Masco Corp (MAS) — Q4 2019 Earnings Call Transcript

Thank you, Regina, and good morning. Welcome to Masco Corporation’s 2019 fourth quarter and full year conference call. With me today are Keith Allman, President and CEO of Masco; and John Sznewajs, Masco’s Vice President and Chief Financial Officer. Our fourth quarter earnings release and the presentation slides that we will refer to today are available on our website under Investor Relations. Following our remarks, we will open the call for analyst questions. Please limit yourself to one question with one follow-up. If we can’t take your question now, please call me directly at 313-792-5500. Our statements today will include our views about our future performance, which constitute forward-looking statements. These statements are subject to risks and uncertainties that could cause our actual results to differ materially from the forward-looking statements. We describe these risks and uncertainties in our risk factors and other disclosures in our Form 10-K and our Form 10-Q that we filed with the Securities and Exchange Commission. Our statements will also include non-GAAP financial metrics. Our references to operating profit and earnings per share will be as adjusted, unless otherwise noted. We reconcile these adjusted metrics to GAAP in our earnings release and presentation slides, which are available on our website under Investor Relations. Finally, please note that we have accounted for our Windows and Cabinetry businesses as discontinued operations for all periods presented. With that, I’ll now turn the call over to Keith.

Thank you, Dave. Good morning, everyone. And thank you for joining us today. I’ll begin with some brief comments on our fourth quarter before I turn to our full year results and conclude with our thoughts on 2020. As Dave mentioned, our financial results have been restated to reflect Cabinetry and Windows as discontinued operations for all periods presented. Turning to slide four. In the fourth quarter, our topline increased 1%, excluding the impact of currency, driven by solid growth in North American plumbing and paint. In line with our expectations, operating profit was down, and our operating margin was 15.7% in the quarter. As we’ve previously communicated, this was due to higher input costs resulting from the full impact of tariffs and an increase in variable costs as compared to the fourth quarter of 2018. Our earnings per share for the quarter matched prior year at $0.54 per share. Turning to our segments, plumbing growth in the fourth quarter was led by our North American plumbing business, which grew 5%. This was driven by record sales for both Delta and Watkins. Delta experienced growth in trade, retail, and e-commerce in the fourth quarter, and Watkins continued to outperform the market with its industry-leading portfolio of products across price points and channels. In our Decorative Architectural segment, Behr continued to perform well with mid-single-digit pro paint growth and low-single-digit DIY growth. This was aided by increased year-end ordering that pulled forward sales from Q1 of 2020, similar to what we experienced last year. We saw good results from the recently reset Color Solution Centers, as well as other new innovations such as our easy-pour paint can and our new Behr Ultra Scuff Defense paint. Our paint growth was offset by lower sales in our lighting business, an industry that has been significantly impacted by tariffs. Lastly, for the fourth quarter, we made significant progress on our strategic plan by completing the sale of our Milgard Windows business for after-tax net proceeds of approximately $560 million and signing an agreement to sell our Cabinetry business for $850 million in cash at closing and preferred stock with a liquidation value of $150 million. We now expect the Cabinetry sale to close by the end of February. With the proceeds from the sale of Milgard and our strong free cash flow, we executed share repurchases of $456 million in the quarter and retired approximately $200 million of debt that was scheduled to mature in early 2020, further strengthening our balance sheet and reducing our interest expense. We were pleased with our fourth quarter performance, and it concluded a transformational year for Masco. Please turn to slide five. As we look back on the full year, we effectively navigated this challenging year while executing our strategy to transform Masco into a stronger, more stable, less cyclical, and higher return building products company. For the full year, sales grew 2% excluding the impact of