Masonite International Corporation
Q2 2016 Earnings Call Transcript

Published: 11 Aug 2016

[Operator:]

Welcome to Masonite's 2016 Second 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.

[Joanne Freiberger:]

Thank you, Rob, and good morning, everyone. I'm joined in our Tampa office today by Fred Lynch, our President and Chief Executive Officer; Russ Tiejema, our Executive Vice President and Chief Financial Officer; and Larry Repar, our Chief Customer Experience Officer. The information on our 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 the earnings presentation and press release that we've made available in connection with this call, and in our Annual Report on Form 10-K, all of which are available on our website. Actual results may differ materially from those expected or implied. Forward-looking statements are as of the date they're made and we undertake no obligation to update any forward-looking statements beyond what is required by applicable securities law. In addition, our discussion of operating performance will include non-GAAP financial measures within the meaning of SEC Regulation G. A reconciliation of these measures with the most directly comparable GAAP measure 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. And then Fred will summarize our prepared remarks, before opening the call up to a 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 are pleased with our second quarter 2016 results. Net sales increased 8% and adjusted EBITDA increased 16%, representing our ninth consecutive quarter of double-digit adjusted EBITDA growth. Adjusted EBITDA margin for the company increased 90 basis points to 13.3%. Adjusted EPS was $1.02 in the second quarter, a 60% improvement from the second quarter last year. This is our 13th consecutive quarter of positive average unit price growth, with AUP increasing in all three reportable segments, reflecting the strengthening value proposition across our product portfolio. And finally, we also repurchased 455,000 shares for $31 million during the quarter. So, let's now turn to a review of each of our reportable segments. Looking at the North American Residential segment, both U.S. housing starts and completions were up year-over-year, albeit at a slower pace when compared to the first quarter of 2016. We're encouraged that we're seeing more growth coming from single-family starts and completions in 2016 as compared to previous years, where multi-family homes were driving most of the housing market's growth. As a reminder, single-family units typically have about twice as many doors as multi-family units. The strong housing demand trends in the first half of the year translated to double digit volume growth in both the retail and wholesale customer channels. Average unit price in the second quarter increased 2% compared to the same period last year. The quarter benefited from the first quarter price increase and positive mix from more pre-hung unit sales, offset by higher growth in interior doors compared to substantially higher priced exterior doors. Sales for our new product family introduced in 2015, including the Heritage Series of interior doors and the Vista Grande Series of exterior doors continued to gain solid traction throughout the quarter. And finally, the strength in the U.S. dollar when compared to the Canadian dollar and the Mexican peso did negatively impact the North American Residential segment's adjusted EBITDA in excess of $1 million. Let's turn to slide six, and our European segment. With the UK representing approximately 90% of net sales in this segment, we were closely monitoring the country's vote to stay or leave the EU. As we mentioned on our Q1 call, uncertainty related to the impending Brexit vote put pressure on new residential construction activity early in the year. Given the vote in support of the UK to exit the EU, we believe that this uncertainty will continue to hang – overhang the new residential construction market at least for the near term. In spite of this uncertainty, net sales for our Europe segment increased 7% in the second quarter, and adjusted EBITDA increased almost 60% compared to the second quarter of last year. Our DSI business, in particular, continued to deliver strong revenue growth, reflecting the strength of the business model we're deploying with this product line. And as a reminder, our DSI business specialize in the sale of fiberglass entry door systems directly to contractors for quick ship and installation in the customers' home. Our portfolio optimization efforts in this segment have driven demonstrably higher adjusted EBITDA and adjusted EBITDA margin. In the second quarter, adjusted EBITDA margin improved 520 basis points compared to the same period last year. The deterioration of the pound sterling in 2016 has impacted both the translation of our UK results to U.S. dollars and our material costs, as we purchase residential door facings in euros from our plants in Ireland and sell doors in pounds in the UK. Again, we believe that the currency negatively impacted adjusted EBITDA in this segment by approximately $1 million in the quarter. It's important to note that the majority of the pound's sharp decline against the U.S. dollar happened late in the second quarter. And so, we do anticipate currency headwinds will continue to impact future results. With that said, we remain positive about our investments in the UK, and over the long term, we believe the UK housing market does have room for additional growth, as demographics suggest