Earnings Call Transcript - JHX Q4 2020

Operator, Operator

Thank you for joining us for the James Hardie Q4 FY '20 Results Briefing Conference Call. All participants are in listen-only mode. There will be a presentation followed by a question-and-answer session. I will now turn the call over to Dr. Jack Truong, Chief Executive Officer. Please proceed.

Jack Truong, CEO

Thank you. Good morning and good afternoon, everyone. Thank you for joining us on our Q4 fiscal year 2020 earnings call. I will begin by providing our perspective on how we have been managing the ongoing COVID global crisis within our company, followed by a review of our Q4 and full year FY'20 operating results. Our CFO, Jason Miele, will then cover the financial details. Finally, I will end with an update on our strategic focus for fiscal year 2021 and the outlook for the current quarter. On that note, I wanted to take the opportunity to once again congratulate Jason on his recent appointment as Chief Financial Officer of James Hardie Group. His strong track record of financial and business leadership, as well as his intimate knowledge of James Hardie Company, will be critical as we continue to execute on our global strategic plan. Let's now turn to page 8. The focus of today's discussion is on Q4 and fiscal year '20 performance. I'd like to provide you with a perspective on how we have been managing the ongoing COVID-19 global crisis. Our approach to managing this crisis has always been about providing absolute clarity of direction throughout the organization, while also gaining real-time feedback on key happenings in all of the markets that we participate in and from all of our front-line employees around the world. This is essential to allow and empower our leaders at various levels in the company to make the right fact-based decisions in real time, rather than based on noise or assumptions. Consistent with our foundation of a Zero Harm culture, our primary objective is to ensure that the health and safety of our employees, customers, and suppliers are taken into consideration in all business decisions we make. Toward this end, we established consistent, clear, and specific pandemic protocols that were implemented across the globe to ensure we have one global James Hardie standard. These protocols include executing strict physical discipline guidelines that maintain at least six feet or two meters of separation between employees in all product facilities, including manufacturing locations and COVID offices. Additionally, in all facilities, we have implemented extensive disinfection and hygiene processes to eliminate the virus and prevent its spread. Outside of our facilities, we are committed to helping our employees and their families maintain safety and well-being by providing access to personal protective equipment and hygiene kits for employees. For those who go to work every day to manufacture and develop products, as well as to service customers, we provide take-home kits for personal use to ensure our employees and their families are safe, and we are offering additional sick leave and childcare support benefits, executing a work-from-home model where possible and applicable. While this crisis presents our leadership team and our employees throughout the world with a very real challenge, I am confident that our relentless focus on maintaining a safe and sustainable work environment will help strengthen our business continuity and ensure that we can continue to produce products and serve our customers seamlessly. With that said, I would like to transition now to our key operational results for the fourth quarter and for the full fiscal year 2020. Let's now turn to page 9. I am pleased with what our global James Hardie team has accomplished in fiscal year '20. We continue to execute our global strategic plan, leading to an outstanding performance in fiscal year '20. Collectively, as a team, we have generated significant positive momentum on the transformation that we embarked on over a year ago, and we expect to continue this positive momentum into fiscal year 2021. This is now the fourth consecutive quarter that