Masonite International Corporation
Q1 2016 Earnings Call Transcript

Published: 5 May 2016

[Operator:]

Greetings, and welcome to Masonite's 2016 First Quarter Earnings Conference Call. During the presentation, all participants will be in a listen-only mode. After management's prepared remarks, investors are invited to participate in a question-and-answer session. Please note that this conference call is being recorded. I would now like to turn the call over to Joanne Freiberger, Vice President and Treasurer. Thank you. You may begin.

[Joanne Freiberger:]

Thank you, Danielle, and good morning, everyone. I'm joined in our Tampa office today by Fred Lynch, our President and Chief Executive Officer; and Russ Tiejema, our Executive Vice President and Chief Financial Officer. The information for the webcast presentation that will accompany today's call is available on our website at www.masonite.com under the heading Investors. During this call, we will be making forward-looking statements that are subject to risks and uncertainties, which are described in greater detail in Item 1A of our Annual Report on Form 10-K, which is available on our website. Actual results may differ materially from those expected or implied. Forward-looking statements are as of the date that they're made and we undertake no obligation to update any forward-looking statements beyond what's required by applicable securities law. In addition, our discussion of operating performance will include a non-GAAP financial measure within the meaning of SEC Regulation G. A reconciliation of these measures with the most directly comparable GAAP measures is included in the press release and in the appendix of today's presentation, both of which are available on our website. On today's call, Fred will begin with the company and industry update. Russ will discuss financial performance. Fred will then summarize our prepared remarks, before opening the call up to question-and-answer session. And with that, let me turn the call over to Fred.

[Frederick J. Lynch:]

Thanks, Joanne. Good morning and welcome, everyone. We were pleased by our first quarter 2016 results. Net sales increased almost 13% and adjusted EBITDA increased 54% in the first quarter, representing our eighth consecutive quarter of adjusted EBITDA growth greater than 25%. Each of our new reportable segments increased its adjusted EBITDA by double-digits and adjusted EBITDA margin for the company increased 320 basis points to 11.9%. We recorded adjusted EPS of $0.57 in the first quarter, a $0.67 improvement from the first quarter last year. We delivered the 12th consecutive quarter of positive AUP growth, reflecting the strengthening value proposition across our product portfolio. And during the quarter, we repurchased $16 million of our shares under our previously announced share repurchase program. So, hats off to our 9,000-plus employees for another great quarter on all accounts. Last week we released select historical information relative to our new reportable segments. Our three reportable segments are now North American Residential, which includes the U.S., Canada, Mexico and sales from our facilities in Chile, which primarily serve the North American residential housing industry; Europe, which includes United Kingdom, the Czech Republic and sales from our facility in Ireland; and Architectural, which serves customers in North America for commercial and architectural door applications. The corporate and other category is a reconciling entity rather than a reportable segment, and consists of unallocated corporate costs and the results of immaterial businesses. And the historical results of our South Africa business are captured in the corporate and other category. As a quick update, the Business Rescue Practitioner has proposed a business recovery plan that involves the sale of that business. The transaction is subject to various closing conditions and is expected to close in the third quarter of 2016. And we do not anticipate a material impact to our financial results as a result of that proposed transaction. So, looking specifically at the North American Residential segment on the next slide, we were encouraged by the strong demand trends in both the retail and wholesale customer channels. And we saw a balanced growth across all products in the segment. The U.S. housing market, as everyone knows, had a strong first quarter as both single-family starts and completions grew double-digits compared with the first quarter of 2015. And we remain encouraged by the trajectory of the housing market and its longer-term prospects. Adjusted EBITDA in this segment increased 75% compared to the first quarter last year and adjusted EBITDA margin increased 490 basis points in the quarter through a combination of volume growth and increases in average unit price. Turning to slide 7 into our Europe segment. We again saw a strong performance on the top line and the bottom line, as our portfolio optimization strategy continues to pay off. The UK now represents approximately 90% of net sales in this segment and we're optimistic about the long-term growth prospects in this market as well. The consumer shift to fiberglass exterior doors in the UK continues to benefit our DSI business further and is further aided by strong RRR demand in the quarter. The prior-year acquisitions of PDS and National Hickman are delivering solid results. And the integration of both of these businesses continues to move forward as planned. In the near term, Brexit concerns are weighing on the UK new housing market as well as the pound sterling. And the UK market did experience a slower pace of housing completions in the early part of 2016. Again, though, over the long term, we believe that the UK housing market and economy have additional room for growth. Turning to slide 8, both net sales and adjusted EBITDA for the Architectural segment increased 10% in the first quarter, almost entirely related to increased volume demand in the office and lodging sectors. While strength in office and lodging is positive, doors in the lodging sector are generally at lower price points, which did have a slightly negative impact on the segment's average unit price in the quarter. We recently communicated a price increase for new architectural door quotes to better reflect the value proposition we provide in this segment. And it should be noted, we expect limited price realization from that action in 2016 due to the normal lag between project quotes and ultimate shipments. We continue to focus on improving the operational performance of this segment through purposeful investment in personnel and systems integrations. We are also taking the opportunity now, while the demand in the market is still recovering, to invest in R&D, new product development as well as value-added services. When the commercial end markets fully recover, we believe Masonite will be better positioned as a result. And so, with that as an overview of the performance of our segments, I'm now going to turn the call over to Russ to discuss our first quarter financial performance. Russ?

