Masco Corporation (NYSE:MAS) Q4 2023 Earnings Call Transcript

Masco Corporation (NYSE:MAS) Q4 2023 Earnings Call Transcript February 8, 2024

Masco Corporation beats earnings expectations. Reported EPS is $0.83, expectations were $0.66. Masco Corporation isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good morning ladies and gentlemen. Welcome to Masco Corporation’s fourth quarter and full year conference call. My name is Slessor, and I will be your Operator for today’s conference call. As a reminder, today’s conference is being recorded for replay purposes. Following the presentation, we will conduct a question and answer session. If at any time during this call you require immediate assistance, please press star, zero for the Operator. I will now turn the call over to Renee Benedict, Director, Investor Relations and FP&A. You may begin.

Renee Benedict: Thank you Operator, and good morning. Welcome to Masco Corporation’s 2023 fourth quarter and full year conference call. With me today are Keith Allman, President and CEO of Masco, and Rick Westenberg, Masco’s Vice President and Chief Financial Officer. Our fourth quarter earnings release and the presentation slides are available on our website under Investor Relations. Following our remarks, we will open the call for analyst questions. Please limit yourself to one question with one follow-up. If we can’t take your question now, please call me directly at 313-792-5500. Our statements today will include our views about our future performance, which constitute forward-looking statements. These statements are subject to risks and uncertainties that could cause our actual results to differ materially from the forward-looking statements.

We’ve described these risks and uncertainties in our Risk Factors and other disclosures in our Form 10-K and Form 10-Q that we filed with the Securities and Exchange Commission. Our statements also include non-GAAP financial metrics. Our references to operating profit and earnings per share will be as adjusted unless otherwise noted. We reconcile these adjusted metrics to GAAP in our earnings release and presentation slides, which are available on our website under Investor Relations. With that, I’ll now turn the call over to Keith.

Keith Allman: Thank you Renee. Good morning everyone and thank you for joining us today. Before I get started, I’d like to share with you that we have appointed Robin Zondervan as our incoming Vice President of Investor Relations. Robin is currently our Controller and Chief Accounting Officer and will be transitioning to lead Investor Relations at the end of this month. I have full confidence that with Robin’s leadership, we will continue to have a world-class investor relations function at Masco and provide the investment community with the information and transparency you have come to expect from us. Now onto our results. I’ll start this morning with some brief comments on our fourth quarter and full year results, and I’ll finish with our view on 2024 as well as our long term margin expectations.

Please turn to Slide 5. We delivered a strong finish to another dynamic and successful year. In the fourth quarter, our top line decreased 2% with volumes down across most categories, partially offset by favorable pricing, currency, and our acquisition of Sauna360. The smaller decline in volume relative to the first three quarters of the year supports our view that many of our markets appear to be stabilizing. Operating profit increased $38 million in the quarter due to a favorable price-commodity relationship as we continued to recover the significant inflation that we have experienced over the past two years and due to our continued efforts to drive efficiencies across our operations. Operating profit margin improved 230 basis points to 14.5%.

With our strong execution, our earnings per share for the quarter increased 28% to $0.83 per share. Turning to our segments, plumbing sales were in line with the prior year in local currency with lower volumes being offset by favorable pricing and our acquisition. Plumbing performance in the quarter was led by Delta Faucet’s mid-single digit sales growth driven by strong performance in the wholesale channel. International plumbing performed better than expected in the fourth quarter as demand in Europe and China, while still challenged, appears to be stabilizing. Investments in our leading global plumbing brands, innovative products and customer service are producing results, and we will continue to capitalize on these initiatives. Turning to our decorative architectural segment, sales declined 7% primarily due to a soft DIY paint market, with DIY paint sales declining high single digits.

