Brian MacNeal - CFO Vic Grizzle - CEO Kristy Olshan - Director, IR.

Keith Hughes - SunTrust Robinson Humphrey Samuel Eisner - Goldman Sachs Stephen Kim - Evercore ISI Jason Marcus - JPMorgan Garik Shmois - Longbow Research Scott Rednor - Zelman & Associates John Lovallo - Bank of America Merrill Lynch Bob Wetenhall - RBC Capital Markets Will Randow - Citigroup Nishu Sood - Deutsche Bank Wenjun Xu - Thompson Research Group Ken Zener - KeyBanc Capital Markets Jim Barrett - CL King & Associates.

Welcome to the Q4 2016 Armstrong World Industries, Inc. Earnings Conference Call. [Operator Instructions]. I would now like to turn the call over to Kristy Olshan, Director of Investor Relations. Please go ahead..

Thank you, Aila. Good morning and welcome. Please note that members of the media have been invited to listen to this call and the call is being broadcast live on our website at armstrongceilings.com. With me today are Vic Grizzle, our CEO and Brian MacNeal, our CFO.

Hopefully you have seen our press release this morning and both the release and the presentation Brian MacNeal will reference during this call are posted on our website in the investor relations section. I advise you that during this call, we will be making forward-looking statements that involve risks and uncertainties.

Actual outcomes may differ materially from those expected or implied. For a more detailed discussion of the risks and uncertainties that may affect Armstrong World Industries, please review our SEC filings, including the 10-K filed earlier this morning. Forward-looking statements speak only as of the date they are made.

We undertake no obligation to update any forward-looking statement beyond what is required by applicable securities law. In addition, our discussion of operating performance will include non-GAAP financial measures within the meaning of SEC Regulation G.

A reconciliation of these measures with the most directly comparable GAAP measures is included in the press release and the appendix of the presentation. Both are available on our website. With that, I'll turn the call over to Vic..

Thanks, Kristy and good morning, everyone. It's good to be with you today to discuss the great progress that we've made this year as the new AWI, a stand-alone ceilings and walls solutions company.

I'll begin by briefly discussing our fourth quarter results followed by a summary of 2016 and the review of the progress against our key growth initiatives. I'll then turn the call over to Brian MacNeal, our CFO, who will walk you through a more detailed review of the fourth quarter and full-year results as well as our 2017 guidance.

Brian will then turn the call back over to me. I'll conclude with some comments around our 2017 market outlook. So beginning with the fourth quarter, strength in our U.S. commercial channel continued with the strongest average unit value quarter of the year.

Our like-for-like pricing was the strongest of any quarter in the year and was coupled with a strong positive mix with strong growth of our - at the high end of our product portfolio. And the sales of our architectural specialty products on top of that grew strong double digits year over year. Overall volume in the U.S.

market rebounded nicely from what turns out to have been an air pocket in the third quarter. As expected, volumes in our U.S. commercial channel were up year on year in the quarter and on top of a tough comparison from the fourth quarter of last year. If you recall, the fourth quarter of 2015 was the strongest volume growth quarter we had in 2015.

Internationally, despite top-line softness in the Europe, Middle East and Africa segment, Asia revenues were strong and contributed to improved profitability, together with the cost reduction actions we've been working on all year.

For the total year, 2016 was a momentous year for AWI as we successfully completed the spin-off of our flooring business. The separation was executed flawlessly, with no disruption to our customers.

The new AWI is now a pure play global leader in suspended ceiling and wall solutions, operating in a highly attractive industry and well positioned to accelerate growth and free cash flow. You may recall the two strategic imperatives that I shared with you early in 2016.

It was first, accelerate top-line growth, particularly volume growth in the Americas. And second, to improve the returns in our international businesses. I'm pleased to report that we've made solid progress on both of these imperatives this year. In 2016, the Americas delivered constant currency sales growth of 4.3%.

That's the strongest sales growth since 2011, when we were coming out of the depths of the recession. Volume growth in the Americas in 2016 was the largest contributor, up 2.5% over 2015, again representing the strongest volume performance since the downturn.

The volume improvement was broad-based, with volumes up in almost every sales region in the U.S.. And the Americas also delivered industry-leading AUV performance, contributing to top-line growth and another year of margin expansion.

And in fact, 2016 marks the eighth consecutive year of margin expansion in our Americas business which delivered adjusted EBITDA margins of 35.6%. Truly an outstanding achievement.

And in our international businesses, we improved adjusted EBITDA by $5 million, an improvement of almost 30% from the prior year with no help from the market, but driven by actions to rightsize our cost structure.

So stepping back and looking at the global consolidated business in 2016, we continue to drive margin expansion and earnings-per-share growth. Our consolidated adjusted EBITDA margins continue to expand, up 130 basis points to 25.5% which puts us amongst the highest in the building product space.

We delivered adjusted earnings growth per share of $2.34. That's an increase of 36% year over year. Another record earnings from our WAVE joint venture was a significant contributor, following six consecutive years of record earnings from that business.

WAVE had an overall terrific year and Brian is going to provide some more details on the performance shortly. Now, the middle of 2016, just a few months after separation, we outlined our capital allocation priorities and implemented $150 million share repurchase program, demonstrating confidence in our strategic plan and our future growth prospects.

We bought aggressively against that authorization in the fourth quarter and through the end of 2016, we repurchased 1.1 million shares, approximately 2% of our float.

As part of our capital allocation plan, we also indicated that we would continue to look for tuck-in acquisitions that extend our product capabilities and can be sold through our best-in-class distribution partners.

And in December, we announced our acquisition of Tectum, a manufacturer of abuse-resistant wood fibre ceilings and walls, specified predominantly in high-traffic, high-noise spaces.

Tectum is a perfect fit with our strategy to expand into adjacencies and to accelerate our penetration in the high-growth category of architectural specialties which, by the way, had another double-digit growth year.

Tectum's products give us a competitive advantage in this space, utilizing proprietary technology that now provides Armstrong a platform to sell into more spaces in commercial buildings, including walls. So in summary, 2016 was a solid performance year and a great start post-separation from our flooring business.

