Mohawk Industries, Inc. (MHK) Q1 2020 Earnings Report, Transcript and Summary

Good morning. My name is Carol, and I’ll be your conference operator today. At this time, I would like to welcome everyone to the Mohawk Industries First Quarter 2020 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer period. [Operator Instructions] As a reminder, ladies and gentlemen, this conference is being recorded today, Tuesday, May 5, 2020. Thank you. I would now like to introduce Mr. Frank Boykin, Chief Financial Officer. Mr. Boykin, you may begin your conference.

Thank you, Carol. Good morning, everyone, and welcome to our first quarter investor conference call. Today, we’ll update you on the company’s first quarter results. I’d like to remind everyone that our press release and statements that we make during this call may include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995, which are subject to various risks and uncertainties including, but not limited to, those set forth in our press release and our periodic filings with the Securities and Exchange Commission. This call may include a discussion of non-GAAP numbers. For a reconciliation of any non-GAAP to GAAP amounts, please refer to our Form 8-K and the press release in the Investors section of our website. I will now turn the call over to Jeff for his opening remarks. Jeff?

Thank you, Frank. For the first quarter, our sales were down 3.5%, with a constant FX adjusted for one less day in the period. The world changed during the first quarter, and we're now managing through an unprecedented situation. Around the world, government-mandated stay-at-home practices are slowing the spread of the Corona virus. With a consequence being a seismic economic contraction that is challenging all businesses. Mohawk entered the year as the world's leading flooring company with a strong presence in all categories: manufacturing in 18 countries and sales in more than 170 nations. During 2019, we generated $1.4 billion of operating cash flow and have a strong balance sheet and leverage of 1.6 times near our historical load. Until the outbreak, our results for the quarter were in line with our plan as we benefited from the initiatives we implemented in 2019. The Corona virus has dramatically changed our short term strategies as we adapt to the rapidly evolving conditions. As we progressed through the first quarter, government actions to reduce the spread of the virus impacted all of our markets. Countries and states are reacting differently to the outbreak with some shutting our manufacturing operations. In most regions, we were able to produce and ship product, but at reduced levels due to lower demand and employee concerns. Across all of our markets, demand has dropped dramatically, with residential remodeling being impacted the most up to this point. We're allowed new residential construction and the commercial channel have held up better as projects are still being completed. Do-it-yourself products are performing best as some people started projects while staying at home. To respond to this global event, we've established corporate segment and business teams to manage our efforts as conditions change. We're keeping employees safe, increasing work from home and adjusting strategies as required. We're reducing capital expenditures, cutting non-critical expenses and putting our stock purchases on hold until the environment improves. Temporary layoffs and furloughs are being implemented around the world as we balance production with short-term demand. The majority of our business is in countries where governments are supplementing wages to maintain workforces. However, some countries are stopping our operations and requiring continuation of compensation. Each week, we're adjusting production and processes to align with the changing levels of demand, and we are unable to predict how demand will evolve in the future. Our organization is flexible and adapting to fluid conditions, but we're applying the lessons we learned from 9/11 and last recession to guide us through these times. We have recently obtained a $5 million term-loan to expand our liquidity to $1.3 billion, after we pay off a $300 million note -- €300 million note this month. With no other maturities in 2020, we have liquidity to manage through and strengthen our position when the economy recovers. I now will turn the call over to Frank.

