Q3 2019 Earnings Call
Ladies and gentlemen, thank you for standing by welcome to the Lennox International third quarter 2019 earnings call.
The request of your host all why aren't they listen only mode. There will be a question answer session at the end of the presentation.
<unk>. This call is being recorded I would now let's turn the conference over to Steve Anderson, Vice President Investor Relations. Please go ahead.
Morning, Thank you for joining us for this review Lennox Internationals financial performance for the third quarter 2019.
I'm here today, with chairman and CEO talked bleed on and CFO Joe Reitmeier.
I will review key points for the quarter, Joe will take you through the Companys financial performance and outlook.
To give everyone turned to ask questions during the Q and a please limit yourself to a couple of questions or follow ups and re queue for any additional questions.
In the earnings release, we issued this morning, we have included the necessary reconciliation of the non-GAAP financial measures that will be discussed to GAAP measures. All comparisons mentioned today are against the prior year period.
You can find a direct link to the webcast of today's conference call on our website at Www Dot Lennox International Dot com.
A webcast will be archived on the site for replay.
We'd like to remind everyone that in the course of this call to give you a better understanding of our operations, we will be making certain forward looking statements. These statements are subject to numerous risks and uncertainties that could cause actual results could differ materially from such statements.
For information concerning these risks and uncertainties see Lennox International's publicly available filings with the FCC.
Many disclaims any intention or obligation to update or revise any forward looking statements, whether as a result of new information future events or otherwise.
Before I turn the call over to talk never like to announce the date of our annual investment community meeting.
The event will be held the morning Wednesday December 18th in New York City.
Please mark your calendars invitations or more details will follow.
The meeting will also be webcast now, let me turn to cold stack <unk>, Chairman and CEO , Tom Thanks, Steve Good morning, and thank you for joining US let me start with an overview on the third quarter.
Our view on the rest of the year and provide some thoughts on 2020 for the company overall in the third quarter GAAP and adjusted revenue was 1.03 billion GAAP revenue was up slightly including 7% of headwind from the tornado and divestitures, 2% from the tornado and 5% from divestitures excluding me.
Impact from divestitures adjusted revenue was up 6%, including a 2% of negative impact from the tornado and set a new third quarter high foreign exchange was neutral to both GAAP and adjusted revenue.
GAAP operating income was 157 million up 8% to GAAP EPS from continuing operations rose, 11% to a third quarter record $2.94 on an adjusted basis total segment profit was up 15% to third quarter record 175 million and segment margin expanded 140 basis points to.
Third quarter record up 17%.
Adjusted EPS from continuing operations is up 26% <unk> third quarter record $3.34.
And our residential business revenue hit a new third quarter high of 638 million.
Revenue was up 7% from the third quarter, a year ago and what's your tornado damage the major manufacturing facility and disrupted our high end business.
Revenue from the replacement business was up high single digits and revenue from well from new construction was up mid single digits resident.
Third quarter record, 19.8% and segment profit rose, 12% <unk> third quarter record of 127 million residential business in the third quarter continue to face adverse weather conditions with cooler weather than last year in key swing regions and for the U.S. Overall this was a significant headwind to residents.
<unk> performance following the core <unk>.
The second quarter.
Residential revenue was negatively impacted 23 million or 4% from business not recovered. Following a tornado segment profit was negatively impacted $12 million offset by 16 million of insurance recovery for lost profits. The net 4 million benefit to segment profit was 3 million below our guidance.
For the full year 2019, we continue to expect 99 million of negative tornado impact of residential revenue a negative 54 million impact the segment profit and insurance recovery for lost profits up 94 million, resulting 40 million of net benefit to residential segment profit in 2019 is unchanged for the fourth.
Quarter, we continued expected impact of approximately 14 million to revenue, we expect an 8 million negative impact on segment profit offset by approximately 20 million of insurance recovery for lost profits for net profit for a net benefit just segment profit of 12 million in the quarter.
Taking a step back and Youre looking at the Big picture for both core and non correlated to the tornado. We continue to expect total insurance proceeds of approximately 372 million. We have received 262 million of that as of the end of third quarter and we're working towards achieving a remainder by the end of 2000.
19, the 2019 noncore gain expected for the difference in book value and replacement value of assets remains approximately 91 million or benefit of approximately one dollar and 73.
Per share to gap E. P. S. A tornado financial charges post on the front page of the company website summarizing that guidance I just discussed.
Turning to commercial in the third quarter revenue was up 7% to 253 million commercial profit was up 5% to 47 million and segment margin was down 30 basis points to 18.6% commercial revenue in the third quarter was led by double digit growth and national kind of equipment business. We want 13, new national account customers in the quarter.
Across medical fitness Entertainment education, hospitality, and retail end markets regional and local equipment revenue was up mid single digits.
Breaking out the business another way commercial new construction revenue was up high teens, a constant currency replacement revenue was up low single digits. Both planned and emergency replacement revenue were up low single digits RV RF business was up double digits in the third quarter on the service side Lennox National account service revenue was up mid single digits.
In refrigeration for the third quarter adjusted revenue was flat at constant currency North America revenue was up mid single digits in Europe was down mid single digits. Adjusted segment profit was down 10% to 20 million a margin was down 130 basis points at 13.9%.
Looking at end of 2019 were now into heating season in the fourth quarter is off to a nice start we continue to expect topline growth and margin expansion year over year across each of our businesses to exit the year with strong momentum heading into 2020.
For 2020, a few slots setting aside the adverse weather impact we saw in the summer months of 2019 underlying market conditions look solid led by residential and commercial.
We ever gained about 85, 9% of the business impacted by the tornado and now have now pivoted back to company initiatives to win new market share in 2020 in the coming years. Many of the cost headwinds we saw in 2019 flip the Tailwinds in 2020, we expect commodities to reverse my 20 million headwind this year to a benefit next year.
Likewise, we expect freight to move from a 15 million headwind this year to a tailwind next year.
