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Edited Transcript of AFI earnings conference call or presentation 6-Nov-17 4:00pm GMT

Thomson Reuters StreetEvents

Q3 2017 Armstrong Flooring Inc Earnings Call

LANCASTER Nov 8, 2017 (Thomson StreetEvents) -- Edited Transcript of Armstrong Flooring Inc earnings conference call or presentation Monday, November 6, 2017 at 4:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Donald R. Maier

Armstrong Flooring, Inc. - President, CEO & Director

* Douglas Bingham

Armstrong Flooring, Inc. - VP of Treasury & IR

* Ronald D. Ford

Armstrong Flooring, Inc. - Senior VP & CFO

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Conference Call Participants

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* Alvaro Lacayo

G. Research, LLC - Research Analyst

* Dillard Watt

Stifel, Nicolaus & Company, Incorporated, Research Division - Associate

* Keith Brian Hughes

SunTrust Robinson Humphrey, Inc., Research Division - MD

* Michael Robert Wood

Nomura Securities Co. Ltd., Research Division - Senior Equity Research Analyst

* Scott L. Rednor

Zelman & Associates LLC - VP of Research

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Presentation

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Operator [1]

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Greetings, and welcome to Armstrong Flooring, Inc. Third Quarter 2017 Earnings Call. (Operator Instructions)

I would now like to turn the conference over to your host, Doug Bingham. Thank you.

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Douglas Bingham, Armstrong Flooring, Inc. - VP of Treasury & IR [2]

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Thank you for joining us today for Armstrong Flooring's Third Quarter 2017 Earnings Conference Call. Today's call is hosted by Chief Executive Officer, Don Maier; and Chief Financial Officer, Ron Ford.

We trust you have seen our third quarter press release this morning. Additionally, a copy of the slide presentation to accompany this call is available on the Investors section of our website at www.armstrongflooring.com.

I refer you to Slide 2 of that presentation and advise you that during this call, we will be making forward-looking statements that involve risks and uncertainties. Actual outcomes may differ materially from those expected or implied. For a more detailed discussion of the risks and uncertainties that may affect Armstrong Flooring, please review our SEC filings. Forward-looking statements speak only as of the date they are made, and we undertake no obligation to update any forward-looking statement beyond what is required by applicable securities laws.

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 to the most directly comparable GAAP measures is included in the press release and in the Appendix of this presentation.

With that, I will now turn the call over to Don.

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [3]

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Thank you, Doug. Good morning, everyone, and thank you for participating in our third quarter 2017 earnings call. Before I review the quarter and our recent progress, I'd like to introduce Ron Ford, our new CFO. He joined our team in September. Ron came to us from Silgan Containers where he was a key part of their leadership team and helped drive impressive results and shareholder returns. He has a strong background serving in leadership roles at multiple companies, and I am confident that he will be an important contributor to our company as we build additional value to our strategic priorities.

I would also like to thank Kim Boscan for her work as our interim CFO, and look forward to her continued service as our Controller.

Today, I will discuss our operating highlights and business activities. Ron will then cover additional details on our financial results and outlook before I offer closing comments. After our prepared remarks, we will open up the call to answer your questions.

Turning to Page 3, which provides some key highlights and recent updates. Third quarter 2017 results came in largely in line with our expectations with double-digit gains in Luxury Vinyl Tile, or LVT, and the contributions of our recently acquired Vinyl Composition Tile, or VCT, assets, helping to drive higher Resilient segment sales. While we were pleased with that progress, these positive developments were more than offset by soft demand and competitive pressures in the remainder of our portfolio, primarily residential sheet and Wood Flooring, which pushed total net sales down 1% year-over-year. These challenging top line dynamics are largely a continuation of a declining industry trend that we have seen over multiple years. In a few minutes, I'll talk about some of the actions we're taking to improve our performance in these categories.

Adjusted EBITDA was $26 million for the third quarter 2017 compared to $32 million in the prior year quarter, which mainly reflects that pressure. As a result, we have been aggressively working to improve our competitive position through a variety of initiatives that are aligned with our strategic priorities to drive transformative growth and profits. Specifically, we have taken steps to address sustained challenges in our legacy businesses and to reweight our portfolio towards more attractive categories to deliver on our medium-term goals. These steps include innovation-based growth initiatives such as the extension of our Diamond 10 Technology Coating on the wood products, which we recently rolled out.

