THE SHERWIN-WILLIAMS COMPANY

Transcription

1 THE SHERWIN-WILLIAMS COMPANY Important disclosures can be found in Appendix April 16, 2015 NOTES FROM THE CONFERENCE CALL John Morikis, President and COO Familiar pattern in today s release good momentum in domestic business, less favorable in non-us Sales up 3.5% year/year on higher volumes in Stores/Consumer o Unfavorable FX hurt by 310bps Gross profit up $66.5mm, margin up 120bps year/year to 46.2% o Margin from higher Paint Stores sales and better leverage from production/distribution volume SG&A deleveraged 50bps year/year due to investment in Lowe s business rollout Interest down $4mm year/year on retiring notes moving short-term borrowing Currency reduced pretax profit by $6.4mm Tax rate for 2015 expected in low 30s versus 31.2% last year Paint Stores Sales up 7.5% year/year Comps up 6.4% in 1Q on higher organic paint and equipment sales growth o Price/mix had negligible impact Led by Midwest, then Southeast, East, Southwest o Sales and volumes positive in every division Profit up 21% year/year on paint and equipment sales partially offset by SG&A increase Operating margin up 130bps year/year Latin America Sales down 8.9% due to FX headwind partially offset by price increases o Volumes slightly positive o FX hurt by 1390bps Profit down slightly year/year higher raw materials and unfavorable FX partially offset by price increases Currency hurt by $3.4mm Margin of 5.7% versus 5.5% last year Consumer Sales up 8.1% year/year on initial HGTV Lowe s paint program shipments Profit up $4.3mm year/year o Efficiencies offset by incremental SG&A spending on Lowe s program Margin up 10bps year/year Global Finishes Sales down 5.6% year/year o Currency partially offset by higher prices o Currency hurt by 690bps Profit down 16% year/year primarily on currency o Currency hurt by $4.4mm Chris Connor, CEO 1Q a good profit quarter, revenue below our expectation o Currency was worse than guidance o HGTV shipments were slightly lower than our expectation all timing Cleveland Research Company (216) E. Ninth St. Suite 2700 Cleveland, OH 44114

2 o Both combined for 150bp headwind versus guide No change to full year still bullish on sales and earnings Incremental pretax margin of > 32% Gross profit up 120bps year/year, EBIT margin up 60bps, pretax up 90bps o SG&A deleveraged by design to support Lowe s rollout Stores off to strong start in January, hit soft patch in February, regained momentum in March Comp growth overcame 283 Comex stores drag on comp o Converted stores showing improvement in DIY and residential repaint Opened 21 stores in 1Q, closed 14 redundant Comex locations o 4,010 locations 100 net new locations expected in 2015 Consumer group 8% sales increase and 10bp margin expansion o Sales flat ex-lowe s business [$27mm wholesale] o 16.4% margin on incremental sales on SG&A investment to support rollout Latin America and Global had soft start on o Both had positive volumes, but couldn t offset negative currency Working capital down 10bps despite Lowe s build o Ex-Lowe s build, would have been down 100bps year/year Incremental cash for Comex integration and Lowe s rollout offset by efficiency and income increase o Operating cash improved $28mm year/year Acquired 2mm shares at $ average price o Spent $575.5mm o Have 3.23mm authorization remaining Dividend of $0.67 quarterly, up 22% year/year Guidance Raw material outlook continues to evolve o Drop in petrochemical, monomer supply good, declining latex/resin prices in 2H15 o TiO2 price softened during 1Q on weak global demand, excess supply o Expect basket down 4-6% versus 1-3% prior Optimistic US residential demand will continue to strengthen Encouraged by signs of commercial recovery Latin America and Europe headwinds particularly in 1H 2Q sales up 6-8% 2015 sales up 7-9% Q&A Regional strength, why southwest behind? o Odd to see Midwest lead this time of year o Weather had an impact on Southwest don t like to talk about weather, but clearly had an impact Effect of oil/gas spend on construction/housing? o Spent some time with our leaders down in TX, not seeing/expecting any change in the business Cadence through the quarter? o February soft, continued into March, but picked up through the year o Cold south of the Mason-Dixon line (Southwest division) was the driver o Now that we re into 2Q, weather diminishes as an impact o Can see Paint Stores comp getting back to 7-9% through the year Feedback from pro customers? Spring paint season? o Expected a strong start to season, contractors very bullish high level of bid activity Contractors did see some delay in projects on weather within 1Q o Non-paint sales (spray equipment/related) very strong, also tied to strength they are seeing in the market 2

