James Hardie Industries - Q3 2021
February 8, 2021
Transcript
Operator (participant)
Thank you for standing by, and welcome to the James Hardie Q3 FY 2021 Results Briefing. All participants are in a listen-only mode. There'll 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'd now like to hand the conference over to Mr. Jack Truong, CEO. Please go ahead.
Jack Truong (CEO)
Good morning, and good afternoon, everyone. Thank you for joining us in our Third Quarter Fiscal Year 2021 Earnings Call. I will begin today's call by providing an update on our global strategy. On my appointment as CEO in February 2019, I shared with you my strategic vision for James Hardie. Today, I want to spend some time providing an update on our progress over the past two years in the execution of that strategy, and more importantly, provide you with insight into the go-forward strategic initiatives that will enable us to continue to drive profitable growth into the future. After I go through the strategy update, our CFO, Jason Miele, will then cover our third quarter and year-to-date fiscal year 2021 financial results. We'll then open the call up to questions.
Before I get into the presentation, I wanted to first say how pleased I am to be able to announce today a special dividend of $0.70 per share, reinstating our return of capital even sooner than expected. We suspended dividends in March 2020, at the onset of the global pandemic, in an effort to ensure liquidity and financial flexibility. Ultimately, we were able to accelerate our strategy, integrate more closely with our customers, and drove record profits and cash flows. Based on these results, our recent paydown of gross debt, and our confidence in continued strong cash generation, we believe returning capital to our shareholders via special dividends is appropriate at this time. Now, let's turn to Page 5 for an update on our global strategy.
In February 2019, I first shared with you my vision of turning James Hardie Company from being a big, small company into a small, big company. A company that could deliver consistent profitable growth at a larger and growing scale. As I described two years ago, this would take significant transformation across multiple facets of the company. I'm pleased to note that we have made significant progress in the transformation of our company during the past two years. Let's start on the left-hand side of the page and discuss the significant and measurable progress we have made to transform James Hardie Company and to create a scalable business to ensure and enable future global growth. First, it was critical that we become a world-class manufacturer through our execution of lean manufacturing strategy.
Our network of plants is on a continuous improvement path of becoming more predictable, with less variability in production, quality, and efficiency. Progress in this regard has enabled us to consistently and efficiently deliver premium quality products and service to our customers, and subsequently to the market, at a lower and more predictable cost. Globally, we have generated over $83 million in lean savings over the past seven quarters. Second, we transformed our commercial organization to be truly customer-focused. We shifted from an organization that focused solely on creating demand with home builders and contractors, to partnering with our customers to enable profitable growth for them and also for James Hardie. Instilling this true customer-focused mindset throughout our company has been critical to driving our growth of our markets and taking market share across all three geographies.
This connectivity to our customers and a shift to a push-pull strategy has led to a seven-plus % primary demand growth, or PDG, in our North America business over the past seven quarters. It has led to global net sales increasing 20% in the third quarter of fiscal year 2021, versus the prior corresponding quarter. The third step in our transformation was to integrate our supply chain with our customers for mutual benefit. This is to ensure that we're able to continuously service the market seamlessly to our customers, provide them with the products they want when they need them. This integrated approach to managing the supply chain with our customers has led to a more optimal working capital for both our customers and James Hardie.
For the nine months ended on December 31st, 2020, we decreased our working capital by nearly $200 million. Underpinning our transformation and critical to our success in accelerating our strategy during a global pandemic is our globally integrated management system. This management system continued to allow us to make better, holistic decisions at various levels within the company... It's also enabled cross-functional business teams across the company to make appropriate adjustments quickly and at the right time to keep our transformation on the right track. Ultimately, all the progress that we have made across the three transformational initiatives I just discussed, has enabled James Hardie to deliver seven straight quarters of consistent financial results, with growth above market and strong returns, including two consecutive quarters with record financial results in global net sales, global Adjusted EBIT, Global Net Operating Profit, and global operating cash flow.
While the financial results in fiscal year 2020 and fiscal year 2021 to date have been on the right track, I'm most pleased with the true transformation that have taken place within our organization, which now position us and enable us to scale and drive significant profit growth globally into the future. In addition to the continuous improvements of transformation we have undertaken over the past two years, there are three critical strategic initiatives in this next phase of profitable organic growth. One, that's global innovation. Two, penetrating and driving growth in existing and new markets and segments. And three, extending James Hardie brand from a premier professional brand into a market-leading consumer brand. In the next four slides, I will talk in more detail about each of the three strategic initiatives.
These three critical strategic initiatives will allow James Hardie to take advantage of the scale and connectivity generated during the first two years of our transformation and enable us to continue to drive profitable organic growth into the future. Let's now turn to Page 6 to discuss global innovation. I'm very excited to share with you today the progress we have made in commercializing new and innovative products. We're currently in the test sales phase of our commercialization process. We are actively test-selling new products in all three of our regions. In a few minutes, I will share with you some pictures of those new products in situation of use. But first, I want to discuss the strategic direction of our global innovation program. Our approach to innovation is about developing market-driven innovation to drive profitable organic growth. Let's start first on the left-hand side of the page.
We're focused on a true global innovation platform that includes innovative products that deliver endless possibilities of design and aesthetics for the homeowners. These innovations will also provide the superior performance the market has come to expect from James Hardie products. Superior performance that's based on the key properties of James Hardie's unique fiber cement technology, durability, low maintenance, and non-combustibility, while also improving on labor productivity. We believe this market-driven innovation will expand opportunities for growth by opening new markets and enlarging existing markets. Moving to the right-hand side of the page, we have shown here some market data for reference purposes, as a way to illustrate why we're focused on market-led innovation. The data we're showing here illustrate the materials that are utilized to clad the exterior of homes in the new construction segment in North America and Australia, New Zealand.