[Russell E. Tiejema:]

Thanks, Fred. Good morning, everyone. As Fred previewed, overall we had a very strong first quarter on both the top and bottom-line due to a combination of solid market conditions and some specific first quarter drivers. Looking at net sales and adjusted EBITDA, this was the strongest first quarter we've had since 2009. Net sales in Q1 were up 13% compared to the first quarter of 2015, and excluding foreign currency headwinds, net sales increased 16%. It should be noted that net sales in the first quarter of 2016 did benefit from the New Year's holiday falling in the fourth quarter 2015, thereby providing us with additional shipping days in the quarter, which we believe provided approximately $15 million of net sales benefit. Adjusted EBITDA increased 54% to $58.2 million compared to the first quarter of 2015. Excluding the negative impact of foreign exchange, adjusted EBITDA increased 59% versus the first quarter of 2015. On slide 11, we present a summary income statement of our 2016 first quarter results. Beyond the net sales and adjusted EBITDA numbers already cited, gross profit increased 34% to $98 million or 20.1% of net sales in the quarter, an increase of 320 basis points versus a year ago. Gross margin expansion was due to higher average unit prices and fixed cost leverage. SG&A increased approximately $6.7 million in the quarter, due primarily to higher stock compensation, higher personnel costs driven by new head count to support our growth, continued digitization efforts, and UK integration costs, partially offset by cost reductions related to our recent dispositions. We continue to realize cost leverage with SG&A as a percent of net sales decreasing 10 basis points. Adjusted EBITDA margin also increased 320 basis points in the quarter from 8.7% last year to 11.9% this year. Net income was approximately $18 million in the first quarter and adjusted EPS was $0.57. This was a $0.67 improvement compared to the negative $0.10 in the first quarter of 2015, which excluded $28 million of debt extinguishment costs. On slide 12, we examined a change in net sales for each of our three reportable segments and the primary drivers of the year-on-year change. Net sales in our North American Residential segment increased 24%, excluding foreign exchange headwinds. Volume in the segment increased 18% as a result of the additional Lowe's business and overall strength in both the wholesale and retail channels. Average unit price increased 5% through a combination of previously announced price increases and our continued effort to drive innovation and shift our mix to higher value products. Net sales in our Europe segment increased 11%, excluding foreign exchange headwind. Growth was driven primarily by a 9% increase in average unit price, as our DSI business, which sells fully finished exterior door sets at higher average price points than our other UK businesses, continues to perform ahead of the overall market. Volume increased slightly in the first quarter, as revenue from our 2015 UK acquisitions was largely offset by the impact of the sale of our French door business in 2015, as well as some softness in the UK residential housing market. Net sales in our Architectural segment also increased 11%, excluding foreign exchange, primarily driven by almost 10% volume growth. Turning to slide 13, our view on 2016 remains largely unchanged. We expect mid- to high-single-digit growth in the U.S. housing market and mid-single-digit growth in the RRR market. New product rollout should continue to benefit 2016 and drive higher average unit price across the portfolio. We also foresee a commodities cost environment that should remain slightly favorable when compared to 2015. As demand has been increasing, we have experienced a tightening labor market and the associated cost increases that go along with that. We do expect that out labor cost will likely increase in 2016 when compared to 2015. We believe the housing market in the UK will remain solid in 2016, but recognize that there have been some near-term concerns around the Brexit that has negatively impacted the UK housing market. We also believe that Canada's housing market will continue to see uneven growth due to economic weakness in regions that are more closely tied to oil prices. On our fourth quarter earnings call, we discussed a longer-term growth framework that included 7% to 10% annual sales growth and a 14% to 15% adjusted EBITDA margin by 2018. We'd like to spend some time discussing the assumptions within that framework. The first part of our growth framework includes continued market growth. By 2018, we assume a U.S. housing market that is at or near the 50-year average of 1.5 million starts. We have also assumed the RRR market will continue to grow at a mid-single-digit pace and that we will see mid-single-digit growth in the architectural door market as well. We have assumed a Canadian market that is relatively flat with uneven growth and a UK market that continues to grow but at a slower pace than in recent years. The second part of the growth framework is based upon driving margin expansion by capturing incremental margin on a growing business, moving customers to higher value products through continued new product introductions and improved consumer education, and lastly, by pursuing strategies that allow us to capture fair value for our products and services. These initiatives would be balanced by investments we are making in the business to drive improved factory productivity and mitigate future cost inflation. These initiatives require upfront investments in IT systems, R&D and personnel that we believe will ultimately drive leaner operations, higher productivity and margin expansion over the long term. Now turning to slide 16, growing adjusted EBITDA and free cash flow underpins our disciplined approach for deploying cash back into the business and to our shareholders to maximize returns to our investors. The highest priority for our cash is to fund continued growth of the existing business via both working capital and capital projects. We plan to continue our pace of capital investments into new products, manufacturing capabilities and technology enablers at a rate of approximately 3% of net sales. Next, we intend to maintain a disciplined acquisition criteria and valuation framework in order to continue to fund strategic acquisitions. And given our increased free cash generation, we also plan to return cash to shareholders through our $150 million share repurchase program. In fact, in the first quarter of 2016, we repurchased approximately 260,000 or $16 million worth of Masonite shares. Year-to-date repurchases, including those made subsequent to the end of the first quarter, totaled $19 million. We believe that our strong balance sheet and liquidity position will provide us with the resources to simultaneously continue to invest in the business, execute strategic acquisitions and repurchase shares on an opportunistic basis. As evidence of our progress in this area, Masonite's balance sheet and liquidity position continued its strong positive trend in the first quarter. Total available liquidity at April 3, 2016, including unrestricted cash and undrawn ABL and an accounts receivable purchase agreement, totaled $206.6 million or 11% of Masonite's trailing 12-month sales. Total debt and net debt to trailing 12-month adjusted EBITDA stood at 2.1 times and 1.9 times respectively, compared to 3.0 times and 2.3 times a year ago. Our trailing 12-month adjusted EBITDA interest coverage ratio was 7.9 times compared to 3.6 times last year, and our trailing 12-month fixed-charge coverage ratio was 5.6 times versus 2.4 times in the first quarter of 2015. With that, I'll now turn the call back to Fred to summarize today's discussion.

