ARMSTRONG WORLD INDUSTRIES (AWI) Q2 2011 Earnings Call Transcript

Transcript

Speaker 6

Thank you, ladies and gentlemen, and welcome to the second quarter 2011 Armstrong World Industries, Inc. earnings conference call. My name is Regina, and I will be your operator for today. At this time, all participants are in listen-only mode. Later, we will conduct a question and answer session. If at any time during this call you require operator assistance, please press star followed by zero, and someone will be happy to assist you. Today's event is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Mr. Tom Waters, Vice President, Treasury and Investor Relations. Please proceed, sir.

Speaker 2

Thank you, Regina. Good afternoon and welcome. Please note that members of the media have been invited to listen to this call, and the call is being broadcast live on our website at armstrong.com. With me this afternoon are Matt Espe, our President and CEO, Tom Mangus, our CFO, Frank Reddy, the CEO of our Worldwide Floor Business, and Vic Grizzle, CEO of our Worldwide Ceiling Business. Hopefully, you have seen our press release this morning, and both the release and the presentation Tom Mangus will reference during this call are posted on our website in the Investor Relations section. In keeping with SEC requirements, I advise that during this call we will be making forward-looking statements that involve risks and uncertainties. Actual outcomes may differ materially from those expected or implied.

For a more detailed discussion of the risks and uncertainties that may affect Armstrong World Industries, please review our SEC filings, including the 10-K filed this morning. We undertake no obligation to update any forward-looking statements beyond what is required by applicable securities law. In addition, our discussion of operating performance will include non-GAAP financial measures within the meaning of SEC Regulation G. A reconciliation of these measures with the most directly comparable GAAP measures is included in the press release and in the appendix of the presentation. Both are available on our website. With that, I will turn the call over to Matt.

Speaker 0

Thanks, Tom. Good afternoon, everyone, and thanks for participating in our call today. The second quarter of 2011 was characterized by a continuation of what I described in our first quarter earnings call as lumpy demand. Sales this past quarter of $749 million were up $24 million, or 3% from the second quarter of 2010, but the entire increase was due to changes in foreign exchange rates. Sales were within our guidance range of $740 to $790 million. Volumes were down just over 4%, but adjusting for the businesses we exited in Europe, sales volumes were off about 2%. Price and mix were up 4% combined, with price increases slightly outpacing input inflation. We continue to experience volume declines across most of our businesses and geographies. With the exceptions of our wood business and Asian markets, sales volumes were down versus 2010.

Speaker 6

Good day, ladies and gentlemen, and welcome to the second quarter 2011 Armstrong World Industries, Inc. earnings conference call. My name is Regina, and I will be your operator for today. At this time, all participants are in listen-only mode. Later, we will conduct a question and answer session. If at any time during this call you require operator assistance, please press star followed by zero, and someone will be happy to assist you. Today's event is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Mr. Tom Waters, Vice President, Treasury and Investor Relations. Please proceed, sir.

Speaker 2

Speaker 0

Wood sales increased 3%, driven by higher mix, price, and volume at retail, offsetting continued softness in the builder market. In the Pacific Rim, our businesses grew 8%, excluding the impact of foreign exchange movements. China and India grew sales, while Australia declined. EBITDA for the second quarter of 2011 was $109 million, up $21 million, or 24% from 2010, and within our guidance range of $105 to $120 million. Of note, some of our more challenged businesses posted significant improvement in the second quarter versus last year. The European flooring business had a positive EBITDA of $0.5 million, an improvement of $4 million from 2010. We continue to believe this business will achieve break-even EBITDA for the year. The cabinets business had $1.4 million of EBITDA, up from a slight loss in 2010.

Finally, our wood flooring business posted EBITDA of $15.4 million, an improvement of over $10 million from last year, despite only very modest volume improvements. Tom Mangus will walk you through more specifics when he reviews the numbers for the quarter. Also of note, during the second quarter, we closed our Holmsen, Sweden flooring plant, completing the manufacturing restructuring of our European flooring operations. We also idled our Statesville, North Carolina engineered wood plant. We continue to make progress on our cost out initiatives and now forecast $165 million in cost reduction through 2012. That's an increase of $15 million from our previously announced target. Additionally, we've accelerated our execution of these initiatives and now expect to achieve approximately $90 million of the improvement in 2011, up from $65 million when we first laid out the program.

This cost savings serves as a bridge to growth as conditions improve and our emerging markets' manufacturing investments come online. We continue to make good progress with all four of our plants currently under construction. Shipping is scheduled to start at our Millwood, West Virginia, mineral wool plant in the first quarter of 2012, the homogeneous flooring plant in China’s second half of 2012, the second China ceilings plant in early 2013, and the heterogeneous flooring plant in late 2013. We continue to believe that 2011 will see a modest recovery, at best, in North America and Western Europe. We came into the year expecting a macroeconomic environment in line with 600,000 new home starts, residential repair remodel activity flat to slightly down, and commercial repair remodel activity slightly up.

Although the most recent housing start figures were encouraging, we now believe the 2011 macroeconomic climate will be somewhat softer than we initially projected as recovery appears to be delayed. Until there's a real catalyst for improvement in the economy, we expect to continue to see month-to-month and quarter-to-quarter volatility in demand. With the footprint actions and other cost out and process improvement initiatives we've taken, we remain positioned to drive significant EBITDA gains in 2011, despite little help on the top line. Our current full-year outlook is for sales of $2.9 to $3 billion. This consolidation at the high end of our previous guidance is driven by foreign exchange rates and not an indication of a better organic sales outlook. We expect EBITDA to be in the range of $385 million to $415 million.

That's an increase of $10 million on the bottom end of our previous range, driven by the increase in accelerated cost reductions I mentioned a moment ago. During our last quarterly call, I took a few moments to discuss progress we're making in new product development and highlighted a few exciting recent success stories. In a similar vein, I want to take a moment. $105 to $120 million. Of note, some of our more challenged businesses posted significant improvement in the second quarter versus last year. The European flooring business had a positive EBITDA of $500,000, an improvement of $4 million from 2010. We continue to believe this business will achieve break-even EBITDA for the year. The cabinets business had $1.4 million of EBITDA, up from a slight loss in 2010.

This cost savings serves as a bridge to growth as conditions improve and our emerging markets' manufacturing investments come online. We continue to make good progress with all four of our plants currently under construction. Shipping is scheduled to start at our Millwood, West Virginia mineral wool plant in the first quarter of 2012, the homogeneous flooring plant in China in the second half of 2012, the second China ceilings plant in early 2013, and the heterogeneous flooring plant in late 2013. We continue to believe that 2011 will see a modest recovery, at best, in North America and Western Europe. We came into the year expecting a macroeconomic environment in line with 600,000 new home starts, residential repair remodel activity flat to slightly down, and commercial repair remodel activity slightly up.

That's an increase of $10 million on the bottom end of our previous range, driven by the increase in accelerated cost reductions I mentioned a moment ago. During our last quarterly call, I took a few moments to discuss progress we're making in new product development and highlighted a few exciting recent success stories. In a similar vein, I want to take a moment during this call to discuss our lean journey and talk about a project that's an illustration of the power of process improvement. Armstrong embraced lean two years ago, and the fruits of this effort are showing in our results. Lean's a philosophy, not just an initiative. Lean seeks to eliminate waste and, in doing so, drive improvements in cost, quality, working capital, customer service, and safety.

Using lean tools and methodologies, our Team Valley, England, ceilings plant was able to enhance equipment reliability and reduce required crew size to create a virtual fourth shift. Plant management and staff worked together through a series of Kaizen events aimed at simplifying processes, improving equipment reliability, and eliminating bottlenecks. Additional Kaizen events targeted plant configuration challenges and developed solutions from which layouts were reconfigured, and technology like cameras and sensors were employed to allow a single operator to monitor and control multiple pieces of equipment. The end result of these and other efforts was a reduction in required crew size of almost 30%. This reduction was applied to all three of the Team Valley crews, and a fourth crew was created with no additional labor costs. This effort illustrates two of the central tenets of lean here at Armstrong. First, we engage the entire workforce to solve problems.

We found untapped potential and creativity in our workforce that can help make our company better. Secondly, lean improvements do not lead to job losses. People are redeployed in new roles, often leading new lean events, or jobs are filled as natural attrition occurs with no required training. To date, we've conducted 955 lean events and have fully deployed lean at all of our manufacturing locations around the world and in the SG&A business processes here in the U.S. and in Europe. These are the tools we use to thoughtfully and swiftly move to simplify our business. I will turn it over to Tom Mangus for a discussion of the financials in our segments. Tom?

