James Hardie Industries plc

Thank you for standing by and welcome to the James Hardy Industries GHX Q1 FY23 results briefing. Your speakers today are Interim CEO Harold Wins, CFO Jason Milley, and North America President Sean Gadd. After the call, we will open to questions. Can I remind participants to limit their questions to one plus a follow-up. I would now like to hand the conference over to Mr. Jason Mealy, Chief Financial Officer. Please go ahead, sir.

Good morning to everyone in Sydney, and hello to others from around the world. I'm Jason Mealy, Chief Financial Officer of James Hardy. Welcome to our first quarter fiscal year 2023 results call. Turning to page two, you will see our standard cautionary note on forward-looking statements. Please note that this presentation does contain forward-looking statements and the use of non-GAAP financial information. Let's move on to page three. Here you will see our agenda and speakers for today. Joining me on the call are interim CEO Harold Weems and North American President Sean Gadd. Today, Harold will start the presentation with a brief update on our global strategy. I will then discuss the first quarter financial results, and Sean will provide an update on our North American business. Finally, I will return with a discussion on capital allocation, capacity expansion, and guidance. followed by our customary question and answer session. Before I hand it over to Harold, let's move on to page four. I want to quickly mention our upcoming Global Investor Day. This in-person event in New York City will be held on September 12th and September 13th. The event will focus on all areas of James Hardy, with a key focus on how we are expecting to achieve our long-term product mix growth goals. At the event, you'll have access to approximately 30 James Hardy senior executives, as well as Chairman Mike Hammes and his named successor, our Deputy Chairperson, Ann Lloyd. If you have not already registered and are interested in joining us, please register at your earliest convenience. Thank you all for joining us today. We look forward to seeing you at our Investor Day in New York. I will now hand it over to Harold.

Thank you, Jason. Let's turn to page six. Our strategy remains unchanged, and we expect it to continue to drive profitable growth globally. It is firmly embedded in the business and understood by all 5,000 of our global team members. As always, underpinning our strategy is our commitment to zero harm and ESG. Our strategy is built upon our three foundational initiatives, lean manufacturing, customer engagement, and supply chain integrations. With these initiatives fully entrenched in our company's day-to-day operations, we are continuing to drive profitable growth globally through three strategic initiatives. First, marketing directly to the homeowner to create demand. Second, penetrating and driving profitable growth in existing and new segments. And third, commercializing global innovations by expanding into new categories. Now, let's turn to page seven. While our strategy remains unchanged, and it is entrenched in our company, we have to adjust and adapt to changing and uncertain market conditions. The current calendar year has seen the macroeconomic environment change around us quite significantly. with unprecedented levels of inflation, global supply chain disruptions, and the war in Europe. The current macroeconomic environment is not only creating uncertainty for the housing markets in all three regions in which we do business, but it is also putting pressure on our fiscal year 23 financial results, primarily from increased input costs and increased trade costs. That said, we're confident that we will be able to deliver growth above market and strong returns again in fiscal year 23. We have significant advantages and strengths as we navigate this period of uncertainty. First, we have a strong balance sheet and significant financial flexibility. Our liquidity is high, our leverage is low, and we have step-changed our earnings and our cash flows. Second, we have a management team with experience in navigating uncertain markets and doing it at James Hardy successfully. Third, we have the financial strength to continue to invest in growth. Our focus is to be prepared for a wide range of potential housing markets and to be positioned to thrive in any of them. We are laser focused on two things we want to deliver during this time of uncertainty. First, deliver strong results throughout this period. Second, accelerate and expand our competitive advantages through this period. The leadership team has already made adjustments to ensure we can deliver on both of these items. Jason and Sean will discuss these adjustments further during today's presentation. What I'm excited by and impressed by is that amidst a remarkably unique period, our team was able to make the right adjustments to position the company for continued future success and also deliver global adjusted EBIT growth of plus 16% in the first quarter. This will be my last quarter presenting in this forum. I want to wrap up by thanking the entire James Hardy Global team for their extraordinary efforts the past seven months. I could not be prouder of what you have accomplished and how you have positioned the company for future success. Thank you. I will now hand off to Jason to discuss our financial results.