approximately 200,000 homes need to be built on an annual basis. Turning to slide seven, net sales in our Architectural business increased 2% in the second quarter, while adjusted EBITDA decreased approximately 6% compared to the second quarter of last year. Volume was essentially flat for the segment in the quarter as the implementation of the new Door Configurator and ERP platform created a production backlog at one of our facilities, leading to a lower volume being shipped from that facility during the quarter. As we stated in the past, we're rolling out this new platform one facility at a time in our effort to minimize production impacts. It's important to note that the new Configurator implementation is a step-change in our technology, and it is expected to significantly expand our capabilities. Getting the entire Architectural business onto a single ERP platform should also enable consistent business processes across the segment and afford greater operating efficiencies. Driving production efficiencies, improving business processes and simplifying the doors buying experience through improved technology is in line with our efforts to create an unparalleled customer experience in our Architectural business. The benefit to this approach are really apparent in the growth of USA Wood Door which deploys a quick ship business model for Architectural customers. Now before I turn the call to Russ, I would like to share with you some specifics on the investments we are making in both infrastructure and digital capabilities at Masonite to provide that unparalleled customer experience. As we've shared previously, we believe that developing the ability to service multiple channels utilizing technology with a focus on quick ship capability for inventoried and high-value fully-furnished products will continue to further our strategy of creating additional demand as we make the overall door purchasing experience easier. We have seen the benefits of this approach both in the DSI model, in the Residential business and the USA Wood Door model in Architectural. To that end, in the second quarter, we opened a new manufacturing facility in the Greater Tampa, Florida area with advanced finishing and quick ship delivery capabilities to service the substantial growth area for both the residential and architectural doors. The facility expands USA Wood Door's geographic coverage to virtually all of the East Coast with quick ship options for a wide range of architectural doors. The Tampa facility also expands to residential interior and exterior doors. The facility has the capability to ship slabs, components and pre-hung doors with less than five-day delivery service that will support our one-step distribution partners and local pro dealers in the State of Florida. The distribution facility also provides a broad, special custom order business including fully finished interior and exterior door systems. The start-up cost associated with this investment had a negative impact on our Q2 earnings, but given the solid sales trends, we expect positive results by year-end. We're excited about our investment in the Florida plant. We launched the plant in the beginning of Q2 with sales growing to $700,000 in the month of June. Again, given start-up cost, the plant had a negative $2 million impact on our adjusted EBITDA in the second quarter, but as we said earlier, based on current sales trend, we expect this plant to be accretive to adjusted EBITDA by year-end. Importantly, this investment in infrastructure is being coupled with digital innovation. In expanding our USA Wood Door capabilities to this new site, we did not want to rely on a traditional ordering approach. Instead, we developed a new e-commerce application that enables our customers to select, design, order and pay for in-stock architectural wood doors online, enabling a faster and more seamless customer experience. At Masonite, we continue to prioritize our investments across multiple digital initiatives. Digital initiatives are aimed at both improving the customer experience as well as driving internal business efficiencies. To help accelerate this activity, Masonite has invested in a 40%-plus strong, dedicated digital team as part of our customer experience organization led by Larry Repar, that is separate from our traditional corporate IT organization. The digital team is fast to creating customer platforms that provide customized door configurators, simplify and accelerate the ordering process and improve routes to markets, for both residential and architectural customers in addition to the more traditional digital applications such as the development of the new masonite.com website. As we discussed earlier, the ERP implementation in the Architectural business includes the rollout of an enhanced front-end door configurator, while also improving integration of common processes and shared manufacturing across all plants. Additional investments in improving our internal corporate systems, such as the new cloud-based human resource information system that we recently implemented are aimed at improving our ability to better manage and support the human resource challenges associated with business growth. We believe that these investments are a necessary part of succeeding over the long term, growing our business and providing an unparalleled customer experience. And so, with that as a backdrop, the performance of our segments and business, I'll now turn the call over to Russ to discuss our second quarter financial performance. Russ?