the company delivered consistently strong results. Our global perspective of group results was highlighted by a strong volume increase of 7% in the quarter, led by excellent volume growth in North America of 10%. We saw significant growth in our adjusted EBIT of 21% in the fourth quarter, again driven by excellent EBIT growth in North America of 26%, and a 4% growth in our Asia-Pacific business. Our adjusted NOP increased 17% for the quarter and also for the full year. Our operating cash flow increased an exceptional 48%, providing improved liquidity and financial flexibility for our business. While I am proud of the outstanding fiscal year '20 performance, I am even more excited about our continued positive momentum into fiscal year 2021. Let's turn now to page 10. North America continued to deliver excellent results across the board in all key financial metrics, including volume growth, EBIT growth, and EBIT margin. In the exterior business, our volume growth accelerated in the second half of the year, posting an 11% growth in Q4 and 9% growth for the full year. In the interiors business, the volume growth continued to improve each quarter during the past year. We delivered a 5% volume growth for quarter four and 1% for the full year. We continued to improve on the execution of HMOS, the Hardie Manufacturing Operating System, generating $29 million of lean savings for the full year, which is ahead of plan. For the full year, our EBIT margin reached an exceptional 25.9%, exceeding the top end of our long-term target range. These results reflect the significant impact of commercial transformations from pull to push-pull and lean transformation in our network of plants. For the full year, North America delivered 7% plus of PDG or growth above market and the previously mentioned 25.9% EBIT margin. This is the first time in more than a decade that North America delivered PDG in the 6% plus range and an EBIT margin greater than 25%. It is further confirmation that we are now operating consistently at a new step change. Let's now turn to page 11 for our European results. In Europe, if you recall from our Q3 earnings call, we indicated that our commercial execution in Europe was lagging that of North America. At that time, we made several key adjustments that we expected would improve our results. I'm pleased to report that we saw a significant improvement in our commercial approach in Europe in quarter four. Our quarterly revenue is back on track at 7% growth. In quarter four, we continued to deliver strong revenue growth in our fiber cement business, posting a 50% growth, resulting in a full-year growth of 32%. Additionally, fiber gypsum revenue improved to 3% growth for the quarter, resulting in a 2% growth for the full fiscal year. However, the positive growth in the quarter did not translate to EBIT growth due to integration costs and SG&A costs that were significantly higher than expected. In addition, we faced unfavorable freight costs in the quarter as we navigated through various lockdowns in various countries to service our customers. We're addressing these issues and expect to be back on track in the near term. Now let's turn to page 12 for our APAC results. In APAC, our Australian business held its own, even in the face of downward market pressure, seeing continued growth above market. However, the volume, gross profits, and EBIT of APAC in Q4 were unfavorably impacted due to the mandatory lockdowns in New Zealand and the Philippines as the COVID-19 crisis progressed in March. As a result, we saw moderate EBIT growth in Australian dollars of 4% in the fourth quarter and 2% for the full year. APAC's EBIT margin for the full year was 22.7%, in the top half of our long-term range. APAC's solid financial results, driven by our Australian business performance, reflect how the team remained disciplined in their approach to executing on push-pull and the Hardie Manufacturing Operating System, leveraging best practices from other regions to continuously improve throughout the year. Now I'd like to turn this over to our CFO, Jason, to discuss additional details on our financial results.