While our propane business declined slightly in the quarter, we are very pleased with our three-year pro paint stacked comp of approximately 60%. This significant growth and share gain demonstrates the strength of our Behr brand and the quality of our products that continue to resonate with pro painters. We will continue to invest in this business to expand our services and build upon our successful collaboration with Home Depot to capitalize on the large opportunity in the pro paint market. Now let’s review our full year performance. Please turn to Slide 6. Masco executed extremely well in 2023 and improved nearly every operating metric for the full year. Gross margin improved 360 basis points to 35.2%. Operating margin expanded 120 basis points to 16.8%.

Plumbing margin expanded 210 basis points to 18%. Decorative margin expanded 10 basis points to 17.8%. Earnings per share grew 2% to $3.86 per share, up from $3.77 per share in 2022. We delivered a return on invested capital of 36% and our free cash flow conversion was approximately 122%, which allowed us to return $610 million to shareholders in the form of dividends and share repurchases in 2023, and to complete the bolt-on acquisition of Sauna360 for approximately $136 million. Importantly, we have achieved compound annual earnings per share growth of 14% from 2019 to 2023, delivering on our commitment of double-digit EPS growth through cycles and demonstrating the power of our brands, innovation, and portfolio of lower ticket repair and remodel-oriented products.

I want to thank all our employees for their strong execution, focus on the customer, and their continuous improvement mindset that delivered this tremendous performance. Turning to Slide 7, as we look to the future, we are well positioned to achieve strong profitable growth over the next few years through top line growth, market share gains, margin expansion, and disciplined capital deployment. Our current market assumptions for 2024 are as follows. For the North American repair and remodel market, we expect the market to be flat to down low single digits. For our international markets, we expect the markets in aggregate to be down low to mid single digits. For the paint market, we expect the DIY paint market to be down low single digits and the pro paint market to increase low single digits.

We expect to outperform the market and for Masco’s overall sales to be approximately flat in 2024. Despite this flat top line assumption, we will continue to improve margins through disciplined pricing, selective cost reductions, innovative product introductions, and operational efficiencies across our business. This margin expansion will not be without its challenges as freight and shipping costs have recently increased, other commodity inputs remain elevated, and other costs such as people-related expenses and insurance are increasing. We are up for the challenge and have demonstrated our ability to execute in dynamic times. We expect to deliver increased plumbing margins of approximately 18.5% and decorative margins of approximately 18% in 2024, resulting in a Masco operating margin of approximately 17%.

Turning to capital allocation, our strategy remains unchanged. Firstly, we will reinvest in our business to maintain and grow our leadership positions and win in the marketplace. This includes continuing to invest in our growth initiatives such as growing our share in the domestic plumbing wholesale channel, continuing to expand our international plumbing share, and continuing to gain share in pro paint. It also includes investing in our facilities to ensure we have the capacity to support future growth by completing our European faucet and shower facility and our midwestern paint manufacturing and distribution center. Secondly, our capital allocation strategy is to maintain a strong investment-grade balance sheet with gross debt to EBITDA levels of below 2.5 times.

Our balance sheet remains extremely strong with gross debt to EBITDA of 2 times at year-end. Thirdly, we have a targeted dividend payout ratio of 30%. I’m pleased to share that our Board declared a 2% increase in our dividend for 2024, which will bring our annual dividend to $1.16 per share and marks the 11th consecutive annual increase. Fourth and finally, we expect strong free cash flow conversion in 2024 of approximately 90% and will deploy that free cash flow after dividends through share repurchases or acquisitions. Based on our projected free cash flow, we expect to deploy approximately $600 million through share repurchases or acquisitions in 2024. Our M&A strategy has not changed. We continue to review and selectively pursue opportunities that have the right strategic fit and the right return for Masco with the goal of adding 1% to 3% top line growth through acquisitions annually.

