The Sherwin-Williams Company

Good morning. Thank you for joining the Sherwin-Williams Company's review of fourth quarter and full year 2019 results and the outlook for the full fiscal year of 2020. With us on today's call are John Marikis, Chairman and CEO, Alma Fishen, CFO, Jane Cronin, Senior Vice President, Corporate Controller, and Jim Jay, Senior Vice President, Investor Relations. This conference call is being webcast simultaneously in listen-only mode by issuer direct via the Internet at www.sherwin.com. An archived replay of this webcast will be available at Sherwin.com beginning approximately two hours after this conference call concludes and will be available until Thursday, February 20, 2020 at 5 p.m. Eastern Time. This conference call will include certain forward-looking statements as defined under U.S. Federal Securities Laws with respect to sales, earnings, and other matters. Any forward-looking statement speaks only as of the date on which such statement is made and the company undertakes no obligation to update or revise any forward-looking statement. whether as a result of new information, future events, or otherwise. A full declaration regarding forward-looking statements is provided in the company's earnings release transmitted earlier this morning. After the company's prepared remarks, we will open the session to questions. I will now turn the call over to Jim Jay.

Thank you, Jessie, and good morning, everyone. All comparisons in my remarks are to the fourth quarter 2018 or full year 2018 results, respectively, unless otherwise stated. Beginning with the fourth quarter of 2019, consolidated sales increased $50.2 million or 1.2% to 4.11 billion. For the full year 2019, consolidated sales increased $366.3 million or 2.1% to $17.9 billion. Currency translation rate changes reduced sales in the quarter and the year by 0.9% and 1.4% respectively. Consolidated gross profit dollars in the fourth quarter increased $211.3 million or 12.6% to $1.89 billion. Gross profit for the year increased $617.5 million or 8.3% to $8 billion. Consolidated gross margin in the fourth quarter increased to 46% from 41.4%. Excluding impacts from acquisition-related amortization expense and integration costs, consolidated gross margin in the quarter increased to 46.5% from 42.4%. Consolidated gross margin in the year increased to 44.9% from 42.3%. Excluding impacts from acquisition-related amortization expense and integration costs, consolidated gross margin for the year increased to 45.1% from 42.8%. Selling, general, and administrative expense in the fourth quarter increased $116.2 million to $1.35 billion and increased as a percent of sales to 32.9% from 30.5%. SG&A expense for the year increased $241.1 million to $5.27 billion and increased as a percent of sales to 29.5% from 28.7%. Interest expense for the quarter decreased $5.6 million to $83.8 million. For the year, interest expense decreased $17.4 million to $349.3 million. The decrease was primarily due to lower year-over-year debt levels. As described in our press release, we recognized non-cash pre-tax impairment charges in the quarter, totaling $122.1 million, related to recently acquired trademarks. Additionally, the company recognized pre-tax gains in other income and interest income of $34 million and $19 million, respectively, related to a Brazil indirect tax matter. Consolidated profit before tax in the fourth quarter increased $195.4 million to $297.4 million. This includes $71.3 million of other adjustments and 119.3 million of acquisition-related costs. Fourth quarter of 2018 includes 173.2 million of other adjustments and 137.5 million of acquisition-related costs. Consolidated profit before tax for the full year increased $622.1 million to $1.98 billion. This includes $69 million of other adjustments and $389.3 million of acquisition-related costs. 2018 includes $341.5 million of other adjustments and $484.4 million of acquisition-related costs. We have summarized fourth quarter and full year adjustments to consolidated and segment profit in a slide deck on our website under January 30th, 2019 year end and fourth quarter financial results. Currency translation rate changes decreased consolidated profit before tax by $22 million in the year. Excluding acquisition related costs and other adjustments, our effective tax rate on adjusted income for the quarter was 18.1% and 19.1% for the full year. Diluted net income per share for the fourth quarter 2019 increased to $2.66 per share from $1.07 per share. The fourth quarter of 2019 includes per share charges of 97 cents for acquisition-related costs and other adjustments totaling 64 cents per share. The fourth quarter of 2018 includes charges of $1.10 per share for acquisition-related costs and other adjustments totaling $1.37 per share. Excluding these items, fourth quarter adjusted diluted earnings per share increased 20.6% to $4.27 from $3.54. Diluted net income per share for the full year increased to $16.49 per share from $11.67 