Good morning. My name is Megan, and I will be your conference operator today. I would like to welcome everyone to the Mohawk Industries Third Quarter 2020 Earnings Conference Call. All lines have been muted to prevent background noise. After the speakers' remarks, there will be a question-and-answer session. As a reminder, this conference is being recorded today, Friday, October 30, 2020. Thank you. I would now like to introduce Mr. Frank Boykin. Mr. Frank Boykin, you may begin your conference.

Thank you, Megan. Good morning, everyone, and welcome to Mohawk Industries quarterly investor conference call. Today, we'll update you on the company's third quarter results. I'd like to remind everyone that our press release and the statements that we make during this call may include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995, which are subject to various risks and uncertainties, including, but not limited to, those set forth in our press release and our periodic filings with the Securities and Exchange Commission. This call may include discussion of GAAP numbers. For a reconciliation of any non-GAAP to GAAP amounts, please refer to our Form 8-K and press release in the Investors section of our website. In addition to Jeff and Chris, joining us today on this call is Jim Brunk, our Corporate Controller. As we previously disclosed, we received subpoenas from the Department of Justice and the Securities and Exchange Commission related to allegations in a class action lawsuit filed against us. With the assistance of outside legal counsel, our Audit Committee completed a thorough internal investigation into these allegations of wrongdoing and concluded that they are without merit. We are cooperating fully with the ongoing governmental investigations and will continue to vigorously defend against the lawsuit, which we do not believe has merit. I'll now turn the call over to Jeff for his opening remarks. Jeff?

Thank you, Frank. Our third-quarter results significantly exceeded our expectations, with sales recovering and operating income substantially increasing from last year's levels. Under continued pandemic conditions, people all over the world are spending more time in their homes and working remotely. Globally, this trend increased investments in home remodeling as well as driving new home purchases. All of our businesses and geographies were stronger due to higher demand and customers increasing inventory in our distribution channels. Flooring Rest of the World delivered the strongest results in the quarter as our Northern European, Russian and Australian businesses were less impacted by the pandemic. Our Global Ceramic and Flooring North America segments also improved substantially while being more affected by COVID and postponed commercial projects. Our laminate, LVT and sheet vinyl outperformed our other categories, and our new plants improved their output and efficiencies. Fluctuations in worldwide exchange rates negatively impacted our EBIT by about $7 million, with declines in most currencies offsetting the strengthening euro. During the period, demand for our products exceeded our production, and inventory declined by about $80 million, as we ramped up plants across the world. Our increase in manufacturing in the period was limited by challenges with hiring, training and capacity. To cover higher operating, material and logistics costs, we have announced selective price increases in some markets and product categories. We have made significant progress on our previously announced restructuring actions and are in line with our planned schedule and savings. In response to higher demand levels, we have postponed some restructuring projects while we assess future conditions. Our businesses responded to the COVID crisis, as our focus has remained on keeping our employees safe. Throughout our offices, operations and distribution systems, we have implemented procedures that exceed the public health guidelines. We are tracking all identified cases, testing all contacts and successfully containing the spread within our operations. Throughout the pandemic, our people have collaborated to protect each other and support our customers around the world. Even with our improved performance in the period, our visibility of the future remains very limited. As COVID cases increase, governments may expand restrictions on commerce and reduce stimulus activities. In addition, future consumer spending is uncertain. Business investments remain low, and inventory growth in the channels could change. We continue to monitor health information and market trends to respond to the evolving conditions in our market. In the second quarter, we took advantage of the favorable rate environment to pay off $1.1 billion of short-term debt and prefund our future long-term maturities. In the third quarter, we generated about $530 million of cash, bringing our cash balance to $1.2 billion at the end of the period. We will pursue additional investment opportunities including internal growth, acquisitions, and stock purchases as the pandemic and economies improve. We believe our stock represents an attractive investment, and our Board of Directors recently approved the plan to repurchase $500 million of the company's stock. I'll turn the call over to Frank for a review of our third-quarter financials.