Thank you, Harold. Let's now shift to page nine to discuss our fiscal year 2023 first quarter results. In challenging macro conditions, the global team has continued delivering growth above market with strong returns. Net sales increased 19% and exceeded $1 billion in the quarter for the first time in our history, an extraordinary milestone for our company and our employees. Global adjusted EBIT increased 15% to $208.4 million for the quarter and while global adjusted net income increased 15% to $154.3 million for the quarter. As Harold mentioned earlier, we have already made adjustments to ensure that, one, we deliver a strong fiscal year 2023 results, and, two, we also position ourselves for a strong FY24 and beyond. We have paused all non-critical hiring globally. We are pacing and focusing SG&A investment on the initiatives that drive profitable growth, We continue to align capacity expansion expenditures with market demands. We are ensuring we remain hyper-focused on cash generation and preservation, including carefully managing working capital. We are continuing to drive operational improvements throughout our organization to deliver efficiencies that improve our bottom-line outcomes. And as always, we're leveraging our proven management systems and executing and driving these adjustments throughout our global organizations. The entire executive team cannot be more proud of our 5,000-plus teammates and their ability to embrace and drive these adjustments throughout the organization. We've already seen the early positive impacts of these actions in our July financial results. Let's move now to page 10 to discuss the regional results. I'm going to go in a slightly different order this quarter, as my discussion of the North American financial results will dovetail into Sean's presentation. So I will be covering North America last, and I'll start here. with Asia Pacific. The Asia Pacific team delivered first quarter net sales growth of 9% to $200.1 million Australian dollars. Impressively, the APAC business continued with step change execution and driving high value product penetration with price mix growth of 12% in the quarter. Volumes declined 3%, primarily driven by adverse weather in Australia, which caused a decline in building activity. Lean manufacturing and a focus on high-value product mix helped to partially offset the high inflationary environment, leading to EBIT growth of 2% and an EBIT margin of 25.6%. Inflationary pressures in Q1 were significant, with freight cost per unit up 20%, pulp cost per unit up 26%, and energy cost per unit up 53%. We executed a second price increase, which is effective in September in Australia, and effective in October for New Zealand and the Philippines. We anticipate that the APAC business will deliver EBIT margin for the full year in the top half of our target range of 25% to 30%. Turning now to page 11 to discuss the European results. During the first quarter, net sales increased 7% to 110.8 million euros, driven by strong price mix growth of 14%. A 7% decline in volumes was the result of a slowdown in the housing markets we participate in within Europe. High inflation of key raw materials and freight combined with the slowing housing market led to EBIT decreasing 16% at an EBIT margin of 10.3%. Regarding inflationary pressures in Europe, our energy costs per unit were up 62%, freight was up 26%, and recycled paper up 27% versus the prior corresponding period. The EU team remains focused on ensuring effective execution of our long-term strategy to become a €1 billion net sales business with 20-plus percent EBIT margins. In the short term for fiscal year 23, we expect EBIT margin to be below our target range of 11% to 16% as the team navigates this period of unprecedented inflation and a slowing housing market. We remain confident in our long-term strategy and the European business and I want to thank the team for their excellent job they are doing navigating volatile market conditions while positioning the business to achieve our long-term objectives. Now let's move to page 12 to discuss the North America results. In the first quarter, the North American team delivered outstanding net sales growth of 28% to $740.1 million. The team delivered strong volume growth of 11% and excellent price mix growth of 17%. This price mix growth was underpinned by ColorPlus volume growth of 31%. The team continues to do an excellent job in partnering with our customers to drive ColorPlus penetration in the repair and remodel segment. The team delivered a robust bottom line outcome with EBIT increasing 13% to $191.8 million at a margin of 25.9%. As previously communicated, the margin for the quarter was below our previously communicated expected range for the full year this was driven by significant and accelerating cost inflation across our raw material inputs and freight i will discuss that in more detail on the following page as we have previously communicated we effectively executed a second price increase effective june 22nd 2022 and we expect margins to improve sequentially throughout the fiscal year sean will discuss further in his section but we now believe we have our quarterly SG&A investment at the right level to drive growth, and we plan to hold SG&A expense roughly flat to the Q1 levels the remainder of the year. Let's turn to page 13 to discuss the inflationary pressures we are seeing in North America. As I mentioned earlier, the inflationary pressures we are experiencing are not only significant but accelerated into our first quarter. Our cost of goods sold per unit in Q1 FY23 increased 21% versus Q1 FY22 and also increased 11% versus Q4 of FY22. Also, as I mentioned earlier, we continue to invest in our growth initiatives with SG&A up 33% versus Q1 of FY22 and up 15% versus Q4 of FY22. On the bottom of the page, we have provided details on some of the key inflationary impacts we are experiencing. You can see the inflationary pressures are significant versus not only Q1 of FY22, but also versus Q4. Versus the prior corresponding quarter, freight and cement both increased 17%, and pulp was up 8%. In addition to the items listed here, natural gas nearly doubled in cost versus the prior corresponding period, and our cost of labor was up versus both periods, based on merit increases, overtime, and the implementation of some retention incentives within our plans. In hindsight, Q1 was a bit of a perfect storm for us in regard to EBIT margin. We did not get the benefit of our second price increase, which went into effect June 22nd. We still had important growth investments to make in SG&A, and inflationary pressures on our cost inputs continued to rise at an accelerated pace, partially due to the war. It created a situation where while we made the right adjustments to adapt to the changing market conditions, those adjustments had no impact on the first quarter. That said, we continue to be very pleased with our financial results and where we are positioned. The North American business delivered a 25.9% EBIT margin while experiencing these unprecedented inflationary pressures and while continuing to increase our investment and growth. In our view, a proof point that the EBIT margin range we introduced in May 2021 of 25 to 30% is indeed more appropriate than the old long-term range of 20 to 25%. Further, we are now at an SG&A investment level we believe will drive substantial growth and do not see the need to increase quarterly SG&A the rest of FY23. And as Sean will explain in more detail later, even if these input costs remain at these extraordinary levels, we expect to drive sequentially improving EBIT margins throughout the fiscal year, driven by our price increases in June and January. We are excited about what we can achieve in fiscal year 23, as well as how we will be positioned entering fiscal year 24. We have a unique opportunity to not only deliver differentiated results, but also to accelerate and expand our competitive advantages. I will now hand it over to Sean Gadd to further discuss North America.