per share. Full year 2019 diluted net income per share includes acquisition-related costs of $3.21 per share and other adjustments totaling $1.42 per share. Full year 2018 diluted net income per share includes acquisition-related costs of $4.15 per share and other adjustments totaling $2.71 per share. Excluding these items, full-year adjusted diluted earnings per share increased 14% to $21.12 from $18.53. We have summarized fourth quarter and full-year comparisons, including the acquisition costs and other adjustments, in a Regulation G reconciliation table in our fourth quarter 2019 press release. Let me take a few minutes to break down our performance by segment. Sales for the Americas Group in the fourth quarter increased $108.8 million, or 4.8%, to $2.36 billion. For the year, net sales increased $546.8 million, or 5.7%, to $10.17 billion. Comparable store sales in the U.S., Canada, and the Caribbean, that is, sales by stores open more than 12 calendar months, increased 4.6% in the quarter and 5.3% in the year. Regionally, in the fourth quarter, our Southeast division led all divisions, followed by Southwest, Canada, Midwest, and Eastern. Sales were positive in every division in the quarter. Fourth quarter segment profit increased $36.1 million or 8.7% to $449.4 million. Currency translation rate changes decreased segment profit $4 million in the quarter. Full year segment profit increased $158.1 million or 8.3% to $2.1 billion. Currency translation rate changes decreased segment profit by $15.5 million in the year. Fourth quarter segment margin increased 70 basis points to 19%. Full year segment margin increased 50 basis points to 20.2%. Turning now to the consumer brands group. Fourth quarter sales increased $5 million or 0.9%. to $539.4 million. Full year sales decreased $62.3 million, or 2.3% to $2.68 billion. Currency translation rate changes and the guardsman divestiture reduced sales by 1.2% and approximately 1.8% in the year, respectively. Fourth quarter segment profit increased $17.7 million to $29.7 million. Currency translation rate changes increased segment profit $3.9 million in the quarter. Acquisition related amortization expense decreased fourth quarter segment profit by $23.2 million in 2019 compared to $24.5 million in 2018. In addition, trademark impairment charges decreased segment profit by $5.1 million in the fourth quarter of 2019. Full year segment profit increased $112.1 million to $373.2 million. Acquisition related amortization expense decreased full year segment profit by $91.2 million in 2019. compared to $110.9 million in 2018. In addition, trademark impairment charges decreased segment profit by $5.1 million in 2019. Fourth quarter segment margin increased to 5.5% from 2.2%. Excluding acquisition-related amortization expense and the trademark impairment charge, fourth quarter segment margin increased to 10.8% from 6.8%. Full year consumer group segment margin increased to 13.9% from 9.5%. Excluding acquisition related amortization expense and the trademark impairment charge, full year segment margin increased to 17.5% from 13.6%. For our performance coatings group, fourth quarter sales decreased $63.5 million or 5% to $1.21 billion. Full year sales decreased $117.2 million or 2.3% to $5 billion. Currency translation rate changes reduced fourth quarter and full year sales by 1.1% and 2.3% respectively. Fourth quarter segment profit was negative $7.4 million, including a charge of $117 million related to trademark impairment compared to segment profit of $112.3 million in the fourth quarter of 2018. Currency translation rate changes increased segment profit by 3.4 million in the fourth quarter of 2019. Acquisition related amortization expense decreased fourth quarter segment profit by $53.1 million in 2019 compared to $55.2 million in 2018. Full year segment profit was $379.1 million, including a charge of $117 million related to trademark impairment compared to full year segment profit of $452.1 million in 2018. Currency translation rate changes decreased segment profit by $7.1 million in the year. Acquisition-related amortization expense decreased full-year segment profit by $215.5 million in 2019 compared to $215.8 million in 2018. Fourth quarter performance coding group segment margin was negative 0.6%, or 9%, excluding the $117 million trademark impairment charge, compared to 8.7% last year. Excluding acquisition-related amortization expense and the trademark impairment charge, fourth quarter segment margin increased to 13.4% from 13.1%. Full year segment margin was 7.5% or 9.8% excluding the trademark impairment charge compared to 8.8% last year. Excluding acquisition related amortization expense and the trademark impairment charge, full year segment margin increased to 14.1% from 12.9%. That concludes our review of our operating results for the fourth quarter and the full year. So let me turn the call over to John Marikis, who will make some general comments and provide our outlook for fiscal year 2020.