We delivered on the earnings and the free cash flow guidance that we provided at the beginning of 2016. For our three ongoing stand-alone segments, we achieved the midpoint of our original adjusted EBITDA guidance of approximately $320 million.

Lastly, I just want to say thanks to all of our employees for their outstanding contributions in o this historic transition year and the hard work and the solid progress around our strategic growth initiatives. With that, I'll turn the call over to Brian to discuss in more detail our fourth quarter and full-year results.

Brian?.

Thanks, Vic. Good morning to everyone on the call. Today, I'll review our fourth quarter and full-year results, including some additional commentary on drivers for our WAVE joint venture and outline our 2017 guidance before turning the call back to Vic.

Before we dig into the financials, as a friendly reminder, I'll be referring to the slides available on our website to discuss our fourth quarter and full-year results. Slide 3 details our basis of presentation used throughout this discussion.

Please note that effective January 1, 2016, in anticipation of the separation, the majority of our historical corporate support functions and costs were incorporated into the three new operating segments. The primary differences to our reported results are expenses related to the separation, the non-cash impact of our U.S.

pension plan and a push-down of stand-alone corporate costs into the reporting segment on a pro forma basis in prior-year results. Turning to slide 5, consolidated sales of $303 million improved 1.5% versus the prior-year period on a comparable foreign exchange basis.

Adjusted operating income increased 5%, translating into 50 basis points of margin improvement, while adjusted EBITDA margins expanded 40 basis points versus the prior-year quarter. Adjusted earnings per share improved by $0.16, mostly due to lower interest expense and favourability in other items below the operating income line.

Debt repayments and refinancing actions over the last 12 months reduced net debt by $47 million. Turning now to slide 6, adjusted EBITDA margins expanded 40 basis points. Lower volumes, primarily in EMEA, specifically the Middle East and lower earnings from WAVE were headwinds in the quarter.

Turning to our segments in further detail, on slide 7, I'll discuss our Americas segment. As a reminder, the Americas absorbed $16 million of stand-alone corporate costs this quarter. The basis of presentation that we will show and will discuss holds these costs constant in 2015 to facilitate comparability between periods.

On a comparable foreign exchange basis, North America segment sales grew by almost 4%, driven by our largest channel, U.S. commercial, partially offset by Latin America which was down double digits. Strong AUV acceleration drove the sales growth.

Architectural specialties in the Americas grew by almost 20% in the quarter as we continue to gain share in this fragmented space. As a reminder, Tectum falls into our AS product line and predominantly impacts the Americas, as the business is mostly domestic. Like Vic already mentioned, Tectum provides a unique, highly specified solution.

We're excited about the incremental growth opportunities that this acquisition will provide in the hands of our leading distribution partners along with an already very attractive financial profile, with 20%-plus EBITDA margins. More details around this transaction are available in the appendix on slide 14.

On a comparable cost basis, adjusted EBITDA increased 2%, driven by a solid AUV fall-through rate to profit of almost 60%. This clearly demonstrates good price realization. In fact, industry-leading from our August price increase.

We also continue to benefit from a sustained and ongoing mix-up trend towards the high end of the product range, as we delivered continued product enhancement and better service. We're earning our AUV acceleration through our focus on innovation and our strategic position to service the high end of the mineral fibre market.

Our large existing installed base and best-in-class distribution partners make this an earnings tailwind for years to come. Volume partly offset our AUV achievement, driven by challenging market conditions in Latin America.

SG&A expenses were up, driven by continued modest investment in our total solutions selling capabilities and I'm pleased to continue to see the top-line benefit from those modest SG&A investments.

Moving to our EMEA segment on slide 8, quarterly sales decreased over 7% on a comparable foreign exchange basis, driven by volumes softness in the UK and the Middle East. Russia volumes remained positive for the quarter, but not enough to offset these weaker end markets.

Slight margin expansion up 10 basis points led to an essentially flat adjusted EBITDA as productivity and cost control measures protected the bottom line, offsetting market softness. Weakness in two of our most profitable markets hurt our AUV achievement.

Lower energy costs, continued productivity gains in our Russia plant and SG&A cost control measures helped to offset. Moving to our Pacific Rim segment on slide 9, quarterly sales increased by 8.5% on a comparable foreign exchange basis, driven by strength in Australia and China.

Our AS product line contributed meaningfully, up double digits versus the prior-year quarter. Adjusted EBITDA improved by almost 20% to volume strength and lower energy costs compared to the prior-year period. Like-for-like pricing was also positive in the quarter.

Adjusted EBITDA margins expanded every quarter this year and improved 110 basis points in the fourth quarter to 13.4%. Full-year 2016 results start on slide 10. On a comparable foreign exchange basis, consolidated sales of $1.25 billion increased 2% over the prior year.

Our Americas business delivered their strongest sales growth since 2011, up 4.3% on the top line. The Pac Rim also contributed to our sales growth, while challenging market conditions led to softness in EMEA. Adjusted operating income and adjusted EBITDA both improved, driving over 100 basis points of margin expansion versus the prior year.

On an ongoing stand-alone basis, our 3 segments delivered $319 million of adjusted EBITDA, hitting the midpoint of our guidance range that we provided in March of last year. As we previously discussed, going forward, we will have three reportable segments from a P&L standpoint and will no longer have a corporate reportable segment.

Turning to slide 11, lower input costs in our WAVE joint venture drove the $19 million adjusted of EBITDA improvement. I'm pleased with our business's consistent ability to expand already top-tier building products' adjusted EBITDA margins over the years, with 2016 being no different.

WAVE had an impressive year, with constant currency global sales of almost $400 million, up 2.5%, driven by strong Americas volume acceleration versus the prior year. Full-year WAVE adjusted EBITDA totalled $176 million, up versus the prior year, generating industry-leading margins of over 44%.