currency, largely driven by pricing actions as we mitigated the impact of tariffs and other inflation. Despite the challenges of increased tariff costs and slower end markets, Delta, Hansgrohe, Behr, and Watkins each achieved record sales for the year. Delta gained share with bath fixtures at retail, and its Brizo brand in showrooms, while also expanding its line of voice-enabled faucets. Hansgrohe launched several new products early in 2019, helping to drive solid growth, particularly in Germany and China. Our innovation excellence was demonstrated at the recent kitchen and bath industry trade show or KBIS, as we earned two of the best of KBIS awards. Our Brizo brand won the KBIS Best of Show award for its new Kintsu bath collection, and our Hansgrohe brand won the KBIS Impact award for its Rainfinity shower system. Watkins, our leading spa business also had another outstanding year, driven in part by innovations such as its FreshWater salt system. This unique water care system provides a maintenance-free, disposable cartridge that uses fewer chemicals to provide a simpler and cleaner spa experience. Behr continued to perform well in 2019, driving high-single-digit growth in pro paint. Pro paint is a large growth opportunity for us. We will continue to invest in people and capabilities, along with our partner, the Home Depot, to gain share in the pro paint market. While we were pleased with our paint performance in 2019, the lighting category was one of the hardest hit by tariffs, and this impacted our results. The headwinds we experienced in lighting in the quarter will continue for the next three quarters as we exit certain private label skews and expect some inventory reduction to occur in the retail channel. As we outlined at our Investor Day, we believe that our performance in lighting will stabilize by the end of 2020, and we will be positioned to return to growth at that point. Wrapping up our 2019 performance, we delivered on our commitment to drive shareholder value as we increased earnings per share by 6%, executed our strategy to make Masco a better company for the long term by completing the divestitures of our Windows businesses, and signing an agreement to divest our Cabinetry business. We deployed over $1.2 billion of capital by returning approximately $900 million to shareholders through share repurchases, increasing our dividend for the sixth consecutive year, and reducing our outstanding debt by approximately $200 million to finish the year at a net debt to EBITDA of 1.7 times. With our effective capital allocation strategy and strong operational performance, we achieved a return on invested capital from continuing operations of 29% in 2019. Before closing the book on 2019, I’d like to thank all of our employees, especially those in the Cabinetry and former Windows businesses, for all their hard work and perseverance that made 2019 another successful year for Masco. Now, turning to 2020. I’d like to share with you our view of our markets. For the repair and remodel market, which is approximately 90% of our revenue, we expect market growth to be in the range of 3% to 4% in 2020, with growth accelerating in the second half of the year. For the paint market, a subset of the repair and remodel market for us, we expect the DIY paint market to be flat and the pro paint market to grow low to mid-single-digits. For the new construction market, which is approximately 10% of our revenue, we expect low single-digit growth as we have seen an improvement in both starts and permits, particularly in the single-family sector. As for our international markets, principally Europe, we expect a flat to low single digit growth environment. Based on these assumptions, we expect full-year sales growth to be in the range of 2% to 3%, excluding currency, margins to be approximately 16%, and earnings per share to be in the range of $2.35 to $2.55. With our strong balance sheet and the $645 million in after-tax net proceeds from the sale of Cabinetry expected to be received in February, we will continue our balanced capital allocation strategy to drive shareholder value. We will likely deploy $500 million to $600 million of the Cabinetry proceeds toward share repurchases shortly after closing. And with our expected strong free cash flow conversion of approximately 100%, we will look to deploy up to another $600 million towards M&A or share repurchases throughout the remainder of 2020, subject to market opportunities. Now, I’ll turn the call over to John to go over our fourth quarter, full year and 2020 outlook in more detail. John?