Stands today, we expect tariffs to still be a headwind in 2020, but less than a 10 million impact that we saw in 2019, we continue to take mitigating actions as wells as well to offset the tariff impact was price.
Just as we capture price in 2019 for a 2002% yield full year, we plan to capture additional price in 2020, we will continue to make investments and distribution expansion as well as information technology in research and development, but certainly plan to benefit from leveraging SGN a next year.
And we will continue to drive our sourcing and engineering like cost reduction initiatives are similar order of magnitude shavings as in prior years.
Finally, we plan stock repurchases to maintain our debt to EBITDA ratio one an after two times on a normalized basis.
We will put numbers to all these elements for 2020 at our investment community meeting. This December but this provide some color on our current views of 2020 now let me turn it over to Joe. Thank you Todd Good morning, everyone I'll provide some additional comments and financial details on the business segments for the quarter, starting with residential heating and cooling.
In the third quarter revenue from residential heating and cooling was up 7% to a third quarter record $638 million.
Volume was up 6% price was up 1% in mix was flat foreign exchange was neutral.
Residential profit was up 12% to a third quarter record $127 million segment margin expanded 80 basis points to a third quarter record 19.8%.
Segment profit was favorably impacted by 4 million.
By a net $4 million a benefit from insurance proceeds for lost profits relative to negative tornado impacting the quarter, which was 3 million less than our guidance.
Segment profit benefited from higher volume favorable price lower material costs favorable warranty and tariff rebates for prior periods partial offsets included cooler weather.
The tornado impact lower factory efficiency and higher other product costs unfavorable mix and higher distribution freight and SGN expenses.
Turning to our commercial heating and cooling business.
Partial revenue was up 7% to $253 million volume was up 4% price was up 1% and mix was up 2% on the strength of national account growth.
Foreign exchange was neutral to revenue.
Commercial segment profit rose, 5% to $47 million segment margin was down 30 basis points to 18.6%.
Segment profit was favorably impacted by higher volume favorable price and mix and sourcing in engineering led cost reductions offsets included higher commodity and other product costs tariffs lower factory efficiency and higher distribution freight and SGN expenses.
In the refrigeration segment adjusted revenue was $142 million down 2%.
Foreign exchange had a negative 2% impact on revenue volume was up 1% price was up 1% and mix was down 2%.
Adjusted segment profit was $20 million down, 10% and margin was 13.9% down 130 basis points.
Adjusted segment profit was impacted by lower factory efficiency unfavorable mix higher commodity and other product costs tariffs and higher SGN expenses.
Partial offsets included higher volume favorable price sourcing and engineer led cost reductions and lower freight costs.
Regarding special items in the third quarter. The company had net after tax charges totaling $15.3 million. This included $5.9 million for the partial advance on the second quarter of 2019 of insurance recoveries related to lost profits.
$4.8 million for restructuring activities $2.7 million for other tax items.
And a net charge of $1.9 million for various other items.
Corporate expenses were $18 million in third quarter compared to $28 million in the prior quarter.
Overall SDMA on adjusted basis was $143 million flat with the prior year quarter.
Adjusted has seen a was 13.9% of adjusted revenue down from 14.7% in the third quarter a year ago.
Net cash from operations in the third quarter was approximately $235 million compared to $266 million in the prior quarter.
Capital expenditures proceeds from the disposal of pp any and proceeds of property damage totaled 24 million compared to $13 million in the prior year quarter.
Free cash flow was $211 million compared to $253 million in the prior quarter.
The company repurchased $150 million or stock and paid $30 million in dividends in the third quarter.
Total debt was 1.4 or 5 billion at the end of September and we ended the quarter with the debt to EBITDA ratio of 2.2.
Cash and cash equivalents were $46 million ending the quarter.
Now turning to our guidance for the company overall for 2019.
We are updating guidance for adjusted revenue growth from a range of 2.2% to 5% to new range of 2% to 4%.
We are updating GAAP EPS from continuing operations for a range of $11 in 91 cents to $12.51 to a new range of $10, a 65 cents to $10 a 95 cents. This.
This includes a noncash pension settlement charge of approximately $28.9 million after tax or approximately 73 cents a share that we expect to recognize in the fourth quarter of 2019.
Similar to what we did in the second quarter. This pension settlement charge relates to an agreement we entered into with Pacific Life Insurance Company in October two annuitize $78 million of our defined benefit pension obligation.
As part of this transaction, we also transferred $75 million in pension assets to Pacific life.
This event required a re measurement of the pension plan in resulted in a noncash 28.9 million dollar after tax settlement charge, we expect in the fourth quarter to write off the related accumulated actuarial losses.
We continue to expect a pre tax gain of $91 million in 2019 related to factory or construction costs and the associated gain from replacement value above book value.
Our adjusted EPS from continuing operations, we are updating guidance for a range of $11, a 30 cents to $11, a 90 cents to a new range of $11.15 to $11.45.
Now, let me run through the other key points in our guidance assumptions and the puts and takes for 2019.
First the guide.
Since elements we are updating.
For price, we still expect to 2% yields for the full year, well with lower volumes through the summer season. This now equates to $75 million versus the prior guidance of $80 million.
Corporate expenses now expected to be approximately $85 million down from our prior guidance of $90 million, primarily due to lower variable compensation.
Free cash flow is now expected to be approximately $320 million for the year compared to guidance of $390 million.
The changes due to approximately $15 million lower earnings and $55 million of inventory.
Given the tight labor market for manufacturing employees, instead of reducing direct labor as is typical for a cooler summer we decided to be more level loaded put up.
We decided to more level load production from the Iwear factory and prebuilt some product for 2020, which will burn off over the course of the year.
For the 2019 guidance elements that remain the same.
We still expect to 25 million dollar benefit from sourcing and engineering wed cost reductions.
We continue to expect 20 million, a 20 million dollar headwind on a full year basis from commodities, we still expect $15 million headwind from freight and $10 million from tariffs.