And our WAVE equity earnings were up $7 million or 11% versus prior year. Flipping now to slide 12, I'll cover our 2017 guidance. As a reminder, we're - we provide guidance on a constant currency basis using 2017 budgeted FX rates. This guidance does include the impact of Tectum.

We expect sales to be between $1.29 billion to $1.32 billion, equating to a 5% to 7% growth over 2016. We expect this growth to be supported by low-to mid-single-digit volume growth in the Americas, with international volumes improving as markets like the Middle East and China recover off a lower base.

We expect the majority of this volume growth will continue from high-end specialty ceiling share gains in AS and the impact of Tectum which adds 2 points of growth on a consolidated basis. As I mentioned earlier, we will continue to benefit from a sustained and ongoing mix-up trend towards high-end products.

This trend, combined with our continued ability to drive positive like-for-like pricing, should support low-single-digit growth in AUV globally. We expect adjusted EBITDA to range from $350 million to $360 million, representing a 10% to 14% growth rate over 2016.

Our 2016 base excludes the unallocated corporate segment costs of $4 million, along with FX headwinds of $2 million. We feel it's prudent to guide from this higher base that truly reflects the ongoing nature of our business.

I also want to acknowledge that although adjusted EBITDA will grow globally, we do have some puts and takes at the segment level related to a sourcing strategy change, given the idling of our China plant.

Overall, this strategy will be accretive to earnings, but at the Pac Rim segment level, it will show a much smaller adjusted EBITDA number going forward. We expect full-year adjusted EBITDA to be slightly negative to slightly positive for the Pac Rim. And the corresponding benefits will be split evenly between the Americas and the EMEA segments.

Globally, we expect 3 points to 4 points of earnings growth to come from cost overinflation. We also expect SG&A to increase year over year, largely due to the acquisition of Tectum and additional modest investments in total solution selling capabilities which are already driving the top-line growth.

SG&A as a percentage of sales will remain flat year over year. EPS guidance will be in the $2.60 to $2.70 range which shows a 12% to 16% growth rate off of our $2.32 base in 2016. We expect interest expense to be around $35 million.

I'm pleased to announce that we have just repriced our $249 million term loan B to lower our interest rate spread by 50 basis points. We expect annual savings of $1 million to hit the interest rate line from this repricing. Moody's also recently upgraded our outlook from stable to positive.

You'll note our expected average diluted share count of 56 million shares is consistent with the diluted share count we reported at the end of the year. As of the end of the year, we had $106 million remaining under our share repurchase authorization.

And given our share price early in 2017, we've been actively buying in the market, repurchasing just over 600,000 shares this year to date. Repurchase activity so far this year and for the remainder of 2017 should drive upside to our earnings-per-share guidance. We expect a similar cash tax rate of 30% to 35% for 2017.

The guidance we presented presumes there will be no changes to corporate tax reform. However, this is clearly a focus of the new administration in Washington. If we were to see a reduction in the corporate tax rate to 20%, we anticipate we would see a $30 million to $35 million cash and expense benefit increasing EPS by $0.80 to $0.85.

We expect our free cash flow generation to improve meaningfully in 2017, as we no longer have cash payments related to the separation. We expect free cash flow will range from $130 million to $145 million, representing an 18% growth at the midpoint.

CapEx spend will be around $100 million as we invest in the Americas to enhance and expand our capabilities at the high end of the product range which, as Vic mentioned, is the fastest-growing part of the market. Lastly I wanted to update everyone on the funded status of our U.S. pension plan.

As of 12/31/16, we're fully funded and do not anticipate making significant cash contributions into the plan in the near to medium term. As a reminder, our adjusted results will continue to exclude the non-cash impact of our U.S. pension plan.

But on an as-reported basis, we expect a year-over-year favourable earnings swing of approximately $30 million to $35 million in 2017 as our U.S. pension moves from a $13 million of expense in 2016 to a credit of approximately $20 million to $25 million in 2017. To close, I'll echo Vic's remarks around the excitement here at the new AWI.

I'm happy with the progress made this year on our strategic imperative. These initiatives clearly demonstrate our focus on enhancing shareholder value and we're well positioned to accelerate growth and free cash flow generation into 2017 and beyond. We look forward to building on the progress we made this year and delivering on our 2017 guidance.

Encouragingly, activity so far this year has been strong as expected, with the Americas seeing mid-single-digit sales growth, consistent with our guidance. And EMEA up nicely as we're wrapping a strong year-ago period. With that, I'll turn it back to Vic..

Thanks, Brian. In closing, I'd like to share how we see our end markets as we head into 2017. In North America, we expect 2017 to be another year of improvement in commercial construction markets as momentum from 2016 activity carries forward. We expect U.S.

commercial construction markets to show solid participation from both new construction and R&R activity which should support low-to mid-single-digit volume growth. As a reminder, the ceilings industry typically lags new construction starts by 18 to 30 months before installation is completed.

Now, we also had a very strong first-half 2016 in the Americas that may make volume comparisons challenging until later in the year. Improving global oil prices are expected to support volume growth in our international markets over the medium term as we expect activity to improve in the key markets like Russia, the Middle East and China.

Now, internationally, we will continue to focus on delivering margin expansion through our actions to improve our cost structure in those markets. We made solid progress in 2016, but we recognize there is more to do here and we will continue to stay focused on driving to double-digit returns in those markets.

Overall, we expect to grow faster than the ceilings market. To accomplish this, I've outlined four strategic growth pillars for 2017 and beyond. The first is organic growth from our reportable segments, as market conditions continue to improve.

We experienced improved conditions in the Americas last year and expect 2017 to be a slightly stronger year for our commercial segments. Number two, sustaining and accelerating our AUV improvement. We at Armstrong drive AUV achievement through innovation and providing new product enhancements with market-leading features and attributes.

These new products drive AUV through both better mix and better like-for-like pricing. Now, as we've highlighted in the past, we've pivoted our CapEx spending back to North America and we're well into a multiyear program to enhance our manufacturing facilities to make these high-end mineral fibre products.

Our Total Acoustics and Sustain lines are the most recent examples and are in the fastest-growing part of the mineral fibre market, with volumes up just shy of double digits in 2016.