John? Thank you, Jim. Good morning, everyone. Thanks for joining us. I'd like to make just a few additional comments on our fourth quarter and full year 2019 before moving on to our outlook for 2020. We ended the year on a strong note, growing adjusted diluted earnings per share by 21%, compared to last year's fourth quarter. In terms of the full year, we delivered another year of excellent results for our shareholders. Sales grew by 2.1% to a record $17.9 billion. Adjusted gross margin improved to 45.1%, reflecting our pricing efforts and moderation of raw material inflation. Adjusted diluted earnings per share increased 14% to a record $21.12 per share. Adjusted EBITDA increased $235 million to a record $3.1 billion, or 17.1% of sales. Net operating cash increased $378 million to a record $2.32 billion, or 13% of sales. Return on net assets employed increased to 15.1% on core profit before tax. Total shareholder return for the year was 49.7%. and we returned approximately $1.2 billion to our shareholders in the form of dividends and share buybacks, an increase of 28% over the prior year. We reduced our debt by $660 million, and we ended the year with net debt to EBITDA below three times. Before moving on to my comments on our segments, I'd like to take a moment to provide an update on the integration of Valspar. While there's still much to be accomplished, particularly outside the U.S., I wanted to thank our teams for their tremendous hard work to date in bringing our two businesses together and for increasing the value we are and will be able to deliver to our customers and to our shareholders. Since the beginning of 2017, Sherwin-Williams has generated $6.1 billion in net operating cash, or 12.2% of sales. We've used that cash to invest approximately $800 million back into the business, reduce debt by nearly $3 billion, and return approximately $2.5 billion to shareholders, including $1.1 billion in dividends and $1.4 billion in share buybacks. We will no longer be calling out synergies related to the Valspar acquisition as it becomes more difficult to distinguish between acquisition synergies and our ongoing continuous improvements initiatives. We exit 2019 having a benefit of about $315 million from synergies in the P&L. including about 75 million that was realized in 2019. We've identified approximately another 100 million in opportunity, largely related to our supply chain optimization efforts in Europe and Asia. As previously communicated, we expect to realize a small portion of this benefit in 2020, with the majority being realized in 2021 and 2022 as projects are completed. Let me now turn to just a few comments and our operating segments, all of which contributed to our record performance in 2019. Within the Americas group, full year sales increased 5.7% against a prior year comparison of 5.6%. Residential repaint remained our strongest customer segment, up by a double digit percentage year over year. This is the sixth year in a row we've grown residential repaint at a double digit level. All other segments grew in the mid single digit range for the year. Full year segment profit dollars and margin also improved year over year. We continue to invest in innovation and service introducing 27 new products, our ninth consecutive year of double digit product introductions. We open 94 new paint stores in the Americas group this year and close 32. To be clear, We opened 84 net new stores and added 150 new sales territories in the U.S. and Canada. Of the 32 stores we closed, 26 were in Latin America and were related to changing market dynamics. In the consumer segment, we generated growth with our largest retail partners in North America, though full-year segment sales decreased due to lower-than-expected sales in Asia and Australia and the impact of the Guardsmen divestiture. adjusted segment margin improved to 17.5%, driven by synergies, operating efficiencies, pricing, moderating raw material costs, and lower acquisition-related amortization expense. Performance coatings group sales for the year were variable by geography and end market, and were impacted by unfavorable currency translation rate changes. Growth in North America and Latin America was more than offset by softness in Europe and Asia. Mid single-digit growth in our