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Edited Transcript of OMN earnings conference call or presentation 27-Mar-19 3:00pm GMT

Q1 2019 OMNOVA Solutions Inc Earnings Call

FAIRLAWN Apr 2, 2019 (Thomson StreetEvents) -- Edited Transcript of OMNOVA Solutions Inc earnings conference call or presentation Wednesday, March 27, 2019 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Anne P. Noonan

OMNOVA Solutions Inc. - CEO, President & Director

* Paul F. DeSantis

OMNOVA Solutions Inc. - CFO, Senior VP & Treasurer

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Conference Call Participants

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* Christine Louise Besselman

Deutsche Bank AG, Research Division - Research Associate

* Curtis Alan Siegmeyer

KeyBanc Capital Markets Inc., Research Division - Associate

* Edward James Marshall

Sidoti & Company, LLC - Senior Equity Research Analyst

* Jonathan E. Tanwanteng

CJS Securities, Inc. - MD

* Nicholas Cecero

Jefferies LLC, Research Division - Equity Associate

* Rosemarie Jeanne Pitras-Morbelli

G. Research, LLC - Research Analyst

* Tim Raeke

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by, and welcome to the OMNOVA Solutions First Quarter 2019 Earnings Discussion. (Operator Instructions) As a reminder, today's call is being recorded.

I'll turn the conference now over to the President and Chief Executive Officer, Ms. Anne Noonan. Please go ahead.

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [2]

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Thanks, John, and good morning, everyone. As always, it's a pleasure to speak with you today. In a moment, I will provide an overview of our performance during the first quarter of fiscal 2019 and our outlook for the business.

First, I will turn it over to Paul to make comments on forward-looking statements, non-GAAP measures and to summarize our financial performance in the first quarter.

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Paul F. DeSantis, OMNOVA Solutions Inc. - CFO, Senior VP & Treasurer [3]

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Thanks, Anne, and good morning, everyone. During this conference call, OMNOVA representatives may make forward-looking statements as encouraged by the Private Securities Litigation Reform Act of 1995. All statements in this conference call and in subsequent discussions with company's management, other than historical information, are forward-looking statements. These statements represent management's current judgment on expectations for future results and other matters. A variety of risk factors highlighted in the company's Form 10-K and in our most recent earnings release could cause business conditions and the company's actual results to differ materially from those expected by the company or expressed in the company's forward-looking statements.

In addition, certain financial measures referred to during this call are non-GAAP financial measures. For an explanation and reconciliation of these non-GAAP measures, see our most recent earnings release and investor presentations published periodically on the company's website.

Moving on to the results, here is a quick snapshot of some first quarter highlights. As anticipated, overall profitability was down compared to last year. There are a few drivers for both Specialty Solutions and Performance Materials I want to highlight. But before I do, I want to be clear, we do not believe that the first quarter performance is indicative of our full-year expectations. If our March business trends continue, we would expect to beat last year's full-year number.

For Specialty Solutions in the first quarter, there were 3 big drivers of the variance to last year's first quarter, all with about equal impact on earnings. In nonwovens, first quarter volumes were up but margins were pinched as our contract pricing reset. The first quarter margin deficit will be fully made up in the second quarter as contract prices reset again based on lower actual raw material costs.

In specialty coatings, we were impacted by unfavorable mix. The first quarter is generally smaller in terms of overall coating sales and this mix is not indicative of full year expectations. In fact, during March, we're seeing it begin to reverse as sales to our intumescent coatings customers increase. As a result, we're currently expecting a stronger second quarter for coatings, which will be enhanced with better-than-planned performance at OMNOVA Portugal.

And lastly, in laminates, as we've expected, RV was unfavorable. Additionally, we saw unfavorability in our traditional retail store fixture business. However, during the quarter, we closed a significant new retail store fixture account that's expected to benefit us during the second quarter and the back half of the year.

Timing of orders in luxury vinyl tile also contributed to weakness in the quarter. One of our large LVT customers took their plant offline to upgrade capacity. It is back up and running now.

In terms of Performance Materials, there were 2 notable bridging items compared to last year. The first is the absence of commodity paper. Last year, we benefited from a full quarter of relatively high commodity paper sales as our customer had not yet transitioned a significant amount of volume. This effect will moderate during the rest of the year.

The second item affecting our year-on-year comparisons is the carpet business. In last year's second quarter, we made the strategic decision to reduce price in response to competitive pricing pressure to protect volume for 2018 as we announced and initiated a project to close our Green Bay facility and began the exit from commodity paper. This comparison will improve as we progress through the remainder of the year and further seek to optimize margins. Additionally, in the third quarter of 2019, both businesses will begin to benefit from closure of the Green Bay plant.

Net leverage was 3.8x on a pro forma basis. Excluding OMNOVA Portugal, it was 3.4x, effectively flat to last year. The first quarter is typically our lowest cash-generation quarter. As the year progresses, we expect to improve our leverage closer to our 2.5 to 3x target range.

Thank you, and I'll now turn the call back over to Anne.