[Russell E. Tiejema:]

Thanks, Fred. Good morning, everyone. Solid market conditions helped to deliver a very strong second quarter on both the top line and bottom line. Looking at net sales and adjusted EBITDA, this was the strongest second quarter we've had since 2009. Net sales in the second quarter were up 8% compared to the second quarter of 2015 to $514 million. Excluding foreign currency headwinds, net sales increased 10%. Adjusted EBITDA increased 16% compared to the second quarter of 2015 to $68.5 million. On slide 12, let's go a layer deeper than top line and bottom line results. Gross profit increased to $111.1 million or 21.6% of net sales in the quarter, an increase of 170 basis points versus a year ago. Gross margin expansion was due to a combination of higher average unit prices, lower commodities costs and fixed cost leverage on production volumes. SG&A increased approximately $10 million in the quarter, due in large part to investments we are making in the business, such as those that Fred previewed earlier. Personnel cost increased approximately $2 million, as we made staff investments to drive our expansion and technology initiatives, and we also incurred higher stock compensation of approximately $2 million compared to the second quarter of 2015. Investments in professional fees related to our IT and digital initiatives were approximately $2 million higher than the second quarter of last year as well. Adjusted EBITDA margin increased 90 basis points in the quarter from 12.4% last year to 13.3% this year. Net income was approximately $33 million in the second quarter and adjusted earnings per share of $1.02. This was a $0.60 improvement compared to the $0.42 in the second quarter of 2015. Although it's worth noting that this includes approximately $0.20 benefit from lower tax expense associated with adopting a new accounting standard for share-based compensation. The table on slide 13 details the change in net sales for each of our three reportable business segments, and the primary drivers of the year-over-year change. Net sales in our North American Residential segment increased 16% excluding foreign exchange headwinds. Volume in the segment increased 14% as a result of the additional Lowe's business and overall strength in both the wholesale and retail channels. Average unit price increased 2% through a combination of previously announced price increases, and our continued effort to drive innovation and shift our mix to higher-value products. This partially offset by growth in interior doors that outpaced growth in exterior doors. Net sales in our Europe segment increased 10%, excluding foreign exchange headwinds. Growth was driven primarily by our DSI business, which sells fully finished exterior door sets at higher average price points than our other UK businesses, and continues to perform ahead of the overall market. Volume increased slightly in the second quarter as revenue from our 2015 UK acquisitions was largely offset by the impact of the sale of our door business in France in 2015, as well as some softness in the UK residential housing market. Net sales in our Architectural segment increased 3% excluding foreign exchange, primarily driven by a 2% increase in AUP. Volume was essentially flat in the segment from the plant backlog caused by the ERP implementation that Fred discussed earlier in the call. Turning to slide 14, our view on 2016 overall remains largely unchanged. We expect mid-to-high-single -digit percentage growth in the U.S. housing market and mid-single-digit percentage 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 the tightening labor market and associated cost increases. Along with higher wage inflation, new employees can take four months to six months to ramp up to normalized productivity levels, having a negative impact on cost in the short-term. The UK's referendum to leave the EU has negatively impacted the UK housing market and its currency, which we expect will continue to be soft for the remainder of the year. In keeping with our preferred approach of focusing on our three-year growth framework rather than routinely revising near-term guidance, we are not updating the 2016 outlook provided earlier this year. I would point out, however, that the $0.20 tax benefit in Q2 from adopting a new share-based compensation accounting standard would be additive to our previously disclosed adjusted EPS outlook of $2.70 to $3 per share. Turning to slide 15, our robust earnings growth has continued to support a strong balance sheet, even as we carryout multiple layers of our cash deployment framework, namely continued capital investments in the business and execution of our share repurchase program. In fact during the second quarter, we repurchased $31 million of stock. Subsequent to the end of the quarter, we purchased an additional $7 million, bringing our total repurchases to $54 million since the authorization was put in place earlier this year. Total available liquidity at July 3, 2016, including unrestricted cash and undrawn ABL and an accounts receivable purchase agreement, totaled $228.8 million or 12% of Masonite's trailing 12-month net sales. Total debt and net debt to trailing 12-month adjusted EBITDA stood at 2 times and 1.7 times respectively compared to 2.8 times and 2 times a year ago. Now with that, I will turn the call back to Fred to summarize today's discussion.

[Frederick J. Lynch:]

Thank you, Russ. We believe the strategies we're pursuing at Masonite are contributing to our strong financial performance. The second quarter of 2016 was the ninth consecutive quarter of double-digit adjusted EBITDA growth. For the quarter, net sales increased 8% and gross profit increased 17%. Gross margin expanded 170 basis points, and adjusted EBITDA margin increased 90 basis points to 13.3%. We believe the investments we are making, both internally and customer-facing, are transforming our business and we're committed to continue our efforts to deliver above-market performance by providing an unparalleled customer experience. We continue to launch new innovative products and services, which are having a growing impact on our overall business, and we're committed to driving operational efficiencies by incorporating a lean enterprise operating system throughout the organization. As we look at our business in the past to a profitable growth, we've identified six areas that support our growth trajectory. The first four are beneficial tailwinds. They include a continued market recovery, industry footprint consolidation and optimized portfolio and our ability to leverage and improve manufacturing cost structure, all of which have been helping out our performance. The last two are forward-looking in nature and again and are more strategic. These are avenues where we can have more direct influence on our future, and we plan to drive better performance going forward. We're investing in technology and R&D to create new, innovative new products and digital initiatives to drive an unparalleled customer experience. Secondly, we're employing our MVantage Lean Enterprise system to improve operations with the focus on automation, efficiency, speed and simplicity. We believe these areas of focus will drive profitable growth and superior returns over the long term. And with that, we'd now like to take any questions you may have. Operator?

[Operator:]

Thank you, Mr. Lynch. Thank you. Our first question comes from the line of Mike Wood with Macquarie. Please proceed with your questions. Mike Wood - Macquarie Capital (USA), Inc. Hi, good morning. The first question just on the North American incremental margins, you gave a lot of color there in terms of your new hiring, inefficiencies, IT spend, do these investments continue at this pace near term, so just trying to understand if we should expect incrementals to remain temporarily low given these investments or should we expect something more similar to what you had prior to this quarter going forward?

[Frederick J. Lynch:]

Yeah, Mike, I think the way that we've described it in the past is that we do not expect to get a lot of SG&A leverage in 2016, because we knew coming into this year that we had important investments to make for the future. But the reality is, these are lumpy, right, you have lumpy investments, they're not going to happen at the same level quarter-to-quarter. So, I think that – we believe that, that remains the case, won't see a lot of SG&A operating leverage this year as we continue to invest. Certain impacts like the start-up of the plant in – here in Florida, which we're really excited about. In the first quarter the start-up of the plant is going to cost you money and in this case, it cost us $2 million. So, we think that's a great investment and really does underlie the strategy that we have going forward to really improve that customer experience, and so we're excited about making those investments, and I think you'll continue to see lumpiness in that. Mike Wood - Macquarie Capital (USA), Inc. Great. And then with the North American price deceleration year-over-year, just you kind of talked about the mix impact of interior versus exterior on AUP, but you didn't quantify that. Is that something you can give us some color on? And just also some color on the February 1 price success versus last year. I know you anniversaried that spring 2015 increase.

