Good day, and welcome to the American Woodmark Corporation Third Quarter 2020 Conference Call. Today's call is being recorded today, February 25, 2020. During this call, the company may discuss certain non-GAAP financial measures, including our earnings release such as adjusted net income, adjusted EBITDA, adjusted EBITDA margin, free cash flow, net leverage and adjusted EPS per diluted share. The earnings release, which can be found on our website, www.americanwoodmark.com, includes definitions of each of these non-GAAP financial measures, the company's rationale for their usage and a reconciliation of these non-GAAP financial measures to the most comparable GAAP financial measures. We also use our website to publish other information that may be important to investors such as investor presentations. We will begin the call by reading the company's safe harbor statement under the Private Securities Litigation Reform Act of 1995. All forward-looking statements made by the company involve material risks and uncertainties and are subject to change based on factors that may be beyond the company's control. Accordingly, the company's future performance and financial results may differ materially from these expressed or implied in such forward-looking statements. Such factors include, but are not limited to, those described in the company's filings with the Securities and Exchange Commission and the annual report to shareholders. The company does not undertake to publicly update or revise its forward-looking statements even if the experience or future changes make it clear that any projected results expressed or implied therein will not be realized. I would now like to turn the conference over to Scott Culbreth, Senior Vice President and CFO. Please go ahead, sir.

Good morning, ladies and gentlemen. Welcome to American Woodmark's third fiscal quarter conference call. Thank you for taking time to participate. Joining me today is Cary Dunston, Chairman and CEO. Cary will begin with a review of the quarter, and I'll add additional details regarding our financial performance. After our comments, we'll be happy to answer your questions. Cary?