Jason Miele, CFO

Thank you, Jack. I'll start on slide 13 with a discussion on our liquidity and cash management actions. In the graph on the left-hand side of the slide, we've laid out our liquidity position as of the end of the third quarter fiscal year '20, the end of the fourth quarter of fiscal year '20, and as of April 30, 2020. You can see we've made significant improvements in our liquidity position over the last four months, increasing liquidity by US$114 million. I'll start by focusing on our liquidity improvement in the fourth quarter and the month of April before shifting to discuss the actions we've taken to help ensure continued strong liquidity throughout the COVID crisis. Improved liquidity from December 31 through April 30 is primarily driven by strong sales growth and cash conversion. As Jack discussed earlier, we had a strong fourth quarter including an exceptional March, and as you can see, the impact of strong sales and our conversion of those sales into cash, our liquidity position increased from US$464 million at December 31 to US$578 million at April 30, a US$114 million improvement over that four-month period. This strong sales performance in our fourth quarter was driven by our North American, European, and Australian businesses. In Europe, we returned to strong revenue growth in Q4, with revenues up 7%, including a 50% increase in fiber cement net sales. In Australia, the team continued to drive growth above market, and finally in North America, the team continued to drive our commercial transformation, leading to another strong quarter of growth in our exteriors business of plus 11% and also strong growth in our interiors business at plus 5%. While the strong performance improved our liquidity position significantly, it was also crucial that we took quick and decisive actions when the COVID pandemic emerged to ensure we not only maintained our liquidity position but improved upon it. The management system we put in place over a year ago was critical to our ability to execute these initiatives across our global operations effectively and continuously. These included tactical cash and cost measures such as hiring freezes, elimination of temporary consulting type workers, travel freezes, and reductions in discretionary spending, among others. Additionally, we also made more strategic and significant decisions to ensure strong liquidity and financial flexibility going forward, including the immediate suspension of dividends as approved by our board and announced on May 5, and a significant reduction in capital expenditures from our three-year run rate of US$240 million to an estimated range of US$80 million to US$95 million for fiscal year 2021. Our capital expenditures in fiscal year '21 will be focused on safety, maintenance, and innovation. As Jack will note later in our first-quarter FY '21 guidance, we'll continue to improve our liquidity position, as continuous improvement will be driven by not only our relentless focus on cash and cost initiatives but also our continuous focus on serving our customers and driving strong sales. Moving on to slide 14, I want to recap the actions we took on May 5 to improve and secure our global operations and also discuss the financial impact of those actions. Starting on slide 14 with the recap of the actions to better harmonize supply and demand in North America, we took two significant actions: first, we will be closing our Summerville, South Carolina plant in the United States; and second, we will be delaying the commissioning of our Prattville, Alabama plant in the United States. In our Asia-Pacific region, we also took two actions: first, we will be moving to a regional model for the manufacturing and supply of fiber cement in the New Zealand market, which will include the closing of our Penrose, New Zealand plant by the end of this calendar year and shifting products from Australia to New Zealand; the second action in Asia-Pacific is that we are exiting our James Hardie Systems business, which we had acquired about four years ago, and this includes closing the plant in Queensland, Australia. In our European business, we temporarily hired a plant in Germany to better match supply and demand in the short term in Europe. Finally, we also reviewed our organizational structure and resource levels globally to make strategic adjustments to ensure we are well-positioned to continue to serve our customers in this fast-changing market environment. We believe these actions not only will help us stay strong during the crisis but also ensure we emerge from the crisis even stronger. Moving on to slide 15, we have outlined the financial impacts of these actions. On May 5, we announced that we anticipated approximately US$90 million of non-cash impairment expense in the fourth quarter of FY'20. We've outlined the actual amount here, which was US$84.4 million across all three regions, as well as general and corporate losses. These impairments related to the closure of our Somerville and Penrose facilities, the exit of the James Hardie Systems business, as well as the impairment of some non-core assets in North America and Europe. There is more detailed discussion of these impairments within the financial statements and the management analysis discussion documents filed with the AFX and which are available on our website. Several of the actions we announced on May 5 resulted in reductions to our workforce, totaling approximately 375 employees around the world. We estimate that severance costs totaling approximately US$10.5 million will be incurred and expensed. These expenses will be recorded primarily in the first quarter of fiscal year '21, with a small portion reported in the second quarter of fiscal year '21. Consistent with the accounting guidance regarding one-time COVID-19 costs, including severance-type costs, we plan to exclude these one-time COVID-related costs from adjusted EBIT and adjusted measures in fiscal year '21. We anticipate US$20 million to US$30 million of EBIT accretion in fiscal year '21 associated with these actions. The integral accretion will present itself across all operating segments and across