During the third quarter, we began the rapid integration of our newly acquired VCT assets with great success, providing for favorable operating leverage on better capacity utilization. We continue to shift our portfolio to be more weighted towards LVT, which is a rapidly growing category. Building on that continued success, in October, we began producing LVT in our second domestic plant by repurposing a portion of our Stillwater, Oklahoma resilient sheet plant, which further expanded our domestic production capabilities in LVT. Finally, in October, we completed the previously announced closing of 2 Wood Flooring facilities, which we expect to improve our cost position by $8 million to $10 million annually.

Beyond these examples, out of many operational enhancements that we have underway, we continue to build value through our share repurchase efforts. During the quarter, we produced $26 million of free cash flow, which we used to repurchase $26 million of shares, totaling $40 million year-to-date. We are actively working to build value on our company through all avenues, and our conservatively leveraged balance sheet affords us the flexibility to accomplish this through a range of initiatives.

Moving to our acquisition update on Page 4. As a reminder, VCT is a significant category within the hard surface flooring industry and one of our more profitable businesses within a well-structured category.

In June 2017, we completed the acquisition of Mannington's VCT assets as planned. Since that time, we have worked hard to integrate these assets on to our platform with great success. During the quarter, we had a positive top line impact from a full quarter of our VCT expansion. This success, in a large part, helped our ability to leverage our deep expertise in VCT to effectively serve the core commercial customers in this category. As a result, we are operating at improved capacity utilization levels in our VCT plant network as we layer in acquired sales using our existing production facilities and go-to-market structure. We continue to expect the acquisition of Mannington's VCT assets to drive accretive benefits to our adjusted EBITDA beginning in 2018, after we have fully ramped up our production and selling efforts.

Looking at our manufacturing facility update on Page 5. First, on Resilient. In October, we were excited to begin producing LVT from our second domestic plant in Stillwater, Oklahoma. Through technological advancements, we have been able to partially convert an existing resilient sheet plant, which is a direct result of our commitment to innovation and leadership in the LVT category. This category continues to be the fastest-growing part of the hard surface flooring industry, and we fully expect to continue growing faster than the market through our innovative designs and structures.

Conversely, the resilient sheet industry has seen accelerating conversion of consumer preference into LVT. Against this backdrop, we have seen additional sheet industry capacity brought online in recent years. This has resulted in relatively low capacity utilization levels throughout the industry and challenging market economics. We have taken step to improve our resilient sheet offering through our Diamond 10 Technology, which has been very well received, and we have a number of other initiatives underway to address this unfavorable trend in resilient sheet. However, the overall industry challenges will continue.

To that end, the repurposing of a portion of this plant is an exciting milestone for Armstrong Flooring and delivers strategic benefits to both our LVT business at entry-level price points and resilient sheet capacity utilization. The plant is already producing our new American personalities line, which has better visuals and performance speakers compared to the entry-level competitive offering. This will allow us to ship a portion of our entry-level product line from a source model to domestic manufacturing, which will help improve our margin structure on the low end. While this expanded production capacity represents only a small portion of our current LVT sales, we are focused on pursuing additional opportunities to take advantage of rising LVT demand with existing capacity.

Second, in October, we completed the previously announced consolidation of our wood flooring manufacturing network through the closing of 2 facilities, including a solid wood plant and an engineered wood plant. As a reminder, our plant for the wood business is centered on improving profitability over the next several years to establish a more profitable growth foundation. Our actions reinforce our commitment to the long-term viability of this business. Our remaining wood plant capacity is now more in line with current customer demand and also better able to leverage productivity benefits realized across our wood flooring operations in recent years. We expect to generate a favorable return on this action as we incur total pretax cost of $3 million to $5 million while generating benefits of $8 million to $10 million of annualized adjusted EBITDA.

Before I turn the call to Ron, I'd like to mention that continuous innovation in durability and design across all major wood and resilient categories remains a central part of our strategy to improve our mix of sales to higher-growth products while maintaining strong competitive positions in legacy categories.