Thank you, Keith, and good morning, everyone. As Dave mentioned, most of my comments will focus on adjusted performance from continuing operations, excluding the impact of rationalization and other one-time items. Turning to slide seven, we finished the year on plan. Fourth quarter sales matched the prior year and increased 1% in local currency. Currency translation unfavorably impacted sales in the quarter at approximately $7 million. In local currency, North American sales increased 1% in the quarter, driven by pricing actions and volume growth in our plumbing and paint businesses. This was partially offset by lower volumes in our lighting business. In local currency, international sales decreased 1% in the quarter, driven by unfavorable mix, partially offset by pricing actions. We reported operating income of $257 million with operating margins of 15.7%. Operating profit was impacted by mix and unfavorable price-cost relationships and higher variable costs. For the fourth quarter, our EPS matched prior year at $0.54 per share. Please note that this performance is based on a normalized tax rate of 26% versus the previously guided 25% tax rate, prior to discontinued operations. Due to the move of Cabinetry and Windows segments to discontinued operations and a change in the tax rate, we have provided restated adjusted EPS numbers for 2018 and the first three quarters of 2019 in the appendix on slide 22. Turning to the full year 2019. Sales increased 1% and grew 2% in local currency. Currency translation unfavorably impacted the full year by $77 million. In local currency, North American sales increased 2%. This performance was driven by disciplined pricing actions across both segments, partially offset by lower volumes. In local currency, international sales matched prior year. While we experienced some international market softness in 2019, Hansgrohe continued to drive share gains in its home market of Germany and in China. Our SG&A as a percent of sales increased 10 basis points to 18.9% for the full year. And for the full year, operating income decreased $16 million or 1%, with operating margins of 16.5%. Lastly, our EPS increased 6% to $2.25 for the full year. Turning to slide eight. Our Plumbing segment grew 3% in the quarter, excluding the impact of currency, driven by strong growth in North America. Foreign currency unfavorably impacted sales by approximately $9 million in the quarter. North American sales increased 5% in local currency as we experienced improved demand from our wholesale, retail, dealer, and e-commerce customers. This growth was against an 8% comp in the fourth quarter of 2018. Growth was led by Delta as they achieved another record sales quarter through increased volumes across their product categories. Additionally, Watkins, our spa business continued to outperform by also achieving another record quarter with its innovative new products and industry-leading brands. Our international sales in the fourth quarter decreased 1% in local currency due to lower sales in Germany and Hansgrohe outpaced a difficult comp with sales growth of 7% in Germany in the fourth quarter of 2018. This was partially offset by strong growth in China. Operating profit in the quarter decreased $5 million due to higher variable costs, partially offset by incremental volume. Turning to the full year 2019, sales increased 2% in local currency. This solid growth was driven by record years at Delta and Watkins. North American sales grew 2% in local currency as a result of early and aggressive pricing actions taken to mitigate the impact of tariffs, offsetting lower volumes. Our International Plumbing sales matched the prior year in local currency as Hansgrohe’s solid growth in Germany and China was offset by softness in other regions. Full-year operating profit matched prior year due to a favorable price-cost relationship as we priced ahead of feeling the impact of tariff costs in certain instances, partially offset by higher spending, unfavorable currency translation, and mix. For 2020, we expect the Plumbing segment sales growth to be in the 2% to 4% range, excluding currency, principally due to our low growth expectations for the European Plumbing market. As a reminder, 35% of the Plumbing segment sales are outside of North America. We anticipate full year margins will be similar to 2019 as we experience the full impact of the List 3 and List 4 tariffs in 2020. We expect the tariff impact will be the greatest in the first half of the year, and we anticipate operating margins will be down roughly 100 basis points in the first half of 2020 before recovering in the second half of the year. Also, given current exchange rates, we do not expect currency to materially impact our 2020 revenue. Turning to slide nine, the Decorative Architectural segment declined 3% in the fourth quarter. This performance was driven by strong paint sales, which were more than offset by lower sales in our lighting business due to the loss of a portion of a private label business and inventory rebalancing with a key customer, which impacted volumes in the quarter by approximately $20 million. Behr’s solid mid-single-digit growth in Pro and low-single-digit growth in DIY products was aided by approximately $20 million of sales pull-forward from Q1 2020, similar to the pull-forward we experienced in the fourth quarter of 2018. Operating income declined due to lower volumes in lighting and an unfavorable price-cost relationship, driven by the impact of tariff costs and higher incentives, partially offset by lower spending. Turning to the full year 2019, sales grew 3%, driven by our pro paint initiative, as we achieved high-single-digit growth and continued to grow share with the pro. Growth was also aided by the acquisition of Kichler in March of 2018. This performance was partially offset by lower volumes in our lighting and builders’ hardware businesses, as a result of our disciplined pricing actions in 2019. Full-year operating income decreased 1%, principally due to lower volumes and increased commodity costs, partially offset by selling price increases and lower spending. In 2020, we expect low-single-digit growth in DIY paint and mid-single-digit growth in pro paint. We also expect revenue in this segment will be impacted by the loss of a portion of our private label program and inventory rebalancing at a Kichler customer. The revenue impact of these items will be approximately $15 million each in Q1 and Q2, and approximately $5 million in Q3. This volume loss and the full-year impact of tariffs will depress segment operating margins by approximately 300 basis points in Q1 before recovering in the balance of the year. For full year 2020, we expect sales growth in the segment will be in the zero to 2% range, with operating margins between 17% and 17.5%. And turning to slide 10. Our year-end balance sheet was strong with net debt to EBITDA at 1.7 times, and we ended the year with approximately $1.7 billion of balance sheet liquidity. Working capital as a percent of sales finished the year at 15.7%, an improvement of 10 basis points over the prior year. During 2019, we repurchased 7% of our outstanding shares for approximately $900 million and we increased our annual dividend by 13% to $0.54 per share. We took further action in 2019 to strengthen our balance sheet by reducing our debt by approximately $200 million. We initiated the plan to terminate and annuitize our U.S. qualified defined benefit pension plans. We should complete this plan by the end of 2021. This will reduce our ongoing pension expense and contributions once completed. Lastly, we expect the sale of our Cabinetry business to close in February. We expect net proceeds from the sale of approximately $645 million after taxes and expenses. Going into 2020, our disciplined capital allocation strategy is unchanged. We will continue to prioritize investment in our businesses to drive organic growth. We will balance acquisitions with the right strategic fit in returns with share repurchases, and we will maintain an appropriate dividend. Including the expected net proceeds from the sale of our Cabinetry business, we expect to deploy up to $1.2 billion for share repurchases in 2020, subject to market conditions. This activity would bring our expected 2020 average share count to between 265 million and 270 million shares. We generated $660 million of free cash flow in 2019 and we expect 100% free cash flow conversion rate in 2020. Lastly, for the full year 2020, we expect annual revenue growth of 2% to 3% with operating margins of approximately 16%. As Keith mentioned earlier, our 2020 EPS estimate is $2.35 to $2.55, which represents 9% EPS growth at the midpoint of the range. With that, I’ll now turn the call back over to Keith.