Based on our expected operating performance and capital deployment actions, we anticipate earnings per share for 2024 to be in the range of $4 to $4.25 per share. Now looking out over the next three years, we will continue our strong execution and deliver margin expansion through 2026. For our plumbing segment, with our industry-leading brands including Delta and Hansgrohe, we expect to expand margins to 20% in 2026, up from 18% in 2023. For our decorative segment, led by our industry-leading Behr brand, we expect to achieve margins of 19% to 20% in 2026, up from 17.8% in 2023. This would result in overall Masco operating profit margins of approximately 18.5% in 2026. We believe we can achieve these margins with normalized 3% to 5% repair and remodel industry growth in ’25 and ’26 through leveraging incremental volume, exercising pricing discipline, and executing operational improvements.

While 2023 clearly saw a reduction in demand, we believe that our markets will stabilize in 2024 and return to typical growth rates in 2025 and 2026. Structural factors are supportive of increased repair and remodel activity in several ways. Many homeowners have taken advantage of low mortgage rates and are likely to remain in their homes longer. 1.7 million more homes will reach the prime remodeling ages of 20 to 39 years old over the next three years, and home equity levels remain high. All of these structural forces provide tailwinds for our business and increase our confidence for a strong repair and remodel market. We will continue to invest in our brands, capabilities and people to outperform the competition in both the near and long term.

With favorable fundamentals and our continued focus on executing our growth strategy, together with our strong free cash flow and capital deployment, Masco is well positioned to continue to drive shareholder value over the long term. Now I’ll turn the call over to Rick to go over our fourth quarter, full year and 2024 outlook in more detail. Rick?

Richard Westenberg: Thank you Keith, and good morning everyone. Thank you for joining. As many of you know, I joined Masco as the CFO in mid-October. I’m excited to be part of this strong performing company and team and I’m happy to be sharing our results with you this morning. As Renee mentioned, my comments today will focus on adjusted performance excluding the impact of rationalization charges and other one-time items. Turning to Slide 9, sales in the quarter decreased 2%, or 3% excluding favorable currency impacts. In local currency, North American sales decreased 3%, or 4% excluding acquisition. In local currency, international sales decreased 3%. We continued to drive operational efficiency and price-cost performance in the quarter, which helped lead to gross margin expansion of 560 basis points to 35.1%.

SG&A as a percent of sales was 20.6% and was impacted by higher employee-related costs such as incentive compensation. Our operating profit grew 16% in the quarter and margin expanded 230 basis points to 14.5%. This strong operating profit and margin performance was due to pricing actions, lower commodity and freight costs, and cost savings initiatives partially offset by lower volume and higher employee-related expenses. This resulted in EPS growth of 28% to $0.83 per share. Turning to the full year 2023, sales decreased 8% over the prior year, slightly better than our expectations given sales performance in our plumbing segment. FX and acquisitions did not have a material impact on full-year results. In local currency, North American sales decreased 9% and international sales decreased 6%.

SG&A as a percent of sales was 18.4%, in line with more normalized levels. Operating profit for the full year was $1.3 billion and operating margin expanded 120 basis points to 16.8%. Lastly, our EPS increased 2% year-over-year to $3.86. This figure assumes a tax rate of 24.5% versus the previously guided 24%, which unfavorably impacted full year EPS by $0.03. Turning to Slide 10, plumbing sales in the fourth quarter increased 1% and showed signs of stabilization. Lower volume and mix decreased sales by 4%. This was more than offset by favorable pricing of 2%, the impact of acquisitions of 2%, and FX of 1%. In local currency, North American plumbing sales increased 1%, however decreased 1% excluding acquisition. In local currency, international plumbing sales decreased 3% as demand continued to be soft in Europe and in China.

Segment operating profit in the fourth quarter was up $50 million or 34% year-over-year, and operating margin expanded 400 basis points to 16.4%. This operating profit improvement was driven by pricing actions, lower commodity and freight costs, and cost savings initiatives, partially offset by lower volume and higher employee-related expenses. Turning to the full year 2023, plumbing sales decreased 8%, slightly better than our expectations. Lower volume and mix decreased sales by 12%, partially offset by net pricing which favorably impacted sales by 4%. Acquisitions had a favorable impact of 1% and FX was immaterial for the full year. In local currency, North American plumbing sales decreased 8% net of the 1% impact from acquisitions, and international plumbing sales decreased 6%.