Diamond 10 Technology is a clear example of a superior product that has gained exceptional market response and advancing rapidly from LVT to our broader portfolio. Durability is critical, and the enhanced scratch and stain resistance offered by Diamond 10 strengthens the value proposition we can offer to our customers.

We have also continued to innovate in LVT, including the launch of 2 new product families in Rigid Core, which will further strengthen the breadth and depth of our LVT portfolio. We recently introduced the next generation of LVT, which we call Prism. This great new product solves some of the limitations of previous generation products. Prism offers superior dent resistant, sharper visuals and is waterproof. We have rolled out Prism to the marketplace, and I'm excited about its potential to drive meaningful growth in the category.

Even as we work to adjust our cost profile, we continue to pursue innovation across multiple categories with a goal of providing an even more competitive lineup of winning products for our customers, which we anticipate will reignite sustained growth.

I'll now turn the call over to Ron to walk through the details of our financial performance.

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Ronald D. Ford, Armstrong Flooring, Inc. - Senior VP & CFO [4]

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Thank you, Don, and good morning to those on the call today. I'm glad to be a part of the Armstrong Flooring team, and I look forward to contributing to the company's achievement of its goals.

I'll begin with a review of our financial results on Page 6. In Resilient, net sales were up 2.2% due to stronger volumes in LVT and VCT, along with a favorable mix, which more than offset lower price across most categories. The improvement in VCT sales was a result of the recent acquisition of the Mannington VCT assets and higher distributor inventory levels. Double-digit volume growth in LVT from both sourced and manufactured products provided a positive impact on mix. The shifting consumer preference to LVT continues to pressure the traditional categories, which still comprise the majority of our Resilient segment sales. Additionally, as mentioned in prior calls, residential sheet shipments were significantly impacted by lower sales in the strategic retail customer channel, which we expect to continue to be a headwind through year end.

In wood, net sales of $114 million were down 7% compared to the prior year due to lower volumes in solid and engineered wood. The solid wood decline was primarily due to the strategic retail customer channel, which we expect will continue through the first half of 2018. In engineered wood, we continue to face challenges from an unfavorable industry structure, which has put pressure on our top line. Price remains flattish sequentially since the beginning of 2017 though down modestly year-over-year, primarily driven by continued competition in the distribution channel.

Total adjusted EBITDA decreased $6.9 million to $25.5 million compared to the prior year quarter. The decline was primarily attributable to lower sales.

Resilient adjusted EBITDA was $21.2 million compared to $22.9 million in the prior year quarter. This was mainly driven by the timing of raw material inflation in 2017 compared to a deflationary environment in the prior year quarter, with a partial offset from segment SG&A savings, lower unit costs in our LVT manufacturing operations and strong productivity throughout the network. Raw material costs continue to rise, so we've announced another 3% to 6% price increase effective in the fourth quarter for our legacy commercial products to offset some of these inflationary impacts.

Wood adjusted EBITDA was $4.2 million as compared to $9.4 million in the prior year quarter driven by the combined impact of lower net sales and year-on-year raw material inflation, which more than offset tighter SG&A spend. Lumber costs remained fairly steady in 2017, but we continue to expect unit lumber costs flowing through our P&L to be unfavorable through year end on a year-over-year basis.

Turning to our cash flow on Page 7. In the third quarter of 2017, we produced $26 million of free cash flow as compared to $33 million in the second quarter. This cash flow performance is consistent with our plan to deliver positive free cash flow for the full year of 2017. During the quarter, adjusted EBITDA excluded 2 significant pretax charges, including a $12.5 million write-down of the Bruce trademark and a $23.7 million charge in connection with the 2 wood plant closures. Excluding $2.7 million of actual cash charges for the wood plant closings, the remainder of the $36.2 million were noncash items.

During the quarter, we repurchased approximately $25.6 million worth of AFI stock, bringing our total repurchases since the inception of the stock repurchase program to $40 million, representing approximately 9% of shares outstanding. Furthermore, we ended the quarter with a solid balance sheet that affords us the flexibility to invest in our transformational activities.

