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Edited Transcript of BLD earnings conference call or presentation 6-Nov-18 2:00pm GMT

Q3 2018 TopBuild Corp Earnings Call

DAYTONA BEACH Nov 8, 2018 (Thomson StreetEvents) -- Edited Transcript of TopBuild Corp earnings conference call or presentation Tuesday, November 6, 2018 at 2:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Gerald Volas

TopBuild Corp. - CEO & Director

* John S. Peterson

TopBuild Corp. - CFO & VP

* Robert M. Buck

TopBuild Corp. - President & COO

* Tabitha N. Zane

TopBuild Corp. - VP of IR

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Conference Call Participants

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* James A. Morrish

Evercore ISI Institutional Equities, Research Division - Analyst

* Justin A. Speer

Zelman & Associates LLC - MD of Research

* Keith Brian Hughes

SunTrust Robinson Humphrey, Inc., Research Division - MD

* Matthew Schon McCall

Seaport Global Securities LLC, Research Division - MD and Furnishings & Senior Analyst

* Philip H. Ng

Jefferies LLC, Research Division - Equity Analyst

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by. Welcome to the TopBuild Earnings Conference Call. (Operator Instructions)

I would now like to turn the conference over to Tabitha Zane. Please go ahead.

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Tabitha N. Zane, TopBuild Corp. - VP of IR [2]

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Thank you, and good morning. On the call today are Jerry Volas, Chief Executive Officer; Robert Buck, President and Chief Operating Officer; and John Peterson, Chief Financial Officer.

Please note, we have posted senior management's formal remarks on the Investor Relations section of our website at topbuild.com.

As shown on Slide 2 of today's presentation, many of our remarks will include forward-looking statements concerning the company's operations and financial condition. These forward-looking statements include known and unknown risks, including those set forth in this morning's press release as well as in the company's filings with the SEC. The company assumes no obligation to update or supplement forward-looking statements that become untrue because of subsequent events.

In addition, we will also discuss non-GAAP financial measures, which can be reconciled to the most comparable GAAP measures in a table included in today's press release. Please turn to Slide 3.

I will now turn the call over to Jerry Volas.

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Gerald Volas, TopBuild Corp. - CEO & Director [3]

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Welcome, everyone, and thanks for joining us today. Before discussing our third quarter results, I'd like to make a few comments regarding our view of the U.S. housing industry, both short and longer term. We recognize that higher interest rates and builder cost pressures are driving consumer affordability issues, leading some to believe that the current housing recovery is over. Without a doubt, the current consumer affordability issues are real. However, there are a number of mitigating factors that would strongly suggest that this is a short-term issue causing only a pause in what we believe will continue to be a very strong environment for new construction in the U.S.

While interest rates have increased and may do the same in 2019, they are still far below historical levels, that for many years lived in double digits. Builders are acutely aware of the shortage of lower price point housing and the opportunity that presents. The general economy remains strong and wages are rising, all of which will help more consumers deal with the cost of housing. And then finally, there's essentials to considerable long-term supply and demand fundamentals. Robust household formations, relatively low new-home inventory and a current housing starts levels still below historical standards even as we approach year 9 of this recovery. All of these factors support several more years of increasing levels of new construction.

Recognizing that TopBuild's work on a job site lag starts by 2 to 3 months, recent starts data, while below expectations, were still mid-single digits higher than a year ago, pointing to continued growth for TopBuild in the industry. We've always said that in this slow trajectory of housings recovery, there could be some temporary pauses. And it appears as though we're seeing one. But long term, we remain extremely bullish.

Families in this country want to be homeowners. And builders in this country are smart businesspeople. We firmly believe builders will pivot to meet this pent-up demand and build the homes these families want and can afford. We also are highly confident those buyers waiting on the sidelines will eventually adjust their mindset to a higher interest rate environment.

We recognize we can't control the macroenvironment. What we can control is how we operate within it. And our focus remains on growing market share, improving operational efficiency and expanding margins.

Turning to Slide 4. You could be rest assured we will continue this focus and leverage our national scale, which we believe gives us a significant competitive advantage, both from a material and a labor standpoint. Our unique and diversified business model that includes installation and distribution in both the residential and commercial markets, offers multiple avenues for growth, giving us the ability to perform well in any environment.