Thank you, Jeff. Sales for the quarter were $2.575 billion or up 2% as reported and on a constant basis, with the Rest of World segment performing best. As a note, for next quarter, our sales will be impacted by two more days compared to the previous year. Our gross margin was 27.4% as reported or 28.3% excluding charges, increasing from 27.8% last year. Year-over-year increase was driven primarily by higher volume, productivity, and lower inflation, partially offset by price mix. The actual amounts of these items will be included in the 10-Q filed later today. Our SG&A as reported was $443 million, or 17.2% of sales, or 16.9% versus 17.8% in the prior year, both excluding charges. This was primarily impacted by favorable productivity of $21 million. Our restructuring charges were $32 million for the quarter, of which $6 million was cash. All of our restructuring and other savings are on track with our original plans. Our operating margin excluding charges was 11.5%, improving from 9.9% last year. The increase was driven by stronger volume, productivity, and declining raw materials, partially offset by unfavorable price and mix. Interest expense was $15 million, and we expect interest next quarter to be approximately $16 million. Our income tax rate was at 17% this year, compared to 18% last year. We expect the fourth quarter to be approximately 5% and then returning to historical levels, ranging from 20% to 21% next year. Our earnings per share excluding charges was $3.26, up 18% from last year. Turning to the segments, in the Global Ceramic segment, sales were $911 million, down 1% as reported, with business up almost 2% on a constant basis. The non-U.S. businesses turned in our best performances in this segment. Our operating margin excluding charges was 10.3%, up 110 basis points, compared to the 9.2% last year. Our increase was from productivity and volume, partially offset by unfavorable price mix. In the Flooring North American segment, sales were $982 million, down 2% as reported, with growth in all major categories, except the more profitable commercial end market, which remains challenging with postponed projects and slower office and hospitality. Operating margin excluding charges was 8.2%, compared to 8.7% last year. The decrease in earnings was driven by lower margin and price mix, partially offset by favorable productivity and lower inflation. In the Flooring Rest of the World segment, sales were $681 million, up 13% as reported and increased by almost 10% on a constant basis. A lower exposure to our commercial end markets, along with a larger presence in Northern Europe supported strong top-line growth in this segment. Our operating margin excluding charges was 19.3%, that's up 480 basis points from 14.5% last year. The main drivers were higher volume, favorable productivity, and lower raw materials, partially offset by unfavorable price mix. In the corporate and eliminations segment, the operating loss excluding charges was $10 million. We expect the total year to come in at a loss of about $40 million. Jumping to the balance sheet, our receivables ended the quarter at $1.711 billion. Our day sales outstanding improved to 56 from 61 days last year. Our inventories ended the quarter at $1.842 billion and dropped almost $500 million or 21% from last year as all businesses saw significant reductions in inventory with productions lagging sales. Our inventory days were at 100 versus 127 days last year. Fixed assets at the end of the quarter were $4.405 billion and included capital expenditures during the quarter of $69 million, and depreciation and amortization of $151 million. We estimate the annual capital expenditures to be about $420 million, with depreciation and amortization estimated at $595 million. And finally, the balance sheet and cash flow remains strong with total debt of $2.6 billion, total cash and short-term investments of almost $1.2 billion and leverage at 1.1 times to adjusted EBITDA. I'll now turn the call over to Chris to provide segment details of our third-quarter performance.