[Russell E. Tiejema:]

Hey, Mike, it's Russ. Let me provide a little bit of color on the first part of that question, certainly around AUP. When you think about our interior versus exterior business, they were both up in the quarter, but the exterior door entry was up low-single digits and our interior business was up to a much higher amount. And when you think about the average unit price on – and exterior door system is being over three times the average unit price on an interior system, that higher relative growth rate was a material driver in AUP. I would say relative to the price actions that we've already taken, we feel comfortable with our progress there. Mike Wood - Macquarie Capital (USA), Inc. Great. Thank you.

[Operator:]

Our next question comes from the line of Trey Grooms with Stephens. Please proceed with your questions.

[Trey H. Grooms:]

Hey, good morning.

[Frederick J. Lynch:]

Good morning.

[Russell E. Tiejema:]

Hi, Trey.

[Trey H. Grooms:]

I just want to get a little bit more clarity on the comment around guidance, Russ. You said you're not updating the guidance. Does that mean that you're reiterating the guidance that you have in place now or what do you mean by that I guess?

[Frederick J. Lynch:]

Yeah, we're going to have this conversation every quarter. We're going to give annual guidance once a year at Masonite. And we're going to talk to our three-year outlook, which is to drive this business 7% to 10% in top line and to get to 14% to 15% EBITDA margins by 2018.

[Trey H. Grooms:]

Okay, so the way...

[Frederick J. Lynch:]

So, we'll give you guidance once a year. That's philosophical in nature and is actually because we know we have lumpiness from a quarter-to-quarter basis. We're not going to get into an update every single quarter.

[Trey H. Grooms:]

All right, understood. The next question I have would be on the – I guess just with these new initiatives, I just want to make sure that I understood the commentary in the quarter, the cost. So, Tampa facility was $2 million, investments kind of streamlining the ordering process, the website and so forth was $2 million, stock comp of $2 million. What else was I missing? It sounded like about an $8 million impact to EBITDA from some of these different items here. Is that about right?

[Russell E. Tiejema:]

Yeah. Yeah, that's right, Trey, it's Russ. And we also had some incremental brand and marketing spend in our Residential business too that was a headwind on the order of a couple of million dollars. So, those items together represent kind of that net $8 million headwind you're thinking about.

[Frederick J. Lynch:]

Although the stock comp is not part of adjusted EBITDA.

[Russell E. Tiejema:]

True.

[Trey H. Grooms:]

Okay, got it. Okay. And then could you guys talk a little bit about the capacity utilization that you have, kind of where it's at now, how you think about that longer-term, well, I guess both in the medium and long term, especially given these new initiatives you are putting in place? It sounds like that could really help accelerate some of the demand, especially in the interior door segment?

[Frederick J. Lynch:]

Yeah. Certainly, Trey. And this has been an area that's been kind of interesting to watch over the last several years as we continue to utilize our door facing capacity to a higher extent. If you look at, at the end of the – of Q2, on a rolling four-quarter average, we were operating our large capital-intensive door facilities at about 72% capacity utilization. Within Q2, our Ireland facility, which we continue to talk about, is running at relatively low levels comparatively, it's more in the 50% level whereas the remainder of our facilities are running between 80% and 100% capacity utilization. So, we are encouraged by the fact that we continue to get better capacity utilization in the door facings in particular. Now, I will say as we look forward one of the benefits that we have of having this large system is that we have done some analysis on what it will take to increase capacity in the system. We believe that within our current system, we have in the range of easily accessible 10 million door facings of capacity that we could effectuate with capital projects in the range of under $20 million. So, that's less than $2 per facing. And I think that's an important equation. When you think about the cost of a brand new facility, to build a brand new facility of 10 million to 12 million skins, you'd be in excess of $100 million. So you're talking about an investment of $8 to $10 per door facing versus our incremental investment of less than $2 per door facing. So, rest assured we feel very comfortable about our ability to meet the market demands for the foreseeable future. Did that answer your question?

[Trey H. Grooms:]

Lots of color there Fred, and thanks for taking my questions. Good luck.

[Frederick J. Lynch:]

Thank you.

[Operator:]

Our next question is from the line of Bob Wetenhall with RBC. Please proceed with your questions.

[Robert Wetenhall:]

Hey, good morning, and thanks for all the detail on the quarter. I was trying to understand some of Fred's comments that the SG&A leverage because of what's going on operationally, it's going to be less than it normally would. And in that context, should we anticipate that SG&A as a percentage of sales will be flat in the back half of the year, because you've absorbed most of the SG&A cost or the incremental SG&A cost in the first part of the year?

[Frederick J. Lynch:]

Yeah, I don't think we're giving specific guidance on what we'll be spending in the second half, what we said was that, we did not expect to get leverage this year. I will say that Q2 did have a pretty significant spend – plant spend and that it will be lumpy. But I don't know if, believe we're going to provide specific forward-looking guidance on what the SG&A as a percent of sales will be in the second half of the year. What I would is that, our anticipation as we move out beyond 2016 is to begin to start seeing operating leverage with respect to SG&A.