Thank you, John. 2019 was a dynamic and transformational year for Masco. We mitigated significant tariff headwinds faced by our plumbing, lighting, and hardware businesses. We continue to grow our plumbing segment with record sales at Delta, Hansgrohe, and Watkins. We continue to gain share in pro and DIY paint with our leading Behr brand. We simplified our portfolio with the divestitures of our Windows businesses and signed an agreement to sell our Cabinet business. We continue to execute on our capital allocation strategy. As we enter 2020, the fundamentals of our business in our core repair and remodel market are healthy. Consumers remain confident, and wages are growing. Home price appreciation is increasing. Housing stock continues to age. Existing home sales have improved, and household formations have steadily increased. With these favorable fundamentals and our continued focus on executing our strategy, coupled with our strong balance sheet and liquidity, we will continue to create shareholder value in 2020 and are well-positioned to deliver on our 2021 EPS target of $2.80 to $3 that we put forth at our Investor Day last September. With that, we’ll now open the calls up for Q&A.

Yes. Thanks very much, guys, and appreciate all the detail here. I guess, first question really relates to the margin guidance that you’ve given. I’m curious first of all, when you look at the Kichler business, I guess within Dec Arc, can you give a sense for what kind of a margin impact you think this private label program being discontinued at your retail partner? What that is representing and how much you think some of the margin guidance you’re looking for, particularly here in the first quarter is being driven by other impacts to the margin?

Yes. Steve, good morning. It’s John. I think, the margin impact from the loss of a private label business is relatively modest because it is indeed a private label program. I think, the bigger impact on the margin in the segment is due to absorbing the full cost of the tariffs here in the first part of the year.

Thanks. I would like to stay focused on the Dec Arc segment, specifically Kichler. As you assess the business, it’s clear that a lot has occurred, including the unfortunate timing of the tariffs following the acquisition. Additionally, ongoing issues in China related to the coronavirus are likely affecting your supply chain. I’d like to know if you could discuss how the coronavirus might be influencing your outlook. Also, have there been any adjustments made to your improvement plan for Kichler, considering the developments over the past three months since we last spoke? Has there been a shift in your strategic thinking regarding how to enhance the results in that business in light of the changing circumstances?

