MAS Stock | Masco Corp Q2 2021 Earnings Call

Good morning, ladies and gentlemen. Welcome to Masco's second quarter conference call. My name is Dorothy and I will be your operator for today's call. As a reminder, today's conference call is being recorded for replay purposes. To ask a question, please press star then the number one on your telephone keypad. To withdraw your question, please press the pound key. I will now turn the call over to David Chyca, Vice President, Treasurer and Investor Relations. You may begin. Thank you, Dorothy, and good...

Good morning, welcome to Masco Corporation's 2021 second quarter conference call. With me today are Keith Allman, President and CEO of Masco, and John Snovice, Masco's Vice President and Chief Financial Officer. Our second 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 risk and uncertainties that could cause our actual results to differ materially from the forward-looking statements. We've described these risks and uncertainties in our risk factors and other disclosures in our Form 10-K and 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. With that, I'll turn the call over to Keith.

John, thank you, Keith, and good morning everyone. As Dave mentioned, my comments today will focus on adjusted performance, excluding the impact of rationalization and other one-time items. Turning to slide seven, we delivered another exceptional quarter as we capitalize on strong consumer demand, resulting in continued growth and increased backlogs. As a result, sales increased 24% with currency and net acquisitions each contributing 3% to growth. In local currency, North American sales increased 15%, or 12% excluding acquisitions. Strong volume growth in North American faucets, showers, and spas led this outstanding performance. In local currency, international sales increased a robust 50%, or 49% excluding acquisitions and divestitures. Gross margin was 36.3% in the quarter, up 50 basis points as we leveraged the strong volume growth. SG&A as a percentage of sales improved 10 basis points to 16.2% due to our operating leverage. During the quarter, certain expenses such as headcount, marketing, and travel and entertainment increased as planned. We expect SG&A as a percent of sales to increase in the third and fourth quarters as these costs normalize. We delivered strong second quarter operating profit of $438 million, up $94 million or 27% from last year, with operating margins expanding 60 basis points to 20.1%. Our EPS was $1.14 in the quarter, a 34% increase compared to the second quarter of 2020, due to volume leverage, lower interest expense, and lower share count. Turning to slide 8, plumbing growth accelerated in the quarter, with sales up 53%. Currency contributed 5% to this growth, and acquisitions net of divestitures contributed another 4%. North American sales increased 47% in local currency, or 41% excluding acquisitions. Delta led this outstanding performance, delivering another quarter of robust double-digit growth with its strong brand recognition and market leadership. Delta continues to drive strong consumer demand across all its product categories and channels. Watkins Wellness also significantly contributed to growth in the quarter, as both demand and our backlog remain strong. International plumbing sales increased 50% in local currency, or 49% excluding acquisitions and divestitures. Hansgrohe delivered robust growth as demand continues to improve across Europe and numerous other countries. Key markets of Germany, China, UK, and France all grew strong double digits in the quarter. Segment operating margins expanded 230 basis points to 20.6% in the quarter, with operating profit of $274 million, up $115 million from the prior year. This strong performance was driven by incremental volume, favorable mix, and cost productivity initiatives, partially offset by an unfavorable price-cost relationship and higher spend on items such as travel and entertainment, marketing, and growth initiatives. During the quarter, we also completed the divestiture of Huppe, a small shower enclosure business based in Germany. Huppe's sales were approximately €70 million in 2020. This transaction closed on May 31st, and net proceeds were not material. Given our second quarter results