Thank you, Jeff. Net sales for the quarter were $2,286 million, down 6% as reported, but decreased 4% on a legacy and constant basis. Sales growth in all segments slowed in March as the pandemic impacted our business. Our gross margin was 27% as reported or 27.5% ex-charges compared to 27.1% last year. Favorable productivity of $38 million and lower inflation of $12 million were offset, declining volume of $31 million and lower price/mix of $28 million. Plant shutdown costs impacted results by $22 million. SG&A as reported and excluding charges for the quarter, were $465 million or 20.3% compared to 18.7% ex-charges last year. Slowing sales volume in March drove the SG&A percentage to higher than normal levels this year. Onetime charges were $12 million, primarily related to the actions in flooring North America to reduce carpet capacity and in rest of world to consolidate our wood operations. Operating income, excluding charges, was $163 million or 7.2% of sales compared to 8.5% last year. Improving productivity of $36 million and lower inflation of $8 million were offset by decline in volume of $34 million and lower price/mix of $28 million. Plant shutdown costs impacted profits by $22 million. To give you a better view of our business. Sales across the enterprise in April were off about 35% compared to last year due to the virus, which shut down many of our customers and our operations. Our rest of world sales were off more due to tighter European restrictions. Our manufactured fixed cost range between 15% to 20%, and SG&A is about 70% fixed. In the current environment, we are reducing some fixed cost and variable costs will not decline in proportion to sales as we need to maintain capabilities for a recovery. Given this, in the second quarter, our decremental margins could range from 35% to 40%, and we anticipate a loss in the quarter. Other expense was $6 million. The stronger U.S. dollar drove unfavorable transactional FX losses in the quarter. The income tax rate improved to 20% compared to 23% last year. Earnings per share, excluding charges for the quarter, were $1.66 compared to $2.13 last year. Turning to the segments. In the Global Ceramics segment, sales were $848 million, down 6% as reported or 2% on a constant basis. Lower volume of $30 million, declining price/mix of $6 million and FX headwinds of $13 million; all impacted sales. All regions were affected by the virus in the first quarter, but Russia performed better as they were not impacted until later in March. Our operating margin ex-charges was 5.8% versus 10% last year. Lower volume of $12 million, negative price/mix of $10 million and inflation of $8 million, offset $4 million of productivity. Plant shutdown costs were $15 million. In the Flooring North American segment, sales were $848 million, down 8% as reported or 7% on a constant basis. Lower volume of $57 million and declining price/ mix of $16 million, both negatively impacted sales for the quarter. LVT and sheet vinyl outperformed other product categories. Operating margin, excluding charges, was 4.9%, an increase of 150 basis points compared to last year's 3.4% margin. Improving productivity of $29 million and $7 million of lower inflation offset plant shutdown costs of $6 million and negative volume of $19 million. In the Flooring Rest of World segment, sales were $589 million, down 5.3% as reported or 1% on a constant legacy basis. Higher volume of $4 million was offset by $16 million of lower price/mix. Our operating margin, excluding charges in the segment, was 13.8%, that's down 150 basis segment compared to 15.3% last year. Productivity of $3 million and lower inflation of $8 million were offset by $3 million of declining volume and $13 million of negative price/mix. We had shutdown costs of $2 million, and then another $7 million of increased selling and marketing initiatives, which impacted our results. And then in the Corporate and Eliminations segment, the operating loss, excluding charges, was $8 million. We estimate $35 million for the full year. Jumping to the balance sheet. Receivables ended the quarter at $1.645 billion. Our DSOs were 57 days in the first quarter, and that compares to 56 days last year. Inventories ended the quarter at $2,195 billion, declining about $143 million or 6% compared to last year. Our days improved to 130 days compared to 134 days in the fourth quarter. We expect to continue to reduce inventory and improve days through the end of the year. Fixed assets ended the quarter at $4.473 billion, included in that was capital expenditures for the quarter of $116 million and depreciation and amortization of $146 million. We are estimating CapEx for the full year 2020 to range from $360 million to $390 million, with depreciation and amortization estimated at $580 million. Going to long-term debt. At the end of the quarter, our debt-to-EBITDA ratio was a little above 1.6 times. And EBITDA to interest coverage was 32 times for the trailing 12 months. Our free cash flow during the quarter was $80 million, with total debt of $2.7 billion at the end of the quarter. Since then, we have issued a $500 million term loan and will pay a €300 million note this month, which will leave $1.3 billion of pro forma available liquidity. We have a strong balance sheet and our BBB+ rating remains unchanged even in this environment. During the first quarter, we purchased $69 million or 579,000 shares, and will not make further purchases under our stock buyback program until our visibility improves. At this time, I will turn it back over to Chris. Chris?