Thanks, Chase. Let's now shift to page 15 to discuss how the team and I expect to deliver differentiated results in fiscal year 23, including growth above market and strong returns. Let me start on the top left of this page. As Jason mentioned, we are investing significantly in SG&A growth initiatives. This bar chart on the left is to scale, and you can see our investment in SG&A has never been more significant than it was in this first quarter. Later, I will discuss a few of our additional investments, specifically our partnership with Magnolia and our investment in a visualization tool which simplifies design and the path to purchase for the homeowner. While we believe we are investing in the right items to drive growth, we also need to position ourselves to be prepared for a variety of FY24 housing markets. As such, we pause all non-critical hiring in early June and are ensuring our CSG&A investments are laser focused on growth initiatives. We plan to hold SG&A's spend roughly flat to Q1 in the remaining three quarters of fiscal year 23. On the bottom left is a chart you are familiar with. We continue to drive a high-value product mix in partnership with our customers. ColorPlus volume was up 31% in the quarter as our customer partnerships and marketing to the homeowner continued to drive our ColorPlus penetration into the repair and remodel segment. In FY23, we expect to deliver on the volume mix as shown in the bar chart. as we expand our focus to other key geographies, mainly the D.C., Chicago, and Minneapolis market. As Jason just mentioned, we expect EBIT margins to improve sequentially throughout the year. On the top right is an illustrative example of how we expect that to play out. This illustrative example assumes the following. One, we deliver net sales within our guidance range of 18-plus percent. Two, input costs remain at Q1 levels. Three, we execute our standard annual price increase on January 1st, 2023. Our June 22nd price increase was executed effectively, and our July results were in line with our expectations, as shown in this illustrative example of our EBIT margin improvement. For clarity, this illustrative example does not include any improvement in our input costs, but it is worth noting that we are starting to see some improvements, most notably in phage, which is 10% lower in July compared to Q1. Our North American business is excited about what we can accomplish in FY23 and even more excited about how we are positioning ourselves to thrive in FY24 and beyond. On the bottom right, I provided an update to the two guidance metrics we have previously provided in North America. We are adjusting our net sales growth guidance from growth of 18% to 22% to simply growth above 18%. After a strong first quarter of 28% growth, We see several scenarios where we can deliver net sales growth above the prior top end of 22%, so we no longer believe the top end cap was relevant. That said, we also acknowledge the uncertainty in the housing market and the potential for underlying demand to decrease at the tail end of our fiscal year, so we have held the floor at 18%. We currently believe that the full fiscal year volume growth in the high single digits and price mix growth in the low teens. In regards to EBIT margin guidance, we have lowered our full year FY23 range from 30% to 33% to a range of 28% to 32%. The continued inflationary pressures Jason described have created an environment where we do not see a path to 33% for the full year. And a midpoint of 30% is more reflective of a most likely scenario than a prior midpoint of 31.5%. The North American team and I are very excited about the position we are in. To be able to deliver a 25.9% EBIT margin in a period where we increased our investment in growth and experienced unprecedented inflation puts us in a strong position as we move forward. The team is prepared to thrive in any housing market and we have positioned ourselves to be nimble, to adapt to changing markets and to continue to deliver growth above the market and strong returns. Let's move to page 16 to talk a bit more about how we are preparing for FY24 and beyond. Here we have outlined the three key things we are focused on to ensure we are ready for a variety of housing markets in FY24 and beyond. And as Harold discussed, what we are trying to ensure is that one, we deliver strong results throughout the period, and two, we accelerate and expand our competitive advantages through this period. We are positioning ourselves as follows. First, we continue to build and accelerate customer engagement and partnership. The relationships we have with our customers have helped to drive the results you have seen in the past few years, including our significant growth in color plus and repair and remodel. Second, we will be maintaining our SG&A at Q1 levels. We believe this is the right level to drive continued growth, but also to retain flexibility to adapt up or down depending on the housing market conditions. Third, we'll continue to invest in marketing to the homeowner to drive long-term growth. And I'm excited to provide you an update on two such investments here in a minute. You have heard all three of us mention accelerating and expanding our competitive advantages. These are the type of focus and significant investments we believe will help us just do that. Let's now shift to page 17 to discuss the concept we call connecting the rope. My team and I will be discussing this at much greater depth at the investor days in September. Other than ourselves, James Hardy, there are three key participants in the repair and the contractor who's installing the product, and the homeowner. Historically, we focused on the contractor. Our thought was that if we could get the contractor to convince the homeowner why James Heidi was better than vinyl or wood, we could drive penetration in the repair and remodel segment. While we had some success penetrating the Northeast and Midwest repair and remodel markets, our growth was slower than we liked, and in hindsight, our approach was only engaging which contractor was flawed. Our focus now is on engaging all three value chain participants and helping to connect them together to drive our growth. We are creating demand directly with the homeowners by marketing directly to the right homeowners in the right locations, providing trust and credibility through the right brand collaborations and social influences, and improving our homeowners' path to purchase. With our customers, we are partnering closely and have top-to-top goals on how much growth we will achieve together in these critical markets. Our customers make more money when our homeowner chooses Pella Plus versus Vinyl Wood. So we can make more money together by delivering on these top-to-top growth goals we set together at the executive level. Lastly, we still work closely with our contractors, but more importantly, we now have access to even more contractors due to our customer relationships. We're providing value to our contractors by bringing leads to them that are generated through our marketing work. Our approach to how we penetrate these color-plus repair and remodel markets has changed substantially. I've only scratched the surface today. At the investor day, we'll be spending multiple hours unpacking the various components of our repair and remodel penetration strategy. What I want to leave with today after this brief explanation is the understanding that this more robust approach and strategy positions us better than we've ever been. Entering a period of market uncertainty, Our customers can make more money selling color plus than vinyl. Let's turn to page 18. We are providing an update on Magnolia. We are excited to announce that our collaboration with Magnolia will officially kick off next week. As we have discussed previously, Chip and Joanna Gaines are the founders of the Magnolia Home, and we believe are the preeminent influencers in the home improvement and renovation space. Our collaboration not only includes social influencer content, but includes a new line of products, the Magnolia Home James Hardy Collection. This collection of products includes 16 new colors carefully curated by Joanna Gale. This collaboration will launch next week on August 24th in the United States. Hopefully, you are following Magnolia, James Hardy, and Chip and Joe on social media so you can follow the launch firsthand. We have provided some of the important social media handles here for your reference. We are really excited about this collaboration. We believe that Magnolia, Chip and Joanna will bring additional credibility and trust regarding the James Hardy brand to homeowners, empowering them to design the home of their dreams. And we believe the launch of the new Magnolia Home James Hardy Collection will drive further awareness and color plus penetration and growth. Let's now shift to page 19 to discuss another exciting growth investment that is again focused on the homeowner. we're currently partnering with a third party that specializes in homeowner visualization tools. This tool could be accessible from a computer, tablet, or phone. An easy-to-use interface allows the homeowner to upload a photo of their home and then drag and drop different James Hardie products to create the design of their dreams. Not only will this tool help to design the new exterior, over time we will integrate the tool through to our contractors and customers. So again, as I discussed a few slides ago, helping us to further connect the rope and enable the homeowner to not only design the home of their dreams but connect them to the right contractor and connect that contractor's orders due to the customer. It is an exciting innovation for us that we think can really help bring the residing process to a more modern approach and help improve the homeowner's path to purchase experience. A few closing comments before I hand it back to Jason. The entire North American team and I are extremely invigorated by addressing these challenging times. Many of us have helped Hardy navigate uncertain markets before, and we have learned from prior successes and failures. We believe we are in a much stronger position entering this period of uncertainty than we have ever been before, and we are confident we are positioned to thrive in the U.S. housing market. I will now hand it back to Jason.