Thank you, Frank. For the quarter, our Global Ceramic segment sales increased 2% on a constant days and currency basis. Our operating income grew 11% with a margin of 10% excluding restructuring costs compared to last year. All of our ceramic businesses improved substantially in the third quarter, with low inventories limiting both our sales and service. The residential sector experienced a more significant rebound in the period, while commercial demand remained sluggish. Most of our plants have stepped up to run all of their capacity to meet present demand and increased inventories in the fourth quarter. Overall, demand was solid, but our visibility is hampered by COVID, the sustainability of residential sales growth and postponed commercial projects. In the U.S., we are seeing increased traffic in our showrooms and galleries as well as our customers' retail shops. We have shifted sales focus from commercial to new home construction, which is expected to increase through next year. Commercial sales improved from the prior period but are still lagging. Our inventories decreased slightly during the quarter, even as we increased our production levels. We have announced price increases to cover higher freight and operations costs. Our quartz countertop plant is performing as planned, and we are increasing our higher style collections to improve our mix. Our restructuring initiatives are being executed as we planned. We have closed 2 tile manufacturing facilities and consolidated distribution points. We've also reduced SG&A and labor cost and discontinued lower-performing products. Our Mexican ceramic business is experiencing many of the same trends as the U.S. Our plants in Mexico are operating near capacity to reduce order backlogs, running shorter production quantities and optimizing our SKU offering. To replace higher-end imports, we are manufacturing new porcelain collections in larger sizes. We are expanding our sales footprint with exclusive Daltile-branded shops being opened by our customers. Our Brazilian ceramic business had its best quarter in its history, with significant growth in both its domestic and export markets. We are presently operating at full capacity and allocating production as consumer demand increased and inventories are rebalanced. To offset rising inflation, we have announced a price increase that will go into effect later this year. We are continuing our investments to upgrade our Brazilian assets, create higher-value products and reduce our cost. Our European ceramic business delivered strong results in the period as residential sales improved and inventories in the channel are replenished. Our performance was hindered by substantial reduction in higher-value commercial category and lower exports for projects around the world. We achieved higher manufacturing levels by reducing the traditional August shutdown periods. As production rose during the period, our service improved, and we will continue to increase inventories to enhance our service. Increased pricing pressures during the period were offset by higher volumes and productivity, lower inputs, and SG&A leverage. Our major markets in Europe are increasing restrictions due to recent spikes in COVID cases, which could impact future demand. Our Russian ceramic business recovered and is performing better than last year, even with the political crisis in the Eurasian Union lowering our exports. The growth was driven by our strong results in the new construction channel and company-owned retail stores. Like our other businesses, low inventories constrained our sales in the period. Our new sanitary ware plant is operating as planned and will support our premium strategy with products that coordinate with other offerings. During the quarter, our Flooring North America segment sales decreased approximately 2% as reported, with operating income margin exceeding 8% excluding restructuring charges. The segment's performance improved substantially from the prior period due to improving residential sales. Revenue in the quarter was limited by our low inventory levels and difficulties increasing production due to staffing shortages and higher employee absentee rates. Commercial demand improved from the prior period but remains weak, with the hospitality, retail, and office impacted the most. Inventories in the period continued to fall, though we expect them to increase through the end of the year. As our production aligns with demand, our service levels are improving. Our restructuring programs are progressing and achieving the expected cost savings in manufacturing, logistics, and SG&A. Our residential carpet business improved from the prior period, with retail remodeling performing best. Our polyester products are outperforming other fiber categories, which is impacting our mix and average selling price. As we progressed through the period, we achieved higher manufacturing rates, which improved our productivity and cost. Increased overtime in shorter runs improved our service but raised our production cost. To cover higher costs, we are implementing price increases in the market. Our rug sales increased as consumers use them as an easy way to update their home decor. In the period, we are allocating our rug production as demand increased and retailers restock their inventories. Commercial flooring remains depressed as businesses reduce remodeling and postpone construction projects. While our commercial sales improved from the deep second-quarter decline, we anticipate a slower recovery in the sector. During the period, laminate had strong growth with expanding distribution and sales in all channels. The beauty of our waterproof laminate collections is attracting more consumer interest and has enhanced our mix. Even with our laminate operations running at full capacity, we are unable to satisfy demand and have postponed our new product introductions. To increase our laminate production and provide new features, we are installing a new line that should begin production in the fourth quarter of next year. We have reduced our commodity wood manufacturing and are repurposing our operations to produce premium wood collections with unique features. Sales of our residential LVT collections continued to expand at a rapid pace, with rigid products increasing their share and our new product launches improving our mix. To compensate for higher tariffs on sourced collections, we implemented price increases in the period. We are continuing to make significant progress in our U.S. manufacturing facilities. Output is increasing, although some of our productivity initiatives fell behind schedule due to COVID-related interruptions in travel from Europe. We have recently relocated European engineers to the U.S. to implement enhanced LVT processes that are being used in our Belgian operations. Our sheet vinyl collections continue to take market share, and our cost in the category improved due to greater efficiencies. For the quarter, our Flooring Rest of World segment sales increased approximately 13% as reported. The segment's operating income grew 56% with a margin of 19% as reported. During the period, the segment outperformed in all of its geographies as home sales and remodeling expanded with people spending more time at home and reducing other discretionary spending. Our inventories remain low in all product categories as order rates exceeded our increasing production levels. To meet higher consumer demand, our plants took less time off in the August vacation period to maximize production levels and service. With higher service and lower marketing expenditures, we leveraged our SG&A cost across the business. Our Flooring Rest of the World segment has less participation in commercial end markets that more negatively affected our other two segments. Our laminate sales growth was limited by manufacturing capacity in Europe. We began shipping laminate from Russia to support higher demand in Europe. Our strong brands and industry-leading innovations continue to attract the consumer, and our differentiated products are improving our mix. We postponed new product launches and reduced our marketing and promotional activities in the period. During the quarter, sales of our LVT collections grew the most as our production levels, efficiencies, and costs improved as we anticipated. We expect our productivity and cost to continue improving as we expand the utilization of our operations and enhance our material yields and efficiencies. The rigid LVT category is also growing faster in Europe, and we will be adding a weekend shift to support the increased demand. In the fourth quarter, we will begin shipping our next generation of rigid LVT products with new features that will strengthen our market position. Our sheet vinyl provides the best flooring value in the market, and our sales increased as our retail customers reopened. Higher production volumes positively impacted our cost and better leveraged our SG&A. Our Russian sheet vinyl plant performed well with higher utilization and margins. We're adding another shift in the plant to satisfy our expanding business. We completed the consolidation of our wood manufacturing operations in Malaysia and significantly reduced our cost. We have improved our output, allowing us to satisfy increasing demand. We are gradually lowering our material costs through our initiatives to vertically integrate. Our insulation products rebounded with increased volumes after our markets reopened. Even though our selling prices have declined, our margins remain strong as material costs were lower as well. Our raw material costs are now rising, and we have announced price increases to compensate. Our boards business benefited from strong demand, improved product mix, and lower material prices. We also reduced our cost with the investments we made in expanding our glue manufacturing and new energy plant. Our Australia and New Zealand business performed very well with strong sales growth, improved product margins, and the success of our updated product offering. The company is well positioned with its strong branding in both carpet and hard surface. With that, I'll return the call to Jeff.