and current demand trends, we now expect plumbing segment sales growth for 2021 to be in the 22% to 24% range, up from our previous guidance of 15% to 18%. Finally, due to our improved sales outlook, we are increasing our full year margin expectations to approximately 18.5%, up from our previous guide of approximately 18%. Turning to slide 9, Decorative Architectural declined 5% for the second quarter, or 6% excluding the benefit from acquisitions. The DIY paint business declined double digits in the quarter against a healthy high teens comp, due to moderating demand and raw material supply tightness, as resin plants affected by storms in the Texas Gulf Coast region in the first quarter continue to face production challenges. We expect these raw material headwinds to persist in the third quarter and now anticipate our DIY paint business to be down low single digits for the full year. To help mitigate these challenges, we are working with our existing suppliers and qualifying new sources for materials to meet the demand of our customers, which remains strong. I want to thank our supply chain teams, which have done an outstanding job managing through these challenges. Our pro paint business delivered strong double-digit growth in the quarter, as consumers are increasingly willing to allow professional paint contractors in their homes. We expect demand in this channel to remain strong and now anticipate low double-digit growth for the pro paint business for the full year, up from our previous expectation of high single digits, as pro paint contractors' order books continue to grow. Our builders' hardware and lighting businesses each delivered growth in the quarter as they continue to capitalize on increased consumer demand. Segment operating margins were 22.1% and operating profit in the quarter was $188 million, due to lower volume partially offset by cost productivity initiatives. For full year 2021, we now expect Decorative Architectural segment sales growth will be in the range of 2% to 5%, down from 4% to 9%, due to lower than expected second quarter sales and persistent raw material constraints. We continue to expect segment operating margins of approximately 19% as productivity initiatives and pricing help offset higher input costs. Turning to slide 10, our balance sheet is strong, with net debt to EBITDA at 1.3 times. We entered the quarter with approximately $1.8 billion of balance sheet liquidity, which includes full availability of our $1 billion revolver. Working capital as a percent of sales, including our recent acquisitions, was 16.9%, an improvement of 120 basis points over prior year. As we discussed last quarter, we determined and annuitized our U.S. qualified defined benefit plans in the second quarter and had an approximate $100 million final cash contribution to the plans to complete this activity. This removes approximately $140 million of pension liabilities from our balance sheet and will benefit our free cash flow by approximately $50 million to reduce cash contributions starting in 2022. Also, we received approximately $166 million from the redemption of our preferred stock related to the recent sale of our former cabinet business. Finally, as Keith mentioned earlier, as of today we repurchased 13.1 million shares in 2021 for $750 million. We expect to deploy an additional $250 million for share repurchases or acquisitions in the remainder of this year. Collectively, these actions demonstrate our confidence in our business and our commitment and ability to further strengthen our balance sheet while aggressively returning capital to our shareholders. Turning to our full year guidance, we have summarized our updated expectations for 2021 on slide 11. Based on our second quarter performance and continued robust demand, we now anticipate overall sales growth of 14% to 16%, up from 10% to 14%, with operating margins of approximately 17.5%, up from 17%. Lastly, as Keith mentioned earlier, our updated 2021 EPS estimate range of $3.65 to $3.75 represents 19% EPS growth at the midpoint of the range. This assumes a 252 million average diluted share count for the full year. Additional modeling assumptions for 2021 can be found on slide 14 in our earnings deck. With that, I'll turn the call back over to Keith.