With that said, we are pleased to report another strong quarter. While John and Robert will follow with further details, I will speak to a few of the highlights. As you can see on Slide 5, third quarter sales were up 32.4%, with same branch sales driven by price and volume gains contributing 10.2% of this growth. For the first 9 months of the year, total sales increased 24.2%, 9.2% on a same branch basis, outpacing lag housing starts of approximately 5%.

Adjusted earnings per share for the third quarter was $1.23 compared to $0.83 a year ago. Adjusted EBITDA margin improved 120 basis points to 13.0% and the overall incremental EBITDA margin was 16.9%, 21.4% for same branch. We again saw higher material costs in the quarter with a third fiberglass cost increase going into effect in late August. The good news is we achieved higher selling prices in the quarter, allowing us to pass-through a sizable portion of these increased costs, contributing to a 30 basis point improvement in gross margin.

In each of our markets, we continue to work towards striking the optimal balance and timing between price and volume. In addition to the important cost price relationship, this enables the strong leveraging of fixed cost, an important lever in our overall margin improvement.

USI integration is right on track, both from the standpoint of projected cost synergies as well as the blending of the outstanding USI operations team into the TopBuild organization. I could not be more pleased with the first-rate effort coming from the multifunctional team that is driving the integration of this transformational acquisition. We are further strengthening our best-in-class organization, and no other installer or distributor can match our size, scale and capabilities, giving us a significant competitive advantage.

While acquisitions remain our #1 choice for capital allocation, we were pleased to announce the $50 million accelerated share repurchase, which we anticipate executing within the next several days. This program reflects management's and our Board's confidence in the long-term potential of TopBuild and our strong future cash flow position.

Let me now turn the call over to John Peterson for further insight into our financial performance.

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John S. Peterson, TopBuild Corp. - CFO & VP [4]

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Good morning, everyone. As Jerry noted, TopBuild continues to perform at a high level, and our financials clearly reflect our focus on profitable growth.

Starting on Slide 6. Revenue saw a 32.4% increase in the quarter, with $647.3 million driven by increased sales volume and selling price growth of 6.2% at combined TruTeam and Service Partners, and $108.5 million of revenue from companies acquired since January 2018.

Revenue for the first 9 months of 2018 rose 24.2% to $1,745,000,000, including $211 million from acquisitions. Gross margin expanded 30 basis points in the third quarter to 25%, a direct result of increased selling prices and USI acquisition synergies, which more than offset the negative impact of higher material cost.

Adjusted operating profit grew 38.2% to $69.5 million with a corresponding margin improvement of 40 basis points. Operating margin improvement was driven by increased selling prices, USI acquisition synergies, volume growth and strong SG&A cost control, partially offset by higher material costs as well as higher amortization expenses prior to acquisition.

Third quarter 2018 adjustments totaled $3.2 million, including $1.6 million related to acquisition expenses and $1.6 million of rationalization charges, a majority of which were tied to the acquisition of USI.

Adjusted EBITDA for the third quarter was $84.3 million compared to $57.6 million in 2017, a 46.4% increase. And our EBITDA margin improved 120 basis points to 13%. On a same branch basis, adjusted EBITDA increased 18.5% to $68.2 million, and our same branch EBITDA margin was 12.7%. This expansion continues to highlight the attractiveness and scalability of our financial model, as well as the strong execution by our operators in the field and our team in the branch support center.

Despite considerable inflationary headwinds, the business continues to deliver strong margin expansion. In the third quarter, our drop-down to adjusted EBITDA margin was 16.9% in total and 21.4% on a same branch basis. For the first 9 months of 2018, adjusted EBITDA grew 43.8% to $200.8 million and adjusted EBITDA margin was 11.5%, a 160 basis point improvement from the first 9 months of 2017.

Our drop-down to adjusted EBITDA margin in the first 9 months was 18% in total and 25.8% on a same branch basis. Third quarter SG&A as a percent of revenue was 14.8% compared to 14.6% in the third quarter of 2017, slightly higher due to the nonrecurring expenses related to the USI acquisition.

Turning to Slide 7. Adjusted net income for the third quarter was $44 million or $1.23 per diluted share compared to $29.7 million or $0.83 per diluted share. For the 9 months of 2018, adjusted net income was $107.1 million or $2.99 per diluted share compared to $71.6 million or $1.94 per diluted share.

