Q2 2019 Earnings Call

July 30, 2019

Operator: Good day, ladies and gentlemen, and welcome to the Q2 2019 Earnings Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will be given at that time. If anyone should require operator assistance during the conference, please press star then zero on your telephone keypad. As a reminder, today's conference is being recorded. I would now like to turn the call over to Patricia Ackermann, Senior Vice President, Investor Relations, Corporate Responsibility and Sustainability, and Treasurer. Ma'am, you may begin.

At this time all participants are in a listen only mode. Later, we will conduct a question and answer session and instructions will be given at that time, if anyone should require operator systems. During the conference. Please press Star then zero on your telephone keypad as a reminder, today's conference is being recorded.

I would now like to turn the call over to Patricia Ackerman Senior Vice President Investor Relations corporate responsibility and sustainability and Treasurer Ma'am you may begin.

Patricia Ackermann (A. O. Smith Corporatio: Good morning, ladies and gentlemen, and thank you for joining us on our Q2 2019 results conference call. With me participating in the call are Kevin Wheeler, Chief Executive Officer, and Chuck Lauber, Chief Financial Officer. Before we begin with Kevin's remarks, I would like to remind you that some of the comments that will be made during this conference call, including answers to your questions, will constitute forward-looking statements. These forward-looking statements are subject to risks that could cause actual results to be materially different. Those risks include, among others, matters that we have described in this morning's press release. As a courtesy to others in the question queue, please limit yourself to one question and one follow-up per turn. If you have multiple questions, please rejoin the queue.

Patricia Ackerman (A. O. Smith Corporation: Good morning, ladies and gentlemen, and thank you for joining us on our Q2 2019 results conference call. With me participating in the call are Kevin Wheeler, Chief Executive Officer, and Chuck Lauber, Chief Financial Officer. Before we begin with Kevin's remarks, I would like to remind you that some of the comments that will be made during this conference call, including answers to your questions, will constitute forward-looking statements. These forward-looking statements are subject to risks that could cause actual results to be materially different. Those risks include, among others, matters that we have described in this morning's press release. As a courtesy to others in the question queue, please limit yourself to one question and one follow-up per turn. If you have multiple questions, please rejoin the queue.

Good morning, ladies and gentlemen, and thank you for joining us on our second quarter 2019 results conference call.

With me participate participating in the call our cabin Wheeler, Chief Executive Officer, and Chuck Lauber, Chief Financial Officer.

Before we begin with Kevin's remarks, I would like to remind you that some of the comments that will be made during this conference call, including answers to your questions will constitute forward looking statements.

These forward looking statements are subject to risks that could cause actual results to be materially different.

Those risks include among others matters that we have described in this mornings press release.

As a courtesy to others in the question queue. Please limit yourself to one question and one follow up for sure.

If you have multiple questions. Please rejoin the queue.

Patricia Ackermann (A. O. Smith Corporatio: I will now turn the call over to Kevin, who will begin our prepared remarks on slide three.

I will now turn the call over to Kevin, who will begin our prepared remarks on slide three.

I will now turn the call over to Kevin will begin our prepared remarks on slide three.

Kevin Wheeler: Thank you, Pat, and good morning, ladies and gentlemen. Chuck will elaborate on our financial performance in a moment. While China continues to be particularly challenging, I am pleased to highlight several items in action which help position us for future success. Number one, our solid operating margin performance in North America remains steady despite expected lower water heater volumes compared with last year. We announced a price increase of up to 4% on our North America wholesale water heater portfolio, effective 1 August. Excuse me, this August, early August. We've joined our Hague and Water-Right water quality dealer sales organization together so as to represent one customer-facing our customers in that channel, and the transition has gone well. Continuing our strategy to leverage our distribution channel, we launched our A. O. Smith branded water treatment portfolio in the US wholesale channel.

Thank you Pat and good morning, ladies and gentlemen.

Chuck will elaborate on our financial performance in a moment.

Well, China continues to be particularly challenging.

I am pleased to highlight several items in action.

Which help position us for future success.

Number one our solid operating margin performance in North America remains steady despite expected lower water heater volumes compared with last year.

We announced a price increase of up to 4%, our North America wholesale water heater portfolio effective August 1st.

To do this August early August .

We join our HAE and water right water quality dealer sales organization together, so as to represent one customer facing our customers in that channel and the transition has gone well.

Continuing our strategy to leverage our distribution channel, we launched our A.O. Smith branded water treatment portfolio and the U.S. wholesale channel.

Kevin Wheeler: We revised our China sales expectations as we moved into the back half of the year, with a path towards more normalized channel inventory levels, which, as previously discussed, has been elevated for over the past 15 months. Chuck will now describe our results in more detail, beginning on slide 4.

We revised our China sales expectations as we moved into the back half of the year, with a path towards more normalized channel inventory levels, which, as previously discussed, has been elevated for over the past 15 months. Chuck will now describe our results in more detail, beginning on slide 4.

We revised our China sales expectations as we moved into the back half of the year with a path towards more normalized channel inventory levels, which as previously discussed has been elevated for over the past 15 months.

Chuck will now describe our results in more detail beginning on slide four. Thank you gotta sales for the second quarter of 765 million were 8% lower than the same quarter in 2018.

Charles Lauber: Thank you, Kevin. Sales for the second quarter of $765 million were 8% lower than the same quarter in 2018. Earnings in the second quarter of $102 million declined 11% from the second quarter in 2018, and second quarter earnings per share declined 8% to $0.61. Sales in our North America segment of $524 million declined 2% compared with the second quarter of 2018. Lower residential water heater volumes due to a tough second quarter 2018 comparison, driven by a pre-buy in advance of a price increase, were partially offset by the mid-2018 pricing actions. In addition, our recently acquired Water-Right business added approximately $14 million to sales.

Earnings in the second quarter of 102 million declined 11% from the second quarter of 2015.

And second quarter earnings per share declined 8% to 61 cents.

Sales in our North America segment, So 524 million.

Klein, 2% compared with the second quarter of 2018.

Lower residential water heater volumes due to a tough second quarter 2018 comparison.

Driven by a pre bought in advance of the price increases were partially offset by the mid 2018 pricing action.

In addition, our recently acquired water rights business added approximately 14 million to sales.

Charles Lauber: Rest of the world sales of $249 million declined 19% compared with the same quarter of 2018. China sales were down 16% in local currency, primarily related to previously disclosed channel inventory builds, which occurred in the first half of 2018 and did not repeat in 2019. The weaker Chinese currency unfavorably impacted translated sales by approximately $16 million. India sales grew over 30% in constant currency compared with the same period in 2018. On Slide 6, North America segment earnings of $123 million were 2% lower than segment earnings in the same quarter in 2018.

Rest of the world sales of $249 million declined 19% compared with the same quarter of 2018. China sales were down 16% in local currency, primarily related to previously disclosed channel inventory builds, which occurred in the first half of 2018 and did not repeat in 2019. The weaker Chinese currency unfavorably impacted translated sales by approximately $16 million. India sales grew over 30% in constant currency compared with the same period in 2018. On Slide 6, North America segment earnings of $123 million were 2% lower than segment earnings in the same quarter in 2018.

Rest of the World sales of 249 million declined 19% compared with the same quarter of 2018.

China sales were down 16% in local currency.

Primarily related to previously disclosed channel inventory build which occurred in the first half of 2018 and did not repeat in 2019.

The weaker Chinese currency unfavorably impacted translated sales by approximately 16 million.

India sales grew over 30% in constant currency compared with the same period in 2018.

On Slide six North America segment earnings of 123 million were 2% lower than segment earnings in the same quarter in 2018.

Charles Lauber: The favorable impact from mid-2018 pricing actions was more than offset by the unfavorable impact from lower water heater volumes, higher steel costs, and other costs. As a result, Q2 2019 segment margin of 23.5% was essentially the same as last year. Rest of the world earnings of $22 million declined 35% compared with the second quarter of 2018. The impact to profits from lower sales, lower China sales more than offset the benefit to profits from lower SG&A expenses. Weaker China currency translation negatively impacted earnings by approximately $2 million. As a result of these factors, the segment margin declined to 9% compared with 11.3% in the same quarter of 2018.

The favorable impact from mid-2018 pricing actions was more than offset by the unfavorable impact from lower water heater volumes, higher steel costs, and other costs. As a result, Q2 2019 segment margin of 23.5% was essentially the same as last year. Rest of the world earnings of $22 million declined 35% compared with the second quarter of 2018. The impact to profits from lower sales, lower China sales more than offset the benefit to profits from lower SG&A expenses. Weaker China currency translation negatively impacted earnings by approximately $2 million. As a result of these factors, the segment margin declined to 9% compared with 11.3% in the same quarter of 2018.

The favorable impact from mid 2018 pricing actions were more than offset by the unfavorable impact of lower water heater volumes.

And higher steel costs and other costs.

As a result second quarter 2019 segment margin of 23.5% was essentially the same as last year.

Rest of the World earnings of 22 million declined 35% compared with the second quarter of 2018.

The impact to profits from lower sales lower China sales more than offset the benefit to profit from Boris United stuff.

Weaker China currency translation negatively impacted earnings by approximately 2 million.