Now turning to our full year 2017 outlook on Slide 8. While our year-to-date results have been impacted by top line challenges, which we expect to persist through year end, we remain confident in the transformative steps we're taking to achieve full year 2017 adjusted EBITDA within our previously announced outlook range of $60 million to $70 million. We continue to focus on our innovation-based growth initiatives, added efficiencies and improved utilization of our existing facilities and selling infrastructure, as we've discussed today.

We now expect capital expenditures for 2017 to be in the range of $40 million to $45 million compared to $45 million prior. Maintenance CapEx still should be approximately 2% to 2.5% of sales with the balance of the spending budgeted for high-return investments. We anticipate that 2017 will be another year of positive free cash flow. We expect to end the year below our target leverage ratio of 1.5 to 2x EBITDA while preserving ample liquidity to invest in internal projects and other value-enhancing initiatives.

I will now hand the call back to Don for closing comments.

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [5]

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Thanks, Ron. Turning to our medium-term financial goals on Slide 9. Our commitment to achieve a 10% EBITDA margin by 2020 under a range of growth scenarios is unchanged. We believe we are taking appropriate steps to improve our overall business performance. We have a clear strategy with multiple levers to accomplish this goal. As we have discussed today, we remain confident in our ability to drive our strategic priorities in the medium term. We are committed to our growth strategies while also taking the necessary actions to revitalize our legacy business. We are finding new growth opportunities. We are controlling costs. And we are improving the capacity utilization within our plant network through acquisitions, plant conversions and plant closures.

We look forward to executing on all of our objectives as we build upon our strong brand and market leadership to drive shareholder return. We look forward to building additional value through our unique opportunity.

Operator, we are now ready to take questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question is from Keith Hughes with SunTrust Robinson Humphrey.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [2]

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Just in the quarter, can you tell us how much the VCT acquisition added to sales?

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [3]

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Keith, this is Don. Thanks for your question. I assume you're referring to the Mannington Mills, the acquisition of their VCT business?

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [4]

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That's correct, yes.

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [5]

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Yes. What we have shared is that if you looked at the trailing 12 months from March 31, the pro forma impact would be approximately $20 million on an annualized basis. We've also indicated that we have products that range from 20% to 30% margins, and VCT is at the high end of that margin. We are pleased with our progress. As I said, we've had strong results from our integration of that business. And so you can assume kind of the models that you would drive from what I've provided you would be the impact for the portion of the year that has occurred as well as the fourth quarter.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [6]

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Okay. And that 20% to 30%, is that incremental margin?

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [7]

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That's correct. It'd be at the high end of that range, Keith.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [8]

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High end of that range, okay. And the -- one of your slides, you talked about the changes at the Oklahoma facility to produce LVT. Is that flexible LVT that it's producing? And can you give us any feel for what the capacity of that would be?

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [9]

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So for competitive reason, we don't want to disclose what the capacity would be out of that plant. However, as I indicated in my comments earlier, we have a continued focus on deploying and repurposing existing capacity to respond to the growth we're seeing in the LVT market.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [10]

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Okay. Are you able to produce a Rigid Core product yet?

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [11]

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We're -- we'd rather not comment on that right now, Keith.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [12]

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Okay. Let's see, what else. And the -- and can you give us any sort of feel for, on a run rate basis or anything of that nature, where LVT as a percentage of Resilient or total company sales?

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [13]

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We, I guess, have -- we gave some indication last year at the -- on our fourth quarter earnings call as to where we stood. We're continuing to be pleased with the shift in our portfolio, but we haven't disclosed any new numbers on that. Hopefully, we'll be able to give you some insights on that with our fourth quarter earnings call.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [14]

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Okay. And I guess, around LVT, you said several things about pricing and the -- and of course, particularly around sheet vinyl. But how does LVT pricing look at...