Thanks, Chris. We entered the fourth quarter with improved sales and margin trends and have a solid order backlog across the enterprise. Residential remodeling and new home construction are forecasted to remain strong as the pandemic has transformed our living spaces into schools and offices and as participation in other activities has fallen. The fourth quarter is slower for our industry due to normal seasonality, and we expect lower growth in channel inventory levels. Our higher-margin commercial channels will continue to be slow, with completed projects likely to outpace new starts. We anticipate service improving with our inventories rising as production levels exceed sales. We are implementing our restructuring plans and are on track to reduce costs as expected. Our visibility continues to be limited by many uncertainties, including how government restrictions and demand will evolve. Assuming the current economic trends continue, we anticipate our fourth-quarter EPS to be $2.75 to $2.87 with a nonrecurring tax rate of approximately 5% for the period. Our business has responded effectively to the COVID crisis, changing government restrictions, and varying market conditions. Residential remodeling and new construction are expected to improve next year. The commercial business should increase from its present low levels as economies recover going forward. Our strong balance sheet, cash generation, and liquidity will allow us to move from a defensive posture to a more aggressive growth strategy. With that, we'll be glad to take your questions.

Your first question comes from Stephen Kim with Evercore ISI.

Congratulations on the strong results. I would like to start by asking about your share repurchase program and your earlier comments on the ongoing litigation. We have received many inquiries from investors about when the company plans to increase its share repurchase activity, which you mentioned in today’s announcement. Additionally, it seems there have been some significant changes to the wording regarding the recent lawsuit in your press release. Is there any indication that there might be a connection between the Board's conclusion of its internal investigation and the authorization of the share buyback?

Steve, this is Frank. That is a good question, and I'd like to make a couple of points about that. First, last quarter, we stated that the Audit Committee's investigation was substantially complete. This quarter, we added to our statement that the investigation is complete and that the Audit Committee has concluded that the allegations are without merit. And I think the second point regarding the authorization, the Board's decision to authorize an additional $500 million for stock purchases is clearly an indication of their view of the value of our stock, but I also think it's an indication of the improved clarity on our position in the class action lawsuit.

That's encouraging and makes sense. My next question is about Flooring North America and North American ceramic. You mentioned that you paused the restructuring, and it seems there are two main reasons for this: firstly, due to surging demand, and secondly, the need to rebuild inventories. I'm trying to gauge how significant the inventory rebuild is. If residential demand remains strong, when do you anticipate your inventories will return to a comfortable level? Do you believe this will be achievable in the fourth quarter, or might it extend into the first quarter of next year? Furthermore, once inventories are in a good position and if demand holds steady, will you be satisfied with your current capacity, or would you consider restarting the restructuring program to further reduce capacity?

We postponed some aspects of the plan and reduced the cost of restructuring by approximately $10 million, which aligns with the expected savings of the same amount. Currently, we've only addressed a limited portion of the total situation. So far, we've achieved about 25% of the savings by the end of the third quarter. We anticipate saving around $15 million to $20 million continuously moving forward. Our strategy regarding restructuring and cost-cutting remains unchanged; it’s just a limited segment of the overall plan. Regarding inventories, we will continue to increase them from the fourth quarter into the first quarter, depending on how demand and business conditions evolve. We will adjust inventories accordingly, and we expect to be in a good position coming out of the first quarter for the remainder of the year. In instances where we face capacity constraints, we will ramp up inventories during slower periods to support demand in peak periods mid-year.

Our next question is from Tim Wojs with Baird.

I would like to commend the team on the quarter and the guidance provided. My question has two parts. First, can you clarify the growth performance of residential compared to commercial in North America? Also, what is the margin difference between the two business lines?

Let's just give you a higher-level view of it. The commercial business is somewhere about 20% to 25% of our total business. In that, we have kept parts of the business that have very little and parts that have significant. The most significant pieces are in U.S. carpet, U.S. ceramic and our European ceramic have a much larger piece of the commercial businesses. All the commercial businesses are down substantially. Existing projects are being completed, and new ones are more limited coming forward. We're anticipating a slow recovery over time with next year being better, but it could take multiple years to get back to where it was as we go through.

