PPG Industries, Inc.

Good morning. My name is Elliot. I'll be your conference operator today. At this time, I would like to welcome everyone to the third quarter PPG 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 during this time, simply press star followed by the number one on your telephone keypad. If you would like to withdraw your question, please press the pound key. To allow everyone an opportunity to ask a question, the company requests that each analyst ask only one question. Thank you. I would now like to turn the conference over to John Bruno, Vice President of Investor Relations. Please go ahead, sir.

Thank you, Elliot, and good morning, everyone. Once again, this is John Bruno. We appreciate your continued interest in PPG and welcome you to our third quarter 2022 financial results conference call. Joining me on the call from PPG are Michael McGarry, Chairman and Chief Executive Officer, Tim Kanavish, Chief Executive Officer-Elect, and Vince Morales, Senior Vice President and Chief Financial Officer. Our comments relate to the financial information released after U.S. equity markets closed on Wednesday, October 19, 2022. We have posted detailed commentary and accompanying presentation slides on the Investor Center of our website, ppg.com. The slides are also available on the webcast site for this call and provide additional support to the brief opening comments Michael will make shortly. Following management's perspective on the company's results for the quarter, we will move to a Q&A session. Both the prepared commentary and discussion during this call may contain forward-looking statements reflecting the company's current view of future events and their potential effect on PVD's operating and financial performance. These statements involve uncertainties and risk, cause actual results to differ. The company is under no obligation to provide subsequent updates to these forward-looking statements. This presentation also contains certain non-GAAP financial measures. The company has provided in the appendix of the presentation materials, which are available on our website, reconciliations of these non-GAAP financial measures to the most directly comparable GAAP financial measures. For additional information, please refer to PB's filings with the FTC. Now, let me introduce PPG Chairman and CEO, Michael McCary.

