from the prior year. Earnings per share of $0.53 declined 12% from the prior year. We repurchased approximately 900,000 of our shares for approximately $46 million. We are pleased to announce the acquisition of Water-Right, one of the strongest names in residential and commercial water treatment solutions, earlier this month. Please advance to slide five for more details on this strategic acquisition. Water treatment solution providers, Water-Right, squarely supports our growth trajectory in water treatment and enables us to expand beyond our strong presence in the direct-to-consumer and retail channels with Water-Right’s capabilities in the wholesale and water quality dealer channels. The water treatment category in the U.S. is evolving from a taste and odor market to a health and safety market as families become more aware of contaminants in their drinking water. Water-Right brings us additional solutions for residential and commercial applications. Water-Right’s product portfolio and channel access strengthens A. O. Smith’s ability to serve customers seeking drinking water safety at any stage of their life, from school and college age where portability and refillable bottles are prevalent, through first apartment to home ownership when whole house products are desired. The purchase price of $107 million represents a trailing EBITDA multiple of approximately 9 times, after the expected tax benefit related to a Section 338(h)(10) election. Water-Right meets our return on invested capital objective in the first full year. We expect Water-Right to add approximately $45 million of revenue in 2019. The positive impact to earnings in 2019 is expected to be minimal to the interest and purchase accounting and one-time costs. At this time, I would like to thank and acknowledge John Kita, who is on his last earnings call before retiring from A. O. Smith after about 30 years. We have transformed to a pure play water company during his tenure as CFO. And John was integral in communicating the potential of A. O. Smith to investors. We wish John well in his retirement.

Thank you, Kevin. We have been working diligently the last several months on my CFO transition to Chuck Lauber. Combining his background and 19 years of experience with A. O. Smith with the strong internal financial and accounting team, I am confident that transition will be seamless. Chuck will now describe our results in more detail, beginning on slide six.

Thank you, John. Sales for the first quarter of $748 million were 5% lower than the same quarter in 2018. Adjusted earnings in the first quarter of $89.3 million declined 14% from the first quarter in 2018. On slide seven, first quarter adjusted earnings per share of $0.53 were 12% lower than the same quarter in 2018. Sales in our North America segment of $522 million increased 4% compared with the first quarter of 2018. The increase in sales was primarily due to higher volumes of boilers and water treatment products and our mid-2018 water heating price actions related to steel and freight cost increases, which were partially offset by lower residential water heater volumes. Rest of the World segment sales of $232 million declined 21% compared with the same quarter in 2018. China sales were down 18% in local currency, primarily related to the channel inventory build which occurred in the first quarter of 2018 and did not repeat in 2019. Our China results essentially met the forecast we stated at our January earnings call. The weaker Chinese currency unfavorably impacted translated sales by approximately $13 million. India sales grew approximately 30% in constant currency, compared with the same period in 2018. On slide nine, North America segment earnings of $116 million were 3% higher than segment earnings in the same quarter in 2018. The favorable impact from higher sales of boilers and the mid-2018 pricing actions were partially offset by higher steel and other input costs as well as the unfavorable impact from lower residential water heater volumes. Weakness in the North America water treatment business as a result of tariff related cost increases and lower than expected volumes drove first quarter 2019 segment margin slightly lower to 22.2% compared with the adjusted segment margin of 22.5% last year. Rest of the World earnings of $12 million declined 66% compared with the first quarter of 2018. The impact to profits from lower China sales more than offset the benefits to profits from lower advertising. First quarter headcount reduction programs were offset by severance costs. Our targeted 10% headcount reduction was largely completed at the end of March. Weaker China currency translation negatively impacted earnings by approximately $1 million. As a result of these factors, segment margin declined significantly from the same quarter since 2018. Our corporate expenses were higher in the first quarter compared with the same period in 2018, primarily due to higher stock-based compensation. The effective tax rate in the first quarter of 20% was lower than last year’s tax rate, as a result of a one-time adjustment due to refinement in estimated tax due to U.S. tax reform. Cash provided by operations during the first quarter of $22 million was lower than $43 million in the same period of 2018. Lower earnings and lower accounts payable balances resulted in lower cash flow from operations. Our liquidity and balance sheet remained strong. Our debt to capital ratio was 14% at the end of the first quarter. We have cash balances totaling $633 million located offshore, and our net cash position was $349 million at the end of March. During the quarter, we repurchased approximately 900,000 shares of common stock for a total of $46 million. Approximately 5.1 million shares remained on our existing repurchase authority at the end of March. This morning, we updated our 2019 guidance to a range of between $2.69 and $2.75 per share with no change to the midpoint, which represents a 4% increase in EPS compared with our adjusted 2018 results. We expect improved performance in China in the second quarter compared with the first quarter, but project lower China sales than in the same period in 2018 due to the second quarter 2018 inventory build. As a result, we expect our 2019 second quarter earnings per share will be slightly lower than the second quarter last year. We forecast a stronger second half in 2019 compared with the first half due to China performing better in the second half on a constant currency basis impacted by normal seasonality and selling holidays, new product launches, and cost benefits from lower advertising and headcount reductions. Growth as well as typical seasonality of boilers which are normally higher in the second half of the year, improvement in North American water treatment and India profitable in the second half due to volume growth, typical seasonality and improved operating performance. We project significantly improved second half year-over-year performance as a result of stronger water heater volumes as the third quarter 2018 is an easy comparison due to the price increase pull forward in Q2 2018, stronger boiler volumes due to tariff-related lost sales and supplier bottlenecks in the third quarter of 2018 also provides a favorable comparison, improved profitability in North America water treatment due to the absence of one-time product launch costs and softener production inefficiencies, and larger profits in India. We expect our cash flow from operations in 2019 to be between $500 million and $525 million, which is higher than the $450 million generated in 2018. We expect higher earnings and lower outlays for working capital this year. Our 2019 capital spending plans are approximately $85 million, and our depreciation and amortization expense is expected to be approximately $75 million in 2019. Our corporate and other expenses are expected to be approximately $49 million in 2019, slightly higher than last year due to inflation. Our effective tax rate is expected to be 21.5% in 2019. We expect to purchase our shares in the amount of approximately $200 million in 2019. We expect our average diluted outstanding shares in 2019 will be approximately 168 million. I will now turn the call back to Kevin who will summarize our guidance and business assumptions for 2019, beginning on slide 13.