Thanks, Gad. Let's turn to page 21. I wanted to reiterate our previously announced capital allocation priorities. First, and especially in periods of market uncertainty, we want to preserve strong liquidity and flexibility. Second, we deploy our capital first to drive organic growth, including capacity expansions, innovation, and marketing. Third, we want to maintain our net leverage ratio at below two times. And fourth, when there is available capital, we return capital to shareholders. Let's turn to page 22 for a brief update on our capacity expansion plans. Ryan Kilcullen will be providing a much deeper update at our investor day in September, but I thought it was relevant to provide an update on our capacity expansion program we had previously disclosed. Here you will see the same map view we have leveraged in the past, showing all of the large capacity expansion projects we have scheduled to be commissioned over the next three to four years. While we fully expect to execute all of these expansions, We have made adjustments to the projects marked in yellow to adjust the timing of when we anticipate starting construction and commissioning. To Adams and Green, we continue to progress on our original timeframes. While we believe the Greenfield sites in the U.S. and Europe will begin construction later than we originally planned, we continue to finalize the purchase of land in both locations. Already having land and having it in shape to commence building provides us the most flexibility and ramping capacity when needed. Further, for the time being, we have reduced the scope of our Rose Hill pilot facility and we have paused the Fontana pilot facility. While we believe having these pilot plans for long-term innovation is the right strategic step, we do not believe it is prudent to build them at a time where construction costs are at record highs. The current adjustments reflected on this page will deliver just over $200 million of cash savings in fiscal year 2023 versus our original plan. As a reminder, the role Ryan took in early January 2022 was a new role to Hardy. Having the Global Capacity Expansion Program under one leader as strong as Ryan has provided significant benefits. He and his team are continuing to partner with our cross-functional teams on market demand profiles and will continue to adjust our expansion plans accordingly. As we have mentioned in prior calls, we will be biased toward being slightly long on capacity to ensure we do not get caught short on capacity. This is one of those examples of how we have learned from the past. In our North American business, we got caught short in capacity in 2017, and that significantly impacted the business for many years. But on the flip side, more recently, we constructed Prattville sheet machines one and two concurrently and ahead of demand. As demand profiles fluctuated, we were able to delay and pace the start of Prattville one and two with minimal impact on the P&L, and then We were able to quickly ramp those lines when the demand required it, and it was one of our key competitive advantages during the past few years. While we have made some adjustments to our initial capacity expansion plans, it is worth noting that in North America, we continue to move forward with several key projects, two of which will add more high value product capability this fiscal year. We are currently commissioning our Prattville trim finishing capability, which will add much needed trim capacity to our southern markets. Similarly, we'll add ColorPlus finishing capability into the Northeast with our Westfield, Massachusetts ColorPlus finishing facility. As we have previously mentioned, ColorPlus growth is 31% in Q1 after a strong FY22 of 27% ColorPlus growth. Earlier, Sean discussed our continued investment in driving ColorPlus growth in our repair and remodel markets, thus to ensure we keep supply ahead of demand to enable our penetration we're moving forward with the Westfield project as planned. Now please turn to page 23 to discuss guidance. Today we are adjusting our fiscal year 23 adjusted net income guidance to $730 million U.S. dollars to $780 million U.S. dollars. This represents a 22% year-on-year increase at the midpoint. Our primary reasons for adjusting guidance downward are as follows. One, continued inflationary pressures globally. Two, our lowered expectations regarding Europe segment EBITs, three, impact of a strengthening U.S. dollar on the translation of our APAC and Europe earnings, and four, housing market uncertainty. As Sean previously disclosed, for North America, we expect fiscal year 23 net sales growth of 18 plus percent with an EBIT margin range of 28 to 32 percent. Finally, let's turn to slide 24 for a quick closing. As Harold mentioned at the start of the call, we're operating in a challenging macro environment and one which is creating uncertainty in regard to housing activity levels in the future. We are laser-focused on ensuring we deliver strong results and accelerate and expand our competitive advantages, and we believe we have positioned ourselves to do just that. Globally, we are financially strong with strong liquidity, low leverage, and step-change earnings and cash generation. We believe we have the right strategy to thrive in a variety of housing markets, and we have a management team with proven experience in a variety of housing markets. We believe we have positioned ourselves to continue to deliver growth above market and strong returns. Before turning it over to Q&A, I want to provide a short update on the CEO search. In our chairperson succession announcement last week on August 11th, Mike Hammes indicated the board's expectation that the CEO role would be filled within the next 30 days. At 30 days as prior to our investor day on September 12th, the expectation is you'll have access to the new CEO at our investor day, in addition to Chairman Mike Hammes and Deputy Chairperson Ann Lloyd. As questions regarding the CEO appointment are most appropriately answered by the Chairman or the Deputy Chairperson, we will not be answering questions on that topic during today's call, but ask that you hold such questions for Mike and Ann in September. Operator, that concludes our prepared remarks. Please remind our call participants how they can ask a question and then commence the Q&A session. Thank you.