3 o Coatings association is expecting 5.6% growth in 2015, 1Q growth in 3% range 2014 growth per them was 2.8% - 720mm gallons, still 5% below where this cycle normalizes DIY market read? o Across country see shift toward pro and away from DIY supported by aging population o DIY piece of market is 40% of gallons, expect that to be a good year Market growth? New construction versus repair/remodel? o Repair/remodel recovered earlier, remains strongest growth category we ve seen o Strong new home sales activity (permits lagging) driving inventory down, expect robust building season with low inventory. New build expected to be a strong contributor this year. Thoughts on the housing cycle/recovery? o Like the pace of this recovery, not seeing huge year/year increases in residential or non-residential o At measured pace, could see 3-5 more years until peak of the market mm residential starts is normal, should be some catch-up required Non-residential demand? o 2014 signed contracts up 7% in total during 2014 office, bank, hotel/motel, manufacturing, etc o See growth across the country and specific categories we are targeting to grow faster than the market in total o Also saw strong non-res starts in 4Q14 those projects will be painted in 2015 o Occupancy rates driving construction in non-res, also will drive repaint. Spray equipment versus 6.4% Stores comp? o Spray equipment sales are extremely strong, double-digits is fair Sherwin-Williams sales/revenue that is non-paint? o Stores are 70-75% coatings, rest are sundries/etc o Consumer 60-70% coatings o All of Global Finishes is coatings Competitive activity in US paint market? o Typical for industry to drive volume through promotions this time of year. Not seeing anything atypical. o Prices are holding as you can see in our margin performance. Lots of activity, but prices fairly stable. o Last price increase was early January 2014 Price pressure? o Large jobs are always competitive, quote those accordingly o Raw materials are one component of selling price service, people are another component o No incremental pressure on price relative to what we have seen in the past. Paint Stores opening schedule? o Will get to 100 for the year, they typically push to the end of the year Moving pieces in non-us geography? o Expect non-us businesses to improve performance in local currency through 2015 o Latin America had volume up year/year in every country but Brazil. Feel better on prospects there. Confidence in margin improvement implied in 2Q? o 2Q guidance implies operating margin expansion driven by both gross margin expansion and SG&A leverage o Comparing against Comex integration o Feel very good on volume and business, and Stores/Consumer lead profit improvement 2Q/3Q Best incremental margin in the company from Stores/Consumer o FX headwind in 2Q/3Q, but non-us less important on total business (comes back in 4Q) Wage inflation in US stores? o Pretty standard for a long time given current market (2-3% annual increases) Organic sales growth assumption improving (7-9% with incremental FX headwind)? o Confident in range because there is less headwind in 2Q/3Q o Some FX headwind was assumed in 2015 guidance already Raw material through the year, down 10%+ in 2H? 3

