Fortune Brands Home & Security, Inc.

Good afternoon. My name is Jason, and I will be your conference operator today. At this time, I would like to welcome everyone to the Fortune Brand second quarter 2020 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question at that time, please press star, then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key. Thank you. I would now like to turn the call over to Mr. Brian Lance, Senior Vice President of Communications and Corporate Administration. You may begin your conference call.

Good afternoon, everyone, and welcome to the Fortune Brands Home and Security Second Quarter 2020 Investor Conference Call and Webcast. Hopefully, everyone has had a chance to review the news release issued earlier. The news release and the audio replay of the webcast of this call can be found in the Investor section of our FBHS.com website. I want to remind everyone that the forward-looking statements we make on the call today, either in our prepared remarks or in the associated question and answer session, are based on current expectations and market outlook and are subject to certain risks and uncertainties that may cause actual results to differ materially from those currently anticipated. These risks are detailed in our various filings with the SEC, such as our annual report on 10-K and our most recent 10-Q. The company does not undertake to update or revise any forward-looking statements which speak only to the time at which they are made. Any references to operating profit, earnings per share, or cash flow on today's call will focus on our results on a before-charges-and-gains basis unless otherwise specified. With me on the call today are Nick Fink, our Chief Executive Officer, and Pat Hallinan, our Chief Financial Officer. Following our prepared remarks, we've allowed some time to address questions that you may have. I will now turn the call over to Nick.