We continue to expect headwinds of $15 million for distribution investment and $15 million from SGN today.
Net interest expense is still expected to be approximately $45 million.
And we still expect an effective tax rate in the range of 20% to 23% on adjusted basis for the full year, most likely on the low end of that range.
The weighted average diluted share count for the full year is still expected to be between 39 to 40 million shares which incorporates the $400 million stock we repurchased this year.
And finally, we still looks still plan approximately $155 million of capital expenditures with $55 million of that funded from insurance proceeds and with that let's go acuity.
Ladies and gentlemen, if you would like to ask a question. Please press Star then one on your telephone keypad, you will hear a tone, indicating you have been placed in Q you may removed himself from the Q by depressing the pound key.
Our first question is from the line of Julian Mitchell with Barclays. Please go ahead.
Hi, good morning.
Hey, maybe just the first question on the residential business just give us some updates told them how happy you all with the the commercial side of things in terms of sales and market share attraction.
And also within resi.
Any updated thoughts on incremental margins over the next 12 or 18 months, you've got perhaps more efficient.
Refreshed operations now in Marshalltown, and some tailwinds old normalized cost environment. So just wanted how will that roll together.
They are already Incrementals.
On on the small see commercial side.
I think we're satisfied where we're out as wed put it I think we're happy with the end markets I mean, the consumer still feel still strong adjusting for the tornado impact while revenue in resi was up seven and we had negative four o'clock tornado Unpacks up 11, if you adjust for that so I think the end market still feel strong come our consumer still feel strong.
Then what we guided at last call of recovering 85% to 90% of the tornado impact Thats still where we're at that's.
Where we'll end the year at the end fourth quarter, we're a little less than that in third quarter. If you go through all the math more like 75, and we'll end the year at 85 to 90 of it recovered.
In terms of the drop through.
I think everything you said, it's true I think the numbers will be clouded by the fact that the $40 million on that insurance recovery was onetime item in 19, but if you stripped out all the things you talked about or our true.
And then I would lay on top of that are given some of the softness.
And because of weather and second and third quarter we've.
Taken some action on on the SGN, a side and cost containment as we go into 2020, and so I think that will help us the margin drop through also.
Thanks, and then my second than last question just around the commercial segment.
Capital C. low at the end market outlook.
Touch for North America back on the last earnings call. Good revenue numbers today, and commercial I think particularly in the new new construction OE side.
Maybe just give any updates about different verticals were you surprised by what's happening in commercial any color on backlogs.
Going into fourth quarter about our backlogs up slightly in the commercial segment I mean, we had a really good third quarter, but it was chunkiness of some large national accounts as you saw in his script that it was driven more by new construction and replacement on growth and again I think that's just tie.
Coming year over year differences, so pleasantly surprised in third quarter again, the verticals that are hanging in there most for us believe it or not continue to be retail is a both gold and replace.
Small office buildings so.
Entertainment theaters and light healthcare set so those verticals continue to stand up and.
We were pleasantly surprised in the quarter.
Great. Thank you. Thanks.
Next the go to Jeff Hammond with Keybanc capital. Please go ahead.
Good morning, guys.
Hey, Jeff.
Just just going back on kind of the moving pieces with insurance recovery in the last EBIT. So I guess of the 54 million velocity, but in 19.
Just given some of those share recapture that you're not getting how much of that do you expect to get back ultimately in with some of the mixed dynamics.
I would I would.
Pausing to make sure I've thought about that right way.
Out of the 54 for lost profits.
Im going to sort of fire from the hip and say Oh I will look over a two year period. So I look at what we lost in 18, and what we lost a 19 and we're going to get 70, we're going to get 85% to 90% of that back both on revenue on on profit. So I wouldn't look nearly at the 54 I'd I'd have to look at sort of the two years combined and say, we're going to get 75.
Or 85% to 90% of that back.
That's right Steve.
Okay, there's no mix dynamic from.
That being a higher mix share that that you're not getting fully back or.
No I I think over the longer term the mix will be fine I mean, we'll guide at all in 2020, I think there are some absorption and productivity issues that were buried in that 54 that may not come back, but it will be absence of badness is goodness is one way to think about it.
And then I'm just a couple on refrigeration, one maybe just give us a view of the demand outlook into 2020.
And Ah I think you mentioned some manufacturing inefficiencies just talk about what's going on there.
Yeah, I mean and refrigeration on an end market, we were flat and third revenue was flat in third quarter. What we're seeing in North America is the market continues to be hanging in there low single digits, we were up mid single digits for the quarter.
Europe , we're seeing some slowdown sort of going Germany, where we have a process cooling business, where auto is a large vertical on an as everyone understands that slowing down and even in our commercial HVAC business, which is predominantly France, and Spain, we've seen some slowdown so.
Continues to bubble along in North America slowing down in Europe .
And then I think there was a question about factory productivity.
The issue that we're seeing in resident and refrigeration and then also quite frankly in commercial is a very tight labor market, where our factories are located at in refrigeration in North Americans, Georgia and commercial it's Arkansas.
And in the prior to the lack of improved efficiency year over year.
In the factory in large parts driven by the labor scarcity, and it's hard to hard to find and hold on to folks and that's impacting what we can do in the factories around productivity.
Okay. Thanks to thanks, Jeff.
Next we'll go to line of Ryan Merkel with William Blair. Please go ahead.
Thanks, a couple of questions. So first I just want to understand the revvy profit on this little bit better since it missed my model. So is the story simply lower absorption and unfavorable mix and that was offset by positive price cost, it's or anything else to think about.
I mean, I have a Q in a here and you answered, but I'll I'll.
I I rattled through its everybody hears it directly from me I mean, the margins being down 300 basis points adjusted for the tornado really two major drivers you hit them. One is mix down year over year in a big driver that as our entry level Allied business that has lower margins was up over 20% in Q3.
Much less impacted by the tornado than than what our logistics business was and also some mix down quite frankly with some customers.