packaging and coil lines was offset by softness in other product lines, most notably industrial wood. Adjusted segment margin increased to 14.1% from 12.9% in the prior year. Pricing, synergies, and good cost control drove the improvement. Turning to our 2020 outlook, we currently see a similar environment to last year, with North America architectural demand remaining solid and industrial demand remaining variable by geography and end market. We have many opportunities to grow share in all of our businesses, and I remain highly confident in our ability to provide customers with solutions based on innovation, value-added service, and differentiated distributions. we enter 2020 well-positioned and focused on what we can control. For the first quarter of 2020, we anticipate our consolidated net sales will increase by 2% to 5% compared to the first quarter of 2019. We expect the Americas Group to be at or above the high end of that range. We expect consumer brands to be flat or slightly up, excluding the impact of the ACE business we exited in 2019. And we expect performance codings to be up by low single digits. For the full year 2020, we expect net sales to increase by 2% to 4%, with segment performance similar to what I described for the first quarter. On an earnings per share basis, we believe the most meaningful way to provide guidance is to exclude Balspar acquisition costs and one time items. On this basis, and given our sales outlook, we expect adjusted 2020 full year diluted net income per common share to be in the range of $22.70 to $23.50 per share, an increase of approximately 9.4% at the midpoint, compared to the 21-12 reported in 2019 on a comparable basis. This adjusted 2020 guidance excludes approximately $2.79 per share for acquisition-related expense. The Regulation G Reconciliation Table in our press release illustrates these moving parts. We expect our 2020 effective tax rate to be in the low 20% range. One key assumption embedded in our outlook is that the market rate of inflation for our raw material basket in 2020 will be flat compared to 2019, assuming stable petrochemical feedstocks and no supply disruptions. We expect the basket to be lower year over year in the first quarter and to a lesser extent in the second quarter. with year-over-year costs flattening out or slightly increasing in the back half of the year. A few additional data points may be helpful for modeling purposes. We'll continue to make investments across the enterprise that will enhance our ability to provide differentiated solutions to our customers. These investments include new stores and reps, capacity and productivity improvements, systems and product innovation in both our architectural and industrial businesses. We also plan additional incremental investments in our digital platform and the home center channel. These investments are embedded in our full year guidance. We expect capital expenditures to be approximately 320 million, which is about 1.7% of anticipated sales. Note that this estimate does not include any expenditure related to our previously announced headquarters and R&D center project. We expect to provide you with an update on this project in the near future. Depreciation should be $275 million, and amortization will be about $310 million. Historically, we have targeted dividends of about 30% of prior year gap earnings. Next month at our Board of Directors meetings, we'll recommend a quarterly dividend increase of 18.6% to $1.34 per share, up from $1.13 last year. We expect to continue making opportunistic share repurchases. We'll also continue to evaluate acquisitions that fit our strategy. Before moving on to your questions, let me wrap up today by asking you to save the date of Wednesday, June 3rd on your calendars. That will be the day we'll host our annual financial community presentation at the Marriott Marquis Hotel in New York. The program will include presentations by several members of our leadership team. We'll host our customary Q&A session, followed by a reception and lunch. Again, that date is Wednesday, June 3rd. We'll be sending out invitations and related information and a link to our registration site in April. With that, I'd like to thank you for joining us this morning, and we'll be happy to take your questions.