As a result of these factors the segment margin declined to 9% compared with 11.3% in the same quarter of 2018.

Charles Lauber: Our corporate expenses of $9.6 million were lower in the quarter compared with the second quarter last year, primarily due to lower incentive-based compensation. Interest costs were higher in the second quarter than a year ago due to the acquisition of Water-Right in early April. For the year, we expect interest expense to be approximately $11 million. Cash provided by operations of $144 million during the first half of 2019 was lower than $173 million in the same period of 2018. Lower earnings and higher working capital investment resulted in lower cash flow from operations. Our liquidity and balance sheet remained strong. Our debt-to-capital ratio was 17% at the end of the second quarter.

Our corporate expenses of $9.6 million were lower in the quarter compared with the second quarter last year, primarily due to lower incentive-based compensation. Interest costs were higher in the second quarter than a year ago due to the acquisition of Water-Right in early April. For the year, we expect interest expense to be approximately $11 million. Cash provided by operations of $144 million during the first half of 2019 was lower than $173 million in the same period of 2018. Lower earnings and higher working capital investment resulted in lower cash flow from operations. Our liquidity and balance sheet remained strong. Our debt-to-capital ratio was 17% at the end of the second quarter.

Our corporate expenses of 9.6 million were lower in the quarter compared with the second quarter last year, primarily due to lower incentive based compensation.

Interest costs were higher in the second quarter, a year ago due to the acquisition of water rate in early April .

For the year, we expect interest expense to be approximately 11 million.

Cash provided by operations of $144 million during the first half of 2019 was lower than 173 million in the same period in 2018, lower earnings and higher working capital investments resulted in lower cash flow from operations.

Our liquidity and balance sheet remain strong our debt to capital ratio was 17% at the end of the second quarter, we have cash balances totaling 578 million located offshore and our net cash position was 219 million at the end of June .

Charles Lauber: We have cash balances totaling $578 million located offshore, and our net cash position was $219 million at the end of June. During the first half of 2019, we repurchased approximately 2.8 million shares of common stock for a total of $133 million. Through yesterday, we purchased approximately 4 million shares at a cost of approximately $185 million, accelerating the pace of our repurchase due to valuation. Approximately 6.3 million shares remained on our existing repurchase authority at the end of June. We continue to see prolonged headwinds in the appliance market in China, and recent indications from our customers in China inform us that they will reduce orders for Q3.

We have cash balances totaling $578 million located offshore, and our net cash position was $219 million at the end of June. During the first half of 2019, we repurchased approximately 2.8 million shares of common stock for a total of $133 million. Through yesterday, we purchased approximately 4 million shares at a cost of approximately $185 million, accelerating the pace of our repurchase due to valuation. Approximately 6.3 million shares remained on our existing repurchase authority at the end of June. We continue to see prolonged headwinds in the appliance market in China, and recent indications from our customers in China inform us that they will reduce orders for Q3.

During the first half of 2019, we repurchased approximately 2.8 million shares of common stock for a total of 133 million.

Through yesterday, we purchased approximately 4 million shares at a cost of approximately 185 million in accelerating the pace of our repurchase through the valuation.

Approximately 6.3 million shares remained on our existing repurchase authority at the end of June .

We continue to see prolong headwinds in the appliance market in China in recent indications from our customers in China formats that they will reduce orders for the third quarter.

Charles Lauber: As a result, we have revised our 2019 EPS guidance to a range of between $2.35 and $2.41 per share, a 9% decline at the midpoint compared to last year. We expect our cash flow from operations in 2019 to be approximately $400 million, compared with $450 million in 2018, primarily due to lower earnings. Our 2019 capital spending plans are approximately $85 million, and our depreciation and amortization expense is expected to be approximately $75 million in 2019. Our corporate and other expenses are expected to be approximately $49 million in 2019, slightly higher than last year due to inflation. Our expected effective tax rate is expected to be approximately 22%.

As a result, we have revised our 2019 EPS guidance to a range of between $2.35 and $2.41 per share, a 9% decline at the midpoint compared to last year. We expect our cash flow from operations in 2019 to be approximately $400 million, compared with $450 million in 2018, primarily due to lower earnings. Our 2019 capital spending plans are approximately $85 million, and our depreciation and amortization expense is expected to be approximately $75 million in 2019. Our corporate and other expenses are expected to be approximately $49 million in 2019, slightly higher than last year due to inflation. Our expected effective tax rate is expected to be approximately 22%.

As a result, we have revised our 2019 EPS guidance to a range of between $2.35 in $2.41 per share.

A 9% decline at the midpoint compared to last year.

We expect our cash flow from operations in 2019 to be approximately 400 million compared with 450 in 2018, primarily due to lower earnings.

Our 2019 capital spending plans are across approximately $85 million and our depreciation and amortization expense expenses expected to be approximately 75 million in 2019.

Our corporate and other expenses are expected to be approximately 49 million in 2019 slightly higher than last year due to inflation.

Our expected effective tax rate is expected to be approximately 22%.

Charles Lauber: We expect to repurchase our shares in the amount of $300 million in 2019. We expect our diluted outstanding shares in 2019 will be approximately 167.67 million. I will now turn the call back to Kevin, who will summarize our guidance and business assumptions for 2019, beginning on slide 10. Kevin?

We expect to repurchase our shares in the amount of $300 million in 2019. We expect our diluted outstanding shares in 2019 will be approximately 167.67 million. I will now turn the call back to Kevin, who will summarize our guidance and business assumptions for 2019, beginning on slide 10. Kevin?

We expect to repurchase our shares and the amount of 300 million in 2019.

We expect our diluted outstanding shares in 2019 will be approximately 100 767 million.

I'll now turn the call back to Kevin.

I will summarize our guidance and business assumptions for 2019, beginning on slide 10.

Kevin Wheeler: Okay, great. Thank you, Chuck. Our outlook for 2019 includes the following assumptions. We project US residential water heater industry volumes will be down 50,000 to 100,000 units in 2019, as replacement remains stable, but new home construction appears to be lackluster due to labor shortages and weather delays. Commercial industry water heater volumes are expected to be up 1%. Based on boiler sales growth of 7% in the first half, we expect our North America boiler sales to grow approximately 7% for the full year. We project India water heater EBIT will be positive in 2019, and improvements to continue for water treatment in 2019, that overall in India, we will be profitable in 2020.

Okay, great. Thank you Chuck.

Our outlook for 2019 includes the following assumptions.

We project us residential water heater industry volumes will be down 50000 to 100000 units in 2019 as replacement NIM remains stable, but new home construction appears to be lack luster due to labor shortages and weather delays.

Commercial industry water heater volumes are expected to be up 1%.

Based on boiler sales growth of 7% in the first half we expect our North America wireless sales to grow approximately 7% for the full year.

We project the Indian water heater EBIT will be positive in 2019 and improvements to continue for water treatment in 2019.

Overall in India, we would be profitable in 2020.

Kevin Wheeler: Our forecast for the Chinese currency in 2019 is essentially level with where it is today and weaker than last year. Essentially, all of the negative FX impact occurred in the first half of 2019. We see continued and prolonged headwinds in the appliance channel in China. Our third-party analysis of overall market performance in Q2 showed the electric water heater market was down 8% to 9%, gas tankless water heaters down 2% to 3%, and water treatment systems down 1% to 2%. As previously discussed, we estimated 2018 China sales increased due to distributor inventory build, primarily in the first half of 2018. We are assuming continued weakness in the China consumer demand for the full year in 2019. We continue to improve our process to quantify inventories.

Our forecast for the Chinese currency in 2019 is essentially level with where it is today and weaker than last year. Essentially, all of the negative FX impact occurred in the first half of 2019. We see continued and prolonged headwinds in the appliance channel in China. Our third-party analysis of overall market performance in Q2 showed the electric water heater market was down 8% to 9%, gas tankless water heaters down 2% to 3%, and water treatment systems down 1% to 2%. As previously discussed, we estimated 2018 China sales increased due to distributor inventory build, primarily in the first half of 2018. We are assuming continued weakness in the China consumer demand for the full year in 2019. We continue to improve our process to quantify inventories.

Our forecast for the Chinese currency in 2019 is essentially level with where it is today and weaker than last year.

Essentially all of the negative FX impact occurred in the first half of 2019.

We see continued and prolong headwinds in the appliance channel in China.

Our third party analysis of overall market performance in the second quarter showed the electric water heater market was down 8% to 9%.

Gas tankless water heaters down, 2% to 3% and water treatment systems down 1% to 2%.

As previously discussed we estimated 2018, China sales increased due to distributor inventory build primarily in the first half of 2018.

We are assuming continued weakness in the China consumer demand for the full year in 2019.

We continue to improve our process to quantify inventories, while we experienced seasonality a normal inventory level would be two to three months.

Kevin Wheeler: While we experience seasonality, a normal inventory level would be 2 to 3 months. Our current view is that the channel inventory is approximately 4 months. Based on our recent conversations with key customers, we expect channel inventory levels to decline over the back half of the year to approach normal channel inventory levels by the end of 2019. Due to the 2018 channel inventory build, and with the impact of the expected 2019 channel inventory decline, we are projecting full year sales to be down approximately 16% to 17% in local currency terms. Combined with our expected 3 points of unfavorable currency translation, our 2019 sales projection is a decline of approximately 19% to 20%.