Stephen, this is Keith. I’ll address the coronavirus first. Our revenue from China is approximately 3% of our total revenue, so it's important to keep that in perspective. While China is crucial to our supply chain, we currently do not expect a significant impact on our performance due to the virus. The situation continues to evolve, but thankfully, as of this morning, none of our employees have contracted the virus. We have implemented several precautions, including travel restrictions, hygiene guidelines, and the cancellation of gatherings and meetings. A small part of our manufacturing operations, around 15% of our largest factory, began operations yesterday, although this is about a one-week delay related to the Lunar New Year. From a supply chain standpoint, our major suppliers are also beginning to ramp up their operations as workers return from the countryside. We are cautiously optimistic but aware that the situation is fluid. Demand in China remains low since 3% of our volume comes from there, and many retail outlets are still closed, with plans to reopen over the next ten days. Our sales teams are working from home, monitoring revenue and orders, and we have reserved premium freight options to maintain our delivery performance, especially in shipping products back to Germany. We are taking this situation seriously and have developed contingency plans, but at this point, we do not anticipate a major impact on our business. Regarding Kichler, the brand faced growth challenges in 2019 due to the overall lighting industry being heavily affected by tariffs. We maintained firm pricing and were proactive in addressing these tariffs, though we did lose part of our private label business. As John mentioned, one of our large customers is going through an inventory rebalancing, and we've outlined the expected effects for the quarter. These tariffs were unforeseen at the time of acquisition. In response to your question about changes to our improvement approach, we haven't made significant adjustments. We had a pre-established work plan to enhance our cost structure and total cost productivity, which we have already exceeded. We plan to continue this trend. To drive top-line growth, we need the right products and strong relationships in the industry. Kichler has a robust brand presence with multiple generations of loyal customers. We are concentrating on new products and have revitalized our product development process, having launched a new line in January that has received positive feedback. We have also revised our dealer programs to make them simpler and more incentivizing. Our Kichler team is committed to executing this plan. While there were volume challenges in 2019 that will likely persist through the first half of the year and into the early part of the third quarter, we expect to be on a solid growth trajectory as we move into 2020.

I wanted to follow up on the decorative side, just around that Q1 guidance for the 300 basis-point decline. It sounded like you’re saying that that’s largely reflective of the tariffs flowing through. And obviously, your full year guidance suggests that the margins will recover through the balance of the year. So, I guess, my question is more cadence-wise. Are you expecting kind of a steady improvement sequentially through the year, or is that margin improvement, kind of more weighted to the end of the year as you anniversary those tariffs? Thank you.

Let me give you a little bit of color here. So, if you think about how the tariffs impacted us starting in 2019 and how they phased through our P&L through the course of the tail end of 2019 and going into 2020. We have about $60 million of incremental tariff costs impacting P&L in 2019. We expect another incremental $90 million to impact P&L in 2020. Most of that $90 million should be in the first half of the year. If you consider that $60 million started to flow through our P&L, kind of the middle of the third quarter, and really hit us, the full effect hit us in the fourth quarter of 2020. So, we should experience the full impact in the first two quarters of the year. Then, it continued a little bit in the third quarter, and this should dissipate as we get into the fourth quarter of this year. We’ve implemented the pricing to mitigate the full $150 million of tariffs. But we’re also continuing to work on margin recovery efforts through cost-out opportunities, supplier negotiations, and looking at other resourcing opportunities that we may have. The one thing that I should point out is we might face a little bit of margin compression because what we are experiencing is cost recovery on these tariffs. So, we don’t have necessarily margin dropping to the bottom line. That said, we should expect to resume some margin expansion in the back half of the year once the tariffs work their way through the P&L. So, hopefully, that’s helpful to you.

It is. Thank you for that. And then secondly, just kind of bigger picture around Kichler. Just hoping you could elaborate a bit around kind of a longer-term growth plans? I mean, kind of how you envision this business positioned from a channel perspective, or what I guess needs to change that what you think would allow this business to kind of return to growth after you’ve moved past some of these near-term losses? Thank you.

I provided a similar response to Stephen’s question regarding specific events that have impacted our business, including tariffs, losses in our private label segment, and inventory adjustments by a major customer. As we see the effects of these tariffs and the private label losses address over the year, we expect our business to stabilize and return to growth. Our strategies focus on capitalizing on our strong brand and excellent relationships across channels with Kichler. Kichler stands out in the industry with its extensive presence across all channels, and we employ a multi-channel strategy. At its core, our strategy hinges on delivering quality products and exceptional service. We're implementing various initiatives, including new product launches and commercial programs aimed at driving incentives that align with the specific needs of the market. This approach is reminiscent of our experience at Delta, where we revamped our product development and ensured our offerings were optimized for demand. A notable shift in the lighting sector is the transition to e-commerce. We've established a leadership team, including several key players from Delta Faucet Company, who are now advancing our share in e-business at Kichler. Our focus spans all channels, including e-business, landscape, retail, and showrooms. This is a comprehensive strategy centered on commercial programs. It's important to reiterate that all our efforts at Masco prioritize productivity and cost efficiency, which will also apply to Kichler. We are performing well in this area, and our intention is to maintain this momentum. As I mentioned earlier, our strategy remains unchanged despite the challenges we've faced. We acknowledge the specific obstacles we've encountered, but we are confident that by the end of the year, we will be well-positioned for continued growth.