In order to ensure that everyone has a chance to participate, we would like to request that you limit yourself to asking one question and one follow-up question during the Q&A session. To ask a question, please press star then the number one on your telephone keypad. To withdraw your question, press the pound key. Your first question comes from the line of Matthew Valley with Barclays.

Morning, everyone. Thank you for taking the questions. I could start on, I guess, DIY coatings. It sounded like you're attributing the reduction in the revenue guide more so to supply chain than to a real change in your demand outlook. I think you said sell-through was better than sell-in. So if you could just provide a little more color on that. I guess, have you found that demand in DIY specifically is really not that different than what you previously thought, or do you think the consumer is pulling back a little bit more than expected there as well?

Understood, really helpful color there. Thank you for that. The second one is on a similar topic, but just thinking about raw material constraints broadly. It sounded like it really did constrain your ability to build inventory beyond just paint. If I heard you correctly, perhaps paint was most acute, but I'm curious if you could outline kind of where else beyond paint that you think demand may have been running ahead of what you were able to produce, and maybe any color around the timing of when you think you can catch up from a production perspective.

Great, well thank you for the color.

Our next question comes from the line of Susan McClary with Goldman Sachs.

Thank you, good morning everyone. My first question is around, you know, you mentioned that as a result of some of the supply chain issues that you are seeing inventories that are obviously you know continuing to fall and are really lean in the channel. Can you give us some sense of what this means in terms of your ability to get those inventories back up, and is it something that potentially could kind of bleed into early 2022 now? As you think about all the headwinds that are out there, it's difficult to prognosticate on the future. We've seen more than just the Texas Gulf issue that we had in resins; there was a plant explosion as I mentioned. But I would tell you that we intend over the back half of the year to get our inventory back in shape. Okay, all right. My next question is around the margins in the plumbing segment. You know, you've delivered about 20.5% or so in the first half of the year there. The guidance though implies that the second half will come down relative to the first half. Understanding that you've got some price-cost headwinds in there and things, but can you just give us some more color on how we should be thinking about that relative step down, and any thoughts on third quarter versus fourth quarter in there and some of those trends?

Yes, John, maybe I'll take this one. So you're right, you know we obviously delivered very strong margins here in the first half of the year and then in the second quarter as well. Anyway, you know given our guide, it does imply a little bit of a step down in margin in the back half of the year. You know, we're pleased with how we've executed so far, but as we mentioned on previous calls, we do need to put the money back into the business in the form of investments. They'll take the form of travel and entertainment as I mentioned, but they'll also take the form of some growth initiatives. And you may recall, in some of our prior calls we said that we thought in 2020 that we may have delayed as much as $40 million of investment spend just to make sure we appropriately contain costs as we were going through the pandemic. And so it is; we see things begin to improve here significantly. You know, we continue to expect that some of that spend will return, and as I mentioned in my remarks, some of that spend actually started to return in the second quarter as we began to make some investments in marketing and growth initiatives. So we believe a lot of that spend will start to come back in the second half of the year. And that will take additional investment in our leading brands, some of the innovation that Keith mentioned in his prepared remarks, in service to ensure that our customers are in full supply of our products. And so we think that will also contribute to future growth of the business to better meet our customers' needs. At the same time, as we kind of alluded to in prepared remarks, there's going to be a little bit of a price-cost headwind as we go into the back half of the year. We've always talked about a little bit of a lag in getting price and cost flowing through our P&L, and generally in the plumbing segment it's about a two-quarter lag. And so that's the second piece that will impact the margins in the back half of the year. So those two: a little bit of incremental spend and then also that price-cost lag. That said, we are very confident that we will be price-cost neutral as we exit the year.

Okay, that's very helpful color. Thank you and good luck.

Thanks. Your next question comes from the line of Ken Zeener with Key Bank.

Good morning, everybody. So amazing environment you guys are operating in. Could you talk to, obviously there was a larger coatings company that reported. Is there a way for you to talk to or quantify how supply slash inventory is affecting your coatings business, whether it's DIY or pro? And then, are you seeing because of those constraints, are you seeing channel shifts at all within the pro, perhaps because of those type of constraints, from you know limited availability of coatings?

Yeah, Ken, the only thing I guess to add to Keith's comments is, you know, specifically the pro, we'll continue to invest in that pro initiative. We think that's a really strong growth driver for us over the course of the next several years, and we and our channel partner The Home Depot look to continue to invest to grow the pro paint business.

Yeah, just sticking with that on a simple question. It seems like there might be higher margins from pro versus DIY. And could you kind of describe, it seems like these paint initiatives, I know you always have them, but this scuff I think is how you described it. I remember when Behr did the primer and paint, you know, one coat that was quite a leadership introduction. Do you think these latest, like this stuff and some of the pro stuff, is really able to pull in more demand on that pro due to the quality, you know, compared to perhaps other competitors?

Thank you. Your next question comes from the line of Mike Dahl with RBC Capital Markets.

Morning, thanks for taking my questions. Keith, John, I just wanted to, you know, first a quick follow-up along the same lines of kind of the cadence that was asked about margins. I guess aside specifically with respect to Dec Arc, you know, is the thought, given you know some of the supply constraints you're talking about, that 3Q ends up looking a little similar to 2Q and then a bit of a rebound in 4Q? Or should we expect you know more even performance between 3Q and 4Q because it seems like overall the back half is expected you know plus or minus flat in that segment?