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [4]

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Thanks, Paul. Good morning, everyone. After several years of strong earnings growth and strategic progress, we started 2019 with overall instability in the global political and macroeconomic environment, resulting in slow and uncertain end-market demand in many of our key markets. As we expected, these factors, combined with the year-over-year impact of our exit from commodity coated paper chemicals, drove the first quarter of 2019 well below the exceptionally strong first quarter of 2018.

December was particularly weak. As you know, our first quarter is typically our lowest and most volatile quarter and our shortest due to the December holidays and the Chinese New Year. Although we saw some signs of improvement toward the end of the quarter, it was not enough to overcome the slow start. Given the general sentiment we observed in the markets we serve, our view is that customers were understandably conservative during the first quarter in the face of forecasted declines in raw materials; a lack of clarity in demand, particularly in the global automotive and construction markets; and a generally unstable political climate, driven by continued concerns around trade wars, tariffs and the increasing potential for a hard Brexit.

Other markets faced typically seasonality, such as coatings, or have their own specific challenges, such as demand in RV or secular declines in the carpet market. Our first quarter results reflect these market, macroeconomic and political concerns with overall unfavorable volume and mix. That said, I want to be clear. We do not believe this quarter's performance is an indication of where we will be for the full year, and one quarter's performance will not deter us from executing our strategy.

As I said, we believe that December was a low point for several of our markets. As we enter the second quarter, we are seeing signs of improving market conditions as well as favorable trends in our business, both of which, if sustained, give us optimism that we can grow adjusted diluted earnings per share over 2018.

Let's turn to OMNOVA's continued progress against its strategic priorities. As you know, our most important strategic priority is to grow the Specialty businesses both organically and inorganically.

Last year, we saw breakout Specialty Solutions performance with top line growth over 10% and bottom line growth over 20%. During the first quarter of 2018, we kept the volume growth momentum alive with our ninth consecutive quarter of year-over-year specialty volume growth. Contributors to that volume growth included our nonwovens business, driven by growth in automotive, building materials and textiles; continued growth in the adhesives and sealants businesses, fueled by the success of our innovative, proprietary hydrophobic polymer platform; and growth in the coatings business with help from the OMNOVA Portugal acquisition.

In our specialty end markets, we are seeing improved demand trends in Q2, driven by the following: the Oil & Gas market remains robust for us. The first quarter for Oil & Gas was approximately flat to 2018's very strong first quarter. Toward the end of the quarter, our commercial efforts resulted in a significant win at an existing customer, which helped drive our Oil & Gas order book to record levels.

In addition, we executed against our diversification strategy by securing 2 new customers in the Middle East and North America. In response to these new business wins, we increased the number of shifts and operators in our Mogadore and Akron, Ohio, Specialty facilities. We expect this business to contribute meaningfully to profitability over the next few quarters.

Following a slower start to the coating season, our March order book is looking stronger with a more consistent mix, and OMNOVA Portugal has continued to perform ahead of expectations. The successful integration of the OMNOVA Portugal business is a key strategic priority for the year and is on track. It is still too early in the season to tell whether the volatility in the coatings market will continue for 2019, but we expect of improved visibility by the end of the second quarter.

For construction and refurbishment, we are expecting continued growth in the market, particularly focused on multifamily housing and industrial construction. In the flooring market, we are benefiting from the trend towards solid surfaces by participating in the luxury vinyl tile market, which we expect to be a significant contributor to Specialty growth in 2019.

In nonwovens, we experienced volume growth in the quarter, however, margins lagged. As Paul mentioned, contract pricing will reset in the second quarter, and we expect to see margin expansion as a result. Additionally, we recently won new business beyond the personal care markets we typically serve. We expect that business to ramp up throughout the year.

The RV market is forecasted to have lower demand throughout 2019. Customers are expecting the overall market to be down anywhere from 5% to 15% year-over-year, with recent consolidations in the market increasing volatility. In spite of these challenges, we are leveraging our design leadership to grow ahead of the underlying RV market as well as to focus on other markets where we can differentiate ourselves.

Our innovation pipeline, an important driver of our specialization strategy, continues to show progress. At the end of the first quarter, margins from new products were 150 basis points higher than last year. Our sales, marketing and innovation teams continue to focus on developing and commercializing higher-margin Specialty Solutions products.

During the quarter, our Oil & Gas team started to receive orders for the new drilling fluid additive, Pexotrol 772. This product extends our Pexotrol family of fluid loss additives, delivering overall better performance and improved efficiency in high-temperature, high-pressure environments. One of our largest customers is aggressively promoting the product, and we are starting to see momentum.

At the European Coatings Show in March, we introduced our 2019 specialty coatings product line, featuring the addition of the newly branded Resiquímica product portfolio. With the addition of these new technologies and products, we are able to offer a much broader and deeper coatings product line to new and existing customers.

Successfully launching and commercializing new high-margin products will be a key driver of future Specialty volume and margin growth, and we will continue to optimize our innovation, sales and marketing processes to deliver these successes.

For the Performance Materials segment, our strategic priority is to continue to expand margins and increase cash generation. As we expected, first quarter 2019 results were unfavorable against last year, driven by the continued secular declines in the carpet market and the impact of our exit from the commodity paper chemicals business.