Thank you, Frank. We're currently operating in a variety of different environments based on government regulations impacting our customers, manufacturing facilities and workforce. Countries are taking distinct approaches to manage the spread of the virus, and our businesses are executing different strategies to adapt. Even where mandated manufacturing shutdowns have occurred, we are shipping product from inventory to our customers that are operating. In April, our business declined sharply, further requiring weekly adjustments to adapt to the rapidly changing environment. Our markets range from having some retail outlets and construction sites being operational to those where all retail and construction have been closed. We're restricting our expenses and investments to what is essential to run the business. We are reducing SG&A, marketing and IT investments. We are lowering capital spending and non-critical engineering, R&D and maintenance projects. We are enhancing daily and weekly reports to manage our financial categories, including inventory levels, headcount, receivables and payables. We are lowering our costs by implementing layoffs and furloughs using government assistance where available. In some countries, we are obligated to continue paying the existing workforce even when our plants are shut down. We are benefiting from lower raw material and energy costs, though other headwinds are considerably greater. Each of our segments and individual businesses has strong leaders that have managed through difficult circumstances multiple times in their career. Our entire global team is taking extraordinary steps to support our customers and protect our business. We have an exceptional team of people at all levels of the business, and I am proud of how they have balanced keeping one another safe with meeting the needs of our customers. For the period, our global ceramic segment sales were $848 million, a decline of almost 6% from last year or 2% on a constant days and currency basis. Each of the segment's regions was affected by the virus at different points in the period with Italy at the forefront. In each region, we are lowering our production with demand, reducing our cost structure and adapting to different government programs in each country. Our U.S. ceramic business has a higher percentage of new residential and commercial sales, so demand has declined more slowly as those projects are still being completed. Through February, ceramic imports were 18% lower than the prior year, with average import pricing 5%, and shipments from China have virtually stopped. We are reducing production in the second quarter to lower our manufactured product inventories. We have added virtual online product selection and curbside pickup at our service centers to meet social distancing requirements. Our click tile production continues to ramp up as we begin introducing new collections into different channels. We are increasing our higher value quartz countertops as our productivity and costs continue to improve. US sales of the large portion of slabs we produced in Italy are growing significantly from a saw base as consumer awareness and distribution expand. Do-It-Yourself products are selling better than professionally-installed ones due to social distancing concerns. In Pennsylvania, our small specialty tile plant has specialty tile plant has been shut down as part of the state-mandated closure of operations. In Mexico, our first quarter sales were slightly better than last year, with our mix declining due to increased competition, higher inflation, and transportation costs and investments to expand the commercial distribution. After the government closed non-essential businesses, our plants were shut down throughout April and we continue to ship product from inventory to meet customer demand. In Brazil, our results in the quarter were good, even though the virus negatively impacted the end of the period. Sales were strongest in new construction and export channels. During April, São Paulo and other regions suspended most commerce, significantly impacting our sales. We are lowering production in the second quarter to reduce inventory with declining demand. Our European ceramic business was performing well until the Corona virus stopped travel in Italy and the government shut down our manufacturing. This was followed by mandatory shutdowns in Spain and a lockdown of the French market as well as other closures in Europe. We've been able to continue shipments to customers, though demand has progressively decreased and lack of transportation has impeded some shipments. Our product availability has deteriorated with many of has deteriorated with many of our plants not operating. We are postponing product introductions and are reducing our SKUs. During the second quarter, we are planning to operate factories below our sales levels to reduce inventories and we're using government support to reduce headcount. We are monitoring customer orders and receivables. As we entered May, most European countries are developing plans to gradually reduce lockdown of their economies and we have restarted our Italian production. Our Russian business, our volume in the first quarter was stronger-than-expected due to customers anticipating higher cost inflation from the declining ruble and increasing their inventory levels. In the first quarter, we added a production line to expand sales of our large tiles, porcelain tiles, and slabs. We also started up a premium sanitary ware plan to offer coordinated products through our own and franchised stores. Although the corona virus did not impact Russia until late March, much of the country is now locked down with many stores and construction sites presently closed. In April, we reduced production and will adjust further as required. For the first quarter, our flooring North America segment sales were $848 million, a decline of 8% from last year or approximately 5.5%, with one less day and the exit of profitable wood and other products. We began the quarter making progress on the initiatives launched during 2019. In March, our priority shifted to managing the corona virus outbreak, protecting our employees, and supporting our customers. Across the business, we are reducing production and implementing layoffs and furloughs to align with the abrupt decline in demand. The segment has a higher percentage of sales from remodeling, and a large number of our retailers are not operating. Those that remain open are reporting much lower traffic and sales. Many retailers that carry our rug collections have also been closed, dramatically impacting our sales. To meet the growing need for healthcare supplies, our Rug team is producing medical gowns and face shields for hospitals and first responders. During the quarter, our residential carpet sales performed best in the builder and multifamily category as projects underway have continued. We brought new carpet collections to the market earlier than ever in the first quarter, which created greater sales opportunities before the virus. To purchase carpet, consumers must go through in home planning measurements and installation by specialists, which is disadvantaging carpet sales. In commercial, the education and government sectors were the strongest performers in a challenging marketplace. We are adapting to architects and designers working from home through new resources such as visual interactive studio, which allows them to see our products in their planned spaces. During the quarter, LVT and sheet vinyl products performed their best in the segment. Our LVT operations have improved with higher daily output and increased uptime. New styles and features are being introduced to utilize the increasing production of both rigid and flexible products. The knowledge transfer between our LVT plant has slowed as a result of the European travel ban. The ruble of U.S. tariffs from Chinese click LVT lowered market prices for those products. To improve our margins in we have introduced collection featuring, enhanced design and performance under our premium brand. The corona virus China created limited disruption for our sourced product in the current climate, more feeling to the price point and ease of installation for DIY project and multifamily renovations. Light resilient flooring laminate also provides an easy DIY alternative. Our state-of-the art laminate provides realistic visuals, waterproof technology and enhanced durability. In our Wood Flooring business, we have restructured manufacturing operations which has increased our productivity yields and margin. During the quarter, our Flooring Rest of World segment outperformed our other businesses. The segment sales were $589 million, a decrease of 5% from last year or flat on a constant days and currency basis. The severity of the virus and the nature of the government response has differed from country to country. Some countries have mandated the closure of manufacturing facilities. Others have shut down retail and construction. And in others, personnel are not comfortable coming to work. Given this environment, some of our manufacturing operations have completely shut down while others are stopping and starting to align with regulations and reduce demand. Across our product categories, we are continued shipping from inventory to support our customer are operating. In many parts of Europe, the COVID-19 outbreak appears to be peaking as hospitalizations trend down. In many countries, lockdowns are being relaxed with more stores operating and social distancing. Most anticipate that this trend will extend to more countries over the coming weeks. Even as health situation improves and most stores reopen, we anticipate significantly lower sales and production in the second quarter. The product categories in which we have made recent investments, including rigid LVT, sheet vinyl and carpet tile, delivered growth in a difficult environment. LVT outperformed as it takes market share from other product categories. Our rigid LVT production continues to progress well, and our cost reduction program is on track as output increases. New products and faster service levels are enhancing our value to customers with improved capital use and churns. Customers that import LVT from China are increasingly interested in local supply. Due to closed retail stores, we are postponing the introduction of our next-generation LVT until the fall. In the first quarter our sheet vinyl business delivered good growth due to exports outside the region and higher volumes in Russia. We benefited from lower raw material costs, the lower production rates in Europe impacted our margins. Our new Russian plant is performing well, and as we expand our product offering and customer base. Our carpet tile volume continues to grow from a limited base from investments, sales and distribution in both retail and commercial. Our laminate business continues to deliver strong margins as a result of new premium products and higher branded sales. Results in the first quarter were impacted by higher marketing and selling costs related to the launch of new collections and declining volumes, primarily in countries where retail is restricted. We are expanding our digital sales as consumers shop online for DIY projects while staying at home. As with our other product categories, we are postponing new introductions until the end of the year. Our Russian Laminate business held up better throughout the quarter, although parts of the country are presently being locked down. Our Malaysian wood plant is presently operating at lower levels due to government restriction. We completed the closure of our wood flooring plant in Czech Republic, which is reducing our costs. Our insulation plants in France and Ireland were not operating in April and our other plants are reducing production furlough employees. Our board operations are being impacted similarly to the rest of the business, and we are starting and stopping production with temporary layoffs. Higher sales of specialty products and lower raw material prices supported our margins during the period. We benefit from a low-cost position due to the investments we have made over the past five years. In quarter two, our new plant that converts bio waste-to-energy will commence operations, and we will sell the exits energy to the brand. In Australia and New Zealand, our sales were up slightly with hard services growing and lower carpet sales are pressuring margins. A major update to many of our product lines is being well accepted. Our first quarter results were negatively impacted by sharp falling, local currencies compared to the U.S. dollar. In late March, New Zealand's government enacted a stringent lockdown, shutting our operations and retail outlets throughout April. Whereas in Australia, we have seen no lockdown on manufacturing so far. I'll return the call to Jeff.