As you can see on Slide 8, working capital as a percent of sales for the trailing 12 months was 11.3% versus 10% a year ago. This increase was primarily due to factors driven by the acquisition of USI, as well as higher inventory levels at Service Partners. In the case of USI, there are 2 factors impacting working capital. First, USI's accounts payable terms were notably less favorable than TopBuild's. We continue to transition USI's suppliers to TopBuild's terms and payment practices and expect completion of that in the fourth quarter. Second, the higher mix of installation versus distribution in USI's model carries higher working capital requirements, consistent with TopBuild's base insulation business.

Accordingly, we have a year-end target for TopBuild working capital as a percent of last 12 months pro forma sales in the range of 10% to 10.5%. CapEx for the quarter was $14.9 million, and for the first 9 months of the year, was $42.4 million, both within our targeted long-term range of 2% to 2.5% of sales.

Moving to Slide 9. We finished the quarter with total liquidity of $284.2 million, including cash of $93.5 million and accessible revolver of $190.7 million. Operating cash flow was $54.6 million for the quarter. Our pro forma net leverage multiple at the end of the third quarter was a conservative 2.31x. By year-end, we fully expect to be at the low-end of our net leverage target of 2x to 2.5x, inclusive of the $50 million ASR. Our effective tax rate was 25.2% for the third quarter, below our long-term guidance of 27%, primarily due to the impact of event benefit relating to share-based compensation treated as a discrete item in the quarter.

While Robert will talk about where we are in the USI integration process, from a financial standpoint we continue to be pleased with USI's results. Of the $108.5 million of acquisition revenue this quarter, USI contributed $100.3 million. In addition, EBITDA margin from acquisitions was a strong 14.8%, of which USI was the largest contributor. We remain very confident we will realize at least $15 million in cost saving synergies, and continue to estimate the onetime cost to achieve these synergies as being in the range of $10 million to $12 million.

Moving to 2018 annual guidance on Slide 10, we've narrowed and raised our revenue and adjusted EBITDA outlook, raising the low-end of revenue and adjusted EBITDA by $25 million and $9 million, respectively, and the high end of revenue in adjusted EBITDA by $5 million and $2 million, respectively. Robert will now discuss operations.

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Robert M. Buck, TopBuild Corp. - President & COO [5]

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Thanks, John, and good morning, everyone. [That goes] Jerry and John's remarks, TopBuild is performing very well. Our quarterly 9 months results demonstrate our success in driving profitable growth and focusing on operational excellence.

Looking at TruTeam's results on Slide 11. Third quarter sales increased 39.4%, with a big boost from USI's installation branches. Same branch sales were up 11.4%, driven by strong volume growth of 6.5% and a 4.9% increase in selling prices. Despite increases in material costs and amortization expense, TruTeam's adjusted operating margin improved 90 basis points from a year ago to 13.2%. Volume leverage was a key contributor towards this margin expansion, and results were also favorably impacted by higher selling prices. Our exceptional volume performance and improved operating margin are a testament to great operational execution by our folks in the field.

Moving to Slide 12. At Service Partners, sales were up 17.6%, primarily driven by a 7.6% increase in selling prices, mainly on fiberglass, and revenue from USI's and ADO's distribution branches.

Adjusted operating margin was 9.1%, down 100 basis points from third quarter 2017, primarily as a result of significant increase in the cost of gutter coil due to recent tariffs and higher freight costs. As we stated in the past, realization of selling price increases can lag up to 1 quarter. We are confident we will fully offset the higher cost of gutter coil and freight cost with higher selling prices over the next few months.

Turning to Material on Slide 13. Fiberglass capacity in pricing remains a fluid situation. We've seen 3 cost increases this year, though it doesn't appear the third increase, which took effect in late August, early September, was as successful as the earlier 2. In addition, stone manufacturers are performing line maintenance as we end the year, so material availability will continue to be a watch point for the industry. The quality and reliability of our supply chain is a strong competitive advantage for TopBuild.

One silver lining to these fiberglass cost increases is the gap between fiberglass and spray foam continues to narrow. We've seen very strong growth in our spray foam business at both TruTeam and Service Partners, 39% and 33.6% year-to-date, respectively. On a same branch basis, spray foam is up 18.6% year-to-date at TruTeam, and 22.7% at Service Partners. We expect spray foam's growth to remain strong, and this is an area of expansion for both TopBuild businesses.