Thanks, Chuck. Our outlook for 2019 includes the following assumptions. We project U.S. residential water heater industry volumes will increase between 100,000 and 150,000 units in 2019 due to continued new construction and expansion of replacement demand as well as continued growth in tankless units. Commercial industry water heater volumes are expected to be up 1%. Based on a strong first quarter, we expect our boiler sales to grow approximately 10% in 2019. We improved profitability in India in 2018 due to scale and our water heater and water treatment businesses from losing over $7 million in 2017 to under a $5 million loss in 2018. The overall loss in India is expected to be $2 million to $3 million in 2019. We project India water heater EBIT will be positive in 2019 and improvements to continue for our water treatment in 2019, and that overall in India, we will be profitable in 2020. Our forecast for the Chinese currency in 2019 is essentially level with where it is today, weaker than last year. All the negative FX impact is expected in the first half of 2019. As previously discussed, we believe 2018 Chinese sales increased at least 5% due to the customer inventory build in the first half of 2018. We are assuming continued weakness in the Chinese economy and relatively flat consumer demand for the full-year in 2019. Without the impact of the 2018 channel inventory build, we are projecting full-year sales to be down approximately 6% to 8% in local currency terms, the majority of which will occur in the first half of this year. Combined with our expected 1 point of unfavorable currency translation, our 2019 China sales projection is a decline of 7% to 9%. Please advance to slide 14. We see continued momentum in North America, with our water heater, boiler and water treatment products, collectively expected to grow up to 9% in 2019, including approximately $45 million in Water-Right sales. Our profitability improvement and sales growth in India is also encouraging. Our business model in China is solid for the long-term opportunity, and we continue to forecast low-teen margins for the full year. We have near-term challenges to navigate through as the China economy remains weak. We project revenue growth will be between 2.5% and 3.5% for the year in U.S. dollars and 3% to 4% in local currency. EPS is projected to be between $2.69 and $2.75. We expect North America segment margin to be between 23% and 23.25%, and Rest of World segment margins to be between 11.75% to 12%. Our stable defense replacement markets, which we believe represent 85% of North America water heater and boiler volumes, positively differentiates A. O. Smith from other industrial companies. We have a strong balance sheet, poised to take advantage of strategic acquisitions that add shareholder value as well as allow us to return cash to shareholders. That concludes our prepared remarks, and we are now available for your questions.