Okay, thanks. My second question is on capital allocation. It's great to see that the buyback and the increased guide. It does seem like just broadly speaking there's been an uptick in M&A. I was wondering if you could comment about, just specifically in your segments, there it seems like there may be some assets that shake loose. What are you seeing in the pipeline and what are you seeing in terms of competition for deals? Because it seems like right now your guide is still predicated mostly on buybacks.

Yeah, Mike, maybe just a couple extra comments to supplement Keith's. You know, I would say that the three acquisitions that we did at the end of last year, they're all on plan. I mean, they're working, the integration has gone well, the interaction with our existing businesses have gone very well, and so they're right on the business case. We're very, very pleased with those results. Maybe, you know, it keeps us talking about there's a lot of activity, the pipeline is robust. And part of the reason we've been playing at the lower end, the smaller bolt-ons, is we see better value down there at this point. As Keith mentioned, very, very robust pricing in some of the larger transactions that we've seen in the industry, and so we just think there's better value at the lower end of the middle market right now, and so we're going to continue to play down there, I think.

Okay, good to hear. Thank you.

Our next question comes from the line of Phil Ing with Jefferies.

Hey, good morning everyone. I guess a bigger picture, looking at 2022, you do have tougher comps, certainly a lot of favorable secular drivers. Do you see your growth algorithm returning back to that mid-single digit range for the overall company next year? And how do you think about growth in your DIY paint business next year?

Any color on the outlook for DIY next year?

Yeah, Phil, I guess from my perspective, I think more of a low single digit growth for DIY, you know, because of the trends that Keith just cited. I do think that there's a good fundamental underlying demand out there driven by these trends, and so returning to that kind of pre-pandemic, which we've been regarding, you know, low single-digit growth for DIY is what we probably expect for next year.

And then any color on how your channel is performing? We've seen some data points out there that suggest retail might be seeing some normalization of the trends after a pretty strong year and perhaps a pickup in wholesale. Just curious what you're seeing out there in terms of the channels and what that means for Masco, appreciating you're very diversified.

Yeah, so maybe a little bit more color to Keith's comments. I think you know, demand probably, strong growth spread has been a little bit stronger on our trade side of our business, partly because if you think about the second quarter last year, most of those outlets were closed, and so that growth here in the second quarter has been quite strong. So maybe just a little bit more color there for you.

Okay, super helpful guys.

Our next question comes from the line of Deepa Raghavan with Wells Fargo Securities.

Hi, good morning everyone. Thanks for taking the question. I'll start off with a broad question. As things start to return to normalcy post-COVID, especially in the last month and a half or so, any trends or end market that surprised you to the positive or perhaps underperformed your expectations? You can start there.

Okay, any trends that underperformed your expectations?

You know, I'd say, Deepa, a couple things that continue to trend favorably for us: the demand for spas has been consistently strong over the course of the last several quarters, and that demand continued here into Q2. So we've got good look for the balance of the year at that business. And then even like we just mentioned, our North American trade plumbing business was extremely strong in e-commerce as well. Those trends continue to remain very strong for us, so we're very pleased with how the businesses are performing pretty much across the board here in the second quarter. In terms of on the downside, DIY paint was a little lower than we had thought. There were some significant supply chain constrictions that we didn't anticipate, but our pro paint was stronger than we expected. So when we look at, say, we're going to finish '21 compared to '19 in paint, we're still up mid-teens, so it's healthy, demand is strong, but I would say DIY paint was a little lighter than I thought it would be.

Got it. My follow-up is on your price cost equation. How much of this inflation that you're talking about in 2021 are you going to take into 2022 given the lag? Should we think about price cost heading into 2022 turning positive early 2022? Am I right in thinking that way? And how much is a better quantification of how much inflation you're carrying into 2022 if you snap the line here on inflation? Thanks.

I think the main point we'd like to make and leave with you is price cost neutrality at the end of the year. And by that I mean that we will have actions in place, productivity improvements, working with our suppliers to drive costs down, material substitutions, and of course price. We will have that in place at the end of the year that matches the inflation that we're currently seeing. So to your point about snapping the line at the end of the year, we'll be price cost neutral.

Got it. That's pretty helpful. Thanks so much.