Our commercial business also reported a solid growth in the quarter, up 35.6% in total and up 16.6% on a same branch basis. Year-to-date, on a same branch basis, commercial revenue is up close to 9%. As a reminder, this business is an important component of our growth strategy and accounts for slightly more than 20% of our total revenue. We had a solid backlog of projects and our dedicated commercial group continues to forge relationships with large general contractors across the country.

Turning to the USI acquisition on Slide 14. We continue to exceed our integration milestones and the business is performing ahead of our expectations. All 33 core USI locations are now on our TopBuild business systems. Back office and corporate functions have been consolidated, including finance, HR, IT and Risk. We welcomed over 12,000 new customers, added over 1,000 sellers and integrated more than 800 trucks into our network. Our supply chain is integrated. We are efficiently sharing labor materials, and we are approaching our 2019 budgeting process as one team and company.

This quarter, we will begin our branch optimization efforts, which should be completed by the end of 2019. We remain confident we will exceed the $15 million of cost saving synergies within 2 years of close. Our ability to execute very well on our acquisition strategy, including the integration of the transformative USI acquisition, is unparalleled in the industry.

I do want to take a minute to build upon Jerry's comments regarding the current business environment. I am constantly in the field working directly with customers and suppliers. Our customers, both builders and contractors, are very bullish regarding 2019 volume and backlogs. Their outlook for new communities and new starts in 2019 is positive and upbeat. While this optimistic outlook bodes well for TopBuild, it is important to note that even if there is a short pause in housing starts, our business model in both installation and distribution, will perform well. Our team manages the business with a constant mindset of driving improvements and achieving operational excellence. We still see plenty of opportunities operationally to continue our track record of producing improved financial results. We have the best and most-talented operators in the field and a dedicated and experienced group at our branch support center. Our entire team remains focused on continuing to deliver strong results and creating shareholder value in every operating environment.

In summary, we are focused and consistently delivering on our strategy of achieving profitable growth through a balance of volume and price. We are driving operational improvements and executing extremely well at the local level and this focus on execution will continue. As always, I thank our entire TopBuild team for their hard work, energy and unyielding focus on delivering continued great customer service, strong bottom line results, while operating safely every day.

I'll now return the call over to Jerry for closing remarks.

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Gerald Volas, TopBuild Corp. - CEO & Director [6]

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Thanks, Robert. As our results indicate, we continue to execute well and generate excellent top and bottom line performance despite the headwinds resulting from an unprecedented number of material cost increases this year. Robert and his team have done an outstanding job managing these rising material costs and achieving selling price increases. Every Branch Manager and sales rep throughout our organization is focused on profitable growth, and they understand the important balance between price and volume. Evidence of that this quarter is the 30 basis point gross margin improvement and same-store incremental EBITDA margin of 21.4%. We are also successfully executing on our capital allocation strategy. Since August 2016, we completed 10 acquisitions, deploying almost $600 million of capital, and these companies have been successfully integrated and are performing very well.

Since 2016, we've also repurchased over $170 million of our common stock. With a strong balance sheet and moderate leverage, acquisitions remain an important part of our growth strategy.

And finally, looking at the macroenvironment, while the housing recovery is currently showing some signs of growing pains, we believe that the fundamental supply and demand factors will drive healthy levels of new construction for several years. The further good news is that our unique diversified business model and our seasoned, cycle-tested management team will continue to perform well in any environment.

Operator, we're now ready for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Phil Ng of Jefferies.

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Philip H. Ng, Jefferies LLC, Research Division - Equity Analyst [2]

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I appreciate you providing some good color in how to think about housing longer term. But you did mention there's some signs of pausing. Have you seen any your backlogs come in? How are your conversations been with your customers? And as we kind of think about '19 and the next few years from a growth standpoint, how should we think about the volumes in your business?