Thank you. If you wish to ask a question, please press star one on your telephone and wait for your name to be announced. If you wish to cancel your request, please press star two. If you are on speakerphone, please speak up your hands to ask your question. We request you to limit to one question and one follow-up. We have a first question from the line of David Pace with Green Cape. Please go ahead.

Morning, guys. Well done on a solid result. Just with reference to the gross profit percentage margin decline of 3.1% in North America, is that all inflationary pressures as opposed to delivering so-called value-added products at lower percentage margins?

It's all inflation, David. We're delivering the right products. We actually have great price mix, which is more profitable products. Inflationary products are hugely significant.

Just by way of follow-up, I'm right then in suggesting that higher price points generally equate to higher margins. on that value curve?

Yeah, that's generally correct, Dave.

Okay, thank you.

Yeah, Dave, I'll just put the inflationary pressures into context a little bit. So just picking one item. So if you think about freight in North America, the freight costs we experienced in Q1 versus what we were experiencing back in February is about a $15 million headwind to the Q1 EBIT. It's worth 200 basis points just by itself. So the inflationary headwinds have been significant. We commonly talk about the big four items in our costs with you guys being freight, labor, pulp, and cement. And those four make up over 50% of our total cost of goods sold. And we try to outline for you a bit more clarity on those items. But I think the other thing we usually don't talk about is the rest of the costs. And those are also up significantly. So as an example, paints and primers and packaging, which includes pallets, those items are up combined 18% versus the prior Q1. And those items would, if combined those two things together, they'd be in the top four as well, or what would be the top five. So we're feeling strong inflation across the board. Good news is we've seen some of those costs stabilize. And in particular, as Sean mentioned, we've seen freight come down in July by 10%. So we see the margin progression Sean laid out, even if the costs remain where they are in Q1. So we feel good about where we're at today. but the inflation is significant. Thank you.

Thank you. We have next question from the line of Peter Stein with Macquarie Group. Please go ahead.

Morning, James. Thanks very much. Sean, could you perhaps just shine the light a little bit on your experience and your visibility in the R&R market at this point? Obviously, new has changed tech fairly quickly, but What are you seeing in repair and remodel markets and particularly curious in terms of some of the lower bound outcomes that are possible, what your scenarios would be and assumptions would be around your R&R outcomes?

No problem, Peter. From my perspective, as we talk through to the contractors and we go and understand what demand looks like, one, our order file remains pretty strong. The backlog that still exists in the R&R segment is still there. We think that probably holds the industry all the way through to January on average. And then I think February and March will probably be a slight dip. And that's only based on what we talk about now when we speak to contractors. They'll tell you the phone calls that they're receiving which offer jobs basically February, March, April until next year, aren't anywhere as intense as the calls that we're getting. So we will, I think we will see that. Now in terms of, you know, when and if there is a downturn, we've modeled a number of scenarios. I mean, at the end of the day, obviously we are now an R&R business. R&R will be more buoyant in a downturn than new construction. We actually did a heavy review of the last global financial crisis and try to see some comparisons. And, you know, when we saw the dip in that scenario, which we thought was pretty severe, we don't think this one will be anywhere near as severe. And so we think that there'll be, you know, as consumer confidence is light, I think there'll be a bit of a dip. And then I think it will start to come back. So we don't see and feel like it's going to be that significant. But again, you know, time will tell. We'll be ready for it if it is.

Thanks, Sean. Very quick follow-up. What proportion of sales do you see R&R at at the moment, and what do you think perhaps the full year and then the medium term could look like?

Yeah, we still think R&R makes up 65% of our business. The reality is, Peter, as we stand here today, we're making as much as we possibly can. It's more than we ever have before, and we're shipping every stick. We still currently run a backlog, so the mix hasn't really moved around on us. We feel good about our colour process penetration, which just tells me that R&R is growing, but that base in the Northeast is still relatively small compared to the whole pie, so we still think R&R is 65% of our business.