For reference, while we announced the exit from commodity paper chemicals in last year's first quarter, we were still benefiting from transition volume at favorable margins. For the 2019's first quarter, that creates a $3 million unfavorable earnings variance year-over-year. When we start to benefit from the Green Bay closure in the second half of the year, it will be easier to see the progress we have made in improving the other Performance Materials businesses. For example, the contribution to profit from tire cord was up in the first quarter as we began to see some traction from our asset repurposing, pricing and margin initiatives.

Additionally, during the quarter, the coated fabrics business began shipments of new high-margin products to a new transportation customer, which should begin to benefit margins during the second quarter.

The closure of the Green Bay, Wisconsin, plant and investment into our Mogadore, Ohio, facility continues as planned. Green Bay was our last high-volume styrene butadiene-based manufacturing facility.

Our investment in Mogadore will better position OMNOVA to serve our growing Specialty business and serve our transferred Performance Materials businesses with a more efficient, lower-cost-to-serve model.

Once complete, we expect these actions will contribute $7 million to $8 million of annual operating profit, primarily benefiting our Performance Materials segment, beginning in the second half of fiscal 2019.

With respect to portfolio optimization, our September 2018 acquisition of OMNOVA Portugal is contributing favorably to our results. This acquisition will add approximately $65 million of annual specialty coatings revenue in Europe, which offsets the loss of commodity coated paper revenue in North America. This acquisition has allowed us to accelerate our specialization strategy while enhancing our geographic reach and diversity. We are already seeing significant benefits from incorporating OMNOVA Portugal into our global platform. The integration is on track, and we expect to generate meaningful cost synergies as we continue to streamline and standardize the business.

Our One OMNOVA initiative continues to contribute to a lower-cost, more-efficient model. SG&A for the quarter was about flat to last year, even though this year's first quarter includes OMNOVA Portugal's cost. We remain vigilant over spending and cash management, prudently investing our dollars where it will have the best overall impact for the business and driving down working capital whenever possible.

Even with the uncertainty in the first quarter of 2019, we believe that we are well positioned for the remainder of the year due to the following facts: our continued ability to grow specialty volumes organically and inorganically, evidenced by our 9 consecutive quarters of year-over-year specialty growth; a strong order book entering Q2 with recent customer and product wins across several markets, including a record level of orders for Oil & Gas; the closure of the company's Green Bay facility, which is proceeding on time and will start benefiting the Performance Materials segment beginning in Q3; significant cost synergies from OMNOVA Portugal acquisition during 2019 and 2020, with growth and margin expansion opportunities ahead of us; our strong culture of disciplined expense management and demonstrated ability to control cost; and most importantly, an engaged team that lives our values and contributes to the successful execution of our strategy every day. Even with the short-term volatility in our markets, we believe we will emerge from this market choppiness stronger, more resilient and better able to deliver significant shareholder value.

Thank you. Paul and I are ready to address any questions you might have.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And we'll first go to the line of David Begleiter with Deutsche Bank.

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Christine Louise Besselman, Deutsche Bank AG, Research Division - Research Associate [2]

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This is Christine Besselman on for David. My first question is regarding demand trends that you're seeing on a global basis. Where in the world are you seeing growth? And where are you seeing demand slowing?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [3]

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Well, from a regional perspective, I would say, in the Americas overall -- if I would just talk about overall markets, we're seeing it more stable and probably more positive than some of the other segments. Europe is down a couple of percent but not declining or flat like it used to be in the past. And then Asia is a bit of a mixed bag. I would say China is definitely down somewhat, particularly in automotive. But just having visited Southeast Asia, I can tell you that the sentiment is much stronger when you get into Thailand and some of those other countries where we're not seeing as much impact from a demand perspective. Beyond that, it's really just, as I mentioned during my script, it's been different market specifics that we're seeing positives in. But definitely, after a very slow December, we improved throughout the quarter. And then from our businesses' perspective, Q2 is definitely looking better on an order books perspective.

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Christine Louise Besselman, Deutsche Bank AG, Research Division - Research Associate [4]

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Okay, that's helpful. And then just to touch on the end markets a little bit. You did say in your prepared remarks the pressure from weak demand eased during the end of the quarter in some of the markets. Can you just elaborate on which of those markets you're starting to see improvement?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [5]

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Yes, I would point out the -- from -- the coatings would be an example of one. So coatings for us in the first quarter is always a little bit weak with respect to mix, and that's exactly what we saw. As we moved into second quarter, our order books were very strong in March. And we're picking up, you could see, which is typical of the seasonality of coatings and probably a little typical of a weaker first quarter as well. So coatings was where we probably saw the most dramatic effect.

Across our construction markets, we've been buoyed there by some new products, so they tend to mask some of the underlying potential weakness there, though, we are seeing a pickup in our tapes and labels type of market, particularly in Americas and Europe. And again, our coated fabrics business is growing through some new customers.