Thank you, Brian, and thanks to everyone for joining us today. We hope you and your loved ones are all staying safe during these extraordinary and challenging times. I'm very pleased that we delivered strong sales and profit results through a historically turbulent quarter. Against the backdrop of a relatively resilient housing market, excellent operational execution by our teams resulted in our businesses operating at a high level of efficiency in the face of enormous headwinds. First of all, I want to thank all of our dedicated team members who worked so hard in such a challenging environment to keep our people safe and our facilities open. I'm inspired by the care our employees are showing for each other and within our operations. I'm also proud that we've been able to continue to serve our customers with essential products as families sheltered at home. As the shelter-in-place orders took hold, we saw a noticeable shift in consumer behavior towards home purchase and home improvement that I will discuss in more detail. Given varying impact of the shutdowns on our channel and supply chains, we saw strength in some parts of our product offerings ahead of expectations, while other parts performed as we had anticipated. Through our operational performance and agility, we were able to generally serve customers as needed, resulting in significant share gains for our company. Our channel partners are coalescing around us as a bedrock of strength, and those deepen partnerships by leading to further opportunities. In addition to positioning us to capture further share gains on the top line, our teams focus on driving permanent efficiencies throughout the businesses. These benefits are intended to sustain through the recession and into a recovery to free up additional dollars to drive investment as well as to improve our overall margin profile. We have made progress ahead of our expectations. Our defermental margin performance for the quarter was substantially better than what we communicated on the last earnings call. In addition, we expect the real long-term benefits will be felt as we return to growing sales with increasing investment dollars and operating leverage at higher margins. Our robust efficiency initiatives and hard work to position the businesses to outperform expectations, regardless of the environment, ensures that we can continue to win for all of our stakeholders, not only during the pandemic, but long after. Turning to the remainder of our remarks today. First, I'll speak to our company's response to COVID-19 and how our people are keeping us safe and open while we continue to outperform. Then, I will discuss what we're seeing in the home products market. I will then highlight key takeaways from our second quarter results, as well as discuss our performance acceleration initiatives and how we expect to evolve over time. And then Pat will provide highlights on our financial results, balance sheet strength and liquidity, as well as thoughts around our future financial performance in this environment. Let me start with our number one priority, safety. The second quarter environment was one of the most challenging in recent times. By making the safety of our people our number one priority and taking steps in excess of WHO and CDC guidelines, we were able to keep people safe in our facilities. I'm proud that our COVID-19 incidence rate is only about a third of the national average and materially below manufacturing benchmarks. Through a rapid response to the evolving situation, we were also able to keep facilities open through the quarter with periodic shutdowns in certain places where we saw risk of community spread. This agility has been key to both safety and to keeping our customers supplied with our essential products. we've learned a lot by continuing to remain open and operating and are continually adjusting and improving our approach to operating safely in a COVID-19 environment. While our measures have significantly contributed towards employee safety, they've also caused some inefficiencies that will resolve over time. Examples of inefficiencies experienced during the quarter include some shifts operating below optimal variable production levels as we relaxed attendance requirements. instances of fewer hours of production per day for longer shift changes and for regular deep cleaning, and accommodating temporary shutdowns from time to time for more extensive cleaning to avoid community spread and to accommodate any short-term government orders. The net result of our efforts is that we were able to keep people safe and still operate in the COVID-19 environment. We did not experience large-scale shutdowns and ramp-ups and the disruption that that would cause. Rather, we operate it, albeit somewhat inefficiently, in a continuous learning and improvement mode and feel well prepared to weather the storm should the virus resurge further. Now, turning to our market and key takeaways from our second quarter performance. Our home products market was clearly stronger than many other industries. The very nature of the pandemic and the shelter-at-home orders have led to resurgence of interest in housing. Looking recently at Google search data trends in mid-July, searches for home improvement are up 51% versus this time last year, and searches for new home sales and existing home sales are each up over 30% over this time last year. Recent purchase mortgage applications data has been up strong double digits versus this time last year as well. During the quarter, it was encouraging to us that as the economy opened back up, demand accelerated quickly. In fact, from a low of a 20% decline in sales in April, as many channels were shut down, we saw orders accelerate to being flat year-on-year in the month of June. This trend has continued into July and appears to be stronger than a catch-up from mis-shipments in April and May. New construction activity and product flows largely halted in the beginning of the quarter, but resumed in mid-May and accelerated into June and July with our builder channel expressing increasing confidence about the balance of the year. R&R activity during the quarter was largely defined by channel, with retail and e-commerce showing the most strength, driven by both the channels being open and consumers increasingly focused on home improvement. Wholesale and dealer channels were closed for the first part of the quarter and accelerated more quickly in the second half of the quarter and now into July, driven by rebounding new construction activity. Since June's quarter end and into July, R&R and new construction activity continues to improve. With that market backdrop, some thoughts on the recent quarter. In the quarter, total company sales decreased 9% over the last year, and operating margin was up 20 basis points to 14.3%. This performance was meaningfully ahead of our own expectations, a result of excellent operating execution by our teams, stronger than anticipated demand for our products, and delivery of our cost realignment initiatives ahead of schedule. Our operational outperformance across the company led to accelerated share gains, and we are being rewarded with opportunities from customers. Most importantly, as we drove our cost realignment program, we continue to invest in common core competencies across all of our operations, including strategic spending on revenue management and in supply chains. We were also able to invest in key strategic growth initiatives, including the low-end brand, decking capacity, and distribution rollout, and value-priced cabinetry capacity. I anticipate that if we continue to see stability in the back half of the year, we will accelerate further investments into our most critical priorities as we set ourselves up for 2021. Before I delve into each individual business, I would like to mention the Cross Fortune Brands initiatives that we are taking to create permanent efficiency in our business to free up additional funds for investment in our key priorities and to drive incremental margins. At the beginning of the year, we started a fuel for growth and margin enhancement journey predicated upon finding permanent efficiencies in the business and building core capabilities that we are leveraging across FBHS. As the COVID-19 crisis took hold, we accelerated our cost-out and cash-generating initiatives by targeting fixed costs, supply chains, and less productive SG&A. We're taking permanent cost reductions as we re-platform the company using a common set of capabilities and a unified approach to reset our base cost structure for the long term. As I mentioned, our teams have delivered ahead of schedule, and we now stand to pull our margin accretion goals forward by a year as volumes return to growth. Now, let me turn to our individual businesses and how we're positioning to be even stronger long-term, starting with plumbing. During the second quarter, our global plumbing group continued to outperform the global and U.S. markets with second-quarter sales roughly flat compared to last year and operating margins of 24.5%. Strong double-digit growth in both U.S. retail and in China drove the quarter. Our POS well exceeded our sales number as customers reduced inventory early in the quarter. Our re-energized known brand continued to record top scores in brand awareness, purchase intent, and customer loyalty. A strong margin for this quarter continued to create more fuel for growth as we continued to invest in our brands in consumer-led innovations. our ability to pursue growth in both core and new segments within the global plumbing group has never been greater. Our continued investment in new channels such as e-commerce and on-trend innovation set GPG up for long-term profitable growth. We experienced a strong return to growth in China in the second quarter, after having borne the brunt of the COVID-19 impact during the first quarter. Debt business continues to outperform its market through channel and category expansion and drives excellent leverage to the bottom line. The Chinese economy has stabilized quickly and is continuing to show strong support for housing. Turning to doors and security. Sales decreased by 9% over this quarter last year, and operating margin increased by 70 basis points to 14.4%. Importantly, our fiber on decking brand grew mid-teens in the quarter. It continues to benefit from long-term material conversion from wood to higher-performing eco-friendly recycled materials. The pandemic has accelerated consumers' focus on outdoor living, and we are seeing continued strong demand for our products. Our distribution wins and capacity expansion plans remain on track, and this is a priority for us going forward. Our doors business experienced an abrupt slowdown in the first part of the quarter as home builders stopped work and the wholesale channel destocked. Those six weeks were followed by a rapid acceleration in the second half of the quarter as the market opened back up and new construction demand significantly reaccelerated. Despite the volatility, the business operated at a high level of efficiency throughout the quarter as we delivered continuous improvement initiatives ahead of expectations. Finally, turning to cabinets. In the second quarter, our cabinets team demonstrated excellent performance as our pivot plan has reached an inflection point up to two years of aggressive repositioning, which has intensified in the last six months. The business is showing increasing resilience through the downturn and has the opportunity to accelerate as conditions improve and we continue to take share in value products. Sales versus a year ago declined 15%, with value price products declining by only 7% during the quarter. Operating margin was 8.2%, which was very respectable given the pullback in volume. Further, had we been operating in a more normal environment with standard lead times, we had orders that would have resulted in sales only being down approximately 10% overall and value product sales would have been roughly flat during the quarter. The pandemic is accelerating the mix shift to value price point products, which benefits us as market leader as we are best situated to catch this momentum given all of the positioning and supply chain work we've undertaken over the past two years as part of our pivot plan. We're gaining share from both domestic players and from the absence of Chinese players who have exited the market over the past few months or who have been replaced to a lesser extent with other importers with higher costs and longer lead times. Our work to add further value in cabinets is not over as we continue to drive this business towards our long-term goal of mid-teens margins. As the U.S. leader in cabinets, we're continuing our efficiency journey and our plan to capture more opportunity. We continue to further optimize operations and add more flexibility to prepare for additional sales upside at more accretive margins coming out of the pandemic. This includes adding capacity and flexibility to our vaunted, low-cost global supply chain as well as adding economies of scale, less variability in product configurations, and more consistent packaging solutions. We have the ability to not only grow value cabinets at above market, but expect to do so at an increasing margin profile. In summary, while the second quarter of 2020 will be noted as one of the most challenging in a generation, the U.S. home products market is emerging in relatively good shape. The nature of the pandemic has driven home improvement in the short term and is causing renewed consumer interest in household formation and renovation. Although economic outlook remains uncertain, we expect housing will continue to benefit from demographic tailwinds in the long term, altered by increased consumer interest in investing in their homes. Overall, while our strong second quarter results were executed in a very fluid business climate, They do demonstrate that our strategies remain intact and are delivered for us. Our businesses are reacting positively to the accelerated efficiency actions we are taking, and we are taking those actions very seriously with plans to do more. And as the environment turns more positive, we have the businesses positioned to grow and drive strong operating leverage. As the first half of the year has shown, we have a high-quality, diversified portfolio underpinned by common core competencies that can grow above market and take advantage of a healthy new construction backdrop to outperform in times of strength, as we did in the first quarter. That same high-quality portfolio of leading brands and advantage positioning within our channels also provides resilience in a downturn, as evidenced by our exceptional results in the second quarter. The work that we have done over the last few years to reposition the core of the portfolio to the most attractive parts of the market and to expand our channel exposure have paid off well. This strength has allowed us to focus on our key priorities of keeping people safe, serving our customers, operating with excellence, and reinvesting in our business. In addition to our businesses being well-positioned, we also have a strong balance sheet with ample liquidity.