[Frederick J. Lynch:]

Great. Thank you, Russ. We believe that the strategies we're pursuing at Masonite are contributing to strong financial performance. The first quarter of 2016 was the eighth consecutive quarter of adjusted EBITDA growth in excess of 25%. For the quarter, net sales increased 13% and gross profit increased 34%. Gross margin and adjusted EBITDA margin both expanded 320 basis points, and adjusted EBITDA increased 54%. We believe the steps we have taken have transformed the business and we are committed to continuing our efforts to deliver above-market performance by providing an unparalleled customer experience. We continue to launch new innovative products and services, which have a growing impact on our overall business, and we are committed to driving operational efficiencies, incorporating a lean enterprise operating system throughout the organization. I again want to thank all of our employees for their dedication and continued focus on our customers. Together, we are committed to making Masonite the best provider of building products in the eyes of our customers, our employee, our shareholders, our suppliers and in our communities. And so, operator, with that, we'd now like to take any questions.

[Operator:]

Thank you, Mr. Lynch. [Operator Instruction] Our first question comes from Bob Wetenhall with RBC Capital Markets.

[Robert Wetenhall:]

Hey. Thanks for the new reporting format and the clarity you're providing on the long-term targets. I think that's incredibly helpful towards understanding the story. And I also think and I say this, you made incredible progress in North America on the price side, you fixed Europe. So I think you guys deserve a victory lap. You've got a great start to the year. Things seem like they're in place. Execution has been fantastic. I'm getting a lot of questions about your guidance. It seems like with current trends that are very constructive across the portfolio, just thinking about this, and I'm not looking for an exact coin estimate, would you feel now that you're just – EBITDA guidance of $235 million to $255 million, that you're probably biased towards the higher end of the range? And when you're thinking about how this work through the end of the year, one of the factors that would put you towards the high end of the range? Thanks and good luck.

[Frederick J. Lynch:]

Thanks, Bob.

[Russell E. Tiejema:]

Thanks, Bob. It's Russ. Let me maybe start off and Fred can add any color that he thinks is appropriate. Appreciate the question regarding guidance. Hey, we're very pleased with Q1, no doubt. But we're sitting here today with literally just one quarter behind us and we just felt that it was early to update the full-year guidance that we provided, frankly, just few months ago. And as we discussed on the call, I think it's important to recognize there are some uncertainties ahead for us as we come into the peak season. Through the balance of the year, there's uncertainty around commodities cost. We clearly see that there's a potential for us in labor cost inflation due to the tightening labor markets that we're seeing in the U.S. There's the uncertainty relative to the UK housing market, given all the chatter there's been in the market around Brexit. And so, that really informed our view that it was early at this point to provide an update on the full-year guidance. So I think, most importantly, is we remain focused on managing the business around the three-year financial framework that we provided to you folks and focusing on the management actions that are really going to drive value along that financial trajectory over a multi-year period, not just the balance of 2016.

[Frederick J. Lynch:]

Yeah. And I think Russ articulated that extremely well. I think, all of you know, I am not an advocate for regular quarterly guidance because we don't make decisions in our business based on a quarter-to-quarter approach. Our approach is on a long-term basis. And I think our decision to really step out there and talk about how we're driving the business for the long-term and developing a long-term outlook in past to our 2018 financial expectations is really the way we want to continue to look at the business.

[Operator:]

Thank you. Our next question comes from Tim Wojs with Baird.

[Tim R. Wojs:]

Hey. Good morning, guys. Nice job.

[Frederick J. Lynch:]

Thank you.

[Russell E. Tiejema:]

Good morning, Tim.

[Tim R. Wojs:]

I guess just my question is just really with the re-segmentation. Is there any way just to think about, from a high level perspective, how to think about maybe the growth and the margin trajectory in each segment and kind of how that ties to the longer-term guidance on a total company basis?

[Frederick J. Lynch:]

I'm not sure I fully understand the question. But maybe you can give me – can you be more specific, Tim?

[Tim R. Wojs:]

Yeah. I mean, I guess, just as you look at just the 14% to 15% EBITDA margins in total by 2018, how do we think about that if you break it down between North America, Europe and Architectural?

