The Sherwin-Williams Company

Good morning. Thank you for joining the Sherman Williams Company's review of third quarter 2020 results and our outlook for the fourth quarter and full fiscal year of 2020. With us on today's call are John Marikis, Chairman and CEO, Al Mestician, CFO, Jane Cronin, Senior Vice President, Corporate Controller, and Jim Jay, Senior Vice President, Investor Relations. This conference call is being webcast simultaneously in listening mode by issue or direct via the Internet at www.sherwin.com. An archive replay of this webcast will be available at www.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 this session to questions. I'll now turn the call over to Jim Jay.

Thank you, Rob, and 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 third quarter of 2019 unless otherwise stated. Sherwin-Williams delivered outstanding results in the third quarter. Total company consolidated sales were well above the original guidance we provided on July 28th. and also slightly above the increased guidance we provided on September 29th. We saw continued unprecedented demand in our DIY business during the quarter, double-digit growth in residential repaint, very solid demand in new residential, and positive momentum across our industrial end markets. We delivered year-over-year improvement in gross margin and record profit before tax, EBITDA, diluted net income per share, and net operating cash. Third quarter 2020 consolidated sales increased 5.2% to $5.12 billion, inclusive of a negative currency impact of 0.9%. The estimated impact from COVID-19 on consolidated sales in the quarter was not material. Consolidated gross margin increased 220 basis points to 47.9%. Consolidated profit before tax increased $165.8 million or 23.4% to $875.6 million. Diluted net income per share increased 24.4% to $7.66 per share. The third quarter of 2020 included acquisition related amortization expense of 63 cents per share. The third quarter of 2019 included acquisition-related amortization expense and other adjustments of 49 cents per share, as described in the Regulation G reconciliation table included in our press release. Excluding these items, third quarter adjusted diluted earnings per share increased 24.7% to $8.29 per share. Adjusted EBITDA increased $185.7 million to $1.11 billion, or 21.6% of sales. Net operating cash increased 54.3% year-to-date to $2.56 billion. From a segment perspective, sales in the Americas Group and Consumer Brands Group were in line with our updated guidance, while sales in Performance Coatings Group were slightly better than expected. All segments delivered very strong flow-through in the quarter. Segment margin in the Americas group improved to 25.1% of sales, resulting from operating leverage on the top-line growth, favorable mix, and lower input costs. Adjusted segment margin in consumer brands group increased to 26.4% of sales, resulting from operating leverage on the strong double-digit top-line growth, favorable product mix, lower input costs, and actions taken over the past year to improve our international operating margins. Adjusted segment margin in performance coatings group increased to 16% of sales, driven by returning sales growth and lower input costs. 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 our chairman and CEO, John Marikis, for some additional commentary on the quarter and our outlook. John?