If we focus on North America for a moment, the green area of the pie represent the portion of the market our current product portfolio can address. This green area represent vinyl, wood, engineered wood, and fiber cement. As you know, we already have a significant portion of the share, but the blue area of this pie chart, which is 54.9%, was used to clad new homes in North America, represent materials such as stucco, stone, brick, et cetera. Our current product portfolio does not address that portion of the new construction market. Fundamental of global innovation is to ensure we can participate in more of the expanded market opportunity, and we view the blue portion of the pie chart as an expansion opportunity made possible through a market-driven innovation strategy. Again, these charts are only for new construction in a few of our markets.
But as we look across all countries and all segments in which we market and sell James Hardie exterior products, there are a portion of those pie chart that are also blue. That's to say there are significant market opportunities we're not participating in today because our current product portfolio did not enable us to. And it's for this reason that we're laser focused on driving market-led innovation to expand our opportunities for organic growth. Let's now turn Page 7 to take a look at some of our current innovation progress. We're currently on track to commercialize our first phase of innovation in May 2021, just a few months from now. Our expectation is that this will be the first of many innovations that will commercialize as we continue to introduce new products to the market in the next few years.
On this page, we have a few examples from around the world of the innovations which we are in the process of test-selling ahead of the full commercialization. On the top left is an example of new fiber cement interlocking plank for the European markets. We're currently test selling this product in France and the U.K. To date, the market feedback has been extremely positive, and we're on track for full commercialization in May 2021. In Europe, interlocking plank makes up roughly 80% of the plank markets. Interlocking plank is a natural product portfolio extension for us in Europe that meet the European market requirements. It enable us to provide our customers a full suite of plank products that are quicker to install, while enabling homeowners to have endless possibilities of beautiful designs, while getting the long-lasting beauty and trusted protection of James Hardie fiber cement.
On the top right and bottom left, you can see renderings of the two homes using panelized products that deliver stucco aesthetics. We're test selling these products in five different key markets across the United States, including New Jersey and California, as you can see here. Similar to our interlocking plank test sales in Europe, the test sale feedback from homeowners, builders, and trade people have been very positive. Lastly, on the bottom right, we have a picture from a completed project in New South Wales, Australia. This product is similar to the product just discussed in the United States. It is a panelized product delivering the stucco or render aesthetic. Test sales is an important part of our commercialization process of new product innovations.
In the past, James Hardie often developed new products or product extension in a laboratory scale and then tried to manufacture and push them into the market. This is not how true innovation will work. Over the past few years, we have transformed our innovation process. We began with market research to understand the key unmet needs in the market. We look at the mega trends, such as labor shortage, and after careful development of prototypes, we did market tests to ensure acceptance of the concepts. And finally, we perform an extensive test sales before full commercial launch. This is to ensure a sustainable and successful innovation program for the long term.
We're very encouraged with the market feedback from the test sale process to date, and remain on track for the full commercialization of these new market-led innovations in May of this year, just a few months from now. Shifting now to Page 8. The second of our three critical strategic initiative is to further penetrate and drive profitable growth in existing and new segments. On this slide, I wanna discuss one such segment where we believe we have significant opportunity to grow further. While we have a good business in North America, Repair and Remodel segments, we believe the opportunity for future growth remains significant. The chart on the left is the U.S. census data from 2019, which show the existing 79 million owner-occupied homes in the U.S. by their age.
Over 54% or 44 million of the 79 million owner-occupied homes in the U.S. are 40 years or older, having been built before 1979. This is a huge pool of opportunity from which we can generate demand for James Hardie exterior products. We can accelerate and amplify that demand by marketing directly to the homeowners, that James Hardie is a trusted innovator with premium quality products that enable homeowners to realize their dream homes with endless design possibilities. Moving down to Page 9. The last of our three critical initiatives is in driving profitable organic growth in fiscal year 2022 and beyond. It's extending into a consumer brand. Historically, the James Hardie brand has resonated strongest with professionals, and evoked a brand that is appreciated and trusted, with products that are durable, low maintenance, and non-combustible.
We're now ready to extend James Hardie brand into a true consumer brand, where we market directly to homeowners and communicate to them the endless possibility of aesthetic design that our products offer. By marketing directly to the homeowners, we will create even more demand and emotional attachment for James Hardie brand products. James Hardie brand products provide a long-lasting beauty with endless design possibilities, and James Hardie brand products deliver the trusted protection with durability, maintenance, and non-combustibility. This allows the homeowners to remodel their home into the home of their dreams. The imagery on this page represent a variety of possibilities on how to design the homes of your dreams with James Hardie branded products. By communicating directly to the homeowners and continuing to integrate with our customers, we will increase demand and accelerate our growth in the repair and siding, remodeling segments.
Turning now to Page 10. Here you see another visual representation of our desire to generate emotional attachment to the James Hardie consumer brand... and remind homeowners how James Hardie can empower them to achieve the home of their dreams by unlocking the endless design possibilities and deliver protection and lasting beauty. We plan to begin launching the first phase of our marketing campaign to homeowners in the middle of calendar year 2021. Let's now turn Page 11. As we look into fiscal year 2022 and beyond, our demand profile as a growth company will expand as we commercialize global innovations, further penetrate and drive profitable growth in existing and new segments, such as R&R, and invest in extending into a consumer brand. Therefore, we're investing to expand our global capacity and to build new products capability.