Our next question comes from the line of Keith Hughes with Truist.

Thank you. Within decorative architectural products, could you just comment on the performance of Kichler and Liberty Hardware and any kind of growth number you're seeing from them in the quarter and expectations for the second half?

Yeah, Keith, both Liberty and Kichler grew in the second quarter. So they're continuing to turn the corner as we laid out at our Investor Day in 2019. Particularly for Kichler, we kind of identified 2020 as the year for it to return to growth, and that's exactly what's going on in that business through the end of the second quarter. So we feel good about how Kichler and Jay are driving that business, and we're pleased with that. As we look in the back half of the year, you may recall that on our third quarter call last year we did cite the fact that Liberty had a very, very strong quarter, and so they're going to be up against some tough comps as they go into the back half of the year. That said, the team down at Liberty is looking to continue to drive that business and we're pushing them for growth. So we'll continue to see how that plays out, but we do know that they've got a very tough comp here in the third quarter coming up.

Okay. And the final question, I know we talked about inflation a lot, but if you, based on your expectations right now in '21, if we add up all the pricing you've got, all the raw material replacement, you're saying well price cost in dollars in '21 be negative. I know the run rate sounds like it's going to be imperative here, but what about for the full year?

Yeah, Keith, I would guide you to think that we will be negative, because as we've been saying, we think we'll be price cost neutral toward the end of the year. So I think we've got a little bit of price cost to absorb here in the back half of the year before we get to that neutral position. And so because of that and because of what we experienced in the second quarter, we will be price cost negative for the full year.

Okay, thank you.

Our next question comes from the line of David McGregor with Longbow Research.

Yes, good morning everyone. You mentioned the investment back into the product and into the marketing, and I'm just wondering on DIY as we head into a period of tougher compares, how are retailer expectations evolving at all with regards to your level of promotional channel support?

Okay. Second question, just with respect to pricing, how much pricing should be achievable I guess through new product introductions? It sounds like you've got a pretty substantial new product introduction calendar lined up here. Just wondering how much pricing you should be able to get from that as opposed to price increases on legacy product.

Our next question comes from the line of Derrick Shamol with Luke Capital.

Great, thanks for taking my question. I'm just curious on the pro trade side, you know, it may be a little bit more qualitative, but is your sense that that segment is back to quote unquote normal levels given the constraints of the pandemic last year and homeowners hesitant letting contractors enter their homes?

Yeah, it feels to us, Derek, like it's at normal levels and it's continuing to grow. That's what we'd like to see out of that business, and so we feel like we're in really good position to continue the growth of that business as we continue to invest in feeding the street and relationships with contractors and getting more share wallet with existing contractors. So we feel really good about how that growth is developing here.

Okay, thanks. And then just on walk-ins, just given the strength that you saw in the quarter, you had headwinds last year given the production issues in Mexico and some of the regulations that the government was putting in place there due to COVID. Just any color on if you're back to normal, it seems like you are, and just the capacity in Watkins and what the plan is there, just getting the strength in the business.

Our next question comes from the line of Adam Bomb Guardian with Zellman.

Hey, good morning. Thanks for taking my questions. Just curious on the paint side, raw materials wasn't a major call out this quarter. How impactful were higher raw materials in 2Q and is the way to think about it that the back half is going to be where you feel the brunt of the increases?

Yeah, so there was a modest headwind in Q2, but the more impactful part of the price cost relationship will be felt in the back half of the year, Adam, on that one. Because there is, I think we keep mentioning, continuing escalation in costs, not only in the resin side but on TiO2 and packaging and transportation and logistics has been going up. So there's a lot of cost pressures that we're seeing there. But as we continue to say, we do think that we'll continue pricing conversations and we do believe we can exit the year at a price cost neutral level.

Got it, thanks. And then just sticking with paint, you gave last quarter in Q1 DIY was up in the teens, you kind of talked about double digit declines in 2Q. Can you give us what that looks like year to date just so we can kind of forecast for the back half?

Okay, thanks.