While we experience seasonality, a normal inventory level would be 2 to 3 months. Our current view is that the channel inventory is approximately 4 months. Based on our recent conversations with key customers, we expect channel inventory levels to decline over the back half of the year to approach normal channel inventory levels by the end of 2019. Due to the 2018 channel inventory build, and with the impact of the expected 2019 channel inventory decline, we are projecting full year sales to be down approximately 16% to 17% in local currency terms. Combined with our expected 3 points of unfavorable currency translation, our 2019 sales projection is a decline of approximately 19% to 20%.

Our current view is that the channel inventories approximately four months.

Based on our recent conversations with key customers, we expect channel inventory levels to decline over the back half of the year to approaching normal channel inventory levels by the end of 2019.

Due to the 2018 channel inventory build and what the impact of the expected 2019 channel inventory decline.

We are projecting full year sales to be down approximately 16% to 17% in local currency terms.

Combined with our expected three points of unfavorable currency translation. Our 2019 sales projection is a decline of approximately 19% to 20%.

Kevin Wheeler: We expect Q3 2019 China channel sales to be down 20% compared to Q3 2018. Due to the decline in sales, we expect plant inefficiencies, reductions in headcount, and higher mix of mid-priced products will have a slightly lower contribution margin, which will weigh on margins. We forecast China Q3 2019 operating margin will essentially break even. We expect Q4 performance to be similar to Q2, as Q4 is typically the strongest quarter of the year, offset by expected continued channel inventory declines. Please advance to slide 11. We see continued momentum in North America with our water heater, boiler, and water treatment products, collectively expected to grow up to 6% in 2019, including approximately $40 million in Water-Right sales.

We expect Q3 2019 China channel sales to be down 20% compared to Q3 2018. Due to the decline in sales, we expect plant inefficiencies, reductions in headcount, and higher mix of mid-priced products will have a slightly lower contribution margin, which will weigh on margins. We forecast China Q3 2019 operating margin will essentially break even. We expect Q4 performance to be similar to Q2, as Q4 is typically the strongest quarter of the year, offset by expected continued channel inventory declines. Please advance to slide 11. We see continued momentum in North America with our water heater, boiler, and water treatment products, collectively expected to grow up to 6% in 2019, including approximately $40 million in Water-Right sales.

We expect third quarter 2019 channel China's sales to be down 20% compared to the third quarter 2018.

Due to the decline in sales, we expect quite the fit inefficiencies.

The reductions.

In head count and higher mix of mid priced products will have a slightly lower contribution margin will weigh on margins.

We forecast China third quarter 2019, operating margin will essentially breakeven.

We expect fourth quarter performance to be similar to the second quarter as the fourth quarter is typically the strongest quarter of the year offset by expected continued channel inventory declines.

Please advance to slide 11.

We continued we see continued momentum in North America, with a water heater boiler and water treatment products collectively expected to grow up to 6% in 2019, including approximately $40 million and water rights sales.

Kevin Wheeler: Our profitability improvements and sales growth in India is also encouraging. Our business model in China is solid, and we are committed to the region for the long term. We have near-term challenges to navigate through in China as the economy remains weak. We continue to stay close to our distribution customers as they work down channel inventory, and we continue to review our cost structure to rightsize the business. We project revenue will decline by 2 to 2.5% for the year in US dollars, and 1 to 1.5% in local currency. EPS is projected to be between $2.35 and $2.41. We expect North America segment margins to be between 23.5 and 23.75%, and rest of world segment margins to be approximately 6%.

Our profitability improvements and sales growth in India is also encouraging. Our business model in China is solid, and we are committed to the region for the long term. We have near-term challenges to navigate through in China as the economy remains weak. We continue to stay close to our distribution customers as they work down channel inventory, and we continue to review our cost structure to rightsize the business. We project revenue will decline by 2 to 2.5% for the year in US dollars, and 1 to 1.5% in local currency. EPS is projected to be between $2.35 and $2.41. We expect North America segment margins to be between 23.5 and 23.75%, and rest of world segment margins to be approximately 6%.

Our profitability improvements and sales growth in India is also encouraging.

Our business model in China is solid and we are committed to the region for the long term.

We have near term challenges to navigate through in China as the economy remains weak we continue to stay close to our distribution customers as they work down channel inventory.

And we continue to review our cost structure to right size the business.

We project revenue will decline by 2% to 2.5% for the year in us dollars.

And 1% to 1.5% in local currency.

EPS is projected to be between $2.35 and $2.41.

We expect North America segment margins to be between 23, and a half and 23 and three quarter percent.

And rest of World segment margins to be approximately 6%.

Kevin Wheeler: Our stable replacement markets, which we believe represent approximately 85% of North America water heater and boiler volumes, and the long-term growth drivers in water treatment solutions and boilers across North America, and favorable demographics in China and India, coupled with our strong balance sheet, position us well to enhance shareholder value. That concludes our prepared remarks, and we are now available for your questions.

Our stable replacement markets, which we believe represent approximately 85% of North America water heater and boiler volumes, and the long-term growth drivers in water treatment solutions and boilers across North America, and favorable demographics in China and India, coupled with our strong balance sheet, position us well to enhance shareholder value. That concludes our prepared remarks, and we are now available for your questions.

Our stable replacement markets, which we believe represent approximately 85% of North America water heater and boiler volumes and the long term growth drivers on water treatment solutions and borders across North America.

And favorable demographics in China in India, coupled with our strong balance sheet position us well to enhance shareholder value.

That concludes our prepared remarks, and we're now available for your questions.

Operator: Ladies and gentlemen, if you have a question at this time, please press the star and the number one key on your telephone keypad. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. To prevent any background noise, we ask you please place your line on mute once your question has been stated. As a reminder, please limit yourself to one question and one follow-up. Our first question comes from the line of Saree Boroditsky with Jefferies. Your line is open.

Ladies and gentlemen, if you have a question at this time. Please press the star and the number one key on your telephone keypad. If your question has been answered or you wish from move yourself from the queue. Please press the pound.

To prevent any background noise. Please your line on mute. Once your question has been stated as a reminder, please limit yourself to one question and one follow up.

Our first question comes from the line of surgery.

For a discussion with Jefferies. Your line is open.

[Company Representative] (Aiera): Good morning.

Saree Boroditsky: Good morning.

Good morning.

Kevin Wheeler: Good morning.

[Company Representative] (Aiera): Could you update us on how you're thinking about price cost in North America in the second half of the year and maybe into 2020, given your price increase announced today and then lower steel costs?

Saree Boroditsky: Could you update us on how you're thinking about price cost in North America in the second half of the year and maybe into 2020, given your price increase announced today and then lower steel costs?

Good morning.

Could you update us on how you're thinking about price cost in North America in the second half of the year, maybe in to 2020, given your price increase announced today and then lower steel costs.

So we.

Kevin Wheeler: You know, so we, you know, we've been, typically, we don't talk about price. I would say historically, we've been able to offset increased costs with pricing action.

We've been typically we we don't talk about price.

I would say historically, we've been able to offset increased costs with pricing actions.

Charles Lauber: ... Our assumption, I'll tell you about our forecast and assumption on steel, is that currently we forecast that it'll, you know, it'll be like it'll be this level for the rest of the year. And, you know, we have seen recently, this last month, some increases in steel price, or some indication steel prices may be going up.

Our assumption I'll tell you that our forecast an assumption on steel is that currently.

We forecast that.

It'll be like it will be this level for the rest of the year.

And.

We have seen recently this last month.

Increases in steel prices are some indication steel prices may be going up.

Okay, and then I believe you previously done with head count reductions in China, given a lower outlook would you reduce this more or do you believe you have already rightsize the business for current market conditions.

[Company Representative] (Aiera): Okay. And then I believe you were previously done with headcount reductions in China, but given the lower outlook, would you reduce this more, or do you believe you have already right-sized the business for current market conditions?

Saree Boroditsky: Okay. And then I believe you were previously done with headcount reductions in China, but given the lower outlook, would you reduce this more, or do you believe you have already right-sized the business for current market conditions?

Charles Lauber: No, we're gonna continue to review the business, as we always have, and we'll be aggressive. The first headcount reduction was about 10%. We completed that in the first quarter of this last year. We are planning an additional 5% reduction in Q3. And then the SG&A that we continue to look at and scrutinize to make sure that we're spending our money appropriately there and investing appropriately. And we're gonna continue to close on productive stores. And so at the end, as we look at it, as the market was to and continues to evolve, we'll aggressively adjust our business, and we will right-size the business to the current environment.

No we're going to continue to review the business as we always have and what will be aggressive the the first head count reduction was about 10% we completed that in the first quarter of this last year. We are planning an additional 5% reduction in Q3.

And then the SG and say that we continue to look at and and scrutinize to make sure that.

We're spending our our money appropriately there and investing appropriately and we're going to continue to close unproductive stores and and so at the end.

As we look at it as the market was too and continues to evolve we will aggressively adjust our business and we will right size the business to the current environment.

