James Hardie Industries - Q1 2021

Transcript

Operator (participant)

Thank you for standing by, and welcome to the James Hardie Q1 FY 2021 results briefing conference call. All participants are in a listen-only mode. There will be a presentation, followed by a question-and-answer session. If you wish to ask a question, you will need to press the star key, followed by the number one on your telephone keypad. I would now like to hand the conference over to Dr. Jack Truong, Chief Executive Officer. Please go ahead.

Jack Truong (CEO)

Thank you. Good morning, and good afternoon, everyone. Thank you for joining us on our Q1 fiscal year 2021 earnings call. I will first begin by providing an update on where we are relative to the three-year global strategic plan that we launched back in February 2019, about 18 months ago. This will help put our Q1 results, as well as our guidance for Q2 and total year into context relative to this three-year plan. Jason Miele, our CFO, will then cover our Q1 financial results in more details. Finally, I will end with a brief summary and then provide guidance for the second quarter and the full-year, fiscal year 2021.

While the focus of today's discussion is on our Q1 performance and strategic updates, I would like to provide a quick overview on how our teams around the world have been managing and coping with the COVID-19 pandemic. As I had mentioned in our last earnings call in May, our primary objective has always been to ensure that the health and safety of our employees, customers, and suppliers are taken into consideration in all business decisions we make. This is consistent with the zero-harm culture in our company. I'm pleased and thankful to note that we have not had any of our employees from around the world who were seriously ill due to COVID-19. I would like to express my gratitude to all of our employees and their families for their tireless commitment to the safety of themselves and of one another, at work and at home.

While the pandemic has had some impact on our business, we remain focused on items that we could and can control. We continue to execute a global strategy consistently every day to deliver growth of our market and strong returns. We view the pandemic as an opportunity for our company to accelerate our progress on the execution of our strategy. Now, let's turn to page five for an update on our global strategy. When we launched our global strategy back in February of calendar year 2019, we shared with you our vision to transform James Hardie from being a big, small company into a small, big company that can deliver growth above markets with strong returns consistently. I'm very pleased to note that not only do we remain on track with our transformation, but we also accelerated it during the pandemic.

We have made significant and measurable progress over the first 18 months of this transformation. In year one, fiscal year 2020, our company focused on critical actions to begin the fundamental transformation to a small, big company. First, we're moving from being the world's best fiber cement producer to becoming a world-class manufacturer. This is accomplished by implementing Hardie Manufacturing Operating System, based on lean methodology across all of our plants in North America, Asia Pacific, and recently in Europe. Hardie Manufacturing Operating System allow us to take advantage of our scale and our manufacturing know-how to deliver more predictable output, consistent quality, and to reduce our manufacturing costs. Second, we are on a commercial transformational journey from pull to push-pull.

It's about being a truly customer-focused company that creates more value for our customers, the dealers, the lumber yards, and distributors when they sell our products versus our competition, through better delivery and service, increased demand, and lower working capital. These two core transformations in year one enable us to deliver consistent financial results through our fiscal year 2020, with growth above market and strong returns. I'm pleased with our excellent performance in fiscal year 2020, including the highlights noted here. 7% plus PDG and 26% EBIT margin in North America. It is the first time in more than a decade that our North America business delivered PDG of more than 6% and an adjusted EBIT margin greater than 25%. We also had an adjusted net income increase 17% year-over-year, and operating cash flow increased 48% year-over-year.

Shifting now to year two of our transformation, fiscal year 2021. When we launched our global strategy in February 2019, we certainly did not expect the global pandemic that would occur in year two of our transformation. Nevertheless, James Hardie team rose to the challenge and performed well during the crisis. We have been able to accelerate our transformation since the start of FY 2021. First, we have been strengthening our engagement and integration with our customers. As I mentioned earlier, the core focus on year one was to instill the customer-focused mindset throughout our organization. Our team embraced that mentality and continued to develop these partnerships with our customers.... Second, we took the customer partnership to a new level by beginning to integrate our supply chain with our customers.

This is to help ensure that we're able to service our customers seamlessly, providing our customers the products they want when they need them. As a result of our customers integration, we have been able to accelerate our market share gain while improving on our working capital. Q1 fiscal year 2021 is for the 5th straight quarter that we deliver on expected results even in a highly volatile market driven by pandemic. We had strong growth of the market and 29% adjusted EBIT margin in North America in Q1. It is an improvement of 390 basis points over previous corresponding period. We had adjusted NOPAT in line with previous corresponding period, and operating cash flow increased 35% over Q1 of last year. We have considerable positive momentum headed into remainder of fiscal year 2021.

We expect to continue to strengthen the execution of our strategy on a global basis. As we look forward to fiscal year 2022, year three of our strategy, our focus is on creating new platforms for growth. But first, we will continue to build on new capabilities in lean and push-pull transformations to continue to deliver a consistent, profitable growth across all three regions. Second, we plan to introduce and commercialize market-driven innovations that will deliver a change of basis of competition to the marketplace. More will be forthcoming in the next quarters as we get closer to the launch dates. A transformation of this magnitude is not easy, and certainly not when you add in a pandemic. Critical to this transformation and underpinning its success is the integrated and connected management system we put in place over 18 months ago.

It is this integrated management system with clearly defined and connected processes that allow us to make the right decisions holistically at different levels within the company to keep our transformation on the right track. I'm pleased with the progress we made in the past 18 months. We are on the path of becoming a small, big company. Now, on the next few pages, I will spend a bit more time going into more details on our strategic initiative for year two. Let's now turn to page six. In fiscal year 2021, as I just mentioned, one of our critical initiatives is about increased end-to-end engagement with our customers through supply chain integration. This is about a true partnership where all facets of the supply chain are working together in concert to mutual benefit.

Specifically, this involves receiving a timely demand signal from our customers, and in turn, their customers as well, to provide a more detailed view of expected future product demand of our products in the market. This enable us to work with our customers to provide them with the products they want, when they need them, while improving their working capital by carrying less inventory. We have our manufacturing plants strategically located across North America, Australia, and Western Europe to best serve our customers. Now, by integrating the demand signal back into our operations, we're able to leverage on our scale and strategic location of plants to serve our customers better for growth. Now, let's turn to page seven.