Speaker 2

Thanks, Matt. Good afternoon, everybody, and thanks for participating in today's call. In reviewing our second quarter results, I'll be referring to the slides available on our website, starting with slide three. Matt mentioned the significant improvement in EBITDA despite flat sales on a comparable foreign exchange basis. Operating income and EPS results were up also 37% and 23%, respectively. I'll address the drivers of the EBITDA growth and cash flow changes on upcoming slides. Slide three details the adjustments we made to EBITDA and provides a walk to reported net income. Our adjusted EBITDA of $109 million excludes $2 million of restructuring expense, primarily related to the cost reductions in our European flooring operations. It also excludes cost reduction expenses of $5 million that relate largely to the closure of the Beaver Falls ceilings plant and other non-restructuring charges in European flooring.

These items are for cost reduction activities that we do not classify as restructuring, but which we do not expect to recur. There was also $3 million of accelerated depreciation in the second quarter, the majority of which related to Beaver Falls, which obviously does not impact EBITDA but does impact adjusted operating incomes. You will recall in the second quarter of 2010, we had impairments of $5 million on our previously owned aircrafts and a European warehouse property, and $2 million of cost reduction expenses related to the shutdown of our St. Gallen, Switzerland, metal ceiling facility. Interest expense was higher in 2011 versus the prior year due to our recapitalization in the fourth quarter of 2010. Finally, the effective tax rate for the second quarter of 2011 was lower than 2010 due to the partial release of state valuation allowances.

Moving to slide five, this provides our sales and adjusted EBITDA by segment. As you can see, all business units contributed to EBITDA growth, with wood flooring leading our second quarter sales and EBITDA improvement. Corporate was down due to the expected decrease in our non-cash pension credit, which we have discussed in the past. Matt highlighted our wood results, so I'll move on to the other businesses. Resilient flooring had sales declines of 4%, driven by the exit of our residential business in Europe. Otherwise, resilient mix and price gains offset other volume losses. Price, mix, and cost reduction efforts more than offset significant raw material inflation to drive the EBITDA gain. The building products segment drove sales gains through continued price and mix improvements, as volumes declined in most developed markets. Emerging market volumes were up. Our U.S.

commercial unit volume declined mid-single digits, in line with the overall market. The majority of our volume decline was in the commodity segment, with sales from our high-end product lines up mid-single digits versus the prior year quarter. We saw a general slowdown behind continued softness in new commercial construction and a weaker than normal seasonal lift from education remodeling spending due to tighter state budgets. Despite that, sales of the building products segment are up 8% year to date. Consistent with resilient flooring, price, mix, and cost improvements more than offset material inflation in the building products segment. Our WAVE joint venture contributed $1 million less to EBITDA in the second quarter. As we mentioned on our first quarter earnings call, WAVE's April price increase drove volume into March and out of the second quarter, leading to the year-on-year unfavorable result in the second quarter.

Year to date, WAVE is more than $4 million, or 14% ahead of 2010. Finally, the cabinet segment swung to a gain driven by strong SG&A cost reduction despite lower sales. Volume and mix both negatively impacted sales, as multifamily homes were the strongest of the channels in the second quarter, and this is the lowest margin channel. Slide six shows the building blocks from the second quarter of 2010 adjusted EBITDA to our current results. Price realization from our second half 2010 and first quarter 2011 pricing actions, along with mix improvements, more than offset input cost inflation of $11 million. This was crucial for us as we fell short of covering inflation with price in 2010. During this call, we'll discuss our lean journey and talk about a project that's an illustration of the power of process improvement.

Armstrong embraced lean two years ago, and the fruits of this effort are showing in our results. Lean's a philosophy, not just an initiative. Lean seeks to eliminate waste and, in doing so, drive improvements in cost, quality, working capital, customer service, and safety. Using lean tools and methodologies, our Team Valley, England, ceilings plant was able to enhance equipment reliability and reduce required crew size to create a virtual fourth shift. Plant management and staff worked together through a series of Kaizen events aimed at simplifying processes, improving equipment reliability, and eliminating bottlenecks. Additional Kaizen events targeted plant configuration challenges and developed solutions from which layouts were reconfigured, and technology like cameras and sensors were employed to allow a single operator to monitor and control multiple pieces of equipment. The end result of these and other efforts was a reduction in required crew size of almost 30%.

This reduction was applied to all three of the Team Valley crews, and a fourth crew was created with no additional labor costs. This effort illustrates two of the central tenets of lean here at Armstrong. First, we engage the entire workforce to solve problems. We found untapped potential and creativity in our workforce that can help make our company better. Secondly, lean improvements do not lead to job losses. People are redeployed in new roles, often leading new lean events, or jobs are filled as natural attrition occurs with no required training. To date, we've conducted 955 lean events and have fully deployed lean at all of our manufacturing locations around the world and in the SG&A business processes here in the U.S. and in Europe. These are the tools we use to thoughtfully and swiftly move to simplify our business.

Now I'll turn it over to Tom Mangus for a discussion of the financials in our segments. Tom? Thanks, Matt. Good afternoon, everybody, and thanks for participating in today's call. In reviewing our second quarter results, I'll be referring to the slides available on our website, starting with slide three. Matt mentioned the significant improvement in EBITDA despite flat sales on a comparable foreign exchange basis. Operating income and EPS results were up also 37% and 23%, respectively. I'll address the drivers of the EBITDA growth and cash flow changes on upcoming slides. Slide three details the adjustments we made to EBITDA and provides a walk to reported net income. Our adjusted EBITDA of $109 million excludes $2 million of restructuring expense, primarily related to the cost reductions in our European flooring operations.

It also excludes cost reduction expenses of $5 million that relate largely to the closure of the Beaver Falls ceilings plant and other non-restructuring charges in European flooring. These items are for cost reduction activities that we do not classify as restructuring, but which we do not expect to recur. There was also $3 million of accelerated depreciation in the second quarter, the majority of which related to Beaver Falls' year-over-year comps in the second half, especially in our domestic residential markets. Specifically, for the balance of the year, we expect domestic commercial repair remodel and new construction to be flat. Sales growth will be driven by price and mix in commercial markets. On the residential side, given the home buyer tax credit effect of pulling forward demand into the first half of 2010, we expect repair and remodel to be up single digits in the second half.

We expect new construction to be positive on the back half. However, despite the softer full-year volume environment and commodity headwind, we are raising the low end of our full-year EBITDA guidance to a range of $385 million to $415 million. We are pleased with the significant operating income, EBITDA, and EPS improvement Armstrong employees worldwide are driving through strong pricing and cost savings execution, with a top line that is only up modestly when foreign exchange impacts are removed. Given our results to date and our growing confidence in our plans going forward, we are raising our overall SG&A and manufacturing productivity program goal from $150 million to $165 million, as Matt previously mentioned. This is detailed on slide 12.

Versus our previous guidance, we have increased our full-year 2011 savings expectation by $25 million on the successful execution and acceleration of SG&A, plant closure, and lean cost takeout efforts. Specifically, we expect to deliver $15 million in incremental savings over the three-year program, all in 2011, and pull forward $10 million of savings into 2011 from 2012. These savings are providing the foundation for us to offset a weaker market and a worse commodity cost environment. Slide 13 provides the more detailed assumptions going into our earnings guidance and includes the specifics on the third quarter. As mentioned, inflation remains a challenge. We now anticipate $50 million to $60 million net input cost increases for the year. This is up $10 million from guidance last quarter.

We expect improved manufacturing margins of 175 to 225 basis points in 2011 as a result of our manufacturing footprint rationalization program, lean productivity efforts, and through year-over-year price and mix improvements. This is an increase of 50 basis points on the bottom end of the range from our guidance last quarter. The improvement is primarily due to the increase and acceleration of our cost reduction efforts. Our estimated cash taxes for the year have increased $10 million due to the timing shifts and expected refunds. We project third quarter sales of $780 million to $830 million versus $740 million in 2010. Note, we expect to receive about a mid-single digit lift in reported sales just from year-on-year changes in foreign exchange rates. We estimate third quarter adjusted EBITDA of $115 million to $130 million, compared to $112 million on a comparable basis in the prior year.

The fall through from sales is lower than you might expect, as the sales gains from price and mix are required to offset higher commodity costs, which obviously does not impact EBITDA but does impact adjusted operating income. You will recall in the second quarter of 2010, we had impairments of $5 million on our previously owned aircraft and a European warehouse property, and $2 million of cost reduction expenses related to the shutdown of our St. Gallen, Switzerland, metal ceiling facility. Interest expense was higher in 2011 versus the prior year due to our recapitalization in the fourth quarter of 2010. Finally, the effective tax rate for the second quarter of 2011 was lower than 2010 due to the partial release of state valuation allowances. Moving to slide five, this provides our sales and adjusted EBITDA by segment.