Thanks, Chris. As we enter May, the corona virus is dramatically disrupting the economies around the world. Some countries are beginning to explore easing restrictions while others are extending them. Presently, all of our plants around the world are in operation, except those in Mexico and a small plant in Pennsylvania. We're focused on conserving cash, adjusting production, reducing inventory and preserving operational capabilities. We're also reducing expenses and investments and aligning with government requirements and support. The rate at which governments will open commerce and the subsequent consumer response cannot be determined. Some businesses have postponed investment in both remodeling and new construction until the recovery becomes more apparent. At the end of April, most people sheltering in place across the world, with them, our sales are about 35% below the prior year, and we cannot predict the rate at which it will recover. Given these circumstances, we are unable to provide EPS guidance for the second quarter and anticipate a loss in the period due to the COVID-19. Our balance sheet is strong with substantial liquidity of $1.3 billion to manage through the crisis. Our business model remains solid with strong local teams in each market, taking the necessary actions to manage the downturn. The economies will return to normal over time, and we are optimistic about the long-term future of our business. With that, we will be glad to take questions.

Operator [Operator Instructions] Our first question Keith Hughes from SunTrust. Please go ahead.

Thank you. Just a couple of questions. I guess, first, on the closed retail stores that clearly played a role in what's happening here in April. Are you getting a sense that those are now starting to open up in May? Is that in more states than not, businesses allowed to open with some of these restrictions are being lifted?

It's too early for us to have details of it. We're just watching the news around the country from different states, and we're assuming that they will start opening up. The question is, what are the consumers going to do?

Okay. And I guess, second question, more, again, basically, back to the U.S. You talked about LVT, still growing and gaining market shares. Was LVT – excuse me, details in April been up for you? Or is it just pressure, just less pressure than the rest of the products?

The LVT sales in the period continued to expand in the first quarter, but they slowed as we entered March, the – so the overall business is slowing, and we're going to have to see where it ends up. LVT, because of the growth it was having started from a higher point and we will have to see how it progresses as we go through.

Okay. I guess final question on raw materials. Is that going to be a growing tailwind for you over the next quarter or two in various parts of the business?

The raw materials, energy and materials have declined across the categories, but were offset by volume pricing mix. With our sales declining, the lower material costs will take longer to flow through to costs. And then just as a point, our recycled materials are declining less than the virgin alternatives.

Okay. Thank you.

Our next question comes from Stephen Kim from Evercore ISI. Please go ahead.

Thanks very much guys and thanks for the color. Frank, welcome back. I wanted to ask you a little bit about the productivity and the decremental commentary you made, Frank. So one, we were pleased to see the strong productivity number in Flooring North America. I was curious, if that was tied to the restructuring initiatives you did in that business, and therefore, we might be able to expect that portion, at least, to continue? And then your overall shutdown at $22 million in 1Q, we're thinking that's going to go up, obviously, in 2Q. But even if we double it, it seems to only get me to the low end of your decremental range? So wondering if -- maybe it's reasonable to think that, that overall shutdown number is going to be more than double what it was in 1Q as we look into 2Q?

Well, first, just to maybe put some fencing around the discussion about decremental margins. We're taking historical fixed and variable costs. And then, there are assumptions about how sales are going to behave and about what we take out in costs that are driving that. I will say that to the extent that we take - as our production capacity goes down, our run rates go down. That is going to have a larger impact on our shutdown cost. I'm not sure if I'm answering your question there, Stephen or not, but the shutdown costs will be going up, for sure.

Then the productivity pieces we do will continue. The problem is that the plants will be operating at much lower levels and the offsetting negatives in the unabsorbed overhead and pieces are going to be high.

Yes. That makes sense. Just to clarify, that productivity number, $29 million in Flooring North America, Frank, does that include any sort of suboptimal operating levels? Or is that sort of a stand-alone number and the reduction in operating levels within those volume numbers that you gave?

You'll have less productivity as your volumes go down. You'll have more productivity as your volumes go up. They'll drive it up and down.

Okay. Okay. Got it. Yes, adjusting for everything. And then longer-term strategic question, I know you've been taking downtime in your ceramic plants for a while now. And I know you've previously indicated you're evaluating the potential to maybe make things a little more permanent there. Was curious if you could tell us how your thinking's evolved there? Obviously, a lot has changed. But if you could just give us a sense for your thinking about the level -- how you assess what the proper level of capacity is in the ceramic business?

So Stephen, we are, of course, managing to the short-term volume decrease and at the same time, trying to get a read on the long-term demand. And as soon as we can get a read on that, we'll adapt our capacity to fit in.

Thank you.

Our next question Kathryn Thompson from Thomson Research Group. Please go ahead.

