The Sherwin-Williams Company

Good morning. Thank you for joining the Sherwin-Williams Company's review of second quarter 2020 results and our outlook for the third quarter and full fiscal year of 2020. With us on today's call are John Marikis, Chairman and CEO, Al Mystician, 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. 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. Good morning, everyone. I hope you and your families are remaining safe and healthy during the pandemic. Let me begin with some high-level summary comments on the quarter. All comparisons are to the second quarter of 2019 unless otherwise stated. Overall, Sherwin-Williams delivered a very good second quarter given the environment. Total company consolidated sales were in line with the updated guidance we provided on June 22nd, with sequential improvement in each month of the quarter. Despite sales being down for the quarter, we delivered year-over-year improvement in gross margin, profit before tax, EBITDA, diluted net income per share, and net operating cash. Second quarter 2020 consolidated sales decreased 5.6% to $4.6 billion, inclusive of negative currency impact of negative 1.5%. The estimated negative impact from COVID-19 on consolidated sales was approximately 8%. Consolidated gross margin increased 330 basis points to 48% from 44.7%. Consolidated profit before tax increased $71.7 million or 10.6% to $747.4 million. Diluted net income per share increased 28.8% to $6.48 per share from $5.03 per share. The second quarter of 2020 included acquisition-related amortization expense of $0.62 per share. The second quarter of 2019 included acquisition-related amortization expense and other adjustments of $1.54 per share, as described in the Regulation G reconciliation table included in our press release. Excluding these items, second quarter adjusted diluted earnings per share increased 8.1% to $7.10 from $6.57. Adjusted EBITDA increased $57.5 million to $979 million, or 21.3% of sales. Net operating cash increased 42% year-to-date to $1.07 billion, or 12.3% of sales. Segment sales were also in line with the updated guidance we provided on June 22nd. Segment margin in the Americas group improved to 23.8% of sales, driven by favorable customer and product mix, lower input costs, and reduced spending. Adjusted segment margin in the consumer brands group increased to 26.5% of sales, resulting from operating leverage on the nearly 22% top line growth and lower input costs, as well as actions taken over the past year to improve our international operating margins. Adjusted segment margin in the performance coatings group decreased to 13.6% of sales, where lower input costs and good spending control were able to offset some, but not all, of the impact of the high teen's sales decline. Additional details on our segment performance are included in the slide deck provided with our press release and available on our website. Let me now turn the call over to John Marikis for some additional commentary on the quarter and our outlook. John?

Thank you Jim and good morning everyone. Let me begin by thanking the more than 60,000 employees of Sherwin-Williams for their continued determination and resilience under very challenging circumstances. As I mentioned on our last call, our senior leaders have persevered through several previous crises. Their experience has been a true differentiator during this time and enabled us to deliver significant improvement across many measures in the quarter. Our entire team has my appreciation and respect as they continue to serve our customers at a high level. The quarter played out better than we anticipated with the pace of year-over-year decline decreasing sequentially throughout the quarter. Consolidated sales were down by a mid-teens percentage in April but came out of the quarter with June flat to last year. The pace of recovery was faster than expected in some end markets which led us to revise our sales guidance on June 22nd. As Jim mentioned, gross margin in the quarter expanded to 48 percent, driven by favorable customer and product mix and lower input costs. The industry basket of raw materials was down by a mid-single digit percentage in the quarter compared to the prior year. In terms of cost control, Our team quickly developed and began implementing a comprehensive contingency plan in March to adjust to the pandemic. We reduced the SG&A spending in the quarter by $40 million, but also maintained strategic investments to support long-term growth. Let me talk a bit about trends we're seeing in each of our segments before moving on to our outlook. In the Americas group, we're now into the summer painting season. and no one is better positioned to serve professional painters than we are. We've safely and responsibly opened all our store sales floors in the U.S. and Canada, and customers in all segments tell us they're eager to get back to work. Last quarter, we commented that we believed we were seeing a pause in demand rather than demand destruction. We still believe this is the case based on the momentum we saw in multiple segments as the quarter progressed. While we don't typically comment on the pace of business by month, I would like to provide a few data points that may be helpful given the current extraordinary circumstances. In DIY, our business continued to grow at an unprecedented pace and was robust throughout the quarter. After DIY, New Residential and Residential Repaint were the best performers in the quarter and both recovered to deliver positive growth in June. Commercial improved in each month of the quarter and was down slightly in June. Property maintenance and protective and marine also improved sequentially, but have not yet returned to growth. From a product perspective, exterior paint is recovering faster than interior paint, as you would expect, due to social distancing requirements. Exterior paint sales increased by a mid single digit percentage in the quarter, and with June being the strongest month in the quarter. Interior paint sales decreased by a low single digit percentage in the quarter, but improved throughout the quarter, finishing June flat to last year. Additionally, spray equipment pump sales are often a good indicator of future demand, as contractors are unlikely to invest in this type of equipment unless they anticipate significant future demand. Spray equipment pump sales were down mid-single digits in the quarter, but recovered to finish strong in the month of June. Pricing came in as we expected and was approximately 2 percent in the second quarter. We expect a similar level of effectiveness in the third quarter. We still anticipate opening approximately 50 new stores this year, while continuing to focus on adding sales reps, management trainees, innovative new products, and productivity-enhancing services. We also continue to invest in our e-commerce platform, and we're pleased with the continuing uptick in usage. Moving on to our consumer brands group. DIY demand surged throughout the quarter, driven by consumers nesting and tackling home improvement projects during the pandemic. We generated strong double-digit growth by working closely with our retail customers to capture this demand, most notably Lowe's, our exclusive national home center partner. Our global supply chain organization continued to adapt and invest