While we still have a lot of work left to do to integrate with our customers during fiscal year 2021, you can begin to see the results of our collective effort thus far in fiscal year 2021 on this slide. On the left-hand side, you can see our global inventory decreased by $47 million, or 15% reduction from Q4 fiscal year 2020, while we improve our service to our customers in all three regions. This is a true testament that our lean manufacturing transformation is working. Products are produced in our network of plants based on real demand and flow to our customers in a more seamless way. It is also the magic of the end. We provided our customers seamless service through the pandemic while improving their inventory position and ours. I'm pleased with the strong start to supply chain engagement and integration of our customers.

We're partnering more closely with our customers in a mutually beneficial way, and we will continue to do so throughout the remainder of fiscal year 2021 and beyond. Now, moving on to page eight. In addition to the acceleration of our supply chain integration, we're also able to accelerate our working capital management. These efforts delivered the following results: Operating cash flow increased $189 million, an increase of 35% versus Q1 fiscal year 2020. This was driven by increased engagement with our customers to drive sales growth and share gain, and integration of our entire supply chain to reduce inventory while improving service. Since March 31st of 2020, we have seen a total reduction of working capital of $79+ million. Our liquidity improved to $693 million as of June 30th, 2020.

This is an increase of 36%, or $183 million since March 31, 2020, or three months previous, and an increase of 49%, or $229 million, since December 1, 2019. Our leverage ratio also improved from 1.9x, end of March 2020, to 1.65x by the end of June 2020. Throughout the first quarter, we were engaged and integrated with our customers to drive sales growth and share gain, while improving on working capital and cash flow. That positive momentum continued into the current quarter. I would now like to turn this over to our CFO, Jason Miele, to discuss additional details on our financial results. Jason?

Jason Miele (CFO)

Thank you, Jack. I will start on slide 10 with our group results for the first quarter of fiscal year 2021. In the first quarter, we were able to deliver adjusted EBIT and adjusted NOPAT in line with the prior year. This was driven by the continued execution and acceleration of our strategy and our focus on controlling what we can control. In all three regions, we saw improved top-line results each successive month of the quarter, and we entered the second quarter with good momentum in all three regions.

The adjusted EBIT result of flat for the quarter was driven by the strong positive result in North America, where we increased adjusted EBIT by $17.4 million, which was offset by decreases in Asia Pacific and Europe, as well as a significant headwind in stock compensation expenses, which increased $7.1 million due to the appreciation of the stock price during the first quarter. From an adjusted NOPAT perspective, our result of $89.3 million was in line with prior year, driven by the slight improvement in adjusted EBIT and lower interest expense, offset by a higher adjusted effective tax rate.

Most notably, our concerted efforts to improve the management and discipline with respect to our working capital and our continued strong sales results, driven by customer integration, resulted in an increase in operating cash flow of $49 million, a 35% increase versus the prior corresponding period. Moving on to page 11, I'll now go through each region in more detail, starting with North America. In North America, we saw outstanding results for the quarter. First, I'll briefly go through the market activity we observed during the quarter. Obviously, with the onset of the pandemic in March, the first quarter experienced uncertainty and volatile activity across the various segments and geographies we participate in. In general, new construction, including single-family and multifamily, was the strongest segment throughout the quarter.

While we saw a dip early in the quarter, it was not as deep as the dip we saw in repair and remodel activity, and the rebound in activity was faster and steeper. In the repair and remodel market for our exterior siding, we observed a significant decrease in activity early in the quarter, but saw higher levels of activity each successive month of the quarter. Similarly, in the interiors market, we saw significant decreases in activity early in the quarter as consumers were hesitant to allow contractors inside their home. But we saw this activity increase late in the quarter and have seen that persist into July. Moving on to our top-line results as we navigated that volatile and uncertain market. Volume and net sales were flat versus prior corresponding period, with exteriors up 1% and interiors down 11%.

In both exteriors and interiors, we saw improvements in our sales volumes in each successive month of the quarter. Our exteriors volume increased 1% versus the prior corresponding period, driven by continued share gain as our team continues to be customer-focused. We have seen this momentum continue into the second quarter, and Jack will provide specific second quarter exteriors volume guidance a bit later in the presentation. In interiors, while volumes decreased in Q1 by 11% versus the prior corresponding period, we did see improvements each successive month of the quarter, and that trend continued into July, with our interiors volume comping slightly positive versus July fiscal year 2020. While our top-line result was flat, we were able to grow adjusted EBIT by $17.4 million, or 15%.

This was driven by strong execution by our North America team, controlling what we can control and executing and accelerating our strategy through the pandemic. Specifically, adjusted EBIT improved due to, one, continued lean savings, lower freight costs, lower pulp costs, and lower SG&A. These improvements more than offset higher fixed cost absorption due to lower production volumes early in the quarter and other incremental expenses associated with COVID. In Q1, the North America team delivered exceptional results with continued growth above market and strong returns, including an adjusted EBIT margin of 29%. Adjusted EBIT increased 15%, while adjusted EBIT margin increased by 390 basis points. Turning to page 12, we'll talk about the Asia Pacific results. Similar to North America, Asia Pacific also had to navigate volatile and uncertain markets during Q1, and in some regards, more uncertain and more volatile.

Our Asia Pacific results in Q1 were significantly impacted by the government-imposed COVID-19 lockdowns in the Philippines and New Zealand during the first quarter. Despite two of its three markets facing these lockdowns, Asia Pacific was able to deliver an improvement in adjusted EBIT margin from last year and shifts back to the top end of the long-term range at 24.4% adjusted EBIT margin. This result was led by a very strong result from our Australia business as they continued to drive growth above market and strong returns. Australia increased volume by 1% versus prior corresponding period, while delivering an adjusted EBIT margin comparable to that of our North American business. Also, you'll remember that on May 5th, 2020, we announced the closure of our James Hardie Systems business, as well as the closure of our Penrose, New Zealand, manufacturing facility.