I wanted to see if you can elaborate a bit more on the incentives that you called out impacting paint profitability in the presentation. What are you seeing in terms of consumer reaction to these incentives? If you could just talk about maybe what’s changed in the industry in terms of how competitors are behaving with pricing incentives in paint?

Mike, I think there might be a slight misinterpretation. It’s incentives between ourselves and our retail partners; it’s not necessarily consumer-based incentives.

Understand. So just to clarify that, you’re saying that the actual price and incentives offered at the store have not necessarily changed? This is between you and large customers?

That’s correct. Yes. Largely due to volume rebates that we have with our major customers.

Great. In terms of the market share gains that we should expect going forward for the business overall, if I do just rough back of the envelope math for the end market assumptions overlaid to your business, I get a roughly 2% growth rate, and you’re calling for 2% to 3%. Is that the typical share gain that you’d expect, or is there something kind of impacting that that's preventing it from being larger?

No. The share gains we’re anticipating are affected by the fact that our pro paint business has grown into a higher dollar business. As we reach a larger scale, it's more challenging to gain market share at the same rate as we did when it was a smaller operation. However, we are continuing to invest in that business. Our channel partner, Home Depot, is also making investments in this area. We believe we have created a successful model to attract professional contractors to their stores to purchase paint, emphasizing one of the top quality brands in the industry. Together with Home Depot, we believe we have developed an excellent business model.

John, just a pick-up on the last question. If we think about the paint business, that pull forward into Q4, it looks like it was probably a couple of cents, and maybe that’s borrowing from 2020 by the same amount and a point of top line in that segment, I think. So, if you think about paint specifically, when you have DIY as a market flat; pro, low single to mid-single flat, you’ve got that one point headwind. Do you expect to perform in line then with the broader paint market, even with that comp headwind, or do you still think you can outperform those overall numbers?

Yes, Mike. To address your comments, I believe your calculations regarding the pull forward and its effect on the bottom line are mostly accurate. We are optimistic about our growth in both the DIY and pro segments and believe we can exceed market growth in both areas. Although we now operate as a half-billion-dollar business, our market presence remains relatively light, and we see potential for further gains in the pro segment. In terms of our DIY performance, due to our strong partnership with Home Depot and their impressive growth and customer attraction, we are confident that we can also surpass DIY market growth in 2020.

Thanks. Good morning, everyone. First question I just had, I just wanted to break down the tariff impact. And I guess, John, you’ve said earlier that you estimated there is about a $60 million impact in 2019 and incremental $90 million in 2020. I was just trying to get a sense for the offsetting actions to those headwinds through price, cost, and specifically productivity. I think, if you want to throw that in there, if you feel that that was either supply chain or other things that you did specifically to offset. I’m just trying to get a sense of the offsetting actions there to get to like a net headwind or such. How did you see that flow through in 2019, and how do you expect 2020 to shake out when you think of those offsetting actions?

In round numbers, Mike, I’d say, let’s call it 90% of our mitigation actions were through price. That was the biggest lever that we pulled in 2019. So, that leaves about 10% in terms of the cost of the tariffs mitigated through supply chain resourcing, negotiations with suppliers, and that sort of thing. We’ll continue to do that. The majority of our movement out of China is our existing suppliers that have established production in other low-cost countries, and we’ll be ramping that up. We’ll be moving some to, in some limited cases, to some new suppliers. But that’s a longer-term play for us. And it’s going to take a while to do that. So fundamentally, when you think about the mitigation, it was mostly price. We’ve put that through aggressively and early in 2019, and hence now with the combination of the timing of the tariffs and when they hit and, more importantly, the flow of inventory through our system into the P&L. That’s why we had that overhang and that $90 million headwind heading into 2020.

But, Mike, to add to Keith’s comments as we end 2020, we don’t anticipate facing a significant net headwind. We believe that through our pricing actions and the supply chain measures Keith referred to, we have adequately addressed the impact of tariffs.

Okay. That’s helpful. Thank you. Secondly, I just wanted to circle back to Kichler for a moment. And apologies, I know you’ve answered a bunch of questions. But I’m just trying to make sure I have some of the numbers right in how to think about the business as it is, by the end of this year. John, I think you said that private label and inventory rebalancing will each be $15 million in the first couple of quarters going to $5 million in the third quarter. Was that right?

Maybe just to be clear. Collectively, the private label and inventory rebalancing will be $15 million in each of Q1 and Q2. So, total impact in the year, Mike, of $35 million from both of those actions.