Hi, good morning. This is actually Brian Biros on for Kathryn. Thanks for taking my question. I wanted to add starting on the supply chain. Last quarter, you guys gave us an update on the supply chain impact out of China and Asia. I guess, given comes from where we are today, could you provide an update on the global supply chain today from Asia? And also just Europe and the U.S. market, we've heard that Chinese production, specifically at LVT was approaching previous run rates through the end of March. I just wonder to see what you guys are hearing.

Same thing. What normally happens is there's a vacation period in the first of the year. So you build up inventories going into that, the production didn't start-up what everybody had anticipated. It has since gotten up to close to where it was before, but now you have declining business trends in the United States. And so with that, it's also it's also difficult to understand what the present level of the industry is because you're seeing the imports come in based on purchases for months ago, and you really don't have sight of what the present sales are in consumption.

Got it. That makes sense. And then a follow-up on the CapEx, I guess, can you talk about more -- provide more details? I know in the prepared remarks, you mentioned a number, and I think it was lower than the original plan, which I think was around for $540 million. And I think previously you guys have mentioned maintenance CapEx is just $200 million. So can you guys talk about the difference there? What you've been able to push off and kind of what is being sacrificed in the short-term for pushing off that CapEx?

Well, a major part of what you see in the $360 million, $390 million, represents projects that were already committed, some of which have already started, so we're not able to stop those. We are continuing forward with important cost savings and innovation projects as well as safety and maintenance. And the maintenance number is going to be down much lower than the number that you just cited.

Got it. Thank you.

You are welcome.

Our next question comes from Eric Bosshard from Cleveland Research. Please go ahead.

Good morning. A question and a follow-up. Thanks for the insight and the detail on the margin for 2Q. As we think about the back half of the year, should the decremental and incremental margin continue in this 30%, 40%, 35%, 40% range, or should we expect it to behave differently than that?

The difficulty with that is, like we said a couple of times on the call already, is the lack of visibility and not knowing how sales are going to trend and how we're going to respond with cost takeout, permanent versus temporary, all are going to impact what our decremental margins are. So Eric, I don't think we're prepared to give you an answer that you'd like to have on that question right now.

You also have another thing with governments helping different amounts most of them are temporary and how they're going to change and evolve depending on the economies. We also don't know.

And then second question, in terms of the North American tile market, your data on the import volume and price sounds positive from a competitive standpoint. I'm curious in your North American tile business, the performance, call it, year-to-date, and as you look through the year, and I know you don't have perfect visibility. In terms of the market growth, your market share and the price mix, how do you feel -- or what are you seeing in terms of where that's going, especially considering the change in the competitive dynamic as that import data shows?

Yes. What I would say is that the U.S. ceramic business has been impacted less due to a higher percentage of new residential and commercial projects. The ceramic imports continued to decline, and we've reduced production to lower our manufactured inventory. The click tile production is ramping up, and we're expanding our higher court countertops.

Okay. And then just one follow-up on that. Being shielded from some of these pressures from the new res and commercial, does that continue, or when you complete these projects, is there a kind of an air pocket on the other side of that? What is the proper expectation?

Well, we really don't know, but I think what you could have is some balance. In some states, we've been shut down, which I think will open up. But I think there could be an expectation that as the new home starts have declined, that you could have a gap in the future. So one could possibly offset the other.

Okay. Thank you.

Your next question comes from Michael Rehaut from JPMorgan. Please go ahead.

Good morning, everyone. Thanks for taking my question. I hope everyone is safe and healthy out there. First question, appreciate the comments around 2Q sales. I believe you had mentioned that rest of world maybe down a little bit worse than that 35%. I was hoping – I know you don't like to get too granular segment-by-segment, but just given the extreme volatility here, if you could provide any degree of magnitude in terms of -- as you look across ceramic Flooring North America and Rest of World, how you're thinking about the declines relative to that 35% if the Rest of World maybe is more like 40%, 45% and ceramic and Flooring North America maybe closer to 25% to 30%. Any type of directional degree of magnitude there would be helpful.

I can first just talk about the Flooring Rest of World. In the first quarter, Flooring Rest of World outperformed the other segments. The impact of the corona virus differed by country with more severe lockdowns in the U.S. As we got into April, Europe had an abrupt decline and was more severe. The virus started earlier and the lockdown was more restrictive, construction and commercial impacted more than in the U.S. In April, many customers were not open, and some projects were stopped, but most countries are opening up to increased commerce. That's Rest Of World.

The Rest of World are significantly more due to the lockdown that it’s at, and the other businesses are similar. So we – the numbers don't mean anything, because I can tell you that next week's orders don't look like last weeks.

Yes. We're just looking at four or five weeks of data here in a very volatile environment. So it's hard to draw really good, hard conclusions from that.

Right. Right, I guess, maybe the part of my second question really is across – there have been some initial comments by companies around some trends improving, actually even over the last six weeks, some of the homebuilders have reported stronger or lessening declines of order trends over the last two or three weeks, some building products companies have also some have pointed to slowing orders. Others have pointed to maybe a little bit of improvement as the month has progressed. As you're kind of zeroing in on the U.S., can you give us any commentary around how you're seeing the trends unfold throughout the month, if there's any discernible patterns in terms of what you're seeing across carpet and ceramic and some of the other product lines?