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [15]

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So, Keith, the -- I'll maybe turn the call over to -- or the question over to Ron. I'd like for him to share some with you as well. But overall pricing, we see kind of a -- overall sort of same trend we've seen in pricing on LVT. I would say on the more commodity-type products, I would typify it as slightly declining, but we have not seen an acceleration in that pricing environment as, I guess, has been speculated on a number of different calls and conversations that we have had. We're very focused, frankly, on the -- what we believe is the next kind of wave of the LVT segment, which is the Rigid Core or WPC categories. We've had significant launches both in our Rigid Core elements as well as we're very excited about the next-generation product in the category, which we call Prism. So those are -- those products are coming in at kind of new echelons of pricing given the performance and benefits that those products provide. Ron, anything you'd like to add to that? Or did I take all of your gunpowder?

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Ronald D. Ford, Armstrong Flooring, Inc. - Senior VP & CFO [16]

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I think you covered it beautifully.

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Operator [17]

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Our next question is from Mike Wood with Nomura Instinet.

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Michael Robert Wood, Nomura Securities Co. Ltd., Research Division - Senior Equity Research Analyst [18]

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First, just to start with, it looks like about 8 weeks left in the year, wondering if you could talk about what you need to hit the high end and what would happen for you to hit the low end of your EBITDA range for the year. I think it's about $0.5 million or $10.5 million of EBITDA implied for the fourth quarter.

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [19]

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Yes. Thanks, Mike. We -- I think we have a firm grasp on all levers with the exception of really understanding what happens on the top line. We've seen the market. It feels like it slowed a bit looking at the other information that's out from competitors in the marketplace, that, that seems to be the case. There was, as well, a little bit of noise, we think, from the weather, the hurricane impacts both in Texas and Florida. So it's really, I think, the variability of where we land here will be largely driven on how successful we are on driving the top line.

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Michael Robert Wood, Nomura Securities Co. Ltd., Research Division - Senior Equity Research Analyst [20]

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Great. And then you're doing a good job growing the LVT business. If we were to look at your Resilient business ex-Mannington and then your wood, it looks like volumes are down kind of mid- to high single digits. First on that, I was wondering if you could parse out how much of the decline is from the product shift, specifically, that you called out from the major strategic customer.

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [21]

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Yes. So the strategic customer shift is -- we're approaching kind of the anniversary of that. So that's been -- I think it will sunset here in the fourth quarter, approximately. And so to your point, Mike, what we're seeing is we're very pleased with our progress in LVT. Obviously, very pleased with the synergies that we're grabbing and the growth we're grabbing with the VCT acquisition. But the pressure remains on the core kind of residential sheet category. And so we're taking a number of steps. Number one, you saw that we've introduced the Diamond 10 Technology on to residential sheet. That's to give us some differentiation in the marketplace. We're driving our StrataMax product, which has superior performance characteristics, largely in the property management categories, but it's also applicable across all end markets. And then very excited with the ability to convert some of that capacity in Stillwater, Oklahoma to be targeted towards LVT. So that gives us better capacity utilization and cost profiles for the product, for all products coming through that plan. And then lastly, we're being very aggressive in going after those business opportunities that we lost in the last line reviews, so we're -- we are still the leader, and we intend to continue to drive growth in that part of our business.

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Michael Robert Wood, Nomura Securities Co. Ltd., Research Division - Senior Equity Research Analyst [22]

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Okay. And just finally, is there anything you could share with us, maybe unlike the Diamond 10, for example, that gives us a sense of how that's impacting your performance versus the market. I mean, are you -- is it too early to see that Diamond 10 help you gain share within residential sheet vinyl or even the hardwood products or the engineered products? Just some numbers to maybe quantify how that is impacting you as it gets rolled out.

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [23]

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Yes. Well, we're certainly seeing the impact in the LVT category. We've been in the market now for over a year now on the commercial side and a little bit longer on the residential side. As well, in addition to driving, we believe above shift market share growth, we're also able to capture a price premium because of that technology. That's been cascaded following LVT on to both of our commercial sheet products as well as our residential sheet. On the residential sheet side, that's the only category where we did not adjust pricing because of the technology, again, trying to use that as a differentiator in the marketplace, kind of equal price but better benefits, better performance would be the approach. And it's way too early. We just launched the paragon of wood products into the market, but again, there, it's targeted at our premium end of the solid hardwood offering and at a price premium because of the performance characteristics. And as I've indicated, we're -- our intentions are to eventually get Diamond 10 across the entire portfolio, and we're just about there.