Thank you, Scott, and good morning to you all. Although we are pleased with our positive revenue comparisons, our third fiscal quarter financials proved to be challenging as our margins were impacted by cost headwinds and volatility within our channels. The market itself is undergoing change that we have been predicting for some time now. Although the foreseeable future will be quite dynamic, to say the least, we continue to make significant strides forward in our long-term strategy and remain very optimistic about the market and our future position as an industry leader. With regard to net sales for the fiscal quarter, we were up 3%. Within new construction, which includes our Timberlake and PCS businesses, we grew 5.3% over the prior year. Looking specifically at our Timberlake direct business, revenue was in alignment with overall single-family start growth and considering the lag from the start to cabinet installation. Regarding our unit growth, we outpaced our net revenue growth as we continue to gain share. As expected, as a percentage of opening price point homes continues to expand, we are seeing an impact on our average take per cabinet. By region, we saw strong growth in the Southeast, Texas, Phoenix, and Northern California. Our PCS business in Southern California remains a challenge. Although the market has seen some recent growth in starts, pricing on recent bids has become so competitive that our business continues to be negatively impacted. We are conducting a strategic analysis of this market, and we'll continue to make the right decisions for our business. Overall, within new construction, we remain optimistic about continued growth, particularly within our Timberlake direct business as we leverage our low-cost Origins platform. The economy remains strong, and our large builders continue to invest and increase our overall share of the U.S. single-family market. Younger consumers are entering the market, which will fuel the growth of the industry for years to come. Looking at our remodel business, which includes our dealer/distributor and home center businesses, revenue was up 1.6% compared to the prior year. Our combined home center business was up 3%. Within this, we continue to experience nice double-digit growth in our home center kitchen and bath stock business. Not only are we benefiting from gaining a major stock kitchen market, but our entire business is comping favorably across the country as we see a shift toward more affordable solutions. In addition, we do believe we are seeing some impact from the Chinese tariffs on our stock kitchen business. I will provide more commentary on the tariffs in a few minutes. Within our center frameless business, we also once again experienced double-digit growth. This designer series product is simplistic and value-focused, reflecting how the market is transitioning. Unfortunately, the higher-priced made-to-order business within home center continues to be challenged. Promotional activity remains very elevated and is favoring higher-priced competitors, the opposite of where the market is going. We stand firm that promotions are not the solution to driving younger consumers into the stores or to improving closure rates. It is very clear in our industry, the demand for more affluent baby boomers is declining within remodeling and renovation, and the younger generation will begin to backfill this demand over time. Strategically, we recognize this new consumer group requires much less complex and affordable solutions than what exists today, and we remain committed to providing a competitive solution in alignment with this changing environment. Regarding our dealer/distributor business, we were down 3.3% for the quarter. Within this, we grew our Waypoint dealer business, over-indexing the industry according to KCMA data. However, our distribution business compared negatively for the quarter. Part of this change is a conscious transition of some business from distribution through our direct Timberlake channel. However, we're also seeing a pricing challenge in Southern California and in a couple of localized areas. In summary, significant volatility continues between and within channels. We are absolutely seeing a shift in price points in the industry as we have predicted for some time now. The challenge remains with regard to strategically helping our retail partners transition to a more simplistic and capable purchasing experience. Product is a piece of this. However, the scope extends far beyond the product as we must greatly enhance the entire consumer purchasing process, including our digital interface. We know the next couple of years will be volatile, but we firmly believe there will be clear winners within our industry. We are absolutely investing to ensure we are not only a winner, but we are leading a change. I would like to take a moment to comment on the antidumping lawsuit and associated impact. Commerce has ruled on the final rate, pending approval by the ITC. Although not so significant, Scott will provide the details on the extent of the change from the initial ruling. Regarding the overall impact of the tariffs, as I mentioned previously, we believe we are seeing some transition from imported all-fiber construction cabinets to the stock business. However, based on KCMA data, it is also clear that the overall impact on the special order business within America is minimal at best. As I mentioned on our last call, significant inventory was built prior to the antidumping penalty taking effect. This inventory is certainly being depleted. However, it is difficult to know the remaining levels. On the positive side, we do have clear data that shows a very significant decline in Chinese cabinet imports. At the same time, we are seeing a very aggressive ramp-up of cabinet imports out of countries like Vietnam and Malaysia. In the past year, these two countries alone have transitioned from relatively insignificant cabinet volumes, exporting over 30% of the volume that China was producing prior to the tariffs. It is not clear what components are actually being produced within these countries versus how much legal circumvention is being achieved. We do expect this circumvention to continue, however, thereby greatly reducing the overall impact of the AKCA. Only time will tell. However, we do remain committed to finding a domestic solution that can successfully compete against imports, keeping manufacturing in America and expanding our core competitive advantage of service. Lastly, on China, I thought many would be interested in any potential impact we may experience from the coronavirus. On the positive side, we had previously built inventory as part of the Chinese New Year shutdown. We are in contact with our China suppliers and have confirmed they have all reopened, but they are currently operating at less than full capacities. At this time, based on the virus mitigation process and supplier ramp-up plans, we are not anticipating any significant impact. We will continue to monitor the situation very closely. Moving on to our gross margin for the quarter. We came in at 18.3% versus 20% in the prior year. In general, our operations continue to run well, and we further capitalize on cost synergies. Yet, we were challenged by some inefficiency due to the number of down days we had to schedule in the quarter. We typically always experience our lowest incoming demand rates for the year in the winter months of our third fiscal quarter. To better balance our system and retain backlog at appropriate levels, we scheduled down days in our system. Although beneficial overall, they do introduce some inefficiency into the system. More significantly, the cost of tariffs, product awards, supply disruptions, and the move of our facility in California were simply too significant to overcome. 301 tariffs are well understood by most in the industry. Although we have managed to minimize much of the impact, there are some products that are very difficult to source outside of China. Our teams continue to work on options to further minimize the impact. Regarding the particleboard supply, unfortunately, the impact is prolonged due to extended startup times by new facilities being opened in the U.S. A significant amount of capacity was renewed within the U.S. by DP, and unfortunately, we were more dependent on this supply than our competitors. We managed to successfully source material, however, it has come at a price and logistics premium. Significant capacity is ramping up as I speak within the U.S.; however, the manufacturers are slightly behind schedule. Our team is working very closely with our partners. However, we expect to continue to experience a cost headwind into the near future. Scott will provide specifics to this in his comments. Lastly, the majority of the cost of our plant relocation in California was incurred in our third fiscal quarter. On the positive side, the move is now complete and finished ahead of our plan on cost. Moving on to our adjusted EBITDA margin. We finished the quarter at 12.7% versus 13.6% from the prior year. The key drivers for the cost headwind and inefficiency impact on our gross margin, as I previously discussed, in addition to the mix impact of lower-than-expected sales within our made-to-order R&R business. With regards to SG&A, we continued the positive leverage of the business. Lastly, on financial, Scott will provide details on our cash position. However, we are extremely pleased with our investment; we have paid down our debt following the acquisition. Our cash generation allows us to not only pay down debt but also make important strategic investments for the future. In summary, it was a challenging quarter on margins as well as made-to-order buying within home center R&R. The cost headwinds are a frustrating side release. However, we remain committed to continuing to mitigate the impact of both the tariffs and particleboard disruption. More importantly, as we recognize the changing dynamics of our industry, we truly believe our industry is going to be disrupted over the next five years. This disruption will come in the form of changing consumer expectations, the requirements to offer much more affordable solutions and the need to greatly simplify and enhance our overall remodeling experience. These changes will require tremendous strategic thought, disruptive innovation and extensive understanding of systems thinking. Our new vision and related strategy are aggressively moving us forward in all aspects. This strategy will require investment over the next three to four years, and we are well positioned to make these investments, continue to win in our industry and provide strong financial returns for our investors. We remain excited about the future and are very confident in our ability to not only disrupt but also to create a true competitive space within our industry. With that, I thank you, and I will now turn it back over to Scott for the detailed financials.