So generally, I wouldn't say the markets are hugely robust. They're still a little uncertain. How -- what makes us confidence in the second quarter is our -- and beyond is our Oil & Gas orders that we have secured, the new business we've secured in nonwovens, laminates, adhesives and sealants and coated fabrics. So overall, I would say the markets are up a little bit, and then we have specific programs that are driving our confidence for the rest of the year.

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Operator [6]

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Next, we'll go to Rosemarie Morbelli with G. Research.

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Rosemarie Jeanne Pitras-Morbelli, G. Research, LLC - Research Analyst [7]

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Looking at the pickup you have seen in March, outside of new the businesses that you have gained, can you tell, especially in coatings, whether it is a question of actual demand or inventory replenishment, since there was a lot of inventory elimination, let's call it that, in the second -- in the third and fourth quarter of last year?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [8]

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Yes, I would say in the -- specific to coatings, Rosemarie, to answer your question, I don't think it's just inventory replenishment, it's actually a catch-up. I would say in mix, our Q1 was a little off on our traditional coatings business. That has picked up considerably in Q2. So we have a lot more of our dry versus water-based products, which, as you know, is a richer mix for us.

So we're seeing demand increase, and we have specific orders that have come in around that dry resin. And not all of it's in France, I will say, which has been -- it's a little weak, I would say, compared -- but we've had that growth that we've been focusing on in Europe and in the Middle East around our coatings business, and that's starting to pay off. So we definitely saw the uptick in coatings. Real question will be as we go out through the rest of Q2, will coatings stay at that level as it typically does and just come down towards the end of Q3? And we're watching a couple of more months till we get more confident in that. But as we said, our acquisition in Portugal has really helped us as we've gone into both Q1 and Q2 here.

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Rosemarie Jeanne Pitras-Morbelli, G. Research, LLC - Research Analyst [9]

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So you have given us -- talking about Portugal, you have given us the contribution in terms of revenues. Did they contribute to the bottom line as well?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [10]

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They contributed. They were positive to the bottom line and a little ahead of plan, quite frankly, because some of the sourcing challenges that we have and some of the tolling products that we had planned to bring in, we've done ahead of schedule. Very pleased with the team there that we've -- they've really accomplished a lot in a small period of time. So yes, we are actually ahead on our EBIT line there.

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Rosemarie Jeanne Pitras-Morbelli, G. Research, LLC - Research Analyst [11]

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And lastly, if I may, and then I'll get back in queue, can you talk about the new wins in terms of your nonwoven, your coated fabrics? So can you help us understand where those new wins are? And what is the potential contribution?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [12]

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Okay. So the new wins in coated -- let me start with nonwovens. So nonwovens, we've been on a strategy of diversifying outside of our traditional personal care markets. And we are starting to get traction in the building materials, filtration and textile side. And a lot of that's coming -- some from our existing products but also from our new products that we have out in the marketplace, our SoftWick. So our ability to continue to expand this bonding arrangement has improved. It's not going to be of the size our traditional business is yet, Rosemarie. We'll ramp up as the year goes through. But we have actually -- we've been working on these for a number of years, these new wins. So they've been -- we've talked about the cycle time of new products being 2 to 3 years in nonwovens, we're in that third year. So we expect those to continue throughout the year and in a promising manner.

Coated fabrics, we have -- we secured the business in coated fabrics at the end of last year. It was a specific new customer win with a product that we have. And that has taken hold, and we're actively receiving orders for that. And the important thing about that new business is that it's a richer margin mix than the traditional business, so -- and has very stable end market demand in transportation. And this is where we've actually seen a difference between China and Southeast Asia. I was just out there. Southeast Asia transportation, we're in most of the Toyota and Nissan models, was very strong. In China, it was very, very weak. As you know, our plants in Thailand were uniquely positioned there to actually leverage off that opportunity. So we expect that to continue to grow throughout the year but have a pretty good run rate as we enter into Q2.

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Operator [13]

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Next, we will go to Jon Tanwanteng with CJS Securities.

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Jonathan E. Tanwanteng, CJS Securities, Inc. - MD [14]

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Are you better able to quantify the outperformance in Portugal, be it from a profits or revenue standpoint? And do you expect the synergies that you're going to generate in the next year or 2?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [15]

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Let me give you from the revenue perspective. We've talked about it having a full year revenue impact of about $65 million. In Q1, the revenue was in the order of about $12 million, which was an 11% increase in sales on the Specialty side. If you think about overall, our Specialty sales were up 3.5% in the quarter and 11% up from the OMNOVA Portugal acquisition on the top line.

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Jonathan E. Tanwanteng, CJS Securities, Inc. - MD [16]

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Got it. And then synergies going forward?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [17]

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Synergies going forward?

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Paul F. DeSantis, OMNOVA Solutions Inc. - CFO, Senior VP & Treasurer [18]

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Yes, so we're -- I think we've expected a couple million dollars worth of synergies in this acquisition, Jon, and we are running ahead of pace right now on that. We've started -- we've brought in all the tolling business. That was one of the key components of that, our expectation. And we've also started to realize some of our purchasing synergies. So we're starting to see the 2 of the biggest synergies rolling in right now. It's a small profit quarter. It's a coatings business, and so it's a -- this is its smallest quarter. So you don't see a meaningful difference on the bottom line, but we saw, certainly, a difference between our expectations and what they delivered.