4 o More relief on petrochemicals early in the year (down more on % basis versus rest of basket) o 2H assumed down 6%+ year/year within our full year down 4-6% guidance o TiO2 will be the linchpin to how much raws are down year/year in 2H, expecting price to slide lower through the year Gross margin range going forward? o Believe 44-47% is really % gross margin range in current environment SG&A leverage in 1Q? o Would have seen leverage in 1Q excluding the Lowe s investment (>$4mm spend) Moving pieces within 2015 guidance, why not change guidance? o Began year with pretty robust guidance. o FX is more of a headwind, but company is primarily a US-revenue story o Better raw material versus our plan o Driver is strong Stores/Consumer growth, other moving pieces offset each other Timing of HGTV load-in? o Pleased and confident with original projections o Some stores are shipping 1-2 weeks later than original plan, led to moving pieces between end March/early April HGTV brand message? o Color presentation at the end of the drive aisle and close to entries of the stores see it steps within stores Color and coordinating color is a compelling feature Lowe s associates will be trained to help customer make the decision on HGTV paint by May 1 o VAL and PPG remain in the department Merchandising, quality, and name association will be the drivers of volume in this segment going forward Plan for HGTV in Lowe s versus program in Sherwin-Williams? o Paint Stores HGTV program not a significant contributor to company revenue 15% of Stores is DIY, don t expect change o Advertising and upgraded color, product should aid business in both Lowe s and Sherwin-Williams stores o Stores HGTV business expected flat or slightly positive versus prior run rate Timing of HGTV costs? o Will have 12 months of SG&A, 9.5 months of sales o SG&A impact will be greatest within 1Q o 2Q has advertising and SG&A promotions, then you will see the impact flatten out 2Q maybe largest absolute spend, but 1Q the biggest relative impact year/year HGTV margin versus consumer segment average? o In middle of rollout May 1 national rollout and will be set in every store In 2/3 of stores now, starting to see excitement build Color center creating quite a store Program on track with expectations and off to a nice start o Program in calendar 2015 will be 1-3% sales increase ($220mm sales) o Program dilutive in 4Q14, slightly accretive in 2015, nice pop in operating margin in 2016 How Consumer up year/year in 1Q with Lowe s? o Manufacturing/logistics side had a very good quarter o Helped by incremental gallons they were producing, able to put some of those on our balance sheet Canada currency impact? o Was some headwind, don t break it out for Paint Stores Latin America raw material inflation? o Raws are priced in US dollars (TiO2/resins), de facto raw material increase in the region Global volume versus price within 1Q? o Gallons up slightly, some pricing in local currency Share repurchase? o Accelerated share repurchase program in 1Q, executed in February - $585mm 4

5 o Have been more cautious in 1Q in years past. This year, feel very good on cash generation and went ahead with it. Leverage/debt levels? o 1Q will be the highest debt level of the year o Looking to issue bonds in 2015 Interest rates were favorable letting 5-years mature in 2014 o Debt to EBITDA at year end expected at 1x Capex? o o Expect interest expense up % in 2016 versus 2014 Spend $ mm on converting Comex stores to Sherwin-Williams spend is $100k per store o Will get most done this year, Canada and some West Coast may bleed into 2016 Acquisitions outside US with strong dollar? o Strengthen architectural coatings in Latin America and Global Group as well discussing a couple ideas THOUGHTS AFTER THE CALL Key Points 1. Underlying demand appears strong, with strong pro paint backlogs and bid activity across residential repaint and commercial end markets, something we are also seeing in our work. Paint Stores comp can improve to the 7-9% range from the 6.4% in 1Q. 2. Raw material basket now indicated down 4-6% year/year in 2015 driven by resin declines currently and an expectation for easing in TiO2 price through the year. 3. Improving revenue/volume growth through 2015, upside gross margin potential, and less headwind from currency and Lowe s rollout 2Q-4Q suggest some upside to Sherwin-Williams s $ guidance (mean is $11.23). Conclusion Sherwin-Williams continues to be very well positioned to deliver upside 2015 profits driven by strong underlying volume growth, continued share gains, easing inputs/upside gross margin, and upside potential from the Lowe s program. These moving pieces look to be reflected in 2Q guidance that is above the current mean estimates and suggest some upside to 2015 guidance. Highlights Underlying demand looks solid/improving, share story remains positive. Sherwin-Williams results and commentary suggest continued strong underlying demand for the pro paint end market in The company pointed to strong pro backlogs and a high level of bid activity to this point in the season. The company also suggested Paint Stores comps could improve through the year, to the 7-9% range from 6.4% reported in 1Q. The residential remodel end market looks to remain the strongest end market in terms of growth for Sherwin-Williams, similar to the trend through Sherwin-Williams also spoke to an expectation for the new home construction end market (roughly 10% of total Sherwin-Williams revenue) to be a more meaningful contributor to growth through 2015 and within 2Q specifically. The view here is that soft starts in 1Q reflect builders working down inventory, with an expectation starts growth would reaccelerate in 2Q, a potential benefit to Sherwin-Williams business. The commercial market looks to be a key positive in terms of improving paint volume growth in 2015 versus 2014, as these longer-cycle jobs are beginning to flow to pro painter backlogs and current paint production/volume. Sherwin- Williams highlighted commercial new construction contracts up 7% in 2014 likely to be painted in 2015 and high occupancy rates, helping drive commercial repaint activity. 5