We will also continue to drive pricing to cover inflation which you saw reflected in our results in the back half of 2016 as inflation picked up and our AUV achievement accelerated.

Third pillar is our architectural specialties product line as it continues to be a meaningful contributor to growth and as we gain momentum with our superior design and product capabilities. We enjoyed strong double-digit growth again in 2016 in this architectural specialties category.

And we were able to enhance our participation in this space and drive share gains in what is a fragmented space. And finally, our fourth pillar, we're going to continue to evaluate inorganic growth opportunities to accelerate our penetration in this architectural specialties category, similar to the Tectum acquisition.

We've made great early progress in integrating the Tectum products with our distribution partners. In 2016, I want everybody to know we added a business development resource that's dedicated to evaluating opportunities very similar to the Tectum acquisition.

So in close, you can see we're very clearly focused on growth and we're excited about where we're post-separation from our flooring business. And we're really excited about the year ahead. With that, we'll be happy to take your questions..

[Operator Instructions]. Our first question comes from Keith Hughes with SunTrust. Your line is now open..

In the guidance, you have 3% to 7% North American volume growth.

Did that include Tectum in that calculation?.

Keith, it does. It's roughly worth - for the overall global business, it's 2% on sales. And the volume is also included in that North America guidance..

Okay. And so if we look at the volume in the market this year, it was strong early in the year and kind of tailed off in the second half.

I guess what has been the pace that you've seen so far in terms of volume growth in the first quarter? And what is the year going to look like, in your view?.

Keith, this is Vic. Let me take that. Last year was a little bit of an anomaly in terms of the sequencing of volume.

In fact, we had a stronger first half last year in volume, very strong first quarter and particularly strong second quarter with the air pocket we talked about in the third quarter and then a return to the solid growth in the fourth quarter. So it was a little bit of an unusual quarter-to quarter pattern last year.

And so as I outlooked in my comments, I think the first half we could have some tough quarter-over quarter comparison. But what I see so far in January and February, we're seeing the markets that we expected which is robust activity, carrying over from the fourth quarter into the first quarter. So we like what we see.

And again, it is supports the guidance that we've outlined here..

So are you seeing volume growth? I mean, you are up at like a 6% comp in the first quarter.

Are you coming in above that?.

We're actually right at our expectation for the first quarter. That supports that guidance and it is positive volume..

And I guess in Europe at this point, as you look forward, do you think Russia would be strong enough to offset what's happening in Western Europe? Is that kind of part of the guidance or will we have the same kind of situation we had?.

Well, as we talked about in our guidance, it's a mixture of what we're seeing in Russia. We had a pretty strong second half in Russia. Again, we're coming off from pretty low lows, if you will, in Russia and the Middle East. And we liked what we saw in the Middle East in terms of project activity.

So we're not by any means saying hey, there's a big recovery in these markets. But we should and we're starting to see a bounce off the bottom in those markets that should add to a very stable rest of Europe..

Our next question comes from Samuel Eisner with Goldman Sachs. Your line is now open..

Just on the EBITDA walk, I think you guys called it out that raw material inputs and WAVE benefits aided this year by about I think 70% of your EBITDA growth.

So I want to better understand, if I kind of disaggregate your comments for pricing in excess of cost, can you maybe talk about what the cost profile is looking into next year? And if you can talk specifically to what is embedded in terms of WAVE as well as raw material inputs?.

Sure, Sam. This is Brian. On the input cost side, I think much like most folks are seeing, inflation has picked up in the later part of 2016 and we expect that to continue through most of 2017. We've provided some guidance there somewhere in the range of 1.5% to 2%.

So we expect our AUV and specifically pricing to have a higher realization than we saw in 2016. So that's the input side. On WAVE, WAVE does mirror our U.S. - our mineral fibre ceiling tile business. But I also remind everyone that we've got some great growth initiatives there around component sales that will help drive higher growth in that business..

And I'll just add to that, if I could, real quick. The steel prices have definitely risen and our teams have been out with a price increase effective February 1. And I will say I like what we see in terms of the realization.

I think the inflation is visible for a lot of the market, so the early signs on the realization of the price are really very encouraging. And again, this business has a history of staying in front of inflation, whatever that inflation is, with our pricing so that we continue to expand margins over inflation..

And the actual down, you know, performance in WAVE in the quarter of about $400,000, $500,000, is that just a timing mechanism then?.

Yes, it's very much a timing. Again, as you know, as steel comes in, it takes a while for it to move through our system and linking that timing up with the price realization that we get in the marketplace. So quarter to quarter, you can see a little bit of noise that way.

But on the year, what you can count on is that we stay ahead of inflation with our pricing so that we continue to expand margins..

And maybe just moving over to Pac Rim, you mentioned that China was part of the growth story this quarter. And yet it seems like you guys are idling a facility and per your K, I think you are taking out 190 workers in the first quarter of 2017. So can you maybe just help me understand - you mentioned supply chain changes that are happening.

But demand accelerated, it sounds like and you are idling facilities. So maybe help me kind of bridge what I'm missing there. Thanks..

Again, I think the context here is we're bouncing off some pretty low lows in our Asia operation, our China in particular which has been down 2.5 years now. So again, the rebound is not back to full recovery where we needed both plants, so we have plenty of capacity in the system to support this move.

But we're just encouraged by the fact that we believe we've hit bottom in key markets like China. There's clearly a bounce off the bottom there. So our supply chain that's set up to serve that market which, by the way, we did have supply chain sources from Americas already supporting the Asia business even though we had the two plants.

So we're just moving more of it to both Europe and the Americas to offset the closure of that plant. But we're setup to really optimize our cost structure in that market until those markets fully recover..

Our next question comes from Stephen Kim with Evercore. Your line is now open..

I wanted to follow-up on the Americas business.

I think as we think about the LatAm portion of the Americas, can you give us a sense for what the profitability of that looks like relative to the U.S.?.