The timeline of our capacity and capability expansion over the next three years is outlined on the bottom of the page. We will, number one, expand our North American nameplate capacity by 800 million sqft. Number two, expand our nameplate capacity in Australia and New Zealand by 60 million sqft. Number three, we will provide significant increase in our ColorPlus and HLD trim finishing capability in North America, be consistent with our growth plan for the next, three years and going forward, and to enable continuous innovation with new pilot plant innovation facilities in both our facility of R&D in the U.S. and Australia. As previously disclosed, we will bring the first sheet machine in our Prattville, Alabama, facility online next month, March 2021, and we'll bring the second sheet machine online through the middle of calendar year 2021.
In addition to those previously disclosed capacity expansions, we also made the decision to reconfigure and restart our Summerville, South Carolina, facility, with a startup in late fiscal year 2022. We will also significantly increase our ColorPlus and trim finishing capability in North America as we drive our accelerated growth of high-value products. Lastly, we'll be adding two innovation centers, the R&D pilot facilities, to enable continuous market-led innovations. We have a clear strategy to drive profitable organic growth in fiscal year 2022 and beyond through global market-led innovation, penetrating and driving growth in existing and new market segments, and extending James Hardie brand into a consumer brand, and we will enable that growth with the strategic capacity and product capability expansion. Shifting now to Page 12.
I will spend the last two slides briefly discussing the result of our strong strategic execution in the third quarter and nine months ended December 31, 2020. Starting with our third quarter results here on Page 12. We delivered a second straight record quarter in global net sales and Global Net Operating Profit. We delivered growth above market with strong returns across all three of our operating regions. Specifically, in the third quarter, we delivered $739 million of global net sales in a quarter. That's a 20% growth versus the prior corresponding period. And we delivered global adjusted net operating profit of $123 million, which was an increase of 59% and an all-time record high net income. Importantly, we delivered strong financial returns in all three regions for a second consecutive quarter.
In North America, we achieved net sales growth of 20% with an excellent EBIT margin of 30%. In Europe, we achieved net sales of EUR 85 million, 12% growth over the prior corresponding period, with a second consecutive quarter of EBIT margin greater than 10%. and in Asia Pacific, we achieved net sales growth of 9% in AUD, with excellent EBIT margin of 28.1%, marking our seventh straight quarter of delivering growth, global growth, with strong returns. These results reflect our continued ability as a global company to execute on our global strategy across all three regions. Moving on to Page 12. Here you see a similar story of consistent excellent financial results for the first nine months of fiscal year 2021. I also think this page helps to bring to light the scale of our global business today.
We delivered global net sales of $2.1 billion, or 9% organic growth, in the first nine months of this fiscal year versus the first nine months of the last fiscal year. We generated global adjusted net operating profit, $333 million. That's a growth of 25%, and global Adjusted EBIT of $456 million, or 25% growth, and operating cash flow of $678 million, which represent a 72% increase over the prior corresponding period, and an all-time record high. I would now like to turn this over to our CFO, Jason Miele, to provide additional details on our financial results.
Jason Miele (CFO)
Thank you, Jack. Good morning and good afternoon, everyone. I'll start on Slide 15 with our global results. As Jack just discussed, this is our seventh straight quarter of generating strong global financial returns and our second straight quarter with record results. What I'm most pleased with is that we had all three regions deliver excellent results in the third quarter, and this marks the second consecutive quarter we've been able to achieve this, all three regions delivering excellent financial results simultaneously. The global integration of our strategy and our team, and the significant execution over the past two years, are now being consistently realized in the financial results. This is a litmus test of a truly integrated global company. In the third quarter, global net sales were up 20%, as our customer focus and customer integration efforts continue to become embedded in every country we do business in.
Through continuous improvement of lean manufacturing globally and integration of our supply chain with our customers, we were able to translate that strong top-line result into an even stronger bottom-line outcome. Global Adjusted EBIT improved 57%, and global adjusted net operating profit after tax increased 59% in the third quarter. Global adjusted net operating profit after tax in the third quarter of $123.3 million represents another all-time record high for James Hardie in a quarter. Operating cash flow for the nine months increased 72% to $678.4 million. At the start of this call, Jack discussed the key strategic transformations we have been through over the past two years. Specifically, lean manufacturing, becoming customer-focused, and integrating our supply chain with our customers.
These strategic transformations globally have directly led to the step change in operating cash flow, as well as the strong top-line and bottom-line financial results for the quarter and nine-month periods. Now, I'll review each region in more detail, starting with North America on Page 16. In North America, we had another outstanding quarter. In the third quarter, volume increased by 17%, and net sales increased by 20%. Our Exteriors volume increased 19% in the third quarter, driven by continued share gain as our team continued their focus on customer engagement and integration, and in our Interiors business, we drove a 4% increase in volume compared to the prior corresponding quarter. Price mix improved, and we anticipate a continued improvement as we drive our strategic initiatives Jack discussed earlier, specifically, penetration of the Repair and Remodel segment and growth through innovation.
Our outstanding top-line results were coupled with even better Adjusted EBIT growth, which increased by 39% for the quarter to $155.6 million, and at an excellent EBIT margin of 30%. The outstanding Adjusted EBIT and EBIT margin results in the third quarter were driven by strong organic volume growth, continued lean manufacturing results, and lower SG&A, which were partially offset by higher freight costs in both periods. Overall, in the third quarter and the nine months year to date, the North American team delivered another set of exceptional results, with continued growth above market and outstanding returns. We'll now turn to Page 17 to discuss the European results. In Europe, the team delivered a second straight quarter of strong results.