As you can see, all business units contributed to EBITDA growth, with wood flooring leading our second quarter sales and EBITDA improvement. Corporate was down due to the expected decrease in our non-cash pension credit, which we have discussed in the past. Matt highlighted our wood results, so I'll move on to the other businesses. Resilient flooring had sales declines of 4%, driven by the exit of our residential business in Europe. Otherwise, resilient mix and price gains offset other volume losses. Price, mix, and cost reduction efforts more than offset significant raw material inflation to drive the EBITDA gain. The building products segment drove sales gains through continued price and mix improvements, as volumes declined in most developed markets. Emerging market volumes were up. Our U.S. commercial unit volume declined mid-single digits, in line with the overall market.

The majority of our volume decline was in the commodity segment, with sales from our high-end product lines up mid-single digits versus the prior year quarter. We saw a general slowdown behind continued softness in new commercial construction and a weaker than normal seasonal lift from education remodeling spending due to tighter state budgets. Despite that, sales for the building products segment are up 8% year to date. Consistent with resilient flooring, price, mix, and cost improvements more than offset material inflation in the building products segment. Our WAVE joint venture contributed $1 million less to EBITDA in the second quarter. As we mentioned on our first quarter earnings call, WAVE's April price increase drove volume into March and out of the second quarter, leading to the year-on-year unfavorable result in the second quarter. Year to date, WAVE is more than $4 million, or 14% ahead of 2010.

Finally, the cabinet segment swung to a gain driven by strong SG&A cost reduction despite lower sales. Volume and mix both negatively impacted sales, as multifamily homes were the strongest of the channels in the second quarter, and this is the lowest margin channel. Slide six shows the building blocks from the second quarter of 2010 adjusted EBITDA to our current results. Price realization from our second half 2010 and first quarter 2011 pricing actions, along with mix improvements, more than offset input cost inflation of $11 million. This was crucial for us as we fell short of covering inflation with price in 2010. We used to expect to spend between $180 to $200 million in capital in 2011.

For the full year of 2011, we anticipate excluding from our adjusted EBITDA between $18 and $22 million for restructuring and other adjustment items for cost reduction efforts that we've already announced but not yet completed. This is lower than our previous guidance. Year to date, we have excluded $16 million from adjusted EBITDA, as well as incurred $9 million of accelerated depreciation. You'll find further reconciliation to GAAP measures for the second quarter in the appendix for the total company and the segments. Finally, I want to take a moment and clear up a misconception that several investors have shared with us. The first quarter 2011 13F filings for Armstrong appear to show TPG selling 1 million shares. This is not accurate. TPG's investment in Armstrong remains unchanged from their initial purchase in August 2009.

When they made their initial investment, the ownership of 1 million shares was structured so that TPG had an economic interest in the shares but did not technically own them. This was done to avoid a change of control under the previous credit agreement. These shares technically remain with the asbestos trust until 2013. However, in earlier TPG 13F filings, these 1 million shares were included by error. This most recent filing corrected this. In closing, we are pleased with our second quarter results and with our ability to increase the midpoint of our 2011 EBITDA guidance despite a very challenging macro environment. I remain confident that we are well positioned to achieve these results and that we are putting in place a cost structure that is poised to deliver significant operating leverage when the markets do improve. I will now turn it back to Matt.

Speaker 0

Thanks, Tom. In closing, I want to reiterate that I, too, am pleased with our first half results, and we continue to anticipate uneven demand, inflationary pressures, and slow growth here in North America and Western Europe. We are confident that we've got the plans in place to execute the strategic and cost-saving actions we've just updated and deliver significant year-on-year improvement in our operating results. With that said, I want to thank everybody for your time and attention on the call today, and now we'll be happy to take any questions you might have.

Speaker 6

Ladies and gentlemen, if you would like to ask your question, you can do so by pressing star followed by one on your phone. If your question has been answered or you would like to be removed for any reason, you can press star two. Your first question today comes from the line of Thomas Waters with Thomson Research Group.

Speaker 4

Hi. Thank you for taking my questions today. The first question, just stepping back and looking at today's results, could you tell us what's happened in the last 90 days in the market and what are you at Armstrong doing to respond to this change?

Speaker 0

Hi, Catherine. Let me start with that. Like we said, I think we saw a certainly slower demand in the second quarter. We, I think, commented at the end of our first quarter call, again, using this kind of clunky term called lumpy demand. We saw it get a little uneven at the end of the first quarter. We saw that continue in the second quarter. I think specifically in both ABP and AFP businesses and commercial, we saw softness as it related to SG&A and manufacturing cost reductions drove the remainder of the improved EBITDA result and offset lower volumes and the pension credit reduction. Manufacturing cost and SG&A reductions continue to provide critical benefits while we are faced with soft end markets. As Matt mentioned, we have been able to increase our savings target and accelerate the timing of actions.

As a result, we delivered $35 million in combined SG&A and manufacturing cost savings in the second quarter versus the prior year. Year to date, the savings total roughly $70 million. Inflation remains a significant challenge. Despite the modest easing in oil prices since our last call, PVC and plasticizer remain at record levels. Capacity constraints and export opportunities have dampened the competitive forces which normally cause these materials to trend with oil and related petrochemical feedstocks. We also see capacity constraints negatively impacting other commodities like titanium dioxide. As you'll see shortly, we are increasing our forecasted inflation for 2011.

To offset these pressures, we announced additional pricing actions beginning in the second quarter of 2011, including an increase of 6% to 8% on resilient flooring in the Americas, effective in June, an increase on European resilient flooring of 4% to 5%, effective in July, an increase on ceiling tiles in the Americas and Europe of 5% to 6% and 3% to 6%, respectively, effective in August. Finally, we announced a 5% increase in grid prices in the U.S., also effective in August. Turning now to slide seven, you can see our results for free cash flow. Reduced year-on-year free cash flow of $39 million was driven by smaller improvements in working capital. Working capital did positively contribute to free cash flow in the second quarter, just not as much as in the same period last year when we were more aggressively right-sizing our balance sheet.

The other significant changes are in increased capital expenditures in 2011 as we built our West Virginia and three China plants, increased interest expense driven by our refinancing, and higher restructuring and other payments. Slides 8, 9, and 10 illustrate our year-to-date financial results. Year-to-date adjusted EBITDA is up 40% on sales growth of only 1.5% when excluding foreign exchange. Of note, on slide 9, you can see that all the business segments are contributing to EBITDA improvements, with only the building products business achieving higher sales. As with the quarter, the decrease in the corporate segment is entirely driven by the non-cash pension credit decline from our pension de-risking strategy. The bridge on page 10 of year-to-date EBITDA change tells an almost identical story as the second quarter bridge we reviewed earlier, except for the year-to-date WAVE contribution being positive. Slide 11 updates our guidance for 2011.

Driven by foreign exchange and with half the year passed, we are raising and narrowing our full-year sales range to $2.9 billion to $3 billion. Essentially, our macro outlook for the full year has weakened given our second quarter experience and the indications we are seeing in the market. However, we expect easier to education. These guys normally see a seasonal pickup during the end of the second quarter as we start working on remodel work in schools. Didn't see that. In some cases, it was significantly less than we typically experience and somewhat later in the quarter than we typically experience. What's happening right now, since there isn't a lot of large commercial projects to track, most of the demand signals we get are just order flow from the channel.

That makes it a little bit tougher for us to forecast demand, a little bit less transparency around what's happening in the marketplace. We're seeing some unevenness, as we said, lumpy. We think that's kind of the new normal, if you will, as we go forward for the balance of the year. That's sort of reflected in the outlook we've provided.

Speaker 4

Okay. Our next question is really twofold. You alluded in the prepared comments to some of your assumptions driving your fiscal 2011 guidance. I was going to see if you could really break it down more by end market, maybe give a little bit more color. Then, if we do head into another recession, what is your game plan?

Speaker 0

I think we've, in terms of commenting on the structure, as we look at the second half, we're expecting to see commercial volumes flat in both of our businesses. Gains we'll see will be pricing, which I think we've demonstrated our performance to full price in the marketplace, and mix, particularly, again, I'd say, in both of our businesses, I think, on the commercial side. We've been talking about a slightly more favorable second half comparison, quite frankly, in the residential market as you had the demand sort of pull into the first half of last year with the credit. You know we are staying with that outlook. We expect a little bit of improvement in residential remodel, and again, that's not a recovery in the market as much as it is just a little bit more favorable demand.