And the second was factory productivity due to lack of absorption Joe talked about on the cast side that we allowed the Marshalltown, Iowa factory to continue to throttle level load.
But our other North America factories, we had to take down production because of Q2 in Q3, and we had a pretty significant negative absorption that impacted margins and those are the two major drivers.
Got it all right well you sort of answered my next question. So we should be looking at the unfavorable mix is sort of a one off this quarter, we wouldn't extrapolate that into 2020 I wouldn't extrapolate it into 2020 I I think what we'll do is where we're going to snap a new baseline and will move forward and I think mix will improve in fact.
Our guide will be from mix to improve next year.
Perfect and then just lastly, maybe just a little color by geography would be helpful. Most interested in the Midwest in South East if you can give us anything.
Yeah, the the key swing regions, where we saw the most impact from weather was the northeast in the upper Midwest.
And if you look at degree cooling days in July and August where it really mattered.
It was down about 10% and that sort of the swing areas.
Chicago up to to do Pennsylvania through Ohio up into the northeast and those were down and had an impact on our revenue sort of on the flip side.
Look at a state like Texas cooling degree days were up 9% in Q3, and our revenue was up 10%. So again, just like in second quarter, where its core revenue was down Unfortunately were more skewed towards the north and others.
And where we had warm weather, we we revenue was up significantly.
Perfect. Thanks. Thanks.
Next is the line of Steve Tusa with JP Morgan. Please go ahead.
Hey, guys good morning.
So I just want to kind of be clear on this on this ready.
<unk> margin, but dynamic you are saying that there are things that will flip or at least turn next year I mean, it sounds as though like it would've been worse. If you didn't you know run your factories and kind of a you know.
Level load over time, so shouldn't that be somewhat of a material headwind next year. So I mean are we talking about more of a okay. This will improve off of a lower base, but not necessarily flipped next year did just trying to kind of understand what are the what are the kind of onetime items and we'll on on a kind of a net basis.
How should we think about this you know maybe just some color around hey, this on a net basis. It should have been the margins would have been 50 basis points higher or something like that to give us some idea given all the moving parts here for next year.
Well, let me directly answer the absorption point.
We did one factory that's accounts for about 25% of our hours.
And we we'd level loaded it more level loaded when we normally do I'd also tell you that it's sort of came down and just didn't come down as much as the volume would have it will better stated production was down year over year, but it wasn't down as much as the volume would have demanded that we do it.
And then other 75%, which is our other three factories in North America, we took those down and so sort of on a year over year basis.
It's going to be more sort of avoidance of bad news and it's going to be or having a.
A tough comp year over year, if that makes sense and then I think if I understood. Your question and I, probably won't get granularity as you might want but.
If order magnitude if our margins were down 300 basis points in resi.
Year over year adjusting for tornado.
Order of magnitude about.
40, 45% of that was mix about 40, 45% of that was factory productivity and then there was sort of nits and nats of other things that I won't bother to call out.
Got it Okay. That's helpful. I guess, when we kind of why are we haven't we kind of anniversary. The on the tornado comp I mean, why are we still calling out kind of like you know lost profits and lost sales from this at this stage of the game.
Well I mean, because we got it for 2019, we thought it would be sort of chicken should halfway through the year to quit talking about it. So we won't talk about going into 2020, but we gave full year guidance. We thought was appropriate to continue to guide through the year.
Got it for one.
Number one number two is sort of the impact of the tornado didn't fall follow a calendar that 12 months afterwards, it everything was completely gone we guided at the beginning of the year or when the tornado happened at this is going to be order magnitude, an 18 month recovery and that sort of the guys that were good.
Okay any update on.
The consolidation dynamics over the next.
12 months any update there on how you're viewing that or no real change.
No really HVAC consolidation, yeah, I mean, we as you know I think the industry could benefit from consolidation, we'd love to participate in.
And it's going to require others to sort of make to make a similar calculation, but we'd love to participate.
Got it okay I appreciate the color. Thanks. Thanks.
Next we go to Robert Mccarthy with Stephens. Please go ahead.
Good morning can you hear me, Yeah, I can't Hey, Rob good well I guess moving on from chicken shed [laughter].
Let's let's talk about the fourth quarter dynamics are actually it might be a doubling down could you talk maybe you know you talked about strengthened the fourth quarter and then also you know some of the dynamics around.
The season in terms of obviously anecdotally I think cooling degree days or excuse me heating degree days should probably be off given some of these episodic.
Yes, we've been seeing so far in the month and then also obviously the compare in association with the disruption last year can you talk about kind of the factors and how that's shaping up at least qualitatively for the fourth quarter in your residential business.
Yeah, I mean, how high level its its delavan since you talked about I said, we're off to a a nice start.
Which is a calibrated word that we're halfway into the first month and things look good but.
When you think about two months and in the quarter. It's in essence, a third a third in a third the share between October November and December for Us.
And so there's still a lot of work to do I think the important thing to get through.
In October is this sort of bridge period.
And what I mean by that is it's not really cool enough for dealers to rush out by furnaces. So in some ways to buying on faith and sentiment.
And the fact that we're off to a nice start in the case. It is still dealers are still confident and feel good about things as they go into the furnace selling season, and then as we get deeper into the furner Salix furnace selling season November and certainly December then it's more about the weather driving demand, but yet we feel pretty good about things, but there's still a long way to go for.
The quarter.
As a follow up I mean, you said some tantalizing things about obviously you're right.
In growth Allied and obviously some of that's due to.
Comps tornado disruption, but you do you did cite anecdotally some trade down there obviously the cycle still looks good as excluding kind of what's what impact your kind of competent to close to double digits, but.
Are you seeing anything on the horizon, that's giving you.
Incrementally nervous about consumer replacement as a whole.
No and I I wouldn't.
The Allied point was to mathematically explained the mix down.
The the it's not to make a point that overall the consumers mixing down it just explains our math I mean, our growth and allieds across the board a great story, we're converting distributors from our competitors sort of all the noise of some of off some of our competitors about investments that they are making.