amongst the strongest in our sector as pat will describe in more detail with that i'll turn the call over to pat and we'll speak to our financial results pat thanks nick as a reminder the majority of my comments will focus on income before charges and gains in order to best reflect ongoing business performance as nick mentioned we are pleased with our team's performance both in prioritizing and operating safely and in delivering solid financial results amid unprecedented circumstances. Our priorities to build an even stronger company remain, protecting the health and safety of our teammates, servicing our customers and positioning our business for share gain, delivering strong margin performance this year and accelerating our profit objective without compromising the investments required to preserve competitive advantages and gain share, and maintaining a strong balance sheet. Our teams executed against these priorities across the board in the second quarter, which led to sales and profit performance that was meaningfully better than expected. This high level of execution positions us to deliver through the current uncertainty and to accelerate performance as economic conditions improve. Now I will cover the specifics of our second quarter results. Sales performance throughout the quarter went from the extremes of down 20% in April to flat in June. April appears to have been the demand trough. Late June and early July demand have demonstrated meaningful improvement and hold promise for the balance of the year should this level of demand persist through the high unemployment and recent uncertainty. Sales were $1.38 billion, down 9% from a year ago. Consolidated operating income for the quarter was $197 million, down 7% or $15 million compared to the same quarter last year. Total company operating margin was 14.3%, up 20 basis points over the same quarter last year. Declanmental margin performance was 12%. Our efficiency actions, both permanent and temporary, are running ahead of expectations. our decremental margin performance was aided in the quarter by items that may be one time in nature, such as lower health care expense, though even adjusting for non-sustaining items, our decremental margin performance was roughly 20%. At the favorable end of our four-year objective and well ahead of expectations for the second quarter. EPS were 94 cents for the quarter, down 9% versus the $1.03 we earned in the same quarter last year. We are encouraged by our team's continued ability to compete and achieve our aggressive financial performance expectations. Next, the segment results. Plumbing sales in the second quarter were $505 million, roughly flat versus the same quarter last year, and up 1% adjusting for FX. Strong U.S. retail and e-commerce channels, as well as a return to growth in China, drove the quarter. Plumbing operating income increased 8%. to $124 million for the current quarter. Our strong profit performance in a flat sales environment is representative of the aggressive efficiency actions taken during the quarter while increasing Moen brand investment year over year. Operating margin for the quarter was a robust 24.5%, showing our continued ability to generate the strong margins that fuel brand building and market-leading innovation. Complementing our strong U.S. operations during the quarter was not just a strong rebound to sales in China, but also favorable leverage from our operations in China during the quarter, as the expanding product scope in China produced favorable fixed-cost leverage, as strategically intended. Turning to doors and security, sales for the second quarter were $332 million, down $34 million, or 9%. Our decking business grew mid-teens and experienced POS performance meaningfully above this level. Results in our door business were above expectations as well, given 80 plus percent of its revenues flow through trade-centric channels that were shut down for a meaningful portion of the first half of the second quarter. Further, we experienced high operational efficiency in our doors business throughout the quarter, driving this segment's impressive year-over-year margin improvement. Our security results were impacted during the quarter as post-first quarter supply chain challenges from COVID-19 in China, as well as second quarter inefficiencies associated with safety protocols in Mexico significantly constrained capacity. Our security team is in the process of resuming full capacity production safely, and we expect these challenges to be temporary. Operating income in doors and security was $48 million during the quarter, down 4% over the same quarter last year. Segment operating margin for the quarter increased 70 basis points over last year to 14.4%. Due to cost efficiency initiatives, Decremental margins for the quarter were better than expected at 7%. The business has seen further stabilization of demand and increasing activity into July. Now turning to Cabinet. Sales for the second quarter were $539 million, a year-over-year decrease of 15%. We continued to experience strong interest in value price products in all channels. Sales of higher price products were softer during the quarter, impacted heavily by channel shutdowns, including our advantage dealer network. Operating income in the second quarter was $44 million, down $23 million versus the prior year. Operating margin for the quarter was 8.2%, down 240 basis points versus the respective 2019 period, but would compare favorably with that of any low-volume quarter, as we typically experience during the first quarter of each year. Decremental margin percentage for the second quarter was approximately 24%, well ahead of expectations and particularly noteworthy given the inefficiencies associated with implementing safety protocols and other inefficiencies absorbed while servicing customers during a period of unprecedented challenges and volatility. Operating income results were driven by resiliency in value price cabinet volume and the benefit of further pivot strategy efficiency improvements associated with higher price and Canadian products. We continue to advance our strategic efforts to advance further supply chain flexibility and capacity associated with the value price products experiencing continued strong demand momentum. we expect to continue to enhance our competitiveness in cabinets during and beyond this pandemic. Turning to the balance sheet, our balance sheet remains strong. Our solid second quarter results management has our liquidity position ahead of expectation. At the end of the second quarter, we had cash on the balance sheet of 398 million, net debt of 1.8 billion, and our net debt to EBITDA leverage stood at 2.0 times. We now have $1.2 billion of total revolver liquidity available between our $1.25 billion revolver and supplemental $400 million one-year revolver. Along with safety, liquidity remains a top priority. We will continue to manage our liquidity proactively. Turning to the topic of financial guidance, Due to the continued economic uncertainty associated with the high unemployment and a recession caused by the pandemic, we are maintaining our suspension of 2020 and future period financial guidance. Our teams remain focused on continuing the strong market share and margin performance delivered during the first half of this year, demonstrating our ability to succeed before and after COVID-19 impacted the economy. A range of potential four-year sales outcomes remain a possibility for this year, though a four-year sales result ranging from low single-digit growth to low single-digit decline appears to be the most likely spectrum at this moment. If this were to be the sales range we experienced during 2020, we would expect to produce a four-year operating income margin of roughly 14% to 13%, with our margin performance range tracking with the sales outcome. Further, we expect cash conversion of net income to be strong in the range of 105% to 115%. We will continue to pursue permanent and temporary efficiency objectives to maintain strong liquidity and to accelerate operating margin improvement sustainably. We are committed to strengthening our share positions and our margin performance during and after this pandemic. I will now turn the call over to Nick for some final thoughts.