[Robert Wetenhall:]

Got it, got it. That's helpful. Fred, what's your thoughts with Brexit? Obviously, it increases near-term uncertainty in the European market. What are you doing operationally, what's the feedback since the Brexit vote? I guess it was like June 23 or something, how are you preparing the organization? It's a big topic, a lot of building products companies with international exposure like yourself are coming in with kind of mixed views on the demand cycle over there. You're sounding rather optimistic about the long-term outlook for housing demand, maybe you could step us through your thought process there.

[Frederick J. Lynch:]

Yeah. We think long term the housing demand will be solid. Near-term, there is clearly an impact from FX that we're going to have to manage. Our door facings that go into that market, for instance, are coming into that market in euros, with the pound sterling being declining. We're selling in pounds, we're buying in euros, that's never a good thing, right? So we do expect to have impact on our results as we go through the second half of the year. Obviously that means we need to look at two things, one is what can we do to just continue to drive our cost down, and can we look at alternative vendors et cetera to make sure we're staying in line, and two, what can we do from a pricing perspective. So, I think those are the – obviously the two big levers that we're going be able to pull in that business. It's really a tale of two cities for us in the UK because we have the traditional legacy business that's focused on new housing that is – is being impacted, for instance, by the housing numbers we're seeing right now. And then you have our DSI business, which is focused more on the RRR market. We're not seeing very – we're seeing very little impact at this point in time from a demand perspective on the RRR market, and the DSI market. And we believe again that's because there has been unmet demand with people wanting to change out their doors, and we made – it's so difficult to do so that we made it simpler, and as a result of that, we think we're creating share that didn't quite exist before. Now, again, I'm not naïve to think that as the – if the UK overall market continues to be hurt or goes into a recessionary period, they will have some impact on that, I just think it will have a lot less impact than we would see otherwise if we had a traditional business model. And again, I think the demographics – the need for housing in the UK is there. I think the demographics will play out in the long run. So we're going to continue to do what we've always done in our business in managing carefully for cost, make sure we're up and running a great operation there that we're meeting our customer needs. We think that platform in the UK is – that we have today and in Europe is far superior to what we had a year ago, even in spite of the Brexit move. So overall we're encouraged by it, but there's clearly a lot of management attentions making sure we're going to make the moves that are necessary to optimize that business.

[Robert Wetenhall:]

That's very helpful. Thanks. And if I could just sneak one in, over on Russ' side of the field. $31 million in share repurchase activity, plus another $7 million. You've got a really healthy balance sheet and good cash flow, how are you thinking, as CFO, about share repurchase activity in the next 18 months? Thanks and good luck.

[Russell E. Tiejema:]

Thanks for the question, Bob. I would think about it in the same context as we've articulated it pretty consistently from the beginning of the year, which is, we've got a multi-layer capital deployment framework. We, to your point, are maintaining a strong balance sheet and are in a position to execute very well across all of those layers simultaneously. As you saw in this quarter, we continue to make significant investments in the business and those really are our first and foremost priorities as we continue to make strategic investments either in capital or in working capital that will better expose us to some of the higher-value or higher-margin aspects of the value chain in the door business. And then after that, we're going to continue to look for growth opportunities on the strategic acquisition front and also share repurchase. And clearly, we're being opportunistic about that share repurchase program, but we would like to believe that we're being very assertive about executing it when the time is right and as the cash flows of the business allow. And that's exactly what you saw through the second quarter and subsequent to.

[Operator:]

Thank you. Our next question is from the line of Jason Marcus with JPMorgan. Please proceed with your questions.

[Jason A. Marcus:]

Good morning. My first question is on the Architectural margins. I think you've spoken in the past about the opportunities for significant improvement there over the next few years. This quarter, you took a little bit of step back from a margin standpoint, and even displayed I think some improvement in average unit price. Just wanted to get a sense of – other than some of the lower productivity that you spoke about from new employees, if there are any big drivers there? And then, if you could just comment on how you're thinking about the strategy in that business and when you would eventually expect to return to margin improvement?

[Frederick J. Lynch:]

Yeah. So, the one impact I think on margins in the quarter that we saw specifically was, we did implement our new ERP system in one of our plants. That plant did have a pretty significant backlog through the month of June as a result of that. So, the implementation didn't go as smoothly as I would like to have seen it. With that said, we were – we've been able to recover most of that backlog in the plants running pretty well right now. The largest impact, I'd say – or the reason for the decline in the margins in the quarter really had to do with cost associated with, as we mentioned earlier, with getting that plant up and running and the fact that the revenues just didn't come to play because of the backlog that we had. When we think about that business, that business today is running, let's just say, in that 10% EBITDA margin range – adjusted EBITDA margin range. We still believe and have always believed that as we put this system on a common platform that we update the front-end configuration capability of this business, and that we align the portfolio more effectively, because today with being on separate systems, it's hard for us to get the best synergies across the multiple plant facilities that we have that there is no reason that this business should not be at least as profitable from an adjusted EBITDA margin business as the Residential businesses that we have. From a the timeframe perspective, we haven't been out there, but what I will tell you is that, part of our 2018 three-year outlook assumes that we're going to bring that business in line with the other businesses.