Full year operating profit increased 4% and margin expanded 210 basis points to 18%. Turning to Slide 11, decorative architectural sales decreased 7% for the fourth quarter. Paint sales declined mid-single digits with pro paint sales down slightly against a mid-single digit comp in the fourth quarter of 2022. Operating profit was $100 million, in line with 2022 performance, and operating margin expanded 90 basis points to 14.8%. Operating profit was impacted by lower volumes and pricing offset by cost savings initiatives and lower material costs. As expected, we did experience relief in certain paint input costs with modest low single digit deflation in the fourth quarter. Turning to the full year 2023, sales decreased 9% driven by high single-digit declines in our DIY paint business and a mid-single digit decline in our pro paint business.

This performance was in line with the expectations we set at the beginning of 2023 as we cycled over 25% pro paint growth in 2022. Additionally, over a three-year period, pro paint sales have grown by over 60%, demonstrating our ability to gain and retain share. Full year operating income was $557 million in the segment, and operating margin expanded 10 basis points to 17.8%. Turning to Slide 12, our year-end balance sheet was strong with gross debt to EBITDA at two times. We ended the quarter with $1.6 billion of liquidity, including cash and availability under our revolving credit facility. Working capital improved by six days to 59 days, or 16% of sales. With this improvement in working capital, our adjusted free cash flow for the year was $1.1 billion, an improvement of over $500 million compared to the prior year, driving our free cash flow conversion to 122%.

Given our strong cash performance, we were able to return $610 million to shareholders through dividends and share repurchases, including the repurchase of $227 million of stock in the fourth quarter. Now let’s turn to Slide 13 and review our outlook for 2024. For Masco overall, we expect 2024 sales to be flat but with operating margin growing to approximately 17%. Currency is projected to have minimal impact in our 2024 results. We will continue to invest in our business for future growth while also maintaining cost discipline. As a result, we expect SG&A as a percent of sales to be in the range of 18% to 18.5% in 2024. As always, we will take appropriate actions to address our costs as the year develops, based on market conditions. As we think about the cadence for the year, we expect sales to be down slightly in the first half of the year with modest growth in the back half of the year.

Also as it relates to operating margin, with the softer sales outlook in the first half of the year, we anticipate Masco margins will be roughly flat in the first half of the year with expansion expected in the second half. In our plumbing segment, we expect 2024 full year sales to be plus or minus low single digits. We anticipate the full year plumbing margin will be approximately 18.5%, up from our 2023 margin of 18%. Margin expansion will primarily be driven by pricing discipline, operational efficiency, and continued cost savings initiatives. In our decorative architectural segment, we expect 2024 sales to also be plus or minus low single digits. Looking specifically at our paint business in 2024, we anticipate our DIY business to decrease low single digits and our pro paint business to increase low single digits.

We anticipate the full year decorative architectural margin to be approximately 18%, up from our 2023 margin of 17.8% driven by cost savings initiatives. With regards to capital allocation, we expect to reinvest approximately $200 million through capital expenditures, pay a dividend of $0.29 per share per quarter, and deploy approximately $600 million towards share repurchases or acquisitions in 2024. Finally, as Keith mentioned earlier, our 2024 EPS estimate is $4 to $4.25. This assumes a $221 million average diluted share count for the year and a 24.5% effective tax rate, which is consistent with our 2023 effective tax rate. Additional financial assumptions for 2024 can be found on Slide 16 of our earnings deck. With that, I’d like to open the call for questions.

Operator?

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Q&A Session

Operator: Thank you. Ladies and gentlemen, we will now conduct the question and answer session. [Operator instructions] Your first question comes from John Lovallo. Your line is now open.