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [19]

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The other thing we've been doing on that, Jon, is we've been out visiting all the Portuguese new customers that we've picked up and getting very positive response around the extended product line that we have, and that extended on to the European Coatings Show. So Q2 will be a real test of picking up new commercial wins from that business also.

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Jonathan E. Tanwanteng, CJS Securities, Inc. - MD [20]

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Got it. That's very helpful. And in just terms of overall input costs and inflation, how those trended heading to the March quarter? What are you including in expectation for the year of growing earnings?

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Paul F. DeSantis, OMNOVA Solutions Inc. - CFO, Senior VP & Treasurer [21]

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Yes, so right now, we're starting to see some stability in styrene and butadiene costs with potential uptick later on in the year, which we're watching pretty closely. As we went through and reforecasted based on the wins that we've had and our expectations for margin, that's how we get to our overall expectation for the year, assuming trends currently continue. So we've factored those increases and that stability with potential increases in the later part of the year. I think it's really volatile right now from a raw material perspective. So that -- I can't say with 100% certainty that's what's going to happen.

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Jonathan E. Tanwanteng, CJS Securities, Inc. - MD [22]

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Okay, fair enough. And then finally, just from a higher level, are you more confident now compared to when you last reported in driving that earnings growth this year? And to go a little further, is it fair to say that the confidence that you're getting is more from your specific company initiatives on new products and new customers and cost cutting rather than any huge recovery in end markets?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [23]

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Yes is the answer to that. When I look at -- we are definitely more confident than last quarter because we didn't even give our full year guidance that we would beat 2018 last quarter. We -- there was tremendous amount of uncertainty after coming out of a very weak December. However, when we look at the Oil & Gas business, that was a significant new win for us. And the fact that we've added new shifts tells you that we're pretty darn confident that, that business is sustainable. And really, the Oil & Gas business has been very doing very well, Jon, from the point of view having done the few small acquisitions. We've invested during the downturn, which is helping us now grow ahead of market in Oil & Gas, and we're really just seeing the benefits of all that investment now. So that's what makes us confident there. Also the new business wins that we had in nonwovens, laminates, adhesives and coated fabrics, very important. And then you got the Green Bay closure and OMNOVA Portugal, all -- both add -- they add $0.07 to $0.09 to our second half. So you add those 4 factors in, and that's what's giving us the confidence. The underlying market, I think, will still see some volatility until the tariff situation and Brexit is resolved. But I will tell you is we're not seeing massive declines or fall off the earth on demand in the underlying markets. RV is challenged as we've said.

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Operator [24]

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Next question is from Edward Marshall with Sidoti & Company.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [25]

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Just a quick question, a follow-up on that last statement. Could you just repeat what you said about Portugal and Green Bay and the second half earnings potential or addition?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [26]

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Sure. As we said, from Green Bay, we've said all along that we would add $4 million in profit to the second half, with the next $4 million to come in the first half of 2020. The Green Bay closure, that's right on track. If you combine OMNOVA Portugal and the Green Bay closure, we believe that will add $0.07 to $0.09 of EPS in the second half.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [27]

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Got it. And so simple math there to figure out kind of is that an annualized rate then for Portugal? Or is there some reason to believe -- I know you talked about some synergies coming down the pipe, is there some reason to believe that as we look into fiscal 2020, that improves as far as the contribution from OMNOVA Portugal?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [28]

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Yes, it will improve it because we have our synergies split up between 2019 and 2020, and so we expect to see more. And we'll give you more of that as we go through the year and work some of these new commercial opportunities as well, but the synergies are definitely split between the 2 years. So there will be an uptick.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [29]

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Okay, good. I'm going to ask about the Specialty volumes. Good job getting to the sequential quarters of growth in volume. I'm curious, is that statement based on both organic as well as the addition from OMNOVA Portugal. Or is that -- or was it inorganic -- was organic volumes actually down in Specialty?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [30]

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It was organic and inorganic. So the overall volumes were up 1% on Specialty. If you look at the traditional business, it was down 9.6% without Portugal, and that was primarily RV and laminates and a slow start to some of the traditional coatings business is where I would put the primary impact from that, both of which are picking up -- well, coatings is picking up.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [31]

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Got it. The -- when you referred to being above pace on sales for OMNOVA Portugal in one of the questions earlier, you mentioned it's -- it was up 11%. Was that comped against what they did last year? Or was that just -- it looks like you were referring to the math relative to your sales that added about 11% increment in sales. Is that what you're referring to? Or was it that up 11% year-over-year versus itself, even though you didn't hold the acquisition last year?