I appreciate it that was helpful. Thank you.

[Company Representative] (Aiera): Appreciated. That was helpful. Thank you.

Saree Boroditsky: Appreciated. That was helpful. Thank you.

Thank you our following question comes from Oliver Alkire Chief.

Operator: Thank you. And our following question comes from Alvaro Lacayo with G Research. Your line is open.

Research Your line is open.

[Analyst] (G Research): Thank you for taking my questions. I wanted to start with the rest of world and maybe if you could try to categorize for us the visibility that you see. I know you mentioned that you believe that the inventories may be normalized towards the end of the year, but given the big step change from last quarter to this quarter, maybe if you could just talk about visibility and what you could see going forward. And in terms of the numbers you highlighted about the volume declines, has that stabilized, or has that, in your view, or do you, has that not found a bottom in terms of year-on-year declines?

Alvaro Lacayo: Thank you for taking my questions. I wanted to start with the rest of world and maybe if you could try to categorize for us the visibility that you see. I know you mentioned that you believe that the inventories may be normalized towards the end of the year, but given the big step change from last quarter to this quarter, maybe if you could just talk about visibility and what you could see going forward. And in terms of the numbers you highlighted about the volume declines, has that stabilized, or has that, in your view, or do you, has that not found a bottom in terms of year-on-year declines?

Thank you for taking my question.

I wanted to start with the rest of world and maybe if you could try to categorize for us the visibility that you see I know you mentioned that you believe that the inventories may be more normalize towards the end of the year, but given the big step change from last quarter. This quarter, maybe we could just talk about visibility on what you can see going forward.

And in terms of the <unk>. The numbers you highlighted about the volume declines has that stabilized or has that's in your view or do they not found a bottom in terms of year on year declines.

This is Chuck let me, let me just talk a little bit about China.

Charles Lauber: This is Chuck. Let me just talk a little bit about China. So what we've talked about in the past is a weak economy, and that continues. So we've continued to see weak economy, that really has not changed. We've talked about elevated inventory in the channel. That has not changed. The elevated inventory remains roughly on where it has been, really, since we started talking about it, June 2018. We've also talked about, you know, our outlook last call said, assuming flat channel inventory, we'd be down 6% to 8%. You know, what's changed in our visibility is that recently, as we come out of June and had conversations with customers, we've seen, you know, customers telling us that they are gonna order less in Q3.

So what weve talked about in the past as a weak economy and that continues so we've continued to see weak economy.

That really has not changed.

We've talked about elevated inventory in the channel.

That has not changed the elevated inventory remains roughly where it has been really since we started talking about at June of 2018.

We've also talked about assuming a chance our outlook last call said, assuming flat channel inventory, we'd be down 6% to 8%.

What's changing our visibility is that recently.

As we come out of June and had conversations with customers, we've seen customers, telling us that they are going to order less than the third quarter.

Charles Lauber: Now, typically, in the Q3, and we talked about this on last year's call, because the Q4 is typically our strongest quarter in the market, we would see inventories go up. What we're looking at now and the visibility that we see, and we've, you know, we've scrubbed it, and we think we have a clear, we certainly have a clearer picture in the last couple of weeks, is that we would expect that those inventories would start to come down in the Q3. And by the end of the year, we'd be going out of the year, at least in our assumptions, at an inventory level, roughly at what we went out of 2017 at.

Now, typically, in the Q3, and we talked about this on last year's call, because the Q4 is typically our strongest quarter in the market, we would see inventories go up. What we're looking at now and the visibility that we see, and we've, you know, we've scrubbed it, and we think we have a clear, we certainly have a clearer picture in the last couple of weeks, is that we would expect that those inventories would start to come down in the Q3. And by the end of the year, we'd be going out of the year, at least in our assumptions, at an inventory level, roughly at what we went out of 2017 at.

Now typically in the third quarter and we talked about this on last year's call because of the fourth quarter is typically our strongest call up a strongest quarter quarter in the market.

We would see inventories go up.

What we're looking at now and the visibility that we see and we've we've scrubbed it and we think we have a clear we certainly have a clearer picture in the last couple of weeks.

Is that we would expect that those inventories would start to come down in the third quarter and by the end of the year, we'd be going out of the year at least in our assumptions at an inventory level roughly at what we went out to 2017 that so really really reversing out the inventory that went into the channel last year and would be flushed out and back to what Kevin said more normalized two to three month inventory levels by the end of this year.

Charles Lauber: So really, really reversing out the inventory that went into the channel last year, and would be flushed out and back to what Kevin said, more normalized 2- to 3-month inventory levels by the end of this year.

So really, really reversing out the inventory that went into the channel last year, and would be flushed out and back to what Kevin said, more normalized 2- to 3-month inventory levels by the end of this year.

Got it thank you.

[Analyst] (G Research): Got it. Thank you.

Alvaro Lacayo: Got it. Thank you.

Charles Lauber: And just to add on to that, you asked if we've hit the bottom, and we certainly hope so. And we're still gonna sit back and make sure that we, we're watching our business. And as I mentioned to the previous caller, if additional adjustments are needed, we'll aggressively go after those to continue to right-size the business. But we do believe that we've given the best outlook based on all what Chuck had said and our visibility into the inventory, and we hope this is the bottom.

And just to add onto that you have stuff we've hit the bottom and we certainly hope so.

And we're we're still going to sit back and make sure that we're watching our business and as I mentioned to the previous caller.

If the additional adjustments are needed we will aggressively go after those two to continue to right size the business, but we do believe that weve.

We've given the best outlook based on all that with Chuck had said and our visibility into the inventory. We hope this is the bottom.

And in terms of the the the cost reduction initiatives that you mentioned previously can you maybe quantify for us how much savings you expect from the initiatives Youve already taken.

[Analyst] (G Research): In terms of the cost reduction initiative that you mentioned previously, can you maybe quantify for us how much savings you expect from the initiatives you've already taken?

Alvaro Lacayo: In terms of the cost reduction initiative that you mentioned previously, can you maybe quantify for us how much savings you expect from the initiatives you've already taken?

Charles Lauber: Yeah. So for the year, you know, it's approximately year-over-year $24 to 25 million of savings within the SG&A category. Think of that in terms of, you know, it's split roughly first half, back half, equally. The back half is a little bit less, and that's because we've got some investments in advertising we're gonna do to, you know, for Q4. But that's roughly the amount. There's a little headwind on the back half because we do have some severance costs that would be associated with the headcount reductions.

Yes, so for the year, it's approximately year over year $24 million to $25 million of savings within the SGN a category.

Think of that in terms of the split roughly first half back half.

Equally.

The back half is a little bit less and thats because weve got some investments in advertising, we're going to do that for the fourth quarter.

But thats thats roughly the amount theres little headwind on the back half as we do have some.

Severance costs that would be associated with the headcount reductions.

Thank you.

Operator: Thank you. Our following question comes from the line of Robert McCarthy with Stephens. Your line is open.

Our following question comes from the line of Robert Mccarthy with Stephens. Your line is open.

[Analyst] (Stephens): Good morning, everyone. How are you doing?

Hi, good afternoon, good morning, everyone, how you doing.

Robert McCarthy: Good morning, everyone. How are you doing?

Charles Lauber: Good morning.

Good morning, Ed.

Operator: Good.

[Analyst] (Stephens): Good. So I guess the first question is, thinking through, you know, kind of. I think you've guided the flat margins in China in Q3 and then 6% for the full year. You talked about some deleverage there. Could you just walk us through kind of a bridge of where you think... You know, because I think your initial guide was kind of in the 11% range. Could you just bridge us, you know, what's deleverage, what's restructuring? What are the buckets, you know, sales volume, that get you from kind of the 11% to the 6% for the full year?

Robert McCarthy: Good. So I guess the first question is, thinking through, you know, kind of. I think you've guided the flat margins in China in Q3 and then 6% for the full year. You talked about some deleverage there. Could you just walk us through kind of a bridge of where you think... You know, because I think your initial guide was kind of in the 11% range. Could you just bridge us, you know, what's deleverage, what's restructuring? What are the buckets, you know, sales volume, that get you from kind of the 11% to the 6% for the full year?

Good so I guess the first question is thinking through.

Kind of I think you guided to flat margins in China in the third quarter and that 6% for the full year you talked about some de leverage there could you just walk us through kind of a bridge of where do you think.

Because I think your initial guide was kind of the 11% range can you just bridge us what do you what's the leverage whats restructuring what is what are the buckets sales volume that get you from kind of the 11 to the six for the full year.

Charles Lauber: ... Yeah, I mean, so I'll just kind of take it in the big bucket. So we talked about the inventory coming down. That's a pretty big bucket. It's rather acute in the Q3. So when we're thinking about Q3, you know, you have to kind of look to the Q1 to find something that's comparable. You know, it's 20% down from last year. And at that level, you know, we've got some pretty meaningful plant inefficiencies that we had not expected before, that gets us through the Q3. And then the Q4 looks quite a bit like the Q2.

Yes, so the other kind of ticket in the big buckets. So we talked about the inventory coming down that's a pretty big bucket.

It's rather acute third quarter, so youre thinking about third quarter, you have to kind of look to the first quarter to find something that is comparable.