[Jason A. Marcus:]

Okay, great. And then just going back to Brexit for a minute, obviously given that it happened at the end of the quarter, just want to see if you could comment on what you've seen in the UK so far in July and August?

[Frederick J. Lynch:]

I think we kind of mentioned that earlier. We're seeing – clearly the impact of FX is there and continues. From a new housing perspective, our business – there is a lag in our business, so we're not really seeing any major impact on the new housing and the product that go – the legacy products that go into new housing that we saw before and actually the DSI business is doing well. So, I think in the short term, other than FX, right now we're not seeing any major impact on the business.

[Jason A. Marcus:]

Okay, thanks.

[Operator:]

Our next question is from the line Alex Rygiel with FBR. Please proceed with your questions.

[Alex J. Rygiel:]

Thank you. Good morning. Couple of quick questions. First, North American volume was up a strong 14% in the quarter, how much of that was load-in versus core growth? If there was any load-in?

[Frederick J. Lynch:]

I am not sure I understand the question.

[Alex J. Rygiel:]

Could you break down the North American volume growth? Was there any sort of one-time volume in the second quarter that might not be reoccurring?

[Frederick J. Lynch:]

No. I mean, it was a normal quarter. There was...

[Alex J. Rygiel:]

So, there was no new store or market share gains or anything of that nature?

[Frederick J. Lynch:]

No.

[Russell E. Tiejema:]

No.

[Frederick J. Lynch:]

No. A normal quarter.

[Russell E. Tiejema:]

Nothing material there, Alex.

[Alex J. Rygiel:]

Okay. And then as it relates to price, the mix shift, are you viewing that as a one-time event or is that sort of a reoccurring trend that you're seeing out there in the marketplace?

[Frederick J. Lynch:]

Yeah. I think that, again the large part of the mix shift in pricing is the – is as you think about, we increased the production or the sales of interior doors. As you know, we increased our positioning at Lowe's as a result of a line review through last year. So, some of that AUP is just simply the impact of a higher volume of interior doors versus our overall product portfolio. So that was not really unexpected, because of the fact that a portion of that 14% growth. And maybe that's where your question was earlier. On a year-over-year basis, we clearly – a portion of that growth is a result of the line review that we won at Lowe's back in 2015.

[Russell E. Tiejema:]

Although – Alex, it's Russ, I would just add that when you look at the business growth, it's not like it was particularly skewed one way or the other between wholesale and retail, we saw a pretty balanced growth across both channels.

[Alex J. Rygiel:]

And as it relates to the increase in SG&A year-over-year, that $8 million headwind, how much of that should we think about as reoccurring versus one-time in nature?

[Frederick J. Lynch:]

I think we've already kind of answered that question earlier that this is going to be lumpy. As we look forward to the remainder of the year, we do not expect to get SG&A leverage in 2016. We said that as we came into the year. And it will be lumpy from a quarter-to-quarter basis on where that occurs. But we do believe that going forward in 2017 and beyond, we should start to see SG&A leverage as we continue to grow the business.

[Alex J. Rygiel:]

Thank you.

[Operator:]

Our next question is from the line of Al Kaschalk with Wedbush. Please proceed with your questions.

[Al Kaschalk:]

Good morning. I guess by the nature of the SG&A question, it's still not clear, but I'll go over to the start-up cost on the Tampa facility. How many facilities are – do you have in line of sight to maybe open up or is this just the one that you're planning for the next 12 months to 18 months?

[Frederick J. Lynch:]

Yeah, we wouldn't – if we were doing more than we wouldn't provide that information for competitive reasons. So, the only thing we'll talk about is what's happened.

[Al Kaschalk:]

I think it would be helpful if you provided a little more color though just on this lumpiness because of the mix. The visibility has certainly been reduced despite maybe consistency that you're seeing in the business.

[Frederick J. Lynch:]

We have very consistent visibility based on what we've said is going to happen over the next three years, 7% to 10% top line growth, EBITDA margin of 14% to 15%.

[Al Kaschalk:]

All right. I appreciate it. In terms of the tax benefit going forward, any change on the rate there?

[Russell E. Tiejema:]

What we're now guiding to is 18% to 20% tax rate for the year and that really is just reflective of the fact that we had this significant and discrete income tax benefit in Q2 it was about $6.2 million associated with the new share-based compensation accounting standard.

[Al Kaschalk:]

Right. So that's $0.20 and then in 2017, we should revert back to your prior guided range or how do we think about that from a cash flow perspective?

[Russell E. Tiejema:]

Yeah, Al, that's how I think about it.

[Al Kaschalk:]

Okay. Thanks a lot. Good luck.

[Frederick J. Lynch:]

Thank you.

[Russell E. Tiejema:]

Thank you.

[Operator:]

Our next question is from the line of Nick Coppola with Thompson Research. Please proceed with your questions.