I was trying to understand the impact on the business after potentially experiencing a $15 million hit in the fourth quarter. This suggests a revenue impact ranging from $50 million to $100 million, or possibly $75 million, depending on developments in 2019. Additionally, you have mentioned various cost measures implemented to enhance the business. I wanted to gauge how you would assess the current margins or those anticipated by the end of 2020, in relation to your initial acquisition. Are you on track, slightly lagging, or perhaps even ahead, considering some internal initiatives and thoughts on further improvements in 2021?

Yes, Mike. So, with respect to the margins, we don’t break out margins by individual company. I can appreciate the question. As Keith mentioned in his comments a couple of minutes ago, we continue to work and successfully work on supply chain and cost-out initiatives at Kichler. Clearly, the volume has been a little bit more of a headwind than we would have anticipated when we bought the company. But that’s about as much as we can say on that topic.

Just sticking with lighting here. And I don’t mean to beat a dead horse. But, just from a broader industry perspective, I’m just curious, there’s been a number of headwinds obviously, and you guys have handled them fairly well. The question is, though, is there any concern that there’s something structurally changing in the lighting industry similar to maybe what we’re seeing in cabinets and flooring as it pertains to consumer preference that is creating a headwind here?

No, we don’t see it as a structural change. If anything could be seen as a structural change, it would be the shift to e-commerce. However, we’re observing this trend across many of our product categories. So, we don’t view it as a significant structural issue. It was certainly a notable change. When you consider that our industry largely relies on imports from China and the tariffs that have been imposed, this is more of a one-time occurrence rather than a fundamental change. It remains a crucial element of our remodeling process and is very design-oriented. What it takes to succeed in this industry involves understanding consumer preferences and design trends, along with a robust new product introduction process, and those factors haven’t changed. We understand how to compete in this space. The main change has been the tariffs that have been implemented, and we’re looking to move past that during 2020, after which we expect to return to a growth trajectory.

Okay. Thanks, Keith. And then, John, just on the SG&A front for $310 million in the quarter, that was up fairly meaningfully dollar basis and also as a percentage of sales. Can you just help us understand maybe some of the key drivers under that, please?

Yes. Sure, John. As you may recall, last fourth quarter is actually one of the lightest quarters we had in SG&A in a long time. So, maybe it’s more of a low SG&A comp that we are up against. The one thing that you may recall that we called out in the fourth quarter call last year as we did have a $4 million gain on a sale of a building, which did not occur, which would be a headwind against that comp. But I think it was more just extremely tight or low SG&A last year on kind of a one-off basis as opposed to anything else.

I wanted to clarify some of your margin forecasts. You mentioned a 300 basis-point headwind in the first quarter, primarily from the Decorative Architectural segment being significantly impacted by tariffs. However, I am trying to reconcile this with the price increases you've achieved. Are you suggesting that it's due to volume deleverage, or is there something additional at play? Is there a delay in your pricing in relation to the rising costs? Can you shed some light on this? Additionally, are there any benefits from lower raw material costs in your business or decreased transportation costs, or any other factors that could act as offsets that we should consider?

Yes, I have a couple of questions to address. Regarding the margin decline from the fourth quarter to Q1, several factors are at play. One significant factor is lower volumes, as we've mentioned losing part of a private label program. Additionally, the earlier demand in paint results in a $20 million drop, indicating lower volumes in Q1 within the Decorative Architectural segment, which contributes to a decrease in operating profit margin. Another element affecting margins is raw material costs, specifically tariffs, which impact cost recovery and drive margins down. On the positive side, we consistently focus on improving cost productivity. Specifically for commodity costs, the input costs for paint have decreased compared to last year. However, it's important to note that our paint business generally strives for price-cost neutrality over time, meaning there might be an effect on margins as prices and input costs adjust. I believe that covers everything. Did I address all your questions?

I’m trying to understand the situation with the paint, especially since in the first quarter of 2019, your comparisons were down by 7%, partly due to Kichler and a pull-forward from the previous year. I would have expected those factors to balance out, reducing the impact from the coding side and the Kichler business. However, I'm confused by your comment that tariffs are mainly affecting you. Are you saying that the tariff costs are what you're attempting to adjust prices for, and that this is leading to a loss of market share or business, which in turn is influencing your margin profile in the Decorative Architectural segment?