numerous P&L line items, including depreciation, labor costs in both SG&A and manufacturing, cost of goods sold, etc. While we will achieve EBIT accretion in each quarter of FY '21, we anticipate the amount of accretion will increase each quarter throughout the fiscal year. I want to now spend a little time discussing how the EBIT accretion impacts each of our segments. In North America, we'll drive EBIT accretion in FY '21 associated with the May 5 announced actions as follows: first, the impact of closing Summerville, primarily EBIT accretion derived from reduced headcount and lower depreciation and other fixed costs associated with operating assets; second, we'll also have lower depreciation due to the impairment of US$29 million of non-core assets impaired in the North American segment; third, there will be labor cost savings associated with the resource realignment announced on May 5. In Asia-Pacific, we'll derive EBIT accretion associated with the May 5 announced actions as follows: first, the impact of closing our Penrose facility, primarily EBIT accretion derived from reduced headcount, lower fixed costs associated with operating a site; second, the impact of shifting to an import model for our New Zealand market, which we model will be gross margin and EBIT margin accretive to our New Zealand business; and third, in closing our James Hardie Systems business, which had operated at EBIT losses totaling approximately US$5.5 million across the last three fiscal years; finally, there will be labor cost savings in Asia-Pacific associated with resource realignment. In Europe, we'll drive EBIT accretion associated with the May 5 announced actions as follows: first, labor cost savings from the resource realignment, and second, some minor savings in depreciation associated with the US$5.5 million of non-core assets that were impaired in Europe. To summarize, we expect US$20 million to US$30 million in EBIT accretion in FY '21 associated with the actions we announced on May 5. To be clear, that is not the full 12 months of EBIT accretion, as these actions were announced in May, and some of the actions - for example, the closing of Somerville - will not be fully complete until later in the fiscal year. Lastly, the US$20 million to US$30 million of EBIT accretion will not occur evenly across the four quarters of fiscal year '21. It will increase or accelerate each quarter throughout the year. Okay, moving to slide 16 to discuss cash flows and capital expenditures. As I noted earlier, our operating cash flow increased 48% year-over-year. This was primarily driven by the strong operational performance and cash generation of our operating business units, particularly our North American and Australian businesses. Year-on-year, there were significant changes in the amounts used for investing and financing activities. These changes are simply reflective of the fact of the Summerville acquisition in FY '19, and there was no such transaction in fiscal year '20. Shifting over to the right-hand side of the slide, we have provided our capital expenditure profile across the last three fiscal years, along with our estimate for fiscal year '21. In fiscal year '20, our capital expenditures totaled US$194 million. This included work on two significant expansion projects, with slight impact on Alabama in the United States, and the Brownfield expansion of the Carole Park in Queensland, Australia. We plan to complete the construction of Prattville in the next few months, so we can leave the site in an optimal position for commissioning when we need the additional capacity. For now, we do not anticipate commissioning Prattville anytime sooner than fiscal year 2022. Regarding our Carole Park expansion, we completed that project in the third quarter of fiscal year '20, and we will commission that sheet machine when we determine the demand across Australia and New Zealand requires it. We currently anticipate that in fiscal year 2022, but we will continue to monitor the impact of COVID-19 on the demand in New Zealand and Australia to determine the appropriate commissioning date. That sheet machine is fully constructed and is ready to commission when we need the additional capacity. Lastly, as we noted in our May 5 announcement, we've adjusted our planned capital expenditures for fiscal year 2021 to be in the range of US$80 million to US$95 million. Our capital expenditures in FY '21 will be focused on safety, maintenance, and innovation. Moving on to slide 17, which shows our debt structure and liquidity as of March 31, 2020. There is no change in our debt structure. We continue to have three sets of senior unsecured notes and a US$500 million revolving credit facility. As we had noted in the past, the revolving credit facility does have an accordion feature, which allows for the potential to access an additional US$250 million of credit. At this time, we have no plans to access the accordion feature. We're comfortable with our debt structure and liquidity position. Specific to our liquidity at March 31, 2020, we had US$365 million available to be drawn on the US$500 million revolving credit facility. In addition to the funds available to be drawn from the RCF, we had US$144 million of cash at March 31. Together, the available funds under the RCF and our cash on hand provided us with a total of US$510 million in liquidity at March 31, 2020, and as I mentioned earlier, we improved that liquidity position to US$579 million at the end of April. We expect to continue to improve our position, as set out in our guidance. Regarding leverage, we improved our leverage ratio to 1.9 as of March 31, 2020. As you are aware, our RCF has a covenant that requires us to remain under a leverage ratio of 3.0. With our leverage ratio currently at 1.9 and the cash and cost actions we've taken, we're confident we will continue to maintain strong liquidity and a good leverage position. Overall, we remain well positioned with strong liquidity and financial flexibility. I'll now hand the call back over to Jack to go through our current strategic priorities, provide a quarter-to-date trading update, and Q1 fiscal year '21 guidance.