[Frederick J. Lynch:]

Yeah. I don't know that we're in a position to share with you how we expect the margin improvement to occur through each segment. But I think the framework that we laid out, that Russ laid out I think on slide 15, actually does a nice job of talking about the different components of that. A, it starts with market

[Tim R. Wojs:]

Okay. Okay. That's helpful. I appreciate it.

[Operator:]

Our next question comes from Alex Rygiel with FBR Capital Markets.

[Alex J. Rygiel:]

Thank you. Good morning, Fred and Russ. Great quarter.

[Frederick J. Lynch:]

Thank you.

[Russell E. Tiejema:]

Thanks. Good morning, Alex.

[Alex J. Rygiel:]

Fred, could you – or Russ, could you maybe go into a little bit greater depth in sort of helping us to better understand the volume growth in North America of 18% in the quarter. And I know you mentioned sort of the oddity of kind of the holiday – when the holiday fell out and all. But could you kind of walk us through that and help us to kind of get to a conclusion on what volume growth in North America hypothetically could look like in a run rate environment for the next three quarters.

[Russell E. Tiejema:]

Yeah. Alex, it's Russ. I'll take a shot at that. I guess, the way I would frame up the answer is, first and foremost, as we said on the call, we really saw pretty balanced growth across North America, across all product categories, across all channels. If you take a look at our North American Residential business in particular, again, across the interior exterior, our glass, and stile and rail product categories, pretty strong growth across all. We saw high-teens growth in the interior door markets. We saw solid mid-single-digit growth in the exterior doors. That exterior door growth was levered more towards fiberglass and steel, which obviously helps us from an AUP and from a margin perspective. And then when you take a look at the channels in North America that we serve, it was strong growth on both the wholesale and retail channels. Retail, in particular, was quite strong in the quarter. So, I guess when we step back, we see a pretty balanced view on growth across all product categories, all channels. I'm not going to provide any guidance or forward look on how we think that looks going through the balance of the year, but we're certainly very pleased with the start to the year, again, across the portfolio in North America.

[Frederick J. Lynch:]

Yeah. And, again, I would just remind folks, we did have the fact of the New Year holiday, which Russ mentioned, provided us with about $15 million. We did have the improvement in the Lowe's business which – that was probably – we said about $12 million a quarter is what we've said that that would provide. So you have to take that into your account. And let's face it, we had a mild winter. So I think you've seen that across – while maybe other businesses in the space haven't grown at quite the rate that Masonite did, we've seen nice growth across other businesses in the space. And then we've talked about it last year that we've been focusing on new products and those new products have helped to deliver some, again, above-market growth. So it's really – the nice part is it's an effort that really has multiple pillars that are helping us to drive those results.

[Alex J. Rygiel:]

And then does a sort of a high-single-digits kind of volume growth numbers more realistic relative to the quarter, factoring in some of those kind of oddities that occurred in 1Q?

[Russell E. Tiejema:]

Yeah. I think that's right, Alex. When you take into account the incremental Lowe's business and the holiday impact that Fred just articulated, high-single-digit volume growth is the right way to look at it kind of a like-for-like basis.

[Alex J. Rygiel:]

And clearly that's a very nice step-up from what you might call the first nine months of 2015. How much of that fact do you think the mild weather had in that?

[Frederick J. Lynch:]

Yeah. I don't think that we can actually specifically say what was related to mild weather. Again, I think if you go back into 2015 and if you go back and listen to those calls, we've talked about the fact that in these markets some of the volume is temporal and fungible, and I think that has proven to be the case, right? We've kind of shared that. And again, that's why we don't look at our business on a quarter-to-quarter basis.

[Alex J. Rygiel:]

And then, as it relates to your strategic acquisitions, as it relates to sort of your three-year plan with Canada flat, with UK showing slower growth than recent. Would that suggest that you're probably targeting more North American opportunities than outside?

[Frederick J. Lynch:]

Yeah. I would say that clearly we see opportunity in North America and we like the growth trajectory there. But we're going to be very thoughtful about our acquisition strategies and what makes sense. I think if you look at the acquisition strategy that we've had in place, it has been across multiple regions, right? We've done acquisitions in Chile. We've done acquisition in Canada and the U.S. and the UK. And those are our big markets and those will continue to be the markets that we focused on. And we've stayed primarily within our space, adding to our capabilities, and we think that's the right recipe for our acquisition strategy.

[Alex J. Rygiel:]

Very helpful. Thank you.

[Frederick J. Lynch:]

Thank you.

[Russell E. Tiejema:]

Thank you.

[Operator:]

Our next question comes from Kevin Hocevar with Northcoast Research.

[Kevin Hocevar:]

Hey. Good morning, everybody. And nice quarter.

[Frederick J. Lynch:]

Hey, Kevin. Good morning.

[Kevin Hocevar:]

Wondered if you could go to the architectural door comment you made, Fred, in your prepared remarks about the pricing action you took. It sounds like you implemented some pricing actions, except it'd take a couple of quarters before it starts showing up. But wondering if you can give us some type of sense of when that will start showing up and the type of benefits you would expect, the best as you can tell today?