Well, thanks, Sean. Appreciate it. No worries, Peter. Thank you.

Thank you. We have next question from the line of Keith Chow with MSG Marku. Please go ahead.

Good morning, gents. Thanks for taking my questions. First one, Sean, can you just give us a sense of where you see channel inventories? I know it's tricky to be exactly definitive about it, but Can you just help us understand whether you think your product in the channel is at a right level? Do you think the channel is still short? How can you give us some confidence that the channel is not full at this stage? We're just getting some, I guess, varying comments on the state of the channel across different building products at this stage.

Yeah, no problem, Keith. There's no doubt there's a focus on our customers or by our customers to ensure their working capital is being controlled. which is very natural for a market that's uncertain. What I will tell you, we have been working with all of our customers, so we do understand with most of them where their inventory levels lie. Again, we run a backlog right now, so we're still starving the channel to some degree, particularly around product mix now, more than total volume. So I think in Planck we'll be in free supply and they would be flowing directly out of their warehouses. Products like trim, products like software, products like panel, we're still in pretty heavy backlog. So we don't believe we have a ton of inventory. The other part is three of our key customers, BFS, Lansing, and then obviously the boxes, we actually have analysts inside of their business looking at the inventory level. So we feel pretty close to where inventory levels are at. Now I do think what we don't know today yet, even though we've had the top discussions, is how low they want to run their inventories. But the expectation is they will run them low, which will then put more emphasis on two-step distribution, which we've already had those conversations with them to get them set up. So we feel pretty confident that we're not having to stop the channel.

So just as a follow-up question to that, and how it relates to your volume guidance, for the full year of high single digits. Is the change in that guidance, and I think previously it was 9 to 10, so maybe it's just a slight change, but is the change to that guidance driven by channel movements or a slight moderation of your expectations where volumes could get to going into the end of this year? Because it sounds like there is at least some moderation of the expectations for volume growth heading into particularly the fourth quarter.

Yeah, there's a bit of both in that, Keith. I do feel like Q4... is a little uncertain based on what we're hearing in the marketplace. And then the rest of it's more about actually our ability to ship I don't think I think the order file looks relatively robust still. But you know, I do think inventories will will be managed by our customers. And to be honest, the conversations I have at the top to top feels more like real conversations that happened pre COVID, which was around my business correctly, which means I've got to run the right working capital to deliver my service. So I think it's returning back to what I think is a normal time for the industry.

Okay, that's great. Thanks very much, Sean.

Thank you. We have next question from the line of Brooke Campbell Crawford with Barron Joy. Please go ahead.

Yeah, thanks for taking my question. There was a comment earlier on where you flagged that you're supposing the and pilot investments to the plants and just talk a bit more about that and should we expect to get less and new product launches over the next couple of years and then we'll see talked about two new high value products this year as well if you could talk about that that'd be great yeah thanks brooke uh no it doesn't have any impact on our ability to innovate um you know we're able to innovate uh within our labs and within our uh production lines

And so as we see the potential for we have more capacity coming online with Prattville 3 and 4, we have the ability to use the existing lines for the innovation team. So it's more of cash play where construction costs are at all-time highs. The pilot plans are really about long, long-term innovation. So we don't see it having a significant impact on our R&D team or the ability to innovate new products.

Yeah, and the two new products, Jason, you mentioned two high-value products this year. Can you provide some sort of insight into what to expect there?

No, sorry, Brooke. I think that may have been taken out of context on the call. I was referring to when I was talking about capacity on the call, I was talking about the fact that Pratfil 3 and 4 provides us – or, sorry, the trim capacity we added in Pratfil gives us more HLD trim, which is a high-value product. as well as the Westfield site is giving us more color capacity, which is a high-value product. So apologies for the confusion, but those were the two high-value products I was referring to through our capacity expansion.

Yeah, okay. Thanks for that.

Thank you. We have next question from the line of Lisa Hoon with J.P. Morgan. Please go ahead.

Hi, morning. Just around the comments around demand and the North American sales growth. Did I hear correctly in that you said you saw a line of sight to sales growth above the top end of that previous 18% to 22% guidance range? And can you just talk briefly about what's driving that?

Yeah, you did hear that correctly. There's definitely scenarios that we play out, which would suggest we can get above the top of the range. The one thing that, obviously, the reason we took it out instead of expanding the range is we still feel a little unsure of what Q4 looks like from a market perspective. And as that starts to clarify, we'll get a better feel for that. The upside is really around mix. Obviously, we got a price increase that went in June 22nd. That will hold. And from then on, if you look at, obviously, our color plus growth is 31% is higher than we were targeting. And we see that continuing as we go. And then as more trim capacity comes on with Prattville, we'll start to sell more high-value trim in the market as well. So we're feeling like we're going to get more upside from the mixed perspective. Volumes, like I said, will be high single digits, mid-to-high single digits.

Okay, sure.

What Sean said, so last quarter we would have been talking about pricing up to 9% to 12%. We've upgraded that to on-the-call signs and price and exchange in the low themes. And then, of course, as you just said, volume in the high single digits. So as you run that, there's plenty of scenarios above the 22.

Okay. And then just in terms of as a follow-up, the color plus growth of 31%. I think last quarter you talked about expanding the consumer marketing to some new markets. Can you just talk about whether these markets are driving the pickup in growth or where you're kind of seeing that acceleration in growth come from?