John Lovallo: Good morning guys. Thank you for taking my questions. The first one is your R&R is expected to be flat to slightly down in 2024. It seems like you expect flattish sales for both plumbing and decorative architectural, so seemingly basically in line, maybe slightly above the overall market. How are you thinking about Masco’s ability to outgrow its markets longer term?

Keith Allman: John, thanks for the question. I haven’t changed my opinion on our ability to gain share, which is that we expect as a company to both outperform the market and to expand margins, and we expect to continue to do that, so we will outperform the market and that’s driven primarily by our brands, which have developed over the years, as you know, to be leaders in their spaces, so there is both consumer pull as well as trade pull, where we’re well recognized by plumbers and pro painters as a quality brand, our service proposition as it relates to our channel partners, to be able to help them drive profitable growth with minimal inventory positions due to our repeatable delivery and service, and our people and our teams around the globe.

Our expectation is to outperform the market. Now, in some spaces that we compete with, there will be greater share gains; in other spaces, where we already have substantial leading market share, those share gains will be more modest, but we definitely expect to outperform the market going forward.

John Lovallo: Okay, that’s helpful. Then maybe just help us with the cadence of the planned margin expansion across plumbing and decorative architectural to your 2026 targets – I mean, is the improvement expected to be fairly linear in 2025 and 2026, or how should we think about that?

Keith Allman: Well, I think if you–you know, ’24, we believe is going to be flattish on the top line and probably more modest as it relates to margin improvements, and when you think about–when we think about our innovation pipeline and our projects that will drive efficiency and cost reductions, which will lead to that margin improvement, those happen more towards the out years and will take some time to settle in and to be realized into the P&L, so I would say there’s a bit of that margin acceleration in ’25 and ’26, primarily. When you think about it, John, the biggest driver will be the drop down in incremental revenue, and we have very strong, let’s call it 25, plumbing it’s knocking on 30% drop down on the incremental volume, and our plan, as we said, is to–our belief is that we’ll be relatively flat in ’24 and then in ’25 and ’26, when we think about the health of the consumer, when we see what’s happening and believe what will continue to happen with regards to stabilization as it relates to rates, etc., we’re expecting more of a typical growth rate in ’25 to ’26, call it in that 3% to 5% growth in R&R.

Now, there is–we look at the same analytics and we listen to a lot of the same people as it relates to analytics around expectations, and a lot are calling for significantly more than that. We’re not – we’re just basing our ’25 and ’26 on more of a historical 3% to 5% R&R growth rate, so that will be a significant contributor to margin expansion as well.

John Lovallo: Thanks Keith.

Operator: Your next question comes from Matthew Bouley from Barclays. Your line is now open.

Matthew Bouley: Morning everyone. Thank you for taking the questions. On that margin cadence into ’24, looking at the past three quarters, your year-over-year margins have expanded, actually kind of improved the past three quarters, and it sounded like you’re saying that that kind of margin expansion will flatten in the first half and then go back to expanding in the second half. I’m just curious if you can kind of touch on that a little bit, sort of why wouldn’t the recent improvements in margins continue to flow through on a year-over-year basis into the first half of ’24. Thank you.

Keith Allman: Hey Matt, good morning. I think when you think about the improvement rate that we’ve seen this year, we’ve had some pricing catch-up that we had to do against some, as you know, fairly significant cost inflation, so that was a component of it. When we think about ’24, we have operational improvements that we’re going to continue to drive. When we think about the benefit of pricing, we’ll see, I would say a little bit of a headwind in our paint business. We’ve talked consistently about our relationship with our channel partner as it relates to price, where we keep our operating income dollars whole and match commodities with price, but that affects margin, and it affects it both ways where you go up or go down, so there will be a slight headwind in pricing in our decorative business and probably a slight tailwind in our plumbing business.

To your direct question in terms of the rate of margin improvement, I think it really–that really points to–it really answers your question as it relates to pricing. Where we will see margin improvement, despite calling for a flat top line in ’24, is in the efficiency improvements that we’re going to continue to drive with our projects that we have in flight.