In the third quarter, net sales increased 12%, and Adjusted EBIT increased 300% in euros, and Adjusted EBIT margin was 10.2%. The team remains focused on driving gross margin improvements through growth in high-margin products and continued penetration in existing and new fiber cement markets. In the third quarter, fiber cement net sales increased 18%, and fiber gypsum net sales increased 11% versus the prior year third quarter. The strong fiber gypsum growth was underpinned with double-digit net sales growth in Germany, Switzerland, and Benelux, and our U.K. team delivered excellent double-digit growth in both fiber cement and fiber gypsum. We remain encouraged by the good progress of our European business and the local team's ability to drive an integrated strategy and continuous improvement, especially during the past two quarters. Let's now turn to Page 18 to discuss Asia Pacific.
In the third quarter, volume and net sales both increased 9% in Australian dollars compared to the prior corresponding period. This top-line growth was led by continued share gains in Australia and New Zealand. The Philippines also returned to growth in the third quarter, delivering double-digit net sales growth in Australian dollars versus the prior corresponding period. The strong top-line results in the third quarter were translated into even stronger earnings results, with Adjusted EBIT growth of 34% in Australian dollars at an EBIT margin of 28.1% for the third quarter. The excellent third quarter performance in our Asia Pacific region was driven by execution of our strategic objectives, including customer integration and lean manufacturing. In addition, you'll recall earlier this fiscal year, we announced we were consolidating our regional production for Australia and New Zealand to our two Australia-based manufacturing facilities.
We also closed the unprofitable James Hardie Systems business. These adjustments, in addition to the team's execution of our strategic objectives, have helped drive the improved Adjusted EBIT margin performance in Asia Pacific. Moving now to Page 19 to discuss operating cash flows and capital expenditures. Operating cash flow increased 72% for the first nine months versus the prior corresponding period, primarily driven by increased profitable sales globally and further integration with our customers to reduce working capital for both them and us, including a reduction in inventory of $90.3 million during the nine-month period.
To put the $678 million of operating cash flow into some additional context, our best full fiscal year operating cash flow result was last year, in fiscal year 2020, where operating cash flow for the full twelve months was $451.2 million. So through nine months of this fiscal year, we have already exceeded last year's full year operating cash flow by 50%. Shifting to the right-hand side of the slide, you'll see a summary of our capital expenditures. For the first nine months of this fiscal year, capital expenditures totaled $77 million. For the full year, fiscal year 2021, we anticipate spending approximately $125 million in total capital expenditures.
In Asia Pacific, we commissioned the new sheet machine in Carroll Park during the third quarter, which adds additional capacity to service our Australia and New Zealand markets. In North America, our greenfield capacity expansion in Prattville, Alabama, remains on track, with sheet machine number one being commissioned in March 2021, next month, and sheet machine number two on track to be commissioned in the middle of calendar 2021. Early in the presentation, on Slide 11, we discussed our plans for global capacity expansions and new product capabilities to support our accelerated profitable growth plan over the period of fiscal years 2022, 2023, and 2024.
We expect the total capital expenditure related to the projects listed on Slide 11, along with the regular maintenance capital expenditures, to approximate $250 million per year for the three-year period of fiscal year 2022 through fiscal year 2024. These capacity expansions and product capability expansions will further enable our global strategy to drive profitable growth. Now, let's turn to Page 20 to discuss the liquidity profile. At the end of the period, December 31, 2020, our debt profile remained unchanged, and at December 31st, 2020, we had liquidity of $1.1 billion and a net leverage ratio of 0.96, both representing significant improvements from the start of the fiscal year. The execution of our global strategy has led to significantly improved cash flow and thus continuous improvement in our liquidity and leverage position.
This enabled us to reduce our debt levels while maintaining strong liquidity and financial flexibility. As announced last month, on January fifteenth, 2021, we redeemed $400 million of senior unsecured notes. This redemption included a $9.5 million call premium for a total cash payment of $409.5 million. In addition to the cash payment, an amount of $3.6 million of unamortized financing costs associated with this set of notes will be accelerated into the fourth quarter fiscal year 2021 results. So for clarity, there will be a $13.1 million expense recorded in our fourth quarter fiscal year 2021 results associated with the note redemption. Redemption of these notes will save us approximately $20 million of interest per annum.
After the redemption of the senior notes in January, our liquidity remains very robust at $675 million as of January 31st, 2021. Now moving to Page 21. Our strong capital structure and cash flows have enabled us to execute on all of our capital allocation objectives, as we have discussed today. We continue to preserve a strong liquidity position and financial flexibility. We are positioned to continue to strategically invest in capacity expansion and market-driven innovation to support and drive organic growth, and last month, we reduced debt by $400 million in accordance with our plan, and we have resumed returning capital to shareholders ahead of schedule. Today, we are very pleased to announce a special dividend of $0.70 per share.
The special dividend will have a record date of February 19th, 2021, and a payment date of April 30th, 2021. Based on our strong strategic execution through the pandemic, our confidence in continued strong cash generation, and in light of the suspension of our ordinary dividend since May 2020, we believe resuming our return of capital to shareholders via dividends is appropriate at this time. We have a solid balance sheet and liquidity position to execute on our unchanged near-term and long-term organic growth priorities. Lastly, before we go to the final slide, while not financially material to our results, I did want to briefly comment on government assistance associated with the COVID pandemic. James Hardie has not received any amounts from the Australian government under the JobKeeper initiative or any other COVID-related assistance program.