Yeah, sure. So we have opened up other markets. So Chicago's opened up, D.C.' 's opened up, Minneapolis is going to be opened up shortly. To be fair, those markets in general, it's too soon to be, we've only just started marketing, so it's too soon to count on those three new markets to be delivering the results. What I will tell you is overall, Midwest and Northeast is up significantly, and then our epicenters, just like I mentioned last quarter, are outperforming the control group. And then we are getting some opportunity as we get more capacity and we get in front of this, you know, opening up our multifamily desk. And so, you know, Color Plus plays a pretty good part in multifamily because it's a great value proposition. One, it's, you know, on the wall cost is advantaged because it's obviously painted in the factory. And two, you know, in terms of when people are holding on to those properties, You know, having a 15-year non-prorated, sorry, prorated warranty enables them to look at the lifecycle cost, and ColorPlus plays pretty well there. So we're starting to get a little bit of movement in the multifamily segment as well.

Okay, thanks. That's good, Kala. I'll leave it there.

Thank you. We have next question from the line of Simon Takere with Jeff Rees. Please go ahead.

Thanks very much and good morning or good evening, gentlemen. Just in your commentary vis-à-vis the margin performance in North America in the APAC, you've called out the inflationary impact, but you've also called out in your results presentation the benefits that lean provided in the quarter. Can you quantify those lean benefits from a margin perspective for the two regions, given that commentary? Okay.

Yes, I mean, it'd be significant, especially as part of lean is focusing on waste reduction. And at this level of expenditure with input costs, we're seeing big benefits there. I don't have the number for you right now, but it would be strong. The performance in the plant has been good, but you're probably getting a bigger bang for your buck in the fact of all the input costs are so expensive that it's causing you to save more money in that regard.

Sorry, would it be easier to ask the question, would the quantum of the lean benefits have increased versus the fourth quarter or versus the PCP? Is that a better way to ask the question?

Yeah, and the short answer is there's no doubt lean has offset some of the headwinds, yes. That would be the short answer. Reality is our focus on lean has been about increasing net hours and increasing yield. Obviously, yield is a big play here. Well, material costs are so high, and yield is at an all-time high for the business in the quarter, so are net hours. So the lean program is definitely offsetting some of the costs, but the costs are so high in inflation, from an inflation standpoint, we went over and offset all of them. In fact, at this point, it looks minimal, but definitely getting some good gains out of the lean system.

Okay. And then if I have one follow-up, then, just on the SG&A question, Jason, you called out aligning SG&A to profitable growth and obviously North America keeping SG&A flat for the next three quarters as well. Sean, can you just give us a sense of whether the customer-orientated SG&A or marketing spend goes up and other spend comes down? How should we be thinking about that mix of SG&A given your growth initiatives and customer orientation, please?

Yeah, I'll start with we obviously continue to invest in marketing. It will go slightly up because we're opening up new markets. So we've got three new markets in which we're going to start. Even though our dollars are way more optimized in the current epicenters, so it will go up. Obviously, we've also got a launch with Magnolia. We want to make sure that launch is large. We want to make sure it's heard around the country. That's not just around the epicenters. That's a national launch for us. So we'll be spending a bit of money there and then offsetting that with what we see as not essential spend.

Terrific.

Thanks, Chet. No worries. Thank you. Thank you. We have next question from the line of Sam Siu with Citi. Please go ahead.

Morning all. Just a quick question on price. You took 4%. out of cycle in the US and that won't have a full impact to Q3. Wondering then if you're in a position for a material kind of hike in Q4, was that going to be more tokenistic? And will that be value priced or will that just be the cover costs and hit that kind of margin profile you provided?

Yes, Sam. As I said last quarter, the off-cycle price increase was really about what we thought was unprecedented inflation that was coming in now. In reality, it's probably even exceeded what we were thinking at the time. But I do envisage our normal January 1st price increase. It's going to be more about value pricing for us and going back to our traditional type of pricing, somewhere in the vicinity of 3% to 5%. We're working through that right now as we speak, and we'll get that to meet our normal standard value pricing model.

Sure. And then in Australia, correct me if I'm wrong, but it looks like the out-of-cycle price rise there on linear and axons about 4%. Is that right? And always because of the product mix, it's probably going to be more or less than that.

Yeah, the price increases in Asia-Pac are weighted average of 5%. All right, cool. Thanks, guys. Cheers.

Thank you. We have next question from the line of Lee Power with UBS. Please go ahead.

Um, Heil, um... Sean, do you think you could maybe talk a little bit about where you think that the installed cost differential is for ColourPlus versus Violin Northeast, just given the amount of cost inflation that we've seen for you and your peers? Where do you think that differential sits now, I think?

No problem. There's no doubt from a material perspective, the gaps close, closing. I mean, I don't think it's just for the people on the call. The on-the-wall cost won't be significantly changed. So, you know, the reality is labor still is two-thirds of component of an installed job. So when you put that into perspective, you know, the vinyl cost going up faster now is good, but it's not really going to change the on-the-wall cost that significantly. What I will tell you is the polymer pricing, particularly for the polymer product, which is their version of shingle, That now is getting pretty close to ours. Now, obviously, they advantage on an install basis, but that's probably as close as it's ever been from a gap perspective. And then my final answer to that, just taking a little bit out of the northeast for a moment, there are geographies where paint costs have moved to a point where color will start to make sense. And we've seen examples of that in the southeast, where historically we've struggled to penetrate with color, where now The pain costs are the point where, as we start to educate the market again on colour and the advantages of colour, we should see some opportunities pop up in the southeast, just purely on economics.