Both closures are on track, and we are seeing positive impacts to our EBIT margin related to both actions. As we continue to shift the remaining New Zealand production to our more efficient Australian manufacturing network, we would expect the impact to continue and to improve. As the government lockdowns have been eased or lifted in New Zealand and the Philippines, we have begun to experience some positive momentum toward the end of the quarter and continue to see that momentum into the second quarter. Let's now move on to page 13 for our European results. I'll pause for a moment to let the slides catch up. Slide 13, please. Okay.

Europe is the segment that experienced the greatest impact of the COVID-19 pandemic, as net sales decreased 12% in the first quarter, driven largely by government-imposed shutdowns in two of our key markets, the United Kingdom and France. It is important to note that these are also key fiber cement markets for us. By product group, net sales of fiber cement decreased 19%, and net sales of fiber gypsum decreased 11%. As a smaller segment with a higher SG&A base as a percent of revenue, this type of top-line reduction with a negative shift in mix and lower production can significantly impact margins quickly, and that is what happened in Q1 for our Europe segment.

Adjusted EBIT margin of 2.9% was driven by unfavorable absorption of manufacturing costs on lower production volumes and unfavorable mix impacts, driven by a reduction in fiber cement as a percentage of the overall portfolio. Note that the margin of our fiber cement products is significantly higher than that of our fiber gypsum products. While the Europe first quarter result is below our expectations, we have seen good momentum entering Q2, with July revenue up double digits versus July FY 2020, as markets in France and the United Kingdom started to open. Further, as the year progresses, we will gain the benefits of the resource reallocation we announced in May. More importantly, our European management team is working closely with their colleagues in North America and Asia Pac to drive a focus on high gross margin products and improving penetration in existing and new fiber cement markets.

Moving to page 14, we'll briefly cover off on the other segments. Starting on the left-hand side of the slide, you will see a significant increase in general corporate costs in the first quarter versus the first quarter of the prior corresponding period. In the first quarter, stock compensation expenses increased $7.1 million, driven by share price accretion from the 31st of March, two thousand and twenty, to the 30th of June, two thousand and twenty. Our share price increased AUD 9 during that period, resulting in a significant increase in stock compensation expense. On the right-hand side of the slide, you can see R&D expenditures were relatively flat year on year. The global innovation team remains focused on customer and market-driven innovation, as you heard Jack discuss in the strategy update, and we anticipate additional investment in innovation during FY 2021 and into the future.

Now, if we turn to page 15, there's a summary of adjusted NOPAT. This is a new slide we have added to summarize the adjusted EBIT results by segment, and then provide clarity straight through to adjusted NOPAT. First, I wanna cover off on the last bullet on the slide. As we announced on May nineteenth, we anticipated incurring approximately $10.5 million in severance costs associated with the restructuring actions we announced on May 5th, and that we expected to exclude those costs from adjusted EBIT and adjusted NOPAT. We have done exactly that. We incurred a total of $11.1 million in severance costs, slightly above our $10.5 million estimate, and have included them as restructuring costs in our first quarter fiscal year 2021 income statement. Severance is the only item we have included as restructuring costs.

While there are other incremental costs associated with the COVID pandemic, such as increased hygiene, increased cleaning costs, and increased PPE costs, among others, we did not feel it was relevant to exclude those items from adjusted EBIT and adjusted NOPAT, as some of them or all of them may continue and may not be one-off in nature. So again, for clarity, the $11.1 million in restructuring costs solely consist of severance, and we have excluded that amount from adjusted EBIT and adjusted NOPAT. Shifting back to the results, while adjusted NOPAT is relatively flat versus the prior corresponding period, we are very pleased with the quality of that result.

We delivered flat adjusted NOPAT despite the uncertain and volatile markets of the pandemic, including some of our markets and plants being shut down due to government restrictions, and despite the headwinds of higher stock compensation expense and a higher adjusted effective tax rate. The underlying operating units, North America, Asia Pacific, Europe, and research and development, combined to deliver $9.2 million in adjusted EBIT growth, led by the outstanding North American results that delivered an increase of $17.4 million in adjusted EBIT to more than offset the decreases in Asia Pacific and Europe. We move now to slide 16. We'll discuss cash flows and capital expenditures. Starting on the left-hand side of the slide, we'll talk about cash flows.

As Jack and I have both mentioned earlier in our presentation, operating cash flows were up 35% for the first quarter versus prior corresponding period, driven largely by increased engagement with our customers to drive sales growth and share gain, and integration of our entire supply chain to reduce inventory while also improving service. Since the 31st of March, two thousand and twenty, we have seen a total reduction in working capital of $79.3 million. It should be noted, we also received a $23.3 million tax refund in the first quarter under the provisions of the U.S. CARES Act, which was put in place by the U.S. federal government post-COVID. For the quarter, lower cash was used in investing activities, largely driven by lower capital expenditures.

And lastly, we saw higher cash used in financing activities as we made higher repayments of debt balances with the significant increases in our operating cash flows. Now shifting to the right-hand side of the slide, where you'll see a summary of capital expenditures. For the first quarter, CapEx spend was $27.1 million, down $36 million versus the prior corresponding quarter, as we had lower capacity expansion activities year-over-year. In May, we noted we did not expect to commission our Prattville, Alabama, facility, nor our Carroll Park, Australia, brownfield expansion until FY 2022. Due to our strong customer integration and market share gains in both North America and Asia Pacific, we now anticipate to commission both facilities in the fourth quarter of this fiscal year, FY 2021.

We now expect our full-year FY 2021 capital expenditures to be approximately $110 million, as we intend to commission both the aforementioned facilities in the fourth quarter and also increase maintenance CapEx due to higher production. Now, let's turn to page 17, where we'll briefly discuss liquidity. We've consistently provided this slide for many years now. There is no change in our debt profile. We still have the three sets of notes in place, along with the revolving credit facility. As Jack mentioned earlier in the presentation, we continue to improve our liquidity position and our leverage position. We ended the quarter with $693.1 million in liquidity, an improvement of $183.3 million since March 31.

We also improved leverage to 1.65x, an improvement from 1.9x at March 31st. Overall, we remain well-positioned with a healthy liquidity position and significant financial flexibility. Now, let's move to page 18, and I'll close my section with an update on capital management and allocation. We are committed to maintaining our financial flexibility throughout the pandemic, and we believe this short-term capital management strategy is aligned with that commitment.