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Gerald Volas, TopBuild Corp. - CEO & Director [3]

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Yes, Phil. I would say that as we talked about -- we're very optimistic about what's going to happen with start. I mean, there's a number of people that have forecasts out there, everything from we're going to be down or we're going to be up and everything in between. Our point of view is that it feels good out there still. Robert talked about his interaction with suppliers with customers, I mean, he and his team are out there all the time. And right now, we can only say that it looks busy. It feels busy. People out there are optimistic. And you can tell from our introductory comments that we are, too. So yes, I guess, I would say to you that we feel pretty good about what 2019 is going to hold. And in our business model, we've always talked about how diversified we are. We've got a number of levers to push for growth. So we're going to turn the corner in 2019 with a very positive attitude.

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Philip H. Ng, Jefferies LLC, Research Division - Equity Analyst [4]

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Got it. That's helpful. And then just on that note, you mentioned you got a few levers to push to drive growth. Can you provide a little more color on that? Is that kind of pivoting the commercial? Or more adjacent -- targeting more adjacent markets?

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Gerald Volas, TopBuild Corp. - CEO & Director [5]

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Well, we've got -- we do have the commercial initiative, which is growing faster than the residential. And so that's true. We also have the distribution business, which offers -- sometimes operates on a bit of a different cycle than does the residential. So that's a piece of the diversity. And you're right. From a product standpoint, we've been very disciplined about how we expand the product categories that we install for builders, but we are looking at that right now, and certainly, from the acquisition of USI, what they have brought to us, in addition to a great insulation installer and distributor, but they also do some work on some product categories that we have not historically been that big in. That being good looking window installation business and the glass business they have. So that gives us an opportunity to really look and understand these businesses better, and to understand whether those could potentially be an area of product adjacent growth for us as we go forward into 2019. So there's a lot on the table that we feel really good about as we get into 2019. And as Robert and John had mentioned, over top of all of that, as we look down to the income statement, we are all about driving profitable growth. John Peterson loves to use the terminology empty calories, that we don't eat empty calories here. And so our maniacal focus on operational improvement has been a big piece of the puzzle here as we respond and it's truly been that and just the top line growth that has enabled us to leverage fixed cost. I mean, those are the 2 things that have really driven our performance. And will continue to drive it.

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Philip H. Ng, Jefferies LLC, Research Division - Equity Analyst [6]

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Got it. And on that note, I mean, your incrementals have been really solid this year in light of higher [raws] and then actually gross profit if my model's updated correctly. It looks like it's up marginally, which is pretty incredible. But as you think about '19 and given another big increase in the marketplace by the big fiberglass manufacturers, how are you kind of thinking about price cost? And has it been a little tougher for you to get price? Because it seems like at least one of your competitors called a little more pricing fatigue in the market?

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John S. Peterson, TopBuild Corp. - CFO & VP [7]

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Yes, Phil. This is John. So I think really our answer really remains unchanged from where it's been in terms of that. We feel good, we found certainly the capability to pass on significant inflationary cost this year and if we feel good on a go-forward basis, in both segments, the ability to do that. I think the way we run this business from top to bottom, we focus on, again, profitability, we look at individual branches' performance. We are selling in the case of TruTeam, a bundled solution of labor material. And keep in mind, even in a pause environment, labor is going to remain very critical to builders. And as we discussed before with investors, we think our model with a national footprint, great flexibility across our footprint, everybody integrated into a core ERP system, we were able to ship that labor around pretty seamlessly day-to-day and we do it all the time. So I think on a go-forward, whether it's a pause or whether it's, again, an increased inflationary, we feel great about the ability to continue to pass-through that cost. And we'll be on ... obviously, our third quarter guidance here reflects what we expect this year will be added the fourth quarter time frame sometime in February with our 2019 guidance.

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Philip H. Ng, Jefferies LLC, Research Division - Equity Analyst [8]

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Got it. That's really helpful. Just let me squeeze one last one in. With loosefill still very tight and cellulose becoming potentially more compelling as an alternative with recycled fiber prices down, are you looking at that as an alternative? And have you seen some of that capacity come back into the market?

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Robert M. Buck, TopBuild Corp. - President & COO [9]

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Phil, this is Robert. So cellulose, we do a significant business in cellulose. I'll speak to 2 sides, one from an install perspective, we've seen that business grow this year, given that's a great alternative to loosefill fiberglass. And then probably something a lot of folks don't know, we manufacture cellulose on a Service Partners side of business. We're a major manufacturer of cellulose. We manufacture a fair amount of what we install actually. So again, just back to the model, we have a TopBuild relative to distribution, in this case, manufacturing cellulose and installing it. Great alternative, we see the business grow, we think we'll continue to see the business and we got a really strong supply chain to help support that.