Jack Truong, CEO

Thank you, Jason. Now let's turn over to page 19 for an update on our fiscal year '21 swift strategy, starting with a summary of our current strategic priorities. As I stated earlier in this call, even in the midst of a global crisis, I'm pleased to note that our teams around the world are highly engaged and continue to build on and improve our commercial and lean transformation success. To that end, our current strategic priorities reflect not only our core values but also our commitment to maintaining business continuity. These priorities include: first, managing a safe and sustainable work environment via our culture focus on Zero Harm. It is critical to our business continuity to continue producing and serving our customers; second, maintaining strong liquidity and financial flexibility through specific working capital assets that Jason highlighted, along with continued engagement with our customers to serve them effectively; third, continuing to gain market share via our focus on push-pull strategies, staying close to our customers, and seamlessly serving them, while continuing to work with our contractors and increasing demand from our broad portfolio of products. Now more than ever in a down market, we are very focused on driving market share gains by providing the best value to our customers and continuing to build on our disciplined approach to lean manufacturing initiatives to deliver continuous improvement, servicing our customers, and generating lean savings each and every day in our network of plants. Lastly, but certainly not least, we will continue to develop high-impact innovations that our customers expect from our company. Turning now to page 20, I’d like to share with you an example of how James Hardie offers full experienced solutions that are consistent with the strategy that we embarked upon over a year ago and how we are going to markets that will drive more growth and provide more solutions to our customers and end users. Now, I’d like to highlight here that James Hardie is more than just a brand name. We offer builders and contractors solutions that are both functional, with unique properties of low maintenance and durability, and aesthetic, with endless design possibilities for almost all of their exterior needs. You can see that these include our ColorPlus technology to mix and match different color palettes, HardieShingles, to provide access that meets viewers and customer preferences whether in Northeast US, or in the Pacific Northwest. A true portfolio of exterior options to meet multiple architectural and design needs such as HardiePlank, HardiePanels, vertical sliding, and HardieTrim are complemented by our exciting products, including HardieTrim boards and Hardie socket panels. Now shifting to page 21, this shows our number of James Hardie's broad portfolio of exterior products and brands that address everything from starter homes to luxury custom-built homes, as this example shows what we’ve got to market in Atlanta, Georgia. So, you can see from a standard brand that is used for starter homes to the first mover, and into our core James Hardie exterior solutions for second mover homes, semi-custom homes, and now the Aspire collection for luxury custom-built homes truly represent a James Hardie exterior solution for every home at any price point, resonating with homeowners across different price points and locations in the United States and Canada. As an example, this portfolio of James Hardie exterior solutions allows homebuilders to create differentiated homes at price points from the starter to luxury, enabling our customers to provide builders with more products and solutions from James Hardie as a one-stop shop. Now moving on to page 22, I’d like to highlight specifics related to our quarter-to-date results and our Q1 fiscal year '21 guidance. Now as you know, the COVID-19 crisis is driven first by health issues and economic issues. It is therefore very difficult to predict how the housing market will perform this year, given the highly volatile nature of the crisis. Nevertheless, we focus on what we can control, which is to continue to accelerate our market share gain while delivering strong returns based on our leading transformation. Now I would like to share our actual volume results from April 1, of this year through May 15, reflecting the continuing execution of our commercial transformation in light of the ongoing COVID-19 crisis. In North America, our exterior volume is down about 3%. In Australia, the volume is flat, and in Europe, the volume is down about 16%. This is primarily driven by the fact that both the UK and France, two of our top markets in Europe, were almost locked down completely during this time period. Now based on our continued focus and discipline in executing our global strategy, we're providing the following guidance for the first quarter of fiscal year '21: our North American adjusted EBIT margin will be in the range of 22% to 27% in quarter one; our liquidity will be greater than $600 million at the end of the first quarter, and we will maintain a net debt ratio of less than 2X at the end of the first quarter. As we enter fiscal year '21, I'd like to reiterate that we continue the path of driving the fundamental transformation in our company while managing through this global crisis. As a company, we believe that the actions that we have outlined today will not only enable us to manage and thrive throughout this crisis but also strengthen our company coming out of it. This journey of transforming our company from being a big small company into being a small big company is about creating a customer-centric organization that strives to become a trusted and valued partner for our customers globally. We continue to build capabilities and processes that connect our core strengths to generate scale to consistently deliver on profitable growth. While we're on the right track, our fundamental transformation is far from complete, but we still have significant work to do across our key focus areas. As I mentioned in the last quarter's earnings call, we will continue to connect our businesses together and focus on a critical few opportunities that will create value and earn our customers' business every day by increasing demand for our products and solutions through our builders and contractors. We aim for a more efficient supply chain that will better serve our customers by connecting demand through our customers back into our manufacturing plants, our network of highly efficient plants, to serve our customers better. We are also focused on enabling our tools to make it easy for our customers to sell our products and enhancing our innovations to expand market opportunities for our customers. While our aim is to deliver consistently on all these objectives, we will truly become a global company that can deliver sustainable and profitable growth. We look forward to building on the momentum generated in fiscal year '20 as we navigate effectively through the current crisis with a keen eye on emerging as an even stronger James Hardie. I would like to thank all of James Hardie's team members around the world for an outstanding year of financial performance and an unwavering commitment to Zero Harm. I'm excited for what the future holds. Thank you, and let's now move to Q&A.

Operator, Operator

The first question comes from Lee Power with CLSA. Please go ahead.

Lee Power, Analyst

Jack, can you just talk about the biggest factor that drives the bottom to the top end of that 22% to 27% North American margin range, not only for the year but also the quarter given that you're halfway through the quarter?