I can't tell you that the changes are – you can really see a trend in anything, because you have different customers and orders going up and down at different points across it. One thing to remember, in the past cycles, floorings declined more than other durable products, in general. And it's declined for a couple of reasons. One is that it's a higher ticket price than some other categories. Second is, it's got a lower amount sold through DIY, which is doing better at this is that point. And finally, other product categories have to be replaced when they're worn out. Our products you can live with almost forever. So when the customers get them comfortable that keeps postponing the stuff for a while. So it's causing a more – higher impact with the pace. The other thing, I guess, is that the opening of the retail stores should help going forward. We see almost every country we're in starting to relax the restrictions now. What impact it's going to have, we can't even guess at this point, is that -- so I mean, it's really hard to predict how the future will evolve, which is why we can't give any guidance. I mean, it could be substantially better. It could be the same or it could be worse. We have no idea.

Right. No, I understand. I guess, one last quick one, just a clarification. Can you talk about 2Q, expecting an operating loss. Just to clarify, that would be on a – we're talking about on an EBIT basis?

Yes, EBIT. EBIT loss.

Right. Thank you.

Our next question comes from John Baugh from Stifel. Please go ahead.

Thank you. Good morning and best wishes in this difficult period. I wanted to jump into the price, mix issue. And are you seeing anything around all the areas you operate, where there's like-for-like pricing pressure? Or are you seeing sort of a typical mix trade down as sort of primary issue?

There was a lot of – there was some – both pricing and mix were under pressure in the first quarter, we had a $30 million decrease in price and mix in the first quarter. As the market's gotten more turmoil, as you would suspect, there's not a lot of pricing movements because nobody's open as yet. So we're going to have to see how it evolves. As yet – who knows?

And then just as a follow-up on -- you mentioned there could be a little bit of an air pocket with home start weakening and the subsequent flooring demand following. Would the same potentially happen in the commercial area where you're working through decent backlogs, but what's the outlook for commercial a couple of months out?

Same thing, you have projects that go on. In new housing, we tend to be at the end of it, which means the ones that -- the smaller ones tend to get built in six months. The large ones, call it, a year or more, is it. So we tend to be at the end. So we get it there. On the other side, if they stop either commercial projects starting or planning of them, the pipelines get pushed out. Now offsetting that, you have the residential retail business, which has basically been close to stopped in many places. It's going to -- just opening up the doors, we have to do more, is it. Even if hardly anybody shows up, so you have both things going on, and there's no way to anticipate how they're going to balance out or the timing of either.

Okay. Thank you, Jeff. Good luck. Operator: Your next comes from Mike Dahl from RBC Capital Markets. Please go ahead.

Hi. Thanks. Jeff, just as a follow-up to your last comment, just given some of these dynamics from a customer channel standpoint, is there any way you can breakdown within the U.S., your April sales performance by channel? Just to give us some sense of how much of an impact those retail shutdowns have had?

I don't have it to give you. The residential remodeling is the one that was hurt the most, as you would suspect. There was also some inventory changes from the channels at inventory. Basically, typically, the inventory goes up in the first quarter for the seasonal improvement that you expect. So some inventories were built a little bit in the first quarter, which have to get drained. People started cutting inventories out of the system. And then on the commercial side, you have the same thing that projects were interrupted, even ones we're going to go ahead with, we started delivering samples to designers' homes to give you an idea of what's going on. How it's going to change is really -- the problem we're having is we cannot anticipate how all the different purchasers are going to change in the near-term and how it's going to affect the business. And again, we don't know if it's going to get dramatically better or worse.

Got it. Okay. My second question ...

I think, I would add to that, Mike if residential remodel tends to run much more -- much higher as a percentage of the total pie than the other categories.

Right. Right. Okay. A follow-up question, just given the some of the pain being felt on the specialty retail channel, particularly mom-and-pops and probably some uncertainty over whether some can even open the doors back up period. Can you talk about what you're seeing in real-time on your can receivables? What are you expecting there and anything with respect to bad debt expense that you could talk to?

Yes, I'll address that. I mean you heard our receivables, DSOs at the end of the quarter were in line pretty much with where we were a year ago and may be just as a note if you compare our bad debt expense in the 2008-2009 recession, it was running about four-tenths of a percent. And that compares to two-tenths of a percent in the first quarter of this year. So we didn't see much movement in the last downturn. And I'd also remind you that we really don't have any large significant customers. We have a pretty diverse widespread customer base.

Okay. Thanks, Frank.

Your next question comes from Susan Maklari from Goldman Sachs. Please go ahead.

Thank you. My first question is just going back to the raw material discussion. Can you outline for us what your exposure is to petroleum-based products today? And especially maybe given the shift in the business that we've seen relative to the last downturn?

Relative to the last downturn, the carpet business has the largest – or the carpet and vinyl business has the largest portion of oil base material. The vinyl really comes from assets, it's really the carpet industry has the biggest portion of oil base materials. On the other side, ceramic has a large use of natural gas in it. And then you go through all the different other product categories, they have different raw material streams.

Right. But if we think about how carpet has shrunk relative to where it was, say, 10 years ago, 15 years ago, what has that meant for your raw material exposure? And how should we think about that difference coming through in results?

There will be less exposure. The other thing that's going to happen in the short-term, just that given the dramatic decrease in a short period of time, even though the prices have gone down, we're buying significantly less, reducing our inventories on one side and also buying less relative to the volume we're producing. So both of those are going to have an impact on reducing the positive impact it would have if we were buying and running at the same rates we always run.

Okay. And then can you…

One more piece to enter into it, our polyester is manufactured from recycled bottles and the recycled bottles are not moving down in proportion with the gas prices, oil prices.