Speaker 2

Yeah. Just in terms of you asked me the last question, you know, what are we doing to respond to it? I think that kind of dovetails into, what are you doing if we have another recession? I mean, fundamentally, we saw a lot of commodity increases. We've successfully taken pricing to recover commodity costs, and that's going to continue to be a theme of ours to respond to that changing market environment. We've accelerated our cost takeout, and you've seen that in our revised guidance. We've been pushing harder, certainly stretching for more aggressive plans than we've talked before, and now we're happy to be able to bring those forward. I think that becomes, you know, the play we'll continue to drive against.

Look for ways to continue to take costs out of SG&A, continue to take manufacturing productivity to new levels as a way to continue to provide earnings momentum going through what will continue to be a choppy market environment. The one thing we're not doing at this point is stopping our investment for emerging market growth. I mean, we're still, you know, fully investing in developing our manufacturing footprint, investing in sales resources outside the U.S. We're not going to get too caught up in the short-term game here and forfeit that long-term opportunity that we see.

Speaker 4

Okay. Final question. You may have had this in the prepared comments, but I missed, could you remind me what the cost saves were in Q2 and the buckets for the increased cost-cutting targets that were raised?

Speaker 0

Yeah. Probably the best way to look at that, Catherine, is we've got a couple of slides in the PowerPoint that we shared. Specifically, the Q2 bridge is probably the most helpful there for you, which is the year-over-year comps in the second half, especially in our domestic residential markets. Specifically, for the balance of the year, we expect domestic commercial repair remodel and new construction to be flat. Sales growth will be driven by price and mix in commercial markets. On the residential side, given the home buyer tax credit effect of pulling forward demand into the first half of 2010, we expect repair and remodel to be up single digits in the second half. We expect new construction to be positive on the back half.

However, despite the softer full-year volume environment and commodity headwind, we are raising the low end of our full-year EBITDA guidance to a range of $385 million to $415 million. We are pleased with the significant operating income, EBITDA, and EPS improvement Armstrong employees worldwide are driving through strong pricing and cost savings execution, with a top line that is only up modestly when foreign exchange impacts are removed. Given our results to date and our growing confidence in our plans going forward, we are raising our overall SG&A and manufacturing productivity program goal from $150 million to $165 million, as Matt previously mentioned. This is detailed on slide 12. Versus our previous guidance, we have increased our full-year 2011 savings expectation by $25 million on the successful execution and acceleration of SG&A, plant closure, and lean cost takeout efforts.

Specifically, we expect to deliver $15 million in incremental savings over the three-year program, all in 2011, and pull forward $10 million of savings into 2011 from 2012. These savings are providing the foundation for us to offset a weaker market and a worse commodity cost environment. Slide 13 provides the more detailed assumptions going into our earnings guidance and includes the specifics on the third quarter. As mentioned, inflation remains a challenge. We now anticipate $50 to $60 million net input cost increases for the year. This is up $10 million from guidance last quarter. We expect improved manufacturing margins of 175 to 225 basis points in 2011 as a result of our manufacturing footprint rationalization program, lean productivity efforts, and through year-over-year price and mix improvements. This is an increase of 50 basis points on the bottom end of the range from our guidance last quarter.

The improvement is primarily due to the increase and acceleration of our cost reduction efforts. Our estimated cash taxes for the year have increased $10 million due to the timing shifts and expected refunds. We project third quarter sales of $780 million to $830 million versus $740 million in 2010. Note, we expect to receive about a mid-single digit lift in reported sales just from year-on-year changes in foreign exchange rates. We estimate third quarter adjusted EBITDA of $115 million to $130 million compared to $112 million on a comparable basis in the prior year. The fall through from sales is lower than you might expect as the sales gains from price/mix are required to offset higher commodity costs. Slide six, we picked up $22 million of manufacturing cost productivity and another $13 million of SG&A cost productivity quarter two to prior year quarter two, totaling that $35 million.

There is a slide that we put in there towards the back that outlines the chart 12 that kind of breaks out the year by year. We are expecting of the $90 million now in 2011, $55 million of that to be from manufacturing and $35 million to be from SG&A. I think, Catherine, the last part of your question was, you know, what's the source of that? We're seeing it's just higher yield on the projects we have in place. We're just getting more out of what we've been working on. We wanted to turn that in.

Speaker 4

Great. Thank you for taking my questions.

Speaker 0

Thank you, Catherine.

Speaker 6

Our next question comes from the line of Rafe Jadrosich with KeyBanc Capital Markets.

Speaker 2

Hi. Hello, everyone.

Speaker 0

Hey, Rodney.

Speaker 2

Hey, on the ceilings business, you had mentioned some demand that was pulled forward in the first quarter, and you had mentioned that also on the last earnings call. Excluding that impact on the quarter, would you estimate that volumes would have been up or flat, excluding that demand pulled forward?

Speaker 0

Most of the comments in the script were related to WAVE specifically, which we did see a substantial pull forward. You can kind of trend through the month by month by comparing the Worthington statements and ours, and you can see that there was a big March effect, the volume that hit EBITDA and WAVE demand in sales. We didn't really say there was a ton of pull forward in the last call in ceilings, although we do think there was probably some. As we kind of look at the first quarter to second quarter demand trends, we do feel like there was some that happened, and as I suspect largely because the distributors thought there was going to be a bigger build coming in the spring and the summer that didn't really materialize. Vic, do you want to give some additional color?

Speaker 3

Sorry, I think that's well said.

Speaker 0

Okay.

Speaker 2

Thank you. In the cost cuts, the incremental $15 million that you just commented on, I just wanted to follow up. Would the distribution of those cuts across the individual business segments be consistent with the prior cuts, or is that $15 million geared towards, say, resilient or wood?

Speaker 0

We really haven't given any breakdown on the $150 million, kind of which segments it would fall to. Clearly, the bulk of the actions relative to manufacturing footprint rationalization have been in the wood and the resilient spaces. I would think the benefits would be disproportionately falling that way on the manufacturing side. As you kind of compare our previous guidance to this one, most of the $15 million incremental is in the manufacturing side of the cost house versus SG&A. I think it's a reasonable assumption to project more of them to the flooring side versus the building products side.

Speaker 2

All right. Is that an ongoing process where you're reviewing to find incremental cuts, or would the $15 million in addition be kind of tied to the revised market outlook that you have?

Speaker 0

The $15 million, Rodney, was really just better execution on the projects we had. This was our team just executing crisply across the whole project deck. I would say we think that $165 million is fairly ambitious already, but as I think we've said in the past, there's no finish line here. The company's focus is on continuous improvement.

Speaker 2

We continue to expect to spend between $180 to $200 million in capital in 2011. For the full year of 2011, we anticipate excluding from our adjusted EBITDA between $18 and $22 million for restructuring and other adjustment items for cost reduction efforts that we've already announced but not yet completed. This is lower than our previous guidance. Year to date, we have excluded $16 million from adjusted EBITDA, as well as incurred $9 million of accelerated depreciation. You'll find further reconciliation to GAAP measures for the second quarter in the appendix for the total company and the segments. Finally, I want to take a moment and clear up a misconception that several investors have shared with us. The first quarter 2011 13F filings for Armstrong World Industries appear to show TPG selling 1 million shares. This is not accurate.

TPG's investment in Armstrong World Industries remains unchanged from their initial purchase in August 2009. When they made their initial investment, the ownership of 1 million shares was structured so that TPG had an economic interest in the shares but did not technically own them. This was done to avoid a change of control under the previous credit agreement. These shares technically remain with the asbestos trust until 2013. However, in earlier TPG 13F filings, these 1 million shares were included by error. This most recent filing corrected this. In closing, we are pleased with our second quarter results and with our ability to increase the midpoint of our 2011 EBITDA guidance despite a very challenging macro environment.

I remain confident that we are well positioned to achieve these results and that we are putting in place a cost structure that is poised to deliver significant operating leverage when the markets do improve. I will now turn it back to Matt.

Speaker 0

Speaker 6

Speaker 4

Speaker 0

Hi, Catherine. Let me start with that. Like we said, I think we certainly saw a slower demand in the second quarter. I think we commented at the end of our first quarter call, again, using this kind of clunky term called lumpy demand. We saw it get a little uneven at the end of the first quarter. We saw that continue in the second quarter. I think specifically in both ABP and AFP businesses and commercial, we saw softness as it related. We don't think you're ever done. I point to all the efforts that we have, SG&A, lean in the SG&A processes as an opportunity to keep plugging away. Right now, we're saying $165 million.

Speaker 2

Okay, thank you, guys.

Speaker 0

Thanks, Rodney.

Speaker 6

Our next question comes from the line of Bob Wettenhall with RBC.

Speaker 5

Hey, good afternoon, Bob.

Speaker 2

Hey, Bob.