Stephen, we don't break out country-by-country profitability. But certainly, you know that the most profitable business maybe in the world is this U.S. commercial business. So it's not at that level of profitability. It's good profit, good profitability, but it's certainly less than where we're with our U.S. business..

Okay. That's helpful. And then I was curious as to what kind of oil price trajectory you are assuming into the guide in the Middle East on the EMEA.

And if any kind of maybe qualitative outlook for the impact of Brexit?.

You want to take that?.

On the oil price side, we're seeing an increase and we're projecting and included in our guidance a slight increase there. So while that may impact some of the inflation we're going to see in our raw materials, it also gives some stability to markets like the Middle East and even Russia to allow them to bounce back.

And then do you want to comment on the other piece? So the UK, on the Brexit side, we're - I would say it's still choppy there. We're seeing certain projects get pushed out. We're seeing others accelerate. It was clearly a soft point for us in Q4. But as we look out at 2017, we don't see it getting much worse than what we saw.

If anything, picked back up slightly..

I would just add in the UK, Stephen, that the - again, that's one of the biggest profit pools in Europe is that UK business where we have a very high share position. We have pretty good visibility, similar to our U.S., on large project business.

And the only real impact that we saw from Brexit in 2016 were some of the larger projects that were on the drawing boards, they were put on hold. Any of the key projects that had already started in the process, either in preconstruction or in construction phase, continued on.

So it was a little bit of a mix and a little bit of hold under the uncertainty of what was going to happen with Brexit. So I would say it's very stable, actually, is how I view that market, although slightly down from 2015..

And longer term, the EMEA and Pam Rim businesses, can you remind us like sort of what you believe the inherent margin opportunity is for those two segments?.

Well, we've stated that to get to the double-digit returns in those markets that we need to be in the neighbourhood of 12% to 15% EBITDA range. So that's kind of the minimum threshold that we're targeting..

Perfect, that's very helpful. And then lastly I had, in the Americas, as you look at the sort of, call it 2 to - it seems like 2% to 3% price mix, AUV and volume is sort of what you achieved in 2016. And you had talked optimistically about 2017. You are seeing a pickup, maybe some slight acceleration there.

Where do you see the greater upside? From more on the AUV side? Which would - it sounds like it's driven a little bit more by sort of self-help initiatives and sort of things that you are working on as a company.

Or do you think it's more on the volume side which would be, I would say, maybe more market-oriented in nature?.

I think it's balanced in terms of all of those components. The AUV has been something that we've been doing for a number of years, as we talked about. So we kind of see that continuing. We've always talked about that as inflation picks up, then our AUV performance also goes up because the like-for-like pricing needs to cover additional inflation.

So that - those activities and that work is still underway and we think it's going to be a big contributor as we go forward. You know, the mystery piece has been the volume. So I think the volume contribution very similar to what we saw in 2016 will continue to contribute in 2017. So it's a real balance of those individual components..

Our next question comes from Jason Marcus with JPMorgan. Your line is now open..

First question is on the Americas margin. Just want to make sure I fully understand some of the moving parts there. So you saw a slight decline in margin I think on a modest improvement in sales. And I think that was mostly really driven by some additional SG&A investments that you talked about.

So just wanted to get a sense of as we progress into 2017 how we should think about those additional SG&A investments, if they should continue and how you would expect that to impact margins just from a quarterly perspective..

Sure, Jason. This is Brian. So as you look at that page 7, SG&A was up roughly $2 million year on year. About half of that is the investment we referenced on our total solution capabilities that's been a consistent investment over this past year and it will continue next year. So roughly half of that.

The other half of that was related to one-time charges associated with some officer life insurance. As the investments supporting that life insurance moved with interest rates, we saw a headwind in the fourth quarter of roughly $1 million..

Okay, great. And then just moving to architectural specialties, you called out really strong growth in the Americas there. Wanted to get a sense as to how that business performed in some of your other regions. And then in terms of Tectum, it looks like the EBITDA margin on that business is lower than the corporate average.

Just wanted to get a sense of what time frame you would expect it to get up to the corporate average..

Architectural specialty business really did well globally. In all regions, we had nice growth. In particular, in Asia we had very strong growth. Those businesses are smaller, so the percentages are larger.

But the progress that we're making in that business around the capabilities and the platform that's required to be successful in those particular product categories is extremely encouraging. We're getting terrific traction and getting involved in projects earlier in the design cycle.

We're getting called into these very complex projects because of this capability. And again, that's happening on a global basis which we have a very global approach to how we're going to market with architectural specialties. So I'm encouraged by what I'm seeing in all the regions.

And we're going to continue to push forward with having the broadest portfolio and the broadest portfolio of solutions to offer architects and contractors..

Okay.

And then on Tectum, just the EBITDA margins there and what time frame you would expect those to get to the corporate average?.

Yes, they are slightly lower than the Americas, as you've noted. But again, as we integrate that business and I'm excited to integrate that business into our ability to gain specifications. Think about this business for a second. The products that Tectum sells go into places like gymnasiums, auditoriums, so high-abuse areas, swimming pool areas.

These are all in the education sector which where they are very strong. Armstrong is one of the leading specified products in K-12 education commercial buildings. So we have another platform of products to talk to these same architects about and to gain specifications.

So as we get this integrated into our specification wheelhouse, I'm very excited about how we can drive more specifications around this platform. And then all of our distributors want to carry this product and a lot of our distributors already carry this product.

So to provide the service level that the best-in-class distribution partners that we have in the market, I've got to believe there's a lot of upside opportunity here which is one of the reasons why we made the acquisition. So I believe you're going to start to see that in the near term.

And over time, you will continue to see those margins migrate toward our Americas average..

Our next question comes from Garik Shmois with Longbow Research. Your line is now open..

I'm just wondering if you could provide a little more color on just the cadence of volume growth in the U.S. or the Americas. And from the third quarter to the fourth quarter, you mentioned the air pocket that occurred in Q3.

What's changed that drove the acceleration in 4Q that's continued in Q1? Is it regional? Or is it certain verticals started to perk up? Just some added color will be great..