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Paul F. DeSantis, OMNOVA Solutions Inc. - CFO, Senior VP & Treasurer [32]

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No, and it's up. We're referring to our own sales when we're talking about that impact. It's running above our internal expectations for sales. The mix is a lot different than it was last year when we didn't own the business. So I don't know the answer to that off the top of my head. But in terms of overall expectations in bottom line, it's running ahead of where we had been.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [33]

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Got it. You talked about the Oil & Gas adding -- the growth rates you're seeing there in that business. And I'm curious, as we look at the addition of capacity, I'm assuming it's -- I just want to make sure it's flexible capacity. I mean, is it -- your adding shifts I'm assuming to something that's already existing. There's not a lot of infrastructure here as you build out the capacity there, so it's kind of -- it'll be a flexible increase in capacity as we move forward. Is that right? Or is there actual...

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [34]

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That's absolutely it. That's exactly it. So what we've added is, traditionally, we run the Mogadore on a 5-day shift. We've moved to 7 days because of this, and we had to add extra shifts on and labor to do that, but that's flexible. Obviously, it hasn't been a lot of capital, other than the capital that we've talked about putting into Mogadore to make it more asset light and efficient and effective to be able to do this kind of flexibility that you're referring to. And so it's been -- we've been working hard to get the orders out here in Q1. And Oil & Gas put up a good order book going into Q2.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [35]

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Okay. And when you're referring to -- I mean, you mentioned some volatility in the second half of styrene and butadiene. But well, going back to the 4Q comments, you talked about some volatility in pricing and that may have had some impact on customer demand trends, and I think that was in your forward-looking expectations for Q1. You mentioned some volatility still exists. As it relates to kind of nonwoven, was that what you were particularly worried about coming out of Q4 into Q1? I just wanted to kind of get some more granularity on pricing and what you might anticipate for the remainder of the year.

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [36]

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Yes, nonwovens was -- had nothing to do with that. Nonwovens is just an automatic contract reset. So it's -- the way we've always done it is we've got our contract terms in there, and they just -- what we lag on the way up, we win on the way down. So it will even out at the end, so we don't lose anything on raw material escalate. So that's completely independent of that discussion.

What we were referring to within my prepared remarks as well was that some of the uncertainty in our customer base was around looking at raw materials decline and kind of played the decline a little bit and saying I'm not going to buy until I know it's at its trough. Frankly, some of those raw materials have started to flatten out or go back up, so I think that's also helping the underlying demand come back. There were, I would just say, some product lines more impacted than others but nothing that -- it's just a general sentiment among customers that tend to look at raw materials more heavily than others. But with respect to like our traditional Specialty businesses like coatings, that was not one that would be impacted. I would say it would be more in our Performance Materials businesses, like our EMOD even that goes into -- more into the Chinese sector in that they were playing some of those games, but that seems to have evened out. And I think that's why part of our confidence here going in, there's more settled down view of some of the raw materials at this point in time.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [37]

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That's good to hear. The last question for me is you made some reference to your leverage ratios as we move to the back half of 2019, and I'm just trying to get a sense of what maybe expectations might be from -- for cash flow. And then ultimately, how much debt you think that you could remove this year?

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Paul F. DeSantis, OMNOVA Solutions Inc. - CFO, Senior VP & Treasurer [38]

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Yes, so I'm not going to give you any specific answers to any of those questions, but what I said in my prepared remarks are that as we look out over the rest of the year, we expect to bring our leverage ratio back down closer to our target range of 2.5 to 3x. That's going to be based on both cash generation in the back half of the year and improvements in EBITDA that we expect to get from all the things that we've been talking about this morning. I will say that if you look at the cash generation over the last few years, you've seen that we've been able to increase that. That's one of our goals -- is to continue increasing that. We have a lot of initiatives focused around driving working capital down and trying to generate as much cash as we can. The first quarter, we spend a little bit more on CapEx than we did last year. That's all related to preparing our Mogadore facility to take on the volume from the Green Bay plant closure. And I would expect that to moderate in the back half of the year.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [39]

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Got it. And just out of curiosity, I mean, you've been running at a pretty good drop-through, almost 100% of net income to free cash flow for the last couple of years. Could you -- do you think that, that trend continues in 2019? I mean, is there any reason to believe, absent what might have occurred in Q1, that you wouldn't have that same kind of cash flow impact?

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Paul F. DeSantis, OMNOVA Solutions Inc. - CFO, Senior VP & Treasurer [40]

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I mean, the components that allow us to do it are things like our net operating loss carryforwards in the U.S., our working capital initiatives, our control of CapEx and the like, and all of those remain in place this year. So I don't want to specifically say yes or no, but the key components of that are all within our control, and we're driving those.

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Operator [41]

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And next, we'll go to Curt Siegmeyer with KeyBanc Capital Markets.