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

In the decorative architectural segment, curious on the sell-in expectations in the back half of the year. I know Keith commented you thought you'd make progress on inventory in the back half, but do you expect to ship in more? And how does that link between your ability and the demand from your retail customers to bring in more inventory?

So does the net of that mean that you commented that the sell-in was less than the sell-through in the second quarter, their path for that to reverse in the back half of the year or for you to make that up? Or what would you expect in terms of the relationship between those two?

That's helpful. And then secondly, in terms of the sell-through momentum in paint for the back half of the year, is the expectation that it looks similar to the experience of 2Q or that it improves relative to 2Q? How should we think about that?

Thank you.

Our next question comes from the line of Stephen Kim with Evercore ISI.

Yeah, thanks guys. I just want to clarify one thing with respect to your comment about sell-through being a little bit better than sell-in. You know, typically when you've got supply shortages and lack of inventory on the shelves, there's a sense that demand is materially better than what you were able to provide. But you actually said that you thought that demand had weakened in DIY more than you had thought. So I was curious as to how you know that demand moderated if you didn't have actually enough product to sell. And so you feel like you could have sold more if you had more product? You're trying to reconcile those two. Was it that you had an inventory decline particularly severe in your most popular categories but then in some other SKUs you simply undersold your expectations? Just trying to understand that a little bit better and where you think the customers actually bought if they didn't buy your product because it seems like these are industry-wide supply chain challenges.

Okay, that's clear. Thank you for that. And then secondly, Keith, you talked about how there's a lag historically to home price appreciation into R&R demand. But clearly if there's any one particular metric in the housing market that has completely blown away any historical comp, it is the home price appreciation, the rapidity of it, the abruptness of it, and the magnitude that we've seen already. And I'm curious as to how you think the impact on R&R may be different as a result of this abruptness and magnitude. Do you think that it may manifest itself a little bit more quickly? Do you think it may manifest itself more at the high end or certain large ticket versus smaller ticket? Just wondering if you could give us some color on how you're thinking about that now.

Great, appreciate it. Thanks guys.

Your last question comes from the line of Michael Rieholt with JPMorgan.

Hi, thanks. Appreciate you squeezing me in. Clearly an interesting quarter. I was curious, a lot of focus on the paint side. I was hoping to get a little bit more breakout of the North American plumbing business. And if you could talk to, I thought if I missed this earlier in the call, talk to the trends that you've seen in retail, you know, maybe things closer to the DIY spectrum versus wholesale channels, and how the trends have progressed there, maybe comparing it to the DIY and pro in paint.

Okay, I appreciate that. Maybe just a second question to take a step back. Something maybe you could just give us a sense of e-commerce as a percent of revenue across your two different segments. Obviously it lends itself a lot more to the plumbing side, decorative and in particular paint, a heavier product maybe more difficult to ship. But maybe just give us a state of where you are in both segments and where you think you might be able to take the business over the next two or three years.

Yeah, Mike, it's John. And you're right, e-commerce has been a good growth vehicle for us over the course of the last several years, and actually it's grown quite significantly. So if you think about 2019, our e-commerce sales as a percent of our total sales were roughly five percent. And in 2020, that grew nicely. We finished 2020 at about nine percent. And if you break that down by segment, our plumbing product sales were roughly 12 percent on the e-commerce platform, and as you might expect, a little bit lower than that in the decorative architectural segment, about four percent, because of all the things you cited: color selection is a challenge for people still to order paint online. But I would say that the Behr team has done a nice job of investing in shipping and distribution and fulfillment, so that's not going to be a limiter to our ability to transact online. It's more of the consumer choosing to select the color online than anything else. And as we look forward, we think we are well positioned to continue to grow our e-commerce presence. Because if you consider plumbing products, they are packaged perfectly to ship onesies to consumers as they order their faucets or shower heads online. So we think we're in a great position to do that. The folks down at Delta have done a great job of adding the capability at Jackson distribution centers to fulfill online. So we feel really good about how we are set up to serve plumbing growth going forward. And to the extent that paint continues to become more sold online, we are well positioned to continue to fulfill there as well. So we really like how we're set up as this trend continues to grow here in North America.

Great, thank you.

Ladies and gentlemen, you may now disconnect.