Thanks, Cary. The financial headlines for the quarter. Net sales were $396 million, representing an increase of 3% over the same period last year. Adjusted net income was $22 million or $1.30 per diluted share in the current fiscal year, versus $24.1 million or $1.40 per diluted share last year. Adjusted net income was positively impacted by higher sales, which was more than offset by tariffs, net cost impacts related to our product award supply disruption and duplicate rent move costs related to our California facility move. Adjusted EBITDA was $50.1 million or 12.7% of net sales compared to $52.2 million or 13.6% of net sales for the same quarter of the prior fiscal year. For the nine months ending January, year-to-date net sales were $1.251 billion, representing an increase of 1.1% over the same period last year. Adjusted net income was $89.2 million or $5.27 per diluted share in the current fiscal year versus $88.2 million or $5.05 per diluted share last year. Adjusted EBITDA was $182.6 million or 14.6% of net sales compared to $181.1 million or 14.6% of net sales for the same period of the prior fiscal year. The new construction market grew during the quarter, recognizing a 60- to 90-day lag time from the start and cabinet installation. The overall market activity in single-family homes was up 8.1% for the financial third quarter. Our builder channel net sales increased 5.3% for the quarter. The made-to-order frame direct build-to-order business exceeded starts on a unit basis, and this was offset by price and negative comps in our frameless business. The remodel business continues to be challenging. On the positive side, unemployment and interest rates remain low, and existing home sales increased during the fourth calendar quarter of 2019. On the negative side, the median existing home price rose 7.8% to $274,500 for December, impacting our consumers' affordability index. And this year, first-time buyers decreased to 31% in December. Our combined home center and independent dealer/distributor channel net sales grew 1.6% for the quarter, with home centers increasing 3% and dealer/distributor decreasing 3.3%. The company's gross profit margin for the third quarter of fiscal year 2020 was 18.3% of net sales versus 20% reported in the same quarter of last year. Gross margin in the third quarter was unfavorably impacted by tariffs by $1.8 million, net cost impacts related to our product award supply disruption of $0.5 million and duplicate rent move costs related to our California facility move of $1.6 million. Our facility move is complete, and I want to thank our operations team for successfully transitioning facilities without disruption. Leverage from higher sales was offset by the cost standard along with operating inefficiencies. Year-to-date gross profit margin was 20.3% compared to 21% for the same period in the prior year. Gross margin for the first nine months of the current fiscal year was unfavorably impacted by tariffs of $5.4 million, net cost impacts related to our particleboard supply disruption of $3 million and duplicate rent move costs related to our California facility move of $2.4 million. These impacts were partially offset by leverage from higher sales and operating efficiencies. Total operating expenses were 12.2% of net sales in the third quarter of fiscal 2020 compared with 12.9% of net sales for the same period in fiscal 2019. Selling and marketing expenses were 5.4% of net sales in the third quarter of fiscal 2020 compared with 5.8% of net sales for the same period in fiscal 2019. The decrease in the ratio was driven by lower spending and leverage from higher sales. General and administrative expenses were 6.8% of net sales in the third quarter of fiscal 2020 compared with 7.2% of net sales for the same period of fiscal 2019. The decrease in ratio was driven by lower spending and leverage from higher sales. Free cash flow totaled $80.2 million for the current fiscal year compared to $106.2 million in the prior year. The decrease is primarily due to a one-time tax benefit received in the prior year related to the acquisition and timing of inventory and accounts receivable. Net leverage was 2.26 times adjusted EBITDA at the end of the third fiscal quarter, and the company paid down $18 million of its term loan facility during the quarter. In closing, I wanted to share a recent update on the AKCA trade case. The Department of Commerce announced its affirmative final determinations yesterday, and the International Trade Commission is scheduled to hold a final vote by April 6. If approved, the countervailing duty rate would increase from 16.41% to 20.93%, and the antidumping duty cash deposit rate would increase from 28.71% to 37.96%. For the quarter, we were pleased that we delivered positive comparisons in repair/remodel and new construction for the first time this fiscal year. Margins were challenged during the quarter with lower-than-expected sales in the made-to-order frame and home center and distributor channel and the costs related to the move of our California facility. Regarding the previously disclosed particleboard supply disruption, the company could be negatively impacted by higher pricing and incremental transportation cost of up to $1.5 million to $1.9 million per quarter until fully resolved. The company maintains property insurance, including business interruption dependent property coverage with a limit of $5 million. The company realized a $5 million reimbursement during the nine-month period ended January 31, 2020, on that $5 million limit. The company continues to believe it will grow sales at a low single-digit rate for fiscal 2020. This growth rate continues to be dependent upon overall industry and economic growth. The company's margins were negatively impacted in the nine-month period ended January 31, 2020, about $2.4 million for the move of one of our California facilities and $3 million due to the net particleboard supply disruption cost. Due to ongoing tariff costs and particleboard pricing transportation costs, the company expects adjusted EBITDA margins for fiscal 2020 to decrease slightly compared to prior year results. This concludes our prepared remarks. We'd be happy to answer any questions you have at this time.