Which 20% down.

From last year and that that at that level, we've got some pretty meaningful point of inefficiencies.

That we were not had an expected before that gets us through the third quarter.

And in a fourth quarter looks quite a bit like the second quarter. So you still have some headwinds on channel inventory, but we get back to a little bit more of a normal and that normalize, but a little bit higher volume level that runs through the plant. So.

Charles Lauber: So we still have some headwinds on channel inventory, but we get back to a little bit more of a normal, not normalized, but a little bit higher volume level that runs through the plant. So you know, when you kind of take all the buckets together, first quarter, or I'm sorry, second quarter, just gets hit fairly hard by the lower volume.

So we still have some headwinds on channel inventory, but we get back to a little bit more of a normal, not normalized, but a little bit higher volume level that runs through the plant. So you know, when you kind of take all the buckets together, first quarter, or I'm sorry, second quarter, just gets hit fairly hard by the lower volume.

When you kind of take all the buckets together.

First quarter.

Or I am sorry.

Second quarter, just gets hit fairly hard by the lower volume.

[Analyst] (Stephens): Okay. And then, you know, maybe as a follow-up, you know, how are you thinking about perhaps your balance sheet right now in terms of, you know, M&A, you know, maybe considering, I mean, obviously, it looks like today there's been anticipation of this cut given how your stock has traded intraday. But nevertheless, you're in a bit of a fight of a lifetime in terms of what's going on in China and the organic growth story. If you see a material market break with your stock, do you think given the fact that you've got a balance sheet that's maybe suboptimal from a cash redeployment standpoint, you would consider being very aggressive in terms of share buyback?

Robert McCarthy: Okay. And then, you know, maybe as a follow-up, you know, how are you thinking about perhaps your balance sheet right now in terms of, you know, M&A, you know, maybe considering, I mean, obviously, it looks like today there's been anticipation of this cut given how your stock has traded intraday. But nevertheless, you're in a bit of a fight of a lifetime in terms of what's going on in China and the organic growth story. If you see a material market break with your stock, do you think given the fact that you've got a balance sheet that's maybe suboptimal from a cash redeployment standpoint, you would consider being very aggressive in terms of share buyback?

Okay and then.

Maybe as a follow up.

How are you thinking about perhaps your balance sheet right now in terms of M&A.

Maybe considering I mean, obviously it looks like today, there's been the anticipation of this cut given how your stock has traded intra day.

But nevertheless, you are in your in a bit of the fight of a lifetime in terms of what's going on in China, and the organic growth story, if you see a material market break with your stock.

Do you think given the fact that you've got a balance sheet. That's maybe sub optimal from a cash redeployment standpoint, you would consider being very aggressive in terms of share buyback because if you think about it you might be able to get yours.

[Analyst] (Stephens): Because if you think about it, you might be able to get your business at a substantial discount over the next 12 months as you kind of rightsize and restructure this business. How do you think about that in this environment?

Because if you think about it, you might be able to get your business at a substantial discount over the next 12 months as you kind of rightsize and restructure this business. How do you think about that in this environment?

Your business at a substantial discount over the next 12 months as you kind of right size and restructure this business. How do you think about that in this environment.

Charles Lauber: Well, just back to China, I mean, the China change that we have is, you know, we think we'll work through the inventories by the end of the year. Once we get through that, we would expect a bit more normalized operating performance. So we certainly have seen changes in China and, you know, we're gonna work through them by the end of the year. So thinking of our balance sheet, you know, we're gonna buy back $300 million of shares, or at least we're projected to buy back $300 million of shares this year. So we're gonna continue to do that. You know, so we're on track to repurchase more than we did last year.

Well I just back to China in the China.

Change that we have is we think we'll work through the inventories by the end of the year.

Once we get through that we would expect a bit more normalized operating performance. So we we certainly have seen changes in China and.

We're going to work through and by the end of the year.

So thinking our balance sheet, we're going to buy back 300 million of shares or at least were projected to buy back 300 million of shares. This year. So we're going to continue to do that.

So we are on track to repurchase more than we did did last year.

Kevin Wheeler: You know, I'd like to add on to that about China a little bit. Certainly, we're in a challenging environment. I wouldn't categorize it a fight of a lifetime. You know, we have an excellent management team that's gonna work our way through these challenging times, and we'll come out the other end as a strong organization. You know, positively, we have some great mid-price point products that are gaining share. Our share in Q2 was higher than Q1. So there's... And there's been no meaningful trading down. There's been really no noticeable effect to our brand. And as we look out, we still look at China as a long-term growth part of our business. Wouldn't want to be any other place than China when it comes to the growth.

Not that add onto that about China, a little bit.

Certainly we're in a challenging in white environment.

I wouldn't categorize it as quite of a lifetime.

We have an excellent.

Management team, that's going to work our way through these challenging times and will come out the other end as a strong organization.

You know positively we have some great mid price point products that are gaining share our share in Q2 was higher than Q1. So there's and there has been no meaningful trading down there's been really no noticeable effect or to our brand.

And as we look out we still look at China as a long term growth part of our business.

We want to be any other place then China when it comes to the growth.

Kevin Wheeler: When you look at it, the urbanization we still believe has a long runway, the movement to the middle class. So yeah, we have some short-term challenges here. We have the team in place. We're making the moves we believe are the right moves in the current environment, and we'll continue to do that. We know how to do that. Then as we come out the other side, the company will be stronger, we'll probably be a bit leaner, and we'll be in position to take advantage of one of the best growth markets in the world. So, it's important for us to do the things we're doing.

When you look at it, the urbanization we still believe has a long runway, the movement to the middle class. So yeah, we have some short-term challenges here. We have the team in place. We're making the moves we believe are the right moves in the current environment, and we'll continue to do that. We know how to do that. Then as we come out the other side, the company will be stronger, we'll probably be a bit leaner, and we'll be in position to take advantage of one of the best growth markets in the world. So, it's important for us to do the things we're doing.

And when you look at it the urbanization.

We still believe it has a long runway.

The move into the Middle class. So yes, we have some short term challenges here, we have the team in place we're making the moves we believe are the right moves.

In the current environment and we'll continue to do that we know how to do that and then as we come out the other side.

The company will be stronger will probably be a bit leaner and we'll be in position to take advantage of one of the best growth markets in the world. So it's important for us to do the things we're doing but again I believe our management team has it under control and we have a line of sight of what we're going to do to manage our way through this challenging environment.

Kevin Wheeler: But again, I believe our management team has it under control, and we have a line of sight of what we're going to do to, you know, manage our way through this challenging environment.

[Analyst] (Stephens): Last question. Given, you know, what you see in the US in terms of, you know, slightly negative organic growth, and obviously, this could just be, you know, just timing and price increases, and still, you still feel good about the fundamental long-term outlook for, the US? And obviously, that could impact, obviously, margins, because you got great margins there, you have for some time, and that's, you know, I've been skeptical of it, and you've been, you've delivered, which has been great.

Robert McCarthy: Last question. Given, you know, what you see in the US in terms of, you know, slightly negative organic growth, and obviously, this could just be, you know, just timing and price increases, and still, you still feel good about the fundamental long-term outlook for, the US? And obviously, that could impact, obviously, margins, because you got great margins there, you have for some time, and that's, you know, I've been skeptical of it, and you've been, you've delivered, which has been great.

Last question.

Given what you see in the us in terms of slightly negative organic growth and obviously this could just be just timing.

Price increases and still you still feel good about the fundamental long term outlook for us and obviously that could impact obviously margins because you got great margins. There you have for some time and Thats I've been skeptical of it you've been you've delivered which has been great. But do you see anything on the horizon that would give you pause that the market's changing or the cycles changing where you think that the organic growth there is going to be more challenging going forward than it has been over the past several years, where you've had.

[Analyst] (Stephens): But do you see anything on the horizon that would give you pause that the market's changing or the cycle's changing, where you think that the organic growth there is gonna be more challenging going forward than it has been over the past several years, where you've had, you know, very, very solid, stable, organic growth in North America?

But do you see anything on the horizon that would give you pause that the market's changing or the cycle's changing, where you think that the organic growth there is gonna be more challenging going forward than it has been over the past several years, where you've had, you know, very, very solid, stable, organic growth in North America?

Very very solid stable organic growth in North America.

Kevin Wheeler: Yeah, to answer your question first, we still believe there's stable organic growth there. What's going on, in our opinion, and what we believe is, you know, if you look at the market through May, residential water heaters, the shipments in the industry were down about 150,000 units. And as we look at our June sales and our sales, and we look out, we think it's gonna be down another 100,000 units. And as we look at it, there's certainly been an impact of a wet spring that's limited new construction. There continues to be a labor shortage with most of the builders and so forth.

Yes to answer your question first.

We still believe there is stable organic growth there what's going on in our opinion and what we believe is if you look at the market through may residential water heaters. The shipments in the industry were down about a 150000 units and as we look at our June sales and our sales and we look out we think it is going to be down another 100000 units.

And as we look at it.