The business going to be sold how's it going to be handled allows us to convert those distributors from others competitors over to our business and that's that's all good news for US. It's just we don't sell Dave Lennox signature series, we don't sell 26 year and allied well sell sort of all the high end products, but net net it's incremental to our margin or our EBIT margins and very good business for us and.
We're just doing very well there so actually it's more share story given the disruption we're seeing with some of your competitors with these.
Yes.
Yes, that's that's exactly until we have a tornado overhang on Lennox.
But our allied business doesn't have that and so all the initiatives that we've talked about are paying off their organic share.
All right and the last question I don't want to delve too much into a political views because it's probably not particularly helpful call for a variety of reasons, but given the fact that we could be seeing perhaps some more progressive administration.
Policies over.
Over the next with the next election cycle is there anything that's been on the drawing board for energy efficiency or increase standards of global warming being accelerated anything around codes standards are practices that could be very similar to your business across the border anything insight.
No I <unk>.
I think the point I'd make and again in the spirit of being a political is.
As a business person and certainly in our industry, having clarity and advance warning on regulations is is critical and so quite frankly, you tell us the rule book and give us enough advance warning will play by Didnt make like make good money off it.
The dangerous when when things change quickly and swing one way or another.
Causes problems and so.
I would I would expect whatever new policies could put in place whoever Wednesday election.
I would hope we'd have advance warning and clarity of what the changes are going to be.
Thanks for your time thanks.
Next we got the line of Robert Barry with Buckingham Research. Please go ahead.
Hey, guys good morning.
Just wanted to follow up on a few earlier things first you touched on the weather, helping some places hurting others was there a kind of net estimate for what it impacted you buy in the resi segment in the quarter.
We didnt, we didnt, it's hard to know Robert we Didnt, even do that and I don't think we did that in second quarter net net it was degree cooling days were down about a 5% or so for the quarter and especially in the swing areas that that's where it hurt us.
Got it.
And I know you think touched on briefly earlier, but the price and read the kind of stepping down from what was for last quarter to just one this quarter.
What was driving that I think thats just lapping at a price increase we had a midyear price increase last year, where we sort of jammed at hard.
And we lapped that and so now we're just if you will comping against the beginning of the your price increase which is a more traditional yield of one one and.
Got it wouldn't we think about price for 2020 , you seem confident you'll get some but it sounds like that should be a pretty modest expectation is that fair.
Well I I think.
I go back to years, where we had significant commodity deflation in the markets are strong we still got half a point of price and so I my expectations would be that's absolutely the floor, but I think we'll do better than that.
Got it and then I just wanted to clarify how to read the comment about the the 23 million impact from the tornado and the Red the revenue is that how much you are still down since before the tornado.
Correct.
Turning to people, making sure that's the answer yes, I think like last year, you had a headwind of 50.
You've clawed back an implicit 27, you're still down 23 correct.
Got it and so that 27 versus the 50 implies about just over 50% recovery.
I think if you add the two years together.
I'm looking at the data to make sure I got it right.
Sorry, I don't have that first year of the recovery when I did the math on third quarter and I added to two together I got about 65%. So I'll double check the math and we'll make sure we gave it to you right.
Well just to clarify when you say you expect to get 85% to 90% back over how much time that.
We're expecting as we go in the fourth quarter. When you do the math over two year period look what we lost fourth quarter last year, what we lost fourth quarter. This year and then and then how much of it would clawed back it will be about 85, 90%.
Got it and this 23 million sorry for all the questions on this the 23 million that is kind of the second.
Year of loss impact here is that going to be covered by insurance or I guess at what point. Okay. So it next year, you're still down 10, 15%.
Where do you kind of snap the line and it's just insurance won't recover wont pay.
Still up.
Yeah.
We're expecting to have full insurance recovery by the end of the year.
And we're in negotiations with them about what's transpired so far and then what we're projecting will happen in the future and that sort of all in the guide that we've given now so so or cut through with our insurance providers, who I assume are listening.
[laughter] in terms of our guidance going into 2020, and Stephen I sort of talked a little bit about that.
When we go into 2020 were not can talk about tornado anymore will will snap the line at the end of 19.
On public guidance and so we'll get revenue and we'll give EBIT and we'll talk about Mrs and over achievements and tornado won't come up after the end of the here.
Got it and sorry, just one more.
You know a year to date, you're kind of X. tornado margin is in resi.
I'm calculating like just above the team but.
I'm turning the guys, we can get to answer Robert on how that math right funding yeah. Because I was just curious if your expectation would be that next year or whatever that number is would that be up flat or down.
Our sense is it should be up year over year.
Alright, alright, thanks, a lot.
Okay. Thanks.
Next we got a good Tom Klima from Cowen and company. Please go ahead.
Hey, Thanks, Good morning, guys monitoring.
A couple of questions first I was wondering on parts plus rollouts.
Expectations with a number how many of you've done this year and what do you expect the next year.
Turning someone to make sure I got the right number for this year.
On a year to date basis, we've done a handful this share.
So at a relatively flat that we've opened a couple of stores closed a couple of stores.
As we go into 2020, we're still finalizing what we want to do for new store build I think majority of new stores next year, most likely will be second half. The year. We're also aggressively just looking at now that we're up to 200, how many stores we have to be very soon now they're up to them to round to 40 store 240 stores.
Also sort of looking at what we should prune and what we should get out of and we've identified some stores that were that we're closing between now and the entity because there's just not covering they're not a handful stores. So all those would be some sort of net eliminations and then some additional stores out it.
Okay.
In terms of the National account business and commercial what sort of is the pipeline of opportunity there still as as robust as it appeared to have been going into the.
Third quarter, just curious like what does that mean forward indicators there.
Yeah, I mean as I as I called out earlier backlogs up slightly in our commercial business. When we entered the quarter was it was it was up.
From memory high single digits.
Customers still strong are still spending money.