Good morning. And congrats John on a very successful tenure as CFO.

Thank you.

I wanted to ask my first question about the focus on North America, particularly regarding the volume in water heaters and water treatment, which you mentioned as being soft. It seems that residential water heater shipments were negative. However, shipment data up to February suggests that shipments were positive, around 3%. Could you provide some insight into March’s performance and how it might impact your results for the quarter? Additionally, regarding water treatment, could you elaborate on the extent of the price increases and any competitive responses, as well as the difference between the volume you anticipated and what you actually experienced?

Okay. This is Kevin. Let’s first discuss North America water heaters. You're correct that the market was up about 50,000 units through the initial months. However, based on our shipments in March, we are now estimating that the industry will be slightly down to flat. We still believe that the forecast of 100,000 to 150,000 units is accurate, but we likely lost some units in March. Consequently, we experienced a small decline in market share, primarily due to order patterns from our distributors. We don’t anticipate any significant issues moving forward, so we expect our market share for the full year to remain stable and that the industry will grow as previously projected. Regarding water treatment and pricing, could you please clarify your question? That would be helpful.

I think the comment was that volume was slightly lower than expected due to the cost base and price increases in response to tariffs. I was wondering what kind of price increase you implemented and how the difference between expected and actual volumes for water treatment looks.

Yes. This is Chuck, Alvaro. Really not pricing, it’s really just volume. So, we’re a little disappointed with our first quarter for water treatment. So, our volumes are a little off. We started a little slow with one of our major customers but we feel pretty good about the momentum that we have gone into the rest of the year. The tariff-related costs are just recovered some of those, but we still have tariff-related costs and some of the filtration products that we have coming out of China. And on the water treatment side, we’ve got some inefficiencies we had in Q1 that really we believe are behind us. So, as we look at the North America water treatment business, Q1 is really the low point for us for the year, and we just see that number improving throughout the year. So, we see increased volume as we go throughout the year and we also see that the efficiencies in our softener production are overcome, and we see improvement in March, we see improvement in April. So, the momentum is good in our North America water treatment.

Thanks for the color. And then, just on Rest of World, are there any further actions from a cost reduction standpoint? And I appreciate the comment around the severance offsetting some of the headcount benefits in Q1. But, if you could tell me, maybe from a magnitude perspective, how much fixed cost reduction to expect from a year-on-year perspective going forward?

If we focus on China, we have successfully completed the headcount reduction costs, and we expect to see improvements in our headcount moving forward. In terms of the impact on SG&A, most of the savings come from cost reductions in advertising, which are more about building rather than promotional expenses. When we consider the percentage of SG&A, we anticipate a mid-single-digit reduction year-over-year in costs.

I just want to add a little bit to that. Again, we’ve taken the steps and we’ve talked about this on our call a few times that we want to right size the business for the market that we’re participating in today. We believe we’ve taken the steps. But, you should all know that we continue to monitor the market. And if additional actions are required from us, we’ll make those decisions as we go forward throughout the year.

Good morning. This is Drew Haroldson on for Matt Summerville. I have just a couple of questions. First, do you believe that the inventory channel correction in China will be largely complete at the end of the second quarter, or if not, when would you expect that pressure to alleviate?

Yes, this is Chuck. The inventory in China increased last year, with most of the buildup occurring in the first half, and a larger portion in the first quarter compared to the second. For the past few quarters, it has remained relatively stable. Our expectation looking ahead for the year is that it will be flat or slightly down. However, we do not anticipate significant decreases in our forecast for the remainder of the year.

Got it. And then, just as a quick follow-up. Can you talk about the cadence throughout the quarter in China? It seems as though, some data points pointed to a better overall sentiment in March versus January and February. Did you also see that in your business?