We'll hear first today from Garik Shmois with Loop Capital.

So thanks. First off, I just wanted to ask, just on the comments that you made around unit growth outpacing sales growth. Just wondering if you look out over the next several quarters, it seems like this is an ongoing change in the industry and consumers moving down in price points. So can you maybe kind of size up the delta between units and sales? And maybe switching to margins, is there any margin implication from this, I guess, trade down on pricing?

Garik, this is Cary. Look, it's really difficult to quantify the delta between the unit and the revenue growth. It really varies by channel; it even varies greatly by region and by channel. So the primary point in my comment there is you add new construction, obviously, as we see a transition down to the first-time homebuyer. Naturally, it's going to be a smaller home, and you're going to see a trend down in the price points. To quantify, that's going to be difficult. I think as we gain more knowledge with regards to how aggressive that first-time homebuyer enters the market and how aggressively builders make that transition versus the ratio of existing homes. Because obviously, we're seeing some transition down, but builders are continuing to build some nicer homes out there as well. So that mix is going to be very important with regards to that formula. So we'll continue to keep an eye on it. With regards to margin, particularly on the builder side, we committed all along that was one of the key rationalizations of the acquisition, bringing in the low-cost Origins product, and we've been committed to maintaining our margins, albeit at a price point, but to maintain our margin percentage at those price points. You get into remodeling and renovation, I think it's extremely difficult. The market is so dynamic right now, particularly with the impact of the tariffs, really seeing what others are doing regarding imports, and then you throw in the transition that we're all trying to figure out regarding how much of the impact KCMA data right now is driven by the tariffs versus just the move down—and let's say the slowdown of the baby boomer population and their remodeling and renovation, and the pickup in younger generations. And certainly it's starting, but that pace is really difficult to assess right now just because of the number of variables that we're all being faced with. So I think over the next six months, we'll probably get a much better picture, us and everybody else, of how the industry is shaping up. But it's something we have to keep a close eye on. But right now, we're obviously committed to try to maintain relatively close margins, albeit Scott's point on these headwinds are a little bit of a challenge right now. But it's been our stated goal to maintain our margin percentages as we continue to grow.

Okay. Just one follow-up on the margin outlook. It seems like you took down your fiscal '20 margin guidance, and not looking now for a slight decline, which I guess makes sense given the factors that you identified. If you look out into the fourth quarter, maybe into fiscal '21, I just want to be clear, are some of these cost and margin headwinds expected to continue moving forward? Or is it just kind of your downdraft in your margin outlook really a function of some of the headwinds that you saw in the third quarter? So I just kind of want to be clear on kind of the change in the guidance.