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Operator [10]

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Our next question comes from the line of Keith Hughes of SunTrust.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [11]

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I guess my question really stems into TruTeam. You did have -- excuse me, into Service Partners, you did have some compression there, on the [gutter metal]. Were there other -- any other cost, products you distribute that were unrealized, increases that were unrealized in the quarter as well?

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Robert M. Buck, TopBuild Corp. - President & COO [12]

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Keith, this is Robert. So gutter coil for sure, and really the impact there was just month after month after month. Several months continuous where we had material cost increases. But as I mentioned, we feel confident of our ability to recover that, and a little bit of lag here. The only other area that I would mention is freight cost. I'm sure you've heard that freight cost increased significantly as well, and we've taken actions to recover that as well. So those will be gutter coil and freight would be the two that I'd point to for sure on the distribution side.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [13]

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And you made an interesting comment on the spray foam, gave us the growth numbers there that the gap is narrowed with I think you're referring to fiberglass. Where in your business does that stand right now on a quoted job?

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Robert M. Buck, TopBuild Corp. - President & COO [14]

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Relative to -- relative to kind of a take per unit if you looked at it from a job perspective. It's still about 2x the take per unit whenever you bid a job, relative to spray foam versus standard fiberglass install. If that answers your question.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [15]

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That's just material, that doesn't include the labor, which is roughly equivalent, right?

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Robert M. Buck, TopBuild Corp. - President & COO [16]

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Inclusive of labor and material.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [17]

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Okay. And I guess, final question. You referred to the last fiberglass increase coming in, the last increase being not really the greatest realization. Do you anticipate before this next increase in January, which there's several letters out now, do you anticipate distribution prebuying ahead of that, and maybe not just you, but the industry. Do you think there'll be a large one ahead of that increase?

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John S. Peterson, TopBuild Corp. - CFO & VP [18]

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Hey, Keith, this is John. I think to the extent that customers can, they will keep in mind though with materials very, very tight, which we'd expect that to continue to be tight. I think the ability to prebuy is going to be somewhat impacted by that. But I suspect, both from our end and the customer's end, you will probably see some of that activity, but again, somewhat muted by the fact that supply remains relatively tight.

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Operator [19]

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(Operator Instructions) Our next question comes from the line of Justin Speer of Zelman & Associates.

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Justin A. Speer, Zelman & Associates LLC - MD of Research [20]

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Just a couple of questions for me. In terms of the volume cadence, maybe softening here, in the near term, maybe in the last couple of quarters, 2, 3 quarters, can you help us understand and look into next year, I know you haven't provided guidance, but help us understand how the incremental margin cadence should potentially progress based on the levers that you're pulling? And based on the manufacturing price increases that you're expecting, how the market or how investors should think about the margin potential to business in the next year? It sounds like you're confident you can at least stabilize margins, potentially improve them next year. Is that fair?

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John S. Peterson, TopBuild Corp. - CFO & VP [21]

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Yes, Justin. This is John. Obviously, we're not going to give guidance on this call in terms of 2019. But I think we really stick by what we talked about in the past, in the fact that under just about any environment, we're comfortable with our ability to get a 22% to 27% on same branch on a long-term basis. So again, we continue to think that way and I think under any environment whether it's inflationary or at pause, we feel very good about our ability to generate that type of return. So again, more to come here as we get to February on the guidance. But I think consistent with what we've talked about in the past, we're comfortable with the long-term guidance assumption.

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Justin A. Speer, Zelman & Associates LLC - MD of Research [22]

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Yes. And I understand, on the point that's kind of a long-term guidance, but is there a step function change of flat to low-single digit volume versus the high single-digit volume? Does that still encompass the net 22% kind of on the low-end side of the incrementals? And then some of your competitors have mentioned there's just a lagged ability to get price to offset the costs that are coming at them. It doesn't appear that you're dealing with that as much. Are you just in front of this thing better? So yes, 2 questions there, the volume side, is there a step function change with the lower single-digit kind of cadence coming? And then also on the price cost, you have everything in hand to snap the line you need in terms of price?