I think is I don't think I know this time of year, we do some business most mostly planned replacement at this point very little new construction or less new cuts excuse me new construction.
And and they're looking towards the Christmas So many of our retail customers towards a Christmas selling season decide what they're going to do so I think that that it's still solid I think it's less solid maybe than it was a year ago I don't know about quarter over quarter because of the macroeconomic uncertainty.
So there's some risk there, but but customer still feel pretty solid.
Okay, and just to round out your comment on pricing.
So that price next year in resi.
Have you seen or do you anticipate any change in competitive behavior.
We think are so splitting the carrier splitting what have you just anything that you seen order that you are starting to be concerned about incrementally.
No.
I haven't seen any changes.
Expect any changes on that dimension I mean, the people who are part of a larger conglomerate or not they understand that they need to the price to offset commodity increases and labor shortages and all the things freight and tariffs and all the things we have to price for.
So.
We are confident we're going to get price and I don't think industry dynamics going to change.
Okay, Joe one last one Q4 tax rate guess, making sure. We're confirming what are you guys. Some time there yeah for the full year I think will be slightly above the 22% rate, but for the full you'll be closer to 22%.
So that's what I would expect in the fourth quarter.
Thank you guys appreciate it thanks.
Next we go to line of depot Ragavan with Wells Fargo Securities. Please go ahead.
Hey, good morning couple of questions from me.
So still a pretty wide range coming into Q4, especially since you said nice start.
Yes, what's embedded in the high end, the waste is low and especially for residential growth.
When you're ready mix margins should get better.
Going into the seasonally margin in a higher margins on the sale. He then I guess parents want to go with isn't as bad as scenario, where you might have a lot.
Well I'm as demand because of the limited prebuy that happened in spring and also maybe have there's lower overall dealer recapture any impact how do I think about the lower endorses higher end given your range.
Oh I I.
Short answer to the back end of the question No. We don't think we lost other than a tornado impact that we publicly caught out over and over again, we're not losing furnace share in fact, when we look at the numbers.
The public numbers in July and August we think we think we're doing well and that sort of tracking the way we'd expect it to.
So I don't I don't think Theres any concern there.
I think the range.
On the high end its.
We residential markets will or at least our revenues a little stronger than what we think it might be or could be or better stayed at the midpoint of our guidance. Adjusted so I think the real swing as.
Resi residential revenue I don't it's not really mixes residential revenue.
Got it that's helpful. My follow it.
It's not like how do we think about your market share gains going pool, but just given your experience, but you know the dealer recapture coming in slightly below expectation is the fastest bits of share gain still what youre planning, albeit from the lower base.
Just curious what if that's the case, what would what drives that confidence now and especially as you're lapping all these twond or market share gains that you know that cumulatively you haven't Kevin and I can relate it cumulatively over the years. Thank you.
Yeah, No our archive will be half a point in market share and I guess I get confidence because of strategies that we focused on continue to work I think building out distribution, we've taken a pause for that and as adjusted will take up a bit more of a pause as we go in the beginning of 2020, but that's still a strategy that works.
The invested a significant investments, we're making on supporting our dealer network through E Commerce.
And prognosis and diagnostics with our Icomfort controllers.
Our abilities to support the dealer on our on our Lennoxpros portal all those things are still working all the investments we make in significant having the best product lines.
So the strategy still work and we're making significant investments to growth and even in this tornado year. We've continued to make investments and we will see those benefits in 2020, so theres a sort of and also just quite frankly.
We've done our best even though the numbers have sort of moved around a bit to be a bit of a dock right and so what we publicly show is everything you know we're.
The sailings.
Clear and were gliding, but underneath the team has been Pat paddling very hard and peddling very hard and watch the worked offset the tornado and take care of customers and work to complaints and manage inventory levels to get the right product to the right people and handle a lot of negative phone calls.
That's now goes away because we have the product we can support everybody and on Sunday snap the line and your back on the offense rather than on the defense and that's now behind us and so we're doing all the work now quite frankly with many of our customers to convert new dealers to win in 2020, and we're focused on doing.
Thanks.
Next we go to Nicole Deblase with Deutsche Bank. Please go ahead.
Yeah. Thanks, good morning Pinnacle.
I guess I'm, just two questions around margins into far kill I'm on the commercial segment I think the expectation what's fair I returned to year on year expansion in Threeq, where you kind of talked about you know the reasons why we didn't see that but can we see commercial returned to year on year margin expansion and the fourth quarter and then similar question with refrigeration since the comp yet.
Easy.
Yeah, we actually we expect both commercial and refrigeration margins to be up year over year in fourth quarter. Okay got it that's helpful. And then I'm around price cost I think you guys had like a 17 million dollar positive impact and the second quarter and you expect it actually a high watermark can you just give us a sense of what the price cost impact was for Threeq, you and well.
There it steps down or remain similar in the fourth quarter.
I don't have that number handy some turn into Steve to see if he has that I I.
I I think the short answer is.
The price the price element of price cost.
We'll we'll be roughly the same and third quarter third and fourth quarter and then the impact from commodities continues to trail off in fourth quarter. So so my guess is we might even be a little bit more positive price cost in fourth quarter.
Than what we weren't third quarter.
Okay got it thanks I'll pass it on.
Next we go to line of Jeff Sprague with vertical research partners. Please go ahead.
Thank you good morning, guys Hi, Jeff.
Just two quick ones for me of course, there just kind of moving on from the tornado, but if you end up having a residual insurance recoveries kinds of cleaning up loosens will you disclose the love those let us know what those long plenty.
Absolutely.
We're going to be completely transparent on the insurance we well.
Pat our number with insurance, we'll let you know.
Perfect I appreciate that and then just on the free cash flow.
70 million comment on how do you want to 10 million net income.
Is that knowing all the inventory, we're talking about or is there something else going long, yeah, I mean, when it when we.
We lowered the cash guide for Threeninety to Threetwenty as Joe said in his call at least I think he said this has caused 15 million of that as from lower earnings. So just we're making less money because it learnings went down and then $55 billion is from the inventory and then as Joe talked about that's tied to the tight labor market, it's it's having more level load.