Thank you, Jim, and good morning, everyone. Let me begin by expressing my appreciation to the over 61,000 employees of Sherwin-Williams for their continued determination and their resilience. I could not be more proud of this incredible team as they delivered record results in a very challenging environment. Our leadership team and their many years of collective experience have been true differentiators throughout this entire year, enabling us to drive significant improvement across many measures while serving our customers at a very high level. We generated very solid sales growth in the quarter, with all three operating segments growing year over year, exceeding the original guidance we provided at the end of July and improving sequentially. The gross margin expansion in the quarter was driven by sales growth, effective pricing, favorable 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, though a bit less than what we saw in the second quarter. SG&A as a percent of sales in the quarter decreased slightly year over year to 27.5%. SG&A increased on a dollar basis as we continued to make investments to drive long-term growth. Let me talk a bit more about trends we're seeing in each of our segments before moving on to our outlook. In the Americas group, we saw significant sequential improvement from the second quarter to the third quarter in all regions and all segments served. Most regions and segments also delivered growth in the quarter on a year-over-year basis. We're especially encouraged by the return of double-digit growth in residential repaint, our largest segment. Interior work has picked up significantly. As a reminder, this segment has been our fastest growing over the last several years and continues to offer us the largest opportunity for share gains. Sales in new residential also gained momentum in the quarter and were up by mid-single digits. Our DIY business delivered the biggest year-over-year percentage increase in the quarter, with COVID-related stay-at-home projects driving robust consumer demand throughout the quarter. Our commercial business slowly improved, but remained down low single digits in the quarter. Our customers are telling us that job-side conditions are stabilizing, and the predominant theme remains that projects are being delayed rather than canceled. The property maintenance segment remains under pressure as turnover in multifamily remains slow. Protective and marine remains our most challenging segment from a demand perspective. Access to job sites remains an issue on some projects. Demand remains particularly depressed in oil and gas, which is the segment's largest single-end market. Other areas, such as flooring and water and wastewater treatment, are moving in a more positive direction. We believe this business is well positioned to take advantage of future potential infrastructure investments, and comps will start to become more favorable heading into next year. From a product perspective, strength in exterior paint continued as we generated low double-digit percentage growth in the quarter. Encouragingly, we also saw a significant pickup in interior paint, where sales were up by a high single-digit percentage overall. and by double digits in the residential repaint segment. Additionally, spray equipment sales were up strong double digits in the quarter. This is another very encouraging sign of recovery, as contractors are unlikely to invest in this type of equipment unless they anticipate significant demand. Pricing came in as we expected and was approximately 2% in the third quarter. We expect a similar level of effectiveness in the fourth quarter. We opened 24 new stores in the third quarter and 40 year-to-date in the U.S. and Canada. We anticipate opening a total of approximately 55 new stores for the full year in the U.S. and Canada. Along with these new stores, we continue to make investments in sales reps, management trainees, innovative new products, and productivity-enhancing services to drive additional growth. We're also pleased by a continuing uptick in the use of our e-commerce platform. Moving on to our consumer brands group. DIY demand remained robust in the quarter, driven by consumers continuing to focus on home improvement projects while nesting at home during the pandemic. We generated strong double-digit growth by working closely with our retail customers to capture this demand, most notably with Lowe's. our global supply chain organization continued to perform admirably in the quarter, working collaboratively with our customers to help meet unprecedented demand. Internationally, every region generated year-over-year growth, sales increased by double-digit percentages in Europe and Australia and by a mid-single-digit percentage in Asia. Similar to the second quarter, we leveraged the strong sales growth and favorable product mix to drive significant operating margin improvement compared to the prior year. Our margin improvement also reflects the terrific work this team has done over the last two years to improve our portfolio, including rationalizing SKUs, exiting the ACE private label business, and reducing costs in Europe and Australia. We continue to reinvest in this business to drive long-term growth for our partners, especially in the handyman, remodeler, or pros who paint category. Lastly, let me comment on the trends in the performance codings group. We're encouraged by this segment's return to growth in the quarter, inclusive of a 1.4% headwind related to currency translation rate changes. As in the Americas group, performance codings groups generated significant sequential improvement from the second quarter to the third quarter in all regions, in nearly all divisions. The majority of regions and divisions also delivered growth in the quarter on a year-over-year basis. From a regional perspective, Asia grew fastest in the quarter, up by a high single-digit percentage. Europe and Latin America both grew by low single-digit percentages. Our largest region in PCG, North America, was down in the quarter by a low single-digit percentage, where a slower recovery in the General Industrial Division offset growth in the other divisions. From a divisional perspective, I'll start with our packaging business. where our team continues to deliver great results. Sales were up high single digits and positive in every region for the quarter. Demand for food and beverage cans remains robust, and our non-VPA coatings continue to gain traction, and both we and our customers are investing in capacity expansion. In coil coatings, the resumption of selected commercial construction projects, albeit slow, along with growth in appliances, and strong new business winds across all regions led to mid single digit growth in the quarter. We're very encouraged by the improved performance in industrial wood, where sales were up by a mid single digit percentage in the quarter. We believe the momentum we're seeing in kitchen cabinetry, flooring, and furniture correlates to similar positive trends in new residential construction. We also returned to growth in automotive refinish in the quarter. where sales were up a low single-digit percentage. This team has done a very nice job driving new account growth by offering better solutions than our competitors. We estimate miles driven are currently at about 75% of pre-COVID levels, and collision shop volume across the industry is off by approximately 25%. We expect continued improvement in these trends.