Yes, sure. So let's talk about the three buckets again. So the first one would be the facility move, which is now complete and behind us. So we won't have any of those one-time costs associated moving forward into the fourth quarter or in the future fiscal year. Of course, we're not yet releasing any type of outlook perspective on our fiscal year '21. We're just in the process of starting our budget cycle. We'll certainly have a lot more to offer around that next quarter we get together. But the next bucket we'll talk about is tariffs, which continue to impact the business inside Q3, certainly expecting that into Q4. As Cary mentioned, our teams are working to mitigate and shift where possible. But we will likely continue to see some headwinds on tariffs continuing into fiscal year '21. And then the last bucket is around the particleboard. So just to give nuance to that: we've had a significant impact each quarter. However, we were getting reimbursed from our coverage in each of the last two quarters. So the net impact was being reduced considerably in our fiscal Q2 and Q3. Inside fiscal Q4, we're fully exposed, and that's what my earlier comment was. That could be $1.5 million to $1.9 million. Assuming the capacity comes online as currently planned, that will reduce significantly as we shift into the Q1 timeframe of fiscal year '21. But it’s very dependent upon that capacity coming online by the other suppliers.

We'll hear next from Steven Ramsey, Thompson Research Group.

Morning, I wanted to start with starts, and you said bids making it tough, more challenging to win business there. Can you maybe put this in context from the recent past? And as you look at options and plans to hold share or regain share, what options do you have? And how quickly will you be making the decisions and changes from your shifting strategy?

Yes. So the pricing that I referred to was really two isolated areas, one in Southern California as it's tied to our PCS business, and then we also actually have PCS, both within new construction, and we do have some distribution business in Southern California. So both of those are being impacted by some pricing. And then you got a couple of very localized markets out there that—primarily within multifamily—that were out there doing some bidding, and just given, I think, just given the downturn, a little bit of bouncing, you've seen a slowdown as some others are getting very aggressive on pricing. So we're going through a multi-stage approach. There's two aspects to this obviously. We've been faced with a lot of the headwinds that we talked about, tariffs that existed for some time, and a reminder that we've never taken any pricing related to that nor do we plan to; so we're in a relatively good position. Our stock product and our Origins product is positioned very well within Timberlake, so it's really isolated through our PCS, and I'll say 95% of that's in Southern California. So strategically, we're evaluating it from a cost-to-benefit analysis and how do we further address that market from two aspects. One is how low are we willing and do we want to go from a price perspective, bid perspective? And secondly, how much more efficient can we make our operations in Southern California to make ourselves more competitive? Most of the data that we have right now shows that the pricing is getting to such a low level that nobody is really making money. So it's something that we hope is short term, but it is an impact. Right now, it has definitely impacted our revenue, and we're making some conscious decisions not to bid on certain businesses just because it's gotten so low. So we'll continue to run the analysis. But right now, I keep talking on our call about a lot of forward-looking strategic change, and part of that change is removing a lot of complexity within our operations, both on our made-to-order platforms as well as our stock and our frameless platforms. We have significant operational improvements underway to really analyze and remove a lot of complexity in our business. That complexity not only creates a much better customer experience, but also removes a lot of costs from the system. So it's not an easy transition because complexity creeps in over years, and you have to go after big chunks. But that is a process we're going through right now. So we're doing that in Southern California and in our operations that we just moved to Riverside. Obviously, we made—we took the opportunity to make some changes during the transition. But we also have a lot of work underway to really look at the product platform, simplify it and take out costs from the system to allow ourselves to be a bit more aggressive. But at the same time, as we've always communicated, we differentiate ourselves on service. It's pretty rare. We're willing to go down and just buy business because we offer a competitive advantage of service, and that's true on PCS, and that's true on Timberlake. So that's part of the strategic analysis we're going through. More to come in the future as we learn more and see how the market shapes up.

Excellent. And that kind of leads into my next question, the long-term industry disruption. Is this going to be accelerated or stepped up from what we've seen? Is this purely the millennials being the prime customer going forward versus boomers R&R? And what is the timeline? Or do you have a rough timeline on increased investments broadly through your system needed to address this change? Maybe just any more detail that gives us some color on the long term.