However, early in the pandemic, we did receive approximately NZD 1.1 million from the New Zealand government under the COVID-19 Wage Subsidy Scheme. We have since returned these funds in full to the New Zealand government on the back of our strong results. Finally, please turn to Page 22 to discuss guidance.
Jack Truong (CEO)
As announced this morning, we are raising our full year fiscal year 2021 guidance. Our new guidance for full year adjusted net operating profit is a range of between $440 million and $450 million. The comparable figure for the prior year, fiscal year 2020, was $352.8 million. The midpoint of our new guidance range represents a 26% year-on-year improvement in adjusted net operating profit. We'll now move on to Q&A. Operator, please provide the Q&A instructions.
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, please press star two. If you are on a speakerphone, please pick up the handset to ask your question. Please limit questions to one per person. A follow-up question will be permitted. Your first question comes from Peter Steyn of Macquarie. Please go ahead.
Peter Steyn (Equity Analyst)
Good afternoon, Jack and Jason. I trust you can hear me. Thanks, very much for the opportunity, and congratulations on a very strong result. Was just keen to dig into your strategic intent to enlarge your target markets. And, Jack, if you could frame up for us how you would measure your success in the achievement of your vision here. You know, obviously, historically, there's been a couple of guiding lights, as it were, for you. Just interested in how one would assess where you're seeing the endpoint and what the glide path would look like towards success.
Jack Truong (CEO)
Hi, Peter, thank you. The way that we look at our market-driven innovation program is that the reason we do a lot of market research and market tests is to ensure that we provide the right products that our customers and the homeowners around the world would really come to appreciate the value, so that we can really tailor the product accordingly. And so that is really the spirit of how we approach product development. And our strategic intent of really going to new categories, really understand each of the categories, and then be able to have very good penetration within the new categories.
Our strategic intent is to create a new footprint, just like the way that we have done in our current fiber cement into the current wood-look category. Peter, it's still early yet within our the execution of the strategy, and then, of course, as time goes on, we would have more and more clarity on what that journey would look like and the profile of that journey.
Peter Steyn (Equity Analyst)
Yeah. Okay. I guess, as a follow-up, you know, I guess what I was trying to refer to in a roundabout way was 35/90 has always been the north light. So, yeah, that 35/90 obviously changes, and I guess, folks are gonna be looking for some sort of calibration around that. But I appreciate it's early days, so, I guess we'll wait for further guidance on how you see that, in future.
Jack Truong (CEO)
That's correct, Peter, and just to follow up to that, too, is that the innovation, the global innovation that we are driving here is not just for North America. It is also a relevant new product platform for the European markets, as well as in Australia and New Zealand.
Jason Miele (CFO)
Yeah, absolutely. That's clear. Thanks, Jack. I'll leave it there.
Operator (participant)
Thank you. Your next question comes from Brook Campbell-Crawford of J.P. Morgan. Please go ahead.
Brook Campbell-Crawford (Analyst)
Yeah, good evening. Thanks for taking my question. First one, just around this R&R opportunity, are you able to just elaborate really on how you're gonna look to gain traction with the consumer? Because it's, you know, a slightly different approach really, and than sort of a B2B type marketing effort. And that's the first part of the question. And then the second part, do you have sort of a marketing budget for this new direct to consumer sort of marketing approach in FY 2022?
Jack Truong (CEO)
Yes. Good morning, Brooke. So the way to think about R&R is that this, you know, currently there's 44 million homes, owner-occupied homes in America, that's more than 40 years old, and you know, with the onset of the pandemic, the behavior have changed, and a lot more folks are staying at home more, and there is really that need to make the exterior of the home look more beautiful.
And as we did more market research, and what we learned is that there really is a lot of this - a very high percentage of homeowners out there that don't really know the capability of our James Hardie exterior solutions, that they can work with the designers to be able to design their homes that look a lot more beautiful. And so let's take the example of in the Northeast of the U.S., where vinyl is the standard in that market today. And we have been to, as a company, we have been trying to, for many years, to penetrate the market. But the key value that we bring in the market is a curb appeal.
And that means that it's important that for us, as a brand, that we need to reach directly to the homeowners to really show the homeowners the endless possibilities that they can design their home to make it more beautiful, that they can be proud of through James Hardie Solutions. And yet they have the protection of the durability, the non-combustibility, and low maintenance that our products offer. So it's really about driving and creating the demand with the homeowners and then really to get the homeowner to take the decision to really re-side their home.
So relative to the budget that you have asked question for fiscal year 2022, we'll look at anywhere from between $30 million-$50 million.
Brook Campbell-Crawford (Analyst)
Okay, thanks. So that's the additional marketing spend, just to confirm, for this new approach with R&R, 30-50?
Jack Truong (CEO)
Right.
Jason Miele (CFO)
Yeah, Brooke, it's not necessarily 100% additional. It's, you know, we've always done marketing activities. This is, you know, more reallocating funds as well as there will be some. A good chunk of that is incremental, but not entirely.
Brook Campbell-Crawford (Analyst)
Understood. Maybe I can squeeze them in with you, Jason. Just on operating cash flow could be very strong in the nine months. I presume it will be, you know, some operating cash flow in the fourth quarter. Can you just remind me what the conditions that need to be met to potentially reduce the 35% contribution to the asbestos fund? What you need to achieve, and is there any potential for that over the next twelve months, given your cash flows?