Yes. That has fluctuated quite a bit. Looking at the macro environment, it remains a challenge. Consumer demand is weak, but there are signs of stabilization; I wouldn’t say improvement, but certainly stable consumer demand. However, we need to see more than just a few months of this. Therefore, as we look ahead, we project it to be relatively flat. There are some positive signs with potential government stimulus packages and other factors that could bolster consumer demand if the tariff issue is resolved. We are observing some signs, but we need a few more months before we can confidently say there’s positive momentum in China.

Yes. This is Chuck. So, I mean, the first quarter is always difficult in China because of the spring festival, and it’s a bit harder to get a handle on what the market is doing. So, as you kind of go into the second quarter, hopefully we’ll see a little bit better feel.

Hi. Good morning, guys. So, just on China. I think first quarter, you gave us some good color on kind of how first quarter was going to shape up. And I think you said you still expect decline. But, can you just maybe give us a finer point on the magnitude of the year-on-year decline you expect in China in 2Q and what kind of decremental margins you’d expect?

So, for Q1, we gave the guidance that Q1 would be down roughly $50 million. And last January, we talked a bit about the inventory build happening in 2018, predominantly in the first quarter, but did happen throughout the first half of the year. I mean, we don’t know our channel inventory numbers precisely. But, when we kind of take a step back and look at it, we would kind of gauge the Q2 impact to be made roughly half of that of Q1. So, the volume, we’re saying 50 in Q1. So, we would take that in Q2 as roughly half.

Okay. Then, the decrementals tied to that, because I think you had pretty high decrementals?

No. It kind of would be similar to the first quarter. We had that as kind of a 50% to operating earnings.

Okay. It seems like the year is heavily weighted towards the backend. What are the margin assumptions for the Rest of the World? What needs to happen in the second half to reach that high range of 11% to 12%?

Yes. What will really make a difference is some of the cost reduction programs we've discussed. We don’t anticipate seeing headcount reductions until we enter the second quarter. We’re clearly affected by volume in the first two quarters, specifically in Q1 and Q2. We expect that to stabilize, particularly in the second half; from a sales perspective in China, we anticipate improvements, and we’re seeing progress in India as well. India’s performance is quite seasonal, with strength in the latter half of the year. Therefore, most of our losses occur in the first two quarters, and we expect to be profitable in the second half of the year, indicating a significant improvement quarter-over-quarter.

Just first of all, first question, really on China, and you had talked in the past about rolling out some mid-price point water heaters in China. So I guess, I’d just start off by just asking if you could talk about the early experience with that rollout? And what did that represent as a positive offset within the Chinese growth compare? And what was the impact of cannibalization on the premium product?

Let’s begin with the rollout. We have been introducing midpoint products over the past few months and will continue this into the latter half of the second quarter and throughout the third quarter this year. Specifically regarding the gas side, we are filling our line with the 0 cold water and focusing on mid-price point products, which are crucial as we have filled gaps in offline sales while also supporting online sales. For the electric side, we will launch a mid-price steel jacket model for our wall-hung business. Additionally, we will enhance one of our high-end models by adding various features, including regulators, displays, and a slimline tank design. In the water treatment category, we will introduce two new premium products: one that is a DIY easy filter replacement and another that offers boiling water with a luxury tap. We are launching mid-price point products alongside new high-end offerings, and we are currently observing an improvement in our online sales. We are seeing some improvement in our mid-price point range. Now, I’d tell you that this is early and each product takes some time to get out through certification. But the steps we’re taking, we feel really good about our new product, we feel they’re having the impact, and they will have the impact over the rest of this year. And as far as cannibalization, we have a high-end part of the market, which we continue to do well in on the water heater side of it, that’s tankless and electric wall hung. I would tell you, people aren’t probably trading up, but we don’t see a lot of trading down. Water treatment’s a little bit different story, but we do see some trading down going on there, so maybe a little bit of cannibalization. But overall, the product offering is meeting our expectations, and it’s just a matter of getting them out into our distributors, into our distribution to have the full impact throughout 2019.

Yes. And this is Chuck. And I talked a little bit about cost reduction, but I just want to emphasize that we haven’t cut back on R&D or our new product development or launching new products. So we’re very upbeat and excited about the products that are coming out.