There's certainly been an impact of a wet spring that's limited new construction there continues to be a labor shortage with most of the builders and and so forth. So as we go forward. The reason we have a declining just we just don't think with the labor shortages out there that the industry can make up the full 250000 units. We think is going to be somewhere in the 150000 range, but what's important and we said in our opening comments, we still see a very stable replacement market.

Kevin Wheeler: So as we go forward, the reason we have it declining is we just don't think with the labor shortages out there, that the industry can make up the full 250,000 units. We think it's gonna be somewhere in the 150,000 range. But what's important, and we said in our opening comments, we still see a very stable replacement market. And again, as we go forward, we have no change to our, our North American growth pattern. Water heaters are at 4%. We believe Lochinvar will continue to grow at that, eight to 10% range. So no, that was a long answer, but no, the answer is we feel really good about North America. We think this is just...

So as we go forward, the reason we have it declining is we just don't think with the labor shortages out there, that the industry can make up the full 250,000 units. We think it's gonna be somewhere in the 150,000 range. But what's important, and we said in our opening comments, we still see a very stable replacement market. And again, as we go forward, we have no change to our, our North American growth pattern. Water heaters are at 4%. We believe Lochinvar will continue to grow at that, eight to 10% range. So no, that was a long answer, but no, the answer is we feel really good about North America. We think this is just...

And again as we go forward, we have no change to our North American growth pattern water heaters are at 4%. We believe lachmar will continue to grow at that 8% to 10% range. So no.

It was a long answer but no. The answer is we feel really good about North America. We think this is just.

Kevin Wheeler: You know, some weather-related issues, and hopefully as the labor shortages in the market start to become less, that the new construction will continue to move forward. So no change in our outlook on either of our North American businesses.

Some weather related issues and hopefully as the the labor shortages in the market start to.

Become less that the new construction will continue to move forward. So no change in our outlook on either our North American businesses.

Jeff Hammond: Well, gentlemen, good luck. The market seems to be believing you today.

Robert McCarthy: Well, gentlemen, good luck. The market seems to be believing you today.

Well gentlemen, good luck the market seems to be believing you today.

Charles Lauber: Thank you.

Thank you.

Operator: Thank you. And our next question comes from Matt Somerville with D.A. Davidson. Your line is open.

Thank you and our next question comes from Matt Summerville.

Davidson Your line is open.

Matt Somerville: Thanks. A couple questions. Why do you think it's taken either the channel or A. O. Smith so long to react to the inventory situation in China?

Thanks couple of questions why do you think it's taken either the channel or A.O. Smith, so long to react to the inventory situation in China.

Charles Lauber: You know, we've had a prolonged slowdown in China, right? So it's been a number of quarters that we've been talking about the elevated level and the prolonged slowdown. You know, June, typically, is a favorable month for the appliance channel. It's a high promotion month. I think there was some disappointment, perhaps, in June. Maybe it wasn't as high as what expectations were on the customer base.

We've had a prolonged slowdown in China right. So it's been a number of quarters that we've been talking about the elevated level in the prolonged slowdown.

June typically is a favorable month for the clients channel.

It's a high promotion month I think there is some disappointment perhaps in June .

Maybe wasn't as high as what expectations were in the customer base and as we came on in June .

Charles Lauber: As we came out of June and the prolonged level of what the downturn is, I believe our customers just said, "You know, it's time to delever a bit." So I would say those data points. You know, last year, we went into Q4 with pretty high inventory levels and wanted and expected that the channel would, you know, flush those out, and it was a little disappointing. So, you know, when our customers start looking back and historically and look at the data points of last Q4, June, and maybe what they see in front of them, they've decided to take action before, you know, right in the Q3.

As we came out of June and the prolonged level of what the downturn is, I believe our customers just said, "You know, it's time to delever a bit." So I would say those data points. You know, last year, we went into Q4 with pretty high inventory levels and wanted and expected that the channel would, you know, flush those out, and it was a little disappointing. So, you know, when our customers start looking back and historically and look at the data points of last Q4, June, and maybe what they see in front of them, they've decided to take action before, you know, right in the Q3.

And the prolonged the prolonged level of of what the downturn is.

I believe our customers just said, it's time to de lever a bit so I would say those data points and last year, we went into Q4 with pretty high inventory levels and want it and expect that the channel would.

Flushes out and it was a little disappointing so.

When they start looking when our customers start looking back historically and look at the data points as last last fourth quarter June and maybe what they see in front of them they've decided to take action.

Before.

But in the third quarter.

Matt Somerville: So maybe if you can flesh out in Q2 then, and what your expectation is for the year between the water heater business, the water treatment business, and air purification in China. Can you give a little bit more granularity as to actual performance in Q2 and full year expectation for those three buckets?

So maybe if you can flush out in Q2 than in what your expectation is for the year between the water heater business is the water treatment business and air purification in China can you give a little bit more granularity as to actual performance in Q2 and full year expectation for those three buckets.

Charles Lauber: Well, let me, let me kind of carve out water heating and water treatment. So what water treatment... So for the quarter, water treatment was down about 12%, largely channel, channel flushing, or, you know, reduction of the channel inventory, impacted. When we look at our water treatment business over the course of the year, you know, we, we would expect to be down about 12%, on our sales. If you look at kind of the consumer demand, the customer demand, and what we're seeing on sell out, it's probably up about 8% to 10%. So we're seeing, we're seeing a little bit positive there. The water heater, you know, you gotta kind of look at the mix, right? So we've introduced some mid-range price products. We've introduced new products. We do have headwind on the water heater side.

Well, let me, let me kind of carve out water heating and water treatment so water treatment.

So for the quarter water treatment was down about 12%.

Largely channel.

Channel Flushing through reduction of the channel inventory.

Impacted when we look at our water treatment business over the course of the year.

We would expect to be down about 12% and our sales. If you look at kind of the consumer demand the customer demand and what we're seeing on sell out it's probably up about 8% to 10%.

So we're seeing we're seeing a little bit positive there.

The water heater, you got to kind of look at the mix right. So we've introduced some mid range price products. We've introduced new products, we do have headwind on the water heater side.

Charles Lauber: You know, our outlook for the back half of the year is to be similar to the first half of the year as far as consumer demand. We see, you know, we saw last year, 2018, slightly downtick on consumer demand from 2017, but we've seen the first half of 2018 be fairly similar to last year, and that's what we're assuming for the rest of the year.

You know, our outlook for the back half of the year is to be similar to the first half of the year as far as consumer demand. We see, you know, we saw last year, 2018, slightly downtick on consumer demand from 2017, but we've seen the first half of 2018 be fairly similar to last year, and that's what we're assuming for the rest of the year.

Our outlook for the back half of the year is to be similar to the first half of the year as far as consumer demand.

We see we saw last year 2018, slightly down tick and consumer demand from 2017, but we've seen the first half of 2018 be fairly similar to last year and Thats what were assuming for the rest of the year.

Thank you and our next question comes from Mike Halloran with Baird. Your line is open.

Operator: Thank you. Our next question comes from Mike Halloran with Baird. Your line is open.

Kevin Wheeler: Good morning, everyone.

Michael Halloran: Good morning, everyone.

Hi, good morning, everyone, Hey, Mayank.

Charles Lauber: Good morning, Mike.

Kevin Wheeler: So just continuing on that, you know, there's a lot of inventory machinations as well as just the timing of when you guys are manufacturing this year versus last year. Performance relative to the market in the core China product categories, how do you think that's tracked lately? And what's the assumption moving forward from here? Normally, the best tracking for us is market share. And so if you look at our product categories, we've started the year out a couple points down overall, but as we go forward, our market share in Q2 exceeded Q1. We're getting really good acceptance of our new products, mid-price point products in the market. So and as far as the premium channel, it's continuing to hold.

Michael Halloran: So just continuing on that, you know, there's a lot of inventory machinations as well as just the timing of when you guys are manufacturing this year versus last year. Performance relative to the market in the core China product categories, how do you think that's tracked lately? And what's the assumption moving forward from here? Normally, the best tracking for us is market share. And so if you look at our product categories, we've started the year out a couple points down overall, but as we go forward, our market share in Q2 exceeded Q1. We're getting really good acceptance of our new products, mid-price point products in the market. So and as far as the premium channel, it's continuing to hold.

So just continuing on that.

Yes, there is there's a lot of inventory machinations as well as just the timing of when you guys are manufacturing this year versus last year.

Performance relative to the market.

In the quarter, China product categories, how do you how do you think thats track lately.

And and what's the assumption moving forward from here.

Normally the best tracking for us is market share.

And so if you look at our product categories. We've.

We started the year out a couple of points down overall, but as we go forward.

Our market share in Q2 exceeded Q1, we're getting really good acceptance of our new products mid price point products in the market. So.

And as far as the premium channel is continuing to hold this down a couple points overall the channel.

Kevin Wheeler: It's down a couple points overall, the channel, but overall, it's holding. So as we go forward, we believe we're getting our fair share, and we're continuing to gain momentum on the online side of the business, as well as with our offline. So, you know, overall, we think we're getting our fair share, and we look for the back half on a sell out perspective, not so much a sell-in, 'cause that's the inventory side of it.

But the overall, what's holding so.

As we go forward, we believe we are getting.

Our fair share and we're continuing to gain momentum on the online side of the business as well as with our offline.