[Frederick J. Lynch:]

Yeah. So the Architectural business is largely a quote business. So it's not atypical for quotes to come in and be won six months prior to the actual shipment taking place. And sometimes it's longer. Sometimes it could be 12 months, sometimes it's 3 month. But there's a pretty significant lag from the timing of when you actually win the quotes, when you actually make the shipment, and of course, that's when the price will ultimately hit our P&L. And so, that's why, as we looked at and shared that, we believe that that impact will really not – you can hear us being in May, the opportunity for that impact to have much – absent for that price increase, to have much impact on 2016 is relatively low.

[Kevin Hocevar:]

Got you. But you expect in 2017 to see the benefits from it?

[Frederick J. Lynch:]

Certainly. And, as far as the level, for competitive reasons we're not sharing that.

[Kevin Hocevar:]

Sure. Okay. Thanks very much.

[Frederick J. Lynch:]

Thank you.

[Operator:]

Our next question comes from William Wong with JPMorgan.

[William Wong:]

Hi. Good morning, guys, and a great quarter.

[Frederick J. Lynch:]

Good morning.

[Russell E. Tiejema:]

Hey. Good morning. Thank you.

[William Wong:]

So my first question is, can you just clarify with the 2016 guidance, the EBITDA guidance of $235 million to $255 million, so you guys aren't updating that but is it fair to say that are you reiterating that guidance? And also my follow-up question in terms of the growth from new products, so are you able to share with us the percentage of sales that are coming from these new products and kind of where you are with the rollout in terms of net percentage versus sort of your near-term and mid-term targets?

[Frederick J. Lynch:]

Yeah. So, when it comes to guidance, I think our practice is to give annual guidance and that's at this point what we've been doing since we've gone public in 2013. And I don't see a really good reason to change from that guidance at this point in time, because I really believe the focus for us is around the long term. So we'll continue to advocate for – this is a long-term strategy. We decisions we make in the company are based on two years to three years, sometimes four years out. And therefore – we clearly want to help provide you with a path as we start out each New Year, but we don't think it's prudent, as Russ said, to either reiterate or to provide updates on guidance on a quarterly basis at this point. With regards to new products, this has been an area that we began investing back in 2011-2012, upping our investment. We're happy we made those decisions, those three years, four years ago, because they really are paying off. It also reinforces the message we just had with respect to guidance. From a vitality index perspective, we're still in the single-digit area, and it's an area that we think that we need to get to a much higher level over time and that's part of our plan and part of our investment thesis is to do that. With respect to 2016, we mentioned that we had a pretty strong launch of new products in 2015 and that most of those occurred during the second half of 2015, which should provide some really strong runway for 2016. We are seeing that, as well as we are launching and have launched some new products in the first quarter of 2016 and have some additional product launches planned for the second half of the year. And so we think that 2016 will be, again – and we said last year that it was our best new product launch I think in nine years or some number like that. This will clearly be a better year than 2015.

[William Wong:]

Great. And just to clarify the mild winter, do you think there was any pull-forward effect in terms of pulling forward from your second and third quarters?

[Frederick J. Lynch:]

Yeah. The only thing – I think that's yet to be seen and that's one of the reasons – one of the things that we'll continue to look out for. And I'm going to answer your next obvious question, what did April look like? And April, we saw a similar view in April that we saw in the first quarter with regards to top line. So it's hard to determine yet whether that is a pull-forward or not.

[William Wong:]

Great. Thanks very much, guys. Good luck with the rest of the year.

[Frederick J. Lynch:]

Thank you.

[Russell E. Tiejema:]

Thanks, Will.

[Operator:]

Our next question comes from Nicholas Coppola with Thompson Research Group.

[Nicholas Andrew Coppola:]

Hi. Good morning.

[Frederick J. Lynch:]

Good morning.

[Nicholas Andrew Coppola:]

I think you talked about SG&A performances in the quarter a bit. You called out personnel cost and acquisitions and dispositions, which all sound like pretty normal type items. So how should we be thinking about SG&A run rate for the remainder of the year here?

[Russell E. Tiejema:]

What we've said in the past, and I'll reiterate that point now, is that we continue to expect that we'll see a little bit of SG&A leverage, just as the top line of the business grows. But we still view ourselves largely in a reinvestment phase in a lot of our SG&A expenses. You saw that from the company in 2015 and we would continue to see that into 2016. We're making investments in some key personnel around sales and marketing, around R&D, and in particular around IT in some of our digital efforts that are underway in the company right now. So, that is requiring some investment in personnel and in some IT systems. So, again, the relationship that you saw for SG&A to revenue in the quarter this year is probably generally indicative of how you'll see a little bit of leverage in the company through the balance of the year, but still some investment in SG&A as we continue out through the balance of 2016.

[Frederick J. Lynch:]

And I think it's important when – a lot of times when people talk about investments in IT with respect to operational efficiency and back office productivity, et cetera, a big portion of our IT investment right now is in what we call digital, which is really revenue-generating IT. Now, it doesn't happen in the year you make those investments, but it's really focused on providing a different customer experience and a different service proposition through our existing channels to our customers and we're pretty excited about that. We've seen some positive results from the actions we've already undertaken and we believe it's a smart place for us to be investing your money.