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Operator [24]

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Our next question comes from Alvaro Lacayo with Gabelli & Company.

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Alvaro Lacayo, G. Research, LLC - Research Analyst [25]

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I have a -- start my first question, I guess, with the announcement of the repurposing of the plant in Oklahoma to do more LVT. Just from an overall strategic picture, maybe if you could highlight what kind of opportunity exists in repurposing maybe other manufacturing plants within the Resilient segment? And also, maybe if you could just provide some context around what exactly you did to repurpose -- partially repurpose this plant. How challenging was it? How long did it take? And any color on that would be very helpful.

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [26]

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Well, yes, certainly. So first of all, to your first part of your question, we are continuing to invest heavily into our innovation and technologies. And where we can redeploy existing capacity or capabilities to accomplish that, that's clearly core to our overall strategy. I won't go into any greater details, but our road map would include other projects beyond Oklahoma that have similar sort of profiles and opportunities for us. The -- we fast tracked the Oklahoma -- the Stillwater, Oklahoma project. I'm really proud of our technology team and all of the technical resources who are involved in this process where they were actually able to adapt a unique capability of that sheet plant that I don't believe exists elsewhere, certainly in North America. I believe in the world perhaps. And as a result of the kind of the breakthroughs both on the materials science side as well as being able to adapt our manufacturing process, we were able to get that product launched in a fairly short time window, relative to certainly anything that would be done as a greenfield or brownfield-type introduction.

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Alvaro Lacayo, G. Research, LLC - Research Analyst [27]

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Got it. Okay. And then on the mix front, mix and other impact on EBITDA, specifically in Resilient and maybe some commentary around wood. If Resilient is being driven by LVT and VCT, especially the acquisition, which carry better incremental margins, I was just wondering why there was a negative on the mix and other, and maybe highlight some of the drivers of that.

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [28]

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Yes. I'll let Ron answer that question.

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Ronald D. Ford, Armstrong Flooring, Inc. - Senior VP & CFO [29]

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Alvaro, this is Ron. The -- to a great extent, mix is both a function of the, obviously, the respective margins of the products sold but also mix, and this particular quarter was affected by the volume of sourced product versus manufactured product.

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Alvaro Lacayo, G. Research, LLC - Research Analyst [30]

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Got you. Okay. And then on -- just on the M&A front and capital deployment, I mean, what are you seeing as sort of the environment today? I mean, historically, flooring has been a market that is consolidated. Just wondering what you're seeing from an activity standpoint out today, and then -- and what kind of conversations are out there around the potential opportunities to better improve the footprint of the M&A?

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Ronald D. Ford, Armstrong Flooring, Inc. - Senior VP & CFO [31]

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That's a very good question, and we certainly believe that this is a market that is ready for some consolidation. There are very few opportunities out there that we don't get an opportunity to look at, and we'll certainly continue to keep our eye open for opportunities to deploy capital for the benefit of the shareholders.

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [32]

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Yes. And our focus continues to be really not on a transformational acquisition, but really acquisitions that help enable our growth strategies and drive those growth initiatives.

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Alvaro Lacayo, G. Research, LLC - Research Analyst [33]

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Got it. Okay. And then, just my final question, on the impairments, again, the $26 million in plant impairment. There was also a $12 million impairment related to the Bruce brand. Can you just -- was that previously announced as well? Or was there some -- I mean, what were your thoughts going into that in driving that impairment?

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Ronald D. Ford, Armstrong Flooring, Inc. - Senior VP & CFO [34]

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This is Ron. There have been -- in the past, of course, we look at our intangible assets periodically. At least annually, we're obliged to evaluate our prior investment in any intangible assets. And as we decided to close the 2 wood plants to balance our capacity portfolio, we also decided simultaneously to evaluate the carrying value of the physical and the intangible assets. We believe our intangible assets are valued appropriately. We concluded that under GAAP rules, we should conservatively tie the value of the Bruce brand to the trend in wood sales and adjust it accordingly.

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Operator [35]

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Our next question is from Scott Rednor with Zelman & Associates.