Through the end of fiscal year 2021, we expect the following capital management focus: maintain flexibility through the market volatility and uncertainty of the global pandemic, invest strategically in capacity expansion to support organic growth, invest in market-led innovation to position James Hardie for continued organic growth in the future, have a continued focus on reducing our leverage ratio, maintain flexibility to reduce gross debt, and the continued suspension of ordinary dividend payments through the end of FY 2021. We expect this pragmatic approach to capital management will not only allow us to continue to thrive through the pandemic, but will also allow us to exit the pandemic with significant financial flexibility to support our growth agenda. I will now hand the call back over to Jack for a summary and an update on guidance.

Jack Truong (CEO)

Thank you, Jason. Now, let's turn to page 20 for a brief summary of our current strategic focus. Our strategy remains unchanged. We remain focused on driving growth of our markets and strong returns. Page 20, please. Now, looking at the left-hand side of the page, from a growth of our market perspective, we continue to focus on customer engagement to drive continued market share gains. We remain focused on our push-pull strategy and are integrating deeper with our customers each day to tie the demand signals back into our supply chain. And you can see the impact of our customer focus in our North America and Australia results over the past five quarters. In North America, our exterior business delivered 7+% PDG in fiscal year 2020, and +1% growth in the first quarter of fiscal year 2021.

In Australian markets, we delivered 3% growth of our market in fiscal year 2020, and 1% volume growth in fiscal year 2021 first quarter. As we shift to the right-hand side of the page, this really reinforces the magic of the end. We expect to deliver growth above market and strong returns. I'm pleased that we have been delivering strong returns over the first five quarters of this transformation. In North America, excellent performance and increase in adjusted EBIT dollars. We increased 21% of EBIT dollars in fiscal year 2020, and we increased 15% in EBIT dollars in the first quarter of fiscal year 2021. We also had exceptional North American EBIT margin of 25.9% in fiscal year 2020, and 29% in the first quarter of fiscal year 2021. In Asia Pacific, strong performance.

Adjusted EBIT margin of 22.7% in fiscal year 2020, and improved to 24.4% in the fiscal year 2021 first quarter. Now, the continued success of our manufacturing teams in delivering lean savings has helped to ensure our continued delivery of strong returns. Our disciplined approach to customer engagement and value creation, coupled with our continuous improvement mentality in operations, is the foundation from which we would drive continued growth above markets and strong returns consistently. Moving on to page 21, I would like to highlight specifics of our guidance. As you know, we're still in the midst of the COVID-19 crisis, which has affected global health, as well as has created significant economic uncertainty. It is important to note that the global pandemic is continually evolving, and the full impact of it to James Hardie business and future financial performance remains uncertain.

Nevertheless, we continue to focus on the critical few initiatives that we could and can control, that help us deliver strong first quarter performance. Now, for the second quarter of fiscal year 2021, we expect our North America exterior volume to grow between +7% and +11%. We also expect our North America adjusted EBIT margin to be between 27% and 29%. For reference, our Q2 EBIT margin in previous corresponding period was 27.1%. For the full-year fiscal year 2021, we provide the following guidance. We expect our full-year, fiscal year 2021 adjusted net operating profit to be between $330 million and $390 million. Now, before moving on to Q&A, I would like to provide a brief summary and wrap up.

We're now in year two of our journey to transform our company from being a big, small company into a small, big company. We are engaging and integrating with our customers to become that trusted and valued partner for our customers globally. We're building on the momentum of our lean transformation to continuously improve our capabilities and our processes to generate scale and deliver the predictable output with consistent quality and continued cost reduction in how we manufacture our products. We continue to build capabilities and processes that connect our customers' demand to our lean-driven supply chain to really help deliver the magic at the end to James Hardie, and that is deliver growth above market and strong return.

As we look beyond fiscal year 2021 and into fiscal year 2022, we will create new growth platforms to deliver that sustainable, profitable growth consistently across all three regions that we operate in. We look forward to building on the considerable momentum generated thus far and emerging from this pandemic as an even stronger James Hardie company. To that end, I would like to take the opportunity to formally welcome Bob Stefansic to the James Hardie leadership team as the Executive Vice President, North America End-to-End Supply Chain. Bob brings a wealth of experience gained during his 30+ year career in roles of increasing responsibility, leading manufacturing, supply chain operations, environmental, health and safety, and engineering organization across multiple industries. Bob's recent role was Chief Operations Officer for Ingredion, a $6 billion global specialty chemical company, headquartered in Chicago.

Bob's broad-based experience will be instrumental in managing our transition to an end-to-end supply chain model for North America, integrating manufacturing, supply chain operations, engineering, and lean together. So welcome to the team, Bob. Before we move to Q&A, I would like to take a moment to thank all of our James Hardie team members around the world for embracing this transformation and delivering strong financial results for five consecutive quarters, and for their dedication and commitment while continuing to be vigilant in being safe at work and at home. Thank you. Let's now move on to Q&A.

Operator (participant)

Thank you. If you wish to ask a question, please press star one on your telephone and wait for your name to be announced. If you wish to cancel your request, too, if you're on a speakerphone, please pick up the handset to ask your question. We do ask that you limit your questions to one with one follow-up today, please. Your first question comes from Keith Chau with MST Marquee. Please go ahead.

Keith Chau (Analyst)

Good morning, Jack and Jason. Thanks for taking my questions. First one, just on the lean benefits that were delivered in the period. Just wondering if you'd be able to give us a sense of what benefits were delivered, what the potential outcome could be for the full-year, and also, what the reinvestment profile is gonna be. It seems as though the market is certainly stronger than we all would have expected at the outset of COVID. With this market growth and resilience, we would think that some reinvestment would be required. So if you can just give us some guidance on lean benefit delivery in the period and also for the full-year and expected reinvestment, that would be great. Thank you.

Jack Truong (CEO)

Go ahead, Jason.