[Nicholas Andrew Coppola:]

Okay. That's helpful. And then a more macro-type question. Can you talk about trends that you're seeing in the UK housing market? I mean, you mentioned Brexit fears, forward trends. What are your expectations there? I mean, are you thinking about that as a temporary slowdown and then there's to be some reacceleration. What are your thoughts around the business there?

[Frederick J. Lynch:]

So I would say there's two impacts in the UK that we've dealt with. One was the change in the loan-to-own, as they call it, legislation with regard to how tax benefits for people who are buying properties and then lending. I think it's not loan-to-own, it's something else. I forgot the term they use. But it's a British term. And then – so we think that one has kind of already played out and we don't see that as being – of having really a lot of impact moving forward. It's kind of the buy-to-rent I guess is the – that part of the market that people were concerned that the tax legislation would really stop people from or would force some of that buying. Doesn't seem to be the case. The Brexit, if you can tell me what's going to happen on Brexit, I can tell you what's going to happen with the future. I think it's just creating a lot of uncertainty. And once that uncertainty is behind us, whichever way it goes, that'll give us a clear vision of what's going to happen in those markets.

[Nicholas Andrew Coppola:]

Okay. That makes sense. Thanks for taking my questions.

[Frederick J. Lynch:]

Thank you.

[Russell E. Tiejema:]

Thank you.

[Operator:]

Our next question comes from Al Kaschalk with Wedbush Securities.

[Al Kaschalk:]

Hi. Good morning. I want to focus on North America Residential, and in particular, can you provide a little more color on the current landscape in Canada in terms of mix of that business, then the end markets and then how you get to the channel there in particular?

[Frederick J. Lynch:]

Yeah. So we believe that from an interior door perspective, we are the largest player in Canada and we are a significant player on the entry side as well. We are a major supplier to the retail channel through Home Depot. We also sell through distribution on the interior side and we sell through a number of distributors on the entry side. So it's – and we are across the nation. So, whatever part of the country you're in, Masonite participates in those regions. So, if you're in Toronto, we have one set of growth expectations based on how the market's doing. If you're out in the plains, more towards the oil and the related industries, it hasn't really affected the economies. We play in that market as well and we're clearly seeing much lower growth and actually much lower sales in those markets than we had seen historically.

[Al Kaschalk:]

Would you characterize it, Fred, though that Canada is still declining or are you kind of a flat line in terms of contribution?

[Frederick J. Lynch:]

Yeah. I think the term we used was it was flat but uneven depending on which part of the country you're in. And, again, a good example is, on new products, we're seeing very nice growth in new products in Canada. So, that's the – we believe that that continued investment and innovation in new products will provide us above-market growth opportunities.

[Al Kaschalk:]

Yeah.

[Russell E. Tiejema:]

And, Al, it's Russ. I would just add that, Fred talked about the different dynamics regionally in Canada, that in itself can provide a little bit of a headwind to us, just given that while you may see strength in markets like Toronto, that's largely going to be a multi-family type of application. Multi-family housing on average is about half the door openings as you'll see in a single family. Whereas you get out into some of the prairie states that are more heavily tied to the oil commodities market, that's largely a single-family market. And we have seen a lot of weakness in that area. But when you step back and you look at the overall North American Residential market, almost three-quarters of our business is in the U.S. versus a little over 20% in Canada. So it's clearly an exposure for us and we're focused on it. But the U.S. really has been the predominant driver of the business over the last year.

[Al Kaschalk:]

Right. Very helpful. And then just to pivot a little bit towards Architectural. I get – I understand or appreciate the quote nature of the business. I understand you don't want to give guidance. Could you help us – or appreciate that this is probably one of the lower margin businesses now within your segment reporting. Lower – mix has a big issue here in terms of AUP and the end-market dynamic. So, I guess, wrapped up in that commentary would be a question as to what's going to help drive this to a level that you're comfortable with in terms of owning this part of the business? I know you've made some investments et cetera, and long term it makes sense, I believe. But can you just add a little more color on that, given it is such relative to the other segments a lower margin product?

[Frederick J. Lynch:]

Yeah. And, Al, this is one of our theses around the acquisition that we made in this business, that this business has opportunity to expand margins. It is going to take some work and we are making some significant investments to make that happen, everything from putting all of the acquisitions on to a common ERP platform, which is well underway as we speak today. And we think that's going to provide lots of operational efficiencies. I'll be honest with you that, in some cases, we have duplicate cost structures right now as we're going through that change, where we have a set of new people that are working on the new systems that will be the integrated centralized systems and we have a set of people that are still out there working on the old systems that are kind of doing the same job. And we think that's a prudent way for us to go through that process. So, when I think about this business and the opportunity to put it on a common platform and to really drive operational synergies within the business over the long run, we think this is one of the more exciting areas for us to help drive margin expansion and that's been thought through in part of our longer-term outlook in getting to 2018. Part of that is increasing the profitability of the segment that's built into that expectation. So I actually see this as a nice opportunity for the company and an exciting one.

[Russell E. Tiejema:]

Yeah. I would just add that the strategy we're pursuing in Architectural, I think you can draw parallels to the strategies that we've executed in Residential. And it's all around executing against this multi-year plan. And just as we did with Residential in making investments in people, systems, and in particular, the product development pipeline during the trough market a few years ago, we're now taking advantage of this relatively trough period and slow recovery in the commercial market to make some investments on the R&D side, which we think will strengthen the product portfolio coming out the other side, as that market starts to recover and follow along on that 18-month to 24-month lag that we typically see to the residential construction cycle.