Speaker 5

Nice job on the cost-cutting increase. That's pretty impressive. Could you just take a minute and outline the schedule again for new plant openings? Is there any way you can give us a little clarity on the magnitude of revenues you're expecting from the plants?

Speaker 0

The West Virginia mineral wool plant opens, we said, first quarter of 2012. We have two flooring plants in China. The homogeneous flooring plant opens back half of 2012. The heterogeneous flooring plant happens late third, fourth quarter of 2013. We're building a second ceiling plant in China that's going to open early in 2013.

Speaker 5

From a revenue standpoint, could you give us a little color on impact?

Speaker 0

I think we've said in the past, I'm pretty sure we covered this in the first quarter, but we're looking at about $200 million worth of incremental revenue. That's from the three plants in China. Just to remind you, the plant in West Virginia makes a raw material that we use in our ceiling products. It does add to margin manufacturing productivity, but it doesn't necessarily contribute to the top line.

Speaker 5

I'm just trying to understand or frame it a little bit. If you expect kind of a stagnant domestic growth in terms of volumes in North America and Europe, do you expect to get some improving volumes through expansion into Asia?

Speaker 0

Yes, we are getting improving volumes through Asia. I mean, already, we're getting double-digit growth today in China. We're getting it in India. We're getting it outside of Asia and Russia and the Middle East. Those are places where we haven't put new steel in the ground for plants, but we've dramatically increased selling resources and our sourcing. As you know, Bob, we already produce today ceiling tiles in China. We source a lot of the Asian consumption out of that plant, as well as some other international locations. Russia is being supplied out of Europe. We are able to meet demands in those places with our current capacity, and they are providing good volume support, although on a relatively small base.

Speaker 5

One final question. Do you think incremental margins on the new plants coming online will be equal to or better than existing margins that you have for the flooring plants?

Speaker 0

I think they're going to be equal to or slightly lower than existing flooring. I mean, not today's existing flooring as we're going through our restructuring and taking the plants out, but as we set our goals internally for what the North American plants are going to do, we're expecting the same level of productivity out of the Chinese plants. Although, again, it's going to be a tough competitive environment. I wouldn't be using today's base for resilient as the comparison as we're taking out our network capacity to tune it to current market demand.

Speaker 5

You are expecting better margins domestically, which is why.

Speaker 0

To education. These guys normally see a seasonal pickup during the end of the second quarter as we start working on remodel work in schools. Didn't see that. In some cases, it was significantly less than we typically experience and somewhat later in the quarter than we typically experience. What's happening right now, since there isn't a lot of large commercial projects to track, most of the demand signals we get are just order flow from the channel. That makes it a little bit tougher for us to forecast demand, a little bit less transparency around what's happening in the marketplace. We're seeing some unevenness, as we said, lumpy. We think that's kind of the new normal, if you will, as we go forward for the balance of the year. That's sort of reflected in the outlook we've provided.

Speaker 4

Speaker 0

I think we've, in terms of commenting on the structure, as we look at the second half, we're expecting to see commercial volumes flat in both of our businesses. Gains we'll see will be pricing, which I think we've demonstrated our performance to full price in the marketplace, and mix, particularly, again, I think, in both of our businesses, on the commercial side. We've been talking about a slightly more favorable second half comparison, quite frankly, in the residential market as you had the demand sort of pull into the first half of last year with the credit. We are staying with that outlook. We expect a little bit of improvement in residential remodel, and again, that's not a recovery in the market as much as it is just a little bit more favorable demand.

Speaker 2

Yeah. Just in terms of you asked the last question, you know, what are we doing to respond to it? I think that kind of dovetails into what are you doing if we have another recession? I mean, fundamentally, we saw a lot of commodity increases, so we've successfully taken pricing to recover commodity costs, and that's going to continue to be a theme of ours to respond to that changing market environment. We've accelerated our cost takeout, and you've seen that in our revised guidance. We've been pushing harder, certainly stretching for more aggressive plans than we've talked before, and now we're happy to be able to bring those forward. I think that becomes the play we'll continue to drive against.

Look for ways to continue to take costs out of SG&A, continue to take manufacturing productivity to new levels as a way to continue to provide earnings momentum going through what will continue to be a choppy market environment. The one thing we're not doing at this point is stopping our investment for emerging market growth. I mean, we're still fully investing in developing our manufacturing footprint, investing in sales resources outside the U.S., and we're not going to get too caught up in the short-term game here and forfeit that long-term opportunity that we see.

Speaker 4

Speaker 0

Yeah. Probably the best way to look at that, Catherine, is we've got a couple of slides in the PowerPoint that we shared. Specifically, the Q2 bridge, that's probably the most helpful there for you, which is the new margins out of China won't be comparable. Is that correct?

Speaker 2

That's correct. We're starting from a reasonably low base, right? Our resilient segment margins are already fairly low, right? They're 3% in the first quarter on an op income margin and 6% in the second quarter. That's not our goal for the segment.

Speaker 0

How about in the second ceilings plant?

Speaker 2

Yeah. Second ceiling plants, I mean, would be at comparable margins to the current ceiling plant, which is an attractive, you know, average ABP margin.

Speaker 0

Terrific. Thanks very much.

Speaker 2

Thank you.

Speaker 6

Our next question comes from the line of David McGregor with Longbow Research.

Speaker 3

Good afternoon, everyone.

Speaker 0

Hey, David.

Speaker 3

Within the wood business, how much of that business is home centered? Maybe you could just update us on your end market mix there by distribution, home centers versus mom-and-pop versus, you know, maybe just walk us through that.

Speaker 0

Yeah. This is Frank, David. About a third of the business is big box. Obviously, the remaining two-thirds is the independent through distribution. Of that two-thirds, about 80% of it is remodel replaced. The remaining 20% is new construction.

Speaker 3

It looks like you may have gained some share in wood in the quarter. Could you just comment on that?

Speaker 0

Yeah. The gains were predominantly through the remodel replace segment, both through the big box and, to a lesser degree, independent retailers, largely driven by new products. We had fairly significant activity in new products in the portfolio earlier this year, and the response to those has been very strong, I think, is what's helped drive the share gain.

Speaker 3

Okay. Congratulations on the progress there. I guess I just wanted to get a sense from you on your feeling about the commercial remodeling trend, which has been so strong over the past six quarters, I guess. Are we seeing some deceleration overall? Maybe you could delineate between office and non-office.

Speaker 0

I’d just say, I mean, just comment with Vic and Frank. I think we’re seeing it fairly stable. You know, in the ceilings business, there’s a benefit because it actually mixes up. While we can see kind of flattish volumes, you know, we’re seeing price performance in remodeling and mix up. I would say that’s probably true for both businesses. Vic, you know, Jim.

Speaker 3

Yeah. No, I think in the commercial ceilings business, we saw low single-digit growth, and it's been very consistent quarter over quarter. We see that continuing to be very solid, very stable. It's that new construction segment that's really soft.

Speaker 0

And Frank.

Speaker 2

Agreed. I think a similar situation with the floor.

Speaker 0

Yeah, we're actually, when you look at the commercial remodel segment, both of our businesses are performing about the same.

Speaker 3

Okay. Can you just talk about office versus non-office? I mean, you were talking a little bit about the education. I appreciate that color, but is there anything you can add to that? I think overall office has been very stable. I think a lot of the single-digit growth is probably in that office segment.

Speaker 0

For floor, David, office really isn't a segment for us, given we're hard surface. The dynamic we're seeing is healthcare is pretty active and pretty positive. Retail is hit or miss, and as we talked earlier, education driven by public funding is soft, particularly through the renovation season.

Speaker 2

On slide six, we picked up $22 million of manufacturing cost productivity and another $13 million of SG&A cost productivity quarter two to prior year quarter two, totaling that $35 million. There's a slide that we put in there towards the back that outlines the.

Speaker 0

Chart 12.

Speaker 2

Chart 12 that kind of breaks out the year by year. We're expecting of the $90 million now in 2011, $55 million of that to be from manufacturing and $35 million to be from SG&A.

Speaker 0

I think, Catherine, the last part of your question was, you know, what's the source of that? We're seeing it's just higher yield on the projects we have in place. We're just getting more out of what we've been working on. We wanted to turn that in.

Speaker 4

Great. Thank you for taking my questions.

Speaker 2

Thank you, Catherine.

Speaker 6

Our next question comes from the line of Rafe Jadrosich with KeyBanc Capital Markets.

Speaker 2

Hi. Hello, everyone.

Speaker 0

Hey, Rodney.

Speaker 2

Hey. In the ceilings business, you had mentioned some demand that was pulled forward in the first quarter, and you had a much.

Speaker 6

Also, on the last earnings call, excluding that impact on the quarter, would you estimate that volumes would have been up or flat, excluding that demand pulled forward?