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Gerald Volas, TopBuild Corp. - CEO & Director [23]

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Yes, Jerry here. On the volume side of things, we've talked about our optimism in 2019. And if there is a leveling off of the upward trajectory, which is possible, we talked about a number of ways that we can continue to drive growth. So I don't really don't see any scenario, well John said we'll talk about guidance for 2019 when we give our Q4 results at the end of February, but we have a number of levers to push. And we've talked about the fact that parity on cost price as it relates to product is important. And I know that's the second part of your question that I'll get to. And we're good at that. And then the second thing is just arising top line even in a somewhat lower trajectory housing start growth environment, our top line's still going to grow, and that enables us to leverage this cost. I mean, we have talked forever about the fact that we came into our life as a public company, with a bigger infrastructure anticipating higher housing starts. And we're still growing into that. That's part of the equation that's making our bottom line work to way it is. So yes, we do think we will continue to perform well in any environment. Now as it relates to the price cost piece of the puzzle, and certainly we can't speak anybody else's commentary on what they've experienced. But I can just tell you that, that is something that we have history in this company of being very good at. Robert and his extended team, we have some really, really good operators in the field. And we're highly focused on the bottom line. Our compensation package is out there in the field for our branch managers, include top and bottom line. So it's not just the people in Daytona that are saying things to branch managers, "Oh by the way, go get some price." I mean everybody is on the same page and everybody is incented by the same metric. And we have a history of that. It's a piece of the culture of the company. So I think that's speaking on our behalf is the reason why we are able to perform pretty well, in my opinion, in this unusual environment that we have going on right now.

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Justin A. Speer, Zelman & Associates LLC - MD of Research [24]

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Last question for me on the -- thank you for that answer, that's helpful. The last question for me is on the spray foam, that strength, you mentioned it last quarter, but how much of a margin or mix benefit are you getting from that very strong trend there?

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Robert M. Buck, TopBuild Corp. - President & COO [25]

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Hey, Justin, this is Robert. So relative to spray foam, margins are about the same I think. We've mentioned that in the past that the margin dollars are higher given the take per unit increase that happens there. And it's becoming a stronger mix of our business. Because you don't just see it on the residential side as a substitute that's just for fiberglass. You see codes driving it and we've seen it pick up some on the commercial side, where it's specced on jobs commercially as well. So it's just continues to be a great performing product. Our teams have done a nice job of focusing on that as well. And I think maybe to build upon the point that Jerry just made, I did just want to ... We have a very diligent cadence, I'd say around the pricing approach, around looking at customer by sales rep, by branch. And so just a very great approach by the team and a great team in the field that helps deliver that. And very, very diligent approach we take to it.

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Operator [26]

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(Operator Instructions) Our next question comes from the line of Matt McCall of Seaport Global Securities.

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Matthew Schon McCall, Seaport Global Securities LLC, Research Division - MD and Furnishings & Senior Analyst [27]

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So it sounded like there might have been a little price cost pressure, if I heard you right, in fiberglass insulation, and then on TruTeam and then in Service Partners, you talked about the gutter coil and the freight costs. What's assumed in guidance if you don't want to quantify it, from a trajectory perspective? What will kind of trend are we seeing or expecting to see as you move from Q3 to Q4 on those 2 fronts?

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John S. Peterson, TopBuild Corp. - CFO & VP [28]

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Yes. So this is John, Matt. In terms of specifics, we're not going to give out specifics, other than the fact that there was an increase, obviously, the fiberglass increase that Robert and Jerry both talked about that happened late August, early September now. The impact of that hitting late August early September really doesn't have a significant impact at all in third quarter, but we'll start to see those costs, obviously, roll through the P&L in the fourth. But the expected recovery of that is included in our fourth quarter guidance at this point. And again, I think we feel very comfortable about the ability to continue the past that through.

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Matthew Schon McCall, Seaport Global Securities LLC, Research Division - MD and Furnishings & Senior Analyst [29]

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Is there an expectation to each of those, both the price cost installation and then the coil and the freight, that it gets incrementally better next quarter? Is that what's in the guidance?

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John S. Peterson, TopBuild Corp. - CFO & VP [30]

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Yes. So on the Service Partners side, the things that Robert talked about between the gutter coil and the freight cost, the assumption is that we start the recovery process in the fourth quarter and we start to get back to the kind of a more normalized margin on the distribution business.