[Frederick J. Lynch:]

And the only last part I'll say is, this is a little bit of seasonality in this business still. So you're normally going to see the first quarter be relatively low compared to the other business. Now I will tell you, historically we had more seasonality in North America Residential that we didn't see this quarter, which I think is a little bit of that anomaly and we explained all the reasons why, earlier.

[Al Kaschalk:]

Very good. Thank you for the commentary and good luck.

[Frederick J. Lynch:]

Thank you.

[Russell E. Tiejema:]

Thanks, Al.

[Operator:]

Our next question comes from Scott Levine with Imperial Capital.

[Scott Justin Levine:]

Hey. Good morning, guys.

[Frederick J. Lynch:]

Good morning.

[Russell E. Tiejema:]

Morning.

[Scott Justin Levine:]

I'm hoping you can provide a little bit more color on some of the new product lines you introduced last year, the Heritage, Vista Grande, et cetera. What do uptake levels look like? And maybe you can compare those to your segment demand trends. I think you've done that a bit in the past. Just to get a sense of how those are performing? And also, if you could help us get a bit more sense in terms of pricing how much is mix contributing versus the absolute like-for-like price increases in terms of what you saw in the quarter? And maybe a little bit more color in terms of what you expect over the next few quarters.

[Frederick J. Lynch:]

Boy, that was one question but had a lot of parts.

[Scott Justin Levine:]

Multi-part.

[Frederick J. Lynch:]

So I'll start with the new product. We haven't been obviously specific about each of the new products and what's happened, again, for competitive reasons. It's something that we want to manage closely. What I can tell you is that the launch of both of those lines, which are exceeding our expectations, and when we compare them to other launches in our past of similar products in those categories, the acceptance rate and demand from our customers in both of those is higher than what we had seen as a percentage of our overall portfolio that we had seen from other launches in the past. So it's going extremely well. We've put a lot of time, effort, money into those products. I think we had mentioned earlier we – Russ had mentioned, we've put a lot of new investments in people into our R&D process and we really think that it's paying off. And so we're excited about those businesses. And quite frankly, we continue to put more investment into the plants, because it does take some slightly different operating equipment to make those products. And because the products are being – the forecasts are – or, sorry, the demand is higher than the forecast, we're finding ourselves having to increase our capacity on those. So, again, we're excited about that and we're excited about the continued growth in those products. And of course, as we shared, those products are both at higher average unit price than rest of our portfolio.

[Scott Justin Levine:]

Got it. And one last one then on the buyback. So maybe just – I realize the strengths behind investment in the business and acquisitions, et cetera, but maybe a little bit more color regarding the thought process on your behavior in 4Q and 1Q? And do we think of this as kind of more of an opportunistic use going forward or is there a set timeframe you expect to exhaust the current buyback, some more color there maybe?

[Russell E. Tiejema:]

Yeah. It's Russ. I'll add a little bit of color. We've said from the start that we view the repurchase authorization really as an opportunistic program. Our expectation is, is that we'll fully complete that over approximately a two-year period. But we're going to be opportunistic about the point at which we make those repurchases based on price of the equity and the need for cash flow deployment elsewhere in the business.

[Scott Justin Levine:]

Got it. Thank you.

[Russell E. Tiejema:]

Thank you.

[Operator:]

And our next question comes from Mike Wood with Macquarie.

[Michael Wood:]

Hi. Good job on the execution once again. You spent some time talking about...

[Frederick J. Lynch:]

Good morning, Mike.

[Michael Wood:]

Good morning. The productivity investments, can you just give us a sense – I noticed it's something you've been doing for quite some time and has been part of your longer-term strategic plan. Is your message now that this is going to be ramping up going forward? Can you quantify that at all? And maybe just thinking in context of the incremental margins you achieved in the first quarter, 37% incremental EBITDA margin, is there anything unusual there that we shouldn't expect that to repeat going forward?

[Frederick J. Lynch:]

Yeah. So we've talked about what we're calling the next step in our evolution of our journey as a lean enterprise company. We've established a program that we call Advantage which is our lean enterprise operating system that we're putting in place across all the plants. To be quite honest, right now that is more of a cost than it is a benefit based on where we stand in that process. So we've increased our SG&A and overhead cost with regards to talent coming in to the organization to help us drive that. We have teams going around to our plants and doing significant amount of training at those plants to enable those plants to start to drive this program. We also, as a result of the increases that we're seeing in demand at the same time, are increasing supervisory overhead in a number of these plants, more with coaches and mentors than what I would call the traditional supervisors. So, to be honest with you, in the first quarter, if anything, our lean enterprise system is probably – we've added additional cost than we've had in the system previously. Now, with that said, we continue to still do the Kaizen event, the continuous improvement programs and the Lean Sigma programs that we've been doing for the last five years. And so they're delivering results on a quarter-to-quarter basis. I think the real impact and the real improvement that we're going to see by taking our entire system to the next level is, again, a journey that we're going to see over the next two years to three years and, again, it's reflected in that longer-term outlook that we've been sharing with you.