Great, great, great question. We're learning every day. As I mentioned before, it's really hard to go out and collect data today, specifically to the cabinet industry, that identifies the transition we're undergoing with regards to our consumer base. The baby boomers are certainly still in the mix. And we've heard for some time now that they're aging in place, and that's had a positive impact on remodeling and renovation, personally, I believe that slowing down. Over time, that will be backfilled by the younger generation. So it's not just the millennial; there's certainly a younger X generation and as well as the millennial population. You continue to hear that millennials have the largest spending power out there today, which is not necessarily as relevant in our space. Cabinetry is very discretionary; there’s really been a big lag factor in the younger folks being able to get into single-family housing, and that really ties more to existing than new. We've said that once they get existing, they're going to be faced with some very old kitchens and so forth. Personally, we feel that will be a high priority for them. Certainly, they're going to have to replace roofs and certain aspects of the home that are required to do remodeling and renovation just because it's leaking or has to be repaired; they will prioritize that first. But the kitchen will come—we believe relatively quickly—just because of the age of the home and the kitchens within those homes. So I think the transition is happening. I don't think it's as aggressive as what probably the market would indicate right now just because there are so many other factors that are impacting the market, including just the overall slowdown in baby boomers, the impact of the tariffs, and so forth. But I definitely believe they are in and they're coming. I think when they really start to ramp up is when we're really going to see the impact on the industry. And when I talk about disruption, that is the true disruption that I think we're going to be faced with. The good thing is we talk about it internally; we've been talking about it for years now. We clearly expect the younger generation to come in with a much different set of expectations and the attributes that they value. They want a much different experience. The average number of visits a consumer has to go back into a retail space today to finalize the kitchen process would be mindblowing for most. If you ask younger generations how many times they'd be willing to go back and forth, that might be one at most. Obviously, they're going to interface much more digitally; they're willing to make transactions and work directly with designers via chat, live, or email. I think we're going to have multiple points of entry for that consumer. We're going to have to be willing and able to connect with that consumer in the ideation phase and to really manage that entire process for them because today it's very disjointed. It's very difficult for a consumer to go from ideation to cabinet installation in one step process with one specifier, one facilitator of that process. So I think that's going to be a high demand, and I think we're in a prime position to leverage our builder center platform we have out there to expand our service and really start to offer some opportunities within the R&R space that we've never done before and that nobody in the industry has the capacity or capability to do. We see this as a great opportunity. I think, like I said, it's going to be a challenge, and we're all learning. We're going to have to really reshape the company in some regards. It's super exciting for us, and we've been looking forward to it. But I wish I had better answers on exactly when and how; I think that's the fun of it. We're all in this, and we're going to see how the younger generation shapes up.

Excellent. And does this mean that as you get further into this, that do you expect to hold the company margins and go-forward incremental margins at a similar pace in place? Or do you think on the other side of this thing, that there could be maybe a step-down in margins, but you can make up for it on volumes?

Certainly. When you talk margin dollars versus margin percent; obviously, it's a different story. On margin percent, we've been committed, and we know there's going to be some volatility; the industry is. I'll go back to the recession: this industry has been pretty volatile quarter-to-quarter. I think you're going to continue to see that volatility, but long term, we do remain committed to our long-term margins. There will be periods of time where we're going to have to make some investments in the business, but we do feel comfortable with our ability to continue to grow and do it at a margin rate that's acceptable. Long term, we did commit; if you go back to the acquisition days, we did commit to the 15.5% to 16% long term. I think long term will be the question now, but I think as we come out at the other end of this, what I inform you as disruption in the industry is we are absolutely working on solutions. It’s product solutions and creative and innovative product solutions that take complexity out of the system. It’s a much different approach to the consumer than we've ever gone after in the history of the company, but I truly believe we can maintain those long-term commitments on margin.

We'll hear next from Tim Wojs at Baird.

Morning. Just on—Cary, just kind of your commentary on some of the kind of reducing complexity internally and things. I mean, is this kind of a normal course of planning for you? Or do you feel like there's some stepped-up opportunities on the internal cost base that you're looking to kind of simplify? It sounds like it's the latter. I just want to understand that better.

No. I actually say it's not normal. I think that both the challenge of it and the excitement of it is we are truly looking at the term—the phrasing we use internally is that we really can't go after and do what we do better. We have to do what we do totally differently, and that's really how we are approaching this. It has to be step changes in what we do, how we do it, and the cost of how we do it. So when we talk about taking complexity out, it's not just about approaching it from a cost perspective; you approach it from a system and process complexity. It’s not just manufacturing; it's throughout the entire system because the ultimate end goal for us is the entire customer experience. Being able to successfully manage that and create such a clear and sustainable competitive advantage in that space really forces us to step back, map out the entire process, and then understand the complexities and then realize how big of these chunks of complexity we have to take out. The net benefit—obviously, there are a lot of case studies out there regarding system complexity. You have to make some tough decisions along the way, but with the net vision of improving that customer experience, ultimately you're doing that to gain share, and you come out as a clear winner. So it's going to take the company places we've never been before. It's a very exciting time, but it is going to take time to get there at the same time.

Okay. And then just on the new construction market, how is that performing—your builder direct? How is that performing relative to your expectations maybe six months ago?