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Curtis Alan Siegmeyer, KeyBanc Capital Markets Inc., Research Division - Associate [42]

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Just one follow-up on the outlook. You guys obviously -- the outlook, obviously, implies some pretty significant earnings growth over the last 3 quarters, and you did a really nice job kind of running through why you think that's possible. I guess, my question is, is that -- would you consider that the base case with your comments about if market trends continue at almost kind of sounds like maybe that's more of a best-case scenario. So just kind of wondering if -- how you would characterize that and how you'd characterize your visibility into that growth relative to maybe what you would normally have. How much of this revenue is actually kind of in the books with these new wins?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [43]

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Yes, I mean, let's just say we are not predicting massive growth in the underlying markets by any stretch. In fact, we're predicting continued weakness in RV. We're predicting construction to be somewhat challenged through the rest of the year and anything in the automotive. What we are predicting is, for example in construction, that our new products with this -- our new innovation that went in there, will continue to grow, and it has because it's gaining new customers, right? It's not just growing alongside the market. I would say our assumptions on the underlying markets are -- realistic is how I would put them. But when we look at the specific programs, we add those onto that forecast and say, okay, that's where we are. Now, obviously, the market could fall apart on us. We all know that, but we're not hearing that or seeing that from any of our major customers. That's always a risk to this, and we will always have contingency plans against that. But our major confidence is coming from the things that we have within our control and the new business that we've won. So the Green Bay -- 2 big projects, Green Bay closure, OMNOVA Portugal, adding $0.07 to $0.09 in the second half. Our Oil & Gas orders that are in hand, again, unless the market fell apart in Oil & Gas, which we don't see happening at the current rate it's running and the new business that we've done largely through new products and specific actions, we believe that, that's a realistic forecast that we're giving.

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Curtis Alan Siegmeyer, KeyBanc Capital Markets Inc., Research Division - Associate [44]

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Okay, that's helpful. And then just how much of your laminates and films business is the RV market now? And I know you in your prepared remarks talked about some positive trends in the retail display fixtures. So was just kind of wondering outside of that, what other positives or highlights there might be in that business. Are you seeing growth in some of your other markets outside of RV?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [45]

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Yes. Where we are -- so laminates and RV is only 5% of our revenue, but it's a strong margin contributor, right? So what we've been focused on here, we have won some business in the retail store fixture, which will help mitigate against some of that. As we said in the first quarter, our -- one of our largest films customers has actually gone ahead and upgraded their plant to run more efficiently, so -- and hopefully, faster. So it will use more of our products. And we've also got some new business in films, so that's adding to our ability to grow. And we've been constantly using our design leadership to gain in kitchen and bath in this area. One of the things that this team has done a particularly nice job of in laminates and films is driving a strategy of substitution against high-pressure laminates. And as a result, we have traditionally grown ahead of the market. Now that doesn't mean that when RV is down 5% to 15%, we're not impacted, that's built into our forecast. But really, the growth is coming from looking at these alternative opportunities in laminates and retail and kitchen and bath and also the films growth, which we've been on a pretty high trajectory of growth as LVT has grown.

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Operator [46]

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Our next question is from Laurence Alexander with Jefferies.

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Nicholas Cecero, Jefferies LLC, Research Division - Equity Associate [47]

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This is Nick Cecero on for Laurence. You called out tire cord margins beginning to expand. And if I remember correctly, last quarter, headwind was China auto. I guess, are you seeing any type of -- are you seeing the business starting to trough there? Or is still decreasing at a decently quick pace? Was wondering if you could maybe just provide a bit more color on that.

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [48]

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Yes, on tire cord, we have a leadership position on tire cord. And frankly, what we've been doing is focusing on optimizing margins because the margins were totally unacceptable. And so what we've done is repurposed our reactor, particularly in the Le Havre in France, so that they can make some of our more specialty products in the elastomeric end. And so we've actually been bottom slicing some poor business that we had and we don't want to serve in the future to optimize the margins. And because we have capability both in Le Havre and Caojing, we have a lot of ability to access volume. Volume has never been our problem here, it's been optimizing the margins and get a -- getting better pricing and adjusting our contracts and price negotiations to make sure that we hold margin and make this a sustainable business. So we've made some head ground. The team has done a nice job in pushing our pricing, making sure we're serving the right mix of customers and then using that capacity to a more higher-margin product. So we continue along that path. We're continuing to look at options for our Caojing reactors as well, and probably more to report on that as we go through the year.

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Operator [49]

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And next question is from Tim Raeke with Alcentra.

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Tim Raeke, [50]

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Yes, just a couple of basic questions. The first on the Performance Materials segment. The absence of the commodity chemical paper, you called that out as a $3 million headwind. And I think it's tough to do maybe in isolation, but can you remind us or tell us how that's going to weigh in, or I think, hopefully, weigh in over the coming quarters? Like how that layers -- I guess, layers away?

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [51]

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Yes, we expect at most maybe $1 million to $2 million more of annual impact as we go through the rest of the year. We were largely out in the second half, Tim. So it was really just pushing down on that transition volume and helping our customers transition as we exited the commodity side. So $1 million to $2 million more I believe would be a good estimate.

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Tim Raeke, [52]

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Okay. And then on the Oil & Gas win, can you remind us what your -- which segment it's in? What the product does? Is it like -- is it drilling dependent? In other words, if more rigs go out, then this will definitely get deployed. But if oil sees a hiccup, is it possible that the volume maybe doesn't follow through for the year? Maybe just talk about that a little bit. And if you can give any sense, quantity or sort of quantify even in a broad range what the size of that was, would be helpful.