Okay. Is it fair to say commercial's down?

The one other thing, Tim, I would like to just to emphasize there, too, is with commercial down as it is, it is a much higher-margin business in the residential side.

Okay, okay. And then I guess on LVT, is there any way to frame kind of where the rigid LVT margins in Europe are today? Are they in line with other flooring product margins in Europe? And just trying to get a sense of the types of improvement that we've seen in Europe, just given it still seems like there's improvement opportunities in the North America business.

The LVT in Europe is performing much better and is positively impacting our results. However, the margins are not as high as the average for our business. We have ongoing specific actions to continue reducing costs, and we anticipate further improvements in productivity and expenses. In Europe, which is ahead of the U.S., we are introducing new innovative features to maintain our competitive edge, and these are being launched now. In the U.S., as mentioned, we are about 3 to 4 months behind. We have recently brought engineers over, which had been a challenge, and they are now on-site updating the components to align with the updates. Additionally, in Europe, we are in the process of adding a weekend shift to meet the increasing demand for rigid products, and the U.S. will follow suit. We believe we will reach our targets.

Your next question is from Sam Darkatsh with Raymond James.

Two quick questions, if I might, on the fourth quarter specifically. It looks like your guidance implies a far more mild margin expansion year-on-year in the fourth quarter than what you saw in the third quarter. I'm trying to figure beyond conservatism why that might be the case, knowing that you're getting incremental pricing, that your production is going to be higher, that you have restructuring savings coming in. Why might we not see as much of a margin expansion in the fourth quarter as we did in the third?

In the third quarter compared to last year, our European businesses operated at a lower cost due to running a lot of capacity during the vacation period. At the same time, we reduced a significant amount of our marketing activities and adjusted costs based on current capacities. Moving into the fourth quarter, we will need to normalize our marketing expenses. Looking forward, residential sales appear promising, but we are uncertain about the impact of COVID on our business. Currently, our European customers seem to remain operational and are considered essential, although the situation is evolving daily. Regarding our commercial businesses, we are unsure if they have reached their lowest point. While ongoing projects are being completed, new projects are emerging more slowly, making it challenging to predict how everything will balance out in the fourth quarter. We are attempting to incorporate these factors into our estimates.

Helpful. Second question, if I might. Frank, back to the envelope, I'm getting fourth quarter free cash flow somewhere in the breakeven to somewhat positive area, I guess, depending on the inventory ramp. Is that a fair representation of how you see free cash flow in the quarter?

Yes. I think it's going to be in that range.

Your next question is from Mike Dahl with RBC Capital Markets.

I have two questions specifically about Flooring North America. First, I'm interested in whether you could share the Flooring North America sales figures for the third quarter, excluding LVT, considering that there has been a 2% decline overall, despite the continued strength in LVT, which aligns with market trends.

We don't give out the information at that level. I can tell you that our sales were limited in all the product categories by our capacities and production levels. With the $500 million of inventory that's been taken out of the whole business, we usually go into the third quarter with higher inventories and reduce them. So all the categories, the sales were limited by that. In the carpet one specifically, with the whole industry in the same area, the whole industry picked up. The whole industry had let the workforce decline because nobody could see where it is. So there's a huge pressure on the workforce in getting it staffed back up, and then the training and hiring impacted it significantly. So the business in Flooring North America had more restrictions on it than many of the other businesses. We are a long way down where we'd like to be, but we're still having training, absenteeism, COVID still impacts. We're protecting the people inside the business. But when they come in with it, we then have to let people go home, and the absenteeism goes up. So protecting all the people is impacting our ability to raise the production rates as high as we would have liked to have them.

And I would just add too, Mike, that the single biggest headwind we had on sales in Flooring North America was commercial, as Jeff had talked about before.

And on the margins.

That's helpful. This leads into my next question regarding the ongoing challenges you're facing in the commercial sector. Hopefully, those challenges are reaching a turning point. Considering the various factors in your fourth quarter guidance, do you expect North America sales to show growth or remain under pressure?

We're expecting more of the same.

Your next question is from Keith Hughes with Truist Securities.

Two questions. One back to Flooring North America. As you look at your LVT growth in the segment, do you think you're at a point now where you're growing at the market? I know you've been underperforming for a while.

I believe we are growing along with the market. It’s challenging to obtain accurate numbers because they rely on imports, which have been very unpredictable. Therefore, you can't take the imported volumes and assume they accurately represent the marketplace. As a result, it’s difficult to estimate sales for imported products at this time.