It wasn't regional. It was actually the slowdown that we saw, this air pocket that we experienced in the third quarter which I think a lot of building products companies experienced. Whether it was related to the election or not, who knows? But what we saw in the fourth quarter was equally broad-based.

All the regions responded back off of those third quarter lulls. It was broad-based against education, office and healthcare. So it was similar to what we saw in the first half in the fourth quarter.

And it's why it gives us some confidence as we look into 2017 and look at our markets how education should continue to accelerate and the healthcare should continue to accelerate. In the November elections, in particular in education, there were some very large education bond approvals in two very large markets, Texas and California in particular.

We also saw stronger starts in the primary schools, the K-12. So there's some good data out there and some good activity that gives us the confidence that this education should continue to - off the fourth quarter activity into 2017..

Okay, that's helpful. And then just secondly on the AUV guidance, 3% to 4% improvement above inflation for 2017.

Is this a function of the price increases you secured in the second half of 2016 and so far in Q1? Or does it assume additional pricing needs to be secured to cover inflation moving forward?.

We announced a price increase February - implemented a price increase in early February and both our grid business and our tile business. So price realization there is going to be - is what we're counting on to cover inflation..

Our next question comes from Scott Rednor with Zelman. Your line is now open..

I have a question within the guidance in construction. The past couple years, I think you've either disappointed on the revenue side or come on the low end it, yet you still hit the EBITDA guidance to what you guys are alluding to.

So if this year shapes up differently from a market perspective, can you maybe talk to what kind of flexibility you have in the cost structure to still hit the EBITDA guidance like you have the past couple years?.

Scott, this is Brian. I would say this, that between productivity and cost savings, we gave our spending to make sure we're seeing the market respond the way we think. And you've seen us run that play over the last two years in the ceilings segment, if you will. And we'll continue to do that. So we've got a nice increase in SG&A planned right now.

We've got stage gate, where we're going to make sure we see that market respond the way we think. And we'll continue to protect that bottom line and deliver against the commitment like we did this year. So a little bit more conservative, I'd say, on the top line, given the extra 2 points from Tectum versus where we've been historically.

And we believe we can - we're very confident we can deliver against that top-line growth..

And it really does speak - I'll just add to this. This is Vic. I think it really does speak to the operating rigor inside the organization that keeps an eye on cost and keeps an eye on the operations overall, making sure that we're executing to the plans that we have in front of us.

And it gives us the ability with this operating rhythm inside the organization to respond to different market conditions. So yes, to add onto Brian, I think there is a really good strong operating rhythm inside the organization that allows us to deliver..

And then if we look at architectural specialties, I think you guys have been throwing around globally plus or minus 20%. If that's in the volume bucket, it kind of implies it's all your volume growth.

So what kind of visibility do you have on that, those bigger projects going into 2017?.

Let me correct you. It's not all about volume growth. So I want you to rest assured that we had good broad-based product line growth across all the categories. Architectural specialties is becoming a more meaningful contributor to the growth, no question about it. In fact, we want it to continue to become more and more of a contributor.

So I think that's something that we're going to continue to feather in resources to support both on the design side and on the commercial capacity side to enable us to continue that top-line growth. And again, this is a very fragmented space, so the market is not growing at these rates, obviously.

We're a larger and larger participant in these spaces and we're winning a higher level of share in these spaces..

Scott, this is Brian. One thing I would add, because it's a question Sam asked earlier, just to be clear. In our international markets, specifically in Asia PAC, in the Pac Rim, we idled one of our mineral fibre plants. We saw nice growth in the Pac Rim and in Europe around AS.

And so we've got a metal plant, as a reminder to everybody, in China that is running full out to support that growth in AS there in that region..

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

Thanks for taking my call. The first question is on the consolidated business, it looks like at the midpoint of the range that that would suggest incremental margins of above, call it, 55% or so which would seem to imply that North America would be well above the 60% that you guys kind of talk about as a target.

Maybe could you just help us dimension what are the big drivers there and perhaps what you see as the biggest risks to that outlook?.

John, this is Brian. So you pretty much got right there. We're basically looking at the incremental - and we've said historically the variable incremental margin in our Americas business is right around 60%. You blend that average with some of the growth we're going to see from Middle East bouncing back and China.

Middle East tends to have very good margins also. Then you pick up another couple million dollars in equity earnings from WAVE. So you get right there to right around that midpoint of the EBITDA guidance..

Okay. Okay. And then the constant currency revenue guidance that you guys provided.

What are the exchange rates that you are using? Are you using end of the quarter or are you using average rates for 2016?.

No, we look at a forward curve and set a budget rate for 2017. So it's a budgeted rate. And then what we've said at the bottom of that guidance page is roughly 1% to 3% headwinds on FX for the year in 2017..

Okay, got it. And then just one point of clarification. In Pac Rim, I think you guys said was going to have flat to down EBITDA from idling a plant. I want to make sure I heard that right. And then did you outline the cost of idling the plant? Thank you..

Yes.

So essentially, in order to comply with tax regulations in both the manufacturing location which is, in this case, the sourcing is going to come both from Europe and from the Americas and to then also meet the tax requirements in the shipping and distribution country, we establish an ICTP rate that moves some of that profitability out of the Pac Rim region back into Americas and to Europe.

And we've basically said it's 50-50 on that guidance. So each of those two regions will pick up profit from the Pac Rim that we saw in 2016..

Our next question comes from Bob Wetenhall with RBC Capital. Your line is now open..

Vic, just wanted to ask, are you saying, based on what you guys disclosed last year, first quarter was a 4.7% volume growth, second quarter was 5%.

And so should we just be thinking based on year-to-date trends and what you are seeing in the market that you will comp positive in the first half of the year in both quarters? My other question is, is there any kind of contractual stuff you guys have in backlog that would support this?.

So on the first part, Bob, we're not giving quarterly guidance, really. So what I can tell you, though - again, as you stated, we had pretty strong volume growth in the first half last year. So the comps quarter to quarter could be challenging. But in total, we expect to deliver the full-year volume growth that we guided to.