Jack Truong, CEO

We're at the top end of that driven by how efficiently we continue to drive continuous improvement in our network of plants. As we're now about four quarters into the transformation, it is important for us to continue to drive those improvements. The bottom end depends on the volume that will come our way, which is quite highly volatile.

Lee Power, Analyst

If we just look at the first quarter to date, have you got any thoughts around - I know you don't like talking about PDG on a quarterly basis, but do you have any idea what the market did in your PDG contribution? As you're answering that, you mentioned to accelerate PDG. Do you mean the rate of PDG could be above the 7% that you achieved, or are you talking about holding that number?

Jack Truong, CEO

I think it is the current combination of what the market growth is going to be. It's really more important than how well we drive our market share gain. What we know is that during the past few weeks, our business has improved quite a bit compared to the beginning of the quarter. This is a combination of us continuing to accelerate our market share gain and also noticing that as some of these spaces begin to ease on the shelter-in-place orders, more construction work is going on, leading to growth in the market.

Lee Power, Analyst

Okay. Thanks, and just one final one on Europe. You obviously built out the headcount there; is that done, and where did most of these roles actually end up going?

Jack Truong, CEO

We're in the process of executing that. Of course, building out headcount is a multi-million-euro process to complete. The roles are primarily in the Western European countries, particularly Germany.

Operator, Operator

Thank you. The next question comes from Peter Steyn with Macquarie. Please go ahead.

Peter Steyn, Analyst

Good evening Jack and Jason. Thanks for your time. Just following up from what you're seeing in the market, it would be interesting to get your views on the scenarios that you're planning across the three regions. At this stage, how are you broadly delineating the planning process and the decisions that you've made?

Jack Truong, CEO

Let me first walk through the regions. In North America, we have a strong market position in the Pacific Northwest, Southeast, and the East Coast down to the mid-Atlantic and the Carolinas. In that area, it's about continuing to execute our game plan, leveraging new products. We're now beginning to reaccelerate our leverage on our exterior solution, which I just shared in the presentation. We have a full line of products at different price points that resonate with builders and homeowners. Of course, we will continue focusing on our push-pull strategy to accelerate demand creation while working closely with our customers to create value for them. In Europe, the opportunity lies in fiber cement as it is a unique and differentiated product, especially in the current tough market. We have been effectively gaining momentum over the past six to nine months. In Australia, we continue to build on the momentum we have had for the past two to three years, being closer to our customers and gaining their trust. This allows us to sell a broader portfolio of products.

Peter Steyn, Analyst

Thanks Jack, that's a lot of useful color. Also, I am curious whether you're thinking V-shaped or U-shaped recovery from here, and your actions suggest that you're a little more cautious?

Jack Truong, CEO

Yeah, I think it's more like a swish. This has been fundamentally a health-induced crisis. Before COVID was declared a pandemic, housing started in North America was growing, with an increase of more than 20% in January and February. However, the lockdown and shelter-in-place announcements dampened that demand a bit. We now see 36 million folks are out of work, which means there will be fewer potential buyers in the short term. But we must focus on our operations, ensuring better service to our customers and creating value in the marketplace.

Peter Steyn, Analyst

Just a quick one for Jason. Jason, could you give us the same what your exit run rate is on the $20 million to $30 million EBIT optimization benefits would be, given that it ramps up during the quarter?

Jack Truong, CEO

We're not going to provide specifics on that right now. Certainly, at the Q1 result in August, we'll give more clarity on what was achieved in Q1.

Peter Steyn, Analyst

No worries, thanks. I'll leave it there for others.

Operator, Operator

Thank you. Your next question comes from Keith Chau with MST Marquee. Please go ahead.

Keith Chau, Analyst

Good evening. Thanks for taking my questions. The first one, Jack, I just want to go back to one of your comments earlier when you mentioned that the business has improved quite a bit through the quarter. While it’s difficult to talk about general claims month-on-month given orders, can you provide a bit of qualitative commentary on how those orders have progressed over the first six weeks?

Jack Truong, CEO

What we've provided is for the six weeks of actual sales to our customers. During the last three to four weeks, what we saw was that our orders strengthened week by week, particularly in new home construction. In the south and southeast, notably in the Carolinas, there has been a good trust, particularly on the repair and remodel side. The health crisis has opened up more opportunities for the do-it-yourself channel as more homeowners are sheltering at home, which has contributed to that strengthening.