6 Continued solid execution by Sherwin-Williams and improving growth in the residential new construction and commercial end markets are all positive for Sherwin-Williams market share, which continues to look positive both within our work and relative to industry numbers. Sherwin-Williams indicated 2014 paint industry volumes look to have been 3.5% year/year versus Sherwin-Williams Paint Stores comp up 8.8% paint industry growth is currently expected up 5.5%, something that can support at least similar Paint Stores comp growth in 2015 as in The strength in underlying demand within the pro paint channel suggests Paint Stores can be an upside driver relative to Sherwin-Williams guidance through Some early positives in rollout of Lowe s program. The roll out of the HGTV Home by Sherwin-Williams program at Lowe s looks to be tracking in-line with expectations, with the full rollout planned for May 1. Sherwin-Williams indicated roughly 2/3 of Lowe s stores are currently loaded with the program. Initial feedback from our work has been positive, highlighting the Sherwin-Williams name being prominent both on the product and the color center display. Sherwin-Williams indicated positive early feedback on the program, most notably the color center. The company also highlighted encouraging early reorders for the business. Sherwin-Williams looks to be in position to gain additional share of the DIY paint category looking out to 2016 and beyond given a bit more focused effort in this area. We see the potential for Sherwin-Williams to gain share within Lowe s (hearing further review of the category likely) as well as opportunities with other key DIY accounts (hearing WMT evaluating a potential change). Raw material basket now seen down 4-6% year/year versus prior down 1-3%. Sherwin-Williams lowered its expectation for the paint industry raw material basket in 2015, now looking for inputs down 4-6% versus prior guidance for down 1-3%. Easing monomer prices look to be benefiting Sherwin-Williams at this time (benefit of lower oil flowing through). The company also expects some easing in TiO2 prices through the year. The cadence of inputs through 2015 suggests inputs could exit the year down 6%+ on a year/year basis and suggests some margin benefit could continue into Sherwin-Williams has historically talked about its gross margin in a 3-point band. Given the ease in inputs and expectation for strong volume through 2015, Sherwin-Williams now sees gross margin potential in the % range, the high end of which implies gross margin up 110bps year/year in 2015 (1Q was up 120bps). Guidance from a gross margin perspective does look to be relatively conservative at this point. Moving pieces within 2015 suggest upside to guidance remains in place. Sherwin-Williams held its sales guidance for 2015, reflecting confidence in the underlying demand within the business and some upside margin performance versus prior guidance. These moving pieces offset continued soft demand in non-us regions and some incremental pressure from currency. Incremental expenses around the HGTV rollout at Lowe s and out-sized currency pressure (non-us a bigger piece of business 1Q/4Q versus 2Q/3Q) were partial offsets within 1Q. Upside 2Q guidance and confidence in full year targets also look to reflect the lessening impact (or positive swing in the case of the Lowe s business) of these items through the year. 6