We are facing a pandemic that we have not known in modern times. And we are acutely aware that we will be managing volatility as long as the virus and the resulting economic damage persist. We have been, we will continue to be aggressive in keeping our people safe and driving the optimal outcome through this period. We will manage our PML and balance sheet prudently and act with urgency to respond to whatever challenges we face. We will continue to stay laser-focused on execution. While we have known that demographics heavily favor our industry, the pandemic is driving a renewed interest in the home. As we continue to execute our strategies and develop new growth initiatives, we will be well-positioned to benefit from the sector tailwinds. Our accelerated cost rebasing of the business is freeing up incremental investment dollars to help further drive profitable growth. We're investing in strategic initiatives and a common set of FDHS capabilities while also improving margins and positioning us to leverage strongly in the recovery. I couldn't be prouder of the work that our team has done over the quarter to keep our people safe, support our customers, and deliver stellar results for our shareholders in this tough environment. I will now pause to call back to Brian to open the call up for questions.

Brian? Brian? Thanks, Nick. That concludes our prepared remarks on the second quarter. We will now begin taking a limited number of questions. Since there may be a number of you who would like to ask a question, I'll ask that you limit your initial questions to two, and then re-enter the queue to ask additional questions. I will now turn the call back over to the operator to begin the question and answer session. Operator?

Certainly. At this time, if you would like to ask a question, please press star, then the number one on your telephone keypad. We'll pause for just a moment to compile the Q&A roster. Your first question comes from the line of Susan McLary from Goldman Sachs. Your line is open.

Thank you. Good afternoon, everyone. I guess, you know, for my first question, I just, you know, in your comments, you noted that you're pulling forward your margin accretion goals by year one. Just wondering if you can kind of walk us through what that will mean for the second half, how to think about some of that flowing through, and maybe what's baked in in order for you to achieve those goals.

Sure. I'm going to pass it to Pat, and he can take you through what our assumptions are and how we're thinking about that. Of course, it's pretty volume dependent, and that's why we express it as volume returns over the period that Pat can take you through how we're framing it.

Yeah, you know, Sue, we, on the last call, we iterated a decremental margin objective for the year of 20% to 30% for the full year. And I'd say, you know, that has improved considerably. I'll get back to that in a second. But what we're trying to do, both for long-term value creation and to produce optimal results during this pandemic, is to not have 2020 be a lost year. And so... If our sales performance was to be in the range that we described in the script, kind of low single digits up to low single digits down, and we were to deliver in the 13% to 14% range of OI, we would make progress year over year in our OI margin and not have this be a lost year. And then if the housing market returns to the mid-single digit or better growth that we would have expected over our strategic plan horizons, we would effectively lose no ground in our market progression during 2020 and probably would be 50 or so basis points ahead of where we otherwise would have been had 2020 been a year that was flattened down. In dollar terms, that's something more like $30 to $40 million of fixed costs, but our real objective is to invest and grow the business and have the fifth cost base just be that much more efficient so that 2020 is not a lost year and we're a year ahead in our margin progression from where we otherwise would be had 2020 dented our operating margin.