Speaker 2

Most of the comments in the script were related to waves specifically, which we did see a substantial pull forward. You can kind of trend through the month by month by comparing the Worthington statements and ours, and you can see that there was a big March effect, the volume that hit EBITDA and wave demand in sales. We didn't really say there was a ton of pull forward in the last call in ceilings, although we do think there was probably some. As we kind of look at the first quarter to second quarter demand trends, we do feel like there was some that happened, and I suspect largely because the distributors thought there was going to be a bigger build coming in the spring and the summer that didn't really materialize. Vic, do you want to give some additional calls?

Speaker 0

I think that's well said.

Speaker 6

Thank you. In the cost cuts that, the incremental $15 million that you just commented on, I just wanted to follow up. Would the distribution of those cuts across the individual business segments be consistent with the prior cuts, or is that $15 million geared towards, say, resilient or wood?

Speaker 2

We really haven't given any breakdown on the $150 million, kind of which segments it would fall to. Clearly, the bulk of the actions relative to manufacturing footprint rationalization have been in the wood and the resilient spaces, so I would think the benefits would be disproportionately falling that way on the manufacturing side. As you kind of compare our previous guidance to this one, most of the $15 million incremental is in the manufacturing side of the cost house versus SG&A. I think it's a reasonable assumption to project more of them to the flooring side versus the building products side.

Speaker 6

All right. Is that an ongoing process where you're reviewing to find incremental cuts, or would the $15 million in addition be kind of tied to the revised market outlook that you have?

Speaker 2

Speaker 0

Floor. Education would represent what % of the business?

Speaker 2

In floor, it's about high 20s to 30%.

Speaker 0

About the same in ceilings.

Speaker 2

Okay, thanks very much, everyone.

Speaker 0

Thank you.

Speaker 2

Thanks.

Speaker 4

Your next question comes from the line of Dennis McGill with Zelman & Associates.

Speaker 3

Hi. Thanks for taking my question. The first question, just wanted to get your sense on ceilings profitability and if we think about it pre-wave, how the first half of the year impacts your thinking about the second half of the year. It seems pretty atypical to see margins decline one Q to two Q, but you talked about some of the softening in order patterns and maybe some pull forward in the first quarter. What does that imply for the second half of the year? Is it a softer margin environment than you would have suspected, or how should we think about that relative to, I think, last quarter you talked about mid-20s EBITDA margin if that's still a good bogey for the year?

Speaker 2

Yeah, I think, for EBITDA margin, I think that's still a good bogey. This is Tom. You know, we're not expecting a different pattern really in the first half to second half on margin structure in the building products. We had a quarter blip really driven by wave, but the fundamental structural profitability of the ceilings business is only getting stronger. We just took down the Beaver Falls plant at the end of the first quarter and still winding that thing down. We'll have benefit from the Beaver Falls plant closure. We'll have benefit from the SG&A reductions that we'll continue to benefit from from last year. We have modest margin, but we've got a good mix of, pardon, modest volume, but good mix in price gain.

I'm not expecting a different pattern than you would have seen in the past, for seasonality of those margins and overall that mid-20% bogey for EBITDA is still a good number.

Speaker 3

Okay. Thanks. I'm not sure who this question is maybe, but geared towards, your comments on the non-res market, I think new construction is lagging and the remodel piece seems to be stable, maybe a little bit better. How would you characterize that relative to prior non-res recoveries? Where do you necessarily think we are in that cycle? What are you guys most focused on as far as taking that from a choppy bottom to a recovery that's got some legs to it?

Speaker 2

Yeah, I tell you, I mean, I haven't found anybody that's done a good job forecasting the recovery. It's a quarter by quarter sort of update. I guess the way we would look at it is, we're not seeing any good news about non-residential construction. I mean, we would look at the architectural billing index and that continues to trade down below 50. That doesn't give us a lot of optimism. On a more subjective basis, we are hearing about projects that are being taken off the drawing board or taken off the shelf, put back on the drawing board, and being reworked. We're seeing a little bit of, I'd say, generally speaking, maybe a little bit more activity there. It's anybody's guess really as to when this thing is going to recover. We are taking it sort of one quarter at a time.

Speaker 3

Was that just related to new construction, or was that the remodel side as well?

Speaker 2

I'm sorry, it was only new construction.

Speaker 3

Okay. I'm sorry. My question was more broader around the whole factor, realizing new construction is lagging here. Can we read into anything on the remodel side of the business, and how that's maybe trended in prior cycles?

Speaker 2

Okay, I'm sorry.

Speaker 3

That's okay.

Speaker 2

Yeah, you know, we don't think you're ever done. I'd point to all the efforts that we are, you know, we have SG&A, but lean in the SG&A processes as an opportunity to keep plugging away. Right now we're saying $165 million.

Speaker 3

Okay, thank you, guys.

Speaker 2

Thanks, Rodney.

Speaker 4

Your next question comes from the line of John Lovallo with RBC.

Speaker 5

Hey, good afternoon, Bob.

Speaker 2

Hey, Bob.

Speaker 5

Speaker 2

Speaker 5

From a revenue standpoint, could you give us a little color on impact?

Speaker 2

I think we've said in the past, I'm pretty sure we covered this in the first quarter, but we're looking at about $200 million worth of incremental revenue. That's from the three plants in China. Just to remind you, the plant in West Virginia makes a raw material that we use in our ceiling products. It does add to margin and manufacturing productivity, but it does not necessarily contribute to the top line.

Speaker 5

Speaker 2

Yes, we are getting improving volumes through Asia. Already we're getting double-digit growth today in China. We're getting it in India. We're getting it, you know, outside of Asia, in Russia, in the Middle East. Those are places where we haven't put new steel in the ground for plants, but we've dramatically increased selling resources and our sourcing. As you know, Bob, we already produce today ceiling tiles in China. We source a lot of the Asian consumption out of that plant as well as some other international locations. Russia is being supplied out of Europe, and we're able to meet demands in those places with our current capacity. They are providing good volume support, although on a relatively small base.

Speaker 5

Right. Just one final question. Do you think incremental margins on the new plants coming online will be equal to or better than existing margins that you have for the flooring plants?

Speaker 2

I think they're going to be equal to or slightly lower than existing flooring. I mean, not today's existing flooring as we're going through our restructuring and taking the plants out. As we set our goals internally for what the North America plants are going to do, we're expecting the same level of productivity out of the Chinese plants. Although, again, it's going to be a tough competitive environment. I wouldn't be using today's base for resilient as the comparison as we're taking out our network capacity to tune it to current market demand.

Speaker 5

You're expecting better margins domestically, which is why.

Speaker 2

I think the factors driving remodel are tenant churn in the office space. I think there's a tremendous amount of updating that's going on in the healthcare infrastructure. That's what Frank's talking about, a fairly robust healthcare remodel market. That's driven by technological advancements and just improvements there. That's offset partially by state budget reductions. We see that in the educational softness that we experienced in the second quarter.

Speaker 5

If I could say, one of the things, Dennis, that we see is that the commercial remodel business closely tracks with GDP development in the U.S. particularly and in international markets too. It's scary how well they track. We were not at all surprised in the second quarter, GDP came in lower and revised down because we felt it. It's almost immediate. That is consistent with our past experience. Are we seeing a different pattern? No. I think relative to our business to the economy, I do think we're seeing a different pattern relative to the economy recovering. We believe the market will continue to be tied to that GDP development. We get a good recovery at GDP, we'll get a more sustainable level of repair remodel.

Speaker 3

Okay, and then just last question, I guess, on wood profitability, strong results this quarter. How much of that is related to timing of price versus raw materials versus final? To see the true takeout of the costs flowing through?

Speaker 0

David, it's primarily due to the restructuring of the operations and the costs we've taken out. That is the primary driver as well as, you know, on the top line, incremental sales year on year of about 3%. It's a direct result of the activities we've taken.

Speaker 5

We are still catching up on last year's lumber increases.

Speaker 0

Correct. Correct.

Speaker 3

Okay. Thanks again.

Speaker 0

Thanks.

Speaker 4

Your next question comes from the line of Keith Hughes with Truist Securities.

Speaker 1

Thank you. Two questions. One, if you look at demand in July, is this rate change different in any of the businesses versus what you saw in the second quarter? Secondly, on raw material, what's raw material that gone up that caused you to raise the raw material hit in the quarter?

Speaker 2

Let me take the first one. If we look at our July, I guess the best way to characterize July is it's where we would have expected to see it. It's in line with our revenue forecast for the quarter, and we showed a little bit of strengthening towards the end of the second quarter. That strengthening in general continued into July. That's kind of a general comment. I think that holds true for, I'm talking about here in the U.S., and I guess in Western Europe, and that's for both businesses. We continue to see robust growth in the emerging markets, China, India, Russia.