I'd say it's in line with our expectations. The market is—everybody is trying to guess where the market's going. You've seen growth estimates all over the place, both for this past year and the current calendar year we're in; the growth estimates are all over the place. We are in line. We're certainly very pleased with our performance, with our transitions of the Origins business. We stated, go back 1.5 years to a year ago, that it was not ramping up as quickly as we had hoped. That had nothing to do with our internal capabilities; it was just the move of builders starting that transition in helping with price points. We're seeing that. Builders continue to make strong investments and gain improved share in America. Obviously, given our share with them, that helps us. Because of the Origins, we are actually outbidding on business that historically we would not have been on. So it's been a very strong positive for us. Like we mentioned, we are maintaining good margins on that business. It's a continued aggressive growth plan for us. So you think about how many quarters, we came out and announced results in Timberlake stating that we've over-indexed the industry, and we've gained a lot of market share within new construction because of our direct-to-builder platform. So we're very, very pleased with it.

Okay. And then just on the margins, Scott. Just to make sure I've got the pieces right. The facility costs, those completely go away in the next quarter and into 2021. Particleboard will kind of continue to be an unmitigated headwind now that the insurance has kind of been used up, and that could be Q4 and bleed a little bit into the first quarter. When do terms—or the unmitigated impact of tariffs lap for you guys?

When do they lap? It's probably going to be in Q2. We'll continue to see impacts, but it's the items we haven't been able to resource, which is principally around hardware glides and a particular top. So those are likely going to continue, but there will be some relief when you do the year-over-year comparison versus the items we've resourced.

We'll hear next from David MacGregor with Longbow Research.

Take one second taking the questions. Are you seeing limited installation capacity as a growth constraint?

You said installation? Yes. Not really. We've—knock on wood—maintained a very, very good business out there. I think one of the key differentiators we have with our Timberlake direct business is we're so consistent. We've gained market share; we're very consistent in the installation business, and the folks that we have out there are really dedicated to our business. So no, we have not had any restrictions. We had a couple of geographical markets that have grown very quickly in the past year that might have a little operational constraint, but we got those back on track. So at this time, no, we're continuing to move along.

Do you feel it's a source of competitive advantage for you? It sounds like you're very confident in that.

Absolutely. The whole platform is, right. Once again, just because of the fact that we're national, we're in all the key markets and who we are as a company. We have physical locations; we have seven main and 11 satellite facilities that offer very localized servicing, and it makes a big difference. Our reputation in the market has a big impact on our ability to hire people as well. We tend to attract people that know the industry, operators, service techs, or service reps; most of them have been in the industry for quite some time, and they love to work for Timberlake. It makes a difference. It is absolutely a competitive advantage for us.

Yes. Second question, just with regard to the build-to-order segment. What are you seeing in the way of promotional activity within the BTO? And how do you expect that to change, if at all, in the next few quarters?

I'm sorry, the BTO promotions in the next couple of quarters. We'll see. We are very—we're engaged with our key retail partners on the promotional activity. I think there's been a lot of trialing over the past several years but perhaps the next six months is continuing as merchants are trying different promotional approaches and so forth. We've been pretty ardent all along with regards to our belief, and promotions certainly are not driving new consumers in the door. We recognize that it’s a double-edged sword. We are cautious about going out and buying business and setting precedents, particularly in the retail space when it comes to conditioning designers and consumers on promotions. We differentiate ourselves based on service, not necessarily price. But at the same time, you have to be willing to compete. So we're continuing to work with them. We think it's some—hopefully, some more strategic decisions will be made in the coming months that not necessarily take promotional activity down but shifted into much, much more productive buckets. But we'll just have to wait and see. It's something that our team is working very aggressively on, and we have strong relations with our retail partners that we will continue to leverage and have these types of discussions with.

Do you think you get back to growth in the build-to-order by just winning share? Or do you think there's hope for the category?

The big thing there is category, right? The retail space, and I’ll just speak KCMA data, obviously, special order has been negative for a number of quarters now. I think it goes back to the question asked previously on the younger generation and where the younger generation is going to shop and how they're going to shop and whether they will walk into the existing retail spaces. We certainly believe a certain percentage of them will. But at the same time, we believe that retail spaces are going to have to make some changes to make themselves more inviting for the younger consumer. So we are very focused on helping our retailers with that. A lot of the statements I made previously about investing in the digital platform and overall customer experience is designed to help our retailers better manage that experience, and we will actually manage much of that experience for them. That will be a win-win for them and us. So that's our goal.

We'll hear next from Justin Speer with Zelman & Associates.