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Scott L. Rednor, Zelman & Associates LLC - VP of Research [36]

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I think everything on LVT has been asked, so I just want to switch to the wood side. Can you maybe talk about the ongoing shift there that you guys called on the retail channel? And I was hoping you could maybe tie that in to some of the specialty foreign players that are popping up, Don. How do you see that maybe changing or not changing the market?

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [37]

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Yes. So I think kind of to paint the landscape that we see, we are the leader in the wood category. A significant share leader, certainly, on the solid side and less of a leadership role on the engineered side. So I really have to break it into those 2 kind of vectors, if you will. On the solid side, we continue to be pleased with the progress we've made in driving the overall profitability and attractiveness of that category. And as evidenced by the recent launch here of the paragon Diamond 10 product, it's an area we're continuing to invest our resources into both from a style and design but also from a performance standpoint. On the engineered side, I will tell you the dynamic is very different. That category is very exposed to Asian imports, and I think the latest research that we have shows that at about 46% now of engineered floors are coming in from Asia. We source from Asia today, and our strategy is to shift more of our volume to a sourced model given the relative value that can be driven through that piece. We've also discussed the possibility of licensing the Armstrong brand to our distributors and to select manufacturers in Asia to be able to be very competitive on those opening price point categories where the margins are so thin. So at this point, we're focused on growing our solid business. We are still focused on, at least, a large part of our engineered portfolio and improving the profitability of that before we really lean in on growth.

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Scott L. Rednor, Zelman & Associates LLC - VP of Research [38]

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And then on the capital side, the adjustment this year, I think you guys were previously looking for $45 million, and now it's $40 million to $45 million. Can you guys just maybe elaborate? Is there anything that's timing or productivity?

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Ronald D. Ford, Armstrong Flooring, Inc. - Senior VP & CFO [39]

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This is Ron. All of our investment decisions are made with the combination of our channel partners, consumers in the market and our shareholders in mind. And we'll keep -- we'll continue to do that. We'll invest very carefully in evaluated investments, in innovation and technology. We'll take advantage of opportunities and returns to shareholders. We expect our CapEx to be largely in line with our depreciation as we invest wisely in our growth.

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [40]

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And I would say that -- just to add to that, we are not constraining our capital spend, but we are always seeking to be more efficient with the capital spend. And so as we've been able to do things like the repurposing of the capacity in Stillwater, that came in at a capital expenditure that was much lower than what we are -- we're looking at to drive greenfield-type productivity or capital there. So we'll continue to use productivity to -- and creativity and floor capital, if you will, in our process.

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Scott L. Rednor, Zelman & Associates LLC - VP of Research [41]

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And then maybe just one quick one on the model, along those lines, if I add back the $18.7 million of accelerated depreciation, it would still imply D&A stepped up to around $17 million. But to get to your CapEx line, it'd have to be something much lighter than that. What's the delta there?

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Ronald D. Ford, Armstrong Flooring, Inc. - Senior VP & CFO [42]

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I just want to make sure I understand your question. The delta between CapEx and depreciation?

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Scott L. Rednor, Zelman & Associates LLC - VP of Research [43]

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Well, I think you just alluded to that your CapEx should be running close to your D&A of, call it, $45 million. But if you add back from the $36 million of D&A that you guys reported, the $19 million of accelerated, it would still leave you with like $17 million, which is significantly higher run rate than where you guys have been running.

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Ronald D. Ford, Armstrong Flooring, Inc. - Senior VP & CFO [44]

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Yes. I think you need to look at it on a year-to-date basis versus the quarter.

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Scott L. Rednor, Zelman & Associates LLC - VP of Research [45]

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So I'll step down going forward?

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Ronald D. Ford, Armstrong Flooring, Inc. - Senior VP & CFO [46]

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Our expectation is if you look at it at CapEx over the calendar 2017, you would -- you should expect to see capital expenditures approximately equal to depreciation and amortization, excluding any accelerated depreciation that we're taking on the 2 plant closures.

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Operator [47]

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Our next question is from Dillard Watt with Stifel.