Richard Westenberg: Yes Matt, the only thing I would add is from a timing perspective, our margin performance is going to be aligned–in terms of the expansion, aligned with our sales growth, and as we indicated, we expect a bit of softness in the first half of 2024. As growth starts to pick up, we believe in the second half of the year, we’ll get that drop down that Keith referred to, and then as we roll into ’25 and ’26, as growth returns to more normalized levels, that drop down impact in terms of margin expansion, we’ll see that manifest itself more prominently.

Matthew Bouley: Got it, really helpful. Thanks for that. Then second one, just actually coming off that last point there, Rick, the cadence to the top line in ’24, obviously there’s been a lot of volatility in R&R end markets probably more recently year to date, maybe some noise around weather and all that. Can you just put a finer point around that early 2024 expectation – you know, how is demand tracking year to date, any kind of color on some of the volatility or improvement as you get into Q2 and beyond? Thank you.

Keith Allman: Matt, in terms of the year-to-date demand or the current demand, I’d characterize it a stabilizing. I would say in terms of what was favorable to our expectation in ’23 was a combination of both our execution, the timing and impact of our cost reduction projects or solid pricing, etc., and then also a little bit better demand than we anticipated. There’s certainly some volatility out there, but we’re seeing signs of stabilization. We had a nice quarter in wholesale plumbing as it relates to top line demand. While still challenged, certainly, in Europe, we have seen some stabilization and starting to see some positive signs coming out of China as well, so that’s how I’d characterize the demand in general.

Richard Westenberg: Yes, and what I would say is it’s in line with what our guidance is indicating, so there’s nothing inconsistent with that, which is we do expect some stabilization, as Keith mentioned, but a bit softer, so down slightly in the first half of the year – that’s kind of what we’re seeing in the market today, but we are seeing some stabilization globally.

Matthew Bouley: All right. Thanks Rick, thanks Keith. Good luck guys.

Keith Allman: Thank you.

Operator: Your next question comes from Stephen Kim from Evercore ISI. Your line is now open.

Stephen Kim: Yes, thanks very much, guys. Appreciate all the info here. Could you talk a little bit more about the trends you’re seeing in hardware and lighting within the dec-arc business, and how that figures into your fiscal ’24 guide and maybe also your long term margin targets for dec-arc?

Keith Allman: These businesses were impacted by market softness in 2023 – no question about it. We’ve talked consistently about it. Both businesses, and I’m talking about our lighting and hardware businesses, Kichler and Liberty, took pricing and cost actions to offset the inflation they experienced, partially offset the volume loss in ’23. In ’24, I’d expect these businesses to perform more in line with how we’re seeing the overall R&R market, which is flat to down low single digits. Did you have a second question there, Stephen?

Stephen Kim: Yes – well, within the hardware and lighting, that was pretty much what I was looking for. Then as I think more broadly about your guide for next year, I think Matt touched on it, but I just wanted to take a finer point. Are you saying–could we see sales and margins on a year-over-year basis be down in 1Q, or is that not what you’re envisioning?

Keith Allman: They could be. I’m thinking more kind of flat to maybe slightly down in 1Q, first half, and then better performance both in sales and margins in the second half.

Stephen Kim: Okay, that’s very helpful. Appreciate it, thanks very much.

Keith Allman: Thank you.

Operator: Your next question comes from Michael Rehaut from JP Morgan. Your line is now open.

Michael Rehaut: Thanks, good morning. It’s Mike Rehaut. I wanted to first ask about the ’26 targets – appreciate kind of laying some of those out. You know, thinking about the margins, I think Keith, you laid out a framework of in ’25 and ’26, getting to those targets, kind of thinking about a sales growth backdrop of 3% to 5%, so just wanted to make sure that I’m understanding that the margin expansion off of ’24, how much of that would be driven by volume leverage or incremental margins off of the volume leverage, as opposed to perhaps other initiatives around either productivity or discrete cost efficiency measures around manufacturing or SG&A, etc.?