Thank you very much. I just wanted to unpack these one-time items or discrete items. Can you remind—Scott, can you tell me how much the particleboard net impact was? And what the insurance recovery was?

Yes. So the net impact inside the quarter was $500,000.

Okay. And for the full year, $3 million net of insurance? Or is that a gross number?

It's $3 million net year-to-date, and we fully recovered the full $5 million. We have exposure pushing into Q4 between $1.5 million and $1.9 million.

Okay. So as you think about the full year drag from the discrete items in fiscal '20, how does that look on any kind of a margin headwind basis? And then how should we think about that as we look to next year in terms of some of these maybe becoming greater relief or offsets or positives next year as they unwind?

Yes. So I’ll reflect back just on the earlier comments on that particular point. The facility move one-time cost certainly won't repeat as we go forward. Particleboard certainly continues inside Q4. Our expectation, again, as the capacity comes online, we will see relief against that going forward. We still believe there will be transportation risk just because of the location of the facilities as we go into fiscal year '21. But we don't have that completely dialed in and finalized as we’re pulling together our budgets as we speak. And then tariffs continue or increase or decrease, unfortunately. That all depends on the timing and exactly how that shakes out. We expect that to still be somewhat of an issue as we go into the first part of fiscal year '21.

Just following up on it. So when I look at these discrete items that you're calling out for at least the third quarter, it was like $2.5 million of incremental items. But when I look at the gross margin, that gross margin is down 170 basis points. It's closer to like $6.5 million, $7 million and $7.5 million, but there's about $4 million of other drag in there that is—maybe you can help account for. And then you mentioned some—taking some inventory downtime or some production downtime. Maybe help us understand the balance of the year-over-year drag as it pertains to the margin pressure.

Sure. We won't get into dollarizing each of those respective items, but you heard Cary talk earlier about down days. We did have an incremental down day year-over-year, which creates some disruption. We also had some inefficiencies inside the period in our facilities, along with freight and healthcare that caused a bit of a drag on us inside the period. The other thing I would encourage you to do is don't necessarily just focus on the gross margin change, focus on the EBITDA change. We do have some dollars that have swapped between the categories year-over-year. So I don't want to get buried in the nuances of that. Operating inefficiencies, the freight piece we talked about, and the incremental down day were the other key items.

Okay. And the last question...

Just a little highlight on operating efficiencies; part of it's down days—some of our operations were actually ramping up, so I talk about the growth on the stock side. It's been very positive for us. However, when you ramp up as quickly as we're ramping up, it does drive some inefficiency in the system that is more—should be short-term because we are—most of those operations are ramped up. We expect continued growth in that. But it's been a very nice growth for us. But when you grow as quickly as we have seen on that side, it does create some challenges.

Okay. That makes sense. And then the last question for me is just as we rewind back five to ten years, the cabinet category was one that was able to obtain price. It was, from an industry standpoint, reasonably well positioned from a pricing power standpoint. And now we have the antidumping duties rolling through; Chinese imports have collapsed. Do you think the nature of the industry will allow at least some price power in parts of the portfolio that maybe otherwise wasn't there before antidumping duties?

Yes. I think you have to define pricing power relative to the market itself. And yes, I think that if we are still arriving on the baby boomer growth—and that was the key point of our growth going forward, I think you would absolutely continue to see some pricing power. The challenge is, while this is occurring, we're seeing younger generation come in that's driving the market down. So the market is peaking very clearly out there, and where it's a transition into the building price point homes or younger generation starts to get into existing homes, absolutely they will not be able to afford the level of kitchen purchases that the baby boomers have been doing for the past ten years. So I think that's just more of a market question. Once you start to balance that out, if you get down to specific price points and you come up with solutions that you find are competitive in the market, I do believe you'll be able to see pricing power within those. But the first step that folks really need to understand is the drive toward being able to offer a more affordable solution, being able to offer affordable solutions that offer a clear competitive advantage. What you don't want to become is a commodity business where everybody is driving all their capacity down to a lower price point, and we know how that shakes out for an industry to do that. So there will absolutely be the ability with the new generation to create a competitive advantage. I think that's what's going to differentiate folks. Once you have that clear competitive advantage, then you start to differentiate yourself on price because people will pay for that value.

And with no other questions, Mr. Culbreth, I'd like to turn things back to you for closing remarks.

Since there are no additional questions, this does conclude our call. Thank you all for taking time to participate.

And again, that does conclude today's conference. Thank you for joining us.