Keith Chau, Analyst

In May, were your sales year-on-year versus last year?

Jack Truong, CEO

I'll keep that quite confident for now, Keith.

Keith Chau, Analyst

The other thing is to what extent do you think there could be a bit of demand catch-up from the start of the period? How would you distinguish between what's catch-up versus underlying demand?

Jack Truong, CEO

I think it's too early to tell, Keith. We need to closely observe how individuals return to work. About 36 million Americans are currently unemployed, so the keys are how quickly people can return to work.

Keith Chau, Analyst

Okay. And with respect to your primary demand growth that was achieved in the period, which segments is that derived from? Is it coming more from new builds or renovations?

Jack Truong, CEO

We have taken a lot of share from both exterior and product segments.

Keith Chau, Analyst

And is that principally through new builds or the renovation segment?

Jack Truong, CEO

Across the whole market.

Keith Chau, Analyst

Okay, thank you. And then on the lean targets, there is another $20 million to $30 million expected in benefits from the reconfiguration business announced this morning. Is that on top of the lean savings or lean targets that were previously disclosed?

Jack Truong, CEO

That's correct.

Keith Chau, Analyst

I believe the target was at $100 million previously. Can you provide a sense of what the shape of lean delivery looks like in FY '21 and FY '22 to get to that $100 million?

Jack Truong, CEO

Yes, the shape of that curve remains the same. The second-year target is getting up to $45 million to $60 million, within that range. We need to position ourselves well to get higher in that range, but the shape has been established, and that remains unchanged.

Keith Chau, Analyst

Okay, I'll leave it at that for now. Thanks.

Jack Truong, CEO

Thanks, Keith.

Operator, Operator

Thank you. Your next question comes from Peter Wilson with Credit Suisse. Please go ahead.

Peter Wilson, Analyst

Looking at North America margins for ’20: very strong full-year results. However, if you look at the quarterly trend, Q2 was 27, Q3 was 26, and Q4 was 25. Even though lean savings would have been increasing, raw material input costs were improving. Can you explain the deteriorating trend throughout the year?

Jack Truong, CEO

Yes, Peter. The primary factor we flagged throughout the year was that we were going to invest in top-line growth. You would have seen that in the fourth quarter with SG&A up 110 basis points versus prior year Q4. We invested in SG&A and innovation throughout the year, leading to the decrease.

Jason Miele, CFO

But I think Peter was asking about Q1.

Jack Truong, CEO

I think he was asking why Q4 deteriorated.

Peter Wilson, Analyst

Could you confirm if you’re going to reinvest all lean savings, should we expect an increase in SG&A for FY '21?

Jack Truong, CEO

I can't provide guidance at this moment, but there will be some actions leading to reductions in SG&A.

Peter Wilson, Analyst

Just one more question; could you discuss any short-term spike in costs related to COVID inefficiencies or anything of that nature in Q1?

Jack Truong, CEO

Certainly, we are entering a volatile market. There will be impacts from COVID, but we believe we can deliver a 22% to 27% EBIT margin. That range is grounded in the lean program we implemented and the savings we’re driving from that.

Peter Wilson, Analyst

Okay, I'll leave it there. Thank you.

Operator, Operator

Thank you. Your next question comes from Simon Thackray with Jefferies. Please go ahead.

Simon Thackray, Analyst

Good morning or good afternoon, Jack and Jason. I just want to follow up on Keith's question. The lean benefits of $29 million this year were supposed to be held as a target for next year, which is exciting. However, Jack, I want to know if there's any aspect of lean that will depend on volume in that target.

Jack Truong, CEO

Certainly. The more volume we flow through our plants, the lean efficiencies will yield savings based on efficiency and product production volume.

Simon Thackray, Analyst

I see. Given the uncertainty in volume due to the crisis, why would you be steadfast about that target?

Jack Truong, CEO

That's why we have a target range of 22% to 27%. We may have a volume assumption built into that range. The target was established with significant consideration of the ongoing impact of the crisis.

Simon Thackray, Analyst

Understood. Thank you for the insights.

Jack Truong, CEO

Thank you, Simon.

Operator, Operator

Thank you. Your next question comes from Brook Campbell-Crawford with JP Morgan. Please go ahead.