So I'll just add a little perspective over the longer term. If you rewind the clock even back to January, Pre-pandemic, we started on a multi-year fuel for growth and margin enhancement journey as a team. And really, the goal is twofold. One was to drive efficiency, permanent efficiency through the business. And two was to re-platform the company with a common set of capabilities and shared platforms so that we could further drive efficiency and create additional fuel to invest in the business as well as drive margin. So that was a pause and a playbook that we set. We were heading down. COVID-19 has become an accelerant to that strategy. And if you go back to the last call, you know, we said we intended to come out of this pandemic stronger than we came into it with an even higher-performing business. That was very much the goal, and we've come through the quarter even ahead of our own expectations, and we're on track to accelerate the margin progress we're making as volume returns into the business.

Okay, that's very helpful. And then... As a follow-up, I'm just wondering, you know, given that you have an interesting perspective across some of the bigger ticket outdoor products with fiber on as well as the indoor, you know, projects as it relates to cabinets and plumbing and those things, can you perhaps give us just your thoughts on what you're seeing in terms of those two demand trends, where you're seeing consumers focus, and has there been any shift there as we've kind of come out of the real kind of core of the shutdowns and the shelter-in-place situations and consumers maybe perhaps start to get out a little more, dealer channels are opening, those kinds of things?

Sure. Yeah, it's not overall. There's no question, I think, you know, the market was more resilient than anybody might have feared. And, you know, we even talked about that on the first quarter call as we had the early April data, and we could see that even while wholesale and dealer were shut down, the consumers were leaning heavily on retail and e-commerce. And really, you know, then I think we're going to double than anything since we've got data, but, you know, it was really driving a renewed interest in home and home renovation of people sheltered. We've seen that continue to play out across the portfolio. And it's lumpy where we've had channels that have been closed where, you know, it may require a pro to come into a house. But, you know, you have seen that strong consumer interest. We've seen continued very strong performance in retail and e-commerce areas. And again, it really seems like it's now being more and more backed by data that, you know, COVID's been an accelerant to people's interest in housing. Now, you know, you asked specifically about, you know, outdoor. When we look at our decking business, there's no question it's being fueled by dual tailwinds of material conversion and outdoor living sales were up 15% ish in the quarter for decking but POS was well ahead of that and so that was a category that is very very strongly benefiting from really strong tailwinds and I think as you alluded to the ability to do work outside the home lent itself to that continuing to work through the quarter other bigger ticket items I think we're inhibited by channels being closed and making it harder for consumers to get in there and purchase. But we saw from the low of April, things come back pretty strongly, particularly as dealers, for example, Cabot started to reopen. We've seen volumes come back to, I'd say, somewhere around flat, even in the make-to-order, semi-custom, custom side of the business. We have volume traveling through that part of the business while we've seen even stronger interest in the value part. And then, you know, the smaller figure stuff has just been particularly strong from a POS perspective. Again, less visible even through the sales numbers as you're dealing with channels closed, as you're dealing with early destocking in the quarter. But as that has come back and those channels have reopened, we're really encouraged by what we're seeing.

Okay, thank you. Good luck.

Thank you. Your next question comes from the line of Justin Spear from Zellman & Associates. Your line is open.

Good evening. Thank you, guys. Just a couple questions on cabinets. I just wanted to see if you could unpack a little bit more detail between the value versus the non-value trends in the quarter and then maybe even splicing the dealer versus the home center channel trends. I know maybe there's some congruence there, but See if you could unpack that for us.

Sure. I want to give you a little color. I've got a bit more on top. But, you know, you start with, you know, overall sales were down 15%. Had we been able to shift to our normal lead times, that would have been more like 10%. I mean, it really was very disrupted as we, you know, put safety ahead of everything else. And, you know, at times, you know, either had, some short-term shutdowns or certainly, you know, a lot of absenteeism in the facilities. And so that, you know, takes kind of negative 10 as kind of the run rate. Value cabinetry within that was down seven, but would have been about flat had we not had the supply chain interruptions that we had. And so, you know, we saw value cabinetry really hang in there with very strong interest on the retail side. As the dealer channel is really closed, and special order on the make-to-order side was closed. As those reopened, I would say we saw strength in value across all of our channels, and I'm really encouraged by that. The made-to-order side has also come back, not quite to the strength that the value side has, but has come back as channels have opened closer to flat, which is really just encouraging given the environment that we're in and the fact that it is a big-ticket item and requires installation.

So the made-to-order was flat to conclude the quarter, or the overall cabinet business was flat to conclude the quarter?

coming through July, that would be about the run rate we see.

With value-priced cabinets back to high single, low double-digit growth in that range.

Back to that cost reduction efforts, just the accretion goals that you mentioned. I appreciate the color there, but you mentioned some healthcare tailwinds. Were there any other temporary tailwinds in the quarter that explained the better-than-expected trends beyond

that annualized $30 to $40, the raw materials rather? Yes, I think there were tailwinds. There were also some pretty big headwinds in the quarter. I mean, what we spent on safety, what we spent on doing our very best to keep customers satisfied and in stock, you know, was pretty substantial as well. And so, They're hard to rip out and calculate each piece, but they kind of start to weigh against each other. So that's how we're initially thinking about it, but Peck gives us a bit more detail.