Speaker 5

Speaker 2

The new margins out of China won't be comparable. Is that correct?

Speaker 5

Speaker 2

How about in the second ceilings plant?

Speaker 5

Yeah. Second ceiling plants, I mean, would be a comparable margin to the current ceiling plant, which is an attractive, you know, average AVP margins.

Speaker 2

Terrific. Thanks very much.

Speaker 5

Thank you.

Speaker 4

Your next question comes from the line of David McGregor with Longbow Research.

Speaker 0

Good afternoon, everyone.

Speaker 2

Hey, David.

Speaker 0

Within the wood business, how much of that business is home centers? Maybe you could just update us on your end market mix there by distribution, home centers versus mom-and-pop versus, you know, maybe just walk us through that.

Speaker 2

Yeah, this is Frank, David. About a third of the business is big box. Obviously, the remaining two-thirds is the independent through distribution. Of that two-thirds, about 80% of it is remodel replaced. The remaining 20% is new construction.

Speaker 0

It looks like you may have gained some share in wood in the quarter. Could you just comment on that?

Speaker 2

Yeah. The gains were predominantly through the remodel replace segment, both through the big box, and to a lesser degree, independent retailers, largely driven by new products. We had fairly significant activity in new products in the portfolio earlier this year, and the response to those has been very strong, and I think is what's helped drive the share gain.

Speaker 0

Speaker 2

I'd just say, I mean, just comment with Vic and Frank, but you know, I think we're seeing it fairly stable. You know, in the ceilings business, there's a benefit because it actually mixes up. While we can see kind of flattish volumes, you know, we're seeing price performance in remodeling and mix up. I would say that's probably true for both businesses. Vic, did you have any?

Speaker 0

Yeah, no, I think in the commercial ceilings business, we saw low single-digit growth, and it's been very consistent quarter over quarter. We see that continuing to be very solid, very stable. It's that new construction segment that's really soft.

Speaker 2

And Frank?

Speaker 5

Agreed. I think a similar situation with flooring.

Speaker 2

Yeah, when you look at the commercial remodel segment, both of our businesses are performing about the same.

Speaker 0

Okay. Can you just talk about office versus non-office? I mean, you were talking a little bit about the education. I appreciate that color, but is there anything you can add to that?

Speaker 2

I think overall office has been very stable. I think a lot of the single-digit growth is probably in that office segment.

Speaker 0

For floor, David, office really isn't a segment for us, given we're a hard surface. The dynamic we're seeing is healthcare is pretty active and pretty positive. Retail is hit or miss, and as we talked earlier, education driven by public funding is soft, particularly through the renovation season.

Speaker 5

Being an ethylene. Ethylene's up 22% versus January 2010. Plasticizer is made from propylene. Propylene's up versus January 2011. We're really feeling, you know, those are hitting us the hardest, and particularly in the resilient segment.

Speaker 1

In the second quarter, price/mix less than raw material hit was still a positive. Obviously, all of this was coming in the third and the fourth. Will that extend in 2012 as well?

Speaker 2

I lost you on the last, but we couldn't hear the last part there, Keith. Can you ask the question again?

Speaker 1

It looks like in the second quarter, price/mix outstripped the raw material inflation. Obviously, the third and fourth quarter, when it would be hit, when this hit would come, you'd expect that to extend into 2012.

Speaker 2

All right. We're not really commenting on 2012, just other than to say historically, we've been able to get price over inflation.

Speaker 5

Yeah, I would say, I mean, there's a couple of things going on, Keith. I think, you know, we don't have any reason to believe that these materials are going to come down in the back half or in 2012. I will say that we have seen lumber come down, so there will be a little bit of a segment mix effect going on. Lumber ought to be coming down in the back half. Year-over-year comparison on lumber inflation offset by this increase on the PVC, titanium dioxide, and plasticizer. Total AWI to total AWI, and we're not, you know, it's in our guidance right now, but in terms of that specific raw material line, it'll have more netting effect than maybe you imagined.

Speaker 2

All right, thank you.

Speaker 5

Thanks, Keith.

Speaker 4

Your next question comes from the line of John Lovallo with Stifel Nicolaus.

Speaker 0

Good afternoon, Matt and Tom. My question, let's see, first on the sort of the outlook. You mentioned, I think, on the flooring, you expect, or at least residential, expect second half remodel to be up mid-single digits. Is that, my impression is it's slowed sequentially or in the last 90 days. Have you adjusted your thinking for flooring in the second half? It still yields a mid-single-digit increase because of what happened a year ago, or have you just held your assumption for flooring in the second half?

Speaker 2

Let me let Frank comment. I think what you're really seeing is just, like we said, it's just more favorable comparisons. We had such a soft second half last year. As we all learned, we pulled 12 months of demand in the first 12 months of the year in 2010. We just anticipate an easier comparison. This is not a, when we talk about mid-single digits, we're not pointing to any sort of recovery at all. We're just, I think, being fairly grounded in a fairly easy comparison. I'm sorry. Frank, anything?

Speaker 0

No, I think that's exactly right, John. We've got a very low base in 2010 we're going against.

Speaker 2

Okay. Frank, I've got you. The comment that the wood was driven, I guess, more so by big box than independent. Did you gain shelf space, if you will, at the big box year over year with these new products you talked about, or did you have a similar position and you felt that they gained share?

Speaker 0

Education would represent what % of the business?

Speaker 2

In floor, it's about high 20s to 30%.

Speaker 0

was about the same in ceilings.

Speaker 2

Okay, thanks very much, everyone.

Speaker 0

Thank you.

Speaker 2

Thanks.

Speaker 4

Your next question comes from the line of Dennis McGill with Zelman & Associates.

Speaker 3

Hi. Thanks for taking my question. The first question, just wanted to get your sense on ceilings profitability. If we think about it pre-wave, how the first half of the year impacts your thinking about the second half of the year. It seems pretty atypical to see margins decline one Q to two Q. You talked about some of the softening in order patterns and maybe some pull forward in the first quarter. What does that imply for the second half of the year? Is it a softer margin environment than you would have suspected? How should we think about that relative to, I think, last quarter you talked about mid-20s EBITDA margin if that's still a good bogey for the year?

Speaker 5

Yeah, I think for EBITDA margin, I think that's still a good bogey. This is Tom. We're not expecting a different pattern really in the first half or second half on margin structure in the building products. We had a quarter blip really driven by wave, but the fundamental structural profitability of the ceilings business is only getting stronger. We just took down the Beaver Falls plant at the end of the first quarter and still winding that thing down. We'll have benefit from the Beaver Falls plant closure. We'll have benefit from the SG&A reductions that we'll continue to benefit from from last year. We have modest margin, but we've got a good mix, a modest volume, but good mix and price gain.

I'm not expecting a different pattern than you would have seen in the past for seasonality of those margins and overall that mid-20% bogey for EBITDA is still a good number.

Speaker 3

Okay. Thanks. I'm not sure who this question is maybe best geared towards, but your comments on the non-res market, the new construction is lagging and the remodel piece seems to be stable, maybe a little bit better. How would you characterize that relative to prior non-res recoveries? Where do you necessarily think we are in that cycle? What are you guys most focused on as far as taking that from a choppy bottom to a recovery that's got some legs to it?

Speaker 2

Yeah, I mean, I haven't found anybody that's done a good job forecasting the recovery. It's a quarter by quarter sort of update. I guess the way we would look at it is, we're not seeing any good news about non-residential construction. We would look at the architectural billing index and that continues to trade down below 50. That doesn't give us a lot of optimism. On a more subjective basis, we are hearing about projects that are being taken off the drawing board or taken off the shelf, put back on the drawing board, and being reworked. We're seeing a little bit of, I'd say, generally speaking, maybe a little bit more activity there. It's anybody's guess really as to when this thing is going to recover. We are taking it sort of one quarter at a time.

Speaker 3

Was that just related to new construction, or was that the remodel side as well?

Speaker 2

I'm sorry, it was only new construction.

Speaker 3

Okay. I'm sorry. My question was more broader around the whole sector, realizing new construction is lagging here. Can we read into anything on the remodel side of the business and how that's maybe trended in prior cycles?

Speaker 2

Okay, I'm sorry.

Speaker 3

That's okay.

Speaker 2

Yeah.

Speaker 3

A little of both.

Speaker 2

Yeah, we did gain some shelf space in the big box, John, with some of the products I referenced earlier. That's a piece of it, but I think also a piece of it is the big box has taken on a more concerted effort to improve their position in the marketplace. They've been more active promotionally and more active in the category than maybe they were in 2010.