Right. Okay. So there won't be as much of a benefit there?

Correct.

Okay. And can you also just talk a little bit to progress that you are making with your LVT plant in the U.S.? How is that coming together? And has there been any change given what's obviously been going on over the last two months or so?

Yes. The LVT has improved during the period. It continues to get higher throughput rates and more productivity in the place and less downtime on a daily basis. Our sales in the period continue to go up, but they slowed the amount that we were increasing. The transfer of knowledge from Europe to U.S. load, because normally, we would have engineers over here when they've been the travel, the engineers didn't, but we're still making progress. We've identified some mechanical improvements. It will go in the third quarter and the second half, that will step change the speeds that we're running at as well as impact the material costs further. But we continue to make progress on both the European side and the US.

Okay. Thank you.

Our next question comes from Laura Champine from Loop Capital. Please go ahead.

Thanks for taking my question. Firstly, just for historical context, when is the last time Mohawk has generated an operating loss? And then more relevant going forward. I certainly appreciate all your comments about demand uncertainties. But when you plan your production, how quickly could you or do you plan to get your production volumes back to flat year-on-year?

I think the last time we had a loss was when oil prices went to $140 in 2008 or 2009, and we couldn't raise the prices soon enough. So we -- the flow-through caused the loss in one of the period. I don't exactly remember the date.

First quarter 2009.

First quarter 2009. And then I forgot the second part of your question?

The second part was when you're planning your production to be back to flat year-on-year in terms of volumes.

But right now, we're reacting to the incoming business on a week-to-week basis, depending upon the equipment. If there's a really high cost of starting and stopping, we operate it for a period of week and shut down for a period. On other ones, we're starting and stopping on a weekly basis, and the times we're running are really related to the incoming business level, and we build inventory then shut down to get it back on line.

Got it. Thank you.

Your next question comes from Justin Speer with Zelman. Your line is open.

Thank you. First question, is there a volume or a revenue decline threshold where you think you'd potentially breakeven in the second quarter? I guess, are you assuming that volumes are going to be down consistent with the 35% decline you saw in April for the balance of the quarter? Or do you -- just your view your product view, in particular, suggests any improvement in activity with the restrictions being relaxed?

We're assuming it's still going to be difficult for the quarter, but we don't have any evidence to base it on. If the volumes go up high enough, we would make money, we’re ready to do it.

Okay. So in terms of the rough productivity, I don't know if you can give it -- break it out for me, but the rough productivity and the rough production shutdown, dollar shutdown, costs in global ceramic. If you can give break that out for us, what -- I'm guessing you're planning for the second quarter, you pretty much know based on your volume assumptions. What do you think of the productivity drag will be for ceramic and for the rest of the business?

Justin, like we said a couple of times already, we're not really -- we've got very limited visibility right now. And so we are not really getting into forecasting anything for the second quarter including productivity and volumes to be in the quarter.

Listen, we have multiple scenarios, high, medium and low, and we don't know which one is going to work.

I get it. I know it's very difficult. Positively about $29 million productivity left Flooring North America very, very strong. And I know you had some previously announced tailwinds from facility closures. I thought that was going to be about like an annualized number, consistent with what you just did in the first quarter, so maybe help us to understand what went into that productivity improvement? And how we should think about productivity on an annualized basis in a more normalized volume scenario in Flooring North America?

Well, I think I mentioned with another caller earlier, one of the drivers for productivity is we developed these programs, cost savings initiatives. And one of the drivers is how much volume we put through. And so I hate to keep answering the questions the same way, but it's partially going to be dependent on how volume performs through the rest of the year.

And then in our productivity, the shutdowns, all the pieces, the shutdowns, the more start-ups and start-ups and shutdowns we make, the time you make, all goes into productivity. They're part of the same number.

Right. But you put up a $29 million number with almost a -- maybe a high-single, low-double-digit volume decline in the first quarter. And I know there was facility closures that probably went into that, but was it also the LVT plant that helped drive that? Or is there something else that led to such a high popping improvement?

LVT was one of the pieces, and it did have significant improvements in the period.

Thank you, guys.

Your next question comes from Truman Patterson with Wells Fargo. Your line is open.

Hi, good morning. This is Trevor Allinson on for Truman. Thank you for taking my question. In recent quarters, you guys have increased your selling and marketing efforts, thoughts to helping sell some of the additional capacity that you were going to be bringing online. Just thinking about your ability to take out SG&A costs, also balancing your ability to sell those products once demand rebounds. How are you guys thinking about those actions on the SG&A side?

You're correct. We have been investing in sales to expand the business. The SG&A dollars in the first quarter were basically in line with last year and dollar amounts, but the percent increased as the volume decreased. The virus has interrupted the business, and we're taking steps to align the costs of sales and marketing with the present conditions. We're already reducing marketing expenses, administrative costs, and we'll adjust to the total cost structure once we get on a more permanent basis, once we get a view of where the business is going to be going forward. At this point, whether it's a V or an L or somewhere between the two, every week, we learn a little more. And presently, we are making more temporary changes than permanently.

Okay. All right. Thank you. And then on Flooring North America, sales decline seem to be pretty much in line with last quarter on a year-over-year basis and a pretty healthy housing market. I was hoping you could just discuss a little bit more about what's driving the top line weakness there. Maybe you could bucket out whether it's LVT taking market share or other factors?