Again, what I see in January and February is very encouraging. We're not through March yet, so again, we're not giving that level of guidance. But it's encouraging from what I've seen and it supports the guidance that we're supporting on an annual basis.

And you know what? We have a pretty good visibility on the project side and in fact increasingly so, as we get better and better at tracking these large projects, both renovation and new construction.

And of course, in the distribution channel, as you know, the R&R activity is more difficult to track and that becomes much more on a month-to-month basis with our distribution partners.

So I think we have the activity visibility in the channel with regards to projects, permits, preconstruction activity and in the construction activity that, again, gives us the confidence on this guidance overall for the year..

It's the nice big guide is the other thing, just taking off your third quarter comments, kind of pretty big air pocket in demand in 3Q.

Is it in your view, then, that this is like much more of a normalized level of operating margin performance going forward? And that 2016, just because of this kind of like bad quarter, you under-earned? And then 2017, you know, if you get back to kind of like the midpoint of your range, you are talking a lot of margin expansion.

Is the real point here from your perspective that this was - 2016 was an off year relative to expectations? And then 2017 is more consistent with more consistent with what you view as the earnings power of the Company?.

I think it's a good question, Bob. I think there was a lot of moving parts in both the marketplace and at the RemainCo after separation. So a lot going on in the year, but I think the markets are gaining momentum into 2017 and I think that's going to also help. And I think the growth initiatives that I've outlined are contributing.

You know, we didn't get full contribution from all of these growth initiatives in 2016, as we were really beginning to focus on that prior to separation. So I think realizing some of those results from these growth initiatives is going to also contribute to the margin expansion that we're outlooking in 2017..

If you had to wrap that up, would you say the risk to the guide this year is that the market demand doesn't move through as you anticipate or that price commodity is not as beneficial as you are expecting?.

No. I think, as always in this business, the market risk is the biggest risk. Our ability to execute on pricing, both AUV, like-for-like and our mix-up, has been very consistent, even through the downturn. And our ability to drive productivity in our plants.

I think we're very consistent and we've demonstrated capability in all parts of the cycle to drive margin expansion. The market risk is always the one that's the biggest - at least in the last five or six years..

That's helpful. Just final question, then I'll pass it on. Really good outlook for free cash flow. Buybacks, what's your objective? Thanks and good luck..

Thank you, Bob. You know, let me take that and Brian, you can add - do you want to take it first? Or you can add some more color here.

Let me just say, I think what we've outlined as our priorities for our cash is number one is we're pivoting some incremental CapEx back to North American market, where we have the highest margins and we make the best returns.

And it's in support of growing at the high end of the market that supports this AUV improvement that we're consistently delivering. So that's priority number one. Priority number two are these kind of these tuck-in bolt-on type acquisitions like Tectum that broaden our product capabilities to serve this architectural specialties space.

And we're going to continue to look for additional Tectum opportunities. And then third is returning cash to shareholders in a very balanced way. And our first step in that balanced approach was a share repurchase program of $150 million.

So we're going to continue to operate that way, look for additional elements to balance out that cash returned to shareholders, but that's how we're thinking about the deployment of our cash. And Brian, I welcome you to add anything to that..

No, I think you said it well..

Our next question comes from Will Randow with Citi. Your line is now open..

Thanks for taking my questions. I guess you guys mentioned or discussed again Russia growth.

Can you give us a sense of where you may be on capacity utilization in Russia? As well as are EBITDA margins now near comparable to the EMEA segment or materially worse? And then what are you kind of baking in for 2017 in terms of growth in EBITDA there?.

I'll let you take the second half of that. On the market in Russia, again, we're coming off a pretty low base in 2015. 2016 first half was very challenging. As the ruble stabilized, as oil reached the high $40s, low $50s, the government released some investment spending which that market is driven by. So we saw a stronger second half there.

And for the whole year, we were actually positive in Russia because of the strong second half. We're expecting to see what we saw in the whole year to repeat itself with a slight improvement in 2017. So an improving condition overall based on the first-half/second-half split in Russia.

So, Brian, on the other part?.

On the margin piece, well, we obviously mentioned earlier, we don't go down to the country level. You know, the EBITDA margins there are improving year over year, I can say. And in 2016, it was slightly cash negative and it's going to improve in 2017..

Thanks for that. And as a follow-up, as you look at your capital structure going into 2017, I assume acquisitions are number one.

But are you guys thinking about a constant dividend? Or are buybacks going to be the main instrument of returns to shareholders?.

I think it's a great question on the capital priorities. First of all, just to remind everyone that we're spending $100 million of CapEx mostly in the United States - mostly in the Americas business, as Vic mentioned earlier, to support the high end of the market and growth there.

The second priority would then be some of these tuck-in acquisitions like we saw with Tectum that we see as highly incremental to our business. And then third, a balanced return of cash to shareholders. Currently, we've got the $150 million share repurchase in place.

So we're spending against that share repurchase and we'll continue to do so at this time..

Our next question comes from Kathryn Thompson with Thompson Research. Your line is now open..

This is Wenjun filling in for Kathryn.

For the Latin America business, could you give more color on current trends and realistic assessment what to expect, given current orders you are seeing?.

Let me just common on Latin America briefly. Brazil and Mexico are the biggest drivers of the Latin American market for us. And both are pretty in pretty difficult situations. So we're not expecting a big recovery in those markets in 2017, but we're expecting them to be stable versus the 2016 numbers. Hopefully that's helpful..

Our next question comes from Nishu Sood with Deutsche Bank. Your line is now open..

I was wondering if thinking about the North American commercial trend in 2016, you know, the kind of sub-market strength, obviously the public data indicate strength in the office market.

Just wondering in terms of your trends what you saw through the year? Does that reflect - does the public data reflect what you saw in your sales and where there was strength? And also how you're thinking about that mix of submarkets for commercial heading into 2017..