So overall, we think we're getting our fair share and we look forward to the back half on a sell out perspective, not so much a sell in because that's the inventory side of it yes.

Matt Somerville: Yep. Yep.

Michael Halloran: Yep. Yep.

Kevin Wheeler: We feel we'll continue to get our fair share and, you know, possibly move our market share up in a couple of categories that we were down a point or so.

Yes, we feel we'll we'll continue to get our fair share and.

And possibly move our market share up in a couple of categories that we were down a point or so.

Matt Somerville: So Kevin, was that commentary exclusive to the water heater business, or did that include treatment as well?

Michael Halloran: So Kevin, was that commentary exclusive to the water heater business, or did that include treatment as well?

So Kevin was that commentary exclusive to the water heater business or did that include treatment as well. It includes both yes. It includes both in now.

Kevin Wheeler: It includes both.

Charles Lauber: Yeah.

Kevin Wheeler: It includes both. It's you know, as we talk, we have so many different categories, but the three main categories that Chuck outlined, I feel comfortable that we'll be getting our fair share in all three of those categories.

As Weve as Weve talked me, we have so many different categories, but the three main categories that Chuck outlined.

I feel comfortable that we will be getting our fair share in all three of those categories.

Thank you and our next question comes from Jeff Hammond with Keybanc capital. Your line is open.

Operator: Thank you. And our next question comes from Jeff Hammond with KeyBanc Capital. Your line is open.

Jeff Hammond: Hey, good morning.

Hey, good morning.

Charles Lauber: Morning, Jeff.

Kevin Wheeler: Good morning.

Hi, good morning.

Jeff Hammond: Can you just talk about market share, how your market share is holding in North America on the res commercial water heater side? And then just how are things progressing relative to plan within North America water treatment?

Can you just talk about market share how your market share is holding in North America on the on the Reds commercial water heater side and then just how are things progressing relative to plan within North America water treatment.

Kevin Wheeler: Well, let me take the North America water heater residential share question. We had a very good Q2, and our market share on all of our key categories, particularly residential and commercial, we're back in line with our 2018 levels. Maybe actually slightly up. So we've, you know, we had a soft Q1, and we recovered in Q2, and we don't see any reason that's going to change. On the water treatment front, Chuck will outline, but we've had a very good Q2.

Well, let me take the the North America water heater residential share question.

We had a very good Q2.

And our market share on all of our key categories, particularly residential and commercial were back in line with our 2018 levels. They were actually slightly up so we've.

We had a soft first quarter and we recovered in the second quarter and we don't see any reason that's going to change.

On the water treatment front.

Well, Chuck will outline, but we've got a very good.

Charles Lauber: Yeah, we talked on the last call that we expect to be incrementally better in Q2 versus Q1, and that's that is happening. So the business is performing well. For the quarter, our sales were about $37 million. Fourteen of that, again, was Water-Right, which is integrating well as Kevin—it's on track, as Kevin mentioned. So the kind of the customer acquisition and core growth is, you know, low teens for us on the rest of the business. Operating margins were high single digits for the quarter, so we, you know, we're pleased with the way Water Treatment North America is progressing.

Q2, yes, we talked on the last call that we expect to be incrementally better in Q2 versus Q1, and that's that's that is happening.

So the business is performing well for the quarter, our sales were about $37 million.

14, and that again was water right, which is integrating well as Kevin It's on track as Kevin mentioned, so the kind of the customer acquisition in core growth is.

Low teens for us and the rest of the business.

Operating margins were high single digits for the quarter. So we're pleased with the way water treatment North America is progressing.

Okay, and then just on.

Jeff Hammond: Okay, and then just on China, can you give us kind of an early read or feedback you're getting on this new price point product and when you think, you know, it'll start to really gain traction? Thanks.

China can you give us kind of early read or feedback you're getting on this new price point product and when do you think.

I wanted to start to really gain traction. Thanks.

Kevin Wheeler: Well, you know, the mid price point products have gone in various phases. You know, it does take time to certify, and I think what we've mentioned in the past, we just don't take a product and discount it and make it a mid price point. We will actually design the product for the right category with the right cost structure. So if you go across our residential water heating, it's continued to do well, and we're gaining share on the online side of the business. Gas tankless, we still have a bit of work to do to introduce a few more new products to fill those gaps, and those will happen by the second half of the year. And our water treatment continues to do well.

Well.

The mid price point products have gone in various phases.

It does take time to certify and I think what we've mentioned in the past, we just don't take a product in discount it make it had been price point, we will actually design the product for the right category with the right cost structure. So as you go across all our residential water heating it's continued.

To do well.

And we are gaining share on the online side of the business.

Gas Tankless, we still have a bit of work to do to introduce a few new products to fill those gaps and those will happen by the second half of the year and our water treatment continues to do well. So overall the acceptance has been good but more importantly, the products have been designed for the right price points with the right cost structure, so that we could.

Kevin Wheeler: So overall, the acceptance has been good, but more importantly, the products have been de-designed for the right price points with the right cost structure so that we could, you know, maintain margins. So overall, they've been accepted well, and we look at introducing just a few more to balance out our product portfolio in each of those categories.

So overall, the acceptance has been good, but more importantly, the products have been de-designed for the right price points with the right cost structure so that we could, you know, maintain margins. So overall, they've been accepted well, and we look at introducing just a few more to balance out our product portfolio in each of those categories.

You'll maintain margins so overall been accepted well and.

We look at introducing just a few more to balance out our product portfolio and each of those categories.

Thank you and our next question comes from the line of David Macgregor with Longbow Research. Your line is open.

Operator: Thank you. And our next question comes from the line of David MacGregor with Longbow Research. Your line is open.

David MacGregor: Yeah, good morning, everyone. Just while we're on the topic of the medium price point, can you give us some sense of what the mix is now in terms of premium versus mid price point and where you think that might be a year from now?

Yes. Good morning, everyone. Just what we're on the topic of the median price point can you give us some sense of what the mix is now in terms of premium versus mid price point, and where you think that might be a year from now.

Charles Lauber: Yeah, you know, right, right, right now, we're probably got a little heavier mix of the mid price point as we, you know, as we work through the back half of the year. A lot of those products are new. As Kevin said, they're pretty well accepted. The channel, as they work down the channel inventory, you know, there, there's product that is not as new, so those price points are, are different. But we would expect it to normalize next year, more normalized next year. And we're always, you know, as we grow e-commerce and as we grow the mid, the mid price point product, it, it will be slightly less margin, but we would expect it to normalize. We've get just pressure on our margins in Q3, particularly because of the lower volume.

Yes.

Right right now, we're probably got a little heavier mix of the mid price point as we as we work through the back half of the year a lot of those products are new as Kevin said, they're pretty well accepted the channel.

As they work down the channel inventory there is product that is not as new so those price points are different.

But we would expect it to normalize next year.

More normalized next year and we're always.

As we grow e-commerce , and as we grow the mid to mid price point product it will be slightly less margin, but we would expect it to normalize we get just pressure on our margins in Q3.

Particularly because of the lower volumes gross margin to be a little pressurized.

Charles Lauber: Just from a growth market, it could be a little pressurized.

Just from a growth market, it could be a little pressurized.

David MacGregor: So, so when you say normalize it, just from a proportional standpoint, are we talking 50/50, or? I'm just trying to get some sense of proportion.

So when you say normalized.

Just from a proportional standpoint are we talking 50 50 or.

Im just trying to get some sense.

Kevin Wheeler: You know, off the top of our head-

Proportion.

Off the top of our head I don't have that that information I'll be more than happy to to dig into it and get it for you but.

Charles Lauber: Yeah.

Kevin Wheeler: I don't have that—

Charles Lauber: Yeah

Kevin Wheeler: ... that information. I'll be more than happy to dig into it and get it for you. But, you know, what I would tell you, it's gonna change by product category. And so what we're gonna have to, it's a great question, but we'll be sure to take a note of that and make sure that we get back to you.

You know there there's it's what I would tell you is going to change by product category and so what we're going to have to.

It's a great question, what will be will be shorter taken note of that and make sure that we get back to you.

Thank you.

Operator: Thank you. And our next question comes from Nick Leibold with William Blair. Your line is now open.

And our next question comes from Nick Liberals with William Blair. Your line is now open.

[Analyst] (William Blair): Morning, guys.

Nick Leibold: Morning, guys.

Good morning, guys.

Kevin Wheeler: Good morning.

Charles Lauber: Good morning.

[Analyst] (William Blair): I was hoping to ask about cash repatriation, and maybe get a sense for how much of this currently disclosed cash number is in the US and outside the US, and if you repatriated any cash from China in the first half or in the quarter?

Good morning.

Nick Leibold: I was hoping to ask about cash repatriation, and maybe get a sense for how much of this currently disclosed cash number is in the US and outside the US, and if you repatriated any cash from China in the first half or in the quarter?

I was hoping to ask about cash repatriation.

And maybe get a sense for how much of this currently disclosed cash numbers in the U.S. and outside the U.S. and if if you repatriated any cash from from China in the first half or in the quarter.

Yes, we do we have.