LVT is continuing to take share from the others. The carpet sales in the industry declined in the mid-single digits in the first period, as if there's inventory adjustments going on in some channels. In some channels, they stopped doing, even though the stores were open in some channels, they stop doing measurements and installation in the period. So I mean, the whole business has turned upside down. We're hoping that many of these things will get better going forward, but we're not sure if it's going to happen tomorrow or how long it's going to take.

Okay. Thank you. Good luck.

Your next question comes from Mike Wood with Nomura Instinet. Your line is open.

Hi. Welcome back, Frank. First, a big picture question for Jeff. Mohawk is clearly suffering here with their expectation to lose money in 2Q, but you guys have always and you're likely going to continue to outperform in the industry in terms of profitability. And so knowing that even many of your competitors struggled before COVID-19, what are your thoughts and how quickly, how many of your competitors may actually see some business closures, permanent business closures? And what are you doing to gain share?

As you said, in different markets, in different countries and different product categories, there are players that were struggling before with their liquidity. And their ability to sustain their businesses, depending upon how long this lasts, it could detrimentally affect their ability to continue operating. At this point, we are trying to react to the downturn and minimize our own investments in pieces. Because we can't tell how deep or how long it's going to go, at this point. And we're prepared to reverse all these things quickly, but at the moment we are focused on trying to control the cost at this moment.

Got it. And a follow-up question. There have been long fears of LVT oversupply in China, particularly if demand growth had slowed or declined. Are you seeing any evidence of more severe price erosion in LVT? Or what are your thoughts there? Understanding that now many of the retailers are closed, but is that a risk as we go forward here?

Over the past years, the price of LVT has declined as the production processes have improved. We have assumed that's going to continue for a while. In the short-term, when you get older capacities, I don't know what's going to happen with the prices, as you go through. As is it - some people will try to run the assets. And maybe impact the pricing. But the same thing occurs in all our product categories. Is it at the same time, the raw materials are decreasing? So, we'll have to see how all that plays out.

Your next question comes from Matthew Bouley with Barclays. Your line is open.

Hey, all. Thank you for taking my questions, just back on the North America productivity, the $29 million, how much of that was related to those LVT rebates that you disclosed last quarter? Or was it -- I don't know if it's in productivity. There was a small -- I don't think -- productivity?

There was a small. But I don't know it is in productivity. There was a small but I don’t think I don’t know where it shows up. But I mean if you remember it was only limited amount of money. I think it was about $13 million and it was spread over the three quarters. I'm not sure, if I got dollar amount exactly right to disclose.

Yes. And it is in productivity, but like Jeff said, it's a small number.

And then it doesn't flow through, an even amount.

Got it. That’s perfect. And then since you discussed shipping product from inventory in the places where there were mandatory shutdowns. I guess to what extent were you actually able to fulfil customer? Whether it’s in those places? Presumably, you were not able to fulfil 100% of it. So, should we think, there's any sort of pent-up business as a result that would actually move the needle? Thanks.

I don't know how to measure it. There were places where the inventories weren't sufficient to satisfy all the demand. The customers may be waiting on it or maybe switched to other products. And we don't have a way of knowing, is it.

Okay. I understood. Thanks so much.

Our next question comes from John Lovallo with Bank of America. Your line is open.

Hey, guys. Thank you for squeezing me in here. I guess, first one, just from a higher level. Do you think that COVID-19 will kind of expedite the shift in consumer preference towards harder, maybe easier to clean surfaces that we've been seeing happening over the past decade anyway?

I don't know of any evidence that says it's going to impact the choice in flooring. The flooring choices are made for what purpose you have, how you like it, what the attributes of the product are, what your value proposition is in it. So I don't really see that having an impact at this point.

Okay. And then just quickly, the wood manufacturing footprint in North America and four in rest of the world, you guys were doing a lot of work on rightsizing that. Is that largely complete at this point?

What we did was we sold a solid wood plant in the United States, and we closed an engineered plant in Czechoslovakia, and we still have other wood plants manufacturing products. So we have less capacity for those markets as alternatives take their place.

Okay. Thank you, guys.

Your next question comes from Phil Ng with Jefferies. Your line is open.

This is actually Collin on for Phil. Just wondering if you could talk about how decremental margins may fair in the different segments relative to your 35% to 40% guide?

Not sure we're prepared to get into that much detail. The only color we gave you was that fixed cost varied from 15% to 20% in cost of goods sold. And I would say, the ceramic segment is there's the higher of the two-- the three segments there with fixed cost.

Okay. And then just on free cash flow conversion. How are you guys thinking about that just given the changes over the past couple of months? And if you can give any color on how you're expecting the working capital to play out as you manage your inventory levels that would be helpful?

Historically, in past downturns, our cash flow has done reasonably well because of declines in working capital, inventories, receivables, and then we have also been able to push out some payables and I think that's probably going to happen this time. I think the other thing that we need to consider is the significant reduction we've made in our capital expenditures and then we've also stated that we will not be buying back stock in this current environment. So free cash flow should be pretty strong relative to the environment as we move through the rest of the year.

Great. Thank you very much and good luck.

Thanks.

There are no further questions at this time. I will now turn the call back over to Mr. Lorberbaum for closing remarks.

We appreciate everyone on the call. We're taking actions to adjust to the circumstances that we're in. Each week, we're reevaluating and changing our strategies, both short-term and medium term. The managers are taking different approaches by geography and product category based on different markets and government actions. The business is in a strong position today, and will emerge in a better position. We appreciate your time on the call. Have a nice day.

Ladies and gentlemen, this concludes today’s conference call. Thank you for participating. You may now disconnect.