Jason Miele (CFO)

Yeah, Keith, thanks for the question. You know, I think as we talked about last quarter, we remain on track with our lean benefits and the profile we set out over a year ago now. We certainly over-delivered last year at fiscal year 2020, the first year of the lean transformation. We're continuing on track for the three-year trajectory of $100 million. We typically don't go into it quarter by quarter, but we certainly remain on track and ahead of schedule to deliver the full $100 million. As far as your reinvestment question, yeah, I think how we invest going forward into market-based initiatives, market-led innovation, customer-led innovation, certainly it will be the focus of where we invest, but we still are cautious as we go through this pandemic and manage cost and cash.

But I think kind of how you reinvest the $100 million is, I don't wanna say a non-issue at this point. I think we're delivering lean. I think it's more how and when you reinvest in the business, full stop. We obviously gave the margin guidance for Q2, for North America of 27%-29%, which we are confident in. But certainly we will begin to reinvest in the business going forward.

Keith Chau (Analyst)

Okay, thanks. Thanks very much, Jason. The second question, just around the framework for growth. Interior seems like that's on a reasonably encouraging trajectory, with a positive July versus last year, new starts or new housing starts, we get a gauge from official U.S. Census data. Just wondering if you can give us a sense of the remodeling market and in particular, re-sides. Just wondering if that's comping positive in July, whether you've got some visibility into that, over recent periods and what the expectation is going forward, please?

Jack Truong (CEO)

Yeah. So, Keith, first thing is that we saw that the new home construction activity had really improved month over month sequentially, from May, in fact, week by week. And then, as we went into June, the remodeling and repair market also improved quite rapidly, particularly in the Northeast and Midwest, and that trend continued well into July. So as we speak, right now, both of those markets are quite healthy for us, and it is an area that we continue to take advantage of that market growth.

But what's really differentiate our growth profile going to this quarter is that we, our share gain have accelerated. So the combination of those two really give us a good confidence going to the second quarter.

Keith Chau (Analyst)

So, Jack, just a couple of follow-ups on that one. The first one is, are you seeing an improvement in July in R&R versus last year? I kind of understand the sequential improvement. But just keen to understand whether July is improved versus last year.

Jack Truong (CEO)

Yeah. Yeah, it is more on July, the R&R improvement, more on the month-to-month sequentially from July to June and June to May.

Keith Chau (Analyst)

Right. Okay. So, so would it still be slightly down relative to last year?

Jack Truong (CEO)

It's really hard to say right now, Keith, because of all the moving pieces, so right now, we don't really look at the comparison of the market versus a year ago because of the reality we're right in the middle of a pandemic.

Keith Chau (Analyst)

Mm-hmm.

Jack Truong (CEO)

There's just a lot of movement from state to state because of the health issues that still persist here in North America, particularly U.S.

Keith Chau (Analyst)

Okay, thanks, Jack. And, I guess the comment around PDG strengthening through the period implies that you're running at a PDG rate of above 7%. Would that be a fair assumption?

Jack Truong (CEO)

Yes, and in fact, going through second quarter, that should increase.

Keith Chau (Analyst)

Okay, thanks, Jack.

Jason Miele (CFO)

With that, Keith, before we move on to the next question,

Keith Chau (Analyst)

Sure.

Jason Miele (CFO)

And the next caller, we did give guidance for Q2. It's +7% to +11% exterior volume growth. That's all of our exterior products versus what we sold last year. So we're providing pretty good detail on our expectations year on year.

Operator (participant)

Thank you. Once again, we remind that you can please ask one question with one follow-up. Your next question comes from Peter Wilson with Credit Suisse.

Peter Wilson (Analyst)

Thanks, morning. Just a question on your supply chain and cost base as we go throughout the year, 'cause the market has clearly recovered a lot faster than anyone expected. It seems like yourselves and the industry are straining to keep up. So I'm just wondering, if you look at your supply chain, what might be the bottlenecks or the concerns? And then what might be the impact on costs as you try to keep up with this demand?

Jack Truong (CEO)

Yeah, it's a good question, Peter. Do you know that, as we went into the pandemic, back in middle of March, with the management system we have in place, that we were able to keep all of our plants, particularly in North America, running, so we never really have a stoppage with any of our plant, except for Summerville, where it was a conscious decision to close, so during this whole quarter, we did not shut down our plants, and with the system we had in place, we were able to adapt to the increased demand throughout the quarter.

And then, couple that with the continued focus on our Hardie Manufacturing Operating System or Lean, we were able to continue to drive more efficiency. And third is that, as our sales team, commercial team continued to engage with our customers at a different level, at a new level, that allow us to have better demand signals, that allow our plants to plan and then to produce and then flow to our customers more efficiently. So it is, and it's really a pure execution of what Lean is supposed to be. That's really based on true demand in the marketplace.

So, we actually operate quite seamlessly, and so as evidenced by the EBIT margin that we're able to deliver in Q1 and then with the expectation going to Q2.

Peter Wilson (Analyst)

But is there any concern about your ability to meet demand, you know, Prattville, Alabama coming online?

Jack Truong (CEO)

The Alabama is really about as we look out into the near and midterm, is that we see the demand for this coming fiscal year to go up. And also with the new products that we plan to launch, and then and also with the share gains that we're gaining right now, that's why we revise our capacity plan and then pull forward the commissioning of Alabama plant into this fiscal year.

Peter Wilson (Analyst)

Okay. And then the North America cost base that underpins the 27%-29% margin in the September quarter, can you give us a feel for where that sits versus, you know, some sort of normalized cost base? And what I'm getting at is, just trying to get a feel for the net impact of, say, COVID inefficiencies, you know, and the measures taken, like pulling back on non-discretionary spend. Just wondering whether, you know, we should expect some sort of snap back in spending beyond that September quarter, or whether that is a fair cost base?

Jack Truong (CEO)

Yeah, you know, so it's really the three critical components that really gave rise to that improved EBIT margin, that the 27%-29%, is really the volume, Lean savings, and then, of course, the SG&A cost base that because of the pandemic that we actually cut down our expenses and managed our costs appropriately. And so we would estimate that could be roughly 200-300 basis points. And we expect that to really normalize back to that level as we continue to gain more share. And more importantly, is when we're getting ready to commercialize our new innovations that we would plan to launch to the marketplace.

Operator (participant)

Our next question comes from Peter Steyn with Macquarie. Please go ahead.