7 INITIAL THOUGHTS ON 1Q RESULTS Key Points 1. Sherwin-Williams reported 1Q EPS of $1.38, in-line with the midpoint of Sherwin-Williams s $ guidance (mean was $1.44). Reported 1Q results look to include the headwind from unfavorable currency. 2. Paint Store comp growth of 6.4% compares to the mean and our estimate of 7% and 4Q up 7.5%. Our work suggests some negative weather impact within 1Q and improving volume growth at the end of 1Q and into April. 3. 2Q guidance ahead of current consensus. Sales up 6-8% year/year in 2Q versus 1Q up 3.5% likely reflects HGTV load-in and some improvement in Paint Store comp growth versus 1Q. 4. Full year guidance unchanged, with sales guided up 7-9% (despite what looks to be a roughly 1-point incremental currency headwind). Conclusion Sherwin-Williams reported 1Q results in-line with guidance on sales a bit below expectations (incremental currency pressure the driver). We continue to see the company well positioned to post upside profits in 2015 driven by strong underlying volume growth, continued share gains, further gross margin benefit on raw material savings, and upside from the Lowe s program. These benefits look to grow through the year. Highlights 1Q EPS in-line with guidance, includes $0.06 hit from unfavorable currency. 1Q EPS reported $1.38, in-line with Sherwin-Williams guidance of $ The mean was $1.44. We were $1.45. o Reported EPS includes roughly $0.06 negative impact from currency. Sherwin-Williams total sales growth was 3.5% in 1Q, slightly below/at the low end of Sherwin-Williams s mid-singledigit guidance. o Organic sales growth (ex-currency) was up 5.4% versus 4Q up 6.9%. Paint Stores comp store sales were up 6.4% in 1Q versus 4Q up 7.5%. The mean and our estimate were up 7%. Consumer revenue was up 8% year/year in 1Q versus 4Q and full year 2014 up 2%, reflecting initial shipments of the HGTV by Sherwin-Williams program at Lowe s. o Full launch of the program expected May 1, revenue benefit likely to grow in 2Q. Organic growth slowed in Global Finishes (up 1% versus 4Q up 5%) and Latin America (up 5% versus 4Q up 7%). o Sherwin-Williams indicated some slowing in demand in non-us markets in addition to unfavorable currency impact. Gross margin in 1Q up 120bps year/year versus 4Q up 110bps (reported, includes both core progress and Comex improvement). o We are modeling full year reported gross margin up 130bps year/year (including legacy up 90bps, 40bp Comex benefit). SG&A dollar growth was 5% year/year in 1Q versus 4Q 3% and 2014 up 11%. Line deleveraged 50bps year/year. o Sherwin-Williams has guided to some SG&A leverage in Addition of Lowe s program volume through 2015, better revenue growth implied in guidance suggests this improvement is achievable. Sherwin-Williams repurchased 2mm shares during 1Q versus 1.6mm in 4Q and 6.9mm in all of Q guidance ahead of the mean, 2015 sales guidance maintained despite incremental currency pressure. Sherwin-Williams sales guidance up 6-8% versus 1Q up 3.5% likely reflects benefit of Lowe s program load-in (launches May 1) and some improvement in Paint Stores comp growth from the 6.4% in 1Q sales growth guidance of 7-9% maintained despite what looks to be 1 point of incremental currency pressure since Sherwin-Williams guided in January. o Brazil currency down roughly 15% since 1/31, 6% of sales o Euro down 5% since 1/31, < 5% of sales 7

8 APPENDIX Disclosures: We, Eric Bosshard, CFA, Mark Herbek, CFA, Omarr Aleem, and Tom Mahoney, CFA, certify that the views expressed in the research report(s) accurately reflect our personal views about the subject security(s). Further we certify that no part of our compensation was, is, or will be directly or indirectly related to the specific recommendations or views contained in the research report(s). The analysts responsible for the preparation of this report have no ownership stake in this company. Cleveland Research Company provides no investment banking services of any type on this or any company. Proprietary research and Information contained herein which forms the basis for findings or opinions expressed by Cleveland Research Company may be used by Cleveland Research for other purposes in the course of compensated consulting and other services rendered to third parties. The information transmitted is intended only for the person or entity to which it is addressed. Any review, retransmission, dissemination or other use of, 8

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