Charles Lauber: Yes, we, we have. We've repatriated, we've, we've dividended out of China about $150, or $150 million for the first half of the year. So all of the cash that we mentioned is, is offshore, just to be clear on that. Dividended out $150 out of China, and we've repatriated about $85 of that back to the US.

We have repatriated, we dividended out of China about 150 or $150 million for the first half of the year.

So all of the cash that we mentioned is offshore just to be clear on that dividend down a 150 out of China, and we have repatriated about 85 of that back to the U.S.

She said the 150.

[Analyst] (William Blair): So you said the $150 is from China and the $85 is back in the US?

Nick Leibold: So you said the $150 is from China and the $85 is back in the US?

From China, and the 85 is back in the U.S. Saks back to the U.S., yes.

Charles Lauber: Back, back to the US, yes.

[Analyst] (William Blair): Great. Thank you for that.

Nick Leibold: Great. Thank you for that.

Great. Thank you for that.

Thank you and our last question comes from the line of David Macgregor with Longbow Research.

Operator: Thank you. And our last question comes from the line of David MacGregor with Longbow Research.

Yeah. Thanks for taking the follow up as two quarters or rather than cut off I guess I'm not going to get a Christmas card.

David MacGregor: Yeah, thanks for taking the follow-up. It's two quarters in a row I've been cut off. I guess I'm not gonna get a Christmas card.

Kevin Wheeler: It's not intentional. Sorry.

[laughter], it's it's not intentional sorry, [laughter] just in the last couple of years. We've got here I guess, there was an earlier question about raw materials and price cost and.

Kevin Wheeler: It's not intentional. Sorry.

David MacGregor: Just, you know, in the last couple of minutes we've got here, I guess, there was an earlier question about raw materials and price cost, and you noted that raw material prices were still higher or maybe up year over year, and obviously spot markets have been coming down. You guys are contract buyers, I understand that part. But one would think that by now you're starting to see some leakage on the indirect component as well as maybe some supplemental spot purchases. So I guess the question is, notwithstanding, I know the mills have sent out letters asking for price increases a few weeks back, but when do we start seeing the benefit of lower steel prices coming through? Do we see some here in Q3, or just can you help us with the timing?

You noted that raw material prices were still higher or maybe up year over year, and obviously spot market has been coming down you guys are contract buyers I understand that part, but one would think that by now you're starting to see some leakage on the indirect component as well as maybe some supplemental spot purchases. So I guess the question is notwithstanding I know the mills have set of letters asking for price increases a few weeks back, but but when do we start seeing the benefit of lower steel prices coming through.

Do we see some here in the third quarter or just can you help us with the timing, yes, we see a lag in 90 to 120 days to what you're kind of seeing in the marketplace. So we would expect to see a little bit of that benefit come through in the third and fourth quarter.

Charles Lauber: Yeah, we see a lag in 90 to 120 days to what you're kind of seeing in the marketplace. So we would expect to see a little bit of that benefit come through in Q3 and Q4.

David MacGregor: Okay. Is there any way to quantify that for us or think about it quantitatively?

Okay.

Is there any way to quantify that for us or think about it quantitatively.

Now I will just kind of go from the benchmark with the quarter over quarter improvement.

Kevin Wheeler: No, I, you know, we, we'll just kind of go from the benchmark, which is, you know, quarter-over-quarter improvement.

David MacGregor: Okay. Okay, that's good. And then, something we picked up in our checks was just talk of moving to kind of a national pricing model. And people in distribution, I guess now that distributors are acting more on a national scale, you know, they're pressing for more of a national price as opposed to the disparities, where I guess the southern markets were usually at a discount to the northern markets. How does that play out for you in terms of price realization? Do your ASPs move up or down as you kind of normalize to a national level, and how does the timing also play out?

Okay. Okay. That's good and then.

It's something we picked up in our checks was just talk of moving to a kind of a national pricing model.

And then people are in distribution I guess now that distributors are acting more on a national scale.

They're pressing for more of a national price as opposed to disparities, where I guess, the southern markets resulted discount to the northern markets.

How does that play out for you in terms of price realization to.

Do your Asps move up or down as you kind of normalize to a national level.

How does the timing and also play out.

Well Hey, Matt.

Kevin Wheeler: Well, hey, hey, Matt, pricing, we're the only public company, okay? And so, we just do not get into much detail on pricing with regards to strategy, implement or expected implementation, those type of things. And, so I just would prefer to keep that as kind of our policy. And, again, what we've demonstrated over the years is being able to, at the appropriate time, given time, to address cost and inflation issues, going forward, and, and I'm just gonna leave it at that.

Pricing what are the only public company, Okay, and so we just do not get into much detail on pricing with regards to strategy implement or expected implementation those type of things and.

So I just would prefer to keep that as.

No kind of our policy and.

Again, what we've demonstrated over the years is being able to at the appropriate time, given time to address cost and inflation issues going forward and I'm just going to leave it at that.

Thank you and we have another follow up from Matt Summerville with D.A. Davidson. Your line is open.

Operator: Thank you. We have another follow-up from Matt Somerville with D.A. Davidson. Your line is open.

Matt Somerville: Thanks. A couple follow-ups. First, can you talk about what you're doing in the wholesale channel with respect to water treatment? I know when you launched into Lowe's, you threw a revenue target out there. Do you have a revenue target for this wholesale initiative, if you will?

Thanks couple of follow ups first can you talk about.

What you're doing in the wholesale channel with respect to water treatment I know when you launched in the lows you threw a revenue target out there do you have a revenue target for this this wholesale initiative if you will.

Charles Lauber: Yeah. We haven't put out a revenue target for it. We just launched into that. We want, we... You know, it's right aligned with our channel strategy. So, you know, we're excited to have product into the wholesale market effective in May. You know, what we will kind of talk about is because of our channel strategy, you know, we're looking at growing water treatment year-over-year in that 10 to 15% range. So if you look at our whole portfolio of businesses, you know, not guiding just for water, wholesale, but we would look to grow year-over-year in that 10 to 15% range throughout kind of our, all of our channels.

Yes, we havent put out a revenue target for we just launched into that we want with it.

Ran aligned with our channel strategy. So we're excited to have product into the wholesale market effective in may.

What we will kind of talk about is because of our channel strategy.

We're looking at growing water treatment year over year in that 10% to 15% range. So if you look at our whole portfolio of businesses you know not guiding just water wholesale, but we would look to grow year over year in that 10% to 15% range throughout kind of our all of our channels.

Matt Somerville: If you aggregate your global water treatment business, what's your revenue objective for 2019? I believe that's a number you've shared in the past.

If you aggregate your global water treatment business. What's your revenue objective for 2018 I believe that's a number you have shared in the past.

Yes, it's about 440 440 to forfeit the.

Charles Lauber: Yes, it's about 440, 440 to 450.

Matt Somerville: Okay. Then lastly, just with respect to Lochinvar, on the boiler side of the business, can you talk about what you saw in Q2 and maybe what gives you a little bit of pause with the 7% growth target versus, you know, the 8 to 10 sort of longer term objective you have there?

Okay, and then lastly, just with respect to lock in bar on the boiler side of the business can you talk about what you saw in Q2, and maybe what gives you a little bit of pause with the 7% growth target versus the eight to 10 sort of longer term objective you have there.

Kevin Wheeler: Yeah, that's, let me just start with that, you know, the backlog and the activity in the market remains, it remains pretty active. But what we was talking about the wet weather and the labor shortages on the, on the residential side of our business, water heating side, it's also spilling over into the boiler side and commercial side of the Lochinvar business. So the business remains solid. It's just, we just don't think because of, of the wet weather and the labor shortages on either our water heater or our boiler side of the business, that we'll be able to make up the complete ground in the second half of the year. So that's why we, we brought it down a bit to 7%.

Yes thats.

Let me just start with that the backlog and the activity in the market remains it remains pretty active.

But what I did was talking about the wet weather in the labor shortages on the on the residential side of our business a water heating side. It's also spilling over into the boiler side and commercial side of the lock into our business. So the business remains solid as we just don't think because of of the wet weather in the labor shortages on either a water heater or our borders side of the business that we will be able to make up the complete ground in the second half of the year. So thats why we brought it down a bit to 7%, but the market is active in our coatings active so.

Kevin Wheeler: But the market's active and our quoting's active, so the overall business continues to move forward in the US.

The overall businesses in it continues to move forward in the U.S.

Thank you and I'm showing no further questions at this time I would now like to turn the call back to Patricia Ackerman for closing remarks.

Operator: Thank you, and I'm showing no further questions at this time. I would now like to turn the call back to Patricia Ackermann for closing remarks.

David MacGregor: Thank you for joining us on our call today. We will participate in several conferences in the third quarter. We will attend the Oppenheimer Conference in Chicago on 15 August, the Longbow Conference in New York on 21 August, and the Davidson Conference in Chicago on 18 September. Enjoy your day.

Thank you for joining us on our call today, we will participate in several conferences in the third quarter.

We will attend the Oppenheimer conference in Chicago on August 15.

The Longbow Conference in New York on August 21st and the Davidson Conference in Chicago on September 18th enjoy your day.

Operator: Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Everyone, have a great day.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect everyone have a great day.

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