Peter Steyn (Analyst)

Good evening, Jack and Jason. Thanks very much. Just a quick question from me. In the calibration of your outlook for FY 2021 and the NPAT guidance that you've provided, could you give us a sense of the macro settings that you've assumed in your guidance expectations, given a pretty strong second quarter? So how would you broadly be thinking about the market environment in Q3 and four?

Jason Miele (CFO)

Yeah, Peter, it's a good question, and you kind of pegged, you know, why is the range $60 million, which is a bit broader than normal? It really comes down to the uncertainty of the markets in the back half of the year, considering we are in the midst of a pandemic. Obviously, we're very confident in the things we can control. You know, as Jack went through that strategy update, we've implemented Lean, and we're having great success with that, which helps give us more certainty on our cost per unit. We're getting much closer to our customers and integrating with them, which gives us confidence and certainty in how we gain share and take share.

And then obviously, the actions we took earlier this year, as the pandemic came into play, are things we can control and we have controlled. So, the real uncertainty is what happens with the underlying markets, and that's why you have a range of expectations from 330-390. At the bottom end of the range, assuming some disruption due to COVID, and the top end of the range is kind of assumes no disruption going forward. I think you can see that in our results for Q1. We delivered a NOPAT in line with prior year, with a decent amount of COVID disruption. So hopefully you can kind of frame up the different outcomes, using that as a baseline.

Peter Steyn (Analyst)

So, just to clarify very quickly, when you think about no disruption from COVID, would you essentially be expecting a continuation of the current momentum or still some sort of seasonal slowing that gets you to a point where you, on a year-on-year basis, are not really printing much growth at a market level in the back half?

Jason Miele (CFO)

Look, I think there's a wide range of assumptions, Peter, that go into both sides of the range. Volume is, and the underlying market is the top of the list. We won't get into exact specifics of what each item we're using are, but you're roughly in line with the way we're thinking about it.

Jack Truong (CEO)

Yeah, just to add a little more color to that, Peter, is that what we didn't factor into that guidance is that, what if the second wave or the third wave of the virus come and then half the countries, say, have to be shut down for weeks or months? And that's, of course, the scenario is not built into that guidance.

Peter Steyn (Analyst)

Okay. It is not?

Jack Truong (CEO)

It is not.

Peter Steyn (Analyst)

Okay. Thanks, Jack. Thanks, Jason. Appreciate it.

Jason Miele (CFO)

Thanks, Peter.

Operator (participant)

So our next question comes from Andrew Scott with Morgan Stanley. Please go ahead.

Andrew Scott (Analyst)

Hi, guys. Thank you. Just first off, I just wanted to focus on price. You had flat price in the period, and I think you referenced mix shift. If we look at the recent home builder results, probably I can't recall where we've seen such a divergent group of results, some very strong and some weak. It seems to be those that have positioned their businesses at the lower price point that have delivered the stronger results. So can you just talk about how much maybe trading down or mix shift towards the lower grade product you are seeing?

Jack Truong (CEO)

Yeah, it's Andrew, good questions. You know, so we, you know, we did put through the price increase back in April, and then as we guided and communicated back in the Q1, back in May and June, that we still stuck with the price increase. I mean, and so the difference is really about the shift in our geographies. As you know, in the Northeast and in the Mid-Atlantic, and also Midwest, that is where our color penetration would have been.

But given that the most of that part of the U.S. was pretty much shut down because of COVID, so our penetration of color in that part, it was not where it was supposed to be. So that is probably the biggest effect during Q1 relative to price mix. But if you look at the total price mix, we did have a positive, roughly a 1% increase.

Andrew Scott (Analyst)

Understood. Thank you. And just one more. I know you spoke about share gain in the period. If we use the usual PDG calculation with starts on a quarter lag, I think you're comping the starts portion was up 14% on a single-family basis. I know you said R&R was soft in the period, and that makes sense with the COVID impact, but that implies R&R was down probably high teens. Is that what you think you saw during that first quarter?

Jack Truong (CEO)

That's a pretty good assumption, Andrew.

Andrew Scott (Analyst)

Okay, thanks. I'll leave it there.

Jack Truong (CEO)

Remember that the Pacific Northwest and then the West was also a pretty close market due to COVID during the first quarter.

Operator (participant)

Our next question comes from Sophie Spartalis with Bank of America. Please go ahead.

Sophie Spartalis (Analyst)

Oh, good morning, Jack and Jason. Congratulations on the strong result. I just wanted to delve in a little bit more around the customer engagement and just the response from the different channels. Can you just talk through whether there has been a shift in the percentage that you're sending through, you know, the three key channels: dealer distributors, retailers?

Jack Truong (CEO)

Yeah, so, you know, essentially for us, it's about our customer through the dealers, the lumber yards, and then the DIY retailers. You know, this is a focus of our company since over a year now, and so our focus during the first quarter is taking advantage of these shelter-in-places that our team have been very engaged with our customers to really stay in touch on a daily basis to ensure that we know what are some of the new demand coming.

With that intelligence, as well as really in the demand signal, that would allow us to adjust our production plan appropriately so that we can ramp up our production to service our customers seamlessly across those three channels.

Sophie Spartalis (Analyst)

Okay, so you haven't seen any mix in where you're selling the product? Has any channel been stronger than anywhere else?

Jack Truong (CEO)

Well, of course, it all depends on the geography. So it is certainly through the new construction that it already started strong around the beginning of May, and that just accelerate. And then we also saw that the DIY, the two DIY retailers really gain momentum for our products, the exterior products around the middle of May, and then it's just been increasing. And then the last is about our interior product through the DIY channel that has steadily improved throughout the quarter. And then in June is when it start to have the inflection point for our interior business through the DIY retailer.

Sophie Spartalis (Analyst)

Okay.

Jack Truong (CEO)

It's in that sequence.

Sophie Spartalis (Analyst)

Okay. No, that's great. Thanks for the color, Jack. And then just in terms of the fixed cost base in Europe, it seems as though it's a lot higher than North America. Are you able to provide any relative, if you're not willing to provide the the percentage fixed costs across that European network, can you provide any relative color on how we should think about that?