Jason Miele (CFO)
Yeah, Brooke, it's a good question. It's not anything necessarily we need to achieve. It's in the contract, the amended final funding agreement. It's, as you know, there's a calculation that occurs at the end of each fiscal year to determine how much we pay to the fund. And it's the lower of two numbers, 35% of our cash flow or a top-up, with a top-up concept, which is, so that the fund has at least three years' worth of payments in cash. So really, when that occurs is as they build a large cash balance over time. And so as we drive cash flows up and provide them 35% of the cash flows, they'll continue to grow their cash balance if our payment to them exceeds the claims in that year.
That is still, you know, something that will take a few more years.
Brook Campbell-Crawford (Analyst)
Okay, great. Thanks.
Operator (participant)
Thank you. Once again, please limit questions to one per person. A follow-up question will be permitted. Your next question comes from Abraham Akra of Jefferies. Please go ahead.
Abraham Akra (Equity Analyst)
Great result. Firstly, are you still seeing product shortages across the building material space from your competitors? If so, when do you envision your competitors' supply constraints going away?
Jack Truong (CEO)
Good morning, Abraham. You know, we can't speak to what our competitors are doing in that space. But what we can talk about from our company is that, you know, we are, we're working very, very closely with our customers to be able to have a future forward demand of our product through our customers many weeks out into the future. And then couple that with the lean manufacturing strategy that we have, we're able to plan our production out in a very lean way that allow us to produce and then flow the product directly to our customer, to the market.
So that is really the key drivers that allow us to deliver the record result that you saw today. You know, for us, in North America, this past quarter, our exterior volume increased 19%. And then if you look at our volume for exterior a year ago, in the third quarter, that was up 13%. So for us, it's really about understanding more of the demand of our products into the future, and then have a better production plan through our lean system to deliver to the markets.
Abraham Akra (Equity Analyst)
Yep, got it. And I guess as a follow-up, can you estimate, or do you have an idea as to how much demand was pulled forward into 3Q from the price rise?
Jack Truong (CEO)
Yeah, as far as we know, Abraham, everything that we produce and ship to our customer, to the market is pretty much went into the wall.
Abraham Akra (Equity Analyst)
All right. Understood. Thank you.
Operator (participant)
Thank you. Your next question comes from Lisa Huynh of Citi. Please go ahead.
Lisa Huynh (Research Analyst)
Hi. Morning, Jack. Morning, Jason. So I had a question around interiors. So they were up 4% in the December quarter, which is a slowdown from the 7% growth in the September quarter. Can you just talk briefly to what's driving this? Or is this a slowdown indicative of what you saw in the wider R&R market more broadly?
Jack Truong (CEO)
Yeah, it is for us, the interior business is, it's kind of hanging around the mid-single digits. It's pretty much kind of where it is until we truly innovate in this category and then add more new products to it. So that's and more to be seen from that perspective. But right now, given the current pandemic scenarios, you know, having the repair done inside the home with contractors is still quite limited.
Lisa Huynh (Research Analyst)
Okay, sure. Got it. Thanks. And just a quick one, if I can slide it in on raw material, like, costs. I can't see the usual input cost slide. We're hearing of meaningful increases starting to come through in both the spot market and contract volumes for pulp. Can you just remind us what proportion of your pulp supply is secured via long-term contracts, and whether you've seen any impact from this to date?
Jason Miele (CFO)
Yeah, Lisa, pulp kind of lags. The pulp market prices kind of lags one quarter into our financials, and certainly pulp is starting to trend up. It was fairly flat for nine months or so, and we'll expect some pulp in FY 2022 versus FY 2021, but currently not anything we think is too substantial.
Lisa Huynh (Research Analyst)
Okay, sure. Thanks.
Operator (participant)
Thank you. Your next question comes from Lee Power of CLSA. Please go ahead.
Lee Power (Equity Research Analyst)
Hi, Jack. Hi, Jason. Just quickly on lean in North America, you're at 61 million through three quarters. That's kind of the upper end of that target you had for FY 2021. Can you give us just an idea of how we should think about that for the remainder of FY 2021, and also any updated thinking on the reinvestment profile for lean going forward?
Jack Truong (CEO)
Yeah, Lee, good morning. For us, you know, lean is really about, you know, we will continue to improve that continuous improvement mindset. So as now that we essentially exceeded the plan that we set out back in February 2019, we have just gone through our strategic plan, and then we plan to update the market on what the next really the target for the next three years would be, and we'll kind of share that with you in May at the next earnings call.
Lee Power (Equity Research Analyst)
Okay. Thank you.
Operator (participant)
Thank you. Your next question comes from Paul Quinn of RBC Capital Markets. Please go ahead.
Paul Quinn (Managing Director and Equity Research Analyst)
Yeah, I just wanted to follow up on the freight and pulp headwinds you're seeing. What we're seeing in the pulp markets is, you know, some of the producers that we have coverage of are raising prices over $100 a ton. So if you could sort of outline what you're expecting in freight, and then what your sensitivity to, you know, sort of a $10 increase in pulp is.
Jason Miele (CFO)
Yeah. Thanks, Paul. So we'll be giving a clear FY 2022 guidance in May. We certainly do expect headwinds from pulp, and we do expect in the kind of ballpark you're referring to. And then we do expect freight to remain higher. Freight has been quite high this year and certainly a headwind in FY 2021 versus FY 2020. That said, we do expect to maintain strong EBIT margins in FY 2022, and we'll provide more clarity on that in the May result.