That was my second question. The import numbers are erratic and have been particularly high, too. Do you think that indicates LVT ramping its growth back up from some more limited growth in 2019? Or is there just some inventory build ahead of this price increase?

It's hard to tell. One is as the base continues to get bigger, the growth rate is not going to grow at the same rate it has been, and the growth rate is going to slow. And I think it's still going to grow but just at a lower growth rate.

Okay. For my second question, regarding the price/mix in ceramic, you mentioned a negative trend in your discussion, which has persisted for a while. With the recent resurgence of residential growth and some pricing strategies you mentioned, do you think this could shift to a positive trend in the near future?

Typically, residential pricing is lower than commercial pricing, so I don't anticipate significant improvements in pricing. Additionally, the imports we are experiencing are putting pressure on pricing. We are implementing a price increase to counteract rising transportation and other costs, but I don't believe the transition to residential will provide much assistance.

The countries where the imported ceramic's coming from, most of the countries, their exchange rates have weakened in the past 6 months, which isn't helping things.

Your next question is from Eric Bosshard with Cleveland Research.

On the U.S. tile business, the conversation you just had, I'd love to get a little bit more sense of where this goes from here. And specifically, with less commercial volume, it seems like that would create some excess capacity in the industry. What's going on with currency? It seems like it could create a more aggressive pricing environment. And I understand your need to take price to offset costs. But as we look forward for the next 6 or 9 months, it seems like it could be a more competitive environment for pricing or per share. Am I missing something? Or am I looking at this wrong in the U.S. tile business?

Well, I think the tile business is going to remain competitive in the United States. But as you may already know, we have implemented restructuring initiatives that are being executed as planned. In North America, we've closed 2 manufacturing facilities and consolidated distribution points. And we've reduced SG&A, manufacturing, and also lower-performing products. So I think we'll be in an environment where pricing is competitive, but we are reducing our cost at the same time.

Okay. I would like to know if other companies in the industry are also implementing price increases and what the overall trend in pricing looks like.

At this point, we don't have a clear answer. We do know that the average price of imports has decreased and that we are currently implementing a price increase, but we are still uncertain about how other competitors are responding.

The price increase is basically focused on the freight. If you look around the country, the freight rates are going up dramatically. The transportation systems are tight. And so all the cost of everybody who's moving anything are going to go up, not only us.

Your next question is from Phil Ng with Jefferies.

Congratulations on a strong quarter. Besides the commercial aspect in the U.S., your international business appears to have recovered much more quickly compared to the U.S. I’m trying to understand better if this is partly due to labor issues and possibly a lack of inventory. Should we anticipate this catch-up dynamic continuing over the next few quarters as your operations improve?

The question I have is about the expected catch-up dynamic playing out in the next few quarters as your operations improve.

I'm not sure we heard the question real well on our end. So can you go through it one more time, please?

Yes, no problem. It seems that your international results improved significantly more than those in the U.S. I am trying to understand why the international market rebounded more quickly. It seems to be partly related to labor and inventory issues that are lacking in the U.S. Can you elaborate on that? Also, do you anticipate that this catch-up trend could also occur in the U.S. over the next few quarters?

The regions where most of our businesses operate are in Northern Europe, which has outperformed. They have a much higher percentage of residential sales, so the impact on commercial volume and margins was not as significant. Our commercial margins are also higher than those in residential. Additionally, the LVT performance in that area is stronger. We have a new plant in Russia that has become profitable and is performing well. We are increasing shifts in both LVT and sheet vinyl layers to meet demand. Furthermore, our Australian business has also done exceptionally well, likely due to pent-up demand and our better positioning compared to competitors in the market.

Got it. That's helpful, Jeff. From an LVT perspective in the U.S., could you provide some guidance on what to expect moving forward regarding your profitability? Also, can you share insights on your capacity levels for the U.S. lines and your progress in enhancing your product mix?

We think we're about 3 to 4, maybe 5 months behind the European one. The European businesses are all profitable, and so the reason we're bringing over the people is to catch up. In addition, in Europe, they're one step ahead of us with new products and innovations in the marketplace. So their mix is a little higher, which we'll be introducing here as we catch up to them.

Okay. Should we expect you getting closer to profitable early next year if you kind of close that 3 to 4 month gap?

I think so.

Your next question is from Kathryn Thompson with Thompson Research Group.

It's our understanding from an industry standpoint, at least in the North American business, that the time off around Thanksgiving and the Christmas holidays this year is shorter than it's been in previous years. Could you discuss how you're approaching time off around those 2 holidays this year compared against what was happening last year? And final point with that, given COVID and different ways you have to operate, also discuss how you approach potential multiple shifts.