Jack Truong (CEO)

Yeah, you know, it's, you know, as you know, I've also been running businesses in Europe. And it is a very fairly typical for a lot of the European-based businesses and for a lot of multinationals. It is because of that we have a lot of duplicate costs in all the 22 different countries that we would do business in because of different languages, local customers, so on, so forth. So therefore, that kind of SG&A costs are fairly difficult. But in our case, you know, it is about for our business, it's really about creating value, grow with strong returns.

So we, as now the European business become more integrated into James Hardie globally, and a lot of what we do now in Europe is about focus. Focus on the areas that we can create sustainable business, profitable business growth for the long term, where we can command the strong position.

So during the past, I would say six to nine months, we have been working closely with the European team to really identify and prioritize the markets of where we want to focus on, and to put the right resources to really drive the right results, and then prune the other areas where we don't see as the competitive advantage.

Now, for example, just to give you a little color, as part of the restructuring back in that we announced in May and June, we just closed down our office in Dubai serving the Middle East, for example, because it's just not a, the returns short and midterm are not there yet. We need to focus on really getting the business growing in the right way, profitably.

Operator (participant)

Your next question comes from Abraham Akra with Jefferies. Please go ahead.

Abraham Akra (Analyst)

Hi, Jack. Hi, Jason. Great results. My first question is relating to margins in North America. You have been guiding Q4 2021 margins at 27%-29%, which is above the long-term target level of 20%-25%. What would you like to see prior to shifting the target upward with lean savings system similarly as we progress through FY 2021 and as you integrate further with your supply chain and customers?

Jason Miele (CFO)

Yeah, Abraham, good question. Certainly in the midst of a global pandemic, we don't feel it's the right time to change long-term targets. So I think as we exit the pandemic and have more sight lines to that, it'll be more of an appropriate time to take a fresh look at that long-term range. Certainly, as you called out, the actions we've taken over the past couple of years in executing our strategy, and as I touched on earlier, the Lean program, the consistency of our manufacturing network, and the consistency of the cost per unit helps support a better range, but certainly that's not something we'll look to tackle until post-pandemic.

Abraham Akra (Analyst)

Yeah, sure. Also, a pretty material decrease in SG&A spend of $14 million, when you compare that to the same quarter of the previous year. How much is that sustainable moving forward, so that we've got back to a more normal base as we have better visibility in terms of the market and your order book?

Jack Truong (CEO)

Yes, Abraham, you know, of course, you know, this is a pandemic year. And then, of course, when we stare down the pandemic back at the beginning of, you know, April, knowing that, knowing what we didn't know and then what's about to come, we really took the prudent actions to make sure that we focus on what's necessary to sustain and drive our business. And therefore, we took those cost positions to be well prepared for how long this pandemic would last.

But now that we're able to run our business continuously and now gain share and then in the now to have the ability to pull forward the production plant in Alabama and to invest in the launch of new innovation. And yes, we will be releasing more SG&A back to ensure that we have the muscle to do those three things right, and to continue to gain momentum. So please don't take the SG&A that we have right now as being the norm going forward.

Operator (participant)

Our next question comes from Lisa Huynh with Citi. Please go ahead.

Lisa Huynh (Analyst)

Hi, Jack. Hey, Jason. I just had a question on price. So can you kind of talk about where capacity utilization fits within your network, and how you think that compares against the industry? We're seeing some key home building materials, such as lumber, materially increase over in the U.S., and just want to know if things continue, whether you think, you know, the current utilization in the industry is conducive for price rises and better pricing outcomes in the U.S. going forward?

Jack Truong (CEO)

Yeah, so Lisa, we are, as we enter this quarter, with the continued increased demand in the marketplace and, with the bigger share gain that we gained this quarter, we are running our plants at a pretty good capacity utilization. And also, what we have going right now, too, is the progress of lean execution. Not only lean that will give us the continuous saving, but also open up more capacity for us. And so that's that is really what how we operate right now in this quarter.

Lisa Huynh (Analyst)

Have you quantified what kind of capacity you think lean could, you know, unlock, medium term?

Jack Truong (CEO)

Yeah.

Lisa Huynh (Analyst)

Just to remind me?

Jack Truong (CEO)

I think, what-

Lisa Huynh (Analyst)

Yeah.

Jack Truong (CEO)

Yes. So what we shared a year ago when we launched lean was that as we move into the second and third year, that can unlock roughly about 10% of additional capacity.

Operator (participant)

Our next question comes from Lee Power with CLSA. Please go ahead.

Lee Power (Analyst)

Hi, Jack, Jason. Jack, just touching on your supply chain customer integration comments, it sounds like that's all about extending the order book. Can you give us an idea of how far your forward order book is now and where you would like to see that get to?

Jack Truong (CEO)

Yeah, as you know, in our approach now, Lee, we don't look at order book anymore. It's really we look more about the how much more future forward we can see the demand of our products in the marketplace. And so that's that is really what we are from the lean perspective, that is really what we're driving for, is to have the right demand signal so that we can run our plant network of plants efficiently, so that we don't build a lot of excess inventory sitting around in our warehouse, nor to be stored at the warehouse of our customers.

It's really not about having the lumpy view of orders. It's really more about having a true demand signal of products in the marketplace, and that is what we get into. That is really the essence of the push-pull: we're creating demand. We work closely with our customers to really translate that into the right signal for our production plant to produce the right amount, rather than just produce and store.

Lee Power (Analyst)

Okay, maybe if I ask it another way, like, how much foresight do you think you have on market demand now, and how far do you think it needs to be? Then, kind of a second part of that is what... How much of your lean savings are tied up in getting that right?

Jack Truong (CEO)

Yeah. So you know, right now, I would say we probably have visibility out within the month, and then where we like to be is around two months out. And then when you talk about lean, it's actually by really understanding the demand signal of our products in the marketplace, that will help us accelerate our lean savings, not to take away from our lean efficiency today.

Operator (participant)

So our next question comes from Paul Quinn with RBC Capital Markets. Please go ahead.

Paul Quinn (Analyst)

Yeah, thanks very much. Afternoon, guys. I guess maybe I want an update on the competitive landscape for North American exteriors. You guys are growing well. It looks like LP is also, you know, forecasting high single digits for next quarter. How are the other exterior products doing, and where are you taking share?