Brook Campbell-Crawford, Analyst

Yes, good afternoon. Thanks for taking my question, Jack and Jason. I'm interested in understanding if you feel there’s a need to tweak your programs at all in the current weak environment in North America to capture market share, or are you continuing with what you’ve done over the last 12 months?

Jack Truong, CEO

It's just a case where our teams continue to gain momentum and execute the push-pull strategy effectively each day. This creates value for our customers and helps us navigate this crisis better.

Brook Campbell-Crawford, Analyst

Got it. Thanks for that. On the minus 3% sales growth in the quarter to date, do you feel that represents market demand, or is there any destocking in the channel?

Jack Truong, CEO

There is neither destocking nor stocking; we are just focused on driving demand while efficiently supplying to meet that demand.

Brook Campbell-Crawford, Analyst

I see. Regarding the medium-term PDG targets set over the last year, do you still feel they are realistic in the current environment?

Jack Truong, CEO

We believe we can still deliver on the 6% plus PDG. Our focus remains on returning strong results regardless of the prevailing conditions.

Operator, Operator

Thank you. Your next question comes from Craig Woolford from Citi. Please go ahead.

Craig Woolford, Analyst

Jack and Jason, a question regarding the North American segment. SG&A rose, up about $10 million due to higher marketing. Was this a deliberate investment? Can you clarify if you expect that incremental $10 million in marketing to carry through into 2021 or is it part of additional cost savings that you’ve removed?

Jack Truong, CEO

In Q4, prior to the pandemic starting, we made plans to invest lean savings back into the business through demand creation. Thus, the increase in SG&A you saw was decided a few months ago, and we did not pull back. However, we have now reduced the amount dedicated to marketing expenses as part of our first quarter's cost-saving measures.

Craig Woolford, Analyst

As for volumes being down 3% in year-to-date for the first quarter, what has generally been happening with pricing in the North American market?

Jason Miele, CFO

We implemented a price increase effective April 1, and it still holds.

Craig Woolford, Analyst

Is there any concern about the company around the bad debts given the climate?

Jack Truong, CEO

We are closely monitoring receivables globally. We have experience with bad debt reserves from the past and have ensured our diligence based on current market conditions. It's a prudent decision without specific concerns about individual customers at this time.

Operator, Operator

Thank you. Your next question comes from Paul Quinn from RBC. Please go ahead.

Paul Quinn, Analyst

Regarding the North American exterior volume guidance, do you view sales in the quarter as accelerating through the quarter or are they coming down?

Jack Truong, CEO

As I mentioned, we are in a volatile market, making it challenging to predict future performance, but certainly what we've seen so far, our business is getting stronger.

Operator, Operator

Thank you. Your next question comes from Sophie Spartellus with Bank of America. Please go ahead.

Sophie Spartellus, Analyst

Just three quick questions from me regarding order book visibility. Have you seen any deterioration in that order book visibility over the last few weeks? Also, how are inventory levels sitting across the supply chain right now?

Jack Truong, CEO

Our order book has not significantly shrunk in the past few weeks; instead, it has decreased modestly. Our inventory of products in the channels has also lowered, which is encouraging.

Sophie Spartellus, Analyst

Regarding pricing, do you think you'll be able to hold pricing for the next three to six months without significant deterioration?

Jack Truong, CEO

Yes, we’re holding our prices.

Sophie Spartellus, Analyst

Finally, could you provide any FY '21 depreciation guidance numbers?

Jack Truong, CEO

Sophie, we'll give that in an update in August. We'll provide a depreciation forecast in our quarterly appendix. You’ll see impacts from our actions from May 5 mainly in North America.

Operator, Operator

We have come to the end of our Q&A session. I will now hand back to Jack for closing remarks.

Jack Truong, CEO

Thank you all very much for calling in. We are certainly amidst a very uncertain time in a volatile market environment. However, for James Hardie, it is reassuring that we have a strong management system now in place that allows us to comprehend real-time happenings in the marketplace and make the right decisions from a company-wide level. Therefore, it's essential to build on our strengths - and our strength is to continue being close to our customers and consistently create demand in the marketplace during this crisis. Our focus must remain on building momentum to deliver results while continuing to execute our lean manufacturing system, generating volume, improving profit returns, enhancing cash flow, and strengthening the liquidity of the company as we navigate this crisis. Thank you all for joining the call and have a good day and good afternoon.