[Michael Wood:]

Great. And then on RRR, I think that you updated mid-single-digit growth forecast for the year. I believe you were at low- to mid-single digits last quarter. Just is there anything besides the strong trends you've seen year-to-date in terms of backlog, pipeline activity, your customer commentary that gives you confidence in that outlook?

[Frederick J. Lynch:]

I would say that, as we look at the RRR market has been strong. Again, there is some question of how much of that is weather-related in the first quarter of this year. So, again, part of our reason for being prudent and waiting to see what plays out. But as – with unemployment staying low and the consumers getting more and more confident, one would expect that there's going to be continued investment back into their home. So I know that the large retailers are feeling pretty bullish right now about what's happening in the RRR space, and so we share that bullishness.

[Michael Wood:]

Great. Thank you.

[Russell E. Tiejema:]

Yeah. I would just add that – I'm sorry. I was just going to add that while we saw that strong growth across, as I mentioned earlier, all products and all channels, it was even more pronounced on the retail channel as opposed to the wholesale channel. So, to Fred's point, that emphasizes that the RRR market seems to have very good momentum right now.

[Michael Wood:]

Great. Thank you.

[Operator:]

Our next question comes from Trey Grooms with Stephens, Inc.

[Trey H. Grooms:]

Hey. Good morning.

[Frederick J. Lynch:]

Good morning, Trey.

[Trey H. Grooms:]

This question might be for Russ, and sorry if I missed something here, but were there any integration costs associated with some of the UK efforts you're doing there worth highlighting? And if so, could you quantify that? And did you back out anything there on adjusted EBITDA anywhere? I see a small restructuring cost or charge there in Europe, but is there anything else there on UK integration costs worth noting?

[Russell E. Tiejema:]

Yeah. The short answer to your question, Trey, is yes, there were some costs in SG&A related to integration around UK. Anything that would have been backed out would have been more of a severance type or reduction in force type restructuring, not necessarily cost associated with the integration itself. If you take a look at the SG&A, year-on-year in the first quarter, we were up roughly $7 million – I think I said $6.7 million is the specific number. Of that, a lot of it is in the area of wages, benefits, stock compensation, personnel-related costs, but there was call it $1.5 million on the round associated with some professional fees and a large portion of that would be cost around integration in the UK.

[Trey H. Grooms:]

Perfect. That's very helpful. And then also, and you may have already answered this, again, I'm sorry for making you repeat something, but the increased corporate expense year-over-year, I think it was $7.5 million or $7.6 million versus $2 million last year. Is the driver there similar to some of the things you pointed out for the increased SG&A or is there anything else to note? And how should we be thinking about that run rate?

[Russell E. Tiejema:]

I would say the drivers would be similar, yes. And think about the run rate – again, I'll go back to the comments that I made earlier about investments that we're making in SG&A generally across the company and how that will continue to glide path through 2016, you would see that at the corporate center also.

[Trey H. Grooms:]

Makes sense. Thanks a lot for taking my questions and good luck. Thanks a lot.

[Frederick J. Lynch:]

Thank you.

[Operator:]

Our next question comes from Kevin Hocevar with Northcoast Research.

[Kevin Hocevar:]

Hey, everybody. Quick follow-up on – in terms of the North American Residential growth, outside of the increased Lowe's business, are there any other market share gains that you feel like you're winning? It sound like new products might be contributing to above-market growth. But any other business wins, particularly there's some customer consolidation that at one point might lead to some business wins. So wondering if you feel like you're taking share anywhere else or it's a lot of the market growth that's driving that type of volume?

[Frederick J. Lynch:]

Yeah. So I'd say, from the pro-dealer consolidation perspective, there has been minimal change in our presence in those companies at this point in time. I think they're still going through their integration process and trying to determine what makes sense there. So, from that perspective, I would say there's not been a major shift there. Our customer base is essentially the same. There's always wins and losses around the edges. But our primary what we call our all product distributor partners are the same ones that we've been working with over the same amount of time. I will say that our distributors are doing a very good job and continue to – the ones that we happen to be aligned with are continuing to win share with their dealers down the line. And I think it's in large part because of the way we work together with those distributors, the fact that we're out there providing them with the new products and they're out there doing a great job of selling the value proposition associated with that. So, no major shift in the customer base itself. But we do believe that our distribution partners are doing an excellent job in increasing their presence in their markets.

[Kevin Hocevar:]

Okay. Great. Thanks, guys, and good luck.

[Frederick J. Lynch:]

Thank you.

[Russell E. Tiejema:]

Thank you.

[Frederick J. Lynch:]

That's it. Operator, any other call, any other questions?

[Operator:]

That was our final question.

[Frederick J. Lynch:]

Well, great. Then if there are no further questions, we want to thank you again all for joining the call. Thank you for your many questions. And we look forward to seeing you again and speaking to you at the next quarter. Operator, if you would please provide the instructions for the replay.

[Operator:]

Certainly. Thank you for joining the Masonite International first quarter earnings call. This conference call has been recorded. The replay may be accessed until May 19. To access the replay, please dial 877-660-6853 in the U.S. or 201-612-7415 for outside of the U.S. Then enter conference ID number 13634502. Thank you.