Jack Truong (CEO)

Yeah, you know, I think, Paul, the way to think about it is that we report our exterior business is everything from A to Z. Whereas, so that's, and that is what we focus on, not just to single out or just look at one part of the exterior. So our exterior growth or our exterior business that we report include everything that serve our markets. So that's, that is what we focus on.

Brook Campbell-Crawford (Analyst)

Okay. So any change in the competitive landscape that you've noticed over the last, you know, couple quarters?

Jack Truong (CEO)

What we know is that we are gaining more share across the market.

Operator (participant)

Your next question comes from James Brennan-Chong with UBS. Please go ahead.

James Brennan-Chong (Analyst)

Hi, Jack, Jason. Congratulations on a great result during trying times. I just wanted to focus on your comments around the introduction and commercialization of new products. Just wondering if you could just summarize your thoughts in terms of what we should look for over the next 12 months. Did I hear correctly that you're looking to provide a larger update later this half year? Also just interested to know how COVID-19 has either slowed or accelerated your focus on R&D. And just a few other things, you know, is this just going to be about the US or is it about EU products as well?

And then finally, I think, in response to a question that was asked earlier, did you say already that you think that there's gonna be a 200-300 basis points cost to delivering these new products? I'm just keen to just summarize all your thoughts around, you know, the introduction and commercialization of new products and what that might mean. Thank you.

Jack Truong (CEO)

Oh, so James, you're trying to bunch in four different questions into one. That's good, James.

James Brennan-Chong (Analyst)

Sorry.

Jack Truong (CEO)

Okay, let me answer first quick question is that, you know, we discussed this in our annual Investors Day in New York back in September 2019 on the innovation. Really what we focused on is really to provide, really come up with the new innovation that will address the lack of skilled labor, the address of affordable housing, and then, and address the demand in the marketplace for different looks. So that's, that is what you, that's what you're gonna expect to see, the innovations that, the, we call it, change the basis of competition, that will be coming out from James Hardie.

Second is that our approach to innovation is global, because it is something that we want to leverage on the core strength of James Hardie, and that is about our fiber cement and fiber gypsum technologies. But what most important is that what we're trying to find is really the critical similarities that exist in the market that we operate in. That's North America, ANZ and Western Europe. Then our approach is about global innovation, where we would leverage on our scale of know-how, and then leverage on how we can develop the platform that would serve all three regions, so that we can commercialize similar platform into different markets and leverage on those platforms.

And so the third question, what I mentioned about the 200-300 basis points on SG&A is not only about innovation. It is also about the reinvestment in our company on push/pull, and also reinvestment into our lean and also manufacturing technologies to move our company forward. You know, that we essentially, at the beginning of this fiscal year, with the onset of the pandemic, we took some cost savings in our SG&A to make sure that we focus on the critical few, so that we can survive and thrive through the crisis.

Which we are now show that we can do that and be able to grow and gain share. So as we continue that momentum, we will release that SG&A back into our business to strengthen the company as opposed to weaken that. We just don't want to milk it now.

James Brennan-Chong (Analyst)

Got it. Thank you very much. And just want to be crystal clear on this. So you're talking about a 200-300 basis point impact to the SG&A component. We're not talking about the U.S. EBIT margins, right? Just to be very clear about that, right?

Jack Truong (CEO)

That's exactly right.

James Brennan-Chong (Analyst)

Yeah.

Jack Truong (CEO)

That's exactly right, James. You know, so it's really about putting the right muscle into our SG&A so that we can create more value with the top line margin and continue to drive the lean through our network of plants. Absolutely. That's the right question.

James Brennan-Chong (Analyst)

Yeah. Thank you very much.

Operator (participant)

Our next question comes from Brook Campbell-Crawford with JPMorgan. Please go ahead.

Brook Campbell-Crawford (Analyst)

Yeah, good morning. Thanks for taking my question. Just one on North America housing market. Over April to June, looks like housing starts down about 13% year on year. I know it's a bit of an unusual year, but do you think that will flow through in the September quarter and is captured in your guidance, or is there delays such that that sort of decline in the market won't kind of flow through the demand for your products until maybe the December quarter?

Jack Truong (CEO)

Yeah, we, Brooke, that's a very good question. You know, as you know, that the housing starts in for the quarter from April to June, it's actually declined by 17% compared to the same quarter a year ago. So that's will somehow flow through in the second half of this year. So yes, we did take that into consideration. And then so what's really drive there is our share gain, which is really the difference.

Brook Campbell-Crawford (Analyst)

Great, that makes sense. Thanks for that. And a follow-up, I guess, related to that would be, Alabama pulling forward the startup there to later on in this financial year. Is there any startup costs for that project, basically captured in your guidance? And if so, could you quantify it?

Jack Truong (CEO)

Yes, it is already captured in the guidance.

Jason Miele (CFO)

As is the startup of the Carroll Park Brownfield facility.

Brook Campbell-Crawford (Analyst)

Okay, great. Thanks.

Operator (participant)

Our next question comes from David Schwartz with Goldman Sachs. Please go ahead.

David Schwartz (Analyst)

Thanks for taking my question. It's just a quick one. I noticed on capital management, you're still suspending dividends, despite the positive outlook commentary. Could you please elaborate a bit more on that one?

Jason Miele (CFO)

Yeah, absolutely, David. It's all about taking a pragmatic approach through the pandemic and ensuring we're in a stronger position exiting the pandemic. Still, you know, uncertain what will happen. So we're making sure we keep a healthy balance sheet and maintain that financial flexibility.

David Schwartz (Analyst)

Okay, thank you. That's clear.

Operator (participant)

There are no further questions at this time. I'll now hand back for closing remarks.

Jack Truong (CEO)

Katie, thank you all very much for the conference call. I just want to relay that, you know, this is now the 5th consecutive quarter that we're able to deliver growth above market with strong returns based on the really good execution of our global team on our three-year strategic plan. I also want to take the opportunity again to thank all of our employees around the world for really doing an outstanding job of delivering on the results despite of all the uncertainty in the marketplace, particularly when it deal with health. Thank you all very much for being on the call, and stay healthy and stay safe.

Operator (participant)

That does conclude our conference for today. Thank you for participating. You may now disconnect.