Paul Quinn (Managing Director and Equity Research Analyst)
Excellent. Great results. Thanks, guys.
Jason Miele (CFO)
Thanks, Paul.
Operator (participant)
Thank you. Your next question comes from Keith Chau of MST Marquee. Please go ahead.
Keith Chau (Senior Basic Industrials Analyst)
Good evening, Jack and Jason. Question for you, Jack. Just on the new product development, obviously innovation is not necessarily a new thing for Hardie's, but certainly ramping up over the course of the coming years. Just wondering if you could, first of all, give us a sense of, you know, how product penetration has tracked, maybe using EasyTex Panel in Australia, as an example, given that it was launched last year, and what that ultimately contributed to, volume growth as you ramped up commercialization of that product under your watch? And then as part of that question, is there a broad rule of thumb in terms of, what you're targeting for on-the-wall cost versus your substitute products, whether that be in dollar terms or in terms of time savings?
Obviously, the latter, so it's a bit of an issue in the market at the moment with labor. So if you can give us a sense of what benefits you're looking to, I guess, proliferate into the markets, to compete with alternate products, that would be very useful. Thank you.
Jack Truong (CEO)
Good morning, Keith. First question, you know, with the, well, really a different version of EasyTex that we commercialized has really been still test selling in Australia with really the right support. So the first 12 months is really the acceptance has been very high. And so, and then, so really the volume was more than 3X what we had planned. And just to give you another perspective is that the plan for next year for that volume will be 10X. So that's the first thing. Second thing is for-...
For the productivity, the key part of this innovation is that to, for us to, address the labor shortage and to improve productivity, is that we also target the on-the-wall cost to be anywhere from 10%-25% less than the alternatives that we're going after. And that really depends on markets. And then, of course, that is from the pure economics, functional type of approach. But what at the same time, with this innovation is really, what we're trying to go after as well, is to evoke the emotional attachments of the homeowners to the endless possibilities of designs and aesthetic that our total exterior solutions from James Hardie can deliver to the homeowners.
Grant Slade (Senior Equity Analyst)
Okay, thanks, Jack. I'll circle back for a follow-up.
Jack Truong (CEO)
Okay.
Operator (participant)
Thank you. Your next question comes from Grant, Grant Slade of Morningstar. Please go ahead.
Grant Slade (Senior Equity Analyst)
Hi, Jack and Jason. Thanks very much for taking my question. Look, I was just wanting to confirm with you how much the Repair and Remodel segment of the North American market grew by in the third quarter, if I could?
Jack Truong (CEO)
Yeah, so based on our analysis, Grant, we estimate between 7% and 8%.
Grant Slade (Senior Equity Analyst)
7%-8%. Okay, great. Thanks very much.
Operator (participant)
Thank you. Your next question comes from Sophie Spartalis of Bank of America. Please go ahead.
Sophie Spartalis (Senior Research Equities Analyst)
Hi, Jack and Jason. Just wanted to ask a bit more of a big broader question. Just wanted to try and understand the possibility around the margin trajectory for the US, and I guess this is just in context of how we balance, you know, this input cost trajectory, as we've been talking around the pulp pricing, you know, the margins of these new innovative products, and then the lower unit costs unexpected from the expanded capacity that you've announced today. And then, just as a follow-up, what does all this mean in terms of that long-term margin guidance of 20%-25%? Does that now seem redundant given that you're delivering sort of 30% and expect to go higher? Thank you.
Jack Truong (CEO)
Good morning, Sophie. I think I counted, like, six questions in one question there, Sophie. But let me first see that I can answer the first one here. I think what you should expect from us is that we will continue the drive continuous improvement through our lean manufacturing strategy. So that mean, not only that we need to keep the gain that we have in lean up until now, but we will continue to drive more efficiency. So that's the first thing. And the second is that as we do that, we then will improve lean, not only in our manufacturing processes, but also improve lean in our supply chain to our customers and to the markets.
And that is the second part of savings that that we're realizing in the fiscal year 2021. So those are the positive side from the operational side. And then the second part is really about for product mix. So as we are going through to drive more of marketing directly to the homeowners to create demand for really the aesthetic products, that mean it's more color products which have a higher price and higher margin and also better mix for us. So that will be also the second key driver for the positive side. And the third one would be the innovation.
All the key innovation that we bring to the marketplace is that not only that it has the functional performance that is superior to what's in the market right now, but we also will have the aesthetics. And therefore, our new innovations that as of yet to be commercialized into the marketplace will also be a higher margin than our current product base. So those will be the accretive margin for our business going forward. And then, of course, that will be offset by higher freight and costs, and as well, higher port costs, which is a much lesser extent than a few analysts have asked here.
And then, of course, there can be some SG&A investment that we put back into the marketplace and into our business. But net, what you should see is that our margin, particularly in North America, will be higher than what it has been for many years. And we will give a more definitive guidance on what the margin will be, come May earnings call, which pretty much form the basis for our guidance for this coming fiscal year.
Sophie Spartalis (Senior Research Equities Analyst)
Yeah, that's for the guidance for FY 2022, and thanks for the information or clarity, Jack. It's more around that long-term guidance that I think you provided, a couple of years ago, you know, a year ago now, where you had that long-term margin guidance of 20%-25%, but that seems very redundant right now.
Jack Truong (CEO)
Correct. And then you will, in May, where we'll share the really next three-year plan, that will give a really updated long-term guidance as well.