Cool, thanks. And then maybe just to follow up on the colour plus volume, the 31%, can you give us what that was on a quarter-on-quarter basis, sequentially? Yes, give me one second.

I can get to that. Let me get back to you on that. I don't want to hold off the call. Cool. Thank you. No worries.

Thank you. We have next question from the line of Daniel Kang with CLSA. Please go ahead.

Good morning, everyone. Just, Sean, just I guess a follow-up on the R&R exposure. Can you remind us of what proportion of the R&R sales are driven by renovation and what proportion are to repairs?

Yeah, most of our sales will come out of renovation. We target the re-site segment, particularly in the repair and remodel market. Re-site and a little bit of a remodel. Repairs is really, really small and generally, We definitely don't target it and it's unlikely that repair gets done with fiber cement just because, unless it's our own fiber cement, it's not going to match and it's going to be one part of the house that's going to age very differently to the rest. So we think that the repair is a very small cement segment for us. Great. Thanks, Sean.

And just a quick question on the competitive landscape. Wondering how you see the new capacity arriving from your competitors. How do you see that being digested in this growing market?

You know, I think there's still space for more capacity. So, you know, we obviously are still committed to platform three and four. There are backlogs still in the marketplace. So, you know, I think we see our competitive volume entering the market in certain areas. Obviously, we will do our best to ensure where they go is where we want them to go. And we continue to work on that.

Okay, great.

I'll pass it on. Thank you. Thank you. We have next question from the lineup. Peter Wilson with Credit Suisse. Please go ahead.

Thank you. Apologies if this was mentioned earlier, but the upgrade to North America price mix, is that a mix or is it a price also?

It's been mixed, Peter. We haven't changed anything on price. We had already announced the increase on June 22nd. So that's all about the color plus growth, trim growth, et cetera.

Yeah, okay. Can you comment a little bit more on that? Because, I mean, color plus growth is still very strong, but a similar percentage growth rate to what you've done in the last couple of quarters. So just wondering, what has changed so much, particularly given color plus is still only a minority of the sales there?

Yeah, and I'll just quantify it. So ColourPlus is 8% up quarter over quarter, certain consecutive quarters, just to follow up on Lee's question. Yeah, the confidence, I think, comes from two things. One, we have a pretty robust trim backlog, which obviously as Prattville starts to make more trim, we'll get the benefit of that. Two, we do see colour continue to play a big part of our price mix. And then, you know, offsetting that and, you know, our interiors business is becoming a much smaller percentage of our total business. So our lowest priced material would be BACA. And BACA is, you know, essentially we made the decision to ensure that, yes, our key partners in the world of BACA get to grow. We are restricting it in terms of, you know, if there's an opportunity to make it serious, we'll make it serious before we make BACA.

Great. That's helpful. Appreciate that. I guess, what changed so much in your expectation versus only a few months ago?

Colours of outperforming and the ramp-up of practical ahead of schedule.

All right. Perfect. I'll leave it there. Thank you.

Thank you. Thank you. We have next question from the line-up. Shorya Visen with Goldman Sachs. Please go ahead.

Morning, Harold, Jason, Sean. This is Charlie from Bank of America. Thank you for taking my question. Could you give us a sense of what the volume growth was for exterior versus interiors in North America? Apologies if I missed that in the presentation. And also to the point you just mentioned that interiors are increasingly lower part of your volume. Is that number like close to 10% now or is it around 15% now? Thank you.

Yes, good question. Volumes for North America were plus 11%. Exteriors would have been north of that, and interiors would have been closer to flat. As Sean just mentioned, we're focusing on exteriors. And, yes, to your point, interiors as a total mix of the business is now probably just below 10%, which is a big shift from five years ago where it would have been closer to 20%.

So it won't be a feature of the presentations moving forward.

Thank you. We have next question from the line of Paul Quinn with RBC Capital Markets. Please go ahead.

Yeah, thanks very much. Just on ColorPlus at 31% year-over-year or 8% quarter-over-quarter, what percentage of North American volume is ColorPlus today?

Yeah, so it's roughly a quarter of our exterior volume. and growing, so we are very pleased. Certainly the last sort of, you know, if I was to take it back in history, we sort of stalled out about 21% for about seven or eight years, and we've seen that grow over the last sort of 24 months.

Okay, and then just as a follow-up, what does the Massachusetts Color Plus add to that? Does that allow you to get up to 35% or what additional volume does that give you?

It's a tricky question, only because it depends what your base business does. But we do, obviously, we see the most of our opportunity in the color world still against vinyl, and we see most of the opportunities still in the Northeast, where we store very lowly penetrated. So I will tell you that Boston, we like where the Boston market is. It would be right now in probably the best position of all our epicenters, and so we continue to invest there. All right, fair enough.

Thanks, Paul.

Thank you. Ladies and gentlemen, we have reached the end of the question and answer session, and I'd like to hand the conference over back to Mr. Jason Milley for closing remarks. Over to you, sir.

Thank you. I want to quickly thank our entire team of 5,000 teammates around the world. Our entire organization is energized and excited about where we positioned ourselves. We believe we're in a great position to continue to drive strong results and accelerate and expand our competitive advantages. It's really an exciting time to be a part of the James Hardy team. And we appreciate everyone for joining us today, and hopefully we'll get to see you in New York. Cheers.

Thank you, sir. Ladies and gentlemen, that does conclude our conference for today. Thank you for participating. You may now disconnect.