[Nicholas Andrew Coppola:]

Hi, good morning.

[Frederick J. Lynch:]

Good morning, Nick.

[Russell E. Tiejema:]

Good morning.

[Nicholas Andrew Coppola:]

In the Architectural segment, you talked about the implementation of a Door Configurator and ERP platform creating some delays there. Can you talk more about what you're seeing in terms of end-market demand and how we should think about volumes ramping back up in the second half?

[Frederick J. Lynch:]

Yeah. I mean, end-market demand is mid-single digits we believe for the commercial space. So, we – and we saw that in the first quarter. Obviously, we were hurt by the – by this ERP implementation in Q2, but we would anticipate that market will grow mid-single digits.

[Nicholas Andrew Coppola:]

Okay. And then, going back to North America Residential volumes, obviously quite strong there. Other building product companies were out talking about weather in the quarter, do you think that there was any impact on your business there?

[Frederick J. Lynch:]

The – remember, we have a little bit of a different lag than some of the other companies, I think that's what you have to look at. So, when we're looking at our 14% growth, it's really reflecting what happened in the fourth quarter and the first quarter of this year with regards to housing starts. And so, we're – because we're later in the build cycle, so if you think about the housings being started – clearly housing starts were lower in the second quarter compared to – better than last year, but they weren't as robust as they were in the first quarter, we'll see the reflection of that in our third quarter and fourth quarter. So, where if you're on the exterior of the house, if you are in sidings or windows, you're going to probably see that effect a quarter before we see it. If that helps.

[Nicholas Andrew Coppola:]

Yeah, that makes sense.

[Operator:]

Thank you. Our next question...

[Frederick J. Lynch:]

Okay, thank you.

[Operator:]

Thank you. Our next question is from the line of Josh Chan with Baird. Please proceed with your question.

[Josh K. Chan:]

Hi, good morning. And thanks for the color around price mix and if I can ask about the shift of interior versus exterior. I understand that the Lowe's business obviously has an impact to that. But excluding that, is there any reason to believe that interiors would grow more than exterior, or do you view that as more of a quarterly fluctuation this quarter? And then, kind of maybe more importantly, just to confirm that nothing has changed in sort of the competitive pricing environment there?

[Frederick J. Lynch:]

Yeah. I would say that, that it's mostly the Lowe's impact, would be the largest portion of that. And then, I would say from an overall pricing perspective, no, we're not seeing any change in dynamics.

[Josh K. Chan:]

Okay. Okay, that's good. If I can stay on resi, in terms of the volume that you saw through the quarter, did you see any fluctuations on a monthly basis? I understand there might have been some pull-forward early in the quarter, but just curious on color on that front.

[Frederick J. Lynch:]

It was a normal quarter.

[Josh K. Chan:]

Okay. Okay. And then, just the last question on the Architectural backlog. Do you expect that to catch up fairly quickly in Q3? And also, do you anticipate kind of other ERP implementations, other plans potentially having an impact on the rest of the year?

[Frederick J. Lynch:]

So, I'd say that, as we mentioned earlier, the backlog at that one plant is largely behind us at this point. And then, with respect to additional ERP implementations, we don't expect any impact for the rest of 2016. We will have ERP implementations in 2017.

[Josh K. Chan:]

Okay. Understood. Yeah. Thanks for your time.

[Frederick J. Lynch:]

Thank you.

[Russell E. Tiejema:]

Thanks, Josh.

[Operator:]

Our next question is from the line of Kevin Hocevar with Northcoast. Please proceed with your questions.

[Kevin Hocevar:]

Hey. Good morning, guys.

[Russell E. Tiejema:]

Hi, Kevin.

[Kevin Hocevar:]

Wonder if you could – and maybe I missed it, but you mentioned that there was a $1 million FX impact to Europe in the second quarter and that from transactional and translational impacts. And it sounded like that – it came later in the quarter. So, what type of impact do you expect that to have for the full quarter in the back half of the year?

[Russell E. Tiejema:]

I would say, we're not going to give any specific guidance, Kevin, on what that FX impact could be for a couple reasons. First of all, there is going to be continued volatility I think as particularly in the UK, they sort out the Brexit situation and what that means for the near-term economic outlook for the country. The other thing that I would say though is that when it comes to transactional FX, we're going to do whatever we can to manage that as aggressively as possible from within the company. And I think as Fred mentioned earlier on the call, we are – obviously I have to take a look at pricing mechanisms where possible and where the competitive market will allow. But when you think about the overall quarterly impact of FX on the business, just in Q2, total company, we saw close to $3 million between translation and transaction, and a majority of that was on the transactional side. And when you consider that the significant downdraft in the pound sterling in particular happened pretty late in the quarter, that would indicate that there is plenty of headwind in front of us. Again, we're going to be aggressively moving to manage both cost throughout our supply chain as well as price wherever we can to help recover some of that in the market.

[Kevin Hocevar:]

Okay, got you. And you talked about opportunities with some customer consolidation that could potentially lead to share gains, no guarantees. But – and one of those customers indicated on their second quarter call that they completed their door review, so wondering if you have any updates there. If you think you're gaining some share or just if there is anything to update there.