Sophie Spartalis (Senior Research Equities Analyst)
… Okay, great. So in May, you'll provide FY 2022 plus a three-year guidance?
Jack Truong (CEO)
That's correct.
Sophie Spartalis (Senior Research Equities Analyst)
Okay, fantastic. Thank you.
Operator (participant)
Thank you.
Jack Truong (CEO)
Thanks, Sophie.
Operator (participant)
Our final question comes from Peter Wilson of Credit Suisse. Please go ahead.
Peter Wilson (Equity Research Analyst)
Another margin question. Just on the R&D plants that you plan on opening, will they be a significant cost, or not?
Jack Truong (CEO)
Peter, our R&D facilities that we'll plan to have in one in kind of U.S. and Australia will be our capital expenditure.
Peter Wilson (Equity Research Analyst)
Okay. Will it be, you know, a material increase in capital, ongoing capital expenditure?
Jack Truong (CEO)
It is, well, it is gonna be a good investment, but will not be at least on the order of magnitude that you will be familiar with in our manufacturing plants, CapEx.
Peter Wilson (Equity Research Analyst)
Okay. And then just one on guidance. If my math is correct, your full year guidance implies that Q4 will be about 10% lower at the EBIT level than Q3, where usually the fourth quarter is actually the strongest. So I'm just hoping you might provide us some sort of, you know, commentary or bridge from Q3 to Q4.
Jason Miele (CFO)
Yeah, Peter. So a couple things. One, this Q3 did not have the normal seasonality, I'd say, of a. You're kind of going back in history with that comparison. So we had a very strong Q3. The most notable item would be the redemption of the notes. So as I went through during the slides, you're gonna have a $13.1 million charge in the fourth quarter associated with the call premium, as well as the pull forward and acceleration of the unamortized portion of the financing costs. So that would be the most significant item. And then, obviously, as we move forward with this consumer branding, we will have and talent acquisition will start increasing SG&A in the fourth quarter.
Peter Wilson (Equity Research Analyst)
Okay, thank you. And just to get a feel for where we're at in terms of this growth investment journey. So it seems to be like a lot of, you know, lease analysis kind of strategy being done. If you think about, you know, I guess, the costs that you're currently incurring, you know, versus what you might be in a couple of years, are you currently incurring a significant cost of all this kind of growth planning?
Jason Miele (CFO)
Sorry, Peter, when you say growth planning, can you be more specific?
Peter Wilson (Equity Research Analyst)
I guess at a high level, you've been quite upfront that there will be increased growth investment going forward. I'm wondering how much of that has come through the Q3 results, versus, you know, how much is to come?
Jack Truong (CEO)
Prattville 1 and 2 has already been factored in, in terms of-
Jason Miele (CFO)
Yeah, if, so if you're speaking specifically about growth through capacity, so our estimate is 250 million per annum for the next three years on total CapEx. If you're thinking about the marketing, the, there was some in Q3, but that will increase over time. Similar to what we said last quarter, as we started foreshadowing, and talking to you that our SG&A would begin to increase over the next six to eight quarters. That includes the, this marketing, this growth through marketing, as well as, adding talent and capability to our organization.
Peter Wilson (Equity Research Analyst)
Okay, that's good. I'll leave it there. Thank you.
Operator (participant)
Thank you. Your next question comes from James Brennan-Chong of UBS. Please go ahead.
James Brennan-Chong (Equity Research Analyst)
Morning, guys. Thanks for your time. Just to clarify, when you launch these new products, these products are going to be made on the same types of sheet machines that you've already got. And I guess what I'm just wondering is that there's no shortage of demand for your existing products right now, it's surging. How do you think about balancing, you know, these sheet machines producing more different SKUs going forward? Just wondering how you think about, you know, potentially bumping up against any particular capacity constraints for particular lines. How do you think about just allocating, you know, how much, a, a sheet machine is producing for one product versus another, and, you know, switching times, I guess? Thank you.
Jack Truong (CEO)
Yeah, good question, James.
So I think for new products, it's important that we use the focused factory. So it's, and also focused line to make sure that it's more dedicated to more of a producing short-run type of products. So it's for in North America, yeah. So for new products, we pretty much limit to one plant to make sure that we allow us to have the capability to
To run smaller runs, and then that's also the same in our Australian plant.
James Brennan-Chong (Equity Research Analyst)
Got it. So not every... So I think you've got 10, 11 plants across the U.S., so not every plant is going to producing multiple different SKUs. It is just, say, one or two that will produce-
Jack Truong (CEO)
Yeah.
Peter Wilson (Equity Research Analyst)
These new products. Got it. Thank you.
Jack Truong (CEO)
That's correct. It'll be just one. Yes.
Operator (participant)
Thank you. There are no further questions at this time. I'll now hand back to Mr. Truong for closing remarks.
Jack Truong (CEO)
Okay, first of all, thank you all very much for joining the call. I just would like to again extend my gratitude and thanks to all James Hardie colleagues around the world. The continued execution of our global strategy over the past two years has helped fundamentally transform James Hardie company, and essentially put us in a position to enable significant future global growth. We're a much different company from where we were two years ago. We're focused on continuing to connect our global businesses to build scale, to an integrated management system that enable us to create more value from customers in the market.
I'm excited for what the future holds for James Hardie company, as we embark on this next phase of profitable growth, driven by market-led innovation, our relentless focus on penetrating new and existing segments, and our extension of James Hardie brand into the consumer brand. Thank you, and have a good day, and have a good morning.
Operator (participant)
That does conclude our conference for today. Thank you for participating. You may now disconnect.