I may not have communicated clearly. However, I believe that in Q1, we will experience lost volume due to the programs we discussed, which will be the primary reason for the margin decline, followed by the impact of tariffs. Of the two factors, the loss of volume significantly affects the margins in Q1 more than the tariffs do.

That makes sense. And then, lastly for me is just who you’re losing share to in the lighting businesses? Is there perhaps another player that doesn’t source from China that’s advantaged post-tariffs? Because I was under the impression that everyone was kind of in the same sandbox, so to speak, in terms of the supply chain, or is it something else?

I believe the industry is experiencing a downturn. The effect of the tariffs has been felt across the entire sector. We haven't pinpointed any specific competitor that is gaining significantly more market share than others.

Can you give us, in 2019, what was North American Plumbing growth?

North American Plumbing growth was 2%, I think for the full year, Keith?

Is that all volume or is there pricing in there?

There was a little bit of pricing in there. Yes. I mean, if you consider the tariffs, actually a fair amount of pricing in there. We put in place to offset the tariff impact, Keith, probably in Q1 and Q2 of last year.

Okay. So, just to clarify, in North America, you don't anticipate any price changes in plumbing for 2020 based on the guidance you've provided?

Not much. Keith, there might be a little bit of it we put in, but not a ton. No.

Hey, guys. Can you give us a sense how we should think about the pace of buybacks as you lay that in, in 2020? And then, any update on the M&A pipeline?

I’ll address the share repurchase question, Phil, and then I’ll let Keith discuss the M&A pipeline. We are considering that a significant portion of the proceeds from the Cabinetry transaction will be utilized shortly after they are received. Throughout the remainder of the year, we plan to deploy the rest of the $500 million to $600 million that we previously mentioned. This will likely be more opportunistic, depending on market conditions. Keith, why don’t you provide an update on the M&A pipeline?

Phil, our pipeline remains solid, and we are actively working on it. Overall, I believe the M&A activity was somewhat slower in 2019 than I anticipated due to global trade uncertainty and fluctuating business valuations. However, it seems to have picked up recently. We are interested in several opportunities, most of which are relatively small. Seller expectations remain high, so we plan to be patient, but we have a solid pipeline.

Got it. And just one last question from me. Regarding the lighting segment, there are clearly some tariff issues and loss of market share. As we look ahead to 2021 and address these challenges, and considering what Keith mentioned about expecting a return to growth, should we anticipate that margins in the Decorative segment will rebound to the 18% to 19% range?

Well, we’re going to continue with that growth. We have a good drop down on that incremental volume. We’ll continue to drive that. So, I would expect that margins would be improving as we compare ‘20 to ‘21.

Phil, you may recall, we laid out 17.5% to 18% margins in that segment per our Investor Day in September. Our thought process around that has not changed since September.

First, I wanted to touch on the coronavirus again. Could you dig into that a little bit more? What portion of Plumbing Products have components sourced from China? And Keith, I believe you mentioned contingency plans as well. Just trying to understand what’s going on there. And it does seem like it’s intensifying. Could you discuss your current inventory balances and maybe an update of your supply chain, if plans actually remain shut for another week or two? Will that actually impact the product that you can get on shelves?

Our factories are gradually ramping up operations, facing about a week's delay compared to the usual delays we experience during the Chinese New Year. The pace of recovery is slower than expected. Currently, around 15% of our workforce is back at our largest plant, and we expect more to return in the next week to week and a half. Many retail home improvement stores and dealers are still closed but are expected to reopen soon, although the timeline is uncertain. Since China accounts for only 3% of our revenue, as I mentioned earlier, we don’t foresee it having a significant effect on our overall performance. We are considering using premium freight options to ensure timely delivery and maintain our high fill rates and lead times for customers. We are closely monitoring the situation and are primarily focused on supporting our employees through various procedures and policies. While the situation is fluid, we currently do not expect it to materially affect our results.

Okay. Thanks for that. And then, on R&R side, pretty slow in 2019. It looks like your guidance has R&R picking up a little here. Are you actually seeing activity start to recover early in 2020? And if so, do you think weather has had any impact on that? I’m just trying to understand how sustainable any kind of near-term green shoots are.

I think, the weather has been pretty good, all things considered, and what it could have been. We’re calling R&R at that 3% to 4% growth range, and we see it accelerating towards the back half. When we’re looking at the numbers in the economic indicators that we look at, generally there’s lag from those numbers to R&R. So, we feel confident in that 3% to 4% R&R with acceleration in the back half.