Speaker 0

Okay. Great. Lastly, I apologize, but you went through those price increases and timing so quickly I couldn't jot them all down. Tom, if you could just run through those again real quick, that'd be helpful. Thank you.

Speaker 5

You bet. I think we can also make a table available on our website of the pricing if that's helpful to share because I do know we put a lot out there and we say it awfully fast. Specifically, we took an increase of 6% to 8% on resilient flooring in the Americas effective in June, an increase on resilient flooring in Europe of 4% to 5% effective in July, an increase on ceiling tiles in the Americas and Europe of 5% to 6% and 3% to 6%, respectively. That's 5% to 6% in the Americas, 3% to 6% in Europe, and 5% finally on grid in the U.S. in August. The ceilings was effective in August.

Speaker 0

Great. Thanks. Good luck.

Speaker 2

Thank you. Thank you.

Speaker 4

Your next question comes from the line of Jim Barrett with CLK and Associates.

Speaker 5

Hi, everyone.

Speaker 2

Hey, Jim.

Speaker 0

Hey, Jim.

Speaker 5

Matt, could you talk about, you just listed those price increases. Could you discuss if you can rank order them in terms of the pricing discipline you're seeing in each of those industries? Are there any major competitors in any of those industries that have not yet followed your lead?

Speaker 2

I'm not sure that it's appropriate for me to comment on pricing discipline in the industry. Let me just say this. We're getting our normal yield on our price increases, and that's been the case for the last several months. Tom laid the prices out there. I think we've demonstrated that we're getting price over inflation, and the yields we're getting are in line with our historical experience.

Speaker 5

We're leading in each of these price increases, and we're generally seeing the competition has followed up.

Speaker 2

Right.

Speaker 5

They've announced, they followed. We haven't. You know, a lot of these haven't actually been affected.

Speaker 2

I mean, the thing about it is everybody feels the same pressure on raw materials.

Speaker 5

Understood. That's very helpful. Thank you very much.

Speaker 2

Thank you, Jim.

Speaker 4

This concludes the question and answer portion of today's event. I'd like to turn the call back over to management for closing remarks.

Speaker 5

I want to thank everybody for your time and attention today and the questions and all your support. Thank you very much. Have a great week.

Speaker 4

Ladies and gentlemen, this concludes the presentation today. Thank you so much for your participation. You may now disconnect. Have a wonderful day.

Speaker 2

I think the factors driving remodel are tenant churn in the office space. I think there's a tremendous amount of updating that's going on in the healthcare infrastructure. That's what Frank's talking about, a fairly robust healthcare remodel market. That's driven by technological advancements and just improvements there. That's offset partially by state budget reductions, and we see that in the educational softness that we experienced in the second quarter.

Speaker 5

If I could say, one of the things, Dennis, that we see is that the commercial remodel business closely tracks with GDP development in the U.S. particularly and in international markets too. It's scary how well they track. We were not at all surprised. In the second quarter, GDP came in lower and was revised down because we felt it. It's almost immediate. That is consistent with our past experience. Are we seeing a different pattern? No. I think, relative to our business to the economy, I do think we're seeing a different pattern relative to the economy recovering. We believe that market will continue to be tied to that GDP development. If we get a good recovery at GDP, we'll get a more sustainable level of repair remodel.

Speaker 3

Okay. Just last question, I guess, on wood profitability, strong results this quarter. How much of that is related to timing of price versus raw materials versus final to see the true takeout of the costs flowing through?

Speaker 0

David, it's primarily due to the restructuring of the operations and the costs we've taken out. That is the primary driver, as well as, you know, on the top line, incremental sales year on year of about 3%. It's a direct result of the activities we've taken.

Speaker 5

We are still catching up on last year's lumber increases.

Speaker 0

Correct. Correct.

Speaker 3

Okay. Thanks again.

Speaker 2

Thanks.

Speaker 4

Your next question comes from the line of Keith Hughes with Truist Securities.

Speaker 1

Thank you. Two questions. One, if you look at demand in July, is this rate change different in any of the businesses versus what you saw in the second quarter? Secondly, on raw material, what raw materials have gone up that caused you to raise the raw material hit in the quarter?

Speaker 2

Speaker 5

Specific to your question on raw materials, Keith, this is Tom. The plasticizer that goes into resilient flooring, PVC that goes into resilient flooring, and titanium dioxide, which goes into both that and ceilings, have remained incredibly high and have accelerated versus our last outlook, despite a little bit of moderation in the price of oil. Versus PVC as an example, it's a derivative of chlorine and ethylene. Ethylene's up 22% versus January 2010. Plasticizer is made from propylene. Propylene's up versus January 2011. We're really feeling those are hitting us the hardest, and particularly in the resilient segment.

Speaker 1

In the second quarter, price and mix less than raw material hit was still a positive. Obviously, all of this was coming in the third and the fourth. Will that extend in 2012 as well?

Speaker 2

I lost you on the last part, but we couldn't hear the last part there, Keith. Can you ask the question again?

Speaker 1

It looks like in the second quarter, price and mix outstripped the raw material inflation. Obviously, the third and fourth quarter, when it would be hit, when the test would come, you expect that to extend into 2012.

Speaker 2

Right. I mean, we're not really commenting on 2012, just other than to say historically, we've been able to get price over inflation.

Speaker 5

Speaker 2

All right. Thank you.

Speaker 5

Thanks, Keith.

Speaker 4

Your next question comes from the line of John Lovallo with Stifel Nicolaus.

Speaker 0

Good afternoon, Matt and Tom. My question, though, let's see. First, on the sort of the outlook, you mentioned, I think, on the flooring, you expect, or at least residential, expect second half remodel to be up mid-single digits. My impression is it's slowed sequentially or in the last 90 days. Have you adjusted your thinking for flooring in the second half? It still yields a mid-single digit increase because of what happened a year ago, or have you just held your assumption for flooring in the second half?

Speaker 2

I mean, I love Frank comment, but I think, I mean, what you're really seeing is just, like we said, it's just more favorable comparisons. I mean, we had such a soft second half last year. As we all learned, we pulled 12 months of demand into the first 12 months of the year in 2010. You know, we just anticipate an easier comparison. This is not a, when we talk about mid-single digits, we're not pointing to any sort of recovery at all. We're just, I think, being fairly grounded in a fairly easy comparison rather. I'm sorry. And Frank, anything?

Speaker 0

No, I think that's exactly right, John. We've got a very low base in 2010 we're going against.

Speaker 2

Okay. Frank, I got you. The comment that the wood was driven, I guess, more so by big box than independent. Did you gain shelf space, if you will, at the big box year over year with these new products you talked about, or did you have a similar position and you felt that they gained share or maybe a little of both?

Speaker 0

Speaker 2

Speaker 5

You bet. I think we can also make a table available on our website of the pricing. That's helpful to share because I do know we put a lot out there and we say it off the bat. Specifically, we took an increase of 6% to 8% on resilient flooring in the Americas effective in June, an increase on resilient flooring in Europe of 4% to 5% effective in July, an increase on ceiling tiles in the Americas and Europe of 5% to 6% and 3% to 6%, respectively. That's 5% to 6% in the Americas, 3% to 6% in Europe, and 5% finally on grid in the U.S. in August. The ceilings was effective in August.

Speaker 2

Great. Thanks. Good luck.

Speaker 0

Thank you.

Speaker 2

Thank you.

Speaker 4

Your next question comes from the line of Jim Barrett with CLK and Associates.

Speaker 5

Hi, everyone.

Speaker 2

Hey, Jim.

Speaker 0

Hey, Jim.

Speaker 5

Speaker 2

I'm not sure that it's appropriate for me to comment on pricing discipline in industries. Let me just say this. We're getting our normal yield on our price increases, and that's been the case for the last several months. Tom laid the prices out there. I think we've demonstrated that we're getting price over inflation, and the yields we're getting are in line with our historical experience.

Speaker 5

We're leading in each of these price increases, and we're generally seeing the competition has followed us.

Speaker 2

Right.

Speaker 5

They've announced they follow. We haven't, you know, a lot of these haven't actually been affected.

Speaker 2

I mean, the thing about it is everybody feels the same pressure on raw materials.

Speaker 5

Understood. That’s very helpful. Thank you very much.

Speaker 2

Thank you, Jim.

Speaker 4

This concludes the question and answer portion of today's event. I'd like to turn the call back over to management for closing remarks.

Speaker 5

I want to thank everybody for your time and attention today and the questions and all your support. Thank you very much. Have a great week.

Speaker 4

Ladies and gentlemen, this concludes the presentation today. Thank you so much for your participation. You may now disconnect. Have a wonderful day.

Armstrong World Industries - Earnings Call - Q2 2011

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