Very much so. As you stated, office was really the strongest part of the segments in 2016. And our outlook for 2017 is a continuation of this. One of the dynamics in the office is it's been primarily driven by the downtown city activity.

And what we're starting to see is vacancy rates in downtown areas tighten, we start to see more activity in the suburbs, this activity in the 1- to 3-story building activity. And so that outlook is encouraging and I think that would be good for the overall office segment.

I spoke earlier about some of the things that are driving our look on education and healthcare and so I won't repeat those. But there's some pretty good signs and signals out there and we saw it in our numbers some acceleration in both healthcare and education activity..

And the AUV, putting aside the like-for-like price increases, but the mix, I think it's pretty easy to see how the concentration of office construction that's been happening more downtown would've helped to contribute to the improving AUV.

I think it is a little bit tougher to see how the similar AUV trends and positive mix would've been happening across some of your other markets, let's say like education and healthcare.

So what I wanted to ask was how successful has the mix shift been across the relative submarkets? Have you been able to - do you see customers trading up to the more premium products at the same rate across the subsectors? And particularly, obviously, looking across education and healthcare versus office?.

It's a great question and the answer is yes. We see this in both the education and the healthcare segments as well as they go to this smooth white visual in the middle fibre line.

But I'll mention this, because I think this is very interesting in both the education and healthcare segments, the architectural specialty activity in those new buildings is really exciting.

There are a lot more architectural and specialty type ceilings being put in either in the lobbies or the auditoriums and certainly in the reception areas of these healthcare and nursing homes that we're seeing the increased activity in. So that's encouraging. So the mix-up is happening across the spectrum of segments.

And remember, there's over 37 billion square feet of installed mineral fibre ceilings in the U.S. alone and it's that older technology. So there's a long, long runway here to upgrade from that older fissuring look to the smooth white acoustical look that we're moving and the market is moving to. So lots of years to come in this mix-up in the industry..

You actually bring up an interesting point. Obviously, patch and match is not going to involve any mix-up. But the larger-scale remodeling activity - I guess you kind of answered it already, but it would sound like the same product and price mix-up, quality mix-up, is happening on the bigger repair and remodel jobs as well..

Absolutely. The answer is absolutely yes..

Our next question comes from Ken Zener with KeyBanc. Your line is now open..

Gentlemen, well done I think clearly presented this quarter. I wonder if you could talk to North American guidance of 1% to 5% organic. Obviously given a 3% midpoint consistent with 2016 and that makes, the swing, 200 bps, seems like a lot. Obviously, I think everyone is focusing on the midpoint.

But could you kind of talk about what would get you to that high end or the low end, given your confidence or what you are seeing as outlined by bonds in education? I think the good commentary on office space moving to suburbs, that's a logical connection there.

What could really cause such - to the high end or the low end of that midpoint a really big swing, though?.

I think there is probably two things, Ken. It's a fair question.

I think, obviously - the obvious answer is a stronger market, right? And you actually get more of these segments moving in the right direction which has really been our big issue in the past is you've had some of these segments moving into positive territory and some of these segments that have still been a negative territory offsetting.

So it's been a very normalizing effect that we've seen the last couple years. So I think to get to the upside is you'd get the majority of these markets or certainly all these markets moving into positive territory at the same time. That would be the way you would get to your upside.

And of course, if there's more inflation out there, then there will be more pricing to cover that inflation and that could also help drive it..

And then I guess just one element relative to last year. Obviously, the first half was difficult comps and I think you've kind of framed out that that would be just mathematically tougher. But in the third quarter, in addition to the air pocket, there was also this comment around retail that you guys had spoken to.

Are there any one-off headwind/tailwinds that you can see that might account for a couple points of swing similar to what happened in the third quarter? Thank you very much, gentlemen..

Brian?.

Yes, so we mentioned in Q3, obviously retail did some inventory correction. We didn't call it out as a big driver in Q4 because it did bounce back nicely. We didn't see that same inventory deload.

As we continue to work with that channel and the big-box stores to support the growth of contractors, really mostly on the commercial side through that channel, we're seeing a pickup there. So that's a little bit of a tailwind, I'd say, in 2017..

Our next question comes from Jim Barrett with CL King & Associates. Your line is now open..

Two quick questions, Vic, can you talk about how many - I mean, Tectum seems like a very nice strategic fit for you.

How many companies when you look worldwide - and I assume you're looking globally - are bolt-ons that would be similarly good strategic fits? Can we count them on one hand or are there several dozens? How should we look at it?.

Good question, Jim. I think - let me be clear about one thing is, our focus is on the North American market when we look at deploying cash and expanding our presence here. So North America is the focus here versus the global look. Number two, it's a very fragmented market. So there's - not to put a number on it, Jim, but there is more than a handful.

And it just comes down to which is the right strategic fit. What's the right capability that we believe Armstrong needs to own versus align itself with. So there's a lot that goes into it to narrow down the pipeline for the right ones for Armstrong. And again, we'll be selective and we'll be very disciplined in our approach.

But there's lots of opportunities and that's why we're excited about the space..

And Brian, given your current outlook for free cash flow, if you don't close on a number of bolt-ons over the next few years and you devote the spare cash to share repurchase, would we expect to see the share count start to shrink in a meaningful way?.

Jim, we've removed roughly 2% of our float already. We still have room to go on that total authorization. As you know, it goes through 2018, July. So we'll continue, depending on where that price plays out, the share price, we'll continue to be buyers. So we'll keep an eye on that share price and continue to buy shares back..

I'm showing no further questions. I would now like to turn the call back over to Vic Grizzle for any further remarks..

Yes, thank you. We really appreciate the questions. We went a little over time. We wanted to have a dialogue; we wanted to make sure we got all the questions answered. We're in a very exciting place I think right now, one year post-separation. And as you can tell, we're excited about our business.

We're excited about the growth prospects in our business and leveraging this strong market position to further grow from here is an exciting position to be in. So thank you all for your interest and we'll talk to you next quarter..

Ladies and gentlemen, thank you for participating in today's conference. You may all disconnect. Everyone have a great day..