And, Justin, we talked in the script a bit. When you just look at our reported detrimental operating income margin, 12%, there was favorability from health care and some variable comp and some other true-ups like that that you would expect. Some of it was building component inventory where labor ends up going into inventory. It was about $10 million in the quarter. If you adjust for that, you're more like at a detrimental margin performance in the quarter, adjusting any kind of one-time favorable items that won't sustain to 20%. But that's independent of our long-term objective to make progress this year on a fixed cost base in our overall margin progression. We're just trying to be clear in what was a more sustainable level of defermental margin performance because we wouldn't hope to have the same things driving our defermentals going forward. As Nick mentioned, lots of puts and takes across the cost structure all the way through but a great job by everybody to both lean into permanent cost structure change and temporary cost structure change to deliver really exceptional results in a very challenging quarter. Part of why the leverage was so favorable relative to expectations in the quarter is we were concerned we could be seeing a quarter down 20-plus percent, so we started driving cost action congruently with that level of challenge. And then our teams really, both on the sales and the operations side, delivered a great quarter of down 9%. So about half as bad as you were preparing for on the cost side. And that obviously explodes into a nice profit result.

And as I mentioned earlier, Sue, we started on a margin enhancement journey back in January. And so we were pretty well down the path of developing a playbook and understanding where we wanted to go as a team that allowed us to move with a lot of agility as COVID hit and accelerate our actions. We weren't starting from a standstill.

Makes sense. Really appreciate it. Sure.

Your next question comes from the line of Michael Rehart from JP Morgan. Your line is open.

Thanks. Good afternoon, everyone, and congrats on the results in a very tough backdrop. I wanted to get a sense, and I appreciate all the granularity, of course, and as always with Wall Street, we ask for more granularity. So with that being said, you know, you found the progression, obviously. You're talking about consolidated sales. down 20% if I got that right in April to flattish in June. I just wanted to get a sense if that's the type of flattish number that you're continuing to see in July. And as you look at the different segments, obviously it seems like plumbing had a good amount of tailwinds coming out of the quarter. It would seem that that would you know, result in some positive growth in 3Q. Just trying to get a sense for, you know, kitchen, you know, for the cabinet and doors and security segments as well, how to think around that flat number, you know, maybe continuing into July or perhaps it's even a little bit better in July and how to think about that across the different segments.

Yeah. How do you say it, Mike? It's better in July. It's better in July. And so we started from, you know, negative 20, April, as things opened back up, you know, got to kind of flattish in June, we were anticipating growth in July and feeling pretty good about it at this point. And, you know, that's across the portfolio in varying degrees, depending on the segment, but across the portfolio. So that, you know, that strength and that kind of real consumer interest that and investing in the home seems to be continuing to play through. And what I'll tell you is interesting is even as channels opened back up, we didn't see some of the really strong performance we've seen in, for example, retail, which remained open throughout, weighing a whole lot. And so one of the questions we had, With everything driving there, people are just trying to wrap up projects, and then once it was done, it was done. That's not what we're seeing at all. It's been through July. It's remained strong, and we do anticipate growth across the portfolio.

Mike, the only thing I'd add to that is it's an odd coincidence. Across our three reporting segments, cabinets, plumbing, and doors of security, they're all 20 to 19 percentage point progression from April to June. As you could imagine, plumbing was only down in the mid-teens in April and progressed towards high single-digit growth by June, and then the other two kind of danced around the average for the portfolio with cabinets a little below and finishing June kind of at a low single-digit or mid-single-digit decline in June. But as Nick said, the latter part of June was strong. July, the momentum is sustained. And assuming nothing disrupts the momentum in the marketplace, we would expect all of our segments to perform flatter up in the quarter.

That's really helpful. Appreciate that. Second question, I guess, just around the margin side, the kind of framework you laid out was very helpful in terms of maybe how to think about the full year, understanding there's still a lot of volatility or uncertainty left, but that framework was pretty helpful. By all accounts, obviously, it seems like the lower end of that sales range down low single digits, it almost seems like there would need to be some type of slowdown potentially, let's say in 4Q versus 3Q to hit that lower end of the range. If I'm understanding your comments correctly about the momentum you have right now going into 3Q. So I wanted to make sure that I'm thinking about that right. And then also on the margin side, you know, to hit that lower end of 13%. I mean, here you are doing 14 plus or, you know, a little over 14 in 2Q on down 9. I know that, you know, you might have some temporary costs come back that would push your decrementals closer to 20%, as you said. But is it just that amount of lower, you know, decrementals getting a little higher? Or, you know, is it also just kind of perhaps some cost creep or some other factors or, you know, maybe the environment again starting to weaken again and fork you that would push you towards that 13% lower end of the range?