[Frederick J. Lynch:]

Yeah, I'd say that at this point that we don't believe there will be any material impact in 2016. While they've completed their door review, there is still moving pieces there. So we haven't gotten all of the full view. And then given where we are just in the year, we think it's going to flow into next year. The one thing though I will come back to is, as you think about the plant that we've put in place here in Tampa, one of the opportunities of this plant is it will be able to supply quick ship to these large one-step operations. So I would say that from a customer perspective, and Larry you can comment on it, the customers are pretty excited about the opportunity for us to be able to provide these one-steppers with the quick ship in a very large and fast growing market here in Florida.

[Lawrence Peter Repar:]

Very true.

[Kevin Hocevar:]

Okay, just final question is, the RRR market sounds like it's doing pretty good in North America, you mentioned both RRR and the distribution channels up double-digit. How is the RRR market in terms of sell-through? I know you're benefiting from lapping the new Lowe's business, but what's the sell-through like in the RRR market?

[Frederick J. Lynch:]

Yeah, we still believe the RRR market for this year is going to be in that mid-single digit range. We're not seeing anything to say otherwise, and again part of the reason that we've had even higher growth than that in the second quarter, it's really driven by the fact that we picked up some of that additional business with Lowe's.

[Kevin Hocevar:]

Okay, great. Thanks very much.

[Frederick J. Lynch:]

Thank you.

[Operator:]

Our next question is from the line of Scott Levine with Imperial Capital. Please proceed with your questions.

[Scott Justin Levine:]

Hey. Good morning, guys.

[Russell E. Tiejema:]

Good morning, Scott.

[Scott Justin Levine:]

So, Russ, I just want to be clear, when you say the $0.20 tax gain should be added to the EPS guidance, are you effectively saying your EPS guidance is $2.90 to $3.20 now?

[Russell E. Tiejema:]

That's what the math would suggest, yes.

[Scott Justin Levine:]

Okay, just want to be clear on that. And is there any reason we shouldn't expect a typical seasonality in your business in the back half of the year? Is there anything you've seen thus far would expect that that would suggest that it can be different seasonally versus 2015 or 2014 even?

[Frederick J. Lynch:]

No.

[Russell E. Tiejema:]

No. I don't think so. Aside from the comments Fred made a moment ago, just around how we're levered more to housing completions as opposed to housing starts, so we see the effect of starts in Q2 more in Q3, think about the timing that way relative to seasonality, but that's all driven by market conditions and industry, nothing unusual for our business internally.

[Scott Justin Levine:]

Got it, understood. One follow-up lastly on the strength in the European pricing and the margins, maybe a little bit more color if you could offer it with regard to how much of that is mix versus underlying pricing strength, a little bit more color there?

[Russell E. Tiejema:]

I would say that we've seen strength on both fronts, but the largest single driver of the AUP accretion that you saw in Europe was really this outsized growth on the part of our DSI business. And back to the comments that I made earlier, you're selling fiberglass exterior door sets direct to contractor for installation at significantly higher average unit prices than you would for the average of the balance of the UK portfolio. And that in combination with the fact that we're seeing solid double-digit growth on the part of the DSI business, that's really the primary driver there.

[Scott Justin Levine:]

Understood. Thank you.

[Russell E. Tiejema:]

Thank you.

[Frederick J. Lynch:]

Thank you.

[Operator:]

Thank you. We have time for one more question today. That will be from the line of Jim Barrett with C.L. King. Please proceed with your questions.

[Jim Barrett:]

Good morning, everyone.

[Frederick J. Lynch:]

Hi, Jim.

[Jim Barrett:]

Fred, given your emphasis on industry and technology, new products and ERP and related initiatives, when we look forward longer term, do you foresee less interest or dependence on making bolt-on acquisitions relative to reinventing the core business and how you go to market?

[Frederick J. Lynch:]

I would say that, it depends. If we see bolt-on acquisitions that can be additive to our strategy, we're going to make them. So I gave you two good examples, USA Wood Door and DSI were both bolt-on acquisitions. Both of those are actually foundational to our strategy chain. And so, when you think about the plant that Larry put in place here in Florida, it's really being modeled after those capabilities. So, if we find more bolt-on acquisitions that help support it, we'll continue to do that.

[Jim Barrett:]

Okay. Hey, well, thank you very much.

[Frederick J. Lynch:]

Thank you.

[Russell E. Tiejema:]

Thanks, Jim.

[Operator:]

Thank you. I'm sorry. I'll now hand the call back to you, Mr. Lynch.

[Frederick J. Lynch:]

Okay. Great. Thank you. That was an easy last question. So, we appreciate everyone's continued participation in the Masonite story, and we look forward to speaking to you again next quarter. Thank you.

[Operator:]

Thank you. Thank you for joining the Masonite International second quarter earnings call. This conference call has been recorded. The replay may be accessed until August 25. To access the replay, please dial 877-660-6853 in the United States or 201-612-7415 outside of the United States. And then, insert conference ID number 13641059. Thank you.