Hi. Good morning. And John, I wanted to just extend congratulations to you. You had a terrific run here at the company.

Thanks, Scott.

I wanted to first ask about the organic growth for the year, or as you refer to it, sales in local currency, which I understand now includes Water-Right. It appears that your organic growth expectation for the company is currently between 1.5% and 2.5%. Am I calculating that correctly?

We are just taking a look at that, Scott.

So, we said Water-Right sales would be $45 million this year.

So, I think, it’s about 1.5%?

It’s about 1.5%. Yes. That’s correct.

Okay. The China water heater market has historically been well understood by your team. Can you provide an update on its current status? I believe you mentioned it was slightly negative last quarter. Do you have the latest information on it?

What we analyze from our third-party data indicates that the ABC data we utilize does not include our specialty stores, only the retail segment. It shows that electric and gas sales are down approximately 9% to 10% for the first quarter. While the overall market is declining, online sales are performing slightly better, with online sales increasing a bit and offline sales decreasing more than the increase in online sales.

Would you then say that’s a deterioration from last quarter, right? From what you see?

Yes, we would say that. Last quarter was running less than that.

Congratulations, John, on a great career. I would like you to discuss the total addressable market for water treatment in North America in relation to some of these acquisitions. Could you provide insights on the total addressable market, the growth drivers, and where you see opportunities to create value for the company?

Let’s just talk about Water-Right and then I’ll tug back into our other acquisitions. And we’ve talked about Water-Right fits squarely in our strategy particularly from a residential and commercial point-of-view and some dealer network. But if you go back, you look at our strategy. Water-Right really complements our prior two acquisitions. Aquasana was our first acquisition and that provided carbon products and also provided a solid direct-to-consumer platform. That filled out 2 of our channels that we wanted to participate out of the 5. We also then acquired Hague, and there’s a large water softening market out there, and Hague’s innovative water softening products helped fill out that product portfolio for us. It also helped us enter into the water quality dealer network as well. We successfully combined our two acquisitions to offer a comprehensive solution, enhancing our position in big box retail. Looking ahead, Water-Right aligns with our focus on residential and commercial problem water. They introduce new products that expand that segment of our business and have strengthened our dealer network, more than doubling our water quality dealer base with minimal overlap. Additionally, they have facilitated our entry into the specialty wholesale business. Altogether, these three acquisitions enhance our five targeted channels, which include residential and light commercial markets. We believe that water quality in the United States and North America will continue to decline, and our products will provide significant value to customers in these channels. We are optimistic about our water treatment business, recognizing it is still in its early stages as awareness of water quality grows across the country. Our offerings, including filtration, carbon, water softening, and RO systems, combined with our extensive commercial network for water heaters and boilers, are crucial components of our strategy. We aim for high single-digit growth and improved profitability as we execute our water treatment strategy throughout North America.

This is Chuck. And just circling back to the total addressable market. I mean we estimate the North America market to be around $2 billion as a total addressable market. So, as Kevin said, we like the trends, and it’s a large market that we think has a lot of potential as it evolves.

Great. And then maybe if you could expand your comments with respect to China and the water treatment trends you’re seeing there in terms of growth? And then touch on air purification as well. Just give us the latest state-of-play of what you’re seeing in terms of the market dynamics there in terms of growth?

Water treatment remains a strong aspect of our business in China. While it didn't reflect significantly in this quarter's numbers due to the inventory buildup we discussed last year, our water treatment sales were slightly down, probably in the low single digits. However, the sellout performance was still encouraging, considering market conditions. When we review our annual water treatment business, we see an approximate 8% growth compared to last year, with consumables continuing to expand. We're pleased with the consumable segment, which was around $30 million last year and is growing at about 30%. It achieved a 30% growth in Q1, and we anticipate the same growth rate for the entire year. Overall, water treatment remains a solid product for us.

I would like to point out that water treatment is not a product associated with new construction; it is fundamentally linked to health and safety. This aspect is particularly important to Chinese consumers, especially regarding their children. Therefore, we anticipate sustained growth and value for this sector for many years to come.