The holidays occur at varied times, which could positively influence volume due to their scheduling. The changes in operations and holiday closures relate to the required inventories and service levels. We can adjust these levels within certain limits based on business volume, and we can often find volunteers to work during some holidays. If we need to boost our capacity estimates, we can enhance plant utilization and continue operating to increase inventories if necessary.

Well, maybe more directly, are you taking less time off this year around the holidays versus last year?

Well, to tell you the truth, we don't know how demand is going to be over the next 2 months with COVID, and so we're leaving everything flexible because we have no idea what's going to happen to the volume at this minute. And we're working almost week-to-week, trying to anticipate what's happening. But we don't know if governments are going to restrict us more or not restrict us more, and we don't know how the consumer is going to react. So we're producing as necessary.

The other side of that, too, is, as we've said several times, our inventories are below where they need to be, and we're running production as hard as we can to try to get caught up.

We're looking at now all the way through the first quarter of the pieces and trying to see how the thing works. And at the same time, we're trying to estimate next year's requirements, which is really hard to do.

Yes. So I totally appreciate that. I was thinking, all else equal, if you were able to do that, would you. Okay. I guess with that backdrop, assuming that you continue, is it your assumption based on if demand remains as is right now with your current production levels, just to be clear, do you believe you'll be able to meet sufficient by the end of Q1 with current production levels? Or is it the type of thing that would require a longer time period to catch up?

No. We expect to address the demand issues by the end of the year. However, the real question is what level our inventories will reach and their current status, which depends on how strong demand is through November and December in relation to our production rates. Typically, demand decreases seasonally, and we anticipate our inventories to increase in both the fourth and first quarters, aiming to align them with our goals for next year. We will continue to adjust our strategy based on consumer behavior in response to COVID.

Your next question is from Susan Maklari with Goldman Sachs.

Congratulations on a good quarter. My first question is, going back to Europe, can you talk a little bit about some of the shutdowns that we're starting to see go into effect in some of those countries? And how you're thinking about any differences there relative to what we saw back in the spring in March and April? And maybe how you could react differently this time around relative to back then?

It's too early for us to feel the impact of the recent changes. Currently, while the cases have increased, we haven't noticed any effects on our demand or the limitations being placed on us. At this time, there are more restrictions on social activities, such as bedtime and going out at night, and there are limitations on bars and restaurants. Up to now, we haven't observed any consequences from these measures. We'll need to see how restrictive the new regulations become and what, if any, impact they may have on us.

We went through this last time, too, Susan, with the definition of essential businesses both in the U.S. and over in Europe back in March, April, and May, and we're going through the same exercise now. But so far, we're considered to be essential businesses.

Okay. All right. That's helpful. And then my next question is, you mentioned that you are starting to see some inflation, obviously, in your input cost. Can you give us some idea of the magnitude of that inflation and how we should be thinking about it as we get into next year?

It's different by product, by category. I think as we ran through the earlier description, what you heard was we were raising prices in a number of categories. I'll try to run through some of them. U.S. ceramic, mostly based on freight; Brazilian ceramic; U.S. carpet; U.S. LVT; European sheet with vinyl and LVT with vinyl costs going up; and European installation with the raw materials there. So all those are in the process of being enacted. The oil prices are really difficult to predict. So how they're going to react and where they're going to go, we're going to have to follow them. There's also the supply and demand of the various places in between. So in vinyl in Europe, there's a really tight supply of it. So the prices are going up. So it's really hard to predict how all the supply and demands are going to work out, and we're reacting as appropriate.

Your next question comes from John Lovallo with Bank of America.

Maybe starting, Frank, with SG&A. On a dollar basis in the second quarter, it was down year-over-year. I'm just curious of the sustainability of that given some of the cost-containment and productivity efforts on one side and then the increased marketing expense, hiring, et cetera, on the other side. I mean should we see that begin to increase on a year-over-year basis, the dollar amount of SG&A?

Right now, as Jeff said, that we did pull back in the third quarter on marketing expenses, and we have to begin to normalize that in the fourth quarter. But we continue to see benefits from our restructuring plans as well, which will help lower that cost.

Okay. And then maybe just on Global Ceramic. You guys mentioned a shift in sales focus towards residential. Just curious what that actually involves. I mean is that simply repositioning people or hiring new people? Or is it just saying, "Hey, look, we need you guys to focus more on this part of the business?" I mean maybe you could just walk us through that.

As the commercial sector has slowed down, we have reallocated resources away from that area. Concurrently, we have increased resources in the residential sector, focusing on both remodeling and new construction. The residential business appears to have potential for growth in the upcoming months and possibly beyond. We believe the commercial sector will recover, but currently, not many new projects have been initiated, which has led us to reduce our activities in that segment.