Good production at Marshalltown, Our Iowa factory, and then because typically what we would have done would have been.
Or the plate the textbook if you man and just purely for working capital would have been we would have throttled down and in August and then we would have had to throttle back up in January December January they start getting ready for the cooling season to union workforce, and and tight labor market and so the thought and.
And it's fragile because we just got everything up and run into thought of ramping down I think everyone bid out on new jobs re shuffling, everybody and then three months later ramping back up finding workers re shuffling all the union jobs again.
Just seem so disruptive to the business.
And so the and we're not making let us and so everything we are building, we're just getting a three or four months early so one way to think about this is everything being equal.
Cash because of inventory will go down by $55 million 19, but everything being equal or whatever you had your model will go up by 55 million in 2020.
As we burned off that inventory.
And just thinking about kind of the.
Bill what Brian if you will I mean, your your inventory turns were drifting down a little bit before we've got good tornado obviously, they're lower now on all this disruption.
Where do you think you couldn't get your turns to once we kind of stabilized.
Oh, you know, we're going to continue to focus on it I mean, Oh I haven't publicly given an inventory target or a turn target I think it's you know I tend to think about it more as.
It's a competitive weapon for us to build out distribution to build out parts stores, we want to keep our turns relatively flat or slightly improving we certainly don't want them deteriorating like they have in over the last year, because its tornado, but when the cost of debt so cheap.
If we can gain if it's a driver of gaining half a point of market share and we can build when new customers with inventory as a distributor product business, we're going to focus on that.
So short answer is we haven't probably given a target, but and we think about it but I think it more in the whole context of a total shareholder return.
Right.
Thanks.
Next we go to Joe Ritchie with Goldman Sachs. Please go ahead.
Thanks, Good morning, guys.
Morning.
Hi, So my first question is just on the commodity tailwind that you you alluded to earlier I in your prepared comments Todd. So I'm just any any color you can provide us online how much of that how much of your commodity tailwind next year is gonna be copper and whether you are locking in a certain percentage.
Of that this year.
[noise] win win.
The commodities that we buy in order of importance or steel copper and aluminum and steel we have some fixed pricing, but most of its variable tied to market pricing during the prior quarter that we think at a discount on copper and aluminum, we hedge or tactically use forward contracts.
And.
12 months out were about 50% hedged and so you know were.
I don't know the exact number but above 50% hedged I think at this point for $2020 that we're locking in some of the benefits already.
Got it Okay. That's helpful. And then and then just maybe I'm, maybe touching on freight out a little bit any qualitative comments you can talk about on on you know, obviously 15 million dollar had when this year, but what you're seeing in the freight market and how that could swing potentially next year.
No.
A couple of things one is.
We made some system investments in our our freight transportation to have better visibility on on on freights, and I think thats going to help us I think more fundamental is is a softening.
In the in the freight market overall, and I think we'll be beneficiaries of that as others aren't so.
The thinking is you know we're in a process and negotiating rates for next year and so we'll know more as we negotiate those rates, but we look at spot pricing what's happening in the marketplace, where it was a year ago. It reflects the slowdown in some segments of the economy Auto for example, which is a major driver afraid rates in North America and.
And we think will be a beneficiary of that.
You just quickly remind us how much of your freight cost this spot versus contract that.
I don't think I've ever publicly said that if I had the gas I'd say, it's 75% contract 25% spot but.
That's a bit of a lot ask us.
Okay. Thanks for the color I feel like President Trump a foreign twice in a conference.
[laughter] I'll get back in queue. Thanks again.
Next we'll go to Josh Josh Pokrzywinski with Morgan Stanley . Please go ahead.
Hi, good morning, guys.
Yes.
I was wondering if you can help out a little bit with the sequential dynamic on mix in resi. So I understand whether kind of played a role in both quarters, obviously at a little bit more time to get the your feet underneath you, but you know anything specifically that we should read into kind of the twoq to threeq to margin progression anything about the market that was heavier.
On the mix side or would have shown up in one quarter versus another and maybe help kind of triangulate that dynamic.
No I mean, I <unk> I think we had some mix headwind last quarter to and so I don't I don't think it was we had positive mix last I don't think we had part I think that negative mix last last quarter also similar dynamics. It just didn't rise to the level that we spend a whole lot of time talking about it. So no I don't I think the other piece would be.
The part that I caught out that allied growth was dramatic this quarter and that's just the timing of new distributors that they signed on them and when you've got the business and and so I think it's I think it's more about allied than anything that was happening in Atlanta.
Got it and would price cost have been better sequentially. I know you probably want to get that I have to long term just I would imagine you know directionally, though that was probably better.
I think price cost is better in second quarter than third quarter, because we hadn't lap the meat midyear price increase yet so I think costs were better in third quarter than second quarter, but from memory, we had 4% a price in resi last last quarter, and we up a little bit over 1% this quarter on a go to your best.
Got it and then just one last one from me I mean, we care a lot about good amount of inventory being out there in the in the channel more more competitively than necessarily something.
Specific to onex, but has added all kind of impair the ability do to regain share that you know maybe there's just too much inventory to go after folks this quarter and.
Should that normalized in the next year and make the work easier.
I would broaden.
Manically I'll agree with you, but I'll broaden answer a little bit and just say.
It's always tougher to gain share in a soft market than than than a more robust market and so I'm.
Certainly even more so in second quarter than in third quarter.
That hindered some of the gaining back some of the customer business.
Because it is tough tougher to do that it down mark because the other guys as focused as you are hanging on the things and and and again as as Robert I went back and forth I mean, where.
We're not to the 85% yet, but our our guide is at and fourth quarter, we back to.
Have 85% to 90% of was a loss revenue gain back and enrollment 2020.
Understood appreciate the color <unk>.
Next we go to a lot of John Walsh with Credit Suisse. Please go ahead.