during the quarter, including pivoting from five-gallon pails to single-gallon cans on multiple production lines to help meet the unprecedented DIY demand. Internationally, we saw positive growth in Europe, while China and Australia remained soft. We leveraged the strong sales growth to drive significant operating margin improvement compared to the prior year. Our margin improvement also reflects the benefit of actions taken over the past year to focus our portfolio, including rationalizing SKUs, exiting the ACE private label business, streamlining our European business and reducing costs in Asia and Australia. This enhanced profitability will enable us to reinvest in the business to drive long-term growth for our retail partners, especially in the handyman remodeler, pros who paint category. Lastly, let me comment on the trends in the performance codings group. Demand improved sequentially across the group in the quarter, though the pace of improvement remained variable by geography and business unit. From a geographic perspective, Asia was the strongest performer in the quarter, down by a low single digit percentage. All other regions were down by double digit percentages, though North America was significantly better than Europe and Latin America. In packaging, Sales were positive in every region for the quarter and were up a high single-digit percentage. Demand for food and beverage cans remains robust. In coil coatings, the resumption of selected commercial construction projects drove sequential improvements during the quarter, including exiting the quarter positively in June. This improvement aligns with my earlier comments on commercial construction within the TAG segment, which improved sequentially in the quarter. In industrial wood, we saw sequential sales improvement during the quarter. Many of the end markets served by this business, including furniture, kitchen cabinetry, and flooring, are influenced by trends in new residential construction, which has gained momentum in our tag business, as I mentioned earlier. In general industrial, most end markets, including heavy equipment, agriculture, transportation, and general finishing, remain soft. though the business did improve sequentially. Encouragingly, General Industrial was up high single digits in Asia for the quarter. All other regions were down double-digit percentages in the quarter. In automotive refinish, miles driven and traffic congestion remain at reduced levels. We saw sequential improvement in the business during the quarter, though a return to growth continues to depend on the lifting of stay-at-home orders and the resumption of more normal travel routines. Certainly the pandemic is not over and numerous uncertainties in the economic environment remain. However, to the extent that economies are beginning to shift from the containment phase to the recovery phase of the pandemic, our team is energized and engaged to capture current opportunities and deliver above market growth. We anticipate third quarter demand to improve sequentially from the second quarter. but softness to continue in some end markets in the U.S. and internationally for the remainder of 2020. Against this backdrop, we anticipate third quarter 2020 consolidated net sales will be up or down by a low single digit percentage versus the third quarter of 2019. Looking at our operating segments for the third quarter, we anticipate the Americas Group to be flat to up by a low single digit percentage. consumer brands group to be up a low double digit percentage and performance codings group to be down by a low to mid single digit percentage. For the full year 2020, we're revising our sales guidance upward modestly to approximately flat with last year. This guidance reflects continued uncertainties in the timing and pace of improvement in the U.S. and global operating environments. On an operating segment basis for the full year, we anticipate the Americas group to be flat to up by a low single-digit percentage, consumer brands group to be up by a high single-digit percentage, and performance codings group to be down by a low to mid-single-digit percentage. We are revising our diluted net income per share guidance for 2020 to be in the range of $19.21 to $20.71 per share compared to our previous guidance of $16.46 to $18.46 per share and compared to $16.49 per share earned in 2019. Full-year 2020 earnings per share guidance includes acquisition-related amortization expense of approximately $2.54 per share. On an adjusted basis, we expect full year 2020 earnings per share of $21.75 to $23.25, an increase of 6.5% at the midpoint over the $21.12 we delivered last year. Embedded within our outlook is the assumption that the industry raw material basket will be lower for the full year by a mid single digit percentage. Based on our current outlook, we expect the second quarter will be the most beneficial in terms of year-over-year deflation. We expect the second half benefit will be less than the first half benefit given comparisons to the deflation we saw in the back half of 2019. Let me close with some additional data points and an update to our capital allocation priorities. Our balance sheet and liquidity position remain strengths of the company. At June 30, 2020, we had $188 million in cash and approximately $3 billion of unused capacity under our revolving credit facilities. Our leverage ratio improved to 2.8 times on total debt to adjusted EBITDA compared to 3.3 times a year ago. Given the improving sequential demand we're seeing in several end markets, we're raising our CapEx guidance for the year from $180 million to $280 million. This is largely related to architectural and packaging capacity expansions restarting. This CapEx guidance includes a minimal amount of spending related to our new headquarters and R&D facility project. Earlier this month, the company's board of directors approved a cash dividend of $1.34 per share, an increase of 18.6% over the $1.13 per share dividend paid in the second quarter of 2019. We are committed to maintain this dividend increase throughout the rest of 2020. In May, we paid off $429 million in 2.25% notes that were due. Our next long-term debt maturity is $25 million due in 2021, followed by $660 million due in 2022. We paused open market share purchases during the second quarter. believing it inappropriate to be buying shares at a time when we were forced to adjust our workforce and pause multiple spending programs. Again, given a stabilizing environment, we would expect to return to repurchases in the second half of the year with a minimum goal of offsetting dilution from options. As I mentioned in my opening remarks, we have a long tenured and experienced management team that has successfully managed the company through many challenging times. They've demonstrated this ability once again over the last several months, and I'm confident they will continue to deliver strong results. We also believe the long-term fundamental strengths of our end markets remain intact. We have the people, the products, and the services to help our customers succeed. We remain very confident about the future and our ability to create shareholder value over the long term. That concludes our prepared remarks. And with that, I'd like to thank you for joining us this morning and we'll be happy to take your questions.