Your next question is from Matthew Bouley with Barclays.

Could you explain what contributed to the 19% margin for the rest of the world? Additionally, how much did producing more during August, a typically slower vacation month, impact that margin? I’m trying to understand what the profitability of that business might look like under more normal conditions.

In Q3, our volume increased as the economy improved across all sectors. We experienced higher productivity alongside this volume growth. Additionally, we had fewer vacation disruptions and lower material costs, although these were balanced out by price and mix changes. Our performance with LVT and Russian sheet also showed improvement. In Australia and New Zealand, we benefited from increased volume resulting from deferred purchases. However, we expect lower margins in Q4 due to seasonal effects, rising costs, and further marketing expenditures.

Got it. Second one is the language you mentioned around pivoting more aggressive growth, I guess, in light of the improving balance sheet. Could you discuss kind of if there have been any areas that you felt constrained on from an investment perspective? And kind of what's on the, I guess, the wish list?

I think it's important to take a step back. Over the last six months, our focus has been on navigating an uncertain future and managing day-to-day operations, adjusting our strategies almost weekly. As a result, we had to put future investments on hold and set aside any acquisition discussions. We went through a challenging period without knowing what demand and cash flows would look like. Now, we are becoming more confident that the business has significantly improved, and we need to revisit potential alternatives and opportunities. Currently, we still face restrictions on capital expenditures, as we have delayed some projects that we believe would be beneficial. We need to determine what next year will entail and how aggressively we should proceed. At this stage, we are beginning to explore options for business growth, entering new product categories, and considering potential acquisitions, but this process is only just starting as the business starts to stabilize.

Your next question is from Michael Rehaut with JPMorgan.

Congrats on the results. First, I just wanted to get a sense, if possible, you had mentioned inventory build during the third quarter. And just wanted to get a sense for what that contributed to the overall sales growth and if there were any segments where there were larger, where it contributed more than others.

It's a question of third quarter or the fourth quarter?

I would like to know what the contribution was in the third quarter on a relative basis. You mentioned that for the fourth quarter, there will be a decrease in growth due to less contribution from inventory growth. I would appreciate your insights on the percentage of sales growth that came from inventory restocking.

Mike, I think...

In the third quarter, the inventory for the entire business decreased by $80 million. Despite our efforts, the inventories still fell during this period. As we progressed through the quarter, production rates improved. However, we continued to face significant costs related to training personnel, absenteeism, and COVID impacts across various operations. We anticipate improvements in these areas moving forward, but as community case numbers rise, we will need to monitor the situation closely.

And maybe just to make sure we understood your question...

Yes. I'm not talking about the inventory decline at your business. What I meant was that I thought you mentioned in your prepared remarks that there was some inventory restocking by your customers as demand increased. If that’s the case, rather than focusing on your own inventory levels, do you have any insight into how much the inventory restocking by your customers contributed to sales growth?

We don't have complete visibility into the situation. Following the second quarter, like many others, they reduced their inventories without knowing what was going to happen, which led to them entering the third quarter with low stocks. Sales improved for most of them, and they tried to meet demand while also attempting to increase their own inventory levels. We believe their inventory is still low across most channels, but we lack clarity on the specifics. In some cases with large customers, we know we haven't been able to provide the volume they wanted to boost their inventories. We anticipate that there will be increases in inventory in those areas. However, we cannot predict how this will unfold, which contributes to our uncertainty about demand. We are unsure if some of the orders were intended for inventory replenishment, which could lead to reduced orders later in the period if the products do not arrive in time. There are many variables at play that we do not have a clear understanding of.

I appreciate that. Secondly, regarding the share repurchase plan, I would like to understand if this is simply a general authorization to be executed over time, or if it suggests a more immediate action within a shorter timeframe. If that is the case, what kind of timeframe are you considering?

This is a general authorization for us to increase the number of shares we can buy by up to another $500 million. This will enable us to invest in our stock because we believe it holds good value for the future. We will continue to consider various investment options, including this one, as well as capital expenditures and acquisitions, just as we mentioned earlier.

I would now like to turn the call back over to Mr. Lorberbaum for closing remarks.

We're responding to the COVID crisis as required. As you can tell, our forward visibility is poor, and we're going to have to keep reacting to it. The actions that we've been taking should improve our results next year, both in cutting costs and improving our sales. The commercial businesses, we expect next year to continue to improve. And our balance sheet is strong and will support moving to a more aggressive growth strategy. We appreciate the time you've taken to be with us. Thank you very much.

This concludes today's conference. You may now disconnect.