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Matthew Schon McCall, Seaport Global Securities LLC, Research Division - MD and Furnishings & Senior Analyst [31]

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Okay. All right. And then the other question I had. You gave some good detail about your expectations around residential. What about the commercial market good top line performance there in the quarter? What's the assumption in the Q4 guide? And then how are you thinking broadly about that market?

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Robert M. Buck, TopBuild Corp. - President & COO [32]

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This is Robert. So relative to commercial, we do feel good with great performance we think year-to-date, and in the quarter, and then we do have visibility of our backlogs, there's a backlog looks strong for 2019. We're bidding work for 2020 as well. So some really large projects that we have booked and under contract. So I think we feel good about it. We feel like definitely growing above the market from a commercial perspective. We've made some changes there relative to dedicated team that's working that approach. So we feel comfortable with our long-term targets on commercial and still a focus for the company that we feel like the teams delivering on pretty well.

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Operator [33]

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Our next question comes from the line of Trey Morrish of Evercore ISI.

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James A. Morrish, Evercore ISI Institutional Equities, Research Division - Analyst [34]

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I want to turn to the commercial business. Talk about being up 16% on a same branch basis in the quarter. Could you talk about what drove such strong growth in the quarter particularly as you said your year-to-date was up only 9%?

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Robert M. Buck, TopBuild Corp. - President & COO [35]

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This is Robert again. So a couple of things I'd mention there. Number one, as we saw some projects in the first half of the year lag into the third quarter so that helped obviously, drive the strong 16.6% in Q3, which helped drive to that performance and we've seen some project lag even into Q4. And then the second thing would just be around some big projects that we're working on. So a big project that we're in the process of doing right now is the new Warriors stadium in the San Francisco area. We just got a couple big projects that the team are delivering on right now. So that's what's driven the performance. And again, we feel good about backlog going into '19 and work that we're bidding all the way out to '20.

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James A. Morrish, Evercore ISI Institutional Equities, Research Division - Analyst [36]

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Got it. And then turn back to the price increases that have been coming through the manufacturers. You had 3 that came through this year. I think by your own admission, 2 of them came in, stuck very strongly, and the third one a little bit softer but still saw some increase. Could you just talk about broadly how you think about the number, the cadence and kind of the potential stickiness of price increases next year coming from the manufacturers?

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Robert M. Buck, TopBuild Corp. - President & COO [37]

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Well I'll start with that one, Trey, and I'm sure John may chime in as well. So you have 3 this year to your point. I think material was definitely tight for the first 2, remains tight now. There's been a little bit of improvement from a material perspective, that probably impacted the late August, early September increase. But now as we think about lines are going down for maintenance, there is as I said a watch point in the industry of material tightening up here. As we end the year going to the beginning of next year, I think could go back to a higher factor sustainability for the January or for the early 2019 increase. I think based on how volumes go, how the spring selling season go, I think could drive what see relative to other increases in 2019. But right now, what's been announced by all the manufacturers, the early January increase.

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John S. Peterson, TopBuild Corp. - CFO & VP [38]

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This is John. I just think it's all a function of demand, right? So we just have to see what happens in late 2018 and into '19, and then that'll dictate in terms of not only the number of increases, but probably more importantly the stickiness of them. So it remains to be seem what demands looks like.

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Robert M. Buck, TopBuild Corp. - President & COO [39]

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And keep in mind, Trey, that fiberglass is certainly the leading insulation, but it's not the only one. I mean, we've talked about spray foam, we've talked about cellulose. I mean there's other ways to insulate a home and we do all of those alternatives. So that's a factor as well.

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Operator [40]

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Our next question or follow-up question comes from the line of Keith Hughes of SunTrust.

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Keith Brian Hughes, SunTrust Robinson Humphrey, Inc., Research Division - MD [41]

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Yes, my follow-up has been answered.

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Operator [42]

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(Operator Instructions) And at this present time we do not have an additional questions. Please continue with your presentation or closing remarks.

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Gerald Volas, TopBuild Corp. - CEO & Director [43]

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Thanks to everyone, for listening today and supporting TopBuild. We look forward to reporting our fourth quarter results in late February.

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Operator [44]

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Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.