I think you mentioned air purification. We have shifted towards a formaldehyde product as we enter the air purification market. This is particularly relevant as we approach the summer season, when formaldehyde becomes more of a concern in China. We have launched some new products there, including fresh air products, and we are excited about their market introduction. Last year, our sales were approximately in the $25 million range, and this year, we expect to see growth with our formaldehyde product, projecting sales to reach around $30 million. We anticipate some positive momentum, but it largely depends on the situation with formaldehyde this summer.

We still believe that air purification fits into our portfolio based on what we know today. We're also introducing some new products in the mid-price range to boost sales and reach consumers who may not be interested in our higher-end products. Overall, air purification will remain a part of our portfolio, and while we may not see the 30% to 40% growth we’ve mentioned in the past, we still anticipate solid double-digit growth going forward.

Just a follow-up on water treatment. I just want to level set kind of how big do we think that business is in 2019, now that you’ve included Water-Right? And what’s kind of the core growth all in for water treatment? And does that change at all given the slow start?

So, Jeff, I think you’re talking about just North America piece, right?

Yes, North America.

The Water-Right contributes approximately $45 million. This year, we anticipate that the North America water treatment sector will reach around $155 million in revenues, with an operating margin return nearing 10%. Looking ahead, we expect to see an increase in the operating margin by about 200 to 300 basis points. When examining growth rates, we see differing rates, particularly between filtration products and softeners. However, overall, we project high single-digit growth rates moving forward. When incorporating a full year of Water-Right into our projections for 2020, we expect to achieve revenues between $190 million and $200 million. We also anticipate continued margin expansion and strong growth for the North America segment.

Hi. Good morning, again. I got cut off at the knees there. I’m not sure...

Scott, that was John.

Yes. I actually thought it was you, Kevin. Can you help me understand the lows? It seems to me that you might be somewhat off track regarding where the lows in water treatment selling were in 2019. What happened there, and possibly why?

I want to revisit the launch we had in August of last year, which we've discussed in a few calls. Our start was a bit slower than anticipated due to some capacity issues in our Combi’s facility. However, as Chuck noted earlier, we've been experiencing month-on-month growth, and those capacity issues are now behind us. Our efficiencies are improving as we scale up. Are we slightly behind? Yes. But we believe we have the right programs and foundation in place to move forward, and we're beginning to see that progress. We previously mentioned having good margins, and we had a strong start in April. Moving ahead, it will just be a matter of timing, and we will reach the numbers we discussed, albeit at a slower pace.

Got you. Before I get cut off, I have another question. Looking at China, I haven't heard about this many new product launches for the rest of the year in a long time, and it's definitely exciting. However, this raises the question of mix. Historically, I believe you've aimed to achieve a Rest of World margin in the 15% range. I'm trying to understand your current thoughts on the long-term outlook for Rest of World margin, especially considering the new products that are likely to have lower margins in China compared to your core water heater offering. Could you discuss that a bit?

We have introduced several new products, particularly in the mid-price range, to address gaps created by earlier price increases. As online shopping becomes more common, we face different price points that we need to compete against to maintain our volume and market share. Our margins by product will not decrease, although our price points may. We are launching new products and taking steps to reduce costs to improve our price-cost ratio. Therefore, our margins will remain strong. Our average selling price may decline slightly, but we have consistently introduced many products over the last decade, and the variety will expand as we enter new categories. While this approach regarding mid-price points may seem somewhat different for us, introducing new products is typical in the consumer and plants business, occurring every 12 to 18 months.

Hi. You touched on some points, but I'm curious about your recent expansion into different lines of business in China. Is this a one-time effort, or are you aiming to offer a broader range of products in that market?

I would tell you our strategy, let me just articulate that. We’re always looking at new product categories to grow. In China there is a growth market, has a lot of opportunity but we have high criteria for our product launches. One, they have to be able to leverage our brand and our distribution, that’s number one. And number 2, we don’t enter any product category that we don’t believe we can add significant value to the product category going forward. So if you look at your purification, we felt we could bring added value formaldehyde and so forth. But we’re also going to continue. We’re always incubating products. We’re incubating Combi boilers today. We’re incubating air purification. We have a very nice growing commercial water treatment business that’s moving toward profitability. So yes, we’re going to enter new product categories but they’re always going to be within our core and being able to leverage what we’ve been able to develop and build, which is our branded distribution over the last 20 years.