Mike, it's all a fair set of questions as you try to triangulate. It's all about the uncertainty with the market. and channel inventory in the fourth quarter that drives all of it. There's no cost creep. If I give you the kind of first half numbers, I know we don't typically talk in halves in these calls and a lot of your conversations aren't in halves, but we're down 2% net sales for the first half and our operating income margin is a little more than 13 at 13.2. So you're right, in order to be down for the full year, at the high end of the low single digits, you'd have to have some decline in the fourth quarter because we're starting the third quarter with momentum. We don't know that that will happen. Certainly the momentum would not indicate that right now, but it certainly is within the realm of possibilities depending on how the next government package unfolds around and where the virus management goes. And then if If we were to start going down towards 13%, it would just be, are we at the outside of that volume margin? I would say if we're in a flat to down scenario, we're expecting our decremental margin performance to be 20% plus or minus five points. And if we're in a growth scenario where we're kind of on the the up low single digits, we would expect our margins to be, our incremental margins to be better than our gross profitability, probably, you know, towards 40% or better, just because we're going to hold on to the cost progression we've made. And so we're going to be delivering our gross profit margin plus cost progression. So I think that's the way you need to think about it. And all we're trying to signal about the fourth quarter is, you know, all we can do is control how we're positioned versus the competition and how we manage our cost structure and liquidity, and the market and channel inventories are going to unfold as they unfold. And that's what's going to drive the variability in our results.

And Pat's point about holding on to it, I think, is a critical point. As I said earlier, I mean, this is a step in a long-term journey. that our team is really committed to, and we are going to build further efficiencies. We're going to reinvest a big portion of those, even as we did in the quarter, and we will for the rest of the year, and we're going to accelerate our margin journey. And so we're dealing prudently with a very unforeseen set of circumstances and being kind of cautious as we proceed. want to deliver all the opportunity we see while managing for all the risk that we see. But the real focus for us is on the long-term ability to accelerate margin while investing for growth and structure all the value creation that way.

Great. Thanks so much.

Sure.

Your next question comes from the line of Sheldon Clark from Deutsche Bank. Your line is open.

Hey, good afternoon. Thanks for the question. Um, can you just remind us of your long-term margin targets by segment? Um, you know, given that the 24% margin is printed in plumbing and the traction you've gotten on the value price side. And when you say you're pulling them forward by a year, uh, you know, you sort of move that around a little bit since your investor day. So just addition to the segment color, can you sort of help contextualize what type of volume growth you would need to get to those targets and what you see on the more company-specific cost takeout side, whether it be, you know, from faster growth in your Fibron business or any more structural costs that you've identified, just helping bridge the time needed to get to those targets would be helpful.

Yeah. So, Sheldon, all I would say is, you know, the last couple updates, we've had to go to the investor day, which of course, we're technically pulling specific guidance, but we are on the same progression to get our total portfolio performing above 15%. And so a lot of what we've talked to investors about the last couple of years is basically taking the total portfolio from around 13% to north of 15%. We're still committed to that. The fact that plumbing had a very strong quarter It's just consistent with the overall portfolio set of actions where we were all expecting a very significant downturn in this quarter. We managed our cost structure both permanently and temporarily down and you saw that plumbing had abruptly a flat quarter and it was managing for a down significant quarter. It had a very strong margin in that environment. We have not changed our long-term strategic objective in plumbing to keep it around. And as we've said in the past, we can bounce 100 basis points around that or more from any given quarter. This obviously was an incredibly volatile quarter, which is an outsized result from cost management relative to sales. And all I would say is in our three-year margin progression, we've been talking about making 50 to 100 basis points of margin improvement each year. That's based on the pivot strategy in Cabinet. growth in doors and decking, margin improvement and security, and maintaining that high industry-leading margin in plumbing. And all of those strategies remain the same. And all we're saying is we, as long as we end up with a market that allows the sales results plus or minus low single digits, we're not going to have 2020 be a lost year. We're going to, as Nick has been talking about, drive the permanence improvement in our business that allows us to keep leveraging even in a soft year, and we can stay on our three-year progression track without having a disruptive year like 2020 throw us off that path.

And Sheldon, with respect to plumbing specifically, that business has taken aggressive cost actions, not just this year, but last year as well. And the real purpose for it was to free up incremental investment dollars to drive growth because it's a business, you know, with an incredibly powerful brand and suite of brands and channel position. And, you know, we see a lot more growth ahead as we're able to expand and leverage those assets. And so, you know, we've got that compounding. You've got investment. We've got, you know, investment in my own brand up year on year both for the quarter and the hog. And, you know, if we did nothing else as GPG, The margin wouldn't actually drift up. We're choosing to invest it sensibly but aggressively to drive the top line well above the market. We now have in excess of a three-year track record of doing that. We think there's a massive opportunity ahead, and so we're going to continue to do that, which is why we're keeping the target around the 21.5. But the business itself is operating very efficiently and benefiting from the scale it's built. over the last few years. It's just an exciting place to be where, you know, it's got that flywheel going and it's generating investment dollars that we're going to put to work.

Okay. That's helpful. And then just switching gears for a second, now that you have a more established position in the value price cabinets market, I think, you know, going back to, you know, late last year, you were talking to that being a 200 to 300 million opportunity, you know, over the, next couple of years. So could you just give us an update on the size of this opportunity or help contextualize how you think your market share is trending, you know, relative to your position in the broader cabinet industry?

Yeah, you know, I think that's still about right. You following the anti-dumping suit and kind of sized it and sized, you know, what parts of that market would actually be attractive to us and then what our fair share would be, that 200 to 300 number is about right. And we're seeing a lot of interest pulling on, you know, that part of the portfolio across all channel segments. And so it is really encouraging. And even as some imports from low-cost companies come back in, they tend to be higher-priced, longer lead times, and fewer selections. consistent with what we always said. We always said our supply chain was very well set up to compete with low-cost countries. In fact, some of its sources were low-cost countries. It wasn't set up to compete with the legal subsidy. And so now that we're in kind of that post-legal subsidy era, it is set up to compete and is competing really, really well. And so I think that is a good sizing. I think we'll get clearer over the next few months as we come out of such a disruptive quarter where we've had channels closed and bear in mind there was supply chain disruption in Q1 coming out of some of the low-cost countries as well. So I think that will settle out, but we're feeling very encouraged and we're continuing to invest and invest strategically in building out capacity there because we believe we can do it in a way that's going to be very flexible and kind of serve across the market very efficiently.