Hi, good morning.
Hey, John .
So a lot of ground cover just maybe a finer points on a few questions as we think about the free cash flow bridge into next year I just want to make sure we're understanding it or I'm understanding it correctly, but we're gonna have we had from last quarter. Some push out of Capex that went from 19 in.
The 20, and then we're going to have this kinda inventory dynamic from this quarter anything else to be mindful of are those the two big moving pieces of the bridge I think those at a two moving pieces of the bridge and looking at each of them again now those are the big pieces you got it.
Okay, and then you know I guess I'm also around you know the earlier question about refrigeration margins you do have easy comp anymore. Finer point you can put on that should we think about normal sequential decrementals or do you want to kind of throw a range out there just to help with the modeling because again it can move around.
For refrigeration.
Correct, Yes for Q4, yeah.
No [laughter] is the short answer sorry, John I, you know again I think because you said, we had a tough we have a much easier comp or we have an easy comp over last year.
And we think the margins are going to be up and fourth quarter, even on relatively flat revenue.
Got you and then maybe just one last one the here from a high level you know as you think about the regulatory environment a couple of questions earlier on that I.
I mean should we just think about it as kind of a steady drumbeat of kind of change pushing towards higher efficiency, then really anything on the horizon that might be a step function change is that the correct way to think about it.
I mean, that's how we think about it I mean, I I think anything is possible, but certainly the way. The industry has worked with a few minor exceptions are lost 30 40 years has been a constant increasing efficiency a constant.
Improvement and the type of refrigerant that we use.
And we typically have five.
I think by lots for years that we have to have advanced warning and sometimes oftentimes we have more than not and again as long as we know we can we can work through the technology with our supplier partners to do what we need to do.
All right and I appreciate it yep that's.
Alright, thank you thanks.
Next I got a Nigel Coe with Wolfe Research. Please go ahead.
Thanks, guys. Good morning, Thanks the question.
Hey, so so just I mean I hate to use the attorney General gangs I think we already at record levels here, but I'm just.
Adjusting for the law smoker Chen Threeq you lost your Threeq you this year suit roughly 3% like for like growth in residential.
No one is that kind of like inline with what you're thinking how does that compares the markets and I'm a must be I could talk about what you thought you actually market did and if I. If he did them sort of missing out, but how does that 3% compared to the market.
I'm not sure what the market is going to do I I would you know I think that.
I have some math that's out there somewhere but when I when I think about safety year over the the sort of the two year growth. It's it's about four or 5% revenue growth.
Over a two year period.
And.
And that.
I think thats, obviously less than the market, but that reflects to share loss that we got because its tornado.
Okay. So you think they wouldn't things we've assumed would be better than the market. This quarter I mean, I think most people as soon as can be brought them.
Uh huh.
I I think we're going to we're gonna see <unk>, you know watsco announced earlier, we're certainly in line with them.
Yeah for the Okay, and then we'll see with with the others do.
Then just go back to the the highlights performance in a 20% up so allied sons.
Looks like the cool index was probably flattish that differential between the two brands is it definitely seen the Pos too.
I mean again, just thinking about this central mix shift with the consumer but is that differential you unusual enzyme.
Yeah, I mean, I, but again I think whatever I mean, it reflects two things like it reflects the tornado impact primarily analytics brand and sort of all the disruption associated with that and then it shows the lumpiness.
Selling two independent distribution and so when one allied gainshare, it's because they have converted a large distributor and significant share a cruise with that and so being up 20% in a quarter just reflects the timing of converting.
Distributors.
Okay I follow one for me a the commercial markets is obviously a lot of Bull bad news on on on the on that market more more bad them both.
Do you view as we go between 20 and commercial construction and commission we expect.
You know about backlog you got an easy comp this quarter compared to last quarter, but how do you think by that market in 2020.
Yeah, well, we'll true everything up in December I, I I think it's I think flat sort of the best scenario. We can we can think out but we will get better guidance when we get closer to to the at the December analyst.
Okay. Thank very much.
Thanks.
And our final question is a follow up from Steve Tusa with JP Morgan. Please go ahead.
Hi, guys, sorry, sorry for the for the follow up I'd, just listening to kind of all the puts and takes.
And just kind of like.
Looking at the model a bit with the insurance you know dynamics and then all the other kind of nits and Nats said you highlighted.
Can you guys do you think you'll be able to kind of grow earnings in 2020. I mean is that is that kind of a base case assumption that you will grow earnings in 2020.
Well I mean.
Let me just refresh the math for others.
For 2020 after just a 40 million net benefit for insurance recovery of that was above lost profits for 19, so that means of operationally or $40 million better than than we are flat profits year over year short answer is are our targets to look to grow earnings.
But we'll guide all that on the 2020 call.
Okay and then one last one just on resi is is an unreasonable way to look at it to look at kind of the 2017 base.
And then you know just kind of assume or wherever going over there we're going to assume on growth for for 2020, and then take those two and apply like a you know a 30% to 35% incremental margin on that or is the business somehow you know meaningfully different and there will be you know different headwinds and tailwinds.
On kind of that you know kind of just taking the inch day. The the tornado impacts you know out entirely.
Is that a bad way to look at it.
The way I would build the model with I would do it that way I would take out all the tornado stuff I will look at 17 as a base case, and then I would look into 22020 revenue.
I think I might have a closer to 30 to 35, Okay. I was I would start there.
Excellent alright, thanks for the color guys appreciate as always thanks [noise].
[noise] family during the conference back to you is ahead.
Okay.
That's that's my biggest complement of this calls to be called Steve Hare [laughter] to wrap up as we move into the heating season. The fourth quarter is off to a solid start when we look forward to a strong finish to the year. The residential market continues to look robust weather aside commodity costs are trending down for more price cost benefit moving forward and investments, we have made and products and just.
Abuse and set us up well for 2020 I want to thank everyone for joining us.
Ladies and gentlemen that does conclude your conference for today. Thank you for your participation you may now disconnect.
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