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Dillard Watt, Stifel, Nicolaus & Company, Incorporated, Research Division - Associate [48]

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I wanted to talk a little bit about 2018. I'm sure you'll give a little bit of guidance here after you report the fourth quarter, and I don't need anything in terms of the numbers at the moment. But was just curious if you might walk through all the puts and takes on margin or maybe the puts and takes on what would get you to the higher end or lower end of your incrementals. Obviously, we have the acquisition that's still anniversary-ing, continuing to ramp up LVT capacity. I think raw materials are probably going to be a headwind. Could you walk through some of that for us?

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [49]

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Yes, Dillard. This is Don. The items and kind of building blocks we have disclosed at this point in time, you had a number on model, just make sure I click through the list, we had a restructuring that was completed for all practical purposes at the conclusion of the second quarter. And we had sized that at a $6 million to $7 million full year run rate. So -- and that was completed midyear, if you will. We had the 2 wood plants, which we had just completed their closure. That would be $8 million to $10 million running there, and so there's just a very small part of that, that will impact 2017 here for the last kind of 2 months of the year. We did complete the VCT acquisition and what we indicated there was that it would be fully accretive beginning in 2018. That was pro forma top line of about 20% flowing through at about 30%, is what we disclosed there. We haven't quantified any of the product launches that we've discussed toward the LVT repurposing in Stillwater. But those are against the backdrop of some very challenging markets, and we haven't quantified those as well. So those are kind of the positive building blocks. And then we continue to face the headwinds on the legacy parts of the business as we see the consumer preference shifting from some of these legacy categories into some of the faster-growing areas like LVT.

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Dillard Watt, Stifel, Nicolaus & Company, Incorporated, Research Division - Associate [50]

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And raw materials, meaningfully different next year year-over-year as we stand here at -- in early November.

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [51]

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The -- we haven't provided any outlook guidance. I will tell you, we are seeing some inflation; and fortunately, thus far, we've been able to offset that with manufacturing productivity as well as we indicated we took 2 price increases on the commercial resilient side, which we think we'll see good realization on. Unfortunately, on the residential resilient side of the equation, it's much harder to realize price, and I would say that same situation applies to the wood business in general as well.

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Dillard Watt, Stifel, Nicolaus & Company, Incorporated, Research Division - Associate [52]

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Okay. And lastly just -- so on the Oklahoma City restructuring there, is that pretty much an immediate benefit in terms of margins? Or did you -- do you expect to endure a little bit of a short-term pain for the long-term benefit?

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [53]

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So we've just launched the product, so there will be a ramp to it. And we are focused on a controlled rollout of the products to allow the plant to keep service levels in inventory where they need to be. So I would say nothing extraordinary there but -- that the plant is up and running the products as we speak. And just for correction, it's Stillwater, Oklahoma. I'm sorry if I implied Oklahoma City.

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Operator [54]

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And now we have a follow-up question from Keith Hughes with SunTrust Robinson Humphrey.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [55]

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Just kind of going back to D&A, can you tell us what D&A is going to look like on a quarterly basis moving forward, by segment, if possible?

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Ronald D. Ford, Armstrong Flooring, Inc. - Senior VP & CFO [56]

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We haven't broken that out by segment. I'll say that -- I'll reiterate, Keith, that our depreciation and amortization, excluding the accelerated depreciation that we're taking on the 2 plant closures, should be reasonably consistent across all quarters, and don't expect anything unusual in the second -- in the fourth quarter.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [57]

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Okay. So historically, D&A has run about $11 million, $12 million. Is that what you would expect moving forward?

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Ronald D. Ford, Armstrong Flooring, Inc. - Senior VP & CFO [58]

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Yes.

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Operator [59]

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Ladies and gentlemen, we have reached the end of our question-and-answer session. I would like to turn the conference back over to management for closing remarks.

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Donald R. Maier, Armstrong Flooring, Inc. - President, CEO & Director [60]

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Thank you, operator, and thank you, everyone, for joining us today. We truly appreciate your interest in Armstrong Flooring, and we look forward to updating you on future calls. Have a great day. Thank you.

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Operator [61]

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Thank you. This concludes today's conference. You may disconnect your lines at this time. And thank you for your participation.