Okay, great. Appreciate the time. Sure.

Your next question comes from the line of Filmy from Jefferies. Your line is open.

Hey, good afternoon, everyone. Congrats on a really strong quarter in a tough environment. When we look at the KCMA data for cabinet, it recovered pretty nicely in June. Just curious how your sales have progressed in that June-July timeframe and and wanted to get a little more comfort around whether you guys are done with the capacity realignment at this point. So does that kind of free up some ability to kind of meet some of that demand? And Pat, did I hear you correctly? You're talking about low single-digit growth in cabinets in the back end?

Okay, why don't I start? So thanks. I'll start, and then I'll take it to Pat. As you saw, I mean, we tracked pretty well in line with that data, and You know, I'll tell you, the actions from our team, I mean, they had a lot coming at them in this quarter, and they were simply heroic in firstly operating safely and keeping people as safe as we did, which turned out to be an efficiency play as well. I mean, because we prioritized safety, we were able to keep operating. And as they did that, I mean, they had to work hard. to move stuff around to try to fill the demand where we saw it. And so that's where it sort of gets you back to, I think our sales were in line with the KCMA numbers. Our orders coming in were actually better than that. And then, as Pat said, it kind of improved by about 20 percentage points as you moved through the quarter and continues to improve into July. The value part is very strong, and then the semi-custom make the order part closer to flat, which, frankly, given the volatility, we're very happy with just because it's been a volume through the system. From what it does from a capacity standpoint, we're now a couple years into a pivot plan and really reaching an inflection point that's really delivering for us. And that is predicated on commonizing a lot of platforms and developing much, much more of a network effect around our facilities so that we do have that capacity flexibility. has benefited from some of that, and, you know, we were very pleased with the margin delivery in the quarter and everything that the business suffered through. But there is plenty of road ahead to continue that journey, and Dave Banyard and his team have been phenomenal at getting off to it very, very aggressively and then continuing to identify more opportunities for further commonization and further kind of competitive network build that we think will yield some really great margin for the business over time.

Yeah, and Phil, all I was doing was answering Mike's question about the early third quarter momentum and the potential outcome of the third quarter. And I would say across all of our businesses, you know, if the current momentum stayed and was not disrupted, we expect the third quarter to be a growth quarter. Obviously, with the level of uncertainty out there, it's difficult to say what that would be precisely. As Nick said and said accurately, The make-to-order chunk of the business, which again is now at this point roughly half the business, has kind of returned to flat. And the value price point part of the business, which is roughly flat, returned to growth in June. and is growing now in July. So if that persisted, Cabinet would be in a growth mode for the quarter as well. We're not trying to, by business, project specific growth rates for the whole back half of the year. But all the businesses right now are growing, and the quarter would be set up to be a growth quarter, assuming nothing disrupts the momentum.

Got it. That's super helpful. And then demand was particularly strong in your retail channel. And, Nick, I think you mentioned you're seeing that strength continue. So I'm just curious, what's driving that outperformance? Is it just a function they're open and wholesale may not be open or more DIY work? And are you starting to see that wholesale channel converge going forward, and will that have any mixed impact that we should be mindful of? Next slide.

It's a great question. If you ask us kind of April, May, You know, we were wondering, you know, if they were just open. I think it's now clear that it's a combination of, you know, what you saw then was they were open, but plus it's just looking like it's a really good time to be in housing. Because as the other channels have opened up, volumes plug back into our wholesale and dealer channels. And, you know, retail may not be tracking at some of the astronomical numbers we saw. It's really, really, really strong, which – converges nicely with the consumer data we're seeing around, you know, searches around home renovation and home purchase. And there just is, you know, a lot of interest in the home and, you know, what we're, you know, as you know, we're well-positioned coming into this as a sector. I mean, you know, supply and inventory was low, record levels of home equity were low. low interest rates going even lower. You've had people experience really resilient house pricing through something that's been very volatile elsewhere. But then we're starting to see more now, looking at some consumer research, is this is pushing people to think more about the homes they live in, the shelters, are they in the right ones, projects that they're doing. I think you may see another tailwind with Boomers choosing to stay in their homes and in place. And that will drive some renovation. And so there is something more there than just they were open. There's double-digit strength. that's kind of, you know, continued through in retail from a POS perspective, while wholesale and dealer bulk adoptions, you know, are looking pretty healthy. So, you know, I think you started with a sector that, you know, as you said, a quarter ago was fundamentally healthy going into this. And I think it's one of the more fortunate sectors that we're just driving, you know, some real interest in home and housing. at a time and a safe place for people to put their money. And when you take that and then you take our portfolio, which we've done two years of core portfolio repositioning to the most attractive parts of the market, the exposure that we now have to where we need to be to capture those consumers is so much wider, and so we're really seeing the benefit come through.

Thanks a lot. Great call-out.

That concludes our live time for questions and answers today. I turn the call back over to management for closing remarks. That concludes today's conference call. You may now disconnect.