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [53]

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It is drilling; however, it's more in the Middle East than it is in North America. So -- and it's a pretty large tender that one of our customers has won with a very specific project -- product that we have in there, so it will go ahead. I don't -- we would not have invested in our plants in adding extra shifts, et cetera. So we believe the business is pretty sustainable out through a couple of years here. Order of magnitude, all I'd say is we invested to add a whole 2 days of extra shifts, so that's a pretty significant increase in our base orders. I would also say in Oil & Gas, we've been growing through our extended product lines, which has really helped diversify us. So we've diversified geographically with this customer, but we've also brought on some new customers in North America and the Middle East. And we've also diversified our product lines into -- through the last 2 small acquisitions that we did. So I'm never going to say we wouldn't be impacted by an Oil & Gas volatility, but we've done a lot of strategically to help ourselves not be so reliant on high-temperature, high-pressure drilling, and this business is an example of that. So if you look back in history, back in 2015, we were over 90% high-temperature, high-pressure offshore. Now we're 60-40 on land and a lot more geographically diverse. So I don't see the business as being particularly at risk. But it is Oil & Gas, and we'll always put that provision in as make these comments. But it is a tender business that's been secured.

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Operator [54]

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And we do have a follow-up from Rosemarie Morbelli.

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Rosemarie Jeanne Pitras-Morbelli, G. Research, LLC - Research Analyst [55]

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Just following up on the net leverage target. If there is -- if a recession hit in 2020 or 2021, do you think that it would be more reasonable to be below the 2.5x net leverage that you are currently targeting at the low end?

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Paul F. DeSantis, OMNOVA Solutions Inc. - CFO, Senior VP & Treasurer [56]

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Yes, so Rosemarie, I mean, we'll cross that bridge when we come to it and see what the recession looks like and how it affects us, so meaning which markets and where it is. I think that from our point of view, we're going to drive ourselves down into that range, which we -- if you look at our past few years, we've been taking about half a turn of leverage off as we've been generating cash each year. And so in a recession, we would have all sorts of levers that we would pull, including capital, spending, SG&A, delevering the balance sheet and the like to make sure that we protect ourselves. But we definitely want to bring our leverage back down closer to that range than it is today.

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Rosemarie Jeanne Pitras-Morbelli, G. Research, LLC - Research Analyst [57]

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When you say closer to that range, you are currently at 3.4x, if my memory serves me right, excluding Portugal. So do you think you can go down to 3x? I am assuming that below that would be nearly impossible, given the current environment? Or am I wrong?

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Paul F. DeSantis, OMNOVA Solutions Inc. - CFO, Senior VP & Treasurer [58]

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Well, I mean, the thing about the current environment is what exactly does that mean? So our expectation for Q2, 3 and 4 is for our OMNOVA's business to be fairly robust based on what we're seeing right now, and so that would have a favorable consequence. But if we continue -- all things being equal, if we continue taking half a turn out every year with our cash generation, then we wouldn't be unreasonable if we continue to do that to get another half turn out or so this year.

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Operator [59]

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And we do have a follow-up from Ed Marshall.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [60]

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When -- you've had good strong quarters of Oil & Gas before, you've had really good Specialty margins. I'm just curious if you could comment maybe on the margin contribution from Oil & Gas product margins? I don't think you're going to give me specific numbers, but if you can kind of talk in general terms about that business, I'd be -- I'd appreciate it.

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [61]

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Yes. I would say -- you're right, we won't give specifics. But I would say, our Oil & Gas business, we've said it before, Ed, it's our most profitable business. This new business that we've secured is right within that profitability range. And the other new business that, frankly, we've also secured is also in the high-temperature, high-pressure area. So what you've seen from Oil & Gas growth in the past, you would expect the same type of profitability.

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Operator [62]

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And Ms. Noonan, we have no further questions in queue.

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Anne P. Noonan, OMNOVA Solutions Inc. - CEO, President & Director [63]

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All right. So thank you for your questions. I'd like to leave you with a few key takeaways. Our Specialty Solutions segment had another quarter of volume growth and is seeing signs of improved mix and demand as we head into the second quarter. The Performance Materials segment is poised for improvement, beginning in the third quarter of 2019 as our plant closure and other margin-improvement initiatives remain on track.

Lastly, we are confident we will continue to execute on our specialization strategy. While our end markets are experiencing some volatility and uncertainty, if market dynamics are sustained, including the strength of our order book and new customer wins, we will continue to improve overall business sustainability and, ultimately, beat last year's $0.63 adjusted diluted earnings per share.

Thank you for taking time to participate in our first quarter earnings call. We look forward to speaking with you after next quarter to review our continued progress as we drive the business to a pure play local specialty solutions company. Thank you.

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Operator [64]

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Ladies and gentlemen, a digitized telephone replay is scheduled from today, March 27, 2019, at 1:00 p.m. Eastern Time until April 10, 2019, at 11:59 p.m. Eastern Time. Also, an audio replay will be available on the OMNOVA Solutions' website at www.omnova.com until noon Eastern Time on April 10, 2019.

That does conclude your conference for today. Thank you for your participation. You may now disconnect.