Does that include Hague and Water-Right, which are North American products? Are you looking for how those fit into the Rest of World market?

We are currently selling water softeners from Hague, and we have been for the past couple of years. Our relationship with Hague began when we were customers of theirs in China. This offering aligns well with our presence in the bathroom and kitchen sectors, and although it represents a small portion of the market, it creates a natural synergy with our existing products and distribution in North America, which also enables reverse osmosis back to China.

Yes. Thanks for taking the follow-up. I may get cut off again. So, let me just give you 2 or 3 questions in a row there. First of all, I guess, pricing your anniversarying the second half or the midyear 2018 price increase, do you have additional pricing actions in place to carry the third quarter compare? And secondly, I guess replacement demand from 2007 to 2009, industry sales were down about 20%, as I recall. And so I’m interested in how you think about North American replacement demand against that historical pattern. How much of a drag, if any, is replacement demand on the overall growth? And then if I could just through a third in. I guess just on boilers. Can you talk us through, quickly how severe weather-driven spike in sales has impacted subsequent quarters’ growth? And do you feel you may have pulled forward some growth there?

That was quite a list, thank you. I’m going to take the first question about pricing. We don’t typically comment on pricing as we move forward. As we mentioned, that was implemented last year, and you're right, it’s being revisited now. We constantly review our cost positions, but we don’t discuss future pricing actions. Regarding replacement demand, I appreciate you bringing that up because it's a significant concern we encounter frequently. People often wonder if there will be a drop similar to what occurred in 2007 or 2008. Over the last few years, we have conducted extensive research. We traced back to 1970 and evaluated our replacement market in several ways. What we've found is that while we do have a bell curve, it is an elongated one that spans from 5 years to over 20 years. Additionally, our overall replacement market is approximately 14 times the available housing, which amounts to $120 million. When you put that all together, and our assessment that we may have some blips here and there, but there is no cliff at all affect. It’s going to just kind of level out over the years as it always has and continue we believe at a similar replacement pace that we’ve seen over the last 5 or 10 years. And as far as boilers...

Yes. Regarding your question about boilers in Lochinvar and the impact of seasonal weather, particularly the cold weather, we mainly observed effects on residential products. We believe this will not significantly alter the usual seasonality of the boiler business for the latter half of the year.

My follow-up is regarding the North American water treatment market. Could you provide a breakdown of the approximately $2 billion in sales that you mentioned as an addressable market, classified by channel? I believe you identified retail, direct-to-consumer, wholesale, and water quality dealer. Additionally, could you share how many stores you are currently in at Lowe’s and whether you have reached the total number of stores you plan to? Also, for the wholesale dealer channel, is that all incremental for your company and how significant is that?

Sure. Here are some rough estimates. In the overall water treatment market by channel, around 40% to 50% is represented by dealers, approximately 15% to 20% comes from the wholesale side of the business, 15% is from retail, and 10% falls under other categories.

Yes. I mean, that’s why we’re really pleased to have Water-Right joint because the largest part of the market is in that dealer wholesale piece and they bring us a bit of a footprint there that’s going to be very helpful to us.

And going back to how much is that going to be incremental, it’s surprisingly the number of dealers that we brought on with the Water-Right acquisition and we lay them on top of the dealers we have in Hague, there was very, very little overlap. So, most of it is going to be incremental. And by the way, it’s going to cover some areas that we were not in and give us a broader national footprint as we continue to grow that over the next few years.

And with Lowe’s, are you fully launched there, or is there more stores in the pipeline? And just to give us an idea, how many stores you’re in?

For the most part, yes. We are fully launched, and we are just moving forward with our store displays and generating consumer demand for our products. I would not expect any real meaningful loading, if you will, going forward. Just so we’re clear, I mean, Lowe’s has over 1,720-plus stores, so it’s taken us a while to get in there, but we’re fully integrated their displacement and so forth. And prepared to go forward with them.

Thank you for joining us today on our first quarter results conference call. We will participate in the following conferences this quarter: Oppenheimer in New York on May 7th; KeyBanc in Boston on May 29th; and The William Blair Conference in Chicago on June 5th. Have a great day.