Good morning, ladies and gentlemen, and welcome to the Q2 2021 Armstrong World Industries, Inc. Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. . As a reminder, this conference call may be recorded. I would now like to turn the conference over to your host, Ms. Theresa Womble, Director of Investor Relations.

Thank you, Ashley, and welcome, everyone. On today's call, Vic Grizzle, our CEO; and Brian MacNeal, our CFO, will discuss Armstrong World Industries' second quarter 2021 results, rest of year outlook and strategic progress. Our discussion of operating and financial 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 earnings press release and in the appendix of the presentation we issued this morning. Both are available on our Investor Relations website.

Thanks, Theresa. You all recognized a new voice on the phone this morning of Theresa Womble. It's really great to have her. She is backfilling Tom Waters, who retired last quarter. So welcome, Theresa. And thank you all for joining our call today. It's good to be with you to review our second quarter results. It's been a challenging 16 months since the onset of the pandemic, and I want to begin by thanking the 2,800 employees at AWI for their dedication, agility and excellent execution during these trying times. It's because of their excellent work that AWI is so well positioned to capture the current market recovery. The results we posted this morning mark a strong recovery from last year's second quarter when the pandemic was accelerating, and many markets were effectively shut down by government mandates. On a year-over-year basis, second quarter consolidated net sales grew 38%, driven by a 32% increase in Mineral Fiber sales and a 59% increase in Architectural Specialties sales. We generated $100 million of adjusted EBITDA, which was a 44% increase from prior year results, and our adjusted EBITDA margin expanded 160 basis points. Now this is a particularly impressive margin performance given persistent inflationary pressures and the investments we are making in people, innovation and technology in support of our strategic priorities and to serve the growth we see ahead for the rest of 2021 and beyond. On the strength of these results and the expected continuation of the market recovery in the back half of the year, we have updated and increased our 2021 guidance. Before Brian gets into the financial details, I'll provide some insights into market developments this quarter and the drivers behind the strong momentum we have heading into the back half of the year. Across both Mineral Fiber and Architectural Specialty segments, we are experiencing a solid rebound in renovation activity. As expected and consistent with historical norms coming out of recessionary conditions, this activity is broad-based across the majority of our verticals and is providing the expected offset to the continued softness in new construction projects starts from 2020.

Thanks, Vic. Good morning to everyone on the call, and welcome, Theresa. Today, I'll be reviewing our second quarter 2021 results and our updated guidance for the full year. But before I begin, as a friendly reminder, I'll be referring to the slides available on our website, and Slide 3 details our basis of presentation.

Thanks, Brian. And as Brian was alluding to, we're very pleased with how our business has performed so far in 2021. And with the continued recovery of the broader market, we have reason to be more optimistic and positive about the outlook for the rest of the year. Before we get into our Q&A session, I'd like to share some thoughts on the progress we've made on the key pillars of our strategy. The work we've been able to accomplish despite the challenges of the pandemic has put us in a strong position to capture the opportunities emerging as the economy recovers. The cornerstone of our strategy has been revitalizing the demand for Mineral Fiber products while improving the AUV generated by these products. To this end, we are certainly glad to see people starting to return to offices, schools and restaurants, although we continue to monitor the evolving dynamics of this pandemic. The Kastle's back to work index at the end of the second quarter hit its highest mark since March of last year when the pandemic really took hold in the U.S. We're seeing employers, owners, architects, and designers and occupants rethinking and redesigning their spaces to meet new emerging demands for what now defines a healthy and safe place. The trends of densification are reversing and the focus on air quality has been redefined and changed forever. These new forces on interior spaces are creating additional renovation and new construction opportunities for Armstrong because ceilings play a critical role in achieving this newly defined level for healthy spaces. And our innovative healthy spaces products are gaining traction. We just recently received the largest order yet for our 24/7 Defend family of products from a large schools district in Florida. The VidaShield products ordered are specifically designed to…

. And your first question comes from Kathryn Thompson from Thompson Research.