Thank you, John, and good morning, everyone. I would like to welcome you to our third quarter 2022 earnings call. I hope you and your loved ones are remaining safe and healthy. Before I go into my comments regarding the third quarter, I would like to congratulate Tim Knavish for being appointed President and Chief Executive Officer of PPG effective January 1, 2023, and immediately joining the company's Board of Directors. Tim has an outstanding track record, having served the company for more than 35 years and leading nearly every PPG business during his career. The board and I have full confidence that Tim will guide PPG to future growth and additional shareholder value. With Tim's appointment, I will become executive chairman on January 1, 2023. Now let me turn to our financial results. Last evening, we reported third quarter 2022 financial results. For the third quarter, we delivered net sales of $4.5 billion, and our adjusted earnings per diluted share from continuing operations were $1.66. To quickly summarize the quarter, our sales performance was a record driven by continued realization of real-time price increases that fully offset total cost inflation for the second consecutive quarter. On a two-year stack, selling prices are up about 18%. As we communicated earlier this month, these sales and earnings results were lower than our guidance for the quarter as we were impacted by further softening of demand in Europe and less of a sequential economic improvement than expected in China due to the pandemic restrictions in September. In addition, the strengthening of the U.S. dollar lowered sales by about 6% or $265 million, worse than it was originally forecasted. Despite these lower-than-forecasted sales, we did deliver strong performances in several of our businesses, including PPG COMEX, which delivered another record quarter. Also, our global automotive refinish, traffic solutions, and U.S. packaging coatings businesses each set all-time quarterly sales records in the quarter. Year-to-date, our automotive refinish coatings business has delivered about 1,500 net new body shop wins as customers continue to value the product, technology, and industry-leading services and capabilities that this business delivers every day. In addition, our aerospace business delivered strong double-digit percentage sales growth, volume growth, aided by recovering airline travel that is now about 85% of pre-pandemic levels. With additional industry recovery, a strong order book, and PPG's advanced technology products, We expect this business to continue to grow into 2023 and beyond. We continue to experience improvement in commodity raw material availability. However, certain short supply raw materials impacted our automotive refinish and aerospace coding businesses, constraining their ability to meet their respective strong order books. Together, these two businesses entered the quarter with a $200 million backlog, similar to the end of the second quarter. Importantly, our year-over-year segment operating margin recovery has begun. This reflects the progress we have made in implementing selling price increases. The third quarter marked the 22nd consecutive quarter of higher selling prices. We expect our margin recovery to accelerate into 2023 and anticipate by the first quarter of 2023, we will fully recover all cumulative inflation from 2021 and 2022. We continue to make good progress executing on our acquisition related strategies and other cost savings initiatives from previously announced restructuring program, which delivered about $25 million of incremental benefit in the third quarter. During the quarter, we continue to progress our launch of the expanded Pro Painter initiative with Home Depot. Each week, our team is calling on thousands of prospective new customers and delivering new business wins. In the third quarter, we also started joint work with the HD supply team to hunt for new paint customers, including in the commercial maintenance area. And while early, this collaboration is yielding results and we expect will be another catalyst for future growth in the U.S. architectural coatings business. Overall, paint contractors are providing us with ongoing positive feedback on the convenience of buying well-recognized PPG Pro products at the Home Depot. Collectively, we continue to see opportunities for significant growth in the coming years. While working capital remains higher than we would like, we made solid progress in the third quarter in beginning to lower our inventories on a sequential basis. We had been carrying higher than historic levels of inventory given supply chain constraints over the past year, but given the broadening elongation of supply globally, we are now able to destock, including reducing, or canceling raw material orders and reducing safety stock closer to historic levels. We are prioritizing further inventory reductions in the fourth quarter, which will benefit our cash generation. We made modest repurchases of our stock during the quarter and repaid $100 million of debt. We continue to evaluate potential strategic bolt-on acquisitions. Consistent with our past practices, we will deploy cash in the most accretive manner for our shareholders, including some continued debt reduction. On the ESG front, I want to highlight yet another example of PPG leading the way. The acquisition of Ticarilla has proved to be very valuable on several fronts, including enhancing PPG's ESG program through the addition of advantage sustainable solutions that contribute to the circular economy. These include bio-based products and packaging made from 50 to 75% recycled plastic that is also 100% recyclable. Currently, nearly 90% of Ticarilla's products are waterborne and 48% of the portfolio is eco-level. We are leveraging Ticarilla's sustainability approach in our architectural business beginning in Europe. Looking ahead to the fourth quarter, normal seasonal demand trends are expected, including lower sequential sales in most of our architectural businesses and also in our traffic solutions business whose sales historically fall about 50% due to weather considerations. In Europe, we expect economic conditions to remain weak due to the softening consumer competence and lower industrial activity related to the significantly higher energy costs and geopolitical issues. In China, we anticipate weaker-than-normal economic activity for the fourth quarter due to continued pandemic-related disruptions and slowing exports to Europe. TPG's largest factory in China was required to close for the first 10 days of October, and further restrictions could curtail production and commercial activity. One offset in port TPG is we expect automotive OEM builds in China to remain solid and consumer spending to improve into 2023. In general, demand in the U.S. in-use markets remain solid and we expect several of our businesses to continue to deliver positive year-over-year sales volume growth. Demand for architectural DIY and residential new home coatings products in the U.S. is beginning to slow, and industry demand is anticipated to weaken further in the fourth quarter and in the next year's basis leading economic indicators. PPG's exposure to the U.S. new home market is relatively small, and a low single-digit percentage of company sales And our overall exposure to the residential housing market is less than 10% of company revenue. We expect some of the industry weakness to be offset by our growth initiatives with the Home Depot and other customer gains. Raw materials are expected to remain inflationary with a mid single digit higher than the prior year, but fall modestly on a sequential quarterly basis. We expect supply chain conditions to continue to broadly improve. including better raw material and transportation availability as our suppliers are nearing their 2019 manufacturing and supply capabilities. As a reminder, we've absorbed about $1.9 billion of raw material inflation since the beginning of 2021. In the fourth quarter, we expect further increases in energy costs, especially in Europe and to some degree in the U.S. We will continue to prioritize implementing further real-time targeted selling price increases to mitigate these higher costs. Due to the heightened level of economic uncertainty, we have implemented an additional restructuring program focused on fast payback actions targeting $70 million of annualized savings upon full implementation. The program includes several initiatives in Europe and is mostly concentrated on matching our staffing levels with lower demand. As we enter a period of heightened economic uncertainty, we expect our business portfolio to reach prove more resilient in the coming quarters. With continued recovery in the automotive OEM and aerospace coating businesses, along with demand-stable businesses like Automotive Refinish and Traffic Solutions, we believe that more than 50% of PPG's portfolio will remain resilient even if we experience a broader global economic decline. This is noteworthy and positive step change from the prior recession. Also importantly, we expect that our Sequential quarterly momentum on operating margin increment will continue to the fourth quarter as we work back towards our historical margin profile. This will be supported by maintaining our selling prices to reflect the value of the products and services we provide. While economic conditions are challenging in the near term, I remain confident about the future earnings capabilities of PPG as the earnings catalyst that I referenced in the past remain fully intact And we certainly see a path to return to prior peak operating margins with opportunities to exceed them. In closing, as we look to finish year managing intensifying challenges, I want to thank our team of 50,000 employees around the world for making it happen by supporting our customers and the communities where we operate. Their dedication, even during the most challenging times, is inspiring and drives our purpose to protect and beautify the world. Thank you for your continued confidence in PPG. This concludes our prepared remarks. And now, Elliot, would you please open the line for questions?