Inflation has been the topic of the year and appreciate the color on the pricing actions you have so far. But thinking about the really realizing the full effect of these, is this realistically to start hitting late in '21 and more into 22? And then also along with that line, with the price increases, given you're starting to see more renovation, which is generally a higher price point, are you seeing changes in mix and also the price increases from a mix standpoint?

Kathryn, thank you for the question. Yes, I think pricing has been something in our Mineral Fiber business and particularly, in our grid business through WAVE. We have a track record of staying ahead of that, being able to anticipate and then stay ahead of that. And I think our first half performance on our price initiatives and the realization of those initiatives have demonstrated we continue to stay ahead of the inflation. Our price increase in August, I think, should, I think, reassure everyone that we'll stay ahead of the inflation that's anticipated to continue into the second half of the year. And when we talk about these price increases, and again, based on history, the price increases are across the entire product portfolio. So at the low end, at the mid and then to the high end of the product portfolio, we get similar price realization. So no matter what the mix of products happens to be in a more renovation-rich environment, which we're entering now that we should have similar price realization expectations in all of those environments because we get it across the entire portfolio. So that's something we're counting on, and I don't expect any price mix impacts from our price realization efforts that way. I will mention that on the overall mix, last year, we talked about mix being -- product mix being a good guy, but it was overshadowed by the territory mix. And what we saw in the second quarter and we expect to continue to see in the second half is the territory mix, which was the bad actor and the overshadow last year from these -- the unnatural dynamics of shutting down these key markets. Those continue to heal, and we got a nice benefit from that in the second quarter, and I think those are going to continue to heal by the activity we see in the second half.

Okay. That's helpful. Then there's a wide variety of different bottlenecks in the value chain, but also shortages of certain supplies and materials, including aluminum and others. Are there any type of raw material shortages that you're seeing and are having to work around?

Across our business, we haven't seen or felt that impact. We're monitoring the steel for our grid business very closely, and we're managing that very well. So we don't believe that's a risk into the business, but we're watching it very carefully. Again, across our business, we have not seen supply chain issues in service levels. Again, very proud of the fact that we're able to maintain our lead times and deliver on time and not be part of the issue that I think a lot of our customers are experiencing at the moment.

Okay. And then final question. What is the biggest difference sequentially when you think about how you've been managing the business? And taking a step back, what is that gives you confidence looking forward in the next 12 to 18 months?

Yes. Thanks, Kathryn. Again, I think we expected renovation activity to bounce back this year. We had been talking about when new construction activity historically goes down into negative territory, renovation activity picks up and moves into positive territory. That's been true in 8 of the last 9 recessions. And again, you have to go back decades to get to 9 last recessions. And so that has been historically the norm, and we expected that to happen again this year, and that's exactly what we're experiencing. So when I look at the renovation activity coming back in 2021, number one, as expected, but when I see the strength of it in the bidding activity, which I'm watching very closely as a leading indicator to future demand, the bidding activity in the second quarter was a step change from what was seen in the first quarter, number one. But also when I go back and look at Q2 of '20, and I look at how much the bidding activity fell off and compare it to how much it picked up in the second quarter, again, it was a step change different to not only rebound from where it was, but it's even stronger than what it was negative, if that makes sense to you. So -- and again, that was across the spectrum of types of construction, but in particular, in the renovation part of the market, it was up demonstrably better. So that's leading -- I think that's a leading indicator for us for confidence into the second half and certainly into 2022. And then I'll point to one other thing. Our backlog in the Architectural Specialties business, which, Kathryn, you know well, we have our best visibility there in terms of projects. And our backlog in our Architectural Specialties businesses has built on the record level we had in the first quarter. So sitting here for the second half, we have the most backlog and position than we've ever had for our second quarter -- our second half expectation. Again, that's providing some additional, I think, optimism for the recovery is well underway.

Your next question comes from Susan Maklari with Goldman Sachs.

My first question is thinking about the mix across the different verticals. I know that you talked about the sequential increase that you've seen in office and retail in the second quarter. But when we think about the comps in there and all the moving parts that have kind of come together over the last year, can you talk about which verticals are seeing the most growth? Which ones you still have -- some more incremental room to improve over time? And just kind of where things are falling and your expectations for that as we go through the second half and then into '22?

Yes. Susan, the -- across all the verticals, I think, let me just step back. The reference you made to retail and office was in the bidding activity, and it really was a standout improvement in bidding activity in those 2 areas. So -- and of course, that's a leading indicator, right? That's not necessarily what we saw in the second quarter. So that being said, referencing to your point, what we saw in the second quarter was actually a bounce back across all the verticals, still kind of uniformly. And I reported on this in the first quarter too that we -- which makes sense when you think about -- everything was uniformly shut down last year. It wasn't necessarily a segment-by-segment shutdown, it was across the entire industry. And so I think, naturally, we're seeing some uniformity in the bounce back as projects that were delayed have resumed, and we're starting to see those in the pipeline. And I'll go back to something we watch very closely last year was the project delays, and we were watching for cancellations. And we reported on this. There was -- we saw very few cancellations of projects last year. So it stands to reason that those projects that didn't get canceled should be resumed, and that's really what we're experiencing on a uniform basis in the first half of this year, I would say. But going forward, I think it's interesting, it's nice to see office kind of outperforming, if you will, in the bid activity along with retail.

Okay. All right. That's very helpful color. And then I guess, just as a follow-up to that. I know you made some comments around some of the new product introductions, healthy spaces, those kinds of things that you've put out there, and it sounds like they are getting some momentum. But can you just talk to how those are contributing to some of this volume growth that you're seeing coming through? Any kind of indicators in terms of either actual orders or the bidding activity that's coming in? And how we should be thinking about their contribution to the business going forward?

Yes, it's on the fringes, really. It's marginal contribution relative to the overall size of the business. I'm very pleased with the month-to-month growth that we're seeing -- month-over-month growth that we're seeing there. So they're not meaningful contributors in the first half of this year. And I would expect, for '21, it's probably not a meaningful level. The big driver here is the uptick in renovation activity, and that is the single biggest driver and will be for the rest of the year.

Okay. All right. That makes sense. Can I just squeeze in one last one, which is that this quarter, you've not mentioned anything on channel mix, which in the past has been a pressure in the business. Does that -- is it fair to say that, that's really kind of alleviated itself and things have really started to normalize from a channel perspective in the second quarter?

I think that's right. That's the right conclusion. It was really not a meaningful contribution plus or minus.

Your next question comes from Phil Ng with Jefferies.

Your volume guidance for Mineral Fiber seems pretty conservative, given the momentum you're seeing in the business well into July. You got some easy comps. So what's driving your expectations for essentially flattish volumes in the back half, if we look at the midpoint of your guidance? Are there any things that we need to be mindful of, the uptick you're seeing in R&R being offset by new construction? Any color would be helpful, Vic.

Okay. Yes, Phil, I think there's still some chop that we're seeing. We had talked about in April, we had levels above 2019 levels, and then May and June kind of normalized. And so July is at or above 2019 levels, and -- but so we're seeing a little bit of unevenness across the market. And I think we're factoring some of that chop into our outlook for the second half. Although, I mean, I wouldn't undervalue the acceleration we are putting in for the second half of the year, we do expect some acceleration in Mineral Fiber in the second half. But we do have some expectation for some early chop, I think, until we get to the later parts of the end of the year as we -- and again, as I stated in my remarks, we expect to be at 2019 or above exiting the year.

Okay. Is the choppiness more on the new construction business, which has a lag factor from last year, right? So it sounds like R&R has been pretty solid.

It's really across geographies, frankly, as well as it is across the construction types. So I wouldn't just put it in the bucket of new. Obviously, we knew the headwind, right? We didn't have the starts last year to be selling into this year, but the renovation activity is more than offsetting that as we outlooked.

Okay. And then thinking out to 2022, you -- Vic, you mentioned a step change in bidding activity in 2Q. Is that more on the Mineral Fiber side of things? And then when we think about that kind of coming to fruition on your volumes, when should we kind of expect that flowing through?

Well, the -- we look at the bidding activity across the construction types. We look at it on a value basis as well as a number basis. So it's really for the entire business. It's not just Mineral Fiber, but certainly, pertains to Mineral Fiber as well. So again, the lag on these starts ranges from 6 months to 24 months, depending on the size of the projects. So within that, that 18 months is a pretty good average. And yes, bidding activity could have some impact on the second half, but certainly, in 2022.

Okay. Super helpful. And just one quick one. AUV accelerated pretty nicely in the quarter, and you're implying a nice pickup in the back half. Any color in terms of how to break up mix as a good guy versus absolute pricing? And does your guidance factor in what do you guys have out there for the August price increase to pretty -- impressive pricing power you're seeing right now?

Yes. We're running around that historical split of 50-50. In inflationary times, we tend to get a little bit more price than mix. We might end up a little bit more than 50-50 toward the end of the year with our August price increase. But yes, we're running pretty close year-to-date here at a 50-50 mark. So that's not a bad proxy to continue to use.

Okay. And your guidance includes the August increase? Or could that be a narrow upside?

Yes. No, we've factored that into our guidance. So it's considered in there, yes.

Your next question comes from Adam Baumgarten with Zelman.

Just on AUV. Kind of it look at the midpoint of guidance for the year, it actually would imply a very modest but a slight deceleration on a year-over-year basis despite easier comps in AUV and some of those price increases you mentioned starting to flow-through. So is that maybe offset by some kind of mix as mix did start to normalize a bit in the back half of next year? Just curious why it wouldn't kind of accelerate further given all the initiatives and price increases out there.

Yes, we had probably our best mix contribution in the second quarter, right, with the territories correcting themselves. And we didn't have the channel mix headwind. So I think that's a good way to think about it is, mix is going to normalize a bit in the back half as we had some improvement in those 7 key territories that we -- that was the overhang on mix in the second half of last year. I think that's the right way to think about it as we expect to get more price realization in the back half to offset inflation -- stay ahead of inflation, frankly.

Got it. And then just, I'd be curious if you could give us some more color on some of the acquisitions and the performance being below your expectations. Is that end market related? Are there supply constraints? Just some more color around kind of the slightly worse than you anticipated performance there.

Yes. Let me just start with saying that we're very pleased with the performance of those acquisitions. They're growing double digits in the face of the pandemic. They had a very strong year last year, and they're growing double digits on top of that this year. So I want to say that because contextually, that's how we think about these acquisitions and how they're performing. Remember, the earn-out structure that we put in place was for some stretch numbers that had risk to them given the pandemic and the recovery rate and pace of the recovery, nobody could guess that. So we put an earn-out structure, which really pushed the risk towards the sellers of the company. And as Brian could comment on the accounting, we had to account for that, and they're not reaching those levels -- those stretch levels. But they're performing very well and again, at double-digit levels in the face of this pandemic.

Got it. And then just lastly, just curious what you're seeing in education and government markets. We're kind of hearing that things are picking up, given some of the surpluses that state and local governments have, I would assume, and some of that is going towards schools. Just -- I'm not sure if you called it out yet on the call, but just what you're seeing in education and maybe some of the government verticals.

Yes. Again, the activity is there -- the bidding activity is there. I would say, we've not seen an abnormal contribution from education or institutional spending or institutional segments so far. I think that's still coming. I think they're still working through what they're going to -- changes they're going to make, what design modifications they're going to make in the schools and so forth. We're seeing good activity there, but I wouldn't say we've seen kind of a step-up in activity there based on government stimulus that's going their way.

Your next question comes from Stephen Kim with Evercore ISI.

Vic, I had a general question about what you think the potential impact of the delta variant or some other variant that we may see here over the next 6 months or a year might be like. In general, I would think that there could be some obvious negatives in the form of maybe some potential additional delays or something in project work. But on the other hand, I could also see some positives. And so as you sort of reflect back on how the initial wave of COVID sort of has ultimately kind of played out now that the dust is settling on that, I'm curious what you think your exposure from a variant coming into the picture would be, whether it would be net positive or net negative?

Yes, Stephen, it's an interesting question. Because if you go back and you're referencing what happened last year. Remember what happened last year. The markets were shut down basically. Construction sites were shut down and activity literally came to a halt. That's not a scenario that we would be planning for or expecting to happen from the variant. I don't sense any appetite out there to go that far. Now with that said, we're watching it very closely because depending on certain local regulations that could go in place, we could see that impact rate and pace of job sites being completed or resumed. So we're keeping a close eye on that. The positive side of this, which you said, it just keeps in front of everybody that we have to continue to work to make these spaces healthy enough so that we can exist and we can function and go on about our economic lives with the variant and other variants that may come down the pipe. So in a way, it reinforces the need for healthy spaces and how we have to think about these spaces to be able to get people back into them, but also keep them in the event there's not only this variant, but there's newer variants. So we're balanced about it, but we're watching it very closely in terms of its impact on the rate and pace of construction activity in the back half of the year.

Yes, fair point. I wanted to ask about some of the investments that kind of run through in the walk on the SG&A side -- on the SG&A line. I was curious if you could give us some general sense of what the split was between just temporary cost reversals and the actual investments? And then secondarily, are you seeing the improvement that you talked about geographically across your business? Was that inclusive of New York City specifically?

Yes. Let me take the second part of the question, and I'll let Brian answer the SG&A split. But yes, and also on the territories, all 7 of them improved, including New York City. In fact, New York and California both improved nicely in the quarter. So -- and those are 2 very big markets for us. So it's good to see it. Brian, do you want to handle the SG&A question?

Yes, Stephen, good question. As you look at Page 5, our EBITDA bridge, we've got $18 million higher SG&A. $5 million of that is coming from the 2020 acquisitions, $6 million from those temporary cuts we did last year in 2020 coming back in. And you and others may recall, we said it's about $5 million a quarter. So it rounded to $6 in this quarter. And then another $7 million at the total company level in investments around the growth, digital and healthy spaces.

Okay. And is that level of investments -- roughly $7 million, is that a number that we could kind of be thinking about for the next couple of quarters?

Yes, it will stay no higher than that $7 million, but around that number.

Your next question comes from Ken Zener with KeyBanc.

So Brian, you talked about normal seasonality, I think, in your prepared remarks. Normal seasonality implies a little up 3Q from 2Q? Is that -- which given your overall guidance would imply 4Q rolling off at the normal level. Is that within the range of what you were trying to communicate? Just so I'm clear.

Yes, Ken, dead on. Q3 typically is our strongest quarter, and we would expect to see that pick up some and Q4 be proportionately lower -- back to its normal percentage of the year.

Okay. Vic, I think you made comments around exiting FY '21 above FY '19. Could you be specific? It could be sales, it could be either, it could be margin. Could you just kind of talk to what you're referring to there, please?

Yes. Sure, Ken. That's a daily shipping sales rate, and so we're tracking that to -- as a proxy to when does the market get back to full recovery, and we're back to building on that platform for future growth. That's kind of the proxy we've been looking. And that's really a Mineral Fiber because that represents probably the broader part of the market versus the overall -- I mean our overall sales per shipping day rate is already above 2019 because of the growth in AS and because of the acquisitions. But we're really trying to use this as a proxy to the overall health and condition of the broader market.

Okay. Got it. Got it. And then with the 4Q seasonality. Okay, that makes sense. You talked about backlog. Obviously, with these -- are these price increases since you looked at the 10-K back to, it sounds like the early 60s on your recession stuff. Are these prices actually exceeding what you saw in by chance?

Prices of our products or project prices?

Yes, just the sequential price increases that -- I mean, it's 3 big increases here. So is this nearly -- I haven't gone through all the 10-K, but it certainly seems like this might be a record actual price increase for you guys in Mineral Fiber. Is that accurate?

Yes, it's pretty close. I mean, we had a cumulative similar number. Maybe not as high in 2018 when we had, again, some rapid inflation based on the steel tariffs in particular. So yes, it's up there, Ken, to your point.

Yes. No, no, no, I get it. But I'll ask, I wonder backlog, demand, AWI versus others, are you seeing share shifts at all? I know it's not something you want to be specific around. So I'm sensitive to that. However, I'm just wondering how that fits in given capacity constraints in the industry. I'm just trying to understand if you're seeing demand or if you're seeing share shifts or something to that affect.

Yes. Ken, I think this is really renovation activity driving what we're seeing right now versus significant moves in share gain. We're doing a really good job in servicing our customers holding on to specifications and winning new specifications and that always helps with your pricing and your margins because you don't have inefficiencies in your plants and your supply chain. So we're doing well. We're well positioned. I'd say, this is really a reflection of our innovation and some tailwind from a market recovery.

Your next question comes from Garik Shmois with Loop Capital.

Just wondering if you could provide a little bit more color just on the increase in bidding that you're seeing in retail and office that you cited a couple of times on the call. I mean, is this mostly on the renovation side? And just any more color on what's driving that? Is it kind of a function of people kind of returning back to work, office space, retail space just getting used in different ways than it was pre-pandemic? Or is it maybe more of just kind of a return of normal activity that one would have expected, if we didn't have COVID?

Yes, it's pretty broad-based. All the verticals were positive. So that was encouraging to see. And again, it's not too surprising because everything was kind of shut down and delayed from last year. So there's some catch-up in there, I would imagine, from what didn't happen in 2020. And then retail and office was stronger than the others. But again, I think when I split it by new construction activity and the bidding there versus the bidding in alterations and renovation, it was meaningfully higher on the alteration and renovation activity, again, which reflects what we would expect to see when new construction is down, you would have higher rates of growth in alterations and renovation. So again, I think there is a combination of a little bit of pent-up demand from stuff that didn't get done last year, plus the recovery and people returning back to the office, kids back in a classroom. And again, generally, people have to do something to get their spaces ready. No matter if you're, again, a restaurant owner, gymnasium owner, a dentist office, people are doing things to create a more healthier environment for people to come back and feel good about being in those spaces. So again, I think all of this is kind of contributing to across the board, across the verticals, really across all of the construction types higher activity, again, with the higher activity being on alterations and renovations, which is what you would expect in this environment.

Okay. And just as a follow-up to that. You referenced the strong alteration and renovation bidding. Just given the context of inflation, at some point, and given the price increases that you're pushing and the inflation across other building product categories, at some point, you get worried that the strong bidding environment could be hindered by the inflationary experiences that we're seeing right now?

Yes, watching for that. I have not seen that or a hint of that. I think this is really much more supply chain and product availability driving the rate and pace versus the cost of the inflation. So we should continue to watch for that, but I really don't get a sense that, that's going to be the driver. I think supply and availability is going to be the driver on the rate and pace.

At this time, there are no further questions. I will now hand the call back to Vic Grizzle, CEO, for closing remarks.

Yes. I just want to thank everybody again for joining our call today. Again, we're pleased with where we are at the halfway mark here of the year and really a transition year out of a pandemic and as the market opens back up with a little bit of unevenness and some chop as we talked about on the call, but I love where we're positioned. We're investing into a bit of a tailwind here for market recovery, and we're excited about getting this market fully open and taking advantage of our strong position coming out of the pandemic. So again, thank you all for your attendance today and your interest, and we look forward to talking to you next quarter